Arthur J. Gallagher & Co. (AJG) 2010 Q2 法說會逐字稿

Good morning and welcome to Arthur J.

Gallagher & Company's second quarter 2010 earnings conference call.

(Operator Instructions) As a reminder, 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 securities laws such as any observations regarding future results.

These forward-looking statements are subject to certain risks and uncertainties described in the Company's reports filed with the Securities and Exchange Commission.

Actual results may differ materially from those discussed today.

It is now my pleasure to introduce J.

Patrick Gallagher Jr., Chairman, President and CEO of Arthur J.

Gallagher & Company.

Mr.

Gallagher, you may begin.

Thank you, Rob.

Good morning, everyone.

Thanks for being with us this morning.

This morning I'm joined by Doug Howell, our Chief Financial Officer, as well as the heads of our operating divisions.

As is our custom, I'll make a few comments, talk about the current operating environment, and give some additional color to the quarter.

Then Doug will take you through the numbers and we'll get quickly to questions and answers.

We continue to operate in one of the toughest economic environments since my grandfather navigated this agency through the Great Depression.

I can't remember in my career this many quarters of negative organic revenues.

Having said that, all of our operations are working hard at overcoming these headwinds.

For the quarter, we grew revenues 3% in our brokerage segment, 5% for six months in the brokerage segment, and our risk management segment was off 2% in revenue both in the quarter and year-to-date.

Brokerage adjusted EBITDAC is up slightly year-to-date.

Strong cost containment efforts have allowed the risk management segment to show - actually to maintain EBITDAC or about EBITDAC for the first six months.

No one at Gallagher is simply waiting for the economic and rate environment storm to pass.

We continue to recruit solid sales teams both in the US and abroad.

Our interns are finishing up a great summer.

We had over 150 interns this summer.

Our merge and acquisition pipeline is very full and will continue to provide opportunities for us to grow.

We're out there working very hard knocking on doors asking for new business every single day.

We all recognize that we are a sales and marketing Company.

At Gallagher, everybody knows that nothing happens until somebody rings the cash register.

However, I'm sure you are all aware of this, the vast majority of our clients are simply not seeing many signs of stabilization in their own businesses.

So our business naturally follows or even slightly lags their trends.

Compounding the difficult economic situation, the PC market shows no signs of hardening.

Nonetheless, we continue to remain focused on growing our business.

So let me add a little bit of color to each of our operating units.

First I'll start with retail property casualty brokerage.

Our retail PC operations are probably fighting the toughest headwinds.

While we continue to write a lot of new business, we are seeing existing customers renewing at lower levels.

As I said earlier, this comes from cheaper rates and from lesser exposure units.

On the other hand, we did see nice growth in our supplementals and contingents year-to-date.

We continue to remain very niche-focused.

When we measure our progress in our niche areas versus our general book of business, we continue to find we are becoming stronger and stronger in the areas in which we specialize.

Renewal retention in these niches is better as is new business production.

We continue to be very focused on understanding our clients' businesses and adding value that goes far beyond the simple placement of insurance.

Second, our retail employee benefits operations.

New business is trending better, retention is holding steady, and we're seeing normal inflation-like rate increases.

However, those trends are being offset somewhat by smaller employee counts.

This leads to a slight decrease in organic revenue growth for the summer -- for the quarter.

Another high point here is that our benefit teams are working diligently to keep our clients informed about all the latest activity around the healthcare reform.

Our clients are going to need a lot of help understanding a 2,000-page piece of legislation.

Thirdly, domestic PC wholesale.

We continue to see things that we would normally see at this stage of the cycle and posted negative organic revenue growth as well.

Our open brokerage units saw accounts move back into the standard markets and those that remain in the surplus line markets are seeing lower renewal rates.

Our NGA underwriting businesses are seeing fewer opportunities because there's little new business start-up activity that typically fuels the growth of these programs.

On the other hand, we did offset much of the impact of this in the quarter with increased business from our cross-selling initiatives.

We continue to also see good profit-based contingent commissions.

Fourth, moving to our international PC operations.

