Arthur J. Gallagher & Company (AJG) — Q4 2018 Earnings Call Transcript

Thank you, Devon. Good afternoon. And thank you for joining us for our fourth quarter and full year 2018 earnings call. With me today is Doug Howell, our Chief Financial Officer, as well as the heads of our operating divisions. As I do each quarter, today I’m going to touch on the four key components of our strategy to drive shareholder value. Number one, is organic growth. Number two, is growing through mergers and acquisitions. Number three, is improving our productivity and quality. And number four is maintaining our unique culture. The team once again executed on all four resulting in another great quarter and a fantastic year. Let me start with some financial highlights for the quarter. Our core brokerage and risk management segments combined to deliver 11% growth in revenue, 5.8% all in organic growth, adjusted EBITDAC margin expansion of 45 basis points and we completed 19 tuck-in mergers during the quarter, representing about $90 million of annualized revenue. And let’s not forget about clean energy. $22 million of after tax earnings in the quarter bringing the full year total to almost $119 million, just a great performance by the team. Now for some more detail on our results starting with the brokerage segment organic. Fourth quarter organic growth was 5.6% all in, reflecting strong base commission and fee growth of 5.9%. Combined, supplemental and contingent commission growth was 1.7% light by about $2.5 million in the quarter, mostly related to catastrophe loss experience. This shortfall didn’t move the organic needle much, but it did pull our brokerage margin expansion down from 65 basis points to 70 basis points to 46 basis points. Regardless, a really strong result by the brokerage team in the face of a tough comparison from last year’s fourth quarter. Let me break down our fourth quarter organic growth around the world. First, our domestic property casualty operations had a really great quarter, with base organic of over 6%. Our domestic retail benefits operation was closer to 2%, which is good performance given that the unit was up against that tough comparable of nearly 8% in the fourth quarter of 2017. Outside the U.S., our U.K. operations posted 8% organic growth. Canada was up 6% and Australia and New Zealand grew around 9%. Property casualty rates and exposure combined are trending higher across all major geographies and continue to be a modest tailwind to our organic growth. Similar to last quarter, these two factors added a little over a point to organic. Let me give you some rate soundbites during the quarter, focusing on a few noteworthy lines of business. In our retail P.C. business, commercial, auto and property lines are up about 5% and workers compensation is down a little less than a point. In our domestic wholesale operations, property and commercial auto lines are up 4%, casualty lines are up 3%, and workers compensation down over 3%. U.K. retail is flat or modestly positive across almost all lines with the exception of professional liability, which we see up over 5%. In Canada, property is up more than 4% while commercial auto and casualty lines are up less than 4%. And finally, Australia, New Zealand continue to show the strongest impact casualty and specialty lines are up over 5% and property is up around 9%. Overall, the PC market remains stable, similar to past quarters, but we do see it trending just a little higher than what we saw in the fall of 2013. Regardless, it’s a market that is good for brokers, it’s good for carriers, and most importantly, it’s good for our clients. Looking forward, 2019 brokerage organic growth feels like it will be around 5%. Next, let me talk about brokerage merger and acquisition growth. 