The Long and Short
Brown & Brown: a value play among insurance brokers
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Brown & Brown (BRO: Baa3/BBB-) trades at the widest spreads in the insurance broker peer group. Their notes offer compelling value relative to larger peers such as Willis Towers Watson and Arthur J Gallagher well as industry leaders Aon and Marsh & McLennan. Beyond the individual credit, insurance brokers should benefit this year from rising commercial P&C rates, strong organic growth industrywide and improving margins. Investors can increase their position in the sector by adding exposure to Brown & Brown, which trades at a discount not just to the immediate peer group but to the broader insurance segment of the investment grade index.
Exhibit 1. Brown & Brown compared to the IG insurance broker peers
Source: Santander US Capital Markets LLC, Bloomberg/TRACE G-spread indications
With the debt of insurance brokers still trading close to the levels of property and casualty (P&C) and life insurance underwriters, the relative stability of the brokers looks like better relative value. Insurance brokerage credits offer stability relative to traditional property and casualty names, as ongoing underwriting risk and rate volatility impact the broader industry. Traditional P&C insurance underwriters struggled throughout 2022 and early 2023 amidst high levels of global catastrophe costs. Those market conditions helped create significant upward pricing pressure in the second half of 2023 that carried over into the current year, which should continue to benefit the profitability of the global insurance brokers. Furthermore, ongoing rate volatility creates investment portfolio risk that is much more present among insurance underwriters and has a more limited impact on the brokerage group. BRO offers good risk compensation relative to the rest of the peer group, with the widest trading bonds in the intermediate part of the credit curve.
BRO is the smallest of the investment grade insurance brokers with annual revenue of about $3.5 billion to $4.5 billion, which is roughly half that of the next largest competitors AJG and WTW. The company continues to expand through a combination of strategic bolt-on acquisitions and impressive organic revenue growth. Revenue has more than doubled since 2015. BRO is highly focused on the domestic market with over 90% of revenue generated but continues to target acquisitions to help expand its footprint outside of the US. In their recently released first quarter earnings, the company reported organic revenue growth of 8.6%, with total revenue growth of 12.7% when calculating additions through M&A.
BRO is notable among its peer group for boasting some of the highest profit margins in the industry. The EBITDA margin for fiscal 2023 was roughly 36%, which also carried over at that level in the first quarter of 2024. That compares with significantly lower profitability from most of the peer group for 2023: WTW (23.7%), AJG (28.5%), MMC (29.6%), with the exception of AON (36.3%).
BRO maintains a manageable liquidity profile with nearly $600 million in cash on the balance sheet, plus an additional $600 million available on the company’s undrawn credit facility. There’s a $500 million public debt maturity due in October of this year, which probably makes them a candidate to issue debt in the intermediate term. BRO’s last trip to the public debt market was in 2022 when it issued 10-year and 30-year debt. The company has no other public debt maturities until 2029 but has private loan maturities staggered over the next four years.
Given its growth aspirations, BRO had been running with slightly higher leverage than its industry peers at about 3.0x as of year-end 2023. However, the company is expected to bring leverage down to the 2.0-2.5x range in the near-term, which is highly appropriate for maintenance of investment grade ratings and closely in-line with the rest of the peer group. Most of the IG insurance brokers had been running in the 2.0-2.5x as of year-end 2023, with the exception of AJG which is also right around 3.0x in-line with BRO.
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