Brown & Brown Inc (BRO) — Q3 2020 Earnings Call Transcript

Thank you, Kevin. Good morning, everyone, and thank you for joining us for our third quarter 2020 earnings call. Before we get into the results for the quarter, I want to make some high-level comments. First, I'd like to say thank you to all of our teammates and express how pleased I am with our performance for this quarter. They continue to be laser-focused on delivering innovative solutions for our customers. Operating in the current environment is not easy, but our team finds creative ways to serve and support our existing customers and engage with new prospects. I'm very impressed with how our teammates are leveraging the investments we've made in technology over the past few years to enhance our capabilities and customer interactions. These include everyone from producers, service, marketing, brokers and underwriting teammates. At this stage, we do not see face-to-face interactions returning to the pre-pandemic levels for quite some time, and more than likely the new normal will be different from the past. As we navigate our way through the pandemic, I'm confident that we will continue to leverage innovation in our sales and service model to help further our growth and support our customers. We've talked a lot in the past about how we're built for the long term and think about delivering shareholder value. On Tuesday of last week, our Board of Directors increased our quarterly dividend by 9%. With this increase, we are now on our 27th year of consecutive increases, something we're very proud of. Now let's transition to the results of the quarter. I'm on slide number three. We had a great quarter and I'm very pleased with our results. We delivered $674 million of revenue, growing 8.9% in total and 4.3% organically. I'll get into more detail in a few minutes about the performance of our segments. Our EBITDAC margin was 32.8%, which is up 130 basis points from the third quarter of 2019. Our net income per share for the third quarter was $0.47, increasing 14.6% on an as-reported basis. On an adjusted basis, which excludes the change in acquisition earn-out payables, our net income per share was $0.52, an increase of 33.3% over the prior year. Our team has done an outstanding job of growing our revenue while managing our expense base in response to the dynamics associated with COVID-19. During the quarter, we completed another six acquisitions with annual revenues of approximately $31 million. We'd like to extend a warm welcome to all of our new teammates who joined during the quarter. From a capital perspective, we issued $700 million of 10.5-year bonds in September. We're very pleased with a coupon of 2.375%, particularly considering that we issued bonds in March of 2019 with a coupon of 4.5%. Our insurance was very well received by the debt markets, which we believe is a true reflection of Brown & Brown's credit quality. With this capital and our cash flow generation, we're well-positioned to further invest in a disciplined manner in our business and deliver future results. In summary, we're very pleased with the strong performance for the quarter as the strength of our operating model continues to perform well through these unprecedented economic times. Later in the presentation, Andy will discuss our financial results in more detail. I'm now on slide number four. As you may remember, in April, we thought our third quarter would be the most challenging due to the expected decrease in exposure units for our customers. And then we performed slightly better than anticipated in the second quarter, and during our second quarter earnings call, we indicated that third quarter would not be as low as originally anticipated. As a result of good new business, higher retention, and rate increases, we had a really good third quarter. We saw companies doing their best to restart their businesses, which included some rehiring of employees or taking them off furlough. We saw employers, and we saw individuals start to lose employee benefits coverage through layoffs or reductions in force, which would also drive a decline in workers' compensation coverage. We saw this in certain industries. However, there are many industries that have been quite resilient or have even grown over the past six months. As a result of our diversification across geography, customer size, industry lines of coverage, and capabilities, we've continued to grow. Please don't take my comments out of context. We have customers that are struggling, and we're doing our best to help them. We believe that there are going to be challenges over the coming quarters and consequently expect there will be ups and downs on the path to recovery. During the quarter, we saw rate increases similar to the last few quarters, and in some cases, they've increased slightly. For the most part, admitted market rates are up 3% to 7% across most lines. Commercial auto rates were the exception, as they remain up 10%. There is a lot of talk about workers' compensation rate starting to turn positive during the quarter. We're not seeing this across the board. Generally, workers' compensation rates are not declining as fast as they were in previous quarters. From an E&S perspective, most rates are up 10% to 20%. Coastal property, both wind and quake are up 15% to 25%. Professional liability is generally up 10% to 25%, depending on the coverage in the industry. For both of these lines, there can be outliers. One area where we're seeing the most pressure right now is personal lines in California, Florida, and the Gulf Coast States. The continued reduction in carrier appetite has been caused by fires and tropical activity resulting in a reevaluation of all CAT-exposed property. We believe the reduction in personal lines capacity in CAT areas will continue to decrease in the near term. In connection with the increasing rates, the placement of coverage for many lines and certain industries where customers with significant losses continues to be challenging. This would include access or umbrella coverage where a carrier or carriers might want to reduce their limit by half but keep the premium constant. Just to give an example. We do not expect this trend to change for the next few quarters. We've been active in the M&A space, closing six transactions during the quarter with annual revenues of approximately $31 million. During the first three quarters, we closed 16 transactions with annualized revenues of approximately $117 million. And in addition, we've already closed a few deals for the fourth quarter. I'm now on slide number five. Let's discuss the performance of our four segments. Our retail segment organic revenue grew by 4.1% in the third quarter. It's a really strong performance recognized across substantially all lines of business, driven by a combination of good retention, improving new business wins, and continued rate increases. We're very pleased with how our team is prospecting new accounts in both the traditional face-to-face model as well as virtually. Our National Programs segment grew 8.4% organically, delivering another impressive quarter. Our growth was driven by continued strong performance from many of our programs, including our lender place, our commercial and residential earthquake, and our wind programs, just to name a few. Our Wholesale Brokerage segment grew 8.2% organically for the quarter. We realized improving new business and continued rate increases for most lines of coverage. Brokerage was the fastest growing, while our binding authority business delivered modest growth as many main street businesses are not back to full operation, and we experience continued headwinds in the personal line space. We expect this rate pressure to continue for at least the next few quarters until carriers reevaluate the risk appetite or allocate more capacity to this challenged area. The organic revenue for our services segment decreased 13.1% for the quarter. The main drivers of the decline were lower claims volume for our social security advocacy businesses, a prior year terminated customer contract, and lower claims for many of our other businesses related to COVID-19. We expect organic revenue in the Services segment will be down in the low to mid-single-digit range for the fourth quarter. Overall, it's a strong quarter, and we'd like to say thank you to all of our teammates who continue to deliver for our customers in this challenging environment. Now, let me turn it over to Andy to discuss our financials in more detail.

