If Wade Dokken, CEO of American Skandia, is a betting man, he may be about to lose his shirt. In March of this year, when MFMN asked him about the likelihood of a sale of the company, he responded, "I'll take all those side bets."
Skandia Insurance Co. is poised to back out of the American market by selling American Skandia, its U.S. variable annuity and mutual fund arm. Jefferson Pilot Financial of Omaha, Neb., is said to be paying $600 million for the Shelton, Conn., insurance company, which, with $23.1 billion in assets, is the 10th largest annuity company in the U.S.
Why would a company with a decidedly global stance divest itself of its American presence? Skandia's American executives believe the parent company has been impeding the firm's growth, sources said. In addition, there has allegedly been tension over the U.S. firm's exorbitant, multi-million-dollar marketing costs. Skandia's parent company recently decided to pull the plug on funding American Skandia's marketing expenses, and as a result, the U.S. firm had to take out bank loans to cover those costs, sources said.
Patti Abram, chief marketing officer for American Skandia, said that Skandia has continued to support the company's marketing efforts and has supplied most of the capital to fund new business.
American Skandia announced it would lay off 40 employees in April and has since put plans to hire 15 wholesalers on hold, citing poor market conditions [see MFMN 8/5/02]. Many insurers are facing dwindling assets and downgrades [see Annuity Market News September 2002]. American Skandia, which, with its aggressive marketing has become one of the best-known annuity companies in the industry, has not faced downgrades and has held fairly steady in 10th place.
Although American Skandia has long been rumored to be for sale, or looking for a merger, only now has serious discussion of a transaction emerged. "We understand that American Skandia is for sale, and Goldman Sachs is handling the assignment," said Rhonda Rosen, managing director at Putnam Lovell N.B.F. in New York.
Abram declined comment but did confirm that a Goldman Sachs partner is on Skandia's board. A Goldman Sachs spokesperson also declined comment. Representatives from Jefferson Pilot were not available for comment.
"It seems reasonable that Jefferson Pilot would have an interest in American Skandia, as they have expressed an interest in expanding their variable annuity business. A price of $600 million would represent approximately one times book value. This multiple might increase if there are any write-downs from deferred acquisition costs," Rosen said.
Jefferson Pilot, which has adopted an acquisition strategy, may be due for another purchase, as it last bought Guarantee Life Insurance Co. in 1999, according to analysts at Standard & Poor's in New York.
However, the deal has not yet been inked, and Goldman Sachs has orchestrated several failed sales in the asset management and insurance industry, including an aborted offering of Allmerica Financial of Worcester, Mass., earlier this year. Before that sale eroded, Lincoln Financial was reported to be the last buyer standing at the table, but the deal fell through in part because the company did not reinsure much of the risk from its guaranteed death benefits and had failed to report deferred acquisition costs.
Financial stability ratings have become a more significant issue for American Skandia in recent months. The company, rated at A+, is currently on credit watch with Standard & Poor's. The company expects to resolve its rating by the end of the month, said Robert Hafner, associate director at S&P. One of S&P's concerns is a lack of diversification beyond equity-linked vehicles such as variable annuities and mutual funds that generate fee income for the carrier. Jefferson Pilot is rated AAA with a negative outlook with S&P.
Some published reports have stated that only the variable annuity arm of American Skandia will be sold. Sources said that the Swedish parent favored such a divestiture, but Skandia is likely to sell the entire unit because the remainder of the company is so small. Out of $27 billion in assets under management, $22.6 billion is in variable life and annuities. Variable annuities account for 70% of sales and 90% of profits, said Abram, who added that the mutual fund business is not large enough to stand on its own.
Furthermore, American Skandia has structured its mutual fund and variable annuity and variable life offerings to provide similar investment options. By splitting up the product lines, American Skandia's buyer would likely have to make significant and costly adjustments to its mutual fund product line to achieve a similar result. Furthermore, it would lose the 529 college plan business, a small but promising area of asset growth.
Bonus an Onus?
Over the past two years, rumors that Skandia had been sniffing around for a sale have circulated widely in the insurance industry, primarily from large insurance companies potentially interested in consolidating large blocks of variable annuity business. However, insurance companies familiar with the industry balked at the offering and "waved garlic and crucifixes at the book of business," one insider quipped.
One reason carriers are wary of buying American Skandia's variable annuity business is because of the company's history of growth through perpetuation of bonus annuities. Bonus annuities enable brokers to switch customers into a new policy by providing a bonus to the asset value that balances the penalties from surrender charges the customer may have on an existing policy. In turn, carriers pay the broker a new sales commission before the surrender charge period on the old policy has expired.
The industry thinking is that American Skandia could get a taste of its own medicine; brokers who exchanged for bonus products in the past are likely to do the same again, moving the assets away from American Skandia.
Although variable annuities can ultimately become profitable, for that to happen, carriers need policies to stay put long enough to pay back marketing costs. Over time, carriers recover the cash outlay from sales commissions and other marketing costs through administration and mortality and expense fees. If the assets leave the firm prematurely, even surrender charge penalties may not cover real costs, especially in severe market downturns where those asset-based fees are lower than anticipated.
This situation may well have soured Skandia's attitude toward its American subsidiary and is going to affect any potential acquirer.
"Anyone who buys Skandia has to think hard about how much they want to spend on it after they get it," said Hafner of S&P.