Arthur J. Gallagher & Co. (AJG) 2015 Q1 法說會逐字稿

Good morning and welcome to Arthur J. Gallagher & Co.'s first-quarter 2015 earnings conference call.

(Operator Instructions) 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 that will be discussed on this call and which are also 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, Chairman, President, and CEO, of Arthur J. Gallagher & Co.

Mr. Gallagher, you may begin.

Thank you, Melissa.

Good morning, everyone, and thank you for joining 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 we said in our press release a few weeks ago, we wanted to announce this morning and have our conference call because many of us will be at RIMS next week.

So again, thank you for being with us early this morning.

I'm very pleased with our quarter.

Brokerage and risk management are both off to an excellent start to the year, as we carry the momentum we created in 2014 into 2015.

As I have said often, we are focused on four strategic efforts.

We work on, number one, organic growth; secondly, mergers and acquisitions; thirdly, quality, margin improvement, and productivity; and fourth, we work hard to maintain a very unique and different culture.

Adjusted revenues in our brokerage segment advanced 36%; 4.5% of that was organic.

I am pleased with our continuing new business growth.

Sales is what we are all about.

Every day we get up and service our clients and work very hard to add new clients to our list.

The first quarter was a great start to our year.

In addition, we expanded margins by 210 basis points, which is just outstanding work by the team.

In our risk management segment, revenues are up 11%, all of which is organic.

Our margin expanded, finishing in the quarter at 16.8%, a bit ahead of our 16.5% full-year target.

So together, our brokerage and risk management operations are up 30% in revenues, up 46% in EBITDAC.

Margins are up 2 full points, and we are up 18% in earnings per share.

Let me move to mergers and acquisitions.

Our large acquisitions in 2014 are integrating extremely well.

We are seeing good opportunities to do smaller bolt-on acquisitions in the UK, Australia, New Zealand, Canada, and of course the United States.

We are off to a good start in 2015, having closed 11 acquisitions for about $34 million in additive revenue.

Our partners see the benefit of our unique culture and the capabilities we are investing in, and they want to be part of what we are building.

As I do every quarter, I want to welcome and thank our new partners.

The merger and acquisition world is really, really competitive, with lots of choices; and I'm proud that these fine firms chose to join us.

A warm welcome to all of you, and our pipeline continues to be very strong, so I see 2015 to be a very good acquisition year.

Let me give briefly some color to the individual operations.

Our US property-casualty retail business continues to operate in what I like to call a rational market.

Rates all-in across all lines across all geographies were essentially flat for us in the quarter.

This is good news for both our clients and for Gallagher.

Give us a stable rate environment, and with our aggressive sales culture we will drive organic growth.

We are seeing our customers' businesses improve, with some growth in revenues and payroll.

Both our international retail and our domestic wholesale businesses also had a strong quarter.

Our employee benefits team is very busy helping our customers manage their benefits and HR needs as a result of increased complexity and higher benefits and wages.

In the United States, employers continue to deal with the impact of the ACA.

Our consulting team has tools and resources necessary to assist our clients to comply with this legislation.

We continue to see solid interest in The Gallagher Marketplace, which is our private-label insurance exchange, as more employers understand the advantages in offering this to their employees.

The team continues to invest in tools and resources our clients need to manage their employee benefits and human resource needs, and this has helped with strong new business sales and continues to drive increased merger opportunities in the US and globally.

Our risk management business, Gallagher Bassett, is off to an outstanding start with strong top-line organic growth, margin expansion, and we are still investing in systems and people on our march to be recognized globally as the TPA who consistently delivers the best claim outcomes.

Our Gallagher Bassett international business continues to expand and contributed nicely in the quarter.

Our culture is thriving.

We received two significant awards in the quarter.

For the fourth year in a row, Gallagher was named as one of the World's Most Ethical Companies by the Ethisphere Institute.

In addition, we were recognized as one of America's Best Employers by Forbes Magazine.

We work hard to promote and to protect our unique culture, and we are very proud of this recognition.

So we are off to a great start.

We believe we have solid momentum and hope to deliver a solid 2015.

With that, I'll turn it over to Doug.

Thanks, Pat, and good morning, everyone.

The first quarter was a terrific start to our year.

Before I start, two housekeeping items.

First we had a small unit get reclassified from the brokerage segment to the risk management segment.

All historical numbers have been reclassified; it was only about $4 million of revenue this quarter, and it really doesn't have that much impact on either segment's earnings or ratios this quarter.

Second, last year we formed a startup brokerage venture that we control, so we consolidate it; but we own less than 50% of it.

So since we don't own the majority, we've adjusted organic to reflect only our portion, and we've also footnoted the impact on EBITDAC.

Frankly, it's not all that big and it's also seasonally the strongest in the first quarter.

So you can probably just ignore it in the next three quarters when you build your models.

Okay, on to the results on the first page.

$0.36 for brokerage, $0.09 for risk management, and $0.18 loss for the corporate segment, show as an adjusted EPS of $0.27.

The brokerage segment adjusted EPS of $0.36 is nicely up 24% in the quarter.

You will then see the typical integration costs, changes in earnouts, and some severance; and you can also see that foreign currency didn't have much year-over-year impact in the quarter.

Looking forward, some modeling help on revenues.

First, rollover revenues: we've added on page 16 of the investor supplement a table showing our range for rollover total revenues for the next three quarters for mergers done in 2014 and in the first quarter of 2015.

We'll update that table each quarter.

But be careful to not double-count premium funding revenues.

And we are giving you total revenues on page 16, not just commissions and fees.

