Arthur J. Gallagher & Co. ($AJG) Q4 2024 Earnings Call

Good afternoon and welcome to Arthur J. Gallagher and Company's fourth quarter 2024 earnings conference call. Participants have been placed on listen-only mode. Your lines will be open for questions following the presentation. Today's call is being recorded. If you have any objections, you may disconnect at this time. Some of the comments made during this conference call, including answers given in response to questions, may constitute forward-looking statements within the meaning of the security laws. The company does not assume any obligation to update information or forward-looking statements provided on this call. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially. Please refer to the information concerning forward-looking statements and risk factors sections contained in the company's most recent 10-K, 10-Q, and 8-K filings for more details on such risks and uncertainties. In addition, for reconciliations of the non-GAAP measures discussed on this call, as well as other information regarding these measures, please refer to the earnings release and other materials in the investor relations section of the company's website. It is now my pleasure to introduce J. Patrick Gallagher Jr., chairman and CEO of Arthur J. Gallagher Company. Mr. Gallagher, you may begin.

Uh, thanks Pat and hello everyone. Um, today I'll quickly recap some sound bites from our quarter and replay our early thoughts on 2025, most of which Pat just touched on, then use the rest of my time to unpack the impact of the Assured Partners financing activities on our results during the quarter. Then I'll wrap up my prepared remarks with my usual comments on cash, M&A, and capital management. Okay, highlights from our fourth quarter. You'll see in our earnings release, terrific base commission and fee organic growth of 7.8%, solid supplemental growth of 4.7%. And while contingents went backwards a bit this quarter, we don't see that as a trend by any means. As I looked to 2025 brokerage organic, Pat relayed that we're in a favorable environment with rates still needing to increase to cover higher loss costs, trillions of global premiums growing and inflating and our sales and service offerings outpacing our competitors, which should increase both new business and our retentions. So, as we sit here today, we still believe our full year 2025 brokerage segment organic growth should be in that 6 to 8% range. That's unchanged from what we said in October.

As for brokerage margins, a little noise on page five of the earnings release. Please see the footnote. You'll read that the margin was aided by about $20 million of interest income earned on cash we're holding to close Assured Partners. Adjusting for that, our margins would have been 32.5% up 109 basis points over last year. That's nicely above our October expectation of margin expansion in the 90 to 100 basis point range. Looking ahead to 2025, we are still viewing margin expansion like we've said many times before. We see margin expansion starting around full year organic growth of 4%. At 6% maybe we could see 50 basis points and at 8% perhaps 100 basis points of expansion. Of course, those ranges can then be impacted by changes to interest income on our fiduciary assets and then the rolling impact of M&A. By our March IR day, maybe we'll have a better read on where interest rates might go and also the impact of Assured rolling into our numbers. But at this time, we don't see either having a significant impact on those ranges. So really no change to how we're thinking about margins in 2025. As for risk management, another solid quarter posting 6% organic. Admittedly, a couple million dollars below our October expectations. All stemming from a smaller quarter of construction consulting revenues in the Northeast that can be just a little bit lumpy. So adjusted margin expansion of 20.6% was in the quarter was also in line with our October expectations. And then looking forward, we're seeing full year 2025 organic also in that 6 to 8% range with margins again around 20.5% for the year. So a great quarter and full year by both our brokerage and risk management teams and both have a strong outlook for 2025.

