Despite new challenges to deal activity in the Asia-Pacific region, and formidable risks, competition for targets remains high. In this uncertain and high-speed environment, dealmakers need every tool possible to gain an edge in their sales processes. In this report, we examine the growing role of M&A and other transactional insurances as one of the tools dealmakers are using to improve deal outcomes.
Extraordinary Global Growth
When combined with the results of Aon’s Transaction Solutions teams in North America and EMEA, global utilization of M&A insurance in 2018 resulted in:
in limits placed
Robust Regional Deal Activity
M&A deals were announced in 2018
for targets in Asia, Australia and New
Zealand — the most on
represented the second-highest
annual total ever seen in the region
M&A Insurance Expansion
Building on several years of
double-digit growth since 2015,
last year Aon saw:
year-over-year expansion in Asia
year-over-year expansion in
Australia and New Zealand
Aon is not a law firm nor does it provide legal advice. This article is based solely on Aon’s experience as insurance practitioners. Aon recommends that you consult with your own legal counsel as respects the content of this article.
The M&A market in Asia-Pacific is undergoing rapid change. After years of steady growth in transaction volume and an increasing number of eye-catching cross-border deals, the deal environment is becoming mature and more fully integrated with Western markets. However, headwinds have appeared in recent months. Major Asian economies, especially China, are experiencing macroeconomic and currency volatility, and are suffering from the effects of the escalating trade stand-off between the U.S. and China.
These obstacles cannot be underestimated. At the same time, Asia-Pacific remains a region with robust economic growth by global standards – and holds great potential for further expansion. Last year, M&A activity increased in Asia to 3,905 deals worth $678B from 3,836 deals worth $675B in 2017, according to Mergermarket data. And in Australia and New Zealand, deal value increased to $96B from $88B year-over-year, and deal volume rose to 754 transactions from 731 the year previous.
On the back of growth in the deal market, an analysis of Aon’s book of business shows that the number of deals utilizing Representations & Warranties insurance (R&W insurance) – also known as Warranty & Indemnity insurance – is increasing dramatically. In Asia, following a period of double-digit growth since 2015, uptake in 2018 increased 40% year-over-year, Aon data show. R&W issuance in Australia and New Zealand has also grown, providing an attractive solution for corporates, public companies, real estate funds and private equity clients. Building on previous years, Aon saw year-over-year growth of 37% in the number of 2018 deals in the Antipodes using R&W insurance.
This report – which forms part of a four-part series covering M&A risk and insurance trends in North America, Asia-Pacific and EMEA, as well as a comparative global round-up at the end of 2019 – takes an in-depth look at the uptake and use of transaction insurance products in Asia and Australasia. The study includes analysis of data on how M&A insurance is being used, as well as a survey of corporates, private equity firms and M&A advisors that explores their insights into the risks and opportunities presented by the deal market in Asia-Pacific.
Despite new challenges to deal activity in the APAC region, and formidable risks, competition for targets remains high. In this uncertain and high-speed environment, dealmakers need every tool possible to gain an edge in their sales processes. We examine the growing role of R&W insurance as one of those tools in this report.
What do you think will happen to the number of M&A deals in Asia-Pacific over the coming 12 months?
As has been the case globally, the use of R&W insurance in Asia-Pacific M&A deals has become increasingly popular. The growth in scale and sophistication of M&A processes across Asia, Australia and New Zealand, coupled with a rise in cross-border activity between Asia and Western markets – where R&W insurance is a key part of the transaction toolbox – has driven wider R&W adoption by dealmakers in the region. Crucially, as economic growth in the key industrial jurisdictions of China, South Korea, Singapore and Malaysia decelerates, and the US-Sino trade standoff escalates, dealmakers are increasingly concerned about key risks impacting a deal and are seeking to protect themselves against them. In our survey of APAC-based dealmakers, evaluating key macroeconomic, regulatory and other risks was cited as the most important factor in properly valuing a deal, cited by 40% of respondents.
In the current M&A environment, what do you think is the most important factor in properly valuing a deal? (Select the most important)
PE and corporate respondents only: What are the biggest challenges you expect to face in 2019 with respect to successfully completing deals on the buy side? (Select top two and rank them 1-2, where 1 is the most important)
In addition, when respondents were asked what they expected the biggest challenges would be with respect to completing deals on the buy side in 2019, evaluating and managing macroeconomic and political risk was chosen by 31%, followed by overcoming regulatory obstacles (19%) and securing financing on favorable terms (19%).
