Briefing: What do PE firms look for when investing in brokers?

By Editor Katie Scott

Although the number of M&A deals in the UK broking sector has slowed in 2022 compared to last year, according to financial consultancy Imas, M&A backed by private equity (PE) firms looks set to continue – especially as Broker CEO Forum attendees believe that achieving organic growth is “the Achilles heel of the industry”.

Gathered at Winchester’s Lainston House on 13 October 2022, broker chief executives engaged with a panellist of experts to discuss M&A within the broking sector. A key topic point that arose early in the conversation was dissecting exactly what PE firms are looking for when they invest in UK brokers.

Broadly speaking, broking is considered to be a “healthy” and “investable” area for PE companies, noted one panellist, because broking businesses offer “resilience” and “stability” due to the fact that “by and large, there is no balance sheet exposure”.

In terms of cherry picking attractive broking firms to back, the panellist continued that PE organisations tend to focus on finding businesses that showcase three distinct elements.

To entice PE, brokers must demonstrate good integration of M&A targets, pair M&A growth with organic growth and maintain an organisational culture that displays “a very strong compliance culture, strong investment in systems, legal functions, risk functions, etc”.

The reason PE backers are so interested in M&A, however, is because “it’s difficult to drive organic growth” at broking firms and “acquire those customers organically”.

“That’s why M&A is such an important feature for any private equity trying to enter into this industry,” the panellist added.

A fellow commentator sitting on this panel agreed – he noted that “organic growth could be the Achilles heel of the industry”.

He continued: “In this climate, organic growth is pretty critical. We’ve got all the components, but we just haven’t been able to make it work effectively. Organic growth will be front and centre.”

Setting the M&A scene

Despite currently being a favoured toy of the PE sector, M&A between broking firms has not been immune to the UK’s macroeconomic climate of high inflation and interest rates – one panellist last week commented that M&A deals have decreased as uncertainty in the UK has increased and that PE investment into the sector is waning.

A key factor here has been the rate of consolidation – the pipeline of potential businesses to buy has shrunk as consolidation has become more commonplace, meaning that PE has perhaps looked more broadly at where to place its funds as prices for brokers remain high.

This could include, for example, wealth management businesses, as well as focusing on broking adjacencies in high net worth, personal lines, employee benefits, MGAs and Ireland or Europe-based businesses.

Broker CEO Forum attendees also predicted that broking’s largest firms – such as Marsh, Aon and Willis Towers Watson – could snap up the current consolidators that are buying up smaller broking businesses.

They also pinpointed the injection of more long-term investment capital coming into the market, with investors looking at 10-year time frames rather than the typical three to five-year window.

The new normal for M&A?

The panel additionally discussed M&A trends comparing 2021 to 2022. In the first three quarters of 2022, for example, broking M&A deals between £5m and £25m amounted to 23. The panel predicted that by the end of the year, this figure will still only be around half of the 61 deals in this price bracket that were recorded in 2021.

In part, this is down to PE firms moving their spend as market-wide consolidation narrows the pool of potential M&A targets, however the panel further noted that overseas buyers are rising up in PE’s place to spend money on brokers.

In particular, American firms are setting their cap at UK brokers, supported by the current strength of the dollar.

Despite the number of M&A deals being “significantly” down this year compared to 2021, one panellist emphasised that broking is a cash generative and resilience sector that can weather the peaks and troughs of troubled economies.

Another panellist, meanwhile, described last year’s M&A activity as “frothy” – he added that while the number of deals this year won’t be the same as in recent past years, values should become more normalised.

Although it seems that change is afoot when it comes to the underlying trends influencing M&A activity in the UK broking market, it equally appears that there is still appetite for investment in this sector.

Consolidation may not be as rife as it has been during the pandemic years, but it will be interesting to see which of the sector’s largest brokers will make the first move on the current key consolidator players.

Aon and Willis Towers Watson have already, unsuccessfully, attempted to dip their toes into these waters with their failed megamerger plans – but would they be more attracted by the likes of Global Risk Partners or PIB Group?