Financials of possible Zurich/RSA tie-up
Intuitive logic in possible tie-up, but financials have to work: We believe, in theory, a
Zurich/RSA tie-up could create significant value. However, how the deal is funded and
at what price are the key issues. In this note we analyse the two prices indicated in the
press (i.e. FT 27/07/15 and Telegraph 05/08/15) flexing these against Zurich’s key
financial hurdle of a 10% ROI and ensuring Zurich’s solvency remains comfortably
above the bottom of its target range. Our analysis indicates cost saves for a 525p bid
price (per the Daily Telegraph) would need to be around £210m to meet the 10% ROI
hurdle but would be between 6% and 10% accretive to our current base case 18E EPS
(which includes a $3bn buy-back but does not include a transaction with RSA). This
would require $1-2.5bn of new equity (depending on target solvency level). Increasing
the price to 550p (per the FT) would require a further c$400m of new equity and cost
saves of >£300m representing c16% of RSA’s current controllable cost base.
RSA’s negotiating position is fairly limited, we think: We believe Zurich is better
positioned were negotiations to take place. Simply put, Zurich doesn’t have to do this
deal, yet we believe this could be one of the more value creating transactions that RSA
could do given the limited number of potential partners with synergy potential. We think
this could put pressure on RSA to close a deal but would weaken its negotiating position.
The presence of several ex-Zurich management at RSA (Head of UK, Head of Ireland and
the incoming CFO) could reduce execution risk and offer additional appeal for Zurich.
Pre-financing with a possible sale of the LatAm business: The Insurance Insider
(16/03/15) suggested RSA was selling its Latin American business for £500m. Zurich
could use this as ‘pre-financing’ to reduce the absolute level it could pay, reducing the
amount of equity capital it would need.
What about Canada?: While Zurich/RSA has significant potential synergies in the UK
and centrally (e.g. reinsurance costs), Canadian synergies are smaller. They both have
meaningful commercial businesses, but Zurich does not have a personal lines business.
Zurich may be able to exploit RSA’s sum-of-the-parts that RSA cannot do itself. Selling
the personal lines business to a market consolidator could realize between £0.9bn and
£1.6bn ($1.4bn-$2.5bn), which could quickly repay the equity raised.
RSA’s Pension update: We analyse RSA’s UK DB pension and see scope for payments
to fall, with the outcome of the Zurich proposal potentially having an important bearing.
Changes to earnings and price target: Unrelated to our M&A analysis, we reduce Zurich’s
15E/16E EPS as we delay cost benefits, which modestly impacts our PT, but this is offset by
the weakening CHF, causing our PT to rise to CHF342. For RSA we slow the improvement in
underlying loss ratio although our longer term earnings expectations rise modestly as the
full benefits of the current changes flow through causing our PT to rise to 440p.