Arthur J. Gallagher & Co. (AJG) 2011 Q3 法說會逐字稿

Good morning and welcome to Arthur J Gallagher and Company's third quarter 2011 earnings conference call.

Participants have been placed on a listen-only mode.

You lines will be open for questions following the presentation.

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.

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 and Company.

Mr.

Gallagher you may begin.

Thank you, Rob.

And welcome everyone.

Thank you for joining us this morning for our third quarter conference call.

We appreciate you being on the line today.

Today I am joined by Doug Howell our Chief Financial Officer, as well as the operating heads of our operating divisions.

I'm very pleased with our third quarter results.

I don't typically read the press release, I won't do that as well but those of you that have seen the first paragraph I think our results in the quarter were outstanding.

In our calls, I typically try to focus my comments on the 4 strategic areas that we're focused on, and those or organic growth, mergers and acquisitions, productivity, and maintaining our culture.

But today, most of my comments, I think I'd rather spend on organic growth and mergers and acquisitions.

This is the third quarter we've been in positive organic territory.

I'm pleased with that.

Our total company organic, that's combining the brokerage risk management segments, commissions, fees and supplementals was up 5.2%.

And let me give you a little flavor on that.

Brokerage grew at 2.6%, and risk management grew at 12.9%.

Even if you exclude the temporary surge that came about because of the risk management claims that arose from the New Zealand earthquake, risk management grew organically 8% and the total company grew 4%.

I think that's excellent work by our team.

I think it just shows that our sales and client service culture is alive and well.

Everyone in the company knows that good things happen when you take care of our clients, and nothing happens until somebody rings the cash register.

I'll give you a little further breakdown on the brokerage segment.

The 2.6%, here's what we're seeing.

Our US retail PC operations grew slightly below that average.

Our US retail employee benefits operations grew slightly above that average.

And our US and international wholesalers and MGA/MGUs grew slightly above that with domestic being a little stronger than international.

The drivers of those results were solid blocking and tackling.

Number one, new business levels held steady with 2010.

And secondly, our client retentions are actually running better than they did in 2010.

These combine to overcome about a 2% to 3% negative impact from rates and exposures, which if you look back a year, frankly, is only a slight improvement over what we saw in the quarter 2010.

Let me break down risk management's organic excluding the New Zealand earthquake claims.

Our domestic business grew about 5.5%.

Half of that relates to increased claim counts from net new business sales, a slight increase in claim counts from existing customers, and the balance comes from getting rate increases.

Internationally, we grew nearly 19%.

Most of all that relates to new business growth in Australia and the U K.

GB's international operations are really a bright spot.

Let me look forward and comment a bit on rates.

As for the rate environment, it is encouraging to see that the CIB agent survey report showed about a 1% average increase in rate across all lines for the quarter.

On that, at this time of year, we spend a lot of time with our insurance carriers, and the mood this year is decidedly different than a year ago.

We see them getting tired of rate cuts.

They're looking for rate increases.

All of the CEO's are talking about that.

It's still going to take some time in my opinion, to see that trickle down to the street level, but it sure would be nice to stop running up and down escalator for the first time in 8 years.

As for exposures, I've also spent a lot of time over the last few weeks with many of our clients across various parts of the country.

I'm just not hearing from them that the recent economic turmoil has further damaged their businesses.

They seem to have reached a level of employment and activity that can keep them going in this environment.

So as we finish the year, we're not planning for increased exposure units, but we're also not planning to see a decrease.

As for new business, there are lots of opportunities across the whole organization.

The environment of PC and benefit sales is becoming much, much more complex.

Customers are increasingly expecting industry-specific expertise and technical expertise in assembling their insurance and benefits programs.

Years ago, you'll recall we organized ourselves around industry niches.

And during the soft market, we have continued to invest in systems and tools to help our producers win.

Just take a look at one example.

If you look at this new healthcare law for example, it's just too complex and technical for small firms to handle.

Especially if they are simply relying on a relationship to carry the day with their client.

Gallagher provides our producers with the best tools and resources in the industry and can muster those resources around the country and the world that are exactly what the customer needs when and where they need it.

Let me comment on our merger and acquisition activity.

Year-to-date, we've done 21 mergers for about $235 million annualized revenue.

