There is no shortage of challenges present or overdue reforms absent in the insurance sector in Lebanon. The backlog of unsolved issues begins with the need to renew the insurance law that was adopted about the time the Chevrolet Camaro was a new automotive design. It has – albeit once facelifted in the 1990s – stayed in power since. Problems do not end there, of course, stretching to absent corporate governance and transparency in sector companies, to underperformance of insurers as institutional investors in the context of Lebanon’s largely dysfunctional capital markets. The legal framework lacks provisions for the proper supervision of mutual societies, for support of life insurance as savings instrument for the masses, and for regulation of distribution channels (such as bancassurance) that were innovative some 30 years ago. The industry faces a future that will be bubbling with new realities, new risks and new distribution channels, but it is still stuck in the past in terms of capital structures and requirements and corporate cultures in many organizations, and is crowded with inefficient actors.
The insufficiencies of the Lebanese insurance industry cannot be blamed on anyone in particular. As with so many other things in this country, they have resulted from conflicting historic trajectories where the ingenuity of local minds clashed with encrusted structures in politics and society. Even if it were possible to point an accusatory finger at one group of persons or institutions, it would do nothing to solve any problems. The question again coming to the fore is: can consolidation transform the insurance industry?
Observers and insiders of Lebanese insurance have, during the past 20 years, said time and again that the market has too many insurance companies and would benefit from cutting that number down by about half: from 50 to 60 existing insurers to 20 or 30 players. The latest idea, which has been discussed in insurance industry circles and by the regulator, the Insurance Control Commission, is to convince the central bank of Lebanon to provide soft loans as incentives for mergers and acquisitions.
Posing the question about the value of financial merger incentives to a number of industry members put the issue into perspective. No insurance manager told Executive that a push for mergers would be detrimental or that provision of soft loans would be anything but good. However, sector members pointed out a wide range of priorities and factors that would feature more prominently than financial incentives in any M&A. And while the recently finalized acquisition of Lebanese insurance company Al Ittihad al-Watani might stoke new interest in the consolidation topic, it hardly seems able to serve as a model for successful consolidation among local insurers.
Acquirer NASCO Holding initiated the negotiations for the takeover of Al Ittihad, but not under a rationale of promoting synergies between its Bankers Insurance and Al Ittihad in the Lebanese market. Instead, the move was driven by the potential that NASCO saw for boosting business in the United Arab Emirates, confirms Marc Abi Aad, manager for group corporate development at NASCO. “The acquisition of Al Ittihad al-Watani in Lebanon, which has a branch in the UAE, will enable us to consolidate NASCO’s existing book of business in the UAE at the level of this new vehicle. Instead of fronting it with two third parties, [we can] now capture the whole profitability of the portfolio by underwriting profits in the UAE instead of earning commissions on these premiums. That is one of the main motivations and [an important] driver behind the acquisition,” he tells Executive (see story).
The case of a Lebanese insurer that is attractive for a takeover in the context of an international player’s regional strategy because of its operations outside of Lebanon has been something of a standard scenario in recent years. The existence of licensed branches in GCC countries is presumed to have been the main driver behind the less-than-perfect acquisition of Compagnie Libanaise D’Assurances (CLA) by Zurich Insurance in 2010, which spawned a court confrontation between acquirer and acquiree. Zurich Middle East, according to the annual report of Lebanon’s ICC for 2015, had only a minuscule share of premiums in the local market and did not seem to have an active presence in Beirut. Regional strategy and the aim to leverage a Lebanese insurer human capital for expansion in the Gulf region was also an element in the acquisition of 81 percent of Bank Audi’s LIA Insurance by Casablanca-based Saham Finances in 2012, as the Moroccan company’s CEO told Executive at the time.
Money and financial incentivization are not the top considerations when thinking about M&A possibilities
Even if crowned with success, opportunities to push regional expansion by way of aquiring a Lebanese insurer’s acquisition are rare, and cannot define a pattern for consolidation among local companies in Lebanon’s insurance sector. It may thus be more fruitful to gauge acquisition opportunities on the basis of best practices in corporate behavior as experienced by decision makers who have undergone the exercise in the financial industries of emerging markets. For example, in the experience of regional insurance holding Chedid Capital, which in only the past three years has facilitated the creation of an African insurance joint venture and the acquisition of two broking units (one in Mauritius and one in the UAE), money and financial incentivization is not the top consideration when thinking about M&A possibilities and looking at an acquisition candidate.