This is a bright spot for us.

Most people really don't think of Gallagher as a global Company, but our fastest growing operations are our international operations.

We are now harvesting some of our investments and new production talent that we've made over the last couple of years.

The new production talent as well as cross-selling initiatives have allowed us to create positive organic growth in this unit for the quarter.

I also mentioned in our April earnings call that we had just completed our acquisition of FirstCity in London.

During the quarter, I was in London.

And I have to say every single day we get more excited about the opportunities of the combined organization.

I want to once again welcome them and all of our new merger partners to Gallagher.

Each of them had a choice and we're thrilled that they chose to join us.

Let me move to the risk management segment from the brokerage segment.

Domestically, there remains significant downward pressure on the demand for claim services driven primarily by reduced overall business activity and lower headcounts within our clients.

We mentioned new claim counts were flat at the end of the first quarter.

Unfortunately, they dropped slightly in the second quarter and year-to-date are down 2% compared to last year.

There continues to be intense pressure on pricing and stiff competition for both new business and renewals.

Furthermore with the soft market, we do have some clients leave us to return to a fully bundled offering by the carriers.

Even when considering all this, tight controls over head count and other expenses have enabled us to hold our margins for the quarter and year-to-date.

Once again, our international operations give us a bright spot.

When you back up the lumpiness of the performance bonus from the second quarter, we had good growth once again.

Our operations in Australia and the UK are two of the more exciting places within our entire network.

They are growing every quarter, bringing new accounts in and really hitting on all cylinders.

Of note, our operation in Australia was recently named the number one performer for one of the country's largest state-based workers compensation programs.

So, we continue to see opportunities to expand and grow this product offering internationally.

Doug?

Thanks, Pat, and good morning, everyone.

You heard Pat comment on the operating environment, so I'm going to flip through the earnings release and just highlight a few items which might be helpful as you build your models.

Also don't forget to use the 22 quarter financial spread that we posted on our web site.

Beginning with the top table on the face of the earnings release, we had two offsetting items related to integrating the FirstCity acquisition in London that Pat just mentioned.

During the quarter, we reduced our combined workforce in London and moved a portion of the combined operations into some previously abandoned office space.

So, you can see the $0.02 of severance on the workforce charge line.

What's a bit harder to immediately see is the offsetting $0.02 gain that's presented on the discontinued operations line.

The gain is reported in disc ops because in 2008, we wrote off the office space through disc ops.

So when we placed the office space back into service, the gain is reported through the same line item, or in discontinued ops.

Regardless of the accounting geography, economically it is a nice win because we are paying for that leased space anyway.

While a bit of a nit, but since I'm talking about London, when you get to the EBITDAC table on page three, you'll see we had about a $0.01 of FX loss in the quarter.

Going back to page one, you can also see in the top table, we settled a lawsuit in the quarter that cost us $0.02.

We think settlement rather than costly litigation was a wiser choice.

Moving to the second page, you'll see that we provide you with a detailed split-out of our brokerage revenues between base commissions and fees, supplementals and contingents.

This table lets you see organic by line or in various combinations.

In addition, this table should allow to you separately model each line item, which in my view is probably a better way to build your models anyway.

For commissions and fees, please combine the two and make your organic growth then.

I wouldn't model commissions and fees separately because clients could flip-flop how they pay us from year to year.

For supplementals, we spent a lot of time in the quarter discussing that many carriers are now providing us with quarterly rather than annual information.

So, in the brokerage tables on page two and three, we've level-set 2009 to be comparable to 2010 to remove the noise and make it more comparable.

In addition, when modeling supplementals, please make sure you look at the table on page ten.

Using page ten, I would just make an educated pick rather than trying to apply a growth assumption.

In the end, if you model about $9 million to $11 million a quarter for the rest of 2010 and each quarter in 2011, you'll be close based on current conditions.

When you get done, just do a quick check of your models to make sure you don't double up revenues from supplementals in the first quarter of 2011 as a result of all this.

As for modeling contingents, again, I would not try and apply growth rate assumption.