This already betters our previous best year ever which was 2008.

We did $166 million that year.

Much of this, of course, relates to the acquisition of Heath Lambert in the U K.

As I always do, I want to welcome all our new colleagues.

We really believe that together our future is bright.

We look forward near term.

We have some really nice opportunities in process right now that we hope to close in the fourth quarter and most of these are US domestic agencies.

As for 2012, our pipeline is stronger than ever, and there are several converging factors that we believe will contribute to robust activity next year.

First, the Bush year capital gains rates are set to expire.

That naturally causes increased interest from some sellers.

Secondly, as I mentioned, the need for technical resources is expanding.

Smaller shops are realizing that they need systems and tools to compete.

They're great sales and service folks, but the needs on the technical side are growing fast and they just can't invest enough to keep pace.

And thirdly, most agency owners are baby boomers, and they're looking for the right partner to monetize their life's work.

So, when it comes to the competitive landscape, there are more than enough opportunities to keep all the strategic acquires for years to come.

So, as I said at the outset, I'm pleased with this quarter.

Glad to have it in the books, and Doug, why don't you give some further color?

Thanks, Pat.

And good morning, everyone.

Today I'm going to flip through the earnings release and give you some color on a few items.

Okay on the first page, looking at the brokerage segment, as anticipated, we had $0.03 of Heath integration costs in the quarter which was offset by $0.03 of earn out adjustments mostly related to the 2009 Liberty deal.

As for Heath, while only a few months old, we believe the integration is right on track.

Last quarter, we provided a table in our earnings release showing that net of integration costs that will run through 2013, Heath should about break even here in 2011, contribute about $20 million of EBITDAC in 2012, and contribute about $30 million of EBITDAC in 2013.

As for Liberty, recall that this was a completely different deal than our typical mergers.

Because there were so many unknowns, when we did the deal back in 2009, we put nearly 70% of the maximum purchase price on a 3-year earn out.

Over the last few quarters, as we approach the final 6 months of the earn-out period that runs out in March of 2012, we have been right-sizing the business, which causes some downward adjustments in our estimated earn-out payment.

None of these adjustments should be viewed as meaning the deal is not performing.

Rather, it's just adjusting the accounting estimate which had a really wide $120 million range.

As we sit here today it's contributing annualized EBITDAC of about $20 million to $22 million and because of the elastic earn out, we still end up paying about 4 times for the deal.

Moving to the risk management numbers, you'll see that we had about $0.03 of charges related to integrating GAB Robbins and adjusting our existing workforce.

We're wrapping up the integration process over the next couple of weeks so expect only about a $0.01 of integration costs in the fourth quarter.

By all measures, it turned out to be a terrific deal.

Including net integration costs, we paid about $24 million for $45 million of revenues which contributes about $9 million of annual EBITDAC.

That was what we thought when we did the deal, and the team did a fantastic job delivering the expected results.

Moving to the middle of the third page, like we discussed last quarter, you'll read how the Heath operations run a lower comp ratio, a higher operating expense ratio and overall will run a lower EBITDAC margin than the broader brokerage segment until sometime in 2013, when we complete the integration process.

Accordingly, we've added a line in the table to show you our adjusted EBITDAC margins with and without Heath.

You'll see that we held margin this quarter and are actually 20 basis points up year-to-date.

Holding margins in a low organic environment is right in line with what we've been saying for several quarters.

At the bottom of page 3, you'll see risk management's organic growth.

We continue to provide, and we have for over a year, a separate line showing the New Zealand earthquake claims.

While we expect the current rate to continue through much of 2012, by 2013, it will start to run down quickly.

Accordingly, as you build your longer term models, please make sure you factor that into your projections and know that it contributes about a 15% margin.

Turning to page 4 in the corporate segment.

You'll see that we posted third quarter results exactly as we told you in our July earnings release conference call.

Looking forward to the fourth quarter of 2011, just assume a repeat of the third quarter and you'll get close.

As for 2012, you'll read that our clean energy investments are making steady progress.

The 12 2009 era plants are up and running and 6 2011 era plants will be placed in service by year end, and should be running at expected levels sometime in early 2012.

So, if all 18 of these plants produce as we expect in 2012, the clean energy line might report about $11 million to $12 million of quarterly net after-tax earnings.