2018 was an outstanding merger and acquisition year. We completed 44 mergers, representing about $318 million of the annualized revenues. I would like to thank all of our new partners for joining us and I extend a very warm welcome to our growing Gallagher family of professionals. Looking toward 2019, our merger and acquisition momentum continues. So far this year we have announced seven mergers representing about $130 million of annualized revenue. In addition, our internal M&A pipeline report shows around $350 million of revenues associated with about 50 term sheets, either agreed upon or being prepared. While not all of these will close, the continued strength in our pipeline shows our ability to attract tuck-in merger partners at fair prices, who are excited about our capabilities and believe in our unique culture and realize that we can be more successful together. Moving to productivity and quality. As I mentioned earlier, lower contingent commissions tempered brokerage margin expansion by about 20 basis points in the quarter. But even with the shortfall in contingents, adjusted EBITDAC margin was up 46 basis points in the quarter, a really nice result. The brokerage team continues to work hard to find efficiencies across the organization and further leverage our scale, helping us become better, faster, and deliver higher quality service to our clients. Next, let me move to our risk management segment, which is primarily Gallagher Bassett. Fourth quarter organic growth was a really strong 6.7%, domestic organic was 6% and international posted 11%. In the U.S. workers compensation and general liability claim counts are moving higher, and finished the year up around 3%. Our insurance carrier business once again grew nicely during the quarter as more and more insurance carriers realize that we can customize and handle claims more efficiently. Outside the U.S. growth was excellent in Australia and the U.K., which reflects our ability to deliver superior claim outcomes for our clients anywhere around the globe. As we look forward, 2019 risk management segment organic growth feels like it will be in the 6% to 7% range. Moving to mergers and acquisitions; Gallagher Bassett completed two mergers in the quarter, an Australian-based provider of worker risk management services, and a U.K.-based provider of property repair services. These are two excellent examples of the type of specialized partners we are attracting to Gallagher Bassett. In terms of margin, the risk management segment fourth quarter adjusted EBITDAC margin was increased by 17 basis points. This brought our full year adjusted EBITDAC margin to 17.4% within our 17% to 17.5% expectation. Looking forward, we see margins in a similar range next year as the team leverages its scale through shared services, increases its utilization of our offshore and domestic service centers, and invests in technology and analytics. And finally, I’ll touch on what truly distinguishes our franchise, and that’s our culture. It is a culture that values teamwork, ethics, client service, and a dedication to the communities we operate in. The core tenets of our culture, which have been part of this company for generations are memorialized in the Gallagher way penned by my uncle in 1984. Every day, our colleagues get up and work diligently to maintain our culture, to promote our culture, and to live our culture. There’s a culture that has also been recognized externally. This past year we were the only insurance broker to be recognized by Forbes magazine as a world’s best employer and for seven straight years we have been named the World's Most Ethical company by the Ethisphere Institute. Awards and recognitions aren’t everything, but I believe these continue to show that even as we grow and become more global, our unique Gallagher culture resonates with all of our offices. Okay, an excellent quarter and a tremendous year on all measures. I’ll stop now and turn it over to Doug.

