Windfall from life upheaval

Consolidation of mutual insurers will give policyholders big one- off gains. Patrick Tooher reports

SOME of the dullest sectors in the investment universe have been illuminated this year by the warm glow of takeover activity. Regional electricity companies, photocopying suppliers and building societies are all enjoying a long-overdue place in the sun. Now life insurers - arguably the least pulsating of them all - may be about to feel the heat, too.

On Thursday, Glasgow-based insurer General Accident confirmed it was in talks that could lead to a takeover of Provident Mutual, a life assurer from Stevenage. Discussions about the deal, estimated to be worth up to pounds 200m, are said to be at an advanced stage.

A day earlier, the Prudential, Britain's largest insurance group, put a new spin on its advertising catchphrase "We want to be together", when its new chief executive Peter Davies indicated his interest in acquiring other life companies as part of the widespread consolidation expected within the industry.

Up to half of the country's 100-plus life companies could disappear in the next five years, resulting in a bonus bonanza for thousands of policyholders similar to the special payouts enjoyed by building society mem- bers in recent takeovers.

Stephen Dias, insurance analyst at American investment bank Goldman Sachs, says the market is ripe for consolidation. "The life industry could sustain such a large number of companies when the market was growing at 15 per cent per annum, as it did uninterrupted between 1985 and 1993. But since then, it has been stagnant with a huge squeeze on new business and increasing competition."

Strong equity and property markets in the 1980s have given way to mixed stock markets and falling house prices in the 1990s, which has put pressure on the investment returns of the life companies.

But it was the bad publicity over the mis-selling of personal pensions and mortgage endowment policies that caused the industry most damage. The furore led to the introduction of a tighter regulatory regime involving forced disclosure of expenses and commissions. This in turn revealed just how inefficient many life offices are and what poor returns they generate for policyholders.

Demand for financial protection and retirement provision also nose-dived, as the weak state of the economy continued to depress levels of discretionary spending. Broker BZW estimates that sales of life and pensions products are set to fall by 17 per cent this year, after a 12 per cent decline in 1994.

Cost savings, the driving force behind so much corporate activity in recent years, is another factor behind the urge to merge. Significant economies of scale, for example, can be derived from having one administrative system selling twice as many policies.

There is plenty of scope for consolidation, because the industry is fragmented. Prudential, the market leader, is estimated to have a share of 10 per cent, followed by Standard Life and Norwich Union, but the next player has less than 3 per cent. "Normally you would expect five or six players to have market shares of about 7 or 8 per cent, as in the non-life market," says Goldman's Mr Dias.

The quoted target mentioned most often is Legal & General; the favoured bidder is Germany's Allianz, which already owns Cornhill Insurance.

But it is the mutual companies, which make up the vast majority of life companies, that are considered most vulnerable. "More and more of the mutuals are looking at what the future might hold and where they are going," says Jonathan Bloomer, finance director of the Prudential. "There are many parallels with the building societies."

Unlike quoted companies such as the Pru and General Accident, mutuals must generate their own capital. They cannot ask investors to fund a rights issue, because they do not have any shareholders, only policyholders. With margins under pressure and contingency reserves wafer-thin, the days of independence for many mutuals look numbered.

Several have already fallen by the wayside. Abbey National bought Scottish Mutual for pounds 288m in 1992 and paid a special bonus worth hundreds of pounds to all policyholders, while Dutch insurer Aegon took control of Scottish Equitable a year later.

Other deals have seen Friends Provident pay pounds 115m for NM Financial, the UK arm of National Mutual, Australia's second largest life insurer, while Britannia Life acquired Life Association of Scotland.

The irony is that the mutuals were formed to be bid-proof. Between the 1920s and 1960s, large sums were paid to shareholders to win their approval for conversion to mutual status. Now the mutual managers are realising they may have to give up their independence, although this goes against their instincts. But it looks as if the trend will inevitably lead to windfall gains for thousands of policyholders.