Thank you, Powell. Good morning, everybody. Like previous quarters, we'll discuss our GAAP results and certain non-GAAP financial highlights, including our adjusted results, excluding the impact of the change in acquisition earn-out payables. We're over on slide number six. For the third quarter, we delivered total revenue growth of $55.3 million or 8.9% and organic revenue growth of 4.3%. Our EBITDAC increased by 13.2%, growing faster than revenues as we were able to leverage our expense base and further manage our expenses in response to COVID-19. Both of these factors were able to offset the headwinds associated with certain non-recurring items related to legal costs, the write-off of uncollectible receivables for one of our programs, increased non-cash stock-based compensation, and a gain on the disposal of businesses recognized in the prior year. A quick comment regarding our employee compensation and benefits and other operating expenses as a percentage of revenues. The employee compensation and benefits ratio increased slightly as compared to the prior year, driven by higher non-cash stock-based compensation costs as we were performing above the targets for our long-term stock incentive plans. In addition, with the market recovery during the quarter, there was an increase in the value of deferred compensation liabilities. Please remember, the impact on EBITDAC margin is substantially zero as this increase was offset within other operating expenses. The ratio of other operating expenses decreased due to the continued management of our variable expenses in response to COVID-19 and to a lesser extent, the benefit of the aforementioned change in deferred compensation cost. Our income before income taxes increased by 4.3%, growing at a slower pace than EBITDAC. This was driven primarily by the $21 million year-over-year increase in the change in estimated acquisition earn-out payables. On the next slide, we will discuss our results, excluding this adjustment. Our net income increased by $18.4 million or 15.9% and our diluted net income per share increased by 14.6% to $0.47. Our effective tax rate for the third quarter was 15.5%, compared to 23.9% in the third quarter of 2019. The lower effective tax rate, which was in line with previous guidance, was driven by the tax benefit associated with the vesting of restricted stock awards. Our weighted average number of shares increased slightly compared to the prior year and our dividends per share increased to $0.085 or 6.3% compared to the third quarter of 2019. Moving on to slide number seven. This slide presents our results after removing the change in estimated acquisition earn-out payables for both years. We believe this presentation provides a more comparable year-on-year basis. During the third quarter of 2020, the change in estimated acquisition earn-out payables was about $15 million, representing an increase of approximately $21 million as compared to the third quarter of 2019. Remember that we adjusted certain earn-out liabilities down in the first quarter of this year at the onset of the pandemic, based on our estimates at the time. Since then, certain businesses have rebounded faster than anticipated causing us to increase the estimated earn-out liabilities in the third quarter of this year. On a year-to-date basis, the net impact of the change in estimated earn-out payables that they charge of about $5 million as compared to a credit of approximately $7 million for the same period last year. Excluding the change in acquisition earn-out payables in the third quarter of both years, our income before income taxes grew $27.2 million or 18.6%, growing faster than EBITDAC due primarily to lower interest expense. Our net income on an adjusted basis increased by $35.3 million or 31.6% and our adjusted diluted net income per share was $0.52, increasing 33.3%. These grew faster than income before income taxes due to the lower effective tax rate for the quarter. Overall, it was a strong quarter. Moving to slide number eight. This slide presents the key components of our revenue performance. For the quarter, our total commissions and fees increased by 8.7% and our contingent commissions and GSCs were substantially flat. Our organic revenues, which exclude the net impact of M&A activity increased by 4.3% for the third quarter. Over to slide number nine. Our Retail segment delivered total revenue growth of 6.5%, driven by acquisition activity over the past 12 months and organic revenue growth of 4.1%, which was driven by growth across most lines of business and slightly lower contingent commissions and GSCs. For the quarter, retail realized about 100 basis points of incremental organic revenue growth from the timing of new business and certain renewals we expected to recognize in the fourth quarter of this year. Our EBITDAC margin for the quarter increased by 250 basis points and EBITDAC grew 16.2% due to higher organic revenue growth and cost savings achieved in response to the pandemic, both of which were partially offset by a prior year gain on disposals, higher non-cash stock compensation costs, and higher inter-company IT costs. Our income before income tax margin increased 50 basis points and grew slower than EBITDAC, due primarily to a change in estimated acquisition earn-outs. Over to slide number 10. Our National Programs segment increased total revenues by $25.1 million or 17.6% and organic revenue by 8.4%. The increase in total revenue was driven by strong organic growth, recent acquisitions, and an increase in profit-sharing contingent commissions. EBITDAC growth of 12.7% was slower than total revenue growth due to the write-offs of certain receivables in one of our programs. Combined with higher inter-company IT charges, these items more than offset margin expansion from strong organic growth, as well as variable cost savings in response to COVID-19. Income before income taxes increased by $600,000 or 1.3% with the growth primarily impacted by increased acquisition earn-out payables and higher intercompany interest expense. Over to slide number 11. Our Wholesale Brokerage segment delivered total revenue growth of 16.2% and organic revenue growth of 8.2%. Total revenues grew faster than organic revenue due to recent acquisitions. EBITDAC grew by 21.1% and the margin improved by 160 basis points as compared to the prior year due to strong organic growth and the delivery of reduced variable expenses in response to COVID-19, which more than offset higher inter-company IT charges and higher non-cash stock-based compensation costs. Our income before income taxes grew by 21.1%, substantially in line with EBITDAC growth. Over to slide number 12. Total revenues and organic revenues for our services segment declined by 13.1%, driven by the items Powell mentioned earlier. For the quarter, EBITDAC declined by 22.8%, driven by lower organic revenue and higher inter-company IT expenses. These were partially offset by reducing certain variable expenses in response to the pandemic. Income before income taxes decreased 59.5% due to a credit of $6.3 million recorded in the third quarter of 2019 for the change in estimated acquisition earn-out payables and there was no adjustment in the third quarter of this year. A few comments regarding cash conversion and outlook for certain items. Regarding cash flow from operations, as a percentage of revenues, it decreased as expected for the third quarter due primarily to about $50 million of second quarter taxes that were paid in the third quarter as permitted by the Cares Act. For the first nine months of 2020, our cash flow from operations as a percentage of revenue was approximately 27% as compared to 25% realized at the same period of the prior year. The increase is driven by our expanded margins, lower cash taxes, and continuing to manage our working capital. Regarding liquidity and interest expense, Powell mentioned earlier that we issued $700 million of 10.5 year senior notes in late September with spread decreasing materially and the receptivity of the debt markets we thought it was prudent to access the additional capital at long-term rate materially below our prior issuances. Our incremental debt is $500 million as we repaid $200 million on the revolving line of credit. With the additional debt, our interest expense will increase by approximately $3 million per quarter. With this additional capital, our revolving line of credit, and strong generation of cash, we are well-positioned from a capital perspective to fund in a disciplined manner additional investments to help further grow our business. With that, let me turn it back over to Powell.