Thanks Pat, and good afternoon everyone. Today I’ll highlight a couple of things in the earnings release and then move to the CFO commentary document we posted on our website. But first, as Pat said, a great quarter to wrap up a fantastic year, deserves special mention. I’d like to thank all of our worldwide professionals for such a strong finish. Okay, to the earnings release. Pat hit the highlights of the brokerage and risk management segments. So let’s turn to page 9 to the corporate segment shortcut table, that’s a little noisy. So let me break that down. First, you’ll see that we had a terrific quarter for clean energy, due to favorable December weather conditions our clean energy earnings came through to post an additional $3 million of after-tax net earnings than we had forecasted during our December 11th Investor Day. That completely offset the slight shortfall in contingents that Pat mentioned earlier. In effect, a nice weather hedge for our total corporate earnings. I know it isn’t technically a hedge, but it certainly worked that way this quarter. Second. You’ll see that we had two favorable items that we have adjusted out. So looking at the last line in the fourth quarter table, that’s at the top of page 9. That’s the adjusted line. You’ll see that our corporate segment came in about $5 million better than the midpoint estimates we provided during our December IR day. The first adjustment is the favorable impact of reorganizing our legal entity structure, a $22 million benefit from releasing a tax value valuation allowance. It’s not really a cash item this quarter, but it does help reduce our ongoing administrative costs, and it will reduce cash taxes paid over the next 10 years, equating to a couple of million dollars a year of cash savings going forward. The second adjustment is an $8.9 million favorable impact from clarifying guidance issued last month related to the Tax Reform Act passed in December of 2017. It clarifies how U.S. taxes the earnings of our foreign subsidiaries. I’ll come back to the other corporate segment line items in a few minutes when we get to the CFO commentary. Next, flip to page 10 of the earnings release. The third item from the bottom called other. We did sell a small brokerage unit in January. We thought the product and customer service offering fit better with the buyer’s underwriting business. So it ended up being a nice win-win for both of us. Let’s go now to the CFO commentary document, to page 12. We’ve now provided our first look at items for 2019. Two modeling notes. First, amortization expense. Please take a quick look at your brokerage segment amortization packs. We’re forecasting $74 million in the first quarter and as a footnote says, you’ll need to tick that up a couple million a quarter for M&A that we could do for the rest of the year, and that will get you close. Second, the earnings from non-controlling interest line. Our first quarter is when our brokerage segment has the largest impact from earnings from non-controlling interest. Please double check your models as this has caused some modeling noise in the past. Let’s now turn to page three to the corporate segment, let me walk you through that page. First, the blue section is just a reprint of a corporate shortcut tables from our earnings release this year. Next, we’ve added the yellow adjusted section to remove the favorable tax items, I discussed with you a minute or so ago. We believe the yellow adjusted numbers are more helpful when comparing to both the grey section that’s just a reprint of our estimates given last month during our December IR day, and in comparison to the pinkish section, which is our first estimates for 2019. Let me take each line in that table. Interest and banking. Our fourth quarter came in better than our December estimates, call it a million dollars after tax. Stronger cash flows in the fourth quarter kept us out of our line of credit. Our borrowings are a little bit lower. As for 2019, again in the pink column, you’ll see that our estimates for interest expense are going up to reflect our additional $600 million of borrowings, as noted in Footnote 1 on that page, and also in the 8-K we filed with our earnings release this afternoon. We use all of that for M&A, which I’ll touch on later in my comments. Moving down to the M&A expense line. M&A expenses ran a little hot in the fourth quarter, coming in about $4 million more than our estimates. It’s simply more external, legal and due diligence costs related to two international deals that we’ve recently announced, and one larger domestic deal that we pulled the plug on in December. Looking forward, we see 2019 more like the first three quarters of 2018 than we do the fourth quarter of 2018. The corporate line, adjusted fourth quarter came in about $3 million better than our December IR day forecast. Looking forward, we again see 2019 being more consistent with adjusted 2018. So let’s go next to the impact of tax reform line. While the guidance gave us a benefit in 2018, unfortunately other guidance takes away a different benefit in 2019. So you’ll see that 2019 is more in line with the adjusted amounts in the yellow columns, but again, it’s very important to remind you that this line is mostly a book expense not cash because the additional taxes are nearly all offset by the use of our credits. In the end, tax reform has been a home run for Gallagher. Finally, to clean energy. As I mentioned earlier, the fourth quarter came in about $3 million better than we forecasted due to a cold last half in December. When you look at our full year 2018, we estimate that ideal weather patterns contributed about $8 million to our full year net earnings of $119 million. So now, as we and our utility partners look out over 2019, we’re not expecting increased production levels from another ideal weather year. Rather, something closer to production levels we saw back in 2017. It’s fantastic we’re still forecasting another year over $100 million in net earnings, but we just don’t see it as being amazing as it was in 2018. Okay let’s flip to Page five of the CFO commentary. You’ll see that we’ve updated our roll-in revenue estimates for mergers that we have announced thus far this year. Usually our first quarter is a little slow, but it’s certainly not the case this year. For full year 2019, let’s say we can do about $1.5 billion to $1.7 billion of M&A with free cash and debt. That consists of $300 million of cash on hand, will generate another $700 million after our dividend here in 2019, plus another $600 million borrowing that I mentioned earlier. Of that, we use or will use about $500 million for mergers we’ve already announced, and have been included in our roll-in revenues in the table, meaning that we still have about a billion dollars to fund additional M&A in 2019. In 2018, our weighted average multiple was around 8.3 times, and it equates to much lower than eight times when you factor in our tax credits showing that we can execute our tuck-in merger strategy at fair pricing which gives us a nice arbitrage to our trading multiple. Okay. Those are my comments. An excellent quarter to close out an outstanding year and we’re in a really terrific position to continue our success here in 2019. Back to you, Pat.