Turning to page six of the earnings release and the corporate segment shortcut table for the interest and banking line. We are a bit better than our October forecast because we just were not into our line as much as we thought at that time for the adjusted acquisition lines for M&A and clean energy both were close to our October expectations. Then when you look at the corporate line of the corporate segment that was better than our expectation due to unrealized non-cash foreign exchange remeasurement income which was partially offset by a return to actual tax catch-up of about $4 million. So, let's move from our earnings release to the CFO commentary document that we post on our IR website. First, an overarching statement. Please take some time to read any headers or footnotes throughout this document to understand what information has or hasn't been updated for the Assured Partners deal. So, let's move to page three. For our modeling helpers, across the board, fourth quarter 2024 actual numbers were fairly close to what we provided back in October. As for 2025, we provided a first look of what we forecast. Again, none of these numbers include any impact from Assured Partners. Turning to page four, a first look at our corporate segment outlook for full year 2025. The only impact of Assured is the interest found in the interest and banking line. It includes additional interest expense from the $5 billion debt raise. Flipping to page five of the CFO commentary document to our tax credit carry forwards. As of year end, about $770 million that will be used over the next few years. So still a nice sweetener to fund future M&A. We would not expect those numbers to move much because of the Assured financing nor the roll in of Assured taxable income. That's because of the interest shield and also the amortization of the $5 billion deferred tax asset that we'll get with Assured Partners. That should save us about $1.4 billion of taxes over the coming years. Flipping over to page six, the investment income table. This table includes an assumption of two 25 basis point rate cuts in 2025. It includes interest income from cash we're holding to pay for Assured assuming a late March close, but it does not include interest income from Assured's fiduciary assets after closing. When you ship down on page six to the rollover revenue table, the pinkish columns to the right include estimated revenues for brokerage M&A that we closed through yesterday. Then below that table, we've added a separate section for Assured Partners' revenues. Again, assuming a late March close, which of course is highly dependent on regulatory approvals. Then just a reminder, you'll also need to make a pick for other future M&A. And then further down on that page, you'll see the risk management segment rollover revenues for 2025 are expected to be approximately $5 million for each of the first two quarters. All right, moving to page seven. This is a new page to help you see the impact of the Assured Partners' financing on our fourth quarter 2024 revenues, EBITDA, net earnings, and EPS by segment. The three items just to keep in mind, there was additional incremental interest income on the cash we were holding to fund the acquisition. There was additional interest expense we incurred on the newly issued $5 billion worth of debt. And then the additional shares outstanding from the December equity offering. You'll see that for fourth quarter, it all nets out to nearly nothing, but it does cause a little noise in our numbers. Also, the callout box on the right of that page provides some information on shares outstanding because of the Assured Partners' equity raise for our first quarter. This includes the full impact of the shares we issued in December and the exercise of the green shoe in early January. Finally, if you flip to page eight, you'll see that this page is just a repeat of what we provided in the December Assured presentation for ease of reference. There's no new news on this page.

Finally, let's move to cash, capital management, and M&A funding. Available cash on hand at December 31st was more than $14 billion, of which approximately $13.5 billion will be used to fund Assured Partners. Since year end, we received another $1.3 billion as the underwriters exercised the green shoe. So considering this and our strong expected free cash flow, we are in an excellent position to fund our M&A pipeline of opportunities. Here in 2025, it's looking like we could have $3.5 billion to fund future M&A. Then it jumps up to nearly $5 billion in 2026, all while maintaining a solid investment grade rating. So, an excellent quarter and an excellent year to have in the books. As I reflect on 2024, I have to say that we had a pretty terrific year. For the combined brokerage and risk management segments, we posted adjusted revenue growth of 14%, organic of 7.6%. Overall margin expansion of 94 basis points and most importantly, we grew our EBITDA 18%. Those are terrific numbers and reflects what Pat said that's our unstoppable culture. So, those are my comments. Back to you, Pat.

Sure, Mr. Gallagher. We'll now open the call for questions. If you have a question, please pick up your handset and press star one on your telephone at this time. If you're on a speaker phone, please disable that function prior to pressing star one to ensure optimum sound quality. You may remove yourself from the queue at any point by pressing star two. Additionally, we ask that each participant limit themselves to one question to one follow-up. Again, that's star one for questions. Now, our first question comes from the line of Mikey with Capital Markets. Please proceed with your question.

Hey, uh good evening. Um first question, um it's surrounding the cadence of organic growth next year. You know, loud and clear 6 to 8 no change. Um, I guess for both segments, I guess I'm more specifically focused on the brokerage segment, but in terms of the cadence or seasonality, anything you'd like to call out? Two of your peers called out kind of weaker seasonality in Q1. Um, you know, we do know that reinsurance is overweight in the beginning of the year too and maybe downwards pricing there could cause some year-over-year tougher comps.