Thanks, Andy, for a great report. Through 10 months, we've seen 6.4 million acres burned in California, Oregon, Washington, and Colorado with 4.3 million of those acres in California alone. There have been 27 tropical storms and 10 hurricanes with five of these hurricanes hitting the Gulf Coast region and one may hit this week. Rates are also increasing in most instances and interest rates are at historic lows. All of this is in addition to COVID-19 and the related choppy economic environment. We have customers laying off large numbers of employees and others are the busiest they've ever been. Even under these extraordinary circumstances, our diversified businesses performed very well. For the first nine months, we grew our business 3.5% organically, delivered improving EBITDAC margins of 32.4%, and adjusted EPS was up 21.4%. Overall, we'd say our performance and financial results have been strong. With rates continuing to rise, you'll see new capital coming to the marketplace opportunistically. This will be in certain lines of coverage, but not universally across the board. In addition, very few senior leaders at insurance companies will discuss if rates are exceeding loss costs. When that happens, they usually point to rates moderating or flattening. We're not sure if we've reached this point yet. The acquisition space continues to be hot. There's a lot of competition between private equity and long-term strategics. We don't see this competition slowing down anytime soon. Our ability to continue investing in our business was further bolstered by our recent bond offering. Quite honestly, I didn't think our cost of borrowing for 10-year money would ever be 2.375%. Our pipeline is good, but as you know, we don't count anything till it's signed. Finally, we continue to drive our technology agenda across the company through digitization, data, and automation and prioritize technology investments around the following. One, continually optimizing and enhancing our data and analytics program. Two, expanding our digital delivery capabilities around products and services. And three, engaging initiatives designed to drive greater efficiency and velocity through our underlying processes. We are constantly thinking about how we can serve our customers better and faster. In closing, we thought it was a really good quarter. With that, let me turn it back over to Kevin to open it up for the Q&A session.

