Category: Mergers & Acquisitions

Break-ups are Painful, Difficult, and Costly; The Current Insurance Payer Merger Saga | Sherpas in Blue Shirts

In July 2015, two mammoth players in the U.S. health insurance market decided it was time to form even bigger entities, similar in size to UnitedHealth Group (which held 17 percent of the market.) First it was Aetna deciding to merge with Humana, primarily consolidating the Medicare Advantage market. A few days later, Anthem and Cigna, with a relatively more complementary membership base, decided to merge.

By the end of 2015, shareholders of all four insurers had approved the deals. However, the Department of Justice and several states (mostly Democratic ones) opposed and appealed against the mergers. In early February 2017, the federal court ruled both anti-competitive and blocked them, citing increased concentration.

Had the mergers been approved, Anthem-Cigna would have led the market with highest share of the entire insured population, followed by UnitedHealth and Aetna-Humana. In Medicare Advantage (MA), Aetna-Humana would have surpassed UnitedHealth to become the market leader.

Insurance payer mergers

Let’s take a look at what transpired in both cases.

Aetna and Humana
On February 14, 2017, the two companies mutually decided to end the merger agreement, rather than appeal the antitrust decision. Due to a contractual clause intended to ensure both parties remained encouraged by the merger prospect, Aetna will have to pay Humana a break-up fee to the tune of US$1 billion. This massive financial hit does not include various other expenses Aetna had to incur in order to prepare for the deal, including legal and accounting fees, bonds issuance fees, interest to be paid while repurchasing the bonds, and the premium it has decided to pay for bond repurchases. All told, the total cost of the merger that didn’t happen will be around US$2 billion for Aetna. This is a relatively straightforward scenario, albeit very costly for Aetna.

Cigna and Anthem
This is a much more complicated situation. Since the merger was first announced, a lot of animosity has grown between these two insurers. Cigna has gradually changed its stance from being pro-merger to anti-merger. In fact, Cigna has gone to the length of filing a lawsuit against Anthem, and asking for $13 billion in damages. This does not include $1.85 billion that Anthem owes to Cigna as a termination fee. Anthem, however, appealed this, claiming that the merger deal timeline is valid until April 30 – and it is still hopeful for merger activity.

Unless Anthem and Cigna accept the ruling without appeal and carry on with business as usual, I see two possible scenarios here:

  • Convince the new administration that the deal will have a positive impact on consumers, and get it approved with the help of the new head of the Justice Department
  • Accept the ruling, and use the money (planned or already raised) to fund acquisitions of smaller payers without triggering the antitrust regulations

The first option seems less likely. However, since the new U.S. president’s swearing in ceremony, we have seen that extreme events cannot be explicitly ruled out with the new administration. Additionally, Trump’s and Republicans’ plans to repeal and replace Obamacare will require support from the industry…and who better to support this than two of the top three publically-listed payers? Another key element in favor of these mergers being approved is that the new administration is more lenient when it comes to antitrust matters than the previous administration, as evidenced by the possible approval of the Bayer and Monsanto deal.

The second option would result in Anthem paying a hefty amount for failure to be able to complete the deal.

The high termination fees for these deals gone bad will likely negatively impact Aetna and Anthem (if indeed the Anthem/Cigna merger doesn’t happen.) For example, per the latest filings, Aetna’s net margin has declined from ~5.9 percent in 2011 to 3.6 percent in 2016, while Anthem’s was 2.9 percent in 2016, down from ~4.4 percent in 2011. As a result of the lawsuit filed by Cigna, Anthem will end up shelling out even more than Aetna, as even if we the decision is in favor of Anthem, it will still have to pay litigation expenses.

Insurance payer mergersThe road ahead for these payers is filled with uncertainty, especially for Anthem and Cigna, since they are embroiled in a legal battle. Yet one thing we can be certain of is that Aetna and Humana are watching from sidelines, potentially resuming merger talks if the Anthem-Cigna deal is approved. While it remains to be seen how the new administration reacts, things should get clearer in the coming months.

Ascender’s Acquisition of NGA’s ANZ Business: Consolidation in a Maturing Market | Sherpas in Blue Shirts

On 31 January 2017, Australia-based Ascender and NGA Human Resources announced that Ascender had acquired NGA’s Australia and New Zealand business. Part of the agreement is a partnership between the two companies to deliver payroll and HR services solutions for the ANZ region, ensuring a seamless solution for NGA HR’s global payroll and HR clients. The deal makes Ascender one of the largest HR and Payroll providers in the ANZ and APAC region.

What are the implications of the deal?

For NGA:

  • Global deals with ANZ components will continue unaffected, as Ascender will serve as a partner provider in the region with no disruption to existing operations
  • NGA will aim to use a partnership-based approach for multi-country deals originating in the ANZ region. It will no longer be active in the single country payroll market in ANZ.

For Ascender:

  • Its single country capability and reach in the ANZ region will get a boost with the addition of NGA’s services delivery and technology capabilities, specifically the Preceda and PS Enterprise HCM platforms
  • It will have access to a new set of clients in ANZ, with an opportunity to sell into other regions of APAC through the newly acquired client portfolio. This could potentially increase its multi country payroll outsourcing (MCPO) market penetration in the APAC region.