Money does not come first
“First and foremost, as rule one, we look at ethics and integrity of owners and managers in the company. Rule number two is that we look at the potential to grow not only its business but also to enhance its systems, processes and corporate governance. We want to make sure that the company will adhere to our level of corporate governance and risk management, and to our standard of internal controls and ethics,” says Farid Chedid, the chairman of Chedid Capital and general manager of multi-country reinsurance brokerage Chedid Re.
When it comes to the acquisition process, money is not Chedid’s first concern. His priority is to have a well-structured framework of detailed merger rules. These should then be accompanied by incentives, he adds, saying, “Soft loans are one aspect. What is required is a clear set of rules to protect both the buyer and the seller during an M&A. Once they are protected by rules, you also need to give incentives. Any M&A has constraints, one of these could be financial. There needs to be a set of rules with duties and obligations for each party [to a merger] and incentives that will push investors to buy or existing shareholders to sell.”
For Chedid, the specificities of the insurance industry in terms of reserves, provisions and regulatory capital requirements warrant special care when it comes to a merger or acquisition. Buying an insurance firm is not like buying any other company, where gaining an understanding of its assets would be the main task. “Assets are easy to figure out in an insurer but reserves are difficult. The difficulty is to assess the reserves and their quality, to see if all data is in the system or if some has been withheld from a potential buyer. One of the worst situations would be that a buyer comes in and finds out later that they were misled or that information was withheld,” he explains.
Therefore, a new insurance law in Lebanon, if it gets adopted, needs to include rules on corporate governance and internal controls, he emphasizes. “Within the law’s rule on corporate governance there needs to be a section on change of control, how it has to be managed, e.g. can sellers sell and be free of [any further] obligation even if they have misled [the buyer in the transaction]? Can buyers withdraw even if they did not perform proper due diligence? Lacking clarity in such rules and subsequent court battles affect the reputation of the Lebanese insurance industry,” he warns, with an unspoken nod to the problems and court arguments which have followed opaque mergers in the recent past.
The problem with the Lebanese governance culture
Indeed, the trajectory of developments in the Lebanese insurance industry in recent years does not bode well for mergers and acquisitions, says Antoine Issa, the MENA CEO and chairman of Allianz SNA (the Lebanese unit of the German insurance multinational and leader by overall written gross premiums in the Lebanese insurance sector). In his view, the infrastructure for successful M&As in Lebanon, in terms of regulation and governance, is “probably the lowest in the Middle East today,” because many other countries in the region have developed stronger frameworks for governance in the past decade, with Saudi Arabia having led the advance. “So far we have not seen real mergers and acquisitions, but [only] changes of shareholding because small companies are reluctant to open their capital. This is a little strange. We [Lebanese] participated in the development of all these markets in the Middle East but today we are lagging behind in terms of governance, risk management and regulation, capital and solvency, etc.,” he tells Executive in an interview to be published online at a later date. To the question of how mergers and acquisitions in Lebanon could be encouraged most effectively, he responds that, in his view, this is very difficult because best governance structures result from the listing of companies, but the appetite for listing companies is lacking in Lebanon, even in the banking sector. “In a listed company, governance is creating transparency for the public and shareholders,” he explains. He advocates that all banks and all insurance companies in Lebanon should be listed and traded on the stock market, but that this cannot be achieved without first instituting a culture of capital markets and transparency in the public sector.
“Capital markets in Lebanon are very weak; we don’t have real capital markets and I think this is bad. We definitely need strong capital markets if we want to develop the economy. To grow a successful family business into an institution, you need capital markets that give access to funding other than having a loan. Unfortunately, we don’t have this culture in Lebanon and this cultural lack begins with the public sector. If the government does not have governance in its institutions and if we don’t promote governance in public institutions and then in private institutions, nothing will happen,” reasons Issa.