Well, let me go back to that. Let me start with the end of that is, there have been some price changes on the reinsurance but our customers are buying more reinsurance. So when you look at the total spend for us, our customers are spending, we're really not seeing a decrease and like Pat said in his comments we had a terrific new business quarter. Also going back to the first part of the question, yes reinsurance is typically stronger in the first quarter and so you could see some seasonality of better organic growth in the first quarter than what develops out for the rest of the year. I'll study a little bit about that is we do have a substantial amount of our health and welfare and medical benefits that renew in the first quarter that mitigate maybe a higher reinsurance on it. And then throughout the year, our retail is performing well. Our wholesale seems to be getting stronger and stronger. Our programs are doing well. But yes, you would see a little seasonality because of reinsurance to the first quarter in our organic growth.

Okay, got it. But you're saying actually it could be higher not lower even if reinsurance pricing's down. Okay. Um, but because of demand I'll have a chance to talk to you again in our March IR day and we should have a better feel of the seasonality for that too.

Okay. Awesome. My last question is on fiduciary investment income. Thinking through post the deal close if you're able to comment. So my understanding is that the company you're purchasing kind of didn't fully leverage its fiduciary income and that it had a lot of direct pay relationships between the businesses paying directly to the insurance carriers and you guys might be able to optimize that working capital to gain more fiduciary assets. If that's what I'm describing is correct, could you offer a timeline and how that works in terms of getting those asset balances onto your balance sheet?

Yeah. Yes, your recollection is correct. And I think that if you go back, I don't know 10 years ago when we went through our exercise of consolidating bank accounts from around the world, this will be obviously mostly in the US. We did have some good success of picking up more fiduciary cash into our accounts and I think that will be invested. So we do see that as an opportunity that will be better together on that metric. So yes, there should be versus their run rate, I'm guessing together we'll be better on that going forward.

Doug, is there just any, is that kind of a one-year process or that takes many years?

I listen, in 18 months we shouldn't be talking about it anymore. So I think we get it done in a year and hopefully faster.

Thank you.

The next question is from the line of Gregory Peters with Raymond James. Please proceed with your questions.

Good afternoon everyone. I guess I'd like to start with California. Given the substantial potential loss to the insured market, curious if you could give us some perspective of how it might touch your operations. I'm interested in the business going on inside RPS, if there's any impact on the wholesale market that you're seeing. If you can just talk about your perspectives of that as we watch this disaster unfold, that'd be great.

Okay. And then, I guess my follow-up question is switch gears. You mentioned in your comments about the lower contingents. Just curious, given the profitability we're seeing in the industry, I would have imagined that supplementals and contingency be up. And I think your guidance for 2025 suggests that they should go back up again. But maybe you could spend a minute and give us some color on what happened with contingents and your outlook.

Yeah, great question Greg, thanks for asking. You know, like I said, I ended in my comment this isn't a trend and what you said there is right, we would expect it to bounce back up again. You know, frankly it's simply because as we get the final year and loss ratio estimates in from the carriers, they're coming in just a little bit higher than what maybe we had been anticipating throughout the year. And to put this in context, we see this as about a maybe $7 million shortfall to what we were thinking back in October. You know, a third of it, two-thirds of it is spread across hundreds of contracts. And so if the loss ratios are ticking up just a little bit, it might that probably cost us $4 million of it. And then another third is we had about three contracts in and programs in Canada that just really kind of came in here in January with really not very great results. So that's what it is. But if you look at on an annual basis when you combine supplements and contingents, I think if I do the math here mentally, I think it's about 8% even with a small blip in the fourth quarter. So it's still a terrific year. But I wouldn't overread that there's some systemic shift in what contingents and supplementals are going to be going forward. So I would expect those numbers to grow over the blip this year considerably.

Just a clarification on that answer, Doug. Is there a specific line of business? Is it across a broader business set?

It's across the line, right? I mean, I wouldn't anything there. So we have hundreds of these contracts. And you know, we get a lot of this information coming in here right around the first week or two of January.

Thank you for your answers.

I guess another way of saying on a $600 million number only to have maybe three or four million of what I would say loss ratio says. I think our picks have been pretty good throughout the year.

Uh, I would say so.

Yes.

Our next question comes from the line of Andrew Cliggerman with TD Securities.

Pleased to see you with your questions.