Thanks Doug. Devon, I think we can go to questions and answers now.

Hi, good evening. My first question going back to some of your comments Pat when you kicked off the call. You described the market as stable, but you did say, it’s a little bit better than the fall of 2018, which is good to hear, but then also you said organic growth probably around 5%. I know you guys have been talking about 2019 being about the same as 2018. So it came in at just 5.6% this year as well. So is there any reason I know it’s only half a point slowdown, but how you’re kind of coming to that 5% cost next year to drop a little bit from where 2018 was?

Yes, I think that item, Pat and I were discussing. I believe it’s just a bit more cautious than what we are observing this year. We will evaluate how our contingencies and supplementals perform next year. We’ll see if there is any slowdown in the economy; we’re not noticing it right now, but I think a 5% estimate feels more accurate than 6%, that’s for sure.

Plus I think, Elyse, when rates go up a little bit, what we really had a hard time tracking is the opt-out. So for instance, someone may take a higher retention, bringing that premium back down. Someone may drop limits. Instead of buying $100 million, drop it down to $50. It’s really hard to track that stuff. So as rates go up, they don’t just flow through, which is why when you see us talking about rates up here at 5, and somewhere there 3, and in Australia New Zealand 9. But the impact to the company from rate and from exposure units is only about 1%.

And you would expect it to continue to be about 1% in 2019 as well.

Yes.

Yes. Okay. And then on, another question. You guys are going to be issuing some interest expense. It sounds like the M&A pipeline is very robust. So obviously we update our models to factor in higher corporate expenses due to the interest expense here, but then the offset should really be that it sounds like there’s going to be a lot more revenue flowing through this year. So can you just give us a sense, I mean, obviously decent uptick in corporate expenses, but is the offset that as you guys kind of model this through internally you see earnings going up because it’s the firepower it gives you to finance future transactions.

Yes. I think, Elyse, I think it’s important to look at page 5 of the CFO commentary, for just acquisitions that we’ve closed and we have announced thus far this year, the roll-on impact is 92 million bucks in the first quarter 80 million in the second, but then there’ll be new acquisitions that come on there too. So yes, if you push up your interest expense and your model, you need to make sure that you put in the role and impact of the acquisitions that we’re using that debt for.

Okay. That makes sense. You achieved 318 million in annualized revenue in 2018 and have already reached 130 million this year. Given the strong start to the year and the pipeline you mentioned earlier, I would assume that the acquired revenue from deals announced for all of 2019 is expected to be higher than in 2018.

Yes probably 40% higher, 30% to 40% higher.

Okay that’s great. And then you guys didn’t call out just one last margin question. I know there were some acquisitions that were dilutive to your margins in the third quarter, and the thinking was that for the full year on an annualized basis they would be margin kind of neutral. Did you see a benefit in the fourth quarter or? Or is that something that we think about more benefiting the first half of 2019 margins?

Yes, it’s about 7 basis points in the fourth quarter, which left almost nothing. For the entire third quarter, I believe it was around 40 basis points, or possibly just 10 basis points positive in the first half and a little in the fourth. So, year-to-date, not much.

Okay. That's helpful. Thank you very much. I appreciate the color.

Thanks Elyse. Have a good evening.

Yes, thank you and good evening. So my first question is on margin. So if you look at past three years, mentally, what I’m drawing two lines. If you look at organic gross, 2016, 3% 2017, 4% and 2018 is almost 6%. So the organic growth accelerating, then the other line is margin expansion year-over-year about 80 basis point 2016, 50 basis points 2017 and 40 basis points 2018. So why these two lines diverging? And can you help us to see is that wage inflation investment you need to make or, or/and to we’ll try to figure it out, in 2019 were the pace of margin expansion better than the 40 basis point you seen in 2018.

First I see 2019 very similar to 2018. So that will help you on that one. In terms of why, I think it really comes down to the fundamental investment layer that’s going on inside of the business. We’re seeing – we’re investing heavily in data analytics, sales support tools, branding, sales support on the marketing side. So there is an investment layer there Kai, that’s happening underneath. As for actual wage inflation, as you know that we feel like we have a little bit of a safety valve on that with our offshore centers of excellence where we can continue to move work to lower cost labor locations. So the real cost is that the any additional cost that we’re spending are primarily going to two things that we believe should help us grow better in the future.

Including producer hires?

Yes, that’s right.