With APAC M&A practitioners focused on managing risk as a key priority when transacting, the value of R&W insurance products to dealmakers has been highlighted.
Asia’s rise to prominence as a key player in the global economy and an M&A hub has driven dealmakers to become more innovative in seeking solutions to mitigate transaction risk. In 2018, we observed Asian companies become more active in acquiring businesses in Europe and the US, and in participating in auctions involving larger companies. As a result, we have recently observed a large spike in queries for M&A insurance solutions.
Asian M&A has grown materially during the last five years, with deal value climbing by a quarter to $678B in 2018 from $546B in 2014, Mergermarket data show. Volumes over the five-year period are up from 3,119 transactions in 2014 to 3,905 deals last year. The Asian deal market is projected to continue on a growth trajectory, despite concerns around the impact of a US trade war with China and the expectation that the economic cycle may be peaking – some 44% of respondents to our dealmaker survey said they expect the number of Asia-Pacific deals to increase significantly (by more than 5%) over the coming year.
What’s more, private equity dry powder – committed but unspent capital – targeting the region sits at a record $317B, according to research firm Preqin. This capital war chest, coupled with economic growth that continues to outpace the West and various government reforms in China, Indonesia, Malaysia and Vietnam to attract more inbound investment, also point to a positive outlook for dealmaking in the region.
The provision of M&A insurance in Asia over the last five years has increased in line with the uplift in deal activity across the region. There were only four insurers covering the Asian market in 2014, of which only two were based in Asia. At the start of 2018, there were only three insurers with the presence of underwriters in Asia. In 2019, Aon has seen an increase to more than 20 insurers with appetite to underwrite Asian risks and by June, there will be at least five insurers with underwriters physically based in the region.
With new insurers entering the M&A insurance market, we have seen more client-friendly trends emerge, including lower retentions; a decrease in premium rates; and broader appetite to underwrite transactions in “trickier” jurisdictions, such as the Philippines and Indonesia. More competition in the Asian market has delivered benefits for clients, who have been able to obtain better pricing for coverage.
Furthermore, the R&W product is gaining traction across deals of all sizes. The average deal size in 2018 was $305M, according to Aon research, and at least 60% of transactions involved targets exceeding $100M in enterprise value. In 2018, Aon placed R&W insurance policies for transactions ranging from a deal size of $12M to mega-deals worth up to $2B. The average limit placed was $54M.
Asia M&A Activity, 2014-18*
*Represents data for deals with targets based in Asia (excluding Australia + New Zealand)
R&W insurance is used across a wide range of deal sizes in Australasia and has continued its traction among private equity clients. Many strategic buyers have embraced the tool as well, and the use of R&W insurance on public deals is a growing trend in the Australasian market.
The adoption of R&W coverage in the public-to-private sphere has made it possible to facilitate the provision of meaningful representations and warranties for a buyer in a scheme document for public deals. Data from the Aon book show that the average enterprise value of transactions with R&W insurance in 2018 was $168M, and at least 20% of those deals had an enterprise value of over $200M.
As has been observed in Asia, new insurers have entered the Australasian region and driven client-friendly market trends. Pricing for R&W insurance has become more cost-effective than ever, and rates continue to drop for excess pricing (i.e., for the layers of insurance above the primary layer).
This has profound impacts on the cost of insurance, especially on larger transactions. Average premium rates in 2018 continued to sit below 1% of the total limit insured as larger programs are structured, Aon research shows.
Australia & New Zealand M&A Activity, 2014-18**
**Represents data for deals with targets based in Australia & New Zealand
Uptake of R&W insurance among private equity buyers – who compete aggressively on price and speed of execution on the buy side and want a clean exit when selling – has historically outpaced that among strategic buyers. As M&A markets have become more global and sophisticated, however, and the growth of the PE industry has seen strategic acquirers compete against buyout firms more frequently, corporates have adopted R&W insurance in increasing numbers. In an exit-friendly market, where sellers have been in a position to negotiate limited post-closing indemnification, R&W coverage offers corporates an alternative layer of protection post-acquisition that many have been keen to add.