If you assume interest, M&A costs, and other corporate costs would continue at the current run rate, the clean energy line would offset those costs.

That would mean our corporate segment could do a bit better than break-even for full-year 2012.

And remember, whatever we save in taxes will give us more cash to use in our M&A strategy.

Okay.

For my last comment, more housekeeping.

That's a reminder that our first quarter is seasonally our smallest.

and once again I really encourage to you convert your models to closely follow our financial supplement that we post on our website.

Please make sure you're using the historical adjusted numbers as your baseline for projecting future results.

Otherwise, you run the risk of projecting off some one-timers.

Okay, Pat.

Those are my comments.

It's really nice to have a solid, and really good quarter and I'm looking forward to a strong finish to 2011 and a strong 2012.

Rob this is Pat.

We'll go ahead and open up for questions and answers.

Thank you.

The call is now open for questions.

(Operator Instructions)

Vincent D'Agostino, Stifel Nicolaus.

Good morning.

Looking back I guess to the last hard market, would you say that today's rate story looks a little like 1999 did or is that not exactly accurate?

No, it's my feeling is it's more like 2000.

Okay.

Great.

If you recall, before 9/11, Vince, we were seeing 1%, 2%, 3% increases.

People were starting to say that we were, you know, coming to -- they were at a point where they knew they were going to bleed.

This environment is different this time for one really key reason -- there is no investment return at all.

So, the first half of the year, posting $110.5 million combined, these CEOs really do understand that's trouble.

Okay.

Then, there's just one follow-up.

We've heard that Willis might be getting back into the M&A game.

And then, I'm guessing that really won't have much impact on your M&A pipeline.

But, I'm curious if you would think that having another buyer in addition to some new private equities start-up action, if you think that has any influence over deal pricing out there today?

No, I don't think so.

I mean, we've seen people come in and out of the market over the years.

And there is just so much supply out there, Vince.

And as I said in my comments, the preponderance of these agencies especially in the United States, but even around the world, are owned by baby boomers.

And so there's going to be an awful lot of activity.

And I think that's why you're seeing private equity and others some into the business -- there's great opportunities.

Great.

Thank you very much.

Ray Iardella, Macquarie Bank.

Good morning, guys.

So I guess in terms of margin, you guys did a pretty good job keeping margin intact this quarter, but can you maybe remind us what you guys need, as far as organic revenue growth is concerned to expand margins?

Yes, Ray.

Thanks for the question.

We've said, and we continue to say, that if you -- in an organic environment in the brokerage segment that's 2% or less, don't expect margin expansion from us.

If you get to 3% or 4%, you might see a little bit, 5% or more, you should see more margin expansion at that point.

But in this environment, there are enough inflationary pressures, there's enough slight wage pressures out there that if we're 2% or less, don't expect any margin expansion.

And holding a constant would be good work.

Got it.

And then I guess in terms of the risk management business, I think your target there or at least you've maybe stated in the past it was 15%.

But I mean, the past seven quarters, you guys have posted 15% or better margins in that business.

Should we start thinking about that as a slightly better margin business or is the 15% still kind of your long-term target?

I think we'd feel that 16% would be outstanding,15% would be great, hard work.

So, between 15% and 16% is where we'd like to run that business at this point.

Okay.

Great.

And then, one last one if I can sneak it in.

I guess in terms of M&A, I know with Willis entering the game, pricing, you guys kind of feel, won't really be changed.

But, can you maybe talk about -- is there any difference in pricing between the employee benefits business versus just more P&C-focused agents?

You know, basically, you could probably throw a hat over both of them.

I mean, the benefit business has natural organic growth built in it to a certain extent because there's constant rate increases in that business.

So it might be a slight better, but not that much.

Okay.

Thanks.

Thanks, Ray.

Keith Walsh, Citigroup.

Hello, good morning guys how are you?

I guess, Pat, first for you, just thinking about exposures.

You think on one-one renewals we'll get maybe a catch up on exposures from corporations that have maybe been a little more conservative the last couple of years?

If you could just talk to that a little bit?

Yes, I think we will, Keith.

I think that what you're seeing is that we're done now, in my opinion, with the return premium phase of the cycle of the recession.

Yes, clients have been very conservative at renewal.