Hey, good afternoon. Um, first question is, Hi, how are you? Um, first question is around the risk management segment. Um, you know, thinking back to last year you had guided to 9 to 11% organic growth for this year and now for next year for 24 that is and now for 25 you're guiding to six to eight which I still think is fabulous but what's kind of changing that your guidance isn't quite as robust as it was to start last year?

I see.

Yes.

They're just hard every once in a while. Got it. Then I was just kind of curious about your operations in India, the center for excellence where I think you have about 12,000 employees right now and as you look out through this year do you need to add people given the Assured Partners transaction? Can you keep it steady? And is technology making it such that you really don't need to hire that much?

I see. So maybe the bottom line takeaway is you may add a thousand or two employees, but it's still scalable. You're still getting better margin from that. Is that the right final takeaway?

Thank you.

Thank you.

Our next question is from the line of Elise Greenspan with Wells Fargo. Please proceed with your questions.

Hi, thanks. Good evening. My first question is on the brokerage outlook for 25. So you reaffirmed the six to eight. Doug, I think when we last spoke in October, you said, maybe benefits is a five, reinsurance is a nine. I want to confirm that's where you still see it. And then you also had said you would provide by line in a little bit more detail at the December day, right, which did not happen. Could you give us a sense even away from benefits and reinsurance just how you see all your businesses trending organically in the 6 to 8% 25 brokerage guide?

I think yes confirming everything you've said. Second of all, I think Pat did a pretty good job in his script of telling you how those businesses are growing right now. I think those are good guesses for next year at this point.

Okay, that's helpful. And then my follow-up question, you know, how do you see the pipeline of transactions? You guys also did a good number of bolt-on deals to end the quarter. And in terms of the AP pipeline, I know when you guys announced the deal you highlighted the fact that there was very little overlap on pipelines. So would you expect once that deal closes at the end of Q1, that the quarterly level of M&A activity could pick up from bringing the two firms together?

So at least this, I'll answer that. I think that first of all, we have to continue to operate these enterprises separately till we're closed, but we do know that there's very little overlap at all and Assured Partners has been very, very good at tucking acquisitions. And as you saw in our announcement, there has not been that much overlap between things that we wanted to put on and things that they actually bought. So we view their pipeline as very accretive to what we're doing and not a lot of overlap. And I think that's going to be fantastic. They've got a great team doing this stuff. We're impressed with what we've seen in due diligence as to what they've done, what they bought, and the pricing they're getting for that. And I think you will see us increase substantially the number of deals. Now, they're small deals. They're very good at tuck-in bolt-ons and small privately held firms in many parts of the country that we're not in.

And then the 1.3

Oh, sorry. Go ahead.

I'm sorry. Go ahead. I was just going to say the 1.3 billion from the green shoe, right? That wasn't contemplated, right? Because the financing was there without it. So, is that just extra cash that you have for the pipeline, the capital that Doug was talking about in his comments?

Yes, that's right.

Okay. Thank you.

Thanks, L.

Our next question is from the line of Mark Hughes with Truist Securities. Please proceed with your questions.

Questions. Yeah, thank you. Good afternoon. Hi, Mark. Doug, the guidance you gave for the first quarter contribution from Assured Partners, is there any seasonality there or is that just the timing of the deal?

Right now, we've assumed that's just the timing of the deal. We will they will have some seasonality, especially in their benefit business, and then anything that might be a public entity type business might be skewed to July. So you'd see a little bit of seasonality, but what you see in there is a pure straight line assumption of it.

And then, Pat, in the wholesale business, you gave the wholesale and reinsurance together, I think up 9%. Any detail you can provide on wholesale observations on the ENS market?

Uh, let me take a look, Mark.

Understood. Thank you.

Thanks, Mark. Our next question is from the line of David Moen with Evercore ISI. Please see you with your questions.

Hey, good evening. I had a question for Doug just trying to unpack the brokerage organic this quarter and I don't want to nitpick too much but the eight you guys were looking for 8% and I'm just wondering so was the entire differential just the contingent and the life sales came back as expected and it was just totally offset by the contingents.

Um just hoping you can unpack that a little bit.

Yeah, you're right. The base commission and fees at 7.8% that business, contingency and supplementals have been running kind of consistent with that together. So the difference of the 7 million bucks, I'd put it up into the upper 7% range somewhere pretty close to the base contingency fee. So you're right. You're spot on in your observation there.

