What happened
Shares of Validus Holdings, Ltd. (NYSE: VR) are soaring by more than 44% as of 11:30 a.m. EST. The reinsurance and specialty insurer will soon be merged into American International Group (AIG 0.03%) in a deal that values it at approximately $5.6 billion, or $68 per share.
So what
Starved for growth, American International Group has decided to buy rather than build. Validus Holdings shareholders will receive $68 in cash for their shares, in addition to a $0.38 quarterly dividend that it expects to pay out before the deal closes in mid-2018.
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The valuation implies a price of 1.53 times Validus' book value as of Sept. 30, 2017, according to a presentation by AIG. The company wrote that Validus is a "consistent source of global underwriting profits" in its presentation, noting that Validus has generated an underwriting profit in 10 out of the last 11 years. Validus will likely generate a full-year underwriting loss in 2017 due to hurricanes Harvey, Irma, and Maria, though outsize losses last year may be a boon for future underwriting profits in reinsurance.
AIG's CEO, Brian Duperreault, said on a conference call about the deal that Validus brings AIG "skills we don't have." He also said that "this acquisition is a significant step forward in executing our strategy to pursue profitable growth." One of the benefits of the deal is that AIG will be able to monetize its deferred tax assets, which enable AIG to avoid cash taxes on profits.
Now what
Duperreault promised growth for AIG's shareholders when he became CEO eight months ago, suggesting that rather than cannibalize itself with share repurchases, it could direct excess capital to acquiring other insurance businesses and bringing new skills to AIG. In response to an analyst's question on its conference call to discuss the Validus deal, Duperreault said that he initiated the transaction.
Acquiring Validus gives AIG access to new lines, as Validus is engaged in reinsurance, crop insurance, and owns the 11th-largest syndicate in the Lloyd's of London insurance market. In theory, these specialty insurance lines should help AIG improve its overall underwriting margins as it faces more competition in traditional commercial insurance lines.
AIG expects the deal to be immediately accretive to the company's earnings per share and return on equity, but it's notable that AIG is paying roughly 1.5 times book value for Validus while its own shares trade for as little as 0.8 times book value. Given the differences in relative valuation, it's arguably a high price to pay.
Wall Street sees little risk this deal falls through. At the current price of $67.48 per share, Validus shares trade at a modest 1.3% discount to the $68.38 in cash shareholders should receive in dividends and merger consideration over the next few months.