Rather just look at the levels, trends and seasonal patterns on page ten and make an educated pick.

Then for acquisitions, we've announced $44 million of annualized revenues thus far this year.

That would equate to about $10 million of addition revenue per quarter or about $2.5 million of additional EBITDAC per quarter.

Last, you'll need to make a guess for any unannounced acquisitions.

Moving on to page four, you'll see a new table in the corporate segment that shows net earnings for the various corporate activities.

We think this new table is a helpful way for to you organize your thinking when building your models for the corporate segment.

In the end, repeating what we effectively said last quarter, we think the corporate segment will report about a $0.04 quarterly loss for the third and fourth quarter in 2010.

Also, in case you missed our announcement on July 15, on page four you'll read that we replaced our bank line of credit.

We are pleased with the terms, but in this environment it will cost us about $300,000 more per quarter than our old line.

So you might want to tweak up your interest expense going forward.

When we move to page seven, while it has no impact on net earnings or EBITDAC in the brokerage segment, find the amortization line and the change and earn-out line.

You'll see amortization is higher than historical patterns and change in earn-outs is lower than historical patterns in nearly a like amount.

In amortization, we wrote off about $2.3 million of intangibles related to an acquisition that was selling life products and those life products were dependant on leverage.

And in today's world that leverage isn't broadly available.

In the change in earn-out line, we recorded about $2.5 million to adjust estimated earn-outs for a couple smaller deals that probably won't hit their earn-outs.

They're performing as originally expected but they're not performing to the level of obtaining an earn-out so that it causes to adjust down the amount of earn-out expected for them.

Net net the $2.3 million and $2.5 million wash, but they relate to different items.

As a wrap-up comment, while I spent most of today's comments on the earnings release, please know, like Pat said, the entire Gallagher team is working hard during tough times to serve our clients, build better platforms, find new production talent, cross sell among us and drive down our costs, and still all the while, improve our quality.

All of this is geared toward growing the top and bottom line.

Okay, those are my comments.

Back to you, Pat.

Thanks, Doug.

Rob, we'll go ahead and open it up for questions and answers now.

Thank you.

(Operator Instructions) Our first question is coming from Sarah DeWitt with Barclays Capital.

Please proceed with your question.

Hi, good morning.

Good morning Sarah.

A few insurers have said they've seen the decline in exposure units begin to moderate.

And, I want to get your sense if you've seen that trend at all and if there's any economic indicators we should monitor to get a sense of when exposure units could turn?

This is Pat.

We're seeing a little bit of moderation in that regard in the Midwest.

We're not seeing that on the coasts.

I don't know why that is, but when we look at our clients that are renewing here in the Midwest, it seems to be flattening or stabilizing a touch.

We're seeing continued decline in the West and specifically in the Southeast.

In terms of what to watch, my indicator, the thing that I look at is sales and payrolls.

If people aren't adding jobs to their businesses, this economy is not going to turn.

Okay, great.

And then as exposure units begin to improve, how much of this do you think could be offset by lower prices?

Do you expect customers to push back at all on paying more premiums?

I don't think customers could push back any more than they are right now because every dollar counts in every customer we've got.

It is fiercely competitive out there.

I do think as their businesses improve, they do understand that their coverage costs revolve around their exposure units.

That doesn't mean that they will be any less likely to take competition or to push us to get a lower price.

We're at an interesting point in the cycle.

Typically, carriers now are wanting to renew close to flat rates and they can get flat rates if the clients are not aggressively competing.

But if you take a good client, and by that I mean one that doesn't have a lot of losses, who takes the account off to market there will be a reduction in their costs -- in their rates.

Great.

And if I could just sneak in one more.

As we look out to 2011, what opportunities do you have to reduce expenses further and do you think you can expand the brokerage margin if organic growth is flattish?

Good morning, Sarah.

This is Doug.

Here's our thinking on margins right now, just so you know.

First and foremost, if you go back to the same six months of 2008, we posted $105 million of adjusted EBITDAC.

This year, this six months we're posting $135 million.

So, we're up 28% in terms of how much EBITDAC we've grown.