Good morning, everyone. Looks like you had a great quarter. First on the organic revenue growth results. I was wondering if you could give us some more color on the balance between the impact of rate increases versus new business. You did call out, Powell, in your comments about customers hurting. And I'm wondering if the organic is more a reflection of rate increases and their new business opportunities are down, but maybe you could give some perspective on that. And then throw out some comments about the performance of Hays.

Okay. First, historically, we've noted that the impact of rates on our overall performance ranges from 25% to 33%, while exposure units have had a more significant effect on our business over the past 20 years. Our new business is performing well, but it hasn't reached pre-pandemic levels, which I acknowledge. However, I believe the current situation is influenced by several factors, and I am pleased with the growth of new business in various offices, particularly in coastal areas where rate impacts are more pronounced. Our retention levels have improved, even if only slightly, and that has contributed positively as well. Regarding the Hays team joining Brown & Brown, we are very satisfied with their performance, and overall, our team continues to excel. We're very pleased with that acquisition and the progress we are making.

I would like to follow up regarding expenses. You mentioned lower travel and entertainment costs, and I'm interested in your thoughts on whether we might see an increase in these expenses next year and if that could affect margins. Additionally, you noted lower taxes; will tax rates likely increase to higher levels next year?

Okay. So as it relates to higher variable expenses next year, we do believe that there is going to be a slow, steady increase as people start to travel again and entertain visitors and things like that. And we can't tell you when that's going to happen. But yes, we do believe that that will work its way into our results next year; number one. Number two, we don't speculate on the outcome of the elections. And as you know, the important thing really will be the decision if the House and the Senate are in the same party or if they're in different parties, and how things will get through Congress. So I would tell you that we, like you, are waiting with great interest and have considered a lot of scenarios regarding who wins and what that potential impact could be to Brown & Brown. But I think that we are positioned well to continue to invest and grow the business, regardless of the ultimate outcome.

Okay. Perfect.

Greg, I'll just add to that, just as you're thinking about rate next year, barring anything that happens through all of the elections, we would expect our effective tax rate would go up a little bit next year. Remember, we got the tax benefit in the third quarter of this year, which drove our effective down to 15.5%. We wouldn't see that same level of benefit next year. So it will go up a little bit, okay.

Thank you for the clarification. Just one follow-up on point number one, regarding gradual increase in T&E. Powell, as you look across the entire enterprise, as you think about things returning to whatever the new normal looks like, is it conceivable that there could be little or no margin expansion next year as life returns to whatever the new normal is?

