2. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 2 Drivers International M&A monograph Gaps on syllabi Lack of standardization Lack of communication between professions Promote actuaries outside industry – ERM – Non-Insurance M&A

3. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 3 Contributors Actuarial Disciplines – Health – Employee Benefits – Life – Property & Casualty Other Professions – Accounting – Investment Banking – Legal

4. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 4 Writing Process One meeting to discuss outline Two directed meetings to write and work on collaborative chapters – Matrix approach – Most chapters assigned multiple authors – Each chapter assigned a “Wrangler” – Each chapter assigned an editor to work with Wrangler

5. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 5 Content M&A Process Finance Valuation Due Diligence Corporate Due Diligence Tax Accounting Integration

7. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 7 Process Overview

8. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 8 Preparing to Sell Strategic and financial considerations Assembling the transaction team Types of sale processes Pre-marketing Marketing efforts – Documents – Process

9. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 9 Strategic / Financial Considerations Strategic – Horizontal vs. Vertical (Distribution) – Diversification – Eliminate competitor Financial – Growth (organic vs M&A); relative risk – Scale – Utilize excess capital (reinvest); returns

10. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 10 Auction Process - Overview Deal structuring considerations Due diligence (buy and sell side) Buy side evaluation Bidding process Negotiation The “Definitive Agreement” Closing the deal

11. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 11 M&A Financing Consideration (cash, stock or other) Financing providers / sources of funds – Equity – Debt – Mezzanine (Trups) – Other (Seller Notes etc.)

12. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 12 Valuation: Why Insurance Companies are Unique “Balance sheet-based profit opportunity” Long tail of insurance liabilities Uncertain liabilities (“Choosing COGS”) Statutory accounting and capital requirements Unique rules for distributable earnings to shareholders

13. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 13 Valuation: Market Multiples Why market value = intrinsic value Comparable company analysis – P/E and P/B – Embedded Value (life) Comparable transaction analysis – Change of control Discounted cashflows with terminal value – Greater Than / Less Than

14. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 14 Marketing on the Sell side Process & Strategy – Auction vs Negotiated Deal Objectives – Maximize shareholder value – Other considerations Buyers – Strategic buyers – Financial Buyers

15. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 15 Due Diligence: What you can expect When (setting the stage) Why (objectives of due diligence) Who (due diligence team) What (due diligence process) Actuarial Due Diligence

16. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 16 (Why) Objectives of Due Diligence Investigation and Evaluation – Confirm strategic value – Confirm financial value – Confirm operational value Implementation – Construct final bid – Prepare for successful integration

17. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 17 Getting to the Finish Line Definitive Agreement Regulatory Reviews – Form A – HSR Closing

19. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 19 Overview of Project Excellent Process to Develop Research Incorporated External Experts and Academics Peer Review A lot of Work….BUT an Enjoyable Experience Encourage more Joint Efforts with SOA

20. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 20 Role of the P&C Actuary: Seller’s Valuation Rarely Exist for P&C - Adjusting Market Multiples Key Model Parameters - Premium Volume, Loss Ratios Loss & LAE Reserves M&A vs. Actuarial Opinion Review Quantifying Material Risk Factors Valuation for PGAAP Accounting

21. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 21 Valuation – Life vs. P&C Life more of a Financial Acquisition P&C more Strategic in Nature Life Appraisal Drives Sales Price P&C Seller’s Appraisal Rarely Exists Life – Long-term Perspective P&C – Sometimes Short-term View More Important Same Valuation Methods - DCF, EVA

22. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 22 Valuation – P&C Resources Older Readings: Sturgis, Miccolis, Weiner, Whitehead, Witcraft Recent Papers: Blackburn, Danhel

23. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 23 Valuation – Components of Value Statutory Net Worth Embedded Value = SNW+ Value of In- force Business Actuarial Value = EV + Value of New Business Buyer’s Value = Actuarial Value + Strategic Value – Integration Costs

24. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 24 Valuation – Purchase Accounting (PGAAP) SFAS 141 – Business Combinations must use purchase method of accounting Liabilities must be stated at “Fair Value” Loss and Unearned Premium Reserve Identify and Value Intangible Assets Goodwill = Purchase price – net assets including intangible assets

25. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 25 Valuation – Purchase Accounting (PGAAP) VOBA Value of Renewals Other Intangibles: - Distribution Relationships - Insurance Licenses

26. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 26 Valuation – P&C Loss Reserving Not Just a Balance Sheet Issue Adjusting Earnings and Market Multiples Cash Flows, RBC and Rating Agency are a key Concerns for P&C Companies Target Company not characterized by stable historical claims experience Diagnostic statistics are critical.

27. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 27 Role of the P&C Actuary: Insurance Company Due Diligence P&C Acquisitions are Predominately Strategic – Know Your Buyer’s Motives Life – Predominantly Horizontal Growth P&C – Usually Vertical Growth New Products New Technologies Distribution Channels Underwriting Expertise

28. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 28 Role of the P&C Actuary: Insurance Company Due Diligence Identifying and Measuring Value Drivers - Marketing/Distribution Channels - Underwriting - Claims

29. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 29 Role of the P&C Actuary: Insurance Company Due Diligence Unexpected Integration Costs - Distribution Channels - Underwriting - Claims - Systems Identifying Material Risks

30. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 30 Role of the P&C Actuary: Corporate Due Diligence Assessing the Risk Management Program Accounting for Uninsured or Self-Insured Exposure Claims Made Policies Security Requirements Warrantees

31. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 31 Role of the P&C Actuary: Corporate Due Diligence Captive Insurers Carve Outs

32. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 32 CAS Resources CAS Librarian (Erin Clougherty) Search for Articles, Bibliography CAS On-Line Resources – (Jen DeMarr) Peer Reviewers THANK YOU!!!

34. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 34 What is an Actuarial Appraisal? DCF analysis, where: Distributable Cashflow= After-tax Earnings minus Increase in Required Capital = Premium + Investment Income – Benefits – Expenses – Commissions – Increase in Statutory Reserves – Taxes – Increase in Required Capital

35. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 35 Components of an Actuarial Appraisal

36. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 36 Actuarial Appraisal Issues Uses of an appraisal beyond a single “value” Basis for assumptions Description of specific issues for a range of business: Life, Health, and P&C

37. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 37 Tax Issues Understanding the impact of federal and state tax issues on M&A transactions – Transaction structuring can be highly tax-sensitive – Post-closing tax opportunities affect the value of the target – Investigating tax issues is an important part of the due diligence process

38. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 38 Taxable Transactions Stock sale vs. asset sale – Recognition of gain or loss – Capital vs. ordinary – Basis in stock vs. basis in assets – Economic value of amortization deductions Asset sales in the insurance industry— reinsurance – Assumption reinsurance and coinsurance – Treatment of ceding commission – DAC Tax – Allocation of basis

39. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 39 Accounting What constitutes a “business combination” Identifying the acquiring entity Determining acquisition date and purchase price Direct costs and contingent considerations Purchase Price Allocation (US Purchase GAAP) – Fair Value of Invested Assets – PGAAP Liabilities – Value of Business Acquired (VOBA) – Intangible Assets, including Goodwill – Deferred tax Reinsurance and Statutory Accounting Principles

40. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 40 Integration Successful outcome of acquisition hinges on integration! Comparatively little typically spent on integration vs acquisition Goal is to capture the value drivers used to justify the acquisition to the board

41. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 41 Implementation Corporate integration unit Implementation teams Process control “Day one” issues People issues Importance of culture

42. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 42 Making it Work Essentially change management Leadership Speed Communication Planning Project management

43. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 43 C r y p t s ! ! ! “In making acquisitions over the years, we've tried our best to get good quality assets to back the liabilities. Cash is always best - investment grade bonds are fine - and good quality mortgages are acceptable. But when you're buying a company, or taking over a block of business that's in receivership, sometimes you get assets that are not as desirable…”

44. C r y p t s ! ! !

45. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 45 Final Process External peer review Professional editing Final editorial review Layout Glossary Index

46. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 46 Bibliography SOA & CAS Libraries Exam syllabus Textbooks Industry & professional source material Popular press

47. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 47 Project Scope 500 Pages 100+ contributors $150,000 budget 5,000 projected sales – Actuaries – Industry Executives – Professionals – Risk Managers – Students (SoA, CAS, MBA)

48. John Butler, Al Hines & Jim Toole Insurance Industry Mergers & Acquisitions Page 48