And we've grown margins nearly 2.5 points during this difficult time.

How are we looking at it going forward?

Right now, we think that if we can hold margins in this difficult negative organic environment, that should be viewed as good work.

Now, that said, we do have programs in place.

We do have a lot of excitement inside of the franchise about new productivity, opportunities to save some money -- to improve our quality.

But I would not look at the rest of '10 as being a margin improvement opportunity and if conditions hold in '11, I think holding margins would be viewed as good work in both our brokerage and our risk management segments.

Great.

Thanks for the answers.

Thank you.

Our next question will be coming from the line of Keith Walsh with Citigroup.

Please proceed with your question.

First, just for Doug, thinking about Liberty.

Good morning, Keith.

Hi, good morning, Pat.

How are you?

First question regarding Liberty, if you could remind us of the guidance around that deal when it was originally announced and then how is that tracking at this point?

Thanks.

Liberty's tracking as expected and we thought that we told you we made about $12 million on it last year and we thought that we'd make an incremental $12 million of EBITDA on it this year.

And we think that's tracking as expected and so I'm not seeing any negative indicators on the Liberty transaction at this point.

So it's not tracking ahead just in line?

It's in line.

Second question for Pat around employee benefits.

This is an area of the business, maybe a couple of years ago, that seemed to, for all of the players out there, that was accretive to organic growth and then things with head count stepped down there.

It seems like in your commentary that business is still doing better than maybe the retail P&C business at this point.

Maybe if you could just touch on how that business has progressed the last couple years and is that accurate what I'm saying?

Thanks.

Keith, number one that is accurate.

You read the notes on that exactly right.

Secondly, it gives me an opportunity to tell the benefits team that I know is listening in today, that they're doing a terrific job.

It's a very, very difficult environment in that business.

But one of the things that we're doing there that I think is great work, is expanding the amount we sell to individual clients.

Look at every single client and recognize that typically a client will buy about eight lines of coverage when it comes to benefits and HR-related items and we look at every single client we've got and try to round those clients out.

The team is driving good margins and has very good growth over the last few years.

I would say in the last two years -- 18 months to two years -- however, they're fighting the same headwinds that the PC folks are when it comes to employee count.

FTEs are down.

Everybody's letting people go, they're cutting back on benefits.

You've read, Keith, on how many companies out there have cut their 401Ks.

So there's no appetite to expand benefits among our clients and I will say -- it's interesting there's a lot more pain around a client's benefit spend than there is around a PC spend.

It's just a much bigger spend for clients which is an opportunity for us because we built a great platform.

We've got extensive consulting services that we bring into that space and we like that space a lot.

And so, you're right, they have actually outperformed the PC folks.

And Pat, just to follow up, thinking about the healthcare reform, how could this hurt you?

Is this a negative if some of your customers opt to drop healthcare coverage and have their employees go in, within your smaller customers, go into the national model?

This is interesting.

First of all, the small account book that we have is not very meaningful to us.

We've usually focused on clients that have -- or cases that have 250 to somewhere around 1,000 lives, really core middle market business.

And we don't believe employers are going to get out of the way -- get out of process of helping their employees.

If you take a look at Massachusetts as an example, we've had no clients leave their commercial purchase of benefits insurance and move to the state-run program, not one.

They still feel that it's their obligation -- they feel it's cost effective for them to manage these costs.

Having said that, we look at it right now.

We were -- I was very verbal about being anti-the bill.

I did not think this bill was right for our customers.

I didn't think it was right for our country.

Having said that, we believe it's going to be great for us.

We've got clients that are pulling their hair out right now trying to figure out what this whole thing means to them, and frankly, our consultants are as busy as they can be.

I don't see that dying out for years to come.

Great.

Thanks a lot.

Thank you.

Our next question is coming from Bob Glasspiegel with Langen McAlenney.

Please proceed with your question.

Following up on Keith's inquiry on employee benefits, your local competitor made a pretty dramatic statement about what they thought the relative opportunities and benefits versus PC brokerage.

Any commentary on what that means?