Indeed, while PE firms in APAC were the main drivers of growth in the use of R&W insurance in 2017, a larger proportion of strategic buyers took up the solution in 2018. Sixty percent of R&W insurance buyers were corporate buyers in Asia last year, according to Aon data – demonstrating the effectiveness of the product as more acquirers become comfortable with M&A insurance and understand its use and benefits. With corporates accounting for significantly more deal volume and value than private equity firms last year (3,398 corporate deals worth $570B compared to 507 PE transactions worth $108B, according to Mergermarket data), the increasing uptake of the solution has helped to grow the market and improve the pricing and terms on offer for policyholders.
While corporate policies within the Australasian R&W insurance market have increased significantly, last year also saw a rise in the number of private equity (PE) policies placed. In total, Aon witnessed 82% growth in the number of PE users of R&W insurance between 2017 and 2018, underlining the tool’s benefits in competitive sales processes and its use as leverage to achieve zero recourse for sellers.
Breaking down the number of PE versus corporate policies over the last two years, 31% were PE policies in 2017 compared to 69% corporate policies, while in 2018 there was an increase in the proportion of PE policies to 39%, with 61% being corporate policies, according to Aon data.
The growth in uptake of PE policies mirrors the increasing share of M&A activity in Australia and New Zealand attributed to private equity. In 2018, PE deal value across all deals more than doubled from $11B in 2017 to $23B in 2018, with deal volume up from 83 deals to 86 deals, Mergermarket data show. Corporate M&A deal value, by contrast, dipped from $77B in 2017 to $73B last year, although corporate deal volume rose from 648 to 668 deals in the year-over-year period.
Complementing R&W insurance, tax insurance is growing in usage among Asia-Pacific dealmakers to address specific known matters that would not otherwise be covered by the R&W solution. Notably, Aon successfully placed the first of its kind tax liability policy in Korea, allowing the sellers of a Korean asset to return funds to their limited partners that would otherwise have been tied up in escrow. Interest in tax insurance solutions continues to grow, and an increase in the number of deals making use of the product is anticipated.
Aon’s team successfully handled the first-ever R&W insurance claim in North Asia, involving a deal size of about $300M. Being the first of its kind, the insurers took some time to understand the impact of the loss and to calculate its quantum, before the claim was eventually settled, with an interim and final payment made. Claims are otherwise not very frequently received on policies placed for Asian targets.
Australia & New Zealand
As issuance of R&W policies in Australia and New Zealand has increased, so has the number of claims. For the period from December 2017 to December 2018, claim notices were received by Aon on almost one in five R&W policies. Claim notices were most frequently lodged within six months of a policy being put in place, with the majority of reports made within 18 months of a policy taking effect. The most common types of R&W reported breaches were in the areas of financial statements, compliance with laws, material contracts and tax – however, breaches vary depending on the specific industry. Larger deals bring higher claims frequency, while also generating the largest average claim payouts.
In the Asian market, one of the key trends being observed in sales processes is the practice of sellers “stapling” R&W insurance to their bid packages – also known as sell-buy flip coverage – setting the stage early on for M&A insurance in lieu of traditional indemnities and allowing sellers to get ahead in negotiating a sale with limited trailing risk. Aon saw an increase in sell-buy flip processes in 2018, which now account for 12% of total deals. This represents growth of 100% from 2017 levels.
In our survey of dealmakers, 68% said R&W insurance was “stapled” in deals they were involved in somewhat often (50% to 74% of the time), while 20% said it was done so occasionally (25% to 49% of the time).
The provision of “stapled” R&W coverage can help to reduce the chance of broken sales processes by removing the need to lock up capital in escrow, and help buyers to expedite execution in a competitive market. More than a third of our survey respondents (38%) said one of the top two factors in a deal becoming derailed on the buy side was a competing bid being made with better speed or certainty to close, underlining the importance of streamlining the deal process as much as possible.
Relatedly, when asked about the main action dealmakers had taken in response to greater competition in the M&A environment, nearly a third (32%) said they had improved their ability to close deals quickly. Accepting the sell-buy flip practice can help buyers to mitigate the risk of a sale derailing and help to accelerate deal closing.
Buy-side R&W policies have also grown in popularity across China and its Asian neighbors, not only as a tool for mitigating risk in domestic deals but also as a tool to enhance cross-border bids in competitive foreign markets. More than half of our survey pool (56%) said R&W insurance was more common in cross-border deals, with 20% saying it was “much more common” and 36% saying it was “somewhat more common” in transactions with foreign counterparties when compared to domestic M&A.
When you use R&W insurance in a deal, approximately how often is the insurance program “stapled” to the bid package (aka “sell-buy flip”)?
