#303 | Consolidated Distribution, Proprietary Products

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I want to acknowledge that much of the information from this article comes from very helpful third-party sources. This topic isn’t exactly in my wheelhouse, but it’s getting to the point where I felt like I wanted to write about it – and particularly from the perspective of what it means for product, which is what I cover at the tail end of the article.

Last week, a bombshell went off on the independent side of the life insurance business – Lion Street, one of the largest high-end distributors of life insurance in the country, was acquired by Integrity Marketing. Accompanying the announcement was a professional-grade, 3-minute video with both groups talking about the benefits of the transaction amidst a backdrop of Pacific golf courses, private jets and slow-motion shots of Steve Young, the famous quarterback who is the Chairman of Integrity’s Board. The question on most people’s lips – who in the world is Integrity Marketing?

To say that Integrity Marketing has been buying insurance brokerages would be like saying that Usain Bolt can sprint. It’s a true statement that completely understates the magnitude of what’s actually going on. Integrity’s acquisition history starts in 2016 with an investment by the private equity firm headed by Steve Young, HGGC. Over the next 3 years, Integrity made something like 14 acquisitions, almost all of which were independent brokerages focused on the Senior market, primarily Medicare Supplement insurance, or Med Supp.

In late 2019, Integrity got another shot in the arm from another private equity firm, Harvest Partners, and the pace of acquisitions accelerated again. In 2021, they made an incredible 51 acquisitions – averaging one per week, primarily in the Senior market for Med Supp and Final Expense. That same pace has continued into this year with 6 acquisitions in 6 weeks after receiving a massive $1.2 billion investment from Silver Lake, a large PE firm, for a minority stake rumored to be about 20% of the business. That values Integrity at a colossal $6 billion – for a firm that in a mid-2020 video was loosely described as being a “billion-dollar company” by someone who was probably exaggerating a bit for effect. Quite a trajectory.

But Integrity is increasingly putting jewels in its crown that are very different than Senior shops selling Med Supp and Final Expense. In addition to a smattering of technology-oriented firms, Integrity has been buying brand names in the individual life and annuity business. Last March, Integrity bought Brokers International, one of the largest annuity IMOs in the country at something like $3 billion in annual production. Last August, Integrity also snapped up One Resource Group, a large and diversified distributor with meaningful annuity, individual life and Final Expense operations. Brokers Clearing House, a longstanding force in the independent BGA space, was acquired last November. And, to cap it all off, Integrity entered the high-end life space with Lion Street in January.

If it feels as if Integrity is buying everything under the sun in insurance distribution, then let me throw more fuel on the fire – they’re hardly the only ones doing it. Simplicity Marketing, a PE-backed re-brand of annuity IMO Futurity First, has made dozens of life insurance and annuity distributors over the past few years. AmeriLife, another PE-backed firm, has branched out of its traditional Senior market to buy firms across the independent life and annuity spectrum, even snapping up a Health TPA operation and Brookstone, a relatively large RIA. Publicly traded Gallagher has also bought up quite a few firms recently. There seems to be no shortage of hunger for distribution – and capital to make acquisitions.

And, of course, this distribution acquisition spree isn’t just confined to the insurance industry. Distribution is being rapidly purchased and aggregated across the financial services industry. My financial advisor works at the largest independent RIA in the Charlotte market and his firm was just snapped up by a firm in Minneapolis. It’s happening everywhere. The landscape for distribution is changing right before our eyes. The boutique distribution firm is dead. Long live the roll-ups.

I would argue that the benefits of rolling up smaller firms is a hierarchy, starting with aggregation for economies of scale. Corporate, back-office services and technology can be consolidated at the parent company, leaving each individual firm to “do what it does best,” which is presumably the front-office functions. It seems like a bulletproof strategy. But in reality, economics of scale are often hard to generate. Seemingly similar firms turn out to not be so similar after all. Localized back-office functions prove to be more integral to the front-office experience than previously thought. Entrepreneurs and their staff grate at “corporate” oversight and crave their former independence. Technology systems are impossible to integrate. The track-record of actual cost efficiencies of aggregation is spotty, at best, and that’s certainly true of historical life insurance aggregators.

One rung up from aggregation is conglomeration, combining like and unlike firms within one parent structure to generate network benefits across the organization. The attraction for the firms being acquired is that they’ll benefit by receiving referrals from their sibling firms operating in different lines. This feels like it should be a huge opportunity. I remember MetLife getting very, very excited about the potential to cross-sell products across its Group, P&C and Individual lines and investing heavily to make it happen. The result was barely a trickle of sales – and MetLife is hardly alone. Cross-selling rarely works as well in the real world as it does in theory and for a host of reasons that are not solved simply by bundling many companies under one corporate umbrella.

At the pinnacle of the roll-up hierarchy is an intoxicating and elusive goal – transformation. It’s not just about buying firms for economies of scale. It’s not just about cross-selling. It’s about fundamentally transforming the businesses you’ve purchased to make them much more valuable than they were before, enabling huge organic revenue growth. I would argue that’s what it looks like Integrity and Amerilife are after. On their website, they call themselves an “insuretech” company, not an insurance distributor. They play up their technology platforms, data analytics and customer insights. They’re making the case, it seems, that they’re not just aggregating and conglomerating – they’re literally transforming the firms they’ve acquired into technology-focused insurance distributors.