Next, when you model new M&A revenues, please ensure that your models weight the closing dates more towards the last month of the quarter.

Finally, foreign currency.

We believe that before you apply your pick for organic growth, you should first adjust prior-year revenues for the stronger dollar.

For the first quarter you'll see that FX caused a reduction of revenues of about $11 million for the brokerage segment and $4 million for the risk management segment.

Looking forward and assuming current exchange rates, we estimate the decrease in revenues due to the stronger dollar to be about $30 million both in the second and third quarter, and then about $15 million in the fourth quarter.

That was for brokerage.

As for risk management, assume about $5 million reduction in both the second and third quarter, and $3 million in the fourth.

In the end, step back and make sure your models consider that the impact of FX will cost us about $0.03 in the second quarter; $0.02 to $0.03 in the third quarter; and about $0.01 in the fourth quarter.

Making these tweaks for currency, M&A timing, and a premium funding should help refine your models on revenues.

Next, integration.

You heard Pat say that our integration is moving along as planned, so looking out over 2015 we're still seeing integration costs of about $0.07 to $0.09 a quarter in the second quarter; then about $0.06 to $0.07 in the third quarter; and then about $0.05 to $0.06 in the fourth quarter.

Staying with brokerage but turning to page 2, to the organic revenue table, first let me give you some flavor behind the 4.5% organic growth in base commissions.

Domestically we're about 3%, which, recall, can be our seasonally smallest quarter; so we feel really good about that number.

Also, rate and exposure together had about 1 point of drag on our domestic results this quarter.

But then again, since 2011 the rate and exposure impact has been about zero, a little plus, a little minus.

So like Pat said, it seems we are in a really healthy environment for brokers.

Internationally we posted about 10% organic growth.

So we are seeing some nice solid numbers around the globe.

Next, as for supplementals and contingents, together up about 5%.

We did see a couple carriers move from supplementals to contingents, which caused some geography shifts; but by and large we did renew most of our contracts as-is, and we expect to see some moderate growth in these lines yet this year.

Now flip to page 3, to the brokerage segment adjusted EBITDAC margin table near the bottom of the page.

Adjusted margins are up over 2 full points, excluding the non-owned share.

About half came from our organic growth and expense controls, and the other half from the roll-in impact of the larger deals.

That's really excellent work by the team.

As for the remaining quarters of 2015, we don't expect much more margin expansion from the roll-in our larger deals, as most of them were already in our numbers by the end of the second-quarter 2014.

We will get a little, but not much more.

Finally on the brokerage segment, let me give you some noncash estimates for the remaining quarters for the brokerage segment.

For depreciation, assume about $15 million of expense; for amortization, about $55 million; and for acquisition earnout amortization, assume about $5 million.

Then as we do more M&A, for every dollar we spend, you'll need to increase amortization by about 1% of the purchase price per quarter, and that will get you close.

Now turning to the risk management segment, really a terrific quarter across the board for risk management also.

Our domestic operations grew organically over 12% and internationally about 5%.

We've continued to improve margins and slightly surpassed our 16.5% target for the year.

We expect organic to be in the upper single digits for the rest of 2015.

All right, let's shift to page 5, to the corporate segment.

A really nice quarter for our clean energy investments and right in line with the estimates we forecasted last quarter.

We haven't changed our outlook for the rest of 2015 very much that we provide on page 15 of our investor supplement; so right in line both this quarter and looking forward.

Finally, some comments on our M&A program.

We did 11 mergers this quarter at a weighted average multiple of just over 7 times.

Also remember that we tend to do fewer mergers proportionately in the first quarter.

I guess we could call it lower seasonality with our M&A program, and it has been that way for five years or more, so we feel very good about our opportunities to do a lot of nice tuck-in mergers this year.

Next, looking out over the remainder of 2015 in terms of M&A funding, we used about 1 million shares this quarter; and we think we will use about 3 million to 4 million shares in the second quarter.

Then for the balance of the year, we will be mostly using cash.

So those are my comments, and like I said to start, it was a really terrific quarter on all measures.

Back to you, Pat.

Thank you, Doug.

Melissa, we are ready for questions.

(Operator Instructions) Michael Nannizzi, Goldman Sachs.

Thanks.

Hey, Pat, I was just wondering.

You mentioned 10% organic growth internationally.

Can you talk a little bit about what is underneath there?

And can we talk maybe specifically about the recent integration or the recent acquisitions and the ones that are being currently integrated?

What sort of organic did we see out of those guys?

Thanks.

Yes, Mike, this is Doug.

I made the comment about the 10% growth internationally.

We are seeing good results out of our London specialty business.

Our retail businesses there that have been in our books for at least a year are performing nicely.

So those are the two segments internationally.

Our small previous operation down in Australia had a terrific quarter.

But again it's so small it didn't move the number.

But those are the three places we are seeing strong spots.

Also, Mike, Canada contributed nicely.

Okay.

(multiple speakers) organic.

But they had some -- Canada actually had almost 6% organic growth.

But that's not in our organic growth numbers yet.

If you look across the globe, it's a little difficult in the first year or so until we get the accounting squared away on all the operations, consistent last year with consistent this year, just the way the billing practices work.

But our best guess right now says if you add up all our other international operations that are not included in our organic, they are probably flat to where they were prior year, if we measure about the same.

And our organic would have been close to 4% total, if we would have thrown them in and started counting them as organic in this quarter.

So we are pleased with our results.

There is some softening in Australia and New Zealand, so you are seeing some market pressures there.

Canada is holding up nicely, and the UK is holding up nicely.

Got it.