Okay, great. Thanks for confirming. And then I wanted to follow up just on I guess I was surprised the RPC stayed at 5% just given the property price was flat versus up four last quarter. So I'm wondering if maybe it's mixed, but I'm wondering if there's anything else from sort of like an increased purchasing or buy up dynamic that you guys are observing as the property market rates moderate here.

Well, we see that across that. Yeah. Then we've always said it's been a long time we've talked about this as rates are going up, customers opt out of certain coverages and that might be by raising deductibles or reducing limits on it. Sometimes they'll drop some coverages. So, as rates are, remember rates are still increasing. I think it's important for everybody to realize that kind of across the board we're still in a rate increasing environment. They are buying more insurance and the reinsurance you're seeing that from the carriers that they're buying more and then the customers they are buying more coverage on it. So, they'll opt in.

Insurance to value is a big deal too.

Much more pressure on insuring to value.

Got it. Thanks. And then maybe just to sneak one else in, Doug, I think you had said last call that the underlying brokerage business is running at like a 7 to 8% organic growth. Just on an underlying basis, but then the 25 range is in the 6 to 8% range. So, I guess I'm wondering is that 6% just sort of conservatism? Like what sort of scenario would get you guys out of that 7 to 8% range?

Well, listen, I think right now that you know we said way back in October that next year felt a lot like this year and we're kind of in that mid-7% range somewhere this year. The range around it sitting and looking out over the next 11 and a half months I guess that it's six to eight is consistent what we've said before. So we think we'd like to stick with that. I think our team's working pretty hard to always be better than the midpoint of the range obviously, but it's the market's changing. We'll see what wildfires do, we'll see what casualty reserves will do digesting that. I will say on the wildfires, maybe you know, I still don't know how the extra living expenses have been affecting the wildfire estimates for the cat loss on that. And then you can't open up the news any day without somebody taking a casualty reserve strengthening. So those things will cause carriers to take a really hard look at what they're doing with their rates. So it's within 2% is a pretty good guess as we look for the year. And isn't it nice being in that range versus years ago when we were pretty excited about one or two percent organic growth?

Yeah. Yeah. No, completely agree. Thank you.

Thanks, dude.

Our next question is in the line of Katie Sakis with Autonomous Research. Please proceed with your questions.

Hi, thank you. Good evening. I guess my first question is you know thinking about the last call I think Doug you'd mentioned that you expect brokerage organic growth in 2025 split between the components to come from about half new business and then perhaps a quarter each to rate and exposure. Has your perspective on the components of that brokerage organic growth guide changed in the context of the Assured Partners acquisition?

No. Yeah, we Pat summarized it pretty quickly. That's what we're still seeing happening right now.

Okay, sounds good. And then it looks like international retail brokerage growth kind of continues to cool off a little bit. How are you guys thinking about the environment for organic growth abroad this year versus what looks like perhaps a little bit more stable growth in the US?

Okay, I think you got to really look at that by geography. I mean, there's parts of the world that are just really, really growing incredibly well. We just had our board meeting and did a deep dive into some of our Latin American businesses. Not huge in part of the whole overall enterprise, but incredibly nice growth there. And so it depends. Canada a little bit of a slowdown this past quarter. We've talked about that, but as you look across the whole patch, it's hard to put a finger on it, which is why we try to give you a guidance in terms of the overall how it should shake out. But we definitely have some geographies that are doing extremely well and have continued future growth that is going to be fantastic.

Appreciate the additional color there. Thanks guys.

Thank you.

The next question is from the line of Myer Sales with KBW. Pleased to proceed with your question.

Great. Thanks. I like how everyone's employment Canadians.

Yeah, I'll try not to. Um, you mentioned obviously accurately that there's a ton of adverse development that we're seeing in general liability. And I was wondering whether there's any direct impact when you've got more frequent claims or more attorney involvement in terms of how Gallagher Bassett grows revenues.

Okay. No, that's very helpful, very thorough. Switching gears, I'm just looking for an update on the multiples for M&A because we've seen not only your acquisition of Assured Partners, but a lot of the other big brokers out there have made big acquisitions. I don't know if that speeds up or decelerates competition for tuck-ins.