And, for that, the implication is that they should get a tech valuation.In general, I’ve heard that roll-up firms are paying between 10-12x EBITDA and more than that for the jewels in the crown.The pitch to entrepreneurs selling a company that often represents their life’s work is a blend of guaranteed cash, guaranteed salary, potential cash upside for results – and equity in the roll-up company. viagra rosa prezzoHow much will that retained equity be worth?

If the roll-up is to be believed, far more than the 10-12x that they paid to buy the distributor. Tech multiples are more on the order of 20x. It’s an enticing carrot for the seller, as long as things go to plan, especially if the seller is close to retirement and doesn’t have a succession plan. Being bought is a clean off-ramp with guaranteed cash, huge potential upside and the opportunity to start all over again once the 2-3 year guarantee period burns off. Why not take the deal?

Little wonder why many independent distributors are selling now while the multiples are good and the acquirers are many. These things come in waves. Prior to the financial crisis of 2008, several firms executed on roll-up strategies in the independent distribution space. I think it would be hard to argue that those strategies ultimately created lasting value for shareholders or proved to be a sustainable business model. Roll-ups need three things in constant supply – capital, acquisitions and earnings growth. If any one of them falters, then the model collapses. It’s too early to tell how and when this new crop of roll-up firms will falter, but if history is any indication, it will happen. It’s only a matter of time.

But there is a new wrinkle to the story this time around and it’s in an unexpected place – product. Increasingly, large distributors are requesting (and sometimes demanding) that insurers build a “proprietary” product just for their company. These firms are big enough for the life insurer to justify the investment to do it and, in the grand scheme of things, it’s a pretty cheap way to win market-share. For the distributor, a proprietary product offers a unique angle for recruiting and competition. And, often, an extra fee for helping to co-develop the product that is paid to the distributor’s dedicated product development company.

This model has become so prevalent on the annuity side of the business that it’s becoming somewhat difficult to find a successful new product that isn’t affiliated by a distributor. Historically, we haven’t seen that happen on the Life side except in a couple of limited circumstances, most notably M Financial. But that dynamic is beginning to change. Simplicity, Annexus, Ash and a smattering of other firms have successfully partnered with life insurers to build proprietary or quasi-proprietary products. The larger the roll-up firms become, the more likely they are to demand concessions from life insurers in the form of proprietary products.

The result is going to be something of a fracturing of product in the life insurance business. We’ve long taken for granted the fact that life insurance products are largely universal across all distributors. Now, product access will likely become another point of differentiation for distribution firms, as it has been for M Financial for years. M firms love to tell their clients that M products are “unique,” “proprietary” and “institutional-grade” – never mind the fact that most M proprietary products are near-clones of street products. But the story resonates and it’s been a thorn in the side of the rest of the industry, making M simultaneously one of the most revered and reviled firms in our industry.

Now, imagine a world where every major distributor has a suite of products built just for that firm. If the annuity side of the business is any indication, that world is going to become a reality for life insurance. And it’s hard to say that we’ll be better for it. The reason why M could make a compelling argument for proprietary product is because it has long made the case that its distribution has a structural advantage in mortality because M firms serve almost exclusively high-net worth clients.

That’s not the case for these roll-up distributors. Instead, they’re simply trading on their size. Their products aren’t going to be structurally much different than street products. Instead, the differences are going to be primarily cosmetic – different compensation structures, different index or fund options, maybe a unique early cash value rider, underwriting program, a spread death benefit rider, things like that. Product designs that could be made available to everyone, but aren’t because the roll-up has demanded exclusivity.

The problem with these types of proprietary products is that they primarily add value to the distributor and not necessarily to the client. They’re tools for competition and recruiting, not usually tools for delivering better results for clients or even the advisors that actually sell them. The more these products proliferate, the more confusing the competitive landscape.

The classic example in market right now is Securian’s BGA IUL. The actual product itself is identical to their street product, Eclipse Accumulator IUL. The difference is solely in the index strategies that are available. And yet, BGA IUL is flying off the shelves while Eclipse Accumulator languishes. Why? Because it’s exclusive to Annexus and the distribution firms that Annexus has partnered with. Will it actually produce better results for clients? Who knows. Index choices are cosmetic, not structural decisions. All else being equal, BGA and Eclipse Accumulator should perform identically over time – and yet one is hot and one is not because of distribution, not the product.

Increased prevalence of proprietary product also puts pressure on the independent firms that made the informed decision not to sell. These firms value their independence. And some of these firms are fairly big in their own right – think firms like Valmark, AgencyOne and BUI. But they’re not big enough to get their own proprietary products. If you want a proprietary product, you have to make big production promises. A production promise implies that the distributor can steer production to a certain carrier and product above all others. It’s the antithesis of the impartiality and independence that has been the bedrock value proposition for insurance brokerage firms since their emergence decades ago.

And not just for the distributors. Life insurers should be extremely careful about when, how and how often they dance – and even more importantly, who they dance with. For every proprietary product on the annuity side that has been a smash success, there have been something like 3 failures. And who pays the price? The life insurer. Proprietary products are inherently divisive. They drive wedges between life insurers and distributors without access to the product. If the product is a flop, then the life insurer has lasting reputational and relational damage with nothing to show for it.

But even worse, if the product is a success, then that life insurer will be tied to that distributor forever because other distributors are loathe to sell that carrier’s product. On the annuity side, there are distributor-carrier relationships forged over successful products that are so strong that other distributors literally refuse to sell non-proprietary products from that carrier. Proprietary products in small doses seem beneficial and may produce stellar results, but in large doses they may prove to be toxic.