Are you likely to go towards benefits versus property casualty brokerage on your mix?

What do you think the right mix is?

Well, Bob, we've never actually targeted a specific mix.

We're trying to grow both businesses.

But we do acquisitions in both places, as you know.

And we continue to build out our benefits platform every single quarter with acquisitions, and the fact that one of our local competitors made a big bet in that space, I think just reaffirms our strategy.

Okay.

So you wouldn't be surprised to see benefits continue to grow as a percentage of your mix going forward?

I would not be surprised.

Okay.

The answer to the first questioner on guidance seemed to underlay -- Doug in your answer, you said flat margins in a declining organic growth environment for 2011.

Was that a statement that you expect organic to decline in 2011 or -- .

No, I don't know what organic's going to do next year, but if organic declines, we'd be happy with holding margins.

Just the fact that that's the only scenario that you interjected made me suppose that's where your head is at, status quo continues into 2011.

Was that a misread or was that just a random data point you were throwing out?

I actually think that in the event we would have organic growth next year, I think there could be some margin expansion.

I also think that we would take some of that expansion and use it to hire more producers to continue growing.

So I think if you have a positive organic growth environment, we can expand margins.

If you have a negative, we'd be happy to hold them flat.

I guess I'm over-analyzing, which is a tendency of mine, but it seems to me if that's the scenario you're throwing out for to us think about, it seems like you think declining organic growth is the basis that you are managing expenses and the way we should start our models thinking about 2011.

Bob, this is Pat.

I would tell you if we could get a little flattening as we're seeing in the Midwest, if that could spread to the coasts and we could actually get an environment where there's some economic growth, that would be extremely positive for us.

We have really faced some headwinds these last couple years that I have never experienced in my career.

You build the models, but if we could get some economic growth on the order of 2% to 3% and maybe have a flat rate environment, we will have -- we'll have a very good year.

Bob, in the end you do have to understand one thing.

As the CFO, my job is to prepare for the worst and pray for the best.

When I answered the question, when Sarah asked, the question was -- what do we see with margins?

I think we see margins in a declining environment, hopefully holding steady in a growing environment.

Sure we'd love to see some margin expansion on that.

Okay, Pat, I agree, we do our models but you do your budget so it's good for us to know what -- .

No, no, I'm just saying -- absolutely.

I'm just saying that we are definitely sitting around thinking about the scenarios related to continued organic declines, but to Doug's point, if we could get the better environment, we'd do very, very well.

Got you, thanks.

Excuse me.

We have a playbook for a growth environment, too.

From your lips to God's ears.

Thank you.

Thanks, Bob.

Thank you.

Our next question is coming from the line of Meyer Shields with Stifel Nicolaus.

Please proceed with your question.

Good morning.

Thanks a lot.

Doug, you provided a lot of helpful disclosure.

I'm zeroing on the impact of increased travel market and commuting expenses.

Are we at a stable rate yet or is that still depressed because of the economy?

I think that we've reset an expense environment that we can live with right now.

If you recall in my third quarter last year, I mentioned that we might see a little bit of uptick in the travel and expense.

I think the current level right now is probably pretty good for us.

So I wouldn't expect too much more of that in next year.

I think we've come off the bottom that we showed in 2009 as expected.

Our teams are out there targeting the clients, doing the things that they need to do.

But, I think we're in pretty good shape right now.

Okay.

That's helpful.

And, it's been reported, I haven't heard this directly, but it's been reported that they're planning on directing their retail brokers to keep any wholesale business in house and running through London rather than sending it to third party wholesalers.

It's probably legitimate to expect other global brokers to do the same thing.

Is that a significant threat to your wholesale business?

It's not a threat at all to our wholesale business.

They're not doing any business with us in London.

When I mentioned in my comments, our cross-selling initiatives, that's right on what I'm talking about with us as well.

We have not been a Company that's mandated those changes, but we've seriously encouraged, and let me be clear about this.

The reason we encourage utilization of our wholesale people in London is it benefits the client.

Every time we have an E&O claim with an outside wholesaler or any problem for a client, the outside wholesaler disappears.