Then just can you update us on leadership in the UK?

I'm sure there's continuing to be some turnover and change as you guys continue to push those three companies together.

Any update on what is happening on that front?

Yes, Mike.

I think we've got a very stable situation now.

Grahame Chilton has taken over as our CEO for the overall international operations.

Retail UK is very stable right now; specialty is very stable.

So really what we had in the UK is -- we've got about 5,000 people there, and we had five people depart, and we've got a really solid leadership team that we are excited about.

Great.

Then just lastly, just on risk management, what operating leverage should we think about in that business?

10% organic?

You have mentioned there is that 16-ish-% margin.

Is there a level of growth where you can pick up some additional operating leverage if you are able to continue to grow at this level and where we could see that margin lift up a little bit further?

And then on that topic, just maybe talk a little bit more about what's driving the current organic growth and what's giving you confidence that you could see still upper single digits for the rest of the year.

Thanks.

It's a lot of questions in there.

But first, if you recall we have stepped up our margin target.

In the past we were at 16 points, and our margin target is now at 16.5 for this year.

So we are moving the margin target up.

It is a business that the operating leverage on that -- we've said in the past you need about 5% to 7% organic growth in order to show much margin expansion in that business, unlike the brokerage segment that you can start to see some margin expansion at between 3% and 4%.

Around 3% you start to get it.

The operating leverage on it, probably the incremental is 25% to 30%, whatever you grow in excess of that, that 5% to 7% range should be able to hit the bottom line.

Claim outcomes is really what we are selling in that business.

That is, when we show our customers that settling claims, do it using Gallagher Bassett, produce a better claim outcomes.

Our analytics drive that; it supports it.

Domestically our customers are seeing the value that Gallagher Bassett brings.

I wish it were more sophisticated than that; it's just our customers see better claim outcomes.

Also, Mike, Gallagher Bassett is a bit of a proxy for the US economy.

We're seeing work comp claims on existing clients up in claim count by about 4.8%, and liability claims up about 2% on existing clients.

That basically is because of increased sales and hiring.

Got it.

Great.

Thank you so much.

Kai Pan, Morgan Stanley.

Good morning and congratulations on a good start for the year.

First question is number of question.

You guided for the first quarter acquired revenue around $175 million; but looks like the reported number as meaningfully below that.

Just wondering what would have driven that.

Yes, Kai, I think that you are asking it right.

We did put a -- we came in at about $162 million with respect to total rollover revenues in the quarter.

How is that different than the $175 million that we guided?

I probably rounded up $5 million instead of rounding down $5 million; and FX on that number probably cost us another $5 million.

So the $162 million on bottom of page 2 of 11 compares to the $175 million guidance.

One of the things I did note is there seemed to be -- a lot of the folks that were putting the entire $175 million in commissions and fees, but that also includes the premium funding revenue that was down on the investment income line.

So I think there was double counting in a lot of the models in the premium funding revenue that might be causing you some noise in your model.

Okay, that's great.

Then second question is really on your margin.

I believe you guided like about 80 to 100 basis point accretion from the acquisitions; but not expecting much from organically.

But it looks like organic also contributed about half the margin expansion this quarter.

You mentioned -- is that because of better organic growth than you expected?

Or like you have expense control measures in place?

And how should we think about that going forward?

First, my guidance last quarter was we thought we would see about a point of margin expansion from the roll-in of the larger deals, and we hit that number.

So we achieved that.

The rest of the margin expansion did come because we posted 4.5% organic growth, which we've said always that you can get some margin expansion above 3% in this environment.

We did have some good expense controls in the quarter, headcount controls.

As we look forward, again, we are back into this environment now.

We will get a little bit more margin expansion next quarter from the roll-in of the larger deals, and that's maybe a quarter to 50 basis points, something like that.

The rest of it will come if our organic is in excess of 3%.

We would hope to show some margin expansion on that.

So that's how you should look at a going forward.

Okay, that's great.

Last question is more big picture.

If you look at the -- from the acquisition front, one of the peer comments on that, they see the pricing for deals becoming more competitive, especially commented for the private equity funds.

Do you see that, and do you see that as a challenge to your acquisition strategy?

As well as on the industry consolidation front, do you foresee some large-scale consolidation also happening in the broker space among the publicly traded, the bank-owned, and the PE-backed brokers?

Well, I will give you the numbers.

I will let Pat give some of his thoughts on how he sees the consolidation of the industry going.

On the numbers, last year of our 57 smaller deals the weighted average multiple that we paid was about 6.7 times.

When I look at this first quarter, we are just slightly over 7 times.

There was one in that mix that may have moved it a little bit.

How do I see the rest of the year?

I see that there is still competitive pricing in that 6 to 7 times range.

I think that the reason why is that people, as they look at joining Gallagher versus perhaps a PE firm or something, is they really see our capabilities that can drive them to be more successful also.

So when we look at it, we think that our multiples are competitive.

We think that people are choosing us because of the capabilities we bring and the expertise.

As for the consolidation of the industry, I will let Pat talk about it.

Yes, I will talk about the environment a little bit, Kai.

It's very, very competitive on business that's a little bit larger in scale.

So you take a look at business insurance last July, to be number 100 in terms of the US size you did $24 million in revenue.

I was at a conference this past week, and the estimate that this consulting firm had in terms of the number of brokers in the United States was 37,000; I've used anything from 18,000 to 30,000 in many of my speeches.

So there is a very, very fragmented industry and there just aren't an awful lot of those that are over $25 million in revenue.

And we are very good at attracting those people that have entrepreneurial firms, $3 million to $5 million in revenue, make a -- have a solid margin on those, have no expectation of 9 to 10 times.