Yes.

Got it. All right, thanks for your answers, guys.

Thanks, good morning. One question I was hoping you can help us with is with regard to the pace with which your policyholders or your insurers are filing claims. Can we see that pick up dramatically between the second quarter and the third quarter?

No, I wouldn't. I just want to make sure it's a little grainy reception there. You wanted to know, was there a marked increase in the number of claims with our insurers between Q2 and Q3, is that what you said?

Exactly right, yes.

Yes. No, we haven't seen that. I would tell you that in the second quarter there were lots of claims filed in anticipation or potential coverage around BI claims on pandemic, but I would not say that there was some huge jump between Q2 and Q3, no.

Okay. I'm trying to gain more insight into one part of the business. I understand you don't disclose the volumes for smaller accounts, but I'm hoping you could provide some information on that. The perception is that this segment of the industry is particularly susceptible to pandemic pressures. I'm curious how that affects your book in that segment.

Yes. Let's consider the high-level perspective on small businesses, which we can define simply as those with premiums under $30,000 a year. This applies to our commercial sector, including retail and Binding Authority in wholesale, as well as our National Programs. Additionally, there are personal lines being affected due to factors like wildfires or windstorms in coastal areas. We're experiencing ongoing challenges in the small business segment. For instance, if you observe shopping centers outside major cities, many dining establishments may be operating at half capacity, which significantly reduces their operational viability, leading some to close. In larger cities, we've noticed a number of businesses shutting down, which has already affected us and will likely continue to do so. So far, this is the segment where we're seeing the greatest impact. We noticed this early and frequently, and it's persistent. Medium and larger businesses, being more financially secure, are making tough decisions to sustain themselves, while many smaller enterprises lack the resources to adapt similarly. Therefore, we are indeed observing these challenges in our business.

Okay. That was very helpful. Thank you so much.

Hi, thanks, good morning. My first question is about your forward guidance for most quarters this year. It seems like a good time to discuss that and some of the segments. I'm trying to get a general sense of how things have shifted; previously, you mentioned Q3 could be the weakest quarter of the year, but it seems that was actually Q2. Considering your comments on pricing, new business, and exposures, does it appear that the lowest point was in the second quarter? How should we think about this?

Yes, good morning, Elyse. You could look at it that way. The challenge here is that while I understand your desire for certainty, no one can accurately predict what will occur in Q4, Q1, and Q2 of next year. Much of this is dependent on the virus situation; whether we face limited shutdowns in Q4 due to rising cases, and how that might affect our business. If we consider the trend, it does seem to be improving. However, we don't base our operations on blind optimism. We cannot guarantee that improvement will continue. We've consistently stated that we expect to see low to mid-single digit organic growth in a stable economy. However, we are not in such an economy right now; there are unique factors influencing it, such as rising rates and the impacts of the Coronavirus, leading to some businesses closing or significantly reducing their activities. For instance, if you speak with various construction clients nationwide, they'll tell you they have a solid pipeline of work for the next six to nine months. Yet, after that period, uncertainty looms—not due to a lack of capacity, but because fewer people are bidding on projects that far in advance. In some regions, like Florida, we are seeing increased bidding activity due to an influx of new residents. I wish we could provide more certainty and reassurance, but unfortunately, we can't. What I can say is that we are very satisfied with our execution this quarter, and all three of our major divisions performed well. We're really pleased with that outcome.

Yes. Elyse, in our commentary, we said there could be ups and downs. We expect that's going to happen over the coming quarters. So it's not going to be that the fourth quarter will guarantee it's going to look more the third quarter. It could be up, it could be down, Q1 to be up, Q1 could be down. We just think it's going to be a little bit bumpy as we work our way through this economy right now.

That's helpful. No, I thought like there was a lag, right, within your business and when it ultimately comes into organic, meaning that wouldn't the Q4 for the most part, just to a certain degree, where economy is bumpy, that could more impact organic when we go into 2021?