If they're expecting to have their sales go from $50 million to $100 million, they're going to maybe say that the sales are going to go from $50 million to $60 million.

So I think we'll start to see additional premiums and that those then -- once there is an AP, then those exposures do flow into the renewal.

Okay.

And then secondly, I guess for Doug, what's the view on contingents, I guess you have had about $35 million year to date -- as combined ratios in the industry continue to tick up, what sort of a sensitivity to that as we think about next year?

Yes, thanks, Keith.

Yes, I think it's important for everybody to watch those lines.

I think that the contingent environment and the supplemental environment -- as the carriers become more concerned with profitability in their books, they're going to work -- we're going to have to work really hard to hold those things to where they are.

So, I wouldn't expect much substantial increase from those.

But if we can hold them steady in this environment, I think that would be good work.

I guess just a follow-up on that, I mean, I'm not thinking increase, I'm thinking -- I'm worried about decrease, especially on the contingents if combined ratios go up.

So, is there any rule of thumb about sensitivity we should be thinking about there?

And then, to follow-up on one of your comments, are your supplementals tied to profitability as well?

I was under the impression that they were not.

No, but what they're allowed to do, Keith, is, the supplementals are set annually, and the carriers that agreed with the regulators to use supplementals are allowed to look back as they set the supplemental rate for the upcoming year.

Once that rate is set, then we can accrue those supplementals simply against premium, because it has nothing really to do with profitability.

Having said that, if they are not seeing growth and slash profitability on their look back, negotiating those same supplemental rates gets more difficult.

And Doug is right, Keith, I can't give you a rule of thumb.

I can't say if combined loss and expense ratios go to $115 million, then you can see contingents come down by 50%.

Because this is important income to our branch operations and they will fight hard with those insurance companies to make sure they keep their remuneration.

Okay.

Thanks a lot, guys.

Bob Glasspiegel, Langen McAlenney.

Good morning.

I'd like to start with Doug on the clean energy.

If we go through your commentary and add up the numbers, assuming my math is right, you've gone from a $7 million to $11 million after-tax range post Q2 in guidance for 2012 to a $11.5 million to $12.5 million range.

So, you've sort of increased the earnings, you've tightened the range, and you also eliminated the hedges that were worded in the second quarter when you said -- have not generated approval -- and -- if they are running at full levels-- you took those out.

So, from all that combined, can we read that you're more confident about what this can do next year, or am I over analyzing?

That's how you should read it.

Also, just so you know why we're more confident today -- since the last time we had our call, in July, we have received all the necessary regulatory permits on all of the 2009-era plants that we had been operating under temporary emission permits.

So, we've got -- those are in place and running.

So, the top paragraph on that page, those have received all of the regulatory permits.

With respect to the new 4 operations that will use 6 plants, we have received the necessary permanent regulatory permits already from the state where those are run -- the states where those are running, and we didn't start the process until we had received those permanent permits.

So, yes, we are more comfortable that the permitting process is in place for those 18 plants at this point.

And, how do you define early 2012?

Does that include first quarter, or are we talking second quarter with the --?

I'm hoping for sometime in the first quarter.

Okay.

So there will be a piece of that going in the first quarter, you're saying?

Yes.

Hopefully?

Yes.

Okay.

Pat, I've got to make you work.

As the historian, I remember the last cycle, and I think the cycle before, you and Management team warned us that we've been running this Company really tight, and when we get a pricing recovery we've got to spend a lot of the improved revenues to sort of fill in holes where we've been running tight on raises and hiring.

Is that how we should think this cycle, or do you think you want to run the thing leaner and show the margins earlier this time around?

I think we would probably do the latter, Bob.

I mean I think we had some really good opportunities in the last cycle.

We're always recruiting producers.

I don't think we have the opportunity to recruit at the level that we did in 2001.

But, you're right.

I mean, when you take a look historically, your recollection of that is accurate, I think, as we come into this.

The other thing is, I will tell you, and I know this sounds -- I'm not at present sensing a V-shaped cycle turn.

Just so you -- when you're thinking about your models, and the like, it doesn't feel -- now, we get a catastrophe like we did in 9/11, something like that, it could change -- but, to me, right now it feels like certain parts of the country and certain lines of coverage are going to get hard, similar to what we saw after Andrew and other property catastrophes -- Katrina, where the property market got very difficult, but the other lines didn't.