And frankly, as Doug said, it's not just all about the money.

Yes, we have to be competitive.

6 to 7 times EBITDA is probably right in the wheelhouse.

But really it's about the capabilities and the culture.

People are choosing to join us.

They have lots of choices, and in the end they are choosing to join Gallagher because of what we are building.

And we are excited about that, and we are very happy to have people with $3 million to $5 million in revenue join the Company.

On the larger-scale side, do you see more consolidation happening in this space?

I think you're going to see consolidation happening just like it has for the last decade, Kai.

All right.

Thank you very much.

Josh Shanker, Deutsche Bank.

Yes, a follow-up to each of Kai and Mike's questions.

On Kai's question about the margin expansion, Doug, you said that you don't expect any more margin expansion from the roll-in -- or no margin for the rest of the year.

I just want to be clear that is just related to the roll-in.

You still probably expect margin expansion as long as your growth remains consistent on the organic side.

Yes, what I said was the roll-in acquisitions in the second quarter might contribute a quarter to a half a point of margin expansion.

By that time, most all of them will be in our books, so it won't have much impact for the roll-in going through the rest of the year.

Then if we grow over 3% we might see margin expansion at that level too, in this environment of wage inflation.

So you are hearing it right, that the roll-in of the deals, maybe another quarter to a half in the second quarter; after that not much more because they are already in our books.

And then organic growth should drive margin expansion if it's above 3%.

Okay, that's -- and regarding Mike's question, I am wondering if you can give me a Theory of Everything on management and producers and whatnot.

To what extent do you lose something when you lose managers of important businesses?

And to what extent have you gained someone when you pick up someone like a Chily to run the business?

What is the potential plight of producers?

What is the potential gain of producers?

What is the net sum on all these changes?

Okay.

So, Josh, the Theory of Everything is this.

We will do extremely well when people join us, and we will take a hit when people leave us.

And the size of that will depend on whether or not the folks that are with the Company are excited to be here and say or whether they leave.

To tell you the truth, the nice thing about Gallagher is -- I think if you take a look at our turnover, if you make $100,000 at Gallagher, you don't leave.

Our turnover is literally nil.

We do a very good job of bringing people aboard both by the merger and acquisition efforts as well as just organic recruiting.

So frankly, I look at where we are today -- and I know you're referring to our London departures -- and we haven't lost one dollar of revenue, not one dollar.

I think with Chily in the seat, the line of people that are looking to be hired by Gallagher has actually expanded substantially, and we feel really good about that.

So I think net-net in the end we're going to be up nicely in revenue.

Have you net gained or net lost producers, or really too early to say one way or the other?

Not one.

Not one.

Not one producer.

Have you gained some?

Yes, yes.

We are still looking at new hires as a great opportunity -- not just in London, globally.

And yes, we are net up and we are thrilled about it.

Regarding cash to come, is there any risk to having Chily being dual-added?

Or are there any hidden benefits to Gallagher in that?

Oh, the benefit to Gallagher is outstanding.

I just have to tell you, this guy is the real deal.

Just attended our Board meeting this week.

The Board is incredibly comfortable with Chily.

I have known Chily for a long, long time; and to be on the same team is really exciting.

He is a solid, solid senior executive who has great experience in running public companies.

He is a broker's broker, which I like, because we are a brokerage run by brokers, and we speak the same language.

He is a very solid executive with a great reputation.

And as I said, we've got a very long line of people who want to join us.

So it's kind of exciting.

Yes, yes, I'm sorry; I guess I misspoke.

Do you have any advantages being -- is there an alignment with Capsicum in any way?

Anything that you can gain from that relationship?

Well, we own 25% of it, and we have about a 35% economic interest.

And ultimately, that's going to be -- Capsicum will be one of those stories that will wow you guys in the future.

Okay, great.

Well, thank you very much and good luck with everything.

Bob Glasspiegel, Janney Capital.

Good morning, Gallagher.

Good morning Glasspiegel.

(laughter)

I'm glad we're on a last-name basis; that's great.

Given your presence in UK, I'm going to use you guys as my quasi-economists.

So we've had the euro and the pound go down in these currency wars; but in theory it's going to cause a little bit more economic growth in the region.

Of course, currency wars are a zero-sum game, but the outlook for European growth is expanded.

The stock markets are often those regions.

So, yes, you've got the currency hit there, but the offset is you may get a little bit faster economic growth in the region.

Put your economist hat on and tell me what you are seeing in Europe and the UK economically.

I think you hit right on it, Bob.

Our organic growth was strongest in the quarter outside the United States.

I think those economies have been sluggish, for sure, for the last number of years.

I think the pound/dollar/euro change will spur some growth in those economies, and we will be the beneficiary of that, especially with the moves we made last year on the retail side.

It seems to me -- I mean, devil's advocating -- that Doug's currency headwind needs to be offset by a little bit better growth underneath.

So we really shouldn't take $0.03 out of Q2 completely.

Well, I don't think it moves that fast, Bob.

Yes, Bob, if I were you, I would use Doug's guidance.

Right.

I know those will come out in the currency, and we will see levelized currency from the revenues coming out a year-ago for sure.

But my point is that there is an offset if in fact you are getting more growth outside the US.

Yes, I hope so, Bob.

I really do.

From your lips to God's ears.

Okay.

The other thing is the CIAB numbers, I guess down 2. You would quarrel with that with your flattish commentary.

Or is minus 2 consistent with flattish?

No, I think minus 2 is -- here is what I have been saying for the last number of quarters.