In the current M&A environment, what are the main factors in a deal getting derailed on the buy side? (Select top two and rank them 1-2, where 1 is the most common)
PE and corporate respondents only: What is the most important action you have taken over the last 12-24 months in response to greater competition in the M&A environment? (Select the most important)
In the current M&A environment, what are the main factors in a deal getting derailed on the buy side? (Select top two and rank them 1-2, where 1 is the most common)
A number of new insurers have entered the market in Asia, increasing competition for deals. This has led to a general willingness to offer lower retention options even for deals above the $1B mark, according to Aon research. We have also seen average retention drop over the past year under the traditional 1% retention, especially for industries such as real estate. As a result of the lower retention on deals, sellers are able to successfully negotiate very low indemnity caps with buyers bearing only minimal risk with more modest retentions in cases where seller recourse is not provided. In a seller’s market, where vendors have been able to leverage demand for their assets to negotiate away purchase price retention and escrow structures, R&W has become a popular alternative method for securing buyer claims.
In Australia and New Zealand, the retention amount as a percentage of deal value continued to decrease in 2018, dropping from 0.72% to 0.70% of enterprise value, Aon data show. The growing number of insurers globally has increased competition, resulting in beneficial retention options for insured companies. Buyers are seeing there is value in purchasing lower retention structures in a claims scenario since the markets are offering more competitive pricing for these structures. This trend in the market has helped buyers to get comfortable with the vendor-friendly terms in sales and purchase agreements (SPAs), as cover is attractively priced and can make up for any concessions to the vendor in the SPA.
In addition to lower premium rates, tipping retentions or lower fixed retentions were taken up in almost half of deals placed in 2018. Clients are now electing to take up retentions that are below the standard 1% of enterprise value. In addition, close to 100% of deals in the region were negotiated with no seller recourse last year, except in cases when an escrow was in place.
Buy-side policies dominate the market in the region. Approximately 95% of R&W insurance placed in 2018 were buy-side policies, including R&W policies where seller-mandated processes were involved, according to Aon data.
Deal volume and value climbed across most sectors in Asia and Australasia in 2018, and as activity has increased, so has the uptake of R&W products. As demand for coverage has grown, there is greater willingness among insurers to provide coverage in areas that historically have been difficult to protect against risk, such as technology and financial services. Demand for M&A insurance in these sectors is on the rise.
In Asia, industrials and chemicals generated the highest overall deal value in 2018 at $120.8B, spread over 854 deals, followed by technology with $116.4B in value from 590 deals and financial services with $79.3B from 291 transactions, according to Mergermarket tracking data. In Australia and New Zealand, energy, mining and utilities was the largest sector by deal value with $22.4B over 89 deals, followed by consumer ($19.4B, 105 deals) and transport ($10.9B, 20 deals).
Technology deal value increased by double-digits in both Asia (18%) and Australia and New Zealand (56%), driven by the rising demand for digital platforms to deliver services and products in all sectors, Mergermarket data show. This is expected to remain a key trend in M&A and R&W product development over the coming year.
Insurers have traditionally avoided deals in the technology space – especially transactions with heavy data or IT exposure – due to perceived higher risk and uncertainty. However, due to growing demand over the past year, insurers have started to become more comfortable with such risks.
With heightened scrutiny on data breaches, insurers have increased their focus on cyber risk areas. Specifically, insurers want to understand the procedures put in place by a target company to prevent any breaches of data security laws. Technology deal volume was 64 deals higher year-over-year in 2018, at 590 deals, and deal value climbed 18% to $116.4B, according to Mergermarket. We anticipate more insurance deals in the technology sector over the coming years as deal activity rises and technology continues to converge with other industries.
In 2018, Asian financial services deal volume increased by 27 deals to 291 transactions, and value rose by 44% to $79.3B, Mergermarket data show. During a busy time for the market, Aon placed the largest financial industries placement in Southeast Asia. On the back of policies such as this, we have seen an increase in queries from banks, insurance companies, and online finance platforms. In the past, insurers had limited appetite for financial services M&A, but we have now been able to successfully place policies in such industries.
Industrials and chemicals deal volumes dipped slightly to 854 deals in 2018, but the sector remained the most active and valuable in Asia, with deal value up 14% to $120.8B, according to Mergermarket. Mirroring the steady upward curve of this key sector for the region, there has been steady growth in the use of the R&W insurance for the manufacturing industry in Asia. A total of 40% of Aon’s deals in the region last year came from the manufacturing sector.