Of course, as with any deal of this type, there are numerous things those in the region should watch out for.

First, NGA and Ascender will be looking to forge a partnership in a way that is beneficial to both parties beyond the immediate operational need. The scope and extent of this new partnership will evolve and take shape as the dust settles. It remains to be seen what form it will take, especially in light of Ascender’s recent entry into the Europe-based Payroll Services Alliance, wherein eight major payroll service companies have bundled their services into a unified offering that consists of strong local expertise and services, supplemented by coordination and integration at an international level.

As far as technology is concerned, with NGA’s PS Enterprise and Preceda HCM platforms coming into Ascender’s fold as part of the acquisition, Ascender will likely seek to integrate the different system capabilities under one brand over time. As with a lot of private equity-backed acquisitions, since the focus will be on improving margins, we are likely to see more investment in consolidating and improving technology, driving automation, and increasing self-service functionality.

Although the APAC market continues to experience relatively high growth rates – 7-9% in single country payroll outsourcing and 23-25% in MCPO – the region is fairly complex, and each country requires a distinct strategy to ensure sustainable growth. For instance, while India requires a heavily price-sensitive services sales approach, a technology-driven approach works better in Australia.

With the APAC region requiring a great deal of management attention and local presence to drive continued success, global providers’ APAC arms tend to be private equity acquisition targets. Indeed, while Western economy-based global players don’t necessarily have the focus to negotiate the uniqueness of the APAC region’s HR services and payroll requirements, private equity can certainly help bring that focus to the table. For example, Ascender is backed by a private equity-led consortium, and just two years ago, private equity firm Everstone Capital bought out Aon Hewitt’s APAC business, (renamed Excelity Global).

While not all will be private equity-driven, we do anticipate more acquisitions and consolidation in this space in the APAC region as the market matures, particularly in geographic markets that are fragmented, with no clear leader in sight.

What Does the CSC & HP Merger Mean for the Services Industry? | Sherpas in Blue Shirts

Two of the three titans of the asset-intensive infrastructure services business are merging. What does this mean for the services industry?

Let’s start with why they’re merging. Clearly, the space that they occupy is a mature space. It has been undergoing tremendous competitive pressure from the Indian firms with their Remote Infrastructure Management (RIM or RIMO) offerings. After losing some initial share to the Indians, the three titans – CSC, HP and IBM – seem to have righted their ship. HP had a one percent increase in sales and IBM had a three percent increase in sales. So the space seems to have adjusted to be able to meet the Indian RIM challenge.

In addition to continuing to meet the RIMO challenge from India, the three firms dominating the space also face the issue of work migrating out of legacy into the cloud. I think we haven’t yet seen the effect of this migration hit the market in a significant way. But it’s coming.

So there are three competitive challenges causing this merger to happen:

  • Mature state of the market
  • Existing RIM challenge
  • Future challenge of cloud

It’s a win-win

Therefore, the merger makes sense. As in other mature industries, it makes sense to drive industry consolidation where a scale player can better manage the transition in a maturing market than individual players. This merger is straight from that playbook.

Therefore, the merger makes sense. As in other mature industries, it makes sense to drive industry consolidation where a scale player can better manage the It also makes a lot of sense for each entity. HP can divest itself of this mature space and focus on the faster-growing server and networking space. It frees Meg Whitman and the HPE franchise to focus their attention on the growth segment of the marketplace. So I think it’s a good play for that. It allows CSC to consolidate the infrastructure space and now positions them at the same scale as IBM with similar economies of scale and global reach. So I think both parties win. in a maturing market than individual players. This merger is straight from that playbook.

But it faces big challenges

The challenges for the leadership team under Mike Lawry are twofold:

  • Capturing synergies to achieve cost reduction
  • Making strategic investments in areas where the merged entity can grow

A significant challenge will be to achieve the cost reductions without affecting customer service and disrupting the customer base.

The merged entity is estimated to have $1 billion in synergies in year one – in other words, duplicate cost that can be eliminated. That’s about six percent of their cost base and seems like a reasonable going-in assumption. However, in this case I think it will be challenging, given that both CSC and HP are coming from having recently aggressively adjusted their cost bases to become competitive with the Indian challenge and therefore do not have large inefficiencies or fat that is available to cut without adversely affecting customer service. This will focus the synergy exercise on duplication of resources, which makes the billion-dollar target more difficult.

In addition to improving margins through these cost-cutting exercises, the merged entity will have to make strategic bets to invest in critical market segments and industries that will allow it to grow and offset the ongoing challenge from the India-based RIM players as well as the workload migration out of legacy and into cloud.

Net-net

Net-net, I think this merger is good for CSC and HP. I also think it’s good for the industry in that the combined entity is better able to manage this transition than they would have individually. But substantial challenges remain for the combined entity to continue its cost reductions as well as invest in growth areas. Mike Lawry is an old hand with experience at this type of game and has had ample time to perfect his strategies from when he took over CSC. Now he has a bigger field to play on.

 

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