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Conclusion of the Consolidation Analysis

In document Executive Summary (Sider 56-60)

In the analysis of the companies’ market shares we emphasized that the European Commission could prohibit a consolidation if it creates a dominant player and weakens the competition in the market. In respect to this, the analysis showed that a consolidation where If or Tryg were involved would create a dominant player.

The result of the analysis was therefore that Gjensidige and Codan would be best suited for a consolidation. We argued that they would be a good fit because they both are major players in their respective countries and have a small presence in the other Nordic countries. The consolidation would make them the largest general insurer in Norway and one of the largest in Denmark and Sweden. We assume that this combination would not impede the competition in the market. Thus, the European Commission would accept the consolidation.

The analysis of the companies’ strategies also indicated that Gjensidige and Codan would be the best fit. We saw that If and Tryg’s strategic focus was to increase the profitability regarding their current business. This was also the main focus for Codan, but their strategy also included acquisition plans. Gjensidige is the only company that has a clear expansion strategy. They are the market leader in Norway and need to look to the Nordic market in order to expand their business.

From a SWOT perspective we argue that through a consolidation the companies can take advantage of the companies’ opportunities and strengths, and limit their weaknesses and threats. Based on the consolidation analysis we therefore assume that Gjensidige and Codan are best suited for a consolidation. Next, we need to state the roles of the two companies.

We will base this decision on the information from the annual reports and on the owner structure of the two companies. By assessing the annual reports it is obvious that Gjensidige has a greater focus on expansion compared to Codan.

51 In Gjensidige’s annual report it is stated that they would seek to gain growth through acquisitions in the Nordic region.67 Codan on the other hand has no clear expansion strategy.

Furthermore, a review of the two firms’ ownership structure indicates that it would be easier for Gjensidige to perform a consolidation. Unlike Gjensidige, Codan is owned by another company. Codan’s decisions regarding consolidations are therefore greatly influenced by their mother-company. Based on this we find it more likely that Gjensidige would seek an acquisition in the Nordic region, and we will therefore consider the scenario where Gjensidige will be the buyer and Codan will be the target firm.

In the rest of this thesis we will evaluate and analyze whether or not a consolidation between Gjensidige and Codan is financially profitable and possible. In order to answer that, we will perform a financial statement analysis of Codan including a valuation, and we will analyze the synergy effects involved.

67 Annual Report 2009 Gjensidige, p. 10


5 The Financial Statements of General Insurance Companies

In order to understand the financial statement analysis, we find it relevant to explain in short how general insurance companies report their income statement and balance sheet. We will explain the common key numbers and how income is generated. The objective is to give the reader a better understanding when looking at the reformulation of the income statement and the balance sheet.

Illustration 6

Own Creation. Source: www.irmi.com and www.lloyds.com

5.1.1 Underwriting Result

The underwriting result is recognized as one of the most central performance figures. This is because the underwriting result describes the income from the insurance operations, showed in the illustration above.

The underwriting result is the sum of premium income minus claims and expenses. The claims account for the claims occurred in the given period. The expenses on the other hand, account for the expenses related to the operations.

The underwriting result is often showed as the key ratio, combined ratio. This ratio is a combination of the claims and expenses divided by premiums. If the combined ratio is 100%, it means that the insurance company uses all its premium income to cover the claims and expenses. Thus, depending on the investment result, an insurance company should gain a combined ratio below 100% in order to make profits.

Income Statement: Balance: Key Ratios:

Premi ums Assets:

- Cl a i ms Inves tment As s ets

- Expens es Rei ns ura nce Sha res

= Underwritning result Recei va bl es

+ Interes t Ra tes Other As s ets a nd a ccrua l s

= Insurance Result Liabilities:

(+/-) Inves tments Equi ty

- Tra ns fer to Interes t Ra tes Ins ura nce Provi s i oni ng

= Result before Tax Provi s i ons

Debt Accrua l s

= Cl a i ms Ra ti o (%)

= Expens e Ra ti o (%)

= Combi ned Ra ti o (%) Cl a i ms

Premi ums

Expens es Premi ums

Cl a i ms + Expens es Premi ums

53 5.1.2 Investment Result

In addition to the underwriting result, insurance companies operate with large investments creating an investment result. These investments are a combination of both investments bound to operations and investment of free equity. The investments are commonly a portfolio containing bonds, real estate and stocks.

As a result of prepaid premiums from customers and that claims are paid backwards, the insurance companies create a return by investing the provisions. Illustration 6 shows that the return created on provisions is transferred in the financial statement to affect the insurance result as interest rates. Most commonly the provisions are only invested into bonds in order to minimize risk.

The equity not bound to the insurance operations is also invested. This equity is known as free equity, and it brings an additional investment return.

5.1.3 Dividing the Equity

Naturally, insurance companies want the return on their investments to be as high as possible.

However, risk is an element that has to be taken into consideration. As explained, the total income is a combination of the cash flow from the insurance operations and the investments.

The interest result that influences the insurance result needs to be treated with low risk, because it affects the amount available for paying claims.

If the provisions are too low, insurance companies generally have equity to cover 100% of the insurance operations. The largest part of this equity is placed in financial assets. The free equity, on the other hand, is not directly involved in the insurance operations and can therefore bear higher risk.

To sum up, the risk profile for equity involved in the insurance operations and financial assets is not identical. Therefore, it is important to divide the equity bound to operations and the free equity in order to create consistence between the return and the risk.

54 Basic balance equation: Total Equity (=book value)68

The basic balance equation above shows how much of the total equity that is invested in the insurance operations, and therefore how much of the total equity that is free equity invested in net financial assets.

In document Executive Summary (Sider 56-60)