Well, this of course is all speculation on my point, but remember, and we try to share with you pretty much every quarter what we are buying at. And you're not seeing our tuck-in acquisitions and the activity that we do on our smaller deals anywhere near the treetop levels of multiples that have been running up over the years. I do think that the Assured Partners acquisition, we had very smart seller. I think we were an opportunistic buyer and I definitely think there's a signal there.

Okay, perfect. Thank you so much.

Our next question is in the line of Rob Cox with Goldman Sachs. Please proceed with your questions.

Hey, thanks. And apologizing for asking another question on brokerage organic, but when you consider the 6 to 8% organic growth range, could you give us some insight into what level of renewal premium change you're thinking about within that? Because I'm wondering if you're assuming some of the acceleration that you think may be happening in the casualty market or if you don't need that to achieve the 6 to 8.

Yeah, I think that estimate is not assuming that there's tailwinds produced by the fires or the casualty strengthening. We kind of see that in the current environment. We think that net new business over loss will contribute about half of that number. We think that exposure will be about a quarter of it and rate will be about a quarter of it. So there's not a big assumption for rate in here. Nor is there a really big assumption for exposure unit growth. This is just what we're seeing in our net new business wins right now. We're showing pretty well out there in the field. And here go back to what we said before. When there's not as much chaos in the market, we get to show our tools and capabilities shine brighter in those environments because when it's chaotic and customers are listening to big rate increases, they're just trying to get their insurance placed, they're already a bit stung by the fact that rates are up. We work very hard to keep those rates down for them. Now we'll be able to go in and show prospects just in a level playing field when things aren't chaotic. You should be using our tools and capabilities to buy your insurance through us or let us buy your insurance for you. So this is an environment where we believe our new business will shine. We think our service offerings are getting better and better every day. We have insights into what clients might be a little shaky. Let's get out and talk to them and make sure that we get the renewal put to bed soon. So I think this is an environment where our folks can shine with the tools and capabilities they have.

That makes sense. Thank you for all the color. Pivoting to reinsurance brokerage. I just wanted to ask because I know your growth has been a good bit stronger than your two largest competitors in the reinsurance brokerage space for a number of years now. Gallagher has a lower revenue base, but it doesn't seem like that would be the only driver of the outperformance. So I was hoping you could remind us what's driving Gallagher's ability to deliver double-digit organic growth in reinsurance.

Well, I think that it's just blocking and tackling. I think one of the things that we found there is it's a great sales team. They're backed up by terrific analytics, incredible capabilities in consulting on capital management, and there's no doubt being part of Gallagher has offered them some additional opportunities.

Thank you.

Our next question is from the follow from the line of Mike Serky with Capital Markets. Please proceed with your questions.

Oh, great. My follow-ups on reinsurance as well, just the strong results. Just curious, would it maybe a mix on reinsurance? Do you potentially have a greater mix towards casualty or specialty Europe focused that could be helping the outlook given casualty pricing is accelerating?

Yeah, we have a terrific casualty bulk of business. North American casualty is a big part of our US business, but we're probably a little underweighted on property maybe versus the others. So I think it's probably more casualty weighted. I don't exactly understand their book of business, but what our perception is that we're underweight on property. Well, and also remember where's the pain right now as a reinsurance buyer? It's casualty. That's what we've talked about in these calls and there's no question about it. That's the area that's got some pain and our team is really good at that.

Got it. Maybe since it's not 6:15 I'll sneak one last one in. Just curious, health inflation for employers, some of the stats we've seen it's expected to rise 25 versus 24. Maybe you disagree with that, but does that provide any uplift to the organic for employee benefits or I know there's a lot of building blocks for employee benefit.

Thank you.

Thanks, Mike.

Thank you. Our final question is from a follow from Alex Scott with Barclays. Please proceed with your question.

Thank you all. This is Justin on for Alex. Just kind of going back into the brokerage segment in the commercial middle market. I understand seems like 90% of the time you guys are competing against independent brokers. I was just curious in light of the large scale acquisitions that's been taking place whether or not you see this 90% number to dwindle over time and just think about 25 and ahead.

This does conclude today's conference call. You may now disconnect your lines at this.