I probably won't jump to that conclusion. It really depends on the renewal business underneath. In Q1 and Q2, we made adjustments to the revenue that we previously recognized to align it with what we believe is appropriate for the changes in exposure units. The key question is what happens at renewal. Did we get the exposure units right? We don’t know yet, and we’ll find out as we progress through the renewals and the ongoing audits. If companies are feeling uncertain, they might reduce their exposure units further. We need to observe how these factors develop in the fourth quarter and into the first quarter. Additionally, as rates increase and exposure units may decrease in certain cases, there are many customers opting for different limits or reducing certain coverages due to costs. For instance, if a manufacturing client had a $40 million umbrella last year and now purchases a $25 million umbrella at a higher price than the previous year, that indicates adjustments are being made. Some clients are expressing that they can't afford the premium for a specific level of coverage and may choose to go without certain protections. We are starting to see that trend as well, so we shouldn’t overlook it.

That's helpful. And lastly, just on expenses. Andy, I think you mentioned some shift with some deferred costs between employee comp and then other operating expenses. Not just to quantify that, but I'm just trying to get a sense of the impact in other operating expenses. Just as we think about kind of the COVID related savings that could have come through OpEx in the quarter.

Okay. We're going to repeat the question so people here. It's hard for some people on the line to hear the questions being asked. The question was about what was the size of the deferred comp adjustment? So for this quarter, the market impact was around $4 million between salaries and benefits, as well as other operating expenses. On a year-to-date basis, the adjustment is actually getting fairly small. It's kind of how those general work out through the year.

Okay. That's helpful. Thank you for the color.

Thank you, Elyse.

Good morning. I have a question for Andy. I noticed there is a significant amount of outstanding debt with a coupon over 4%. Is there a chance to pay off some of that? Does that make sense from a financial perspective?

We would always evaluate that. But probably the economics right now would not make sense to do that at this stage, Mike, just because of that and everything.

Okay, got it. I was considering some of the comments Powell made about the rate environment. On one hand, you mentioned that since many carriers are now engaged in discussions, rates exceeding the loss trend could indicate a potential slowdown in rate momentum next year. On the other hand, this might only apply to a small portion of their portfolio, so I'd appreciate more details. You discussed a very tough environment for certain companies and noted that a carrier might want to reduce or limit rates by half to maintain premium levels, and you anticipate that trend will persist over the next few quarters as well. Could you provide more insights on the rate environment and clarify if the example you shared is an extreme case?

Sure. To summarize the question for everyone, it concerns the current rate environment and whether we anticipate a slowdown next year or extreme scenarios like the umbrella example I mentioned, where you receive half the coverage for the same price. Referring back to what we discussed, we expect some opportunistic capital to enter the market. You may wonder where this will happen. We believe it will appear in easily accessible lines of business, particularly short-tail sectors such as CAT property, but could also include claims-made business, professional liability, and reinsurance among others. However, it is unlikely to affect traditional automobile or general liability accounts in the central United States, where products are manufactured. Moreover, we mentioned that insurance leaders are being cautious regarding how their rate increases align with lower cost increases, and whether we might see moderation. The industry generally recognizes that casualty has not been profitable for many years, and I concur with that perspective regarding general liability and auto lines. The question is whether it's feasible to sustain multiple consecutive increases of 10%. I believe it becomes increasingly challenging. Customers have a limit to what they can tolerate, leading them to take measures to cut costs, such as reducing their fleet. When discussing the umbrellas where you might receive half the limit for the same price, this often pertains to larger accounts, though not exclusively. Umbrella business is significantly influenced by these trends. If rates are rising 3% to 7% in the admitted market, and auto rates are perhaps increasing by 10% or more, that might continue, but in areas where increases of 15%, 20%, or 25% are occurring, I don’t expect those rates to rise as much next year. In CAT property, at some point, other markets will determine that the returns are attractive enough to attract more capital. Moderation will occur, although I cannot predict when exactly that will happen. This creates challenges in placing business, as well as opportunities when frustrated clients seek better representation, allowing us to potentially step in and offer solutions.

That's helpful. Just one last quick question on a macro level. Should we consider that if stimulus is passed after the election, it could positively impact organic growth for some of your customers, and conversely, should we factor this into our numbers as the year progresses?

Yes. We won't speculate on whether it will happen or not. It's uncertain. However, if it does occur, it may have a slightly positive impact. Eventually, the stimulus will come to an end, and that will lead to a reckoning. The businesses on the edge might be given an additional three months, particularly those small businesses we discussed earlier. The key question is whether the economy will recover sufficiently during that time to support them. This remains undetermined, but we generally consider the long-term implications rather than just the impact on one quarter. It’s important to acknowledge that the stimulus will eventually cease, and this will result in consequences, including consolidation in certain industries.

