DBRS Morningstar Confirms Intact Financial at “A” Following RSA Acquisition Announcement; Stable Trend

DBRS Limited (DBRS Morningstar) confirmed all ratings of Intact Financial Corporation (Intact or the Company) and its operating insurance subsidiaries, including Intact’s Issuer Rating at “A” and the Financial Strength Rating of its main subsidiaries in Canada at AA (low), following the Company’s announcement that, together with Tryg A/S (Tryg), it has reached an agreement to acquire RSA Insurance Group Plc. (RSA). The trend on all ratings remain Stable. The disclosed terms of the proposal state that Intact would acquire RSA’s Canada and U.K. & International businesses and obligations while Tryg would acquire RSA’s businesses in Norway and Sweden. At the same time, Intact and Tryg would enter into a co-ownership agreement to acquire RSA’s operations in Denmark. The acquisition is expected to be completed during the second quarter of 2021 subject to receiving all relevant approvals and clearances from RSA shareholders, as well as from regulatory and antitrust authorities.

KEY RATING CONSIDERATIONS
The confirmation and Stable trend reflect the Company's strong franchise strength, which is supported by a well-diversified product mix and extensive distribution network that will be further enhanced by the acquisition. Intact continues to benefit from strong capital ratios and liquidity, as well as from its strong franchise strength that generates good and consistent results. While DBRS Morningstar expects Intact’s coverage ratios to remain strong, financial leverage will likely remain in the mid 30% range in the immediate years after the acquisition. As Intact’s largest acquisition to date, there is considerable additional operational risk as a result of operating across numerous international jurisdictions, as well as having Tryg as a partner in the transaction. Nonetheless, DBRS Morningstar’s concerns are partially mitigated by Intact’s successful track record integrating previous acquisitions, most recently proven with OneBeacon. We also note that Intact has consistently performed better than the industry average in terms of premium growth, underwriting profitability, and return on equity (ROE), which DBRS Morningstar expects will be extended to RSA operations following the acquisition.

RATING DRIVERS
The ratings would be upgraded if the RSA acquisition is successfully executed by achieving the expected financial results, while maintaining a similar risk profile. This would include strengthened market positions that results in a sustained improvement in profitability. Lowering financial leverage to below 30%, while strengthening capital buffers, would also have positive rating implications.

Conversely, the Company would be downgraded if there are material integration issues, or if Intact experiences a persistent decline in underwriting results or significant unfavorable reserve developments. The ratings would also be downgraded if Intact experiences a material decline in capital buffers above regulatory target ratios together with a sustained deterioration in financial leverage over 35%.

RATING RATIONALE
DBRS Morningstar views the transaction positively for Intact’s franchise. Intact already maintains a dominant market position in the Canadian P&C insurance industry with 15.3% aggregate market share based on 2019 premiums, which would grow to about 20% on a pro forma basis. The acquisition also enables Intact to become a sizable player in the global specialty lines insurance market, as well as to enter the U.K. and Ireland markets at scale. Overall, the acquisition would enhance the Company’s product and geographic diversification.

DBRS Morningstar notes that there is significant execution and integration risk with an acquisition of this size. RSA generated £7.5 billion in gross written premiums in 2019, or about $2 billion more than Intact if converted to Canadian dollars. The Canadian and U.K. & International segments accounted for approximately 70% of net premium written by RSA. This indicates that Intact will be acquiring the majority share of RSA’s businesses. DBRS Morningstar expects that the integration of the Canadian business of RSA will be relatively uneventful given both companies offer similar products, have a comparable distribution strategy, and are regulated by the same prudential regulator. However, the integration of RSA’s U.K. & International business could face additional challenges as this is Intact’s first international expansion outside North America. We note that RSA’s Danish business would be initially co-owned with Tryg, which could cause issues with clear management control, although Intact could look to exit this business. There will also be significant challenges for Intact that arise from managing an expanded geographical footprint, including cultural differences and different regulatory standards for business conduct. The breakup of RSA may also cause significant integration challenges as a result of shared systems and processes within the existing group that need to be separated after the acquisition is completed.

Intact intends to finance its portion of the proposed transaction mostly with equity and a combination of debt and preferred shares. The Company has publicly announced that it would structure the funding of the transaction to support its current ratings by limiting the impact on its leverage and fixed-charge coverage ratios. On November 12, Intact announced equity funding agreements with subsidiaries of Caisse de dépôt et placement du Québec (CDPQ), Canada Pension Plan Investment Board (CPP), Ontario Teachers’ Pension Plan Board (OTPP), and other equity investors for $4.45 billion. Debt financing for the deal includes a $0.6 billion bank term loan and a bond bridge facility consisting of $0.8 billion of medium term notes and preferred shares.

DBRS Morningstar anticipates that the Company will maintain a financial leverage ratio (including preferred shares) around 35% immediately after the acquisition. The Company has announced its intention to return to current leverage levels within three years. Per DBRS Morningstar's calculations, Intact's financial leverage was 31.2% at the end of Q3 2020. Nonetheless, the size and leverage required for this transaction will likely reduce Intact’s financial flexibility in the short term. The Company noted that it will maintain a strong capital position post-acquisition, with an estimated capital margin above $1.5 billion and an MCT ratio above 194% in Canada, a Solvency II coverage ratio above 160% in the U.K., and an RBC ratio above 400% in the U.S.

ESG CONSIDERATIONS
Environmental concerns related to climate and weather risks are key drivers behind the rating action. As a P&C insurer, Intact is exposed to catastrophe loss from natural events, such as wind, wildfires, hail, flooding, and other extreme weather events. These events can lead to earnings volatility and increased insurance costs. This ESG factor is primarily considered as part of product risk when assessing the Company’s risk profile, but can also affect earnings ability, liquidity, and capitalization.
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

The Grid Summary Grades for Intact are as follows: Franchise Strength – Strong; Risk Profile – Strong/Good; Earnings Ability –Strong/Good; Liquidity – Strong/Good; Capitalisation – Strong/Good.

Notes:
DBRS Morningstar notes that this Press Release was amended on November 30, 2020 to incorporate the description of the ESG Considerations.

All figures are in Canadian dollars unless otherwise noted.

The principal methodology is the Global Methodology for Rating Life and P&C Insurance Companies and Insurance Organizations (July 21, 2020) at https://www.dbrsmorningstar.com/research/364260/global-methodology-for-rating-life-and-pc-insurance-companies-and-insurance-organizations.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrsmorningstar.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com.

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