That sounds great. My second question is about the acquisition; it seems you have a very strong pipeline, and I noticed press releases almost every day. In January, the seven deals seemed particularly significant, averaging around $18 million each, which is much larger than your typical deals, usually around $3 million to $7 million. Is there a trend towards securing more larger deals? Additionally, what do you typically pay for them? Do larger deals tend to command a higher multiple?

Yes, I think the one that’s inflating the first quarter numbers in terms of the revenue per acquisition as we announced Stackhouse Poland in the U.K. We think that’s a terrific addition to our growing retail operations there. The multiple on that was above 10 times, but I think our portfolio for the year, this year was three times. And then again for anything we do in the U.S. our tax credits bring that number down. As a matter of fact, it ends up being a multiple about 7, 6.9 to 7 times on U.S. acquisitions. So, the little bit larger one that we’re doing here in the first quarter is what you’re seeing there.

Okay. That's very helpful. Last one if I may on your leverage level. With the $600 million additional debt, what is your leverage level? Are we going to see further leverage as you grow your business and make more acquisitions, or will the leverage level only increase with EBITDA growth?

I believe it aligns more with what you mentioned. This is not an increase in our balance sheet leverage. We consider this a safe level that reflects our past practices. Our cash flows at the end of 2018 were notably strong, which led to a decrease in our debt ratio by about 0.2 times EBITDA, and we will adjust that number to 0.2. However, we don't anticipate reaching a leverage level of three times or anything similar.

Perfect. Thank you so much and good luck to those 2019.

Thanks Kai.

Hi. Good afternoon.

Good evening.

I had a question on the risk management margins. I think you call out a non-recurring favorable settlement in business insurance. So could you maybe quantify what margin impact that had?

In the quarter maybe it's – I’m just doing the math in my head here. Maybe is – its a 20 basis points that what I guess, 10 basis.

Okay. So, not very significant.

Yes, right.

And as we keep hearing these or seeing these headlines about potential recession at some point, at the end of this year or maybe next year. Can we remind us or talk through some of the expense structure. Basically what component that would be variable and what actions could you take to manage expenses, should organic start flowing?

Yes. There are two points to consider. Firstly, we are not currently observing a recession among our clients; in fact, they continue to experience growth. However, if a slight recession were to occur, we would manage it by slowing our hiring process rather than resorting to significant layoffs or reducing employee benefits. We typically maintain our focus on long-term growth rather than making drastic cuts. Since we have a turnover rate of about 10% in our workforce each year, we can make adjustments by reallocating work. Our model is designed to be flexible enough to handle economic downturns, and a modest tightening of expenses usually helps us navigate through minor recessions.

Two things I'd add to that. This is Pat. Number one, Doug started off saying, we're not seeing that and we've checked with our fields people, and our clients businesses are strong. So, what's going on right now is clearly not a recession. The other thing I'd point out is I tell our people this all the time, we're in the luckiest spot in the world of commerce. I don't care what happens to the economy. You're going to buy your insurance.

I'm not suggesting there is a recession. It seems like you've increased your organic growth estimates because just a month ago you indicated a 5% organic growth for 2019 from a lower base. Clearly, the organic numbers are very strong.

Yes. We’re still seeing five. But our best guess for next year is 5%.

Okay. Well, I thought you said 5% for brokerage and 6% to 7% for risk management?

Fair enough, yes, you’re right.

You’re correct.

Okay, okay. That’s a great organic growth numbers. Thanks again.

Thanks Yaron.

Good evening. I'm a bit surprised by your guidance of no margin improvement considering the strong revenue trend and outlook. You previously mentioned that margin improvement could be achieved as long as organics are above a certain level. Could you explain the reasoning behind your guidance?

Yes. We have been indicating a margin of between 17% and 17.5% in the risk management segment for several years. While we hope to see it at 17.6% or even 17%, we are currently comfortable with the 17.5% margin range. This segment is not as heavily leveraged as the brokerage businesses. In brokerage, a margin expansion of over 3% is necessary along with organic growth of at least 3% or more, while the risk management space requires at least 5% growth because it is not a heavily leveraged business. We'll see how things progress throughout this year, and there are some exciting developments happening with our domestic service center work. The years 2018 to 2020 may show a significant improvement.