So, right now, property is very tough, for instance, in Oklahoma.

Worker's comp is getting tough in Illinois and California.

And, worker's comp is a line, I think, across the country is going to get tight.

D&L is still soft.

So, if that happens, you could you see a time here -- the CEOs of the insurance companies that I talk to today are different in their outlook in their discussion than they were in 2000.

One last question for you, Pat.

There's a perception out there that AIG has changed its spots as it's going public a second time and is now more focused on underwriting than volume.

And they've been public at stating that as an objective.

Do you see them much in your markets, or are you more underneath them?

Oh, no.

Yes, AIG's one of our most significant trading partners.

And I think it's fair to say that it's not just AIG.

Literally, in the past month and a half, I think, Jim Gault, myself, Craig [Banter] and a number of others have probably met with 25 CEOs and leadership teams of insurance companies as we get ready to do our planning for next year.

They're all talking about needing to pay much more attention to underwriting.

They know that their accident year loss ratios are not good.

They know they're not getting any investment income and they recognize that they're going to have to get some rate or they're going to really be in trouble.

Thank you.

Dan Farrell, Sterne Agee.

Thank you, and good morning.

We're still in the early stages of Heath Lambert and your presence there, but could you maybe comment if you've seen any early changes in your sort of deal pipeline there now that you have a bigger presence built up?

Yes, Dan.

I think it's really -- it's actually been incredible.

Two things -- first off, the people that joined us, coming out of private equity ownership are ecstatic to be part of a Company that's in this business, is going to stay in this business, understands the business, and wants to build it out.

The second thing that has happened, in just 4 months -- the number of teams and other deals that are approaching us is far bigger than we imagined when we did the deal.

Now, we're going slow.

We're not going to just start running all over England buying firms and the like.

We're good at tuck in acquisitions.

We know what to do.

But, first order of business is to bed this team down and make sure that the business runs the way we laid out in our press release last quarter.

And that's what we're attending to right now.

Great.

Thanks.

And then, just one quick question on tax rate.

I think in the past, you've guided to sort of 39% to 41% within the segments.

Is the international expansion -- would that have some incremental downward movement in the tax rate over time?

Yes, Dan.

I think that you -- as the mix becomes slightly more international, which have a little bit lower tax rates, you would see a slight reduction.

We've said it's still 39% to 41%.

I'm not ready to go to 38% to 40% quite yet, but you will see some of that as we get more business internationally.

Okay.

Thank you, guys.

Brian DiRubbio, Y/ CAP Management.

Morning guys, how are you doing?

I guess you guys are hoping for a flat tax, actually?

(laughter) Sure, that would be okay.

Good, Brian.

Couple of questions -- first off, as I look at your acquisition activity over the last 12 months, excluding GAB Robins, eye balling it a bit, but it looks like you've picked up around $275 million of revenues on the brokerage side.

How should we think about that revenue base growing within the first year that you acquired?

So, that growth's not in your organic growth number, but that's not going to be a static number over the ensuing 12 months.

You understand what I'm trying to get at?

Is that growing sort of inline with your organic growth?

Yes, it is.

We expect those operations, even though we don't include it in our organic calculations until it's been with us for a year, we do expect them to grow.

You know, it does take an organization a little bit of time to adjust to the new environment, but, generally, they are very excited about joining us and they're running out and targeting those clients for the exact reason why they merge for us -- with us.

They see our resources, our technical capability, our niche expertise as a way to get into those customers or those targets that they've been looking at for years, and so they go after it.

And I think that the culture here at Gallagher will cause people to rally behind those new mergers to the greatest extent that we can to help them be successful.

And that's the perfect type of merger partner, the person that comes in, grabs one of our niche leaders and goes out and targets those customers that they've been wanting to call on for years.

Got you.

So maybe it's fair to say maybe half the organic growth rate for that first year?

Yes.

I mean, I really haven't measured it, but we're not seeing them fall off, let me put it that way.

Got you.

It's just -- it's become a large number now.

And I just want to make sure that we're capturing that.

On -- second question, on the Gallagher Bassett side, Pat, what are you seeing in terms of that business growth?