I guess so. Thank you. See you next quarter.

Hey, good morning everybody. My first question goes to the M&A activity. It seems like it's been picking up a little bit. Is that just a function of more in-person meetings again? And maybe you can talk a little bit about how you see the pipeline? And then is there an increased appetite for M&A, a decrease appetite in M&A and any color you can offer about that?

Sure. Good morning, Yaron. Firstly, I want to highlight that there's been a significant amount of activity recently. Back in April, if you had asked Andy and me about M&A prospects, we believed there was a strong chance it could stagnate for six months. Instead, it actually paused for around six to eight weeks before activity resumed. So, overall, there's a lot happening. Secondly, in the past six weeks, there has been growing interest in exploring potential deals before the end of the year. This is due to speculation about potential changes in capital gains taxes from the President or Congress, which might encourage companies to capitalize on lower tax rates this year. Therefore, I anticipate two key developments in M&A activity between now and year-end as a result. However, if a potential deal arose last week, it may be challenging to finalize it in a short timeframe without everything already aligned. I should also mention that many agencies are experiencing a reduction in variable expenses, much like us. Our focus needs to be on evaluating businesses based on ongoing operations, which can be unpredictable. Understanding revenue streams and expense levels is crucial, requiring discussions with the teams involved to assess cultural fit and finding financially viable solutions for all parties. We feel optimistic about the opportunities in the market. Although competition is fierce, there are significant distinctions between private equity buyers and strategic buyers. This means that one isn't necessarily better than the other; they are just different. Ultimately, during the bidding process, what matters is the cultural fit. I advise those I know who are involved in negotiations to choose a firm that aligns with their values and culture, rather than just accepting the highest bid. Often, firms chasing the highest dollar amount may not be the best choice for a long-term partnership, as cultural differences can lead to frustrations down the line. It's fundamentally about differing philosophies.

All right. I appreciate the full answer. And then my second question, you call out the potential impact about the change in capital gains tax, any other key considerations that you're looking at into the selection things that could directly impact your business?

Sure. The question really is, are there any changes other than cap gains tax that we're thinking through for this election. And so, the short answer is, sure. So let's think about that for just a moment. One of the things I talked a lot about is the evolution of healthcare in the United States. And so, we have a large healthcare business and I'm talking specifically about the providing of health insurance. I'm not talking about the ancillary line, talking about the health insurance. And is there some variation of Obama Care or ACA that is modified going forward. That's a possibility. How does that impact. Number two, CAT gains and/or things like carried interest. And if in fact that's eliminated and what would that potentially do to PE buyers. And so there's a number of things. There is speculation around security taxes going from a limit to an unlimited number. There is a whole bunch of things that we talked about and evaluated, you think about the impact of Federal and State taxes and the interplay between those. Some of you that live in states like California or New York or New Jersey or Connecticut are going to get the opportunity to fund more of the deficits in the states that you live in, which is going to create a departure of more people coming to places like Florida and Texas and other states that don't have income tax. And so, how is that all going to work. And so, it's going to be really interesting in the next, let's say, couple of years to see that kind of evolution/migration to places with more amenable tax structure states.

Got it. Thank you.

Yes. Thank you. Good morning. The receivables write-off in National Programs, what was the amount?

Mark, your question was on receivables write-off, yes, that was around about $3 million.

Okay. So $3 million. And then the tax rate for next year, is Q3 still a lower tax rate or is it going to be steady throughout the whole year?

No, it will go back up next year, probably a better view when you think about 2021 is actually look at 2019 on the facing by the quarters.

Okay. So maybe a little lower in Q3, but not that much.

No, it will not be that much lower. Again, look at 2019, that will be a much better barometer. The reason why this year was lower was the vesting of restricted stock that we had, Mark, and we won't see that same level in 2021.

Okay. And then the IT charges, inter-company IT charges have had an impact on margins for quite some time. Does that moderate, say, next year or is that still going to be a kind of the headwinds?

It will probably start to moderate out next year. As you know, we've been making investments in technology starting in 2016. A lot of that was funded at the corporate level, and as those programs have matured, we've been charging them out to the segments over time.

And then finally the contingents and supplementals next quarter, any body language on that?

No, we don't really have a view on those Mark. Again, as you probably recall with the new accounting rules. We are accruing for those throughout the year based upon the placement of the policies. So we don't really have a view on cash collection until we get into next year.

