iag takeover - by qbe ($5.45), page-7

insurers poised for big mergers http://www.heraldsun.news.com.au/common/story_page/0,5478,17560774%255E664,00.html

Insurers poised for big mergers
George Lekakis
14dec05

AUSTRALIA'S insurance and wealth management sectors are poised for another wave of consolidation amid rising speculation that merger and takeover activity is set to explode in 2006.

The big play that could transform the local industry is a potential hook-up between QBE and Insurance Australia Group.
Right now, QBE's Frank O'Halloran is in the box seat to launch a friendly scrip bid for IAG.

Institutional investors believe that Mr O'Halloran's preferred local merger target is Allianz Australia, but it seems that both parties have not been able to agree on a deal this year.

This may have put IAG on the QBE radar screen.

With QBE shares valued at a price to earnings ratio of 14.2, QBE is trading at a significant premium to IAG which has languished in recent months on a P/E multiple of around 11.5.

Recent history in the financial services sector suggests that mega-mergers of such scale can only be executed on friendly terms.

But Mr O'Halloran's window of opportunity may close early next year when IAG boss Michael Hawker is expected to make a plunge on a joint venture in the Chinese auto insurance market.

Analysts are nervous about IAG's well-flagged plans to open a growth corridor across Asia, citing intense competition in the Chinese insurance sector as a big risk factor.

CS FirstBoston analysts Nick Selvaratnam and James Ellis yesterday warned clients in a report that the prospective move into China carried high execution risk.

"We have recently met with a range of companies in China – finding that the market (especially motor) appears to be extremely competitive – with strong evidence of irrational pricing, issues in product design," the analysts stated in their report.

"Given the current share price and strong capital position, IAG is much better off from a shareholder perspective undertaking capital management initiatives rather than an aggressive acquisition path."

Apart from entering a friendly union with QBE, Mr Hawker has no choice but to proceed with the Asian program to build new revenue streams for his maturing domestic business.

IAG and QBE were in strategic talks last year on a possible union and Hawker's anticipated move to acquire a Chinese insurer in the next few months could trigger a move by QBE to lob an offer before Hawker completes an offshore deal.

The market views IAG as a well-managed operation, but it has reached a mature position in the local retail insurance market. Its growth trajectory in Australia is limited.

For Mr Hawker, there are two growth options.

The first and perhaps the most perilous path is to pursue expansion in Asia to invigorate the group's waning earnings profile.

The move into Malaysia last week through the investment in AmAssurance is a small, but significant step, in that direction.

However, if the analysts are right, further Asian investments will make the business more unpredictable, thereby rendering IAG less attractive to a takeover by QBE or an offshore insurance giant.

Mr Hawker confirmed last week that the group was in talks to make its big push into China. Such a move could force Mr O'Halloran's hand in the New Year.

It is now fairly well established that the two companies had been exploring strategic options in 2004, but in a filing to the ASX in October last year IAG stated that a merger offer had not been put on the table.

There may be a few regulatory hurdles to overcome if the two businesses decided to merge.

As the country's leading commercial insurance provider, QBE may be forced by the Australian Competition and Consumer Commission to divest some parts of IAG's commercial arm, CGU.

Most analysts do not believe that such a divestment would disturb the fundamental value of a merger from a QBE perspective.

A former business associate of Mr Hawker told yesterday that the IAG chief would be open to an offer from QBE if it made sense from the point of view of shareholders.

"He is a straight shooter who would not harm shareholder value for his own ego," the source said.

"He would consider a merger with QBE if it was the best option."