We end up having to go around them to the market, saying -- "Look, we're not even the broker of record here, but this is our retail client.

We've got to help them.

Here's the deal.

This is what went wrong.

Can you get involved?" So our clients benefit from the fact that we use our own wholesalers both domestically and in the UK.

And that's been a very successful initiative for us this year.

One of the other things, Meyer, too, just to pile on with that.

When I got here seven years ago, our international and domestic wholesaling operations was forming and growing.

Right now, we have in my view, one of the best domestic and wholesale -- and international wholesaling businesses anywhere in the space.

So, I think that our retailers have a great network of people to go to.

We've got some tremendous talent in all of those locations, and I think our clients can get some great values by using our wholesalers both domestically and internationally.

By the way, not to mention any names, but in the wholesale world, things are mixed up now.

Our trading name is Risk Placement Services here in the US and it's a very stable platform that's attracting other outside independent agencies to it as well.

Yes, for sure stability is something that I think is rare and welcome now.

One last question, if I can.

When we're looking at corporate headcount, taking the total last brokerage and risk management, it seems to have picked up a lot this year.

Is there something going on there?

Actually, if you go the to page -- go to page nine of ten of the other information, our total headcount is actually down 100 people versus the same period last year.

We had 10,145 and now we've got 10,034.

So we're down in total.

Was that the question you were asking or were you specifically talking about the corporate segment itself?

Corporate itself.

(inaudible), the thing that we're doing in corporate, there are some, as part of centralizing functions and process improvement initiative, we're pulling people, let's say that may have been in the division -- let's say accountants and IT folks -- and we're putting them under corporate so we can share those resources across the broader platform.

That might be what you're picking up there.

But, it doesn't indicate that corporate's necessarily growing.

That's helpful.

Thanks so much.

Thanks, Meyer.

Thank you.

Our next question is from the line of Scott Heleniak with RBC Capital Markets.

Please proceed with your questions.

Good morning.

Good morning, Scott.

This quarter saw a little bit of uptick in M&A compared to where you've been the past few quarters.

Just wondering if we should read anything into that and what's your expectation for the second half of the year regarding M&A?

This is Pat.

We don't actually give any guidance because every single deal is a very individualized thing.

It's very much like a marriage.

It takes a long courtship and you have to finally get that person to the altar.

I'll tell you that right now, it's more difficult than it's been in the past to get deals to close.

We're getting lots -- plenty of appointments out there, but there is a hesitancy on some of these.

In particular the PC sellers, looking at this as a bottom of the market, do they want to sell now?

So nonetheless, the platform we've built both in the benefits arena and the property casual arena and the international arena is attractive.

So there's lots and lots of opportunities.

Our pipeline is outstanding.

So I would not personally look for a huge uptick in the last half of the year.

We were hopeful earlier in the year that the tax law change going into 2011 would drive a lot of activity.

I think people internalized that now and are still looking at their overall businesses maybe being at the bottom.

Doug, you want to comment?

Yes.

It's a crap shoot to see whether people are really going to rush for the door by December 31 to save themselves some taxes.

If they are, we'll be there.

We're getting a lot of appointments, we're having a lot of meetings.

I think there's a lot of interest, and I think we're in great, great position for them to bring their agency to right now.

Are you seeing a lot of changes in multiples being paid for deals or expectations for multiples being paid compared to two, three quarters ago or is it pretty stable?

I think that what Pat is saying when people are sitting there looking at the value of the franchise, they realize getting the same multiples as maybe they could have gotten four years ago they can't get it, which is causing them to maybe sit on the sidelines a little bit.

We're not afraid of paying a good multiple for a really good shop that shows some really good growth opportunities in a niche space or having a special service that they offer.

But if they're a generalized broker out there, that doesn't have good growth necessarily or a good niche, then I think they're realizing their multiples can't be quite as high.

Okay.

And then just one other quick question, too on M&A, you made a couple international acquisitions.

Just wondering how you are looking at that now versus a couple years ago.

You weren't doing as much on the international side.