You and I have witnessed real cyclicality.

Go back to the 1970s, the 1980s, the early 2000s.

That is real cyclicality.

Everybody is worried about the rate of increase decreasing.

And I am say: guys, if it is 1% to 2% up, or 1% to 3% down, in my history, in my experience, that is not a cycle.

That's flat.

In our book of business for the quarter, rates and exposures essentially produced no increase nor any decrease.

But I don't quibble with the CIAB.

I think they are accurate.

And remember, that is anecdotal as well.

But I think that basically we are in a flat, rational environment.

There still is no investment return for these guys.

I've said this many times.

It's the first time in my career when I meet with CEOs of major insurance companies and they tell me what's going on in the field and they are right.

They are just -- there is much better information, and I think they are just more disciplined.

It's a rational market, which is fantastic.

Pat, that's my market.

That's my crystal ball as well.

I hope we are both right.

Me too.

Thank you.

Paul Newsome, Sandler O'Neill.

Good morning and congratulations on the quarter.

I was hoping you could talk a little bit about the competitive environment within the brokerage business itself.

It looks like you are gaining a little bit of market share relative to your peers.

Maybe you could talk about where you think that market share is coming from in general.

Yes, I would be glad to talk about that.

In fact, we know for a fact now -- we are getting better and better and knowing our data and being able to study what is going on in our book of business.

And we know that over 90% of the time when we go into competition we are competing with somebody that is smaller than we are.

So when you look at share, I don't want you thinking Marsh, Aon, Willis, Brown, and we are battling it out on every account.

That is just not the way it is.

The real marketplace is that fragmented marketplace which is relationship driven and is middle market driven.

We do a very good job on risk management accounts.

We love to pursue large accounts, but by and large our people day in and day out are competing in the middle market.

When they do that, they are competing with the local broker.

One of the reasons our acquisition pipeline is so robust and one of the reasons we are closing as many deals as we are is because people really like to see the capabilities.

When I started in 1974 we fought above our weight class every single day.

Today we can go out to any account of any size anywhere on the globe and tell them we can be helpful.

Our brand is getting stronger.

People are beginning to know more about Gallagher.

And frankly, we put a lot of boots on the ground and we are an aggressive cold calling Company.

So we are out there every day pounding the street trying to get new business.

And when we don't write an account it is, frankly, because we can't break the relationship.

I look forward to a future time when those relationships -- you could hold on to your best friend from high school for a while, but ultimately my capabilities are going to push you.

I'm not sure my best friend even talks to me anymore.

Thank you.

Appreciate it.

Mark Hughes, SunTrust.

Thank you; good morning.

Could you give us general thoughts on contingents and supplementals, how you think those will be shaping up as we get through 2015?

If pricing is a little bit more flat to down, underwriting results flat to down, how do you think that will show up on your revenue line?

Well, for the rest of the year, we see it being -- that if you take the two numbers out of the Gallagher last year we see them being up organically this year still.

I think that the carriers -- and Pat can talk about his conversations with the carriers too.

But the carriers recognize the value we bring in the distribution; and I think they see themselves seeing the supplementals and contingents help align our interests with our customers' interests and with the carriers' interests, and so they tend to like it.

We are starting to see -- we are having professional conversations about which pieces help move both of our interests forward as we grow together.

So they like it.

I think our relationship with the carriers is pretty damn good, friendly.

Yes, Mark, I would say that having gone through the Eliot Spitzer era and all the controversy around contingents and supplementals and what have you, and going through the rounds of negotiations, it's very stable right now.

I think the carriers are at a point where they've got programs that they believe are driving good results for them, and it's a very stable thing.

We're not having a lot of conversations about should it change next year, how much should it change, up or down.

There are those carriers that solidly believe that they just want to stick with contingents, and that's fine with us.

And there's others that understand that supplementals drive the bus as well.

So I would agree with Doug.

I think you will see -- I think supplementals and contingents will follow our organic growth.

If we see underwriting results under a little more pressure, we wouldn't necessarily assume that will have an impact on your contingents or supplementals?

No, I think if the underwriting results do deteriorate, then you will see in the contingent line -- so if you look at the table on page 2, I think it is -- then the contingent line will come under pressure.

Okay.

There is still pricing power out there though, Mark.

We believe that the carriers still have the ability to price for rational -- there is room.

If they are starting to have lines that are suffering, then there is room to price those lines up to get their profits back into the right spot.

In the risk management business, do you have a view on workers comp claims, whether frequency is up, down, sideways?

I know you are taking share and your clients are adding payroll, so that may be influencing your frequency.

But aside from that?

No, absolutely.

You hit right on it.

Gallagher Bassett is up 4.8% in workers compensation claims of this year from existing clients.

That is a definite proxy for the economy.

That's because there is more employees in place.

Thank you very much.

The world is getting to be a safer place.

That is what Gallagher Bassett helps our clients do.

But just the growth in the economy also fuels more claims.

So as the economy grows, it should offset our customers getting safer.

Right, thank you.

Adam Klauber, William Blair & Company.

Good morning, guys; a couple different questions.

How is RPS doing?

Was organic RPS in line with the brokerage, better, or worse?

It was a little better.

Okay.

And how would you say submissions are now compared to a year ago at RPS?

They are up, just up slightly, single digits.

Single digits; okay, thanks.

And then as far as the benefits business, again, the same: Is that doing, would you say, better, worse than average on the organic side?

Better than the PC -- than its PC relative.

The benefits space is -- it's a great space for us right now, Adam.

You've got the Affordable Care Act and compliance issues.