Mike, let me make a comment too. This is Pat. When you write claim business you better put the people on because the bags of claims are coming. You better have them on. You better haven't trained and you better have them ready. You can't wait till the claims start flowing and they go recruit people.

Okay, understood. My other question is on, Pat, you mentioned in the prepared remarks that worker’s comp general liability claim counts are up a few percent year-over-year. Does that figure include exposure growth or is that a frequency statistic?

That’s a frequency major.

Okay. I ask because we sometime use that as a read through for the carriers. Okay.

And also I would say that it also gives you an idea of kind of what’s going in the economy a little bit. When claim kind of start to rise, it’s usually because there’s more work being done by our clients.

Okay. Got it. And I guess just a final on this and I don't know if this is a big deal or not, but does your 1Q guidance for clean coal take into account the lovely weather we're experiencing in January in the Midwest and parts of the northeast?

I don't have those productions levels today, but it's pretty darn cold here and we have a lot of plants in Iowa. Actually it's interesting enough electricity use in the south that drives it more than it is necessarily that cold weather in the Midwest because there's so much natural gas in homes in the Midwest in the north when you get in the south it's much more baseboard heat etc. So you really need to cold weather in South Carolina, happening a little bit now, but yes, we'll see a little bit better first quarter results as a result of this week's weather.

Okay. Stay warm and good luck until 2019. Thanks.

Thanks Mike.

Good evening. Following up on Kai's question about wage inflation, Doug, what do you think the impact of inflation was in 2018? In terms of our industry's expense growth, do you estimate it was around 1%, 2%, or 3% just from the wage inflation aspect? Thank you.

Hi. There are two factors to consider. First, there's the actual increase, which was about a 1% pool this year due to wage inflation. Secondly, when we look at replacement costs, our average replacement this year was about 8% higher than our termination rate. We're also hiring more technical staff in the data and analytics fields, while becoming more efficient in some of the mid-level positions as we adopt technology and utilize our offshore centers of excellence. Overall, as a percentage of revenue, wage and replacement inflation is approximately 1.2%.

Got it. That's helpful. And if I could, what percentage of your workforce in the normal years, new employee?

We typically replace about 12% of our workforce just through natural attrition.

And then, I mean Doug in 2019, 1.2, is there more marquee on that or is that…?

No, I think that's a pretty good number right now. I feel like that 2019 we can operate at that level. I understand. I wanted to ask about employee benefits. Back in 2008, your benefits were much smaller. This area has significantly grown for your company and competitors. What is driving this growth? Is it mainly health-related or talent-related? Also, how much of the revenue growth is linked to payroll compared to projects and hours?

This is Pat, Ryan. There are two main factors influencing that. As we've expanded through acquisitions, we've added more product offerings for our clients. Our presence in the retirement sector has significantly increased, along with our HR consulting and the various services related to health and welfare. Health and welfare continues to be our largest segment, which is linked to headcount and population. The rest involves a combination of project work, with most of the HR services being project-based and ongoing, which could be considered annuity revenue from areas like retirement.

And realized through that, right now, even if we have an uptick of a point in unemployment, right now employers' number one issue is the war for talent and that's exactly where our benefits, folks play in that, its how do they create a better workforce to attract more talent. Because even if employment goes from three and a half back to four and a half to five there's still going to be a war for talent out there. We are not seeing a great recession before. So this isn't like payroll numbers are going to be dropping dramatically 10%, 12% something like that.

Thanks for the answers.

Thanks Ryan.

Thanks. Good afternoon guys.

Hi, Adam.

How did our RPS do this year? Was it in line with overall organic or somewhat better or worse? And then on top of that, there's been some dislocation in the E&S markets, Lloyd's and AIG are pulling back. Is that a help or is that can be challenged for our RPS next year?

Well, RPS was basically in line with the brokerage segment in terms of growth and what have you. They are seeing a little bit stronger tailwind in terms of some of the placements they are making in the E&S market. But to your point, you do have some pullback at Lloyd's and AIG. But I will tell you we're finding no problem in particular with the U.S. domestic market gobbling those disruptions up. Business will move from London back in United States, D&O policy quoted by Chubb here versus Lloyds there that will move. So, I think there's good there's good in RPS. And there's a lot of great cross-sell into the Gallagher organization by our brokers to RPS and I see that continuing.

