Warren Buffett’s Big Commercial Insurance Pivot

warren-buffettThe insurance industry has been burning hot over the last few weeks. Headlines have blazed with a mega-deal in property and casualty insurance, speculated deals in the managed health care space and a vast slowdown in reinsurance profits.
To start, Aetna (NYSE: AET) and Humana (NYSE: HUM) are finally trying to tie the knot after weeks of merger speculation. These are the third and fourth largest U.S. health insurers by revenue, respectively.
But that’s just the tip of the iceberg. The second largest player, Anthem (NYSE: ANTM), is now trying to buy the No. 5 player, Cigna (NYSE: CI).
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However, don’t expect the leading health insurer, UnitedHealth Group (NYSE: UNH) to stand by idly. Recall that UnitedHealth had previously showed interest in acquiring Aetna.
And let’s not forget the recently announced $28 billion mega-merger between ACE Ltd. (NYSE: ACE) and Chubb Corp. (NYSE: CB), which is an attempt to help combat the rise of competition in the property and casualty insurance space.
The real lesson with all this M&A action is that the insurance markets are becoming increasingly competitive, which is leading industry players to link up in an effort to keep prices high.

Reinsurance Recoils

The other insurance market taking a hit is reinsurance, in which insurance providers get paid to take on the risk of other insurance companies. This form of insurance for insurance companies has been a hot market for the past few decades, but there’s a lot of competition flooding the market recently and pushing down prices.
So with the tough climate in today’s insurance market, it’s only natural to ask how these trends impact one of the largest insurers on the planet: Warren Buffett’s Berkshire Hathaway (NYSE: BRK-B).
Historically, insurance has been a slow and steady business for Berkshire. It’s been a key player in reinsurance, but it also has a strong presence in the property and casualty space, workers compensation, and auto insurance through its popular Geico brand.
However, as mentioned above, the reinsurance market is slowing. Buffett noted at this year’s Berkshire Hathaway shareholder meeting that the reinsurance business will be less attractive over the next 10 years.

Berkshires Going Commercial

One of the biggest and most underrated Berkshire Hathaway news items of 2015 is that the company is pivoting away from reinsurance toward commercial insurance.
Berkshire is no small commercial insurance player, either. Over the last five years, it has managed to grow its direct premiums from commercial insurance by well over 100% to $5.5 billion. And interestingly enough, Ajit Jain, who has been running Berkshire’s commercial insurance business for the last couple years, is a front-runner to take over as chief executive when Buffett retires.
Another key for Berkshire is innovation. It has had big success with Geico through its Internet-only and direct-to-consumer model. And now it’s making the move into offering online commercial insurance for small and midsized businesses through Berkshire Hathaway Direct.
Most people know Berkshire for its enormous stakes in blue chip stocks like Coca-Cola (NYSE: KO) and IBM (NYSE: IBM), or its complete buyout of companies like BNSF Railway. However, a key to Berkshire’s business model is that it uses its large insurance underwriting profits to be able to buy these companies and make new investments. Insurance has long been a core part of the Berkshire business and will be for the foreseeable future.
Berkshire is already a top 10 player in the commercial insurance industry, so it’s not entering a new market. It’s just putting more resources toward a faster-growing part of the insurance market, and is looking to shake it up by cutting out the middlemen.
It’s prudent moves like this that will help Berkshire Hathaway thrive long after Buffett is gone.
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