Employers now are seeing growth in their business, so payrolls and HR; it's huge issues.

And we are not just doing health and welfare anymore.

We're helping our clients with everything from what position they are going to take in terms of their HR, whether it be compensation, whether it be wellness, whether it be health and welfare.

How do you communicate that?

All of that works together.

Frankly, the small broker in the health space is dead.

They just haven't laid down yet.

Great.

As far as exchange, do you think you will have more business this year than last year?

By a factor of a lot.

Okay, okay.

Those were all my questions.

Thank you.

Brian DiRubbio, Tipp Hill Capital Management.

Morning, gentlemen.

Just a conceptual question, probably more for you, Doug.

As you guys are thinking about more -- or do more international acquisitions, does it make more sense to use your cash that's located overseas or to start issuing debt overseas?

Especially what the European bond markets are doing right now in terms of yields.

Well, I think first is you use the cash that is created by the indigenous operations there.

It's always better to keep it there in reinvestment, and that actually works great.

Remember, if we do bring it back, we are in a fortunate position that even if we brought it back to higher tax jurisdictions, our tax credits will shelter that.

So we do have the flexibility of moving currency around the globe and not have a damning effect on our taxes.

So that's (inaudible).

Looking at debt internationally, yes, think there are some opportunities there.

There are some issues about doing that.

There needs to be enough of a sizable offering there to attract attention; but it's certainly something that is on our radar screen to see as we look forward.

Maybe that's a spot to do the debt.

So you are thinking about it the right way.

Got you.

Then just, Pat, for you.

At what point do rates have to start coming down before your clients start pushing you to change carriers?

I mean, is it -- down 1%, I guess most people won't change because of the convenience factors.

But do rates have to start coming down 5%-plus for that to start occurring in the market?

Yes, I think what's interesting -- of course you have to be competing on price.

People say: what do you compete on?

And price is a very big part of it.

If there was a carrier that wanted to break for market share and was willing to be 7% to 10% off, I think, Brian -- not 5% -- but 7% to 10% off, that could cause some consternation in the market and could cause some movement.

They would in fact pick up share doing that.

That's why it's interesting to me to see this rational behavior in terms of the competitive landscape.

I've never really lived with this before.

It's always been one way or the other: either you've got rates coming down substantially and you're shopping everything; or rates are going up and you're scrambling to get the coverage you want.

So I think there is a sea change here.

It's been probably four years now of relatively rational behavior by underwriters.

I think it's very similar to what we saw with the benefits business in the 1970s going into the 1980s.

The cycle came out because people began to understand that the inflation behind what was going on with medical care would not allow you just to compete on price.

And I think people see that.

We do have claim inflation in the marketplace.

There is tort inflation.

There is not a lot of good rates of return in the bond market.

And they've got to make their money underwriting.

And they are very, very -- they are much better equipped at this point, this time in my career with information than I've ever seen.

So when I talk to CEOs of insurance companies, they know by line, by geography where they are making money, where they are not making money; and they are holding those offices and those underwriters accountable for underwriting profit.

And I think that's a great place to be.

Got you.

Great, guys.

Thanks for the comments.

Meyer Shields, KBW.

Thanks so much; good morning.

So one question.

We haven't talked about this in a while.

Heath Lambert had some sort of Western Europe aspirations.

Can you talk about what you are doing outside of the UK in Europe?

Yes, we have -- in fact I'll be meeting with them next week.

We have what we refer to -- not refer to.

Our branded network is called the Gallagher Global Alliance, and that's how we are trading in Europe through affiliates that are independently owned agencies, that are vetted by us and contracted by us to help our clients.

And we mutually share the work on clients that they have in locations where they don't have operations; and the we do the same.

Right now in Western Europe, we have nothing in the pipeline to move in that direction.

Okay, thank you.

Then a question for Doug; I'm just trying to get this straight.

You talk about getting, I don't know, about half of the margin expansion from headcount controls internally.

Does that change the bogey from 3% organic growth to translate into margin expansion, or is that assumed in there?

That's assumed in there.

The fact is, as we get better at what we do, we have the opportunity to become more efficient, more productive, and still raise our quality.

But there is just a natural -- people deserve -- those that stay deserve raises.

Those that we don't rehire, we consolidate the jobs.

But that's baked into it.

The headcount controls are something that's baked into my assumption, that you've still got to have headcount controls even when you have 4% organic growth too.

Okay.

Then finally, given the London market presence, is there any impact on margins from foreign exchange changes?

Yes, just the math would show that it could cause some margin contraction.

So just by the way you do the math.

We actually have a nice book of dollar-denominated revenues because of our specialty business in London.

So that helps a little bit with the pound, so it's not so big.

We don't have that kind of dollar-denominated revenues and Canada, Australia, and New Zealand there.

So it does have a little impact on margin, but not that much just by the pure math.

Okay, but the little impact is -- it sounds like you are saying it is adverse on a net basis?

Correct.

Okay.

Great.

Thanks so much.

Greg Peters, Raymond James.

Good morning, Pat and Doug.

Congratulations on the quarter.

Hey, from a big picture perspective, it seems like technology and analytics are playing an increasingly important role in revenue production.

So I was wondering how you measure the adequacy of your continuing investment in this area, in the context of the margin improvement you laid out for the balance of the year.

Well, we're getting good technology improvement lift.

As you know, we are still investing in Gallagher Bassett; our analytics workbench there is probably the best in the business right now.

Beyond a doubt it's bringing great value to our customers, and so we are getting value from that.

Some of the technology investments we're making, they are table stakes.

So we are doing that.