Is it people moving more to self insurance, or is it finally we're seeing increased claim activity that we've been waiting for, for the last 2 years?

I think that you are seeing three things that I would comment on.

One, we are seeing increased claim activity on our renewal book.

The second thing is that we're finding more opportunities to work on behalf of insurance companies on an outsourced basis.

And thirdly, I think you are seeing people continue to move into the alternative market.

Not at a rate that you'd see in a hard market, but as clients grow their business, they're focused on that risk management -- that cost of risk.

Yes I think another thing just to pile on that, Brian, with work comp ratios heading -- work comp costs getting ready to go north, I think that you're going to see more people looking at the alternative market.

If you've got really nice risk that was in the bundled market or back in the standard market and they're looking at big rate increases coming up, that tends to fuel more opportunities.

And the other thing, too, is the number of competitors that we have out there continues to consolidate down.

That's the -- there's just, when it comes to who can do this work, Gallagher Bassett, 3 years in a row winning the Readers' Choice award from business insurance, that's a hell of an endorsement when it comes down to what these guys can do out there, and there's few them that you have to compete with every day.

Got you.

And then, final question with the success you've had with the GAB Robins acquisition and integration, do you see more opportunities for M&A in that division?

You know, I think, Brian, the answer to that is, we have looked at other ones.

But we're interested in enviro -- companies that can bring us additional resources and capabilities and spread out our offering to our existing clients, not just to pick up books of business of clients.

To be real honest with you, we have such a great team, with time will just take them away from them.

I'd rather not buy them.

The other thing, too, Brian, is one thing we don't want to do is buy a TPA out there and have to go out and raise prices.

And, oftentimes, you'll find that the pricing that has been offered by some of these people that are for sale just doesn't match up.

Got you.

Thanks a lot, guys.

I appreciate it.

(Operator Instructions)

Sarah DeWitt, Barclays Capital.

Hi, good morning.

Based on your comments about P&C pricing improving and exposure stabilizing, when do you think we could see brokerage organic growth accelerate, and how much of these incremental dollar from higher prices fall from the bottom line?

Well, let me take the one I see accelerating, because that's a very difficult one to pick.

You know, and again, I commented earlier, I don't think we're going to see a solid V-shaped, you know, move in the market -- I could be wrong.

But, when I think about where we sort of sit, if we got 1% to 2% organic growth from the economy, and we didn't have the headwinds that we faced in the rate-cutting environment and actually got something on the order of 2% to 3% to 4% rate increases, and then our -- we're an organic new business machine.

There's a time when rates stop getting cut and when the recession does start to turn around that you could be nicely over 5% organic on a continuing basis.

Add to that the acquisition activity that we've got and it's a pretty compelling story for the future.

And, Doug, you can talk about margin.

Yes, and the thing to think about when it comes to margin on the brokerage business is that incremental sales, if it doesn't produce a significant amount of service work -- in other words, we're just changing numbers on a policy -- and if you believe that we can move our commission structure, you know, hold those rates, you know, you get 60% of that number fall into the bottom line.

If you get into a huge surge, maybe it's more like 50%, if it's just a nice creep up, you might get more like 65%.

But, really, 25% to 30% goes to the producer on the street and the rest of it comes to the house.

And I believe that, now that we have our offshore centers of excellence, a lot of our new tools that we invested in during the soft market, we have the ability to control headcount expansion, or if we do have to expand workforce, we can do that in lower labor locations.

So, I think we're pretty well positioned coming into this cycle.

Okay.

Great, thanks.

And then, just on the clean coal.

What are the risks to achieving the $10 million to $12 million of after-tax earnings per quarter, or are you confident that you can achieve that in 2012?

There's lots -- put it this way, there's lots of risk with coal.

And I would really encourage to you read all of our SEC filings where we talk about the risks ad nauseum.

But here are some things that you have to think about -- first and foremost, our objective when we do these things is to get our money back out of the Cap Ex -- get our CapEx out as fast as possible.

Oh, it doesn't come off the books, because we depreciate them over 10 years.

Most of these plants return our CapEx within a quarter or two of running.

So, after that, then it's all money -- we're kind of playing on the, you know, on the government's money at that point.