Asia M&A Activity in Top Sectors, 2018
Aon has recorded a rapid increase in software and technology deals, and Mergermarket data show an increase in technology deal value of 56% to $5.6B in the Australasia region. With new data breach notification laws and heightened global scrutiny of data handling, cyber risks have been thrown into focus, and cybersecurity has become a heightened area of underwriting scrutiny for insurers. In particular, insurers want to understand the processes and procedures in place to prevent any breach of data security laws applicable to the target organization, or any unauthorized use of the target’s IT systems. Our M&A team works closely with our specialist cyber consultants to ensure that we understand the cyber risk profile presented by a particular transaction and how to mitigate and transfer these risks appropriately.
Professional and Financial Services
M&A in financial services grew steadily in 2018 in Australasia, with Mergermarket showing deal value up 5% to $8.7B and volume climbing from 43 to 52 deals. In the R&W insurance market, however, insurers have approached the sector with caution following the recent Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry. Insurers are paying close attention to matters related to financial advice, professional indemnity, anti-bribery and corruption, and cyber risks. In the event that a target company has operations in Asia and other jurisdictions outside Australasia, insurers will also focus closely on potential bribery and corruption risks.
Food & Beverage
M&A activity in the food and beverage sector is consistently robust, and consumer deal value grew 246% to $19.4B in 2018, according to Mergermarket data. The space remains an attractive industry for buyers, as well as for insurers. Key underwriting areas of focus on food and beverage deals include product liability and product defects and tampering. Insurers will expect to see a robust risk framework in these areas and a sufficient level of insurance coverage. Insurance due diligence is critical to providing R&W insurers with comfort in these areas.
Natural Resources and Industrial Services
Energy, mining and utilities had the most deal value of any sector in 2018 at $22.4B spread across 89 deals, Mergermarket data show. In these key sectors for the Australasia region, insurers tend to focus on understanding any exposures emanating from the condition of the plant, property, equipment and assets, as well as product liability, professional services and indemnity matters. Other areas of focus include property rights (including planning, easements, and access rights), indigenous rights, permits, authorizations and material project agreements. Environmental risk is also an ever-present issue in the natural resources sectors. Indeed, in our survey of Asia-Pacific dealmakers, environmental factors were identified as the second-largest risk area for potential M&A targets, cited by 24% of our survey participants. R&W insurers seek to ensure that risk related to remediation of identified pollution rests with a specialist environmental solution rather than under the insurance policy. Aon’s specialist Environmental Services Group, for example, works closely with the M&A team to structure the appropriate risk transfer solutions.
The healthcare sector continues to present opportunities for implementation of R&W insurance policies. Healthcare M&A value increased 49% on 2017 levels to $5.7B, with volume rising from 63 deals to 74 over the period. Insurers assessing the risk profile of healthcare deals will closely review defective services, particularly around medical malpractice. This also extends to negligent behavior and professional indemnity. Another area of focus is cyber risk, particularly in cases when personal data from patients and customers is being collected and stored.
Australia & New Zealand M&A Activity in Top Sectors, 2018
What is the top risk you foresee at potential M&A targets over the coming 12 months? (Select the most important)
M&A activity across the Asia-Pacific region has grown significantly over the last five years, with an increasing number of cross-border deals into the region, rising private equity interest and an uptick in corporate dealmaking all contributing to the growth.
As the market has expanded, so too has competition for assets. This has created a seller-friendly environment, allowing companies not only to secure healthy profits on exit, but also to negotiate favorable terms and demand speedy execution from buyers.
These trends, coupled with the introduction of overseas M&A techniques into Asian transactions, have driven a sharp uptick in the use of R&W coverage in APAC M&A deals. Sellers are “stapling” R&W policies to help speed buyers to the finish line and reduce the need to lock up capital in escrow, while for buyers, R&W policies are providing comfort in a market where sellers can push for limited or no post-deal indemnification.
As uptake of R&W insurance has increased, so has competition among R&W providers, which has benefited clients. Premium pricing is down and insurers are increasingly comfortable providing coverage in previously challenging areas such as technology. R&W insurance is positioned to grow further across Asia as the M&A market continues to mature.
Following this analysis of the M&A risk environment in Asia-Pacific, part three of our four-part series will focus on trends in the EMEA region. We will then conclude the series with a global year-in-review. We look forward to sharing these insights with you over the course of 2019.