And then when you look over on the brokerage side, our ability to capture all the premium that we place around the globe, so that we can sit down and have valuable, productive conversations with our carriers, is delivering value, too.

So in terms of measuring our technology investment, some of it is just to stay competitive in the business and some of it is to generate revenue.

And we think that what we are doing both in the Gallagher Bassett analytics workbench and then on the brokerage side with our SmartMarket, our advantage products, which are data products, we think we are doing a good job on that.

And it's leading to some nice revenue opportunities for us.

Yes, I would agree.

I think when you look at this, Greg, the payback that we've gotten nontechnology investments, it's pretty hard to put your finger right on it.

But putting salesforce.com in place, having the technology, the technical capabilities now to have all of our US operations on the PC side on one agency system -- we've been in basically one agency system on the benefit side for years -- giving us tremendous abilities to use a data warehouse.

We now know more about our book of business every single day than we did years ago, and it's incredibly helpful in terms of being able to compete.

When I go see a contracting risk and I can tell them exactly how many dollars of premium we have in the contracting space, I can tell them how many accounts, where they are, what size they are, and why they should trade with us, and I can translate that to what that means to the insurance carriers that we are placing that business with, it gives our producers a real leg up.

From a budgeting perspective, do you measure your investment as a percentage of revenue?

And is it done by segment?

And would you say that that's increased, stable, or decreasing trend-wise?

It's about stable with our -- as a percentage of revenues.

I don't have that committed to memory, but it's about stable.

We are not seeing it increasing.

Our revenue growth -- one of the advantages of getting scale is it allows us to continue to reinvest in the technology space with more scale.

So our efforts are to remove the duplicity that comes with putting together a lot of agencies together; take that spend that we are spending individually, aggregate, and reinvest it in tools, technology tools, that help us sell more and help our clients do better with managing their risk.

So that is the advantage of scale.

There is no question about that, that our offshore centers of excellence in India benefit from the scale.

As we bring new smaller tuck-in agencies on to our platform, we get that, we harvest that spend in reinvestment.

So there are advantages to scale, Greg.

There is no question about that.

On the offshore centers of excellence, have we pretty much harvested all that can be done out there?

No.

Or do you see further opportunity?

Oh, I see huge opportunities.

I believe 20% to 25% of our employees ultimately will be in those centers, whether they are in India, whether they are in the Philippines, or whether they are here in the US, or wherever we put them.

I think the service centers that we are creating will continue to be tremendously additive to two things: both -- first our margin, but most importantly to our quality.

We will issue over 1 million certificates of insurance out of India this year.

We know for a fact -- we can go in and look at this -- we do that at 99% accuracy.

Now, when I was addressing a group of independent agents and brokers just last week, I asked them how many of them had any clue what their level of quality was on the certificates they put out.

There's not one of them that even knows how to measure it.

And that I believe is sellable in the marketplace.

When I can go into a client and say: look, here is the facts.

Your certificates are going to go out at 99% accuracy.

Do you care about that?

Well, yes, you do care about that, because that's what you are relating to your vendors and your clients, what your coverage is.

It better be accurate.

So there's tons of opportunities.

Right.

Thank you very much for your answers.

Charles Sebaski, BMO Capital Markets.

Good morning.

First question, Pat.

You were talking about before the rating and the dynamic of what's going on in the rational pricing.

I guess I am curious on your take on how much of that is the information the carriers have, versus the low interest rates.

I guess what I am trying to get to is: do you think this rationalization, when rates normalize, that the need -- the information will still be there but the need on underwriting return will be less?

Well, now that's a great question, Charles.

I have to be honest with you, I don't know.

We're going to find that out, aren't we?

I mean I think that certainly interest rates have played a large part in the rational approach.

But I will also tell you I think there's three other factors that have added to this.

Number one, I think you've got senior management and senior leaders that clearly have better information and a much stronger understanding of their role is to generate returns year in and year out.

And they can get their hands around what's going on in the field like they never could before.

The other thing is I do believe that Sarbanes-Oxley is having an impact.

I will use this as a generalization.

In my past years, if an underwriting carrier -- if a carrier could post a 93 combined -- and I won't ever mention any names -- they would post 99; and they'd put the rest away as kind of nuts for the winter.

You can't do that anymore.

Boards are all over reserves.

You guys are very good in the analytical world of looking at reserve redundancies or reserve shortfalls, and I think that people have to play it as it actually comes out of the box.

So if you've got an 89 combined, you're going to have to tell the world you had an 89.

So, yes, I think you're right.

If interest rates go up it will create, I believe, some enticement for underwriters to understand that they can do better on the investment side.

That may soften the market.

But at the same time, I just see a higher level of professionalism in the CEO suite and much better information.

Yes, I think, Charles, too, you also have the dynamic of frequency reverts more to the historical norm.

Some of the pricing advantages that carriers have been having or result advantage has been from lower frequency in the actuarial picks than expected.

So even if you've got a tick up in interest rates a little bit and frequency reverts more to where it was during a more active period in our economy, those could have an offsetting effect to one another.

So you can't look just at interest rates.

The great thing about it is with the data that the carriers have, with the sophistication, they will be able to adjust that as it comes along.

So when frequency goes up, they will bake that into pricing; when interest rates go up, they will bake that into the pricing; when severity changes, they can bake it.

And I just don't see them subsidizing -- they are not going to have a lot of lines that they consider to be loss leaders.

I just don't see that working well.

They are either going to make the money in that line or they are not going to write it.

So it's a different environment, too.

I think Doug hits at it.

What we are seeing now is really cycles within the cycle, right?