So, how are you looking at doing international acquisitions doing international deals versus domestic and just a little detail on that?

This is Pat.

I would say that we continue to get stronger and stronger internationally.

Both on the brokerage side as well as on the risk management side.

As we grow and get larger, we bump into more opportunities.

We're trading with more people.

We're very cautious.

As we do here in the US, 98% of our due diligence is all on culture.

You just have to be very careful about the people you are bringing abroad -- aboard.

But when we find those that fit, and I will tell you as an example, the FirstCity deal that we did in the UK, a terrific fit.

When we find those that fit, we're very happy to expand the platform internationally and domestically.

I think you'll see us have much more -- many more opportunities internationally as the years unfold.

Okay.

And then one final question, you did the restructuring at the end of the year.

You had given -- targeted savings of around $20 million -- $20 million, $22 million.

Just wondering how you are tracking relative to your initial expectations for those cost savings?

We're tracking right on where we expected in terms of headcount reductions.

We have done a good job of continuing to not rehire.

You can see that we continue to have fewer heads even though we've done more acquisitions.

So I'm pleased with it at this point.

Okay.

Thank you.

Thanks, Scott.

Our next question is from the line of Dean Evans with KBW.

Please proceed with your question.

Yes, thanks.

Good morning.

Hi, Dean.

I'm wondering if you could first discuss a little bit -- looking at the organic decline, how would you say that breaks down between exposure units and pricing decline?

What is the percentage that each are contributing?

I'd say 50/50 or maybe something like three -- 50/50 to three-quarters economy, one quarter rates.

A couple of quick numbers questions.

First, you went a little quickly over the interest expense discussion.

Was that $3 million to $4 million per quarter additionally?

No, $300,000 additional per quarter.

$300,000 per additional quarter.

Okay.

Thank you.

So, just clarification.

Very good.

I guess lastly, the litigation settlement in brokerage, what was that related to?

It's one of those things we don't comment too terribly much about litigation.

We just had an unusual situation that arose, not systemic to anything in our organization, that happened by an extremely short-time employee that involved many other organizations and we just got out of it.

Remember, we chose to exit.

This litigation is ongoing and has other participants in it.

And so, we're not really going to comment much on it.

Okay.

Perfect.

That's really all I had.

Most of my other questions were answered.

Thank you.

Great.

Thanks, Dean.

Thank you.

Our next question is from the line of Jack Sherck of SunTrust.

Please proceed with your question.

Thank you very much.

A couple quick questions for you.

On employee benefits, how much of your overall business is that now?

Of the brokerage space it's about 20% to 25%.

Okay, just my final question, on the gap between new versus renewal pricing in Q2 compared to Q1, was it wider, about the same or did it narrow a little bit?

It actually was wider in our experience.

All right.

Typically I would assume as the market continues to harden and we start to see some hardening in the markets that should narrow.

Has that typically been the case?

Yes, if we get some hardening, that will definitely narrow.

Thanks very much.

Thanks.

Our next question is from the line of Adam Klauber with Macquarie.

Please proceed with your question.

Thanks.

Good morning.

Good morning, Adam.

How is the trend on premium audits compared to end of the year?

That's a very good question.

Go ahead, Doug.

Premium audits, we're still seeing no real change in what's happening today than we saw three months ago and six months ago.

So, we're not seeing a substantial negative premium audit at this point.

And our feeling is those have worked themselves through the system at this point.

Adam, I've talked to three or four, probably five carriers about that and I've gotten the following answers from carriers, I won't mention the names.

But, one felt that the return premium audit cycle was probably complete July of this year.

Another thought it would be complete in the third quarter and another thought it would be at the end of this year.

So what we're seeing is flattish.

Okay.

Also, as far as acquisitions and cash, I think you show on the balance sheet non-restricted cash of $230 million.

After dividends, CapEx, how much of that was available for acquisitions over the next six, nine months and will you continue to use more cash or will you begin using some stock, also?

I think in terms of acquisitions was working backwards.

We've been doing 25% cash and 75% stock.

And truthfully, if we have more cash, then we'll have you wait to work with cash.

