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Onex Corp., the Bay Street private equity giant, has made a specialty out of investing in industrial sectors, typically by buying "carved out" divisions of larger firms such as IBM and Boeing. Its latest deal – a $2.3-billion (U.S.) purchase of U.S. property-and-casualty-insurance brokerage USI Holdings Corp. from Goldman Sachs Capital Partners – may be a departure, but it looks to be a shrewd investment nonetheless

There are three reasons to like the deal, in which Onex is making a $125-million investment through its Onex Partners III buyout fund.

First, USI, the ninth largest insurance broker in the U.S., has been growing rapidly through consolidation; its nine deals this year, including the purchase of TD Bank's U.S. brokerage business, have added $103-million in revenue to the $660-million it earned last year.

The top 10 U.S. firms have just 31 per cent market share, while 890 firms with upwards of $5-million in revenue account for another 23 per cent, and 3,300 more are at the $1.25-million to $5-million level. Consolidation combined with organic growth has helped USI boost operating earnings to $199-million, or 29.4 per cent of revenues, up from $150-million ( 23.9 per cent) in 2009.

The second reason to cheer the acquisition is that the U.S. insurance business appears to be in the early stages of an upswing. After seven years of rate decreases, insurance rates have increased steadily over the past year. That has been driven by insurance carriers desperate to improve profits following a sustained period of low interest rates, declining reserves and big losses from catastrophes.

Further growth should come if the economic recovery holds, as more Americans buy policies for big-ticket items. The good news for brokers is that they are the first to benefit from rate increases, as their revenues are based on commissions and fees. During the last period of sustained increases from 2000 to 2004, the five public U.S. brokerages increased earnings by an average of 18.7 per cent annually while operating margins expanded by 9.1 per cent and their shares outperformed the S&P 500, according to analysts at Stifel Nicolaus. If the upswing holds, brokers – including USI – should do well again.

The third reason to like the deal is Obamacare. Just over half of USI's business comes from providing employee benefits and consulting services to "lower middle market" firms with 100 to 200 "covered lives," in industry-speak. Many are served by smaller brokers who "can't possibly afford the resources necessary to address the changes coming from [health care reform] and other regulations," Mike Turpin, an executive with USI told industry journal Business Insurance in July. So USI has been looking to buy boutiques specializing in this end of the market, where it can inject its expertise and help modestly sized firms make the transition to the new regime.

Goldman has made a nice return on USI since buying it for $1.4-billion five years ago; Onex appears set to continue boosting its value.

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Tickers mentioned in this story

Study and track financial data on any traded entity: click to open the full quote page. Data updated as of 28/03/24 1:03pm EDT.

SymbolName% changeLast
GS-N
Goldman Sachs Group
+0.6%417.75
TD-N
Toronto Dominion Bank
-0.73%60.2
TD-T
Toronto-Dominion Bank
-1%81.45

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