We know that large property accounts were soft last year, 2014; we expect continued softening in 2015.

So our RPS unit as it comes around to July 1 is going to see serious competition for catastrophe property globally.

Not seeing that in workers compensation.

You're not going to see that on regular property accounts through Oklahoma.

So I think Doug's point is a good one.

Line by line, geography by geography, they are underwriting.

They are really, truly underwriting.

Can I ask you about your guys' plan, more internationally.

Where does -- what does Gallagher look like in two or three years?

I guess it seems like the international expansion has picked up last year.

I am wondering if there is going to be a larger press for South America, Latin America, other emerging market-type companies, and what your presence might be like two, three years down the road?

Well, that's a good question.

First of all, we've always coveted the world, so we've been very opportunistic.

We've been in Australia for 15-plus years with Gallagher Bassett and with some smaller acquisitions on the brokerage side.

The moves that we made last year I think were seminal moves for the Company.

I compare that to strategically going public in 1984.

You are going to see us do a tremendous number of bolt-ons.

We're going to be able to do what we've done in the United States now in Australia, to some degree in New Zealand, clearly in the UK, and very clearly in Canada.

We've got those pipelines building and we've actually done some of those deals.

So you are going to see us bolting on in those places where we've created a platform.

We are active in Latin America.

We like emerging markets.

We took a 21% stake in our Mexican partner three, four years ago; we've invested in smaller firms in Chile and Peru.

We have -- Singapore has been active for us now for almost 15 years.

We did a small partnership with one of the largest brokers in China.

So I think you'll see us continue to take toeholds in locations where we're not and bolt-on in locations where we have a platform.

Finally, Doug, I guess I have a question about the margin expansion and the roll-in.

You said that the next couple of quarters there might be 25 or 50 bps of margin expansion from the new business roll-in.

I guess my question is, is that just due to those new businesses being higher-margin?

And whether there is any margin to be had from those new businesses from synergy costs, cost containments, outside of just the natural higher-margin that those businesses were doing.

And how that would work for the next four quarters, five quarters, give or take.

All right.

Just for semantic purposes, let's not refer to our M&A as new business, because that might confuse somebody as that's new organic business.

So just for our M&A rollover, you heard me right that there is probably a quarter to 50 basis points in the second quarter.

I don't know if there is much more in the third and fourth quarter from the roll-in of those slightly higher-margin businesses that we bought.

So that's the large-deal roll-in effect of that.

Going forward, there are opportunities for synergies that can result from those that as we fully integrate those operations.

So that could produce some further margin expansion as you get to 2016.

But let's get integration done first, and then I'll -- to make sure that we are delivering a unified brand, a unified IT system, a unified telephone system, marketing together.

And then we will go to that next step to see whether that synergy will naturally fall out for that.

I appreciate all the answers.

(Operator Instructions) Adam Klauber, William Blair & Company.

Thanks.

The clean energy -- Doug, I think you said it is running around how you thought.

Could you add some color?

It's tough for us to get visibility.

Do you still think that business could be up materially this year compared to last year?

I've never said that it's going to be up materially this year.

I said that this year is a platform year for a step up in 2016.

Okay.

In the past -- this is a flat year, but I do believe there is upside next year.

We are having tremendous appetite for our remaining plants.

Remember our desire is to own a portfolio of plants.

You are going always have some that start up, some that shut down for production reasons, for appetite for clean coal.

We see that the appetite for further plant installation is being very strong in this time.

So this is a platform year relative to 2014.

But in 2016 we see another step up in that.

Okay.

Then as far as interest and banking costs, should we think about the rest of the year similar to what we saw for this quarter?

Yes.

Yes.

We provide the guidance back on page 15, I think, of the supplement.

We feel comfortable with the ranges that we provided on that supplement there.

So if you use that, you will get pretty close to our interest and banking costs as well as the other corporate lines.

Okay.

Then finally, as far as share count, non-acquisitions, what should that do?

Typically what we have is about 1.5 million shares that -- between basic and fully diluted -- related to our options and our restricted stocks, etc., that go out, which would be the employee compensation matters on.

So I see that somewhere in the 1.6 million to 1.7 million range, just constantly at that level.

Sorry.

Is that for quarter, for the year?

That's just for the year.

For the year?

Okay.

(multiple speakers) thing is our basic plus -- if you just take basic and add about 1.6 million to it, you get to the fully diluted.

Great.

Okay.

Thanks a lot.

(multiple speakers) computation.

Yes.

Thanks a lot, guys.

Kai Pan, Morgan Stanley.

Thank you for taking the follow-up.

Doug, you mentioned you issued 1 million shares first quarter, expecting 3 to 4 million in second quarter.

Just curious.

Is that because you see some large deal in the pipeline, would need some larger allocation of the stock component?

It's actually we've got a couple tax-free exchanges that are lined up during that quarter.

Remember, we use stock in a tax-free exchange; and frankly, there is a lot of our partners right now that want the stock -- future partner that want the stock.

Which we like.

So that's the real reason there.

Okay.

So it's not specifically allocated for some potential large deals?

That's right.

Okay.

Thank you very much.

I think that's all our questions, Melissa; is that correct?

Yes, it is, sir.

Okay, just one quick comment.

Thank you again, everyone, for being with us this morning.

We really appreciate it.

As I said at the beginning I'm incredibly pleased with our start to 2015 and look forward to continuing to execute.

I think we've got good momentum and hope to have a solid 2015.

Thank you for being with us this morning.

Thank you.

This does conclude today's conference.

You may disconnect your lines at this time.

Thank you for your participation.