Arthur J. Gallagher & Co. — 2020 Form 10-K
Reporting period: Fiscal year ended December 31, 2020. This is an annual filing, with fourth-quarter results also reported. Gallagher provides insurance brokerage and consulting, and third-party claims administration; it generally does not assume net underwriting risk. Brokerage, risk management and corporate represented approximately 74%, 14% and 12% of 2020 revenue, respectively.
Financial results and liquidity
| Metric | 2020 | 2019 | Change |
|---|---|---|---|
| Total revenue | $7,003.6 million | $7,195.0 million | (2.7%) |
| Revenue before reimbursements | $6,851.9 million | $7,056.4 million | (2.9%) |
| Earnings before income taxes | $870.9 million | $626.1 million | +39.1% |
| Net earnings attributable to controlling interests | $818.8 million | $668.8 million | +22.4% |
| Diluted earnings per share | $4.20 | $3.52 | +19% |
| Cash provided by operating activities | $1,752.5 million | $1,119.2 million | +$633.3 million |
Fourth-quarter 2020 revenue was $1,703.6 million versus $1,721.4 million in fourth-quarter 2019. Earnings attributable to controlling interests were $142.2 million versus $98.5 million, and diluted EPS was $0.72 versus $0.51.
- Core brokerage: Revenue increased 5% to $5,167.1 million; organic revenue growth was 3.2%. Net earnings rose 21% to $866.0 million. The adjusted non-GAAP EBITDAC margin increased to 32.7% from 28.5%.
- Risk management: Revenue before reimbursements declined 2% to $821.7 million; organic fees fell 2.7%. Net earnings were $66.9 million, up 1%, and adjusted EBITDAC margin before reimbursements rose to 18.2% from 17.4%.
- Corporate and clean energy: Corporate reported a $109.2 million loss attributable to controlling interests, versus a $97.5 million loss in 2019. Clean-energy-related net after-tax earnings were $69.8 million, down from $88.5 million.
- Cash and debt: Year-end cash and cash equivalents were $664.6 million; an additional $2,909.7 million of restricted cash was held primarily for fiduciary purposes and should not be treated as freely available. Total debt was approximately $4.55 billion, including $4.348 billion under note purchase agreements and $203.6 million under the premium-financing facility. No borrowings were outstanding on the $1.2 billion revolving credit facility; $1,182.6 million was available.
- Capital and distributions: Capital expenditures were $99.3 million, down from $138.8 million. Cash paid for acquisitions, net of cash acquired, was $324.3 million, versus $1,266.8 million. Dividends declared were $1.80 per share; a $0.48 quarterly dividend was announced for first-quarter 2021. No shares were repurchased in 2020.
Material changes versus 2019
- Reported total revenue declined mainly because clean coal activity fell: revenue from clean coal activities was $863.5 million versus $1,319.3 million. Core brokerage revenue grew, while risk management revenue contracted.
- Operating cash flow increased substantially, partly due to working-capital timing, including changes in premiums receivable and payable, and cash-management actions. The company also received a $28.5 million refund of remaining alternative minimum tax credits.
- Brokerage operating expenses fell, reflecting lower travel, entertainment, occupancy, professional-fee and marketing costs, while compensation rose. Brokerage reported a $5.8 million loss on divestitures, compared with $75.3 million of gains in 2019.
- Amortization expense increased, including a $51.5 million brokerage write-off of amortizable intangible assets. No goodwill impairment was identified in the 2020 annual review.
- The company completed 27 acquisitions in 2020, compared with 49 in 2019; acquisition activity slowed during parts of the year amid COVID-19 uncertainty.
Outlook, commentary and risks
- Management expected 2021 international revenue as a proportion of total revenue to be comparable to 2020. It anticipated continued increases in property/casualty insurance rates, which could offset some or all exposure-unit declines, but noted that economic weakness and reduced client exposures could persist.
- Management expected softness in employee-benefits consulting and special-project work to continue for several quarters. Risk-management claims volumes improved from 2020 lows but remained below pre-pandemic levels entering 2021.
- Management estimated 2021 clean-energy investment net after-tax earnings, including Section 45 tax credits, of $60 million to $75 million. Tax-credit eligibility for the remaining 21 plants was scheduled to end by December 31, 2021. This estimate is subject to production, regulatory, market and tax risks.
- COVID-19 drove remote work, lower claims volumes and reduced activity in some client sectors. Cost actions generated estimated quarterly pretax savings of about $65 million to $70 million in the second through fourth quarters of 2020; management estimated first-quarter 2021 savings of $60 million to $65 million, before estimated implementation costs of $12 million to $15 million.
- A ransomware incident was detected on September 26, 2020. Gallagher took global systems offline; critical systems returned to service. The investigation into possible unauthorized information access remained ongoing, although management did not believe the incident would materially affect the business, operations or financial condition.
- Notable legal and regulatory matters include ongoing IRS and DOJ investigations concerning micro-captive advisory services. Gallagher said it was not a target of the DOJ investigation, was cooperating, and could not reasonably estimate potential losses. The company also faces patent litigation relating to Chem-Mod technology and other ordinary-course claims and proceedings.
- Other important risks include acquisition integration and goodwill/intangible-asset valuation, competition and insurance pricing cycles, contingent and supplemental revenue variability, cybersecurity and privacy, foreign exchange, debt and refinancing obligations, and the possibility of changes to tax laws or insurance-broker regulation.
Key facts for investors to verify
- How much of earnings growth came from recurring brokerage and risk-management operations versus tax credits, cost reductions, acquisition effects and other adjustments? Adjusted EPS of $4.72 is a company-defined non-GAAP measure; GAAP diluted EPS was $4.20.
- Whether operating cash flow is repeatable: 2020 cash generation benefited from working-capital timing and deferred $51.6 million of employer payroll taxes into 2021 and 2022.
- The amount and timing of debt maturities, interest costs and acquisition earnouts, including $592.2 million of recorded earnout obligations and a $330 million Bollington acquisition expected to close in February 2021.
- Whether the final years of Section 45 credits, related IRS reviews and clean-coal operations support management’s earnings and cash-flow estimates.
- Progress and potential costs or claims from the ransomware investigation, micro-captive inquiries, patent litigation and other contingencies.