Friends Life Buyout Could be Risky for Aviva

Aviva has made an all-stock offer to Friends Life to buy out the insurer for £5.6 billion. If the acquisition goes ahead it would double Aviva's pensions assets

Vincent Lui, CFA 24 November, 2014 | 9:38AM
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Aviva (AV.) is in preliminary talks to acquire Friends Life (FLG) for £5.6 billion in an all-stock transaction. Under the terms of the offer, Aviva would acquire shares of Friends Life on the basis of an exchange ratio of 0.74 Aviva common shares for each Friends Life common share, which would translate into £3.99 a share for Friends, representing a 15% premium to the stock's closing price on Friday. At this time, we do not anticipate changes to our £5.25 fair value estimate and moat rating for Aviva.

The deal comes at a time the U.K. insurance industry continues to grapple with the fallout from the new budget bills unveiled early in the year that removed certain requirements for annuity purchases by U.K. pensioners. As a result, the demand for annuities fell sharply in the U.K., with Aviva's domestic sales dropping 33% in the latest reporting quarter. A combination of Aviva, with a market capitalisation of £15.9 billion, and the smaller Friends Life, with a market capitalization of £4.9 billion, will create a business with 16 million customers worldwide and would more than double Aviva's corporate pension assets under management.

Friends Life addition could create more concentration risk for Aviva

A deal of this scale also underscores the ambition of Aviva CEO Mark Wilson, who came to revive the ailing U.K. insurer in 2013. Wilson was known for his previous involvements in monetising AIG's Asia operations in 2010 when the firm was hit hard in the financial crisis. We aren't surprised that Aviva was attracted by Friends Life's strong cash generation, as increasing cash flows at Aviva remains a key focus for Wilson. By adding Friends to the fold, Aviva might be moving closer to a dividend raise in the near term.

While bringing many positives to Aviva, the deal does not fit with the firm's desire to seek broader revenue diversification by geography. Following the asset sales in Asia and the U.S., Aviva has become a largely Europe-focused firm, with nearly 86% of the firm's new business sales coming from all of Europe and the U.K through the first nine months of this year. As a result, the addition of the U.K.-focused Friends Life could only push that ratio higher, creating more concentration risk for the firm itself.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Aviva PLC481.30 GBX0.27Rating

About Author

Vincent Lui, CFA  Vincent Lui, CFA is an equity analyst for Morningstar, covering life insurance companies.

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