The risks that can face it -- tax law legislation change, a utility deciding that it does not want to burn the refined fuel and decides it might displace coal with natural gas, you could have disruptions in the supply chain of delivering the materials, you could have a change in the tax law, emissions laws -- anything when it comes to producing a refined coal, you have to think about manufacturing and what can go wrong in the manufacturing process, and that is -- all those factors will influence us.

That said, we did this for 10 years under the Section 29 program.

We've been running without a hiccup on our -- since late 2009 on our other plants, other than just, you know, shutting them down to get permanent regulatory permits and then starting them back up.

So, there is a refined process -- there's a defined process of creating refined fuel.

The utilities have an incentive to burn it.

So, all partners are aligned in this.

You know, we don't control these partnerships after they are up and running, so it takes a unanimous discussion of all partners involved in order to make changes in it.

But, we think we're pretty experienced in this.

The risk factors are there.

But, if they change, I'll certainly let you know.

Okay.

Great.

Thanks for the answers.

Scott Heleniak, RBC capital markets.

Thanks.

Good morning.

Just had a couple of quick questions.

First, it sounds like you're pretty upbeat for M&A and I'm just wondering if -- do you still have an appetite for another larger-sized deal, kind of like the Liberty and Heath and Robins ones that you've done, or should we expect to see more of the kind of smaller bolt-on deals for 2012 based on what you know now?

Well, Scott, first of all, if you take a look at business insurance and the top 100 agents and brokers -- we always say that there's about 18,000 agents and brokers in the United States.

But, to get in the top 100, you've got to do $18 million of total revenue.

So, the preponderance of the opportunities out there are going to be under $20 million.

Having said that, I think the team has performed incredibly well on 3 large deals so far -- Liberty, GAB, and now Heath.

And I'm really proud of what the team is doing in England with the Heath deal and I'm sure that's going to work out very, very well.

So, if there were another larger deal in that top 100 in the United States, or a larger deal outside the United States, we wouldn't be bashful about trying to go for it.

But, in the meantime, what you're going to see is the 3%, 4% and 5% we click off every quarter are going to be on the smaller end.

Okay.

And then, just kind of a broad question about what you're seeing on the pricing environment just by account size, small versus medium versus large.

I know you guys don't do as much large account business as some firms.

But just wondering if you're seeing any kind of narrowing of differential of rate changes for those lines, and are you seeing some of the competition that's maybe been a little more aggressive being less aggressive over the past couple of months.

Just any kind of broad commentary there?

Yes, I think my comments would probably follow the CIAB survey.

I was in a production meeting just this week here locally and a very large account that we were working on did go for a discount as a new piece of business to one of the big multi-line carriers.

But, by and large, the team reports that on the smaller accounts it's pretty non-negotiable there's going to be some rate increases.

You get that mid-sized account, which is really our bread and butter, that's looking flat again.

A really great account that hasn't been out in the market that gets shopped is new business to someone else.

It will get cut.

But, when you get to the larger accounts, flattish is more what they feel like right now.

All right.

Thanks.

That's all I had.

Richard Mortell, Piper Jaffray.

Good morning.

On the exposure side, can you give some breakout of what you're seeing with your clients in the US, particularly any pockets of strength or weakness by geography?

Say that again, Richard, I missed the question.

Sure.

Are you seeing any pockets of strength or weakness by geography in the US on a regional basis?

And you're talking about pockets of strength in the economy or the rates, which one?

Economy, just general unit exposures to economy.

All right, let me -- again, I'm no economist, and this is just my personal observations, but I believe the Midwest is in a better spot than the East Coast.

I believe that the Midwest is in a better spot than Florida and California.

Having said that, in the last 8 weeks, I've traveled pretty extensively throughout the United States, and I've met customers that range from $150 million manufacturers -- a guy locally here whose business dropped off 50% at the beginning of the recession, he's essentially got that business back.

He's shifted customers.

He's come up with new products, but he feels pretty good.

It's a family business and he feels pretty good about where the business is right now.

I was with a temporary help firm towards the end of the summer.

This is a business that's mostly Midwest-based.

They were up 30% a month over the course of the summer.

We produced an account just this past week locally, again, that's a conveyor manufacturer.

They're shipping conveyor belts like you can't believe.

They're running 3 shifts.