I don't see it ever being more than 50/50 in the current environment.

I think of that $230 million, there's probably $100 million in there that we can use between now and the end of the year.

We're a little lower.

We have a little bit lower cash flow early on in the year.

Right now, I think it's probably about $100 million.

Okay.

And then can you give us any visibility on clean energy in 2011, what type of earnings less tax credits?

Yes, I think -- go ahead.

Just what range could we expect in 2011?

We're still comfortable with saying that if we get all eight plants placed in service that we could generate up to $10 million of net or -- after-tax earnings as a result of the capacity of those plants.

Per quarter.

Per quarter, right.

We believe that we're on track still.

We're still operating under some temporary regulatory permits, but we are hopeful that we'll get permanent regulatory permits on the six plants shortly.

When that happens, we think it could be good momentum on the other two plants and that could raise it up to $10 million -- up to $10 million a quarter.

Do I think we'll hit that right away in first quarter 2011?

I don't know.

It may take us a little bit longer than that but once we get them up and running, it could be $10 million a quarter and we're still comfortable with that.

And would expenses be level in the corporate or would they go up along as that ramped up?

I don't think they would ramp up anything meaningful in the short term.

Okay.

Thank you very much.

Thanks, Adam.

Our next question is from the line of Michael Grasher with Piper Jaffray.

Please proceed with your question.

Thanks.

Just a couple quick questions here.

You're talking about the M&A environment and your pipeline and that.

How about the part of the conversation where you're sitting there, you're thinking about what's happening in your own current book with organic growth.

How much of that plays into the other party and what they're thinking about if you could just share that conversation with us or parts of that conversation?

Sure.

This is Pat.

I'll share the conversation.

Oh, Gallagher's going backwards 4%?

I'm going to go 12%.

And I've always gone 12% so you have to price it out at 12%.

That's why we have earn-outs.

Because that takes that argument and basically allows us both to agree.

When we're doing our own pricing models, that's where we have to internally pick whether we believe that person actually is in a growth spot or not and we're trying to find people that we do believe are going to be accretive to niches and the like that will actually be able to continue to grow.

And, by and large, that's the pick we make.

So it's the earn-out that captures that conversation?

Exactly.

Okay.

And then Doug, did you actually quantify what the expectations might be for 2011 in terms of any expense saves or reductions through technology or real estate and some of the miscellaneous items?

We haven't at this point.

There's still lots of work being done, so I don't have a figure on any of that.

Okay.

Fair enough.

Thanks very much.

Congratulations on the quarter.

Thanks, Michael.

Thank you.

(Operator Instructions) Our next question is a follow-up from the line of Meyer Shields of Stifel Nicolaus.

Please proceed with your question.

Thanks.

One quick question.

I guess it's for Doug.

When we model out supplementals and contingents, is there any incremental expenses associated with those or should we assume that the vast majority falls at the bottom line?

If you assume between 80% and 90% of them fall to the bottom line, that's probably a good way to model it.

We do put up -- those do go to fund some of the allocated expenses in incentive comp that goes on in the franchise.

So it's 80% to 90% falls above.

Okay.

Thank you.

Thank you.

There are no further questions at this time.

I would now like to turn the floor back over to Mr.

Gallagher.

Thanks, Rob.

I'll just close with a quick wrap-up.

As I said at the beginning of our comments today, no one at Gallagher's sitting around waiting for the rates and the economy to improve.

All of our units are working hard on improving themselves.

We're standardizing work, we're automating work, we're shifting work to lower cost locations.

We're not just simply waiting around.

Instead, also we're investing substantial amounts in successfully recruiting solid teams of producers and we're doing that globally.

Our merger and acquisition pipeline is full.

We believe we can continue to grow both domestically and internationally.

And we're out working hard every day knocking on doors trying to get new business.

We're very, very excited about the future.

These are tough times, these are tough headwinds.

All of our clients are feeling it as well.

But when we look at the franchise, we feel really good about what we're doing for clients and where we're going to be in the future.

Thanks very much for being with us today.

This does conclude today's conference call.