We [Lebanese] participated in the development of all these markets in the Middle East, but today, we are lagging behind
Need for risk-based capital requirements
It seems that the more one asks about M&A prospects in the Lebanese insurance industry, the more alerts to missing requirements one gets. Bernard Sfeir and Charbel Chaanine, heads of the finance and marketing departments at bank-affiliated Lebanese insurance company ADIR, chuckle mysteriously when telling Executive, “We know which insurance companies might be potential acquisitions for us in future.” The two managers confirm that ADIR – thought to be among the top10 in terms of consolidated premiums position in life and non-life in 2016 and the fifth most profitable insurer in Lebanon in 2015 by the bottom-line figures shown in the ICC’s annual report – would by its financial strength be able take its pick among any of 40 smaller insurers for an acquisition, but concede that the number of healthy and realistic takeover candidates would be much smaller.
In the perspective of ADIR’s head of finance Sfeir, an acquisition of a small insurer’s portfolio could be more interesting than an outright corporate takeover. “Why [would you agree to] have the headache of acquiring a whole company and go through the due diligence process and seek if there are any synergies between your company as a well-built organization and another organization that may be smaller or weaker?” he asks rhetorically. In his view, any of the top insurance companies in the Lebanese market would probably benefit more from acquiring a portfolio and could on its own solicit agents or brokers associated with the portfolio, without going through the trouble of assimilating another company with all its possibly hidden skeletons.
Acquisition of a portfolio would be contingent on its quality, its synergies with ADIR’s portfolio and on its acceptance by ADIR’s primary reinsurers, and also necessitate a due diligence process on the technical side as well as an assessment of human resources that might be taken over together with the portfolio, Sfeir adds. The central element in his list of merger incentives would, however, be an increase in minimum capital requirements for insurance companies, preferably in combination with a risk-based capital approach. He thinks Lebanon in this regard should learn from European experiences, for example, the long process of drafting and implementing the Solvency II regulation.
As he sees it, any generic, large hike of minimum capital requirements would promote consolidation but might disproportionately benefit large insurers and hurt small ones. It also would not be as fair and as effective as the implementation of a package emulating the Solvency II evaluation approach, entailing risk-based capital, market conduct, corporate governance and a host of detailed parameters. “A whole concept should be applied to encourage mergers and acquisitions, not only subsidized loans. [Offering] subsidized loans is a good step but only one step. Other steps would be to impose the law, update it when there is a possibility, and most importantly, adopt a risk-based capital approach,” Sfeir explains, elaborating further, “Basically, if [Lebanese regulators] want consolidation through M&A in insurance, they should start by imposing minimum capital requirements that are based on a minimum solvency capital requirement. If there is no risk-based approach, we will not get anywhere with just subsidized loans.”
Any generic large hike of minimum capital requirements would promote consolidation but might disproportionately benefit large insurers and hurt small ones
Under the ideologies of shareholder value and financial market efficiency, modern concepts of mergers and acquisitions – up to mega-mergers, hostile takeovers or leveraged buyouts – are about as far from the anti-trust and anti-merger concepts of the early 20th century’s as a Tesla Model S or Google’s autonomous Waymo car is from the American muscle cars of old. M&As nonetheless require great care to be able to restructure and redeploy assets and deliver competitive efficiency in an industry that is rife with contenders of varying quality while simultaneously preserving consumer choice in the face of the markets’ perennial gravitation toward economic concentration.
As Lebanon has no real track record of successful M&As in the insurance industry, it seems a valid point raised by some insurance managers such as Allianz SNA’s Issa that the soft infrastructure for such transactions, not only in terms of adequate legislation, but also in term of expert lawyers and investment banks with skill in insurance mergers, has yet to be massively improved. Then there is the need for functioning capital markets, corporate governance structures, and transparency of insurance company balance sheets as the foundation for building a consolidated industry that consists of healthy companies.
On top of all that, the sector’s consolidation may require egos to become more deeply grounded in reality and readiness to realize the benefits of being immersed in a crowd of capable minds. Insurance in Lebanon today does not appear to sport Napoleon or any other great leader – but that is all the better if one assumes that the task of taking the industry into growth and consolidation needs not bosses but serious group efforts and teamwork. Still, one should not hold their breath waiting to see a wave of successful consolidation moves in Lebanese insurance.