Thank you. Could you provide the general outlook for your U.K. business in 2019 compared to 2018?

I think. I'm really pleased with our U.K. business. I mean that organic number that we mentioned earlier today is a real really good improvement. And the franchise, the retail franchise throughout the U.K. is up in the Scotland as well is really strong and has just great opportunity to continue growing. And our specialty operation in London is second to none in that market. And is growing in spite of what Lloyd's is doing.

Okay. Thanks. And then as far as sort of same store produce I don't think you give out that number, but in general is that, did that grow last year and do you expect it to grow this year?

Yes. We're up about this year considerably better than we were in 2017. We typically don't talk about specific numbers but if 2017 were flat to up 2% we probably triple that this year.

Well, Adam you know pretty well. This is a sales machine. You're not going to be here if you're not growing your book.

Right, right. Okay. Well, thanks for the answers guys.

Thanks Adam.

Yes. Thank you. Good afternoon.

Hi, Mark.

Hey, Pat. You had mentioned maybe a little more tailwind in early 2019. I think you're talking about P&C pricing compared to the fall. Could you expand on that a little bit? What might the magnitude of it would be? What's driving it?

Part of the situation is that there is solid economic activity. We are observing rates in the U.S. commercial, auto, and property sectors increase by about five, significantly influenced by the auto sector. Currently, the transportation market is quite challenging. Additionally, the property lines have been affected due to the storms, which need to be considered across the board. Meanwhile, workers' compensation has decreased by about a point. Overall, we are seeing some recovery in the property market due to the storms, while the transportation market is affecting various other sectors.

But you feel like it's a little better in Q1 as opposed to the back half of 2018?

Yes, Mark, but don't change your model. It's increased slightly. Keep in mind that clients have the option to opt-out. Depending on the size of my account, I might experience a higher retention, but commercial middle market accounts have options to mitigate the impact on rates.

Understood. On the domestic benefit I think you're up two. Last quarter you're up five. Anything going on there?

Just a tough comparable to last year, they had a dynamite fourth quarter last year.

And then finally on contingents, I don't know whether you said what drove that? Was just a timing issue or some sort of the shift in the mix on payments? What's behind that?

Catastrophes took our loss ratios up.

Okay.

Drove our payments down.

Understood. Thank you.

Thanks Mark.

Thanks. If I could just spring off of that last question. I guess I'm surprised that the travel time between catastrophe losses and the impact on contingencies as quick as it is. Does that mean that there won't be a continued impact from let’s say California wildfires or Michael in 2019?

Well, remember, with the new GAAP accounting, we must estimate our contingent commissions rather than booking them when we receive them like we have in the past. This means they show up faster because we have to make those estimates today. I've been warning about this volatility since we started discussing the new GAAP a year and a half ago, indicating that you'll notice earlier recognition of these items compared to the past. It is admittedly a bit harder to estimate, but we do our best with the information available, and it cost us a couple million dollars this quarter.

Okay. Fair enough. I feel like I'm missing something here, but there's a footnote with regard to the commentary for brokerage segment amortization and excluding Stackhouse Poland?

Yes. Number, the 74 million exclude Stackhouse Poland. And then, in my comments would say that we need to take it up a little bit. I don't know we're going to close out for sure whether we'll be here in this quarter or next quarter. So we just said that we would footnote it. It's not in there. But you'll have to increase the amortization in the second, third and fourth quarters. Take it up a couple million dollars and you'll get close.

Okay. That's perfect. And then final question, with regard to risk management are the economics on carrier business any different from when clients are just retaining a layer of risk?

No, not really.

Okay, great. Thanks so much.

Thanks Meyer.

Thank you Devon. Thank you again for being with us this afternoon. In closing, I’m extremely pleased with our 2018 performance. And I want to personally thank all of our 30,000 colleagues for their hard work and dedication. I believe, our long-term strategy will continue to serve this company, our colleagues, our clients, and our shareholders well. 2019 should be another great year for Gallagher. We look forward to speaking with you again at our March 12th IR day in Rolling Meadows. Have a good evening and thank you for being with us today.