Now, I realize my little subset is not the deal.

But, I'll also tell you I was at key client meeting at Gallagher Basset's in Las Vegas 2 weeks ago.

The place was packed.

Was packed.

Waves of people coming down the aisle as I'm going to leave on Friday.

I'm thinking where are all of these people getting the money to be gambling?

So, those are the client interactions I've had over the last 3 months.

Many more I could go into, and they've been in Houston and in Dallas and in Denver and in Chicago and New York.

And I'm just saying that I think our customers are quietly more optimistic than what you read about in the newspaper.

Right.

Thanks.

That's helpful.

And then, you talked about this a little bit before.

On the worker's comp claim frequency side, I think you were up 2% last quarter.

It sounds like that's trending up again this quarter, but can you give an exact number for that?

This quarter it's more like 5%.

Okay.

So, you are seeing a big pick-up there?

Yes.

Okay.

That is all I have.

Thank you.

Mark Hughes, SunTrust.

Thank you.

With the Heath and the other acquisitions you've done over the last year, it's added pretty materially to the share count and amortization.

Are those deals accretive to earnings at this point?

Maybe Heath, specifically, you've got $0.03 in integration costs, but aside from that, was it accretive, dilutive to EPS?

First of all, we didn't use any shares in the Heath deal.

That was entirely a cash deal.

So, it's by definition accretive.

I think that when you look at the -- when you add in the integration costs, we're breaking even on that on an EBITDA basis and we're probably flat to losing $0.01 because of the amortization after that.

So, in terms of how we look at it, we think that it'll about break even in 2000 -- well, the first half of 2012 it will break even on a after tax -- on a pretax basis, and an after-tax basis, but later in 2013, it should be accretive, even after the amortization.

Right.

And then, when you look at --

Even after amortization and integration costs.

Right.

And if you look at the other acquisitions, you've done quite a lot lately.

Is it fair to say they're on an aggregate basis accretive or are they still ramping up?

Yes, those deals are always accretive for us.

Okay.

And actually in our third quarter we did 70% cash and 30% stock, so we are starting to use more cash in the deals than stock.

Yes.

In the last hard market, Pat, what was your experience, if rates do start to move up more rapidly?

Does that slow down the M&A process?

It can slow it down a bit.

And part of that is distraction.

A hard market -- if you get a solid hard market like we got in 2011, it is all hands on deck.

I mean, it is very difficult.

First of all, you've got 8 years of recruits that have never gone and told a client they're going to see rate increases.

They're not only going out and telling them they are going to see a rate increase, they are telling them that they might not have insurance, what they have is going to that have holes in it, and it's going to cost them a ton more.

Interestingly enough, while that happens, lost business actually subsides.

New business does not grow as quickly as it was because people are hunkering down, but with rate increases flowing through the P&L, you get some substantial jumps in your revenue and profitability.

It's very much of a heavy activity.

There still will be mergers and acquisitions.

People will still go through that.

But they also know that as those rates are running, their values are running up, and so they'll try to pick a time when it's absolutely opportune to sell.

Right.

Thank you.

Ray Iardella, Macquarie.

Yes.

I just had a quick question I guess regarding the dividend.

Is there a particular time of the year that the Board discusses any changes to dividend policy?

January.

We do it in January.

Okay.

Great.

Thank you.

I think that's it, Rob, in terms of questions?

Yes, that is correct.

I'd like to make a few comments on a close here.

Again, thanks everybody for being here and thanks for the thoughtful questions.

We appreciate it.

I think that our platform for growth domestically and internationally has literally never been stronger.

Our merger pipeline is robust and all of our divisions are back to contributing to organic growth, which I'm thrilled about.

So, a good quarter, and I do feel good about going into the fourth quarter.

In the fourth quarter, we're going to pass a milestone that we're all very proud of.

We'll surpass $2 billion in revenues.

We did our first $1 billion in 2002, which was 75 years after my grandfather started this business.

$2 billion comes 9 years later.

So, that's pretty exciting for us.

We're all kind of pumped up about it.

And we think 2012 should also shape up to be another growth year.

So, thank you for being with us this morning, and, Rob that concludes our call.

Thank you, sir.

This concludes today's teleconference.

You may now disconnect your lines at this time.

Thank you for your participation.