Potential sale of PartnerRe to Covéa, what is the next move?

Following last Friday’s report by Insurance Insider citing a potential sale of PartnerRe to Covéa, Exor’s management has confirmed that it is in advanced talks with the French mutual insurer regarding a possible $9bn all-cash acquisition. While this could be seen as the latest masterstroke of John Elkann, the substantial cash redeployment that will follow raises questions on how Exor will address its high exposure to the auto sector.

1/ Exor confirmed through a press release that it has entered into exclusive talks with Covéa concerning an all-cash acquisition of reinsurer PartnerRe.

2/ The Financial Times reports that people close to the matter claim the unsolicited bid would amount to $9bn.

3/ Exor currently values PartnerRe at €6.7m ($7.3bn), representing 28% of gross assets.

Now the fact that Exor is in discussion to sell PartnerRe to Covéa has been confirmed, the potential $9bn windfall would mark yet another feat for John Elkann, demonstrating Exor’s skill in unlocking value through successful disposals/M&A activity (see Magneti Marelli for the most recent example), and book a cool 30% return (plus all the dividends that PartnerRe has paid over the past five years).

However, the outcome of the transaction would be a complete exit of the reinsurance sector, increasing the holding company’s exposure to the automotive sector to worrisome levels. Ferrari would become the largest asset at 39% of Exor’s GAV, while the weight of investments in the auto & trucks sectors would reach an overwhelming 90% of the portfolio.

The $9bn in cash from the potential PartnerRe disposal would join an already growing pile that includes an estimated €0.6bn per year in dividends from its underlying companies and the potential extraordinary dividend to be paid by FCA if/when the PSA-FCA tie-up materialises. Thus making the necessary redeployment of capital a key element to determine the future drivers for the share price.

During its Investors Day held last November, the company gave few concrete indications on what sectors where being eyed for future investments. Sectors adjacent to the industries on which they currently are: entertainment and media, capital goods, luxury and financial services, leave lots of room for manoeuvre, but also for uncertainty. What is certain is that the investments will be sizeable, as Exor would target companies where they stand as the reference or controlling shareholder. Possible bumps in sale talks

The transaction is the latest effort in driving consolidation in the sector, after Covéa’s hostile takeover bid on French reinsurer Scor was decisively rejected. However, Covéa is currently under pressure from the French regulator after it raised alarms on its poor governance and is also in the midst of a legal battle with Scor due to alleged breach of trust, which risks throwing a wrench (or two) into the negotiations with Exor.

The French media says that Covea is flush with cash (€10bn) but we remain sceptic; Covéa is a sum of mutual companies with economic consolidated accounts and no genuine FCF generation. Where does the €9bn, which is supposed to finance the PartnerRe acquisition, come from? The mutual insurance companies hold “policyholder participation reserves” in their balance sheets. They correspond to profit sharing allocated to policyholders but not included in the mathematical reserves. This is what would allow the three mutual insurers controlled by Covéa (Maaf, MMA and GMF) to build up reserves of €10bn.

The mutual insurance company is thus using cash that in reality belongs to its policyholders, and is generally used to pilot the participation rate and should be released within eight years, to improve its financial flexibility.

If the sale goes through, the cash windfall would leave Exor with a net cash position of c.€5.8bn, making up 26% of our forecasted NAV. This would raise our NAV/SOTP valuation from €90 per share (taking the most recent net debt figures as of November 2019), to €97 per share, representing a discount to NAV of 28%.