Brown & Brown, Inc. — FY2016 Form 10-K Summary
Business context and reporting period
Brown & Brown is a diversified insurance agency, wholesale brokerage, insurance programs and insurance-related services organization. Its four reportable segments are Retail, National Programs, Wholesale Brokerage and Services. The filing covers the fiscal year ended December 31, 2016; quarterly data identifies fourth-quarter 2016 results but the filing is an annual Form 10-K.
The Company operated in 237 locations across 41 states, plus England, Bermuda and the Cayman Islands, and had 8,297 full-time equivalent employees at year-end.
Financial performance and key metrics
| Metric | 2016 | 2015 | Change |
|---|---|---|---|
| Total revenues | $1.767 billion | $1.661 billion | 6.4% |
| Commissions and fees | $1.763 billion | $1.657 billion | 6.4% |
| Core commissions and fees | $1.697 billion | $1.595 billion | 6.4% |
| Organic revenue growth | 3.0% | 2.6% | Improved |
| Income before income taxes | $423.5 million | $402.6 million | 5.2% |
| Net income | $257.5 million | $243.3 million | 5.7% |
| Diluted EPS | $1.82 | $1.70 | 7.1% |
| Operating cash flow | $375.2 million | $411.8 million | Down $36.7 million |
| Capital expenditures | $17.8 million | $18.4 million | Down $0.6 million |
Approximate margins were 24.0% pretax and 14.6% net income, compared with approximately 24.2% and 14.7%, respectively, in 2015. Employee compensation and benefits increased to 52.4% of revenue from 51.6%, while other operating expenses declined to 14.9% from 15.1%.
Segment revenue and pretax income were: Retail revenue of $917.4 million and pretax income of $188.0 million; National Programs revenue of $448.5 million and pretax income of $91.8 million; Wholesale Brokerage revenue of $243.1 million and pretax income of $62.6 million; and Services revenue of $156.4 million and pretax income of $24.3 million.
Cash, debt and liquidity
- Cash and cash equivalents were $515.6 million at December 31, 2016, up from $443.4 million.
- Current assets were $1.761 billion and current liabilities were $1.445 billion, producing a current ratio of 1.22 versus 1.16 in 2015.
- Total debt was $1.074 billion, down from $1.145 billion. Long-term debt, net of discounts and issuance costs, was $1.018 billion.
- The Company had no borrowings under its $800 million revolving credit facility and stated that cash, investments, operating cash flow and available credit were sufficient for normal liquidity needs for at least the next twelve months.
- Debt maturities included $55.5 million in 2017, $155.0 million in 2018, $371.3 million in 2019 and $500.0 million in 2024. The Company reported compliance with its debt covenants.
- Cash uses in 2016 included $122.6 million for acquisitions, $28.2 million for acquisition earn-out payments, $70.3 million for dividends, $7.7 million for share repurchases and $73.1 million for debt principal repayment.
Material changes versus prior comparable period
- Organic revenue growth increased to 3.0% from 2.6%, with positive organic growth in all four segments.
- Wholesale Brokerage had the strongest revenue growth, with total revenue up 12.0%, but pretax income declined 3.2% because of higher compensation and operating expenses and lower contingent commissions tied to higher loss ratios.
- National Programs pretax income increased 35.6%, helped by revenue growth, lower intercompany interest expense and premium tax refunds associated with the National Flood Program.
- Services pretax income increased 23.5%, supported by the SSAD acquisition, catastrophe claims activity, operating efficiency and lower intercompany interest expense.
- Retail pretax income increased 3.3%, while compensation expense and acquisition earn-out charges increased.
- The Company completed eight acquisitions, excluding book-of-business purchases, and paid $124.7 million for acquisitions. Acquired businesses contributed $34.2 million of 2016 revenue.
- Estimated acquisition earn-out payables declined to $63.8 million from $78.4 million, but the related income statement charge increased to $9.2 million from $3.0 million.
- Dividends declared increased to $0.50 per share from $0.45. The year-end share repurchase authorization was $367.3 million.
- Goodwill increased to $2.675 billion from $2.587 billion. The Company reported no goodwill or amortizable intangible asset impairments.
Guidance, outlook, risks and unusual items
Management stated that, if gradual increases in insurable exposure units continued through 2017 and premium-rate changes were similar to 2016, the Company expected positive quarterly organic revenue growth in 2017. This was not presented as formal earnings guidance.
- The Company is undertaking a multi-year technology upgrade expected to require approximately $30 million to $40 million and to pressure margins during implementation.
- Revenue is affected by insurance premium rates, exposure units, policy renewals, cancellations, new business, acquisitions and uncertain profit-sharing contingent commissions. These commissions totaled $54.0 million in 2016.
- Property and casualty pricing remained challenging, particularly for catastrophe-prone properties; rate reductions were reported in most lines other than commercial automobile.
- Operations and revenue are concentrated in selected states, which increases exposure to economic conditions, regulatory changes and natural disasters, including hurricanes, earthquakes and floods.
- The business is highly regulated and exposed to potential changes affecting licensing, contingent commissions, compensation arrangements, insurance markets and privacy requirements.
- Acquisition execution, integration, earn-out estimates and goodwill impairment remain material risks. Goodwill represented approximately half of total assets at year-end.
- Cybersecurity, technology interruptions, data privacy, employee retention, competition, litigation and errors-and-omissions claims could adversely affect results or liquidity.
- Legal accruals were not material, and management did not identify any current legal proceedings expected to have a material adverse effect; however, unfavorable developments could materially affect future periods.
- Internal controls over financial reporting were determined effective, and Deloitte & Touche issued unqualified opinions. Controls for three 2016 acquisitions were excluded from management’s assessment; those acquisitions represented 3.0% of total assets, 1.5% of revenue and 0.9% of net income.
Most important facts for investors to verify
- Reconcile reported revenue growth with the 3.0% organic growth rate and quantify the contribution from acquisitions and contingent commissions.
- Assess whether compensation growth, technology investment and acquisition-related costs are likely to continue pressuring margins.
- Review debt maturities, floating-rate exposure on the $481.3 million term loan and compliance with credit agreement covenants.
- Evaluate the sustainability of operating cash flow after acquisitions, earn-out payments, dividends, debt repayment and share repurchases.
- Monitor catastrophe-prone property pricing, carrier loss ratios and the effect on contingent commissions and wholesale profitability.
- Assess goodwill of $2.675 billion and the sensitivity of impairment testing to slower growth, lower cash flows or a sustained decline in the stock price.
- Review integration progress and future contingent consideration, including maximum potential acquisition payments of $117.2 million.
- Consider the effect of the planned technology investment and future lease obligations of $213.2 million.