US deal still leaves Aviva exposed to insurance predator

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The Independent Online

The UK's largest insurer, Aviva, finally quenched its thirst for an acquisition yesterday, announcing it had secured a board recommendation for its $2.9bn (£1.6bn) offer for AmerUs, the American life assurer.

The deal is to be funded via a £900m share issue - discounted at just 1.8 per cent to Wednesday's closing price of 713p - plus existing capital reserves and some debt.

With news of an imminent offer having leaked into the market a week ago, Aviva's shares had already been sliding before the confirmation arrived yesterday - reflecting investors' relative lack of enthusiasm for the deal. And as the details were published yesterday, the stock continued to fall, eliminating the share placing's discount altogether.

Although Aviva was keen to dress the deal up as a great leap into the American market, analysts and investors have found it hard to be enthused. After the excitement of a potential £18bn takeover of Prudential earlier this year - which would have transformed the group - the prospect of picking up a niche US player is not quite what some investors or analysts had hoped for.

Furthermore, the price - equivalent to about 1.9 times AmerUs' embedded value - is well in excess of recent deals carried out in the life insurance sector. Although the $2.9bn price tag is only a 10 per cent premium to AmerUs' closing price on 6 July, before Aviva confirmed it was in talks, it is at a more than 30 per cent premium to the lows AmerUs' shares hit at the end of June.

Nevertheless, while the deal is somewhat of an anti-climax, the more conservative faction of Aviva's shareholders has been relieved. Even if they'd rather the deal had not been done at all, they could not help but acknowledge yesterday that given its size, it does not carry much risk for the prospects of the group as a whole.

Mikir Shah, an analyst at Fox-Pitt Kelton, said: "In terms of actual cost, it's not that big a deal relative to the size of Aviva. But it does look a little expensive, and there are some issues in terms of the regulatory outlook for the main products which AmerUS sells. Nevertheless, it gives Aviva a proper footprint in the US market."

Roman Cizdyn, an analyst at Oriel Securities, said: "I'm not wildly excited. I wouldn't have minded if they'd carried on with the old, small Aviva US. It's true that there are a lot of savings in America but as far as I'm concerned they can stay there. Unfortunately, these big global companies think it's their god-given right to have a piece of them."

Aviva would claim, however, that its decision was driven not by ego but by the enormous potential in the US market, which is just too great to ignore. Seemingly reading from the same script which the Prudential's Mark Tucker has been using for the past 14 months, Aviva's chief executive Richard Harvey tried to excite analysts yesterday with talk of the potential of America's "baby-boomer" generation.

The statistics are certainly compelling. For example, the number of US citizens between the ages of 50 and 69 - AmerUs's main target audience - will have increased by more than a third between 2000 and 2010. That's around 4 million US citizens turning 50 every year - and they've all got good savings pots which they need to invest for their retirement.

But while AmerUs is well placed to pick up a proportion of these, it cannot be denied that it specialises in a relatively niche part of the market. Equity-linked annuities, its main focus, account for just 13 per cent of the overall American annuity market - and while this has been growing relatively quickly, there are some potential regulatory issues in the sector which could yet cause an upset.

Aviva's finance director, Andrew Moss, is not fazed, however. "We have made a decision that this is the market we want to operate in," he said yesterday. "We looked very hard at the regulatory issues when we did our due diligence, and we were very comfortable with the level of risk associated with it."

The regulatory debate centres around whether equity-linked annuities should be defined as insurance or investment products. If the regulator decides it is the latter, they will be subject to tighter rules, and AmerUs will be forced to upgrade its systems and sales processes.

But Mr Moss claims that even in this worst case scenario, the changes would cost the company just a few million dollars.

"Rather like when we bought the RAC, the market is sceptical," he said. "We know that when you do this type of thing, it's imperative that we show shareholders we can make it work. Quite rightly, they'll say there's work here to do, to prove we can do everything we say we can."

In its favour, Aviva has a relatively strong track record when it comes to acquisitions. Although AmerUs will be its biggest deal since its £19bn merger between Norwich Union and CGI in 2000, it is only marginally larger than last year's £1.1bn takeover of the RAC. Ultimately, it does not represent any serious risk to shareholders - even if it does not live up to the expectations of Mr Harvey and Mr Moss.

Furthermore, while some investors had feared AmerUs may be the start of an acquisition binge - in the US, or even across the globe - the board were quick yesterday to reassure that they have no serious intention of making any other acquisitions in the short or even medium-term.

"We're buying a company here which we think is very well managed and in a very attractive position in a growth area," Mr Moss added. "It's been well known that we felt our presence in the US was a bit light. We think that at one stroke, this gives us some size in the US, from which point we can grow organically."

Certainly, the trading update which accompanied news of yesterday's deal would suggest the company is still capable of delivering on an organic basis. First-half profits rose by more than 25 per cent, on the back of another 20 per cent rise in new life and pensions business, and an extremely strong perfor-mance in its general insurance operations.

Nevertheless, most of these profits are being derived out of benign climates in mature markets. In markets, such as Asia, which have the most potential for serious long-term growth, Aviva is still small. Even the US will account for only 9 per cent of its worldwide life and pensions profits after the AmerUS deal.

Although the pressure may lift for a while, shareholders' desire to see a more diversified stream of earnings will surely continue to be a burning issue for the company.

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