No sale: Despite Gramm-Leach-Bliley, there are still obstacles holding back bank and insurance company mergers. (Industry Strategies: Banks in Insurance).

Since passage of the Gramm-Leach-Bliley Financial Services Modernization Act on Nov. 12, 1999, only a handful of banks have acquired insurance companies, and those acquisitions have been relatively small deals. This lack of bank-insurance melding flies in the face of what was anticipated--a flurry of cross-industry activity to create one-stop shops like Citigroup, the icon of financial-services convergence. No one expected that Citigroup would announce the company's spinoff of Travelers Property Casualty Corp. less than two years after it acquired all shares of Travelers Property Casualty stock it did not already own.

The industry's recognition that banks and insurance companies don't necessarily make good bedfellows involves impediments in several important fronts:

Regulation. Banks and insurance companies operate within two different regulatory environments. Unlike banks, which have federal oversight by the Office of Thrift Supervision, insurance companies are state regulated. To address one aspect of state regulation, a provision of Gramm-Leach-Bliley requires U.S. jurisdictions to adopt uniform or reciprocal agent-and broker-licensing laws by November 2002 (three years from the enactment of the law) to avoid the creation of a National Association of Registered Agents and Brokers. Although the National Association of Insurance Commissioners said it had succeeded in satisfying the Gramm-Leach-Bliley requirements by having enough state legislatures pass bills permitting reciprocity, there are other issues raised by state regulation, like duplicative administrative processes.

Insurance companies are unable to respond to market changes and consumer demands on a timely basis, because they are subject to regulation (rate filings, new product approval, etc.) by each insurance department in the states in which they do business. To address this, a number of different industry organizations have advocated the federal chartering of insurers. And Sen. Charles Schumer, D-N.Y, and Rep. John LaFalce, D-N.Y, introduced legislation that would permit the optional federal chartering of insurers. Clearly, the regulation of insurance companies is evolving, and it is uncertain how it will play out. (See "State vs. Federal," Best's Review, April 2002.)

Technology. Banks generally have been quicker to embrace technological innovations than their insurance counterparts. Due to the nature of the business, banks are better able to use technology to accelerate the rate at which they interact with their customers, thereby creating customer loyalty and profitable relationships. Insurance products are not as interactive--a consumer usually purchases auto or homeowners insurance and forgets about it unless an event prompts action. Insurance products also do not lend themselves as easily to online purchase because of underwriting issues. Moreover, the insurance industry is known for relying on antiquated legacy systems and using reams and reams of paper.

Financial. According to SNL Data-source, the median return on average equity in 2000 for insurance companies was 7.42%, compared with a 12.2% return for

banks. Because insurance companies as a whole have had lower returns on average equity than their bank counterparts in recent years, they aren't the most attractive acquisition targets. It is no surprise that a bank would be reluctant to sink its capital into an entity with a lower return. Many observers believe that Citigroup, which is considered a higher-growth financial-services organization, spun off its property/casualty business because it would not realize double-digit organic growth.

The Agency Allure

Generally, banks want to accomplish two goals by acquiring an insurance entity: to diversify revenue sources (a move away from interest-sensitive products to more fee-based income) and to provide customers with financial products outside the realm of traditional banking products. A number of banks have accomplished these goals by acquiring insurance agencies instead of insurance underwriters. These types of acquisitions provide the best of both worlds--a diversification of revenue sources and products, without taking on the underwriting risk or return-on-equity drag. In fact, banks bought insurance agencies for years before the passage of Gramm-Leach-Bliley. According to SNL, there were nine acquisitions of insurance agencies by banks completed in 1996,20 in 1997 and 33 in 1998. Bank-insurance agency acquisition activity almost doubled in 1999, with the completion of 54 deals. The number of acquisitions peaked in 2000 with the completion of 62 deals, then decreased to 43 transactions in 2001.

Several banks have been aggressive in their acquisition of insurance agencies. BB&T Corp., the 11th-largest insurance agency network, according to its 2000 annual report, completed the acquisition of 56 insurance agencies since 1989. BB&T's efforts in the insurance arena appear to be successful, with total commission income for 2000 of $129.7 million, up from $79.5 million in 1999. Although $23.2 million was due to acquisitions, the remaining was due to organic growth.

In May 2001, Wells Fargo completed its acquisition of AGO Brokerage Corp., the parent company of insurance brokerage Acordia Inc., the fifth-largest U.S. insurance brokerage at the time. Wells Fargo already had the biggest insurance agency network among banks, with 64 offices operating in nine states with annual revenue of about $230 million. The Acordia acquisition increased the company's agency network to 176 offices in 38 states with annual revenue of about $630 million. "The acquisition of Acordia enhances our distribution capabilities and brings us closer to reaching our goal of having our insurance, trust and brokerage businesses contribute 25% of our income," said Dick Kovacevich, Wells Fargo president and chief executive officer.

BB&T Corp. and Wells Fargo are large banking institutions that have the resources to focus on areas other than traditional banking products. But these activities have not been limited to the industry giants. Smaller banks have come together to pursue opportunities in the insurance industry. Bankers Insurance LLC is a group of roughly 60 banks that pool resources to acquire local insurance brokerages. From October 2000 to October 2001, the group made six agency acquisitions. The intention of the group is to use the acquired agency resources to assist the banks in selling insurance to their customers.

According to the "2001 Study of Leading Banks in Insurance" by the American Bankers Insurance Association, agency acquisition remains the primary channel for banks to provide commercial and personal property/casualty insurance and group life/health insurance. The study shows that 49% of the banks surveyed reported selling general lines insurance in 2000, a 5% increase from 1999. The greatest increase (8%) came from banks with assets of $1 billion or less. Bank sales of general lines insurance totaled $11.2 billion in 2000, a 20% increase from 1999. Total insurance sales, which include annuities, reached $45 billion in 2000, an increase of 22% over the prior year. Clearly, the acquisition of insurance agencies by banks and strategic alliances between banks and insurance entities--such as PNC Financial Services and Hilb, Rogal & Hamilton Co. and John Hancock and Wachovia and Regions--have resulted in increased insurance product sales through bank channels.

Future Prospects

Will the trend of banks acquiring insurance agencies continue, or will financial-services supermarkets actually be a reality some day? It is likely that agency acquisitions by banks will continue into the foreseeable future. The likelihood of bank-insurance mergers, however, is much more speculative. In addition to the regulatory, technological and financial issues discussed above, merger/acquisition activity inevitably results in diverting management's attention away from core competencies, at least in the short term.

But if just one large banking concern acquires a sizable insurance company, it may provide the impetus for others to get into the fray, regardless of the various issues. As a result of the Citibank divestiture, that is unlikely to happen anytime soon, but it cannot be ruled out in the long term. After all, Allianz and Dresdner Bank announced their $20.8 billion marriage last year, a combination that alters the competitive landscape globally. It may be only a matter of time before U.S. companies have no choice but to follow suit.

Irene Weber is vice president, insurance investment banking, at Ryan, Beck & Co. LLC, Livingston, N.J.