Business Breakdowns
· Matt Reustle
[00:00:00] S0: I love the nuance. It's incredibly helpful and I think it's just such an interesting topic and subject. We can transition a bit into the insurance brokerage space itself and I'm sure we'll mix in some of the other categories within insurance to cushion out the conversation. I love talking to guests who have extended tenures in certain industries or subsectors. Can you share just a bit about your history with the space? And to some extent, what has changed versus what has not changed over the years as you've looked at the insurance brokerage space?
· Aaron Cohen
[00:00:00] S1: So I've been investing in the space for a little over 20 years. It's an interesting question: what has changed and what has not changed? I'd say the core fundamentals of the industries have not changed. What is that? I'd say most importantly, it's an industry that is less cyclical than most. This is an industry where, regardless of what's going on in the economy, you need to have insurance, you need to have your employees covered, you need to have your property covered, and you need to make sure you have the appropriate insurance. So it's less cyclical than most industries. Second, it's an asset-light business model. Third, the cash flow characteristics are fantastic in this industry. You have EBITDA and there's not much else below that for cash conversion. When you think about the cash flow characteristics after EBITDA, CapEx, it's not a capital-intensive business. We used to joke that when your CEO broke his iPad, that was the capital you spent. Now, of course, with time, a lot of these companies are investing in data warehouses and technology to help drive more efficiencies. But it's still relatively capital-light. And then second on the cash flow side of the business, since it is an acquisitive industry, you get tremendous tax benefits by acquiring these tuck-in acquisitions that give you a tax shield. So cash flow characteristics in this industry are fantastic. Then I'd say, which we'll talk to, is the M&A. This is a highly, highly fragmented industry. And for GTCR, when we think about tuck-in acquisitions, you have a great management team, you have a great platform, you invest in the infrastructure and the technology, and then M&A just becomes an additional leg of growth and value creation for the story. And with M&A, when we have the centralized oversight and infrastructure and people to support our tuck-in acquisitions, it gives them the opportunity to clear off their plates. Where when you do a small acquisition, that management team might be doing payroll, investing in their technology, and selling insurance. We take all that off their plate so their producers can do one thing, which is sell new insurance. So this industry has evolved in a couple of ways, but those things have stayed the same.
· Aaron Cohen
I'd say what's unique in this industry or what's changed over the last 20 years is what I mentioned is their ability to embrace technology and data. Now that being said, there's still a long way to do that. I think this industry is still behind many others. And second, what's changed is these brokers have become bigger and they've been able to have more influence over their insurance carrier partners. So what does that mean? That means that you could drive better commission rates, you could drive better contingent commissions based on volume levels. It's allowing the broker to have a real seat at the table where not too long ago, in the mid-80s—maybe that's a long time ago now, maybe the mid-90s—insurance brokers were small, but back then they didn't have the ability to influence their financial situation. Now they do. Because if you think of an insurance broker and they're putting billions of dollars of premiums with a certain carrier, they are really reliant—they being the carrier—on the broker and their ability to bring them business, which should drive more value to the broker. And I'd say just generally speaking, another reason why insurance brokerage is so fantastic is because we believe in financial services, the person who owns the customer relationship should be able to drive more value out of the entire ecosystem. And brokerage is a perfect example of how that's evolved over the last 20 years.
· Matt Reustle
[00:00:00] S0: To that point. On the carrier-broker relationship, you could in theory have carriers underwriting, talking to customers themselves. I think you certainly do still have that direct selling out there. But has there been a material change just in the percentage of the market that's represented by brokers over time? Has that been a share gainer or a tailwind for the market?
· Aaron Cohen
[00:00:00] S1: So you have to split up the industry: personal lines and commercial lines. Of course we all are familiar with the very successful direct-to-consumer personal lines of GEICO and Progressive. They have taken market share away from brokers over the last 20 years. That being said, their market share growth has slowed recently. On the commercial side, you don't see—we call it consumer, but direct-to-the-business relationships from the carriers. And there's a lot of reasons for that. But most importantly it's because the insurance broker plays a very important role that some people don't appreciate. And that's an advisor. If you're a mid-sized business or a family business that has 20 trucks that does short-term deliveries around a certain geography, your entire family's net worth is tied up in that business. And the one thing that could bring that down is not having the right coverage, not having the right liability coverage if one of your drivers gets in an accident, not having the right coverage if one of your drivers is hurt, not having the right coverage if you ruin some of the product that's on your truck. So the CEOs and leaderships of these small and mid-sized businesses value the insurance broker's advice. They value their advice around deductibles, what insurance they need, what insurance they don't need. And I think another aspect of insurance brokerage that's evolving is specialization. Because a lot of industries are becoming more and more regulated and your insurance broker really needs to understand and follow the industry to be able to evolve your insurance and make sure you have the right protection. And that is something that has been driving the consolidation in this industry, especially for the last 10 years. And our investment at Assured Partners, this was definitely one of the drivers of the success is we had centers of excellence. So the traditional insurance broker—think of a small to mid-sized town—they're insuring everyone on Main Street, they're insuring the barbershop, they're insuring the plumber, they're insuring the person who owns a bunch of trucks to deliver on behalf of Amazon. And they're truly generalists. And now what has happened is they don't have the expertise to be able to change their advice based on small changes in a specific industry because they're just too busy.
· Aaron Cohen, Matt Reustle
So if you think about something at Assured Partners, we had long-term care facilities. That industry is driven by Medicare and the payers. And as you know how complex the health insurance industry and just health in general is in our country, you need someone who really understands the industry, understands if you're taking on Medicare patients, are there certain types of insurance that the government mandates you to have. And therefore the specialization in this industry is what's driving the acquisition flow as well. And when you look at that, you see a tremendous opportunity because what happens is retention goes up with your customers. And retention has always been fantastic in this industry. But the generalists have high 80s, low 90% retention. The specialists, they're in the mid to high 90s because they understand your business. [00:00:00] S0: And when you think about that specialization and how it would translate to the bigger businesses, maybe the acquirers of businesses. In your mind, is the ideal insurance brokerage one with several segments each with their specialists in those categories, or is it pure play where it's a business and while it might have scale, it's specialized in one specific line or insurance type?