Thank you very much.

Yes, sure Mark. Thank you.

Yes. Thanks and good morning.

Good morning.

Earlier this year it felt like there was the position from you guys that we're not going to have an expense program. We have incentives in place for regional management to run their ship correctly. And we're going to lean on them to do so. And it feels like there was a better improvement in variable expenses in the third quarter than second quarter. And I was curious if you got any insight from the field operation, what changed or what drove this margin benefits?

Okay. I think that was clear, and people understood the question, so I won't repeat it. It's important to remember that our program is decentralized. Some firms claim they expect certain expense savings, with some being permanent and others temporary. However, we have structured everything around individual businesses. For instance, all expenses for our Atlanta operations are centralized there, while those in Texas come from various centers across the state. The specifics of each office will determine the property and equipment and other variable expenses incurred. Taking the Atlanta office as an example, they serve many customers from various states like Arizona, California, Oregon, and Washington, which results in frequent travel. This contrasts with Fort Myers, Florida, where most customers are within a short driving distance, allowing for easier access. Therefore, there isn't a straightforward answer regarding the variable expenses in Q3 compared to Q2. Instead, it relates more to customer retention, acquiring new business, and rate increases.

Yes. Phil, I don't jump to the conclusion, just because the margin was up more in the third quarter versus the second quarter, that we were able to take out more variable expenses. In our prepared commentary, what we were trying to make sure we conveyed is, it was a balancing of the increased organic, as well as managing the expenses. But as we also mentioned, we are anticipating and we are starting to see variable expenses are slowly starting to go up as we are able to engage more with customers and we would anticipate that, that will continue on in the back end of the year and into 2021.

Got it, okay. And look, there was talk about the potential for pricing in excess of loss cost. Putting aside whether or not that's true at some point in the future if it were true, does that change your positioning, your expectations or the negotiations around profit sharing contingents? As we get pricing in excess of loss cost and there is a forward expectation of maybe better margins at the underwriters, does that change your posturing for the profit sharing you can get?

No, because remember profit sharing or contingency is based on the results that we have. And so insurance is based on law of large numbers, and so you could have rate going up. But you could have a freak accident where there is a truck that you ensure that hit someone and kills somebody, totally unanticipated, and you have a limit loss. So remember, conceptually I think your thought is correct. In actuality, it's very much based upon the performance of our book of business. And so I don't want you to confuse the overall results of the insurance company with the result of, let's say, the Brown & Brown business inside there.

Understood. Got it, thank you.

Thank you. Kevin. How many more do we have in the queue, sir?

Okay. We'll take that last question and then we'll go and wrap up for today.

Well, thanks so much for putting me in. I appreciate it. Powell, I just wonder if you could just give any thoughts on the near-term outlook you see for the lender place business.

Sure. The question is about the outlook for the lender placed business. First, we made an investment in a company called Loan Protector, which complements Procter. That's an important point. Second, we're seeing some expansion in existing accounts where more services are being added to programs, but what's more significant is that we're writing new business. This is crucial. If you look back at 2009, 2010, and 2011, the growth came from existing financial institutions expanding their portfolios, not from gaining new companies with different portfolios. Is that right, Andy? Yes. That's a positive development for us. With our investments, we have a few traditional middle-market lender placed firms and a couple of very large competitors. Our investments in capabilities, technology, size, and the portfolios we manage allow us to compete more effectively against all sizes, including the large players. There's a lot of exciting progress happening, and Mike Cox and his team are doing an excellent job. So, we are pleased with the business.

Yes, Mike, we'd want you guys to read into our commentary that we're seeing an uptick in our closure in lender place foreclosures that's out there, that is not what we're seeing. This is just purely on new business or who they were picking up. Very important thing.

Thanks for that. Appreciate it. Real quick, because, Andy, you made a comment earlier in the opening remarks that I kind of broke up on me, so I apologize, but I thought I heard you say something on the retail slide something about revenue leak in 4Q.

Yes, we observed this in the third quarter and regarding the question about the revenue from the fourth quarter into the third quarter, we noted that there was approximately 100 basis points of benefit to the organic growth in the third quarter. This was something we originally expected would close or renew in the fourth quarter. So, this reflects just a shift between the quarters.

Okay. Thanks, guys.

Thank you. Okay, thank you all very much for your time. We hope you have a wonderful quarter, and we look forward to talking to you in January. Have a great day. Thank you very much.