Newsflow picked up pace this week, with the announced sale of two non-broking businesses for a combined $1.4bn and the emergence of two further likely divestitures.
Aon's decision to sell its US pension actuarial business and its retiree exchange was revealed by this publication last month – along with the three-week timescale – but the counterparties (Aquiline and Alight) and the consideration ($1.4bn) were new information.
As was the news reported Friday by this title that this wasn’t the last of US disposals, with the broker also seeking buyers for two parts of its US health business: the group pharmaceutical purchasing unit and its health claims auditing service.
I have previously described the approach of Aon/Willis to antitrust scrutiny as demonstrating an iron determination to close the overall transaction, and this new information is fresh evidence of that kind of ethos.
Thorough test
That determination is clearly being thoroughly tested by regulators, with total disposals engineered with a view to satisfying the Department of Justice (DoJ) now mounting following the European Commission's (EC’s) decision to extract a major remedies package.
And indeed, the base case at this stage should probably now include an expectation that the other members of the regulatory awkward squad will have their say too. This likely means disposals in Australia and New Zealand, although the latter is a tiny market and Willis is small in Australia – marking these out as rounding errors in the context of the broader deal.
Unlike with the EC where there is some public disclosure and some that is semi-public via market testing documentation, the DoJ is close to inscrutable, a kind of regulatory black box.
And indeed it is doubly unpredictable in the early stages of a new presidency and without the appointment of a head of antitrust.
The regulatory trade titles that circle the DoJ have seemed somewhat split in recent days, with The Capitol Forum first suggesting that the regulator was taking a dual-track approach to the deal with a view to potentially litigating against the transaction.
It was followed by peer CTFN which said that, on balance, litigation was unlikely – although it also noted a dual-track process around litigation (describing this as standard procedure) and said there were some anti-deal hawks in the department.
My own sources suggest that the lack of leadership is causing hesitancy around taking a final decision and stress a lack of unanimity around how to proceed.
This is a big call for the DoJ given the scale of the deal.
I am not going to try and call how this will play out, with even the timetable clouded by uncertainty. Aon is, however, likely now pushing as much as it can for a resolution given its revised Q3 close target, and can point now to concessions across broking, retirement and health as it seeks a regulatory green light.
Substantial upside
The deal still offers Aon substantial upside, with the increase in scale, data and capabilities allowing it to better serve clients and drive growth, while creating scope for greater financial efficiencies through cost synergies and closing the Aon-Willis margin gap.
As much as the regulators are forcing pieces to be carved out of the combined entity, we are certainly not at the point where Aon's management is tied to a bad deal to protect their reputations (although, of course, their reputations are very closely tied to the success of the deal).
But, as suggested before, the shareholder value creation opportunity here is a spectrum, and with each additional piece of the pro forma combined entity that is divested to secure approvals, that value creation opportunity is incrementally eroded.
As my colleagues on the Inside P&C Research team said after the AJ Gallagher sales, for Aon this deal is "still a win, but a smaller win".
Nevertheless, the numbers here are substantial. Aon disclosed that total 2020 revenues that it had agreed to divest from the pro forma combined entity were $2.3bn (in excess of ~11%).
McNestrie, Adam (UK)
It is quite difficult to build this number from the bottom up based on the disclosed disposals. Getting there requires the businesses sold to Gallagher – including Willis Re and the European broking assets – to be marked up from the $1.3bn-revenue figure disclosed by the acquirer, which was stated net of expected revenue breakage.
Sources suggest the allowance for breakage is substantial, potentially as much as around 10% – suggesting a true revenue divestiture of closer to $1.45bn.
It is further understood that the pension actuarial business was bigger than previously thought, with revenues of ~$600mn (not ~$400mn). With $175mn of revenues in the retiree exchange, this would then leave $75mn unaccounted for – which may relate to the German retirement business.
Still, there is necessarily some guesswork here and we are unlikely to ever get definitive answers.
McNestrie, Adam (UK)
These figures will swell further once the health businesses are sold, although there is also a lack of visibility on the size of these firms.
On a top-line basis, the total divested business is larger than Lockton and approaching the size of Brown & Brown.
There is even less clarity around the earnings sold, but performing the same exercise to net up Ebitda acquired by Gallagher and based on source estimates yields a number comfortably in excess of $600mn.
Depressed sale multiples
The sale multiples of the retirement businesses are highly depressed, reflecting Aon's status as a forced seller in a hurry, and almost make Gallagher look as though it overpaid for what it bought.
Based on prior estimates of $200mn of Ebitda for the larger business and $40mn for the smaller, the $1.4bn sale consideration is just ~6x Ebitda.
Fair value for these assets would likely run comfortably to double-digit multiples, with the delta effectively swelling the premium that Aon is paying for the rest of Willis.
McNestrie, Adam (UK)
In addition, the disposals reduce scope for Aon to extract cost synergies from combining the two businesses.
Aon reaffirmed its commitment to delivering the $800mn of cost synergies it has cited since the deal was announced – which will provide comfort to investors. But the point here is really that the room for outperformance (universally expected based on Aon management’s track record of delivery on margins) has been reduced.
For now, though, all eyes will be fixed on the DoJ as the market awaits its assessment of the deal and watches the unfolding of the regulatory endgame.
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