To describe 2020 as a roller coaster of a year would probably to understate the case slightly. The pattern of activity in W&I insurance was similar across all regions of the world; the strong first quarter, activity falling off a cliff in the second quarter, and then a robust comeback in the last six months. While underlying M&A activity in the US was given a boost by pre-presidential election activity, the boost in Europe was provided by Brexit. This caused businesses to look at re-organising to future proof their businesses for continued access either into the EU 27 or the UK in 2021.
The axis of the market also shifted, with significant activity being seen in southern Europe – Italy and Spain in particular. The deal flow here focussed on infrastructure assets (toll roads, renewable energy etc) which throw off a predictable stream of revenue and for which it is easier to undertake accurate due diligence in times of restricted access.
The year to come
The economic outlook remains depressed globally, and Europe is sadly not an exception. As the fall- out from the pandemic continues, so it is highly likely that the market will see a growing number of distressed assets being put up for sale in the retail, hospitality, and leisure sectors, although probably not till the second or third quarter of next year.
We also predict that a greater percentage of these deals will be done with W&I insurance. There are several reasons for this, including:
Growing concerns around accounting treatments. Companies facing difficult times may be tempted to account for income too early – particularly where there is project-based accounting – and buyers may be concerned that this will adversely affect them.
Due diligence issues. Restrictions on work and travel have meant that some key aspects of due diligence – inventory control for example – have been much harder to complete accurately. In a difficult year for all parties, insurers have initially stepped up to bridge the gap by paying claims, but many are remembering the mantra: ‘we are not here to replace due diligence’. As a result, buyers will have to either assume some of the risk themselves or do better due diligence.
Changing tax regimes. As governments look to raise revenue to pay for supporting workers and businesses through the pandemic, so tax regimes will change. Brexit will also bring cross-border tax issues for businesses throughout Europe.
The losses that businesses see from M&A activity tend to focus on these issues, so the appetite to mitigate those risks through the purchase of insurance will increase. It is also likely that we will see a sharp growth in demand for contingent liability cover. This covers legal and tax issues that do not sit within the W&I coverage – for example planning disputes.
Shifting market structure
However, buyers and sellers need to be alive to some significant shifts in the European W&I market, including the withdrawal of several insurers from the market, a trend that is likely to continue. The Lloyd’s market structure in particular makes the entrance into new risks classes easy so in good times you see a proliferation of smaller insurers, who then tend to exit as losses accumulate. As weaker insurers disappear, it is likely that terms for insurance contracts will become more stringent, and pricing will rise by as much as 25%-30% in 2021.
So, the European M&A market is likely to remain active in 2021 across more countries, asset classes and industries. The year should be reflected by more demand for insurance cover, albeit at probably higher prices.