A heavy dose of premium rate hikes, coupled with acquisitions and new business development, produced impressive top- and bottom-line growth at the world's largest publicly held brokers in 2002.

All of the brokers annually surveyed by Business Insurance reported double-digit revenue growth for the year, and all but one reported double- or triple-digit profit increases.

Much of the growth is attributable to the higher insurance rates underwriters are charging, which translate into higher commission and fee income for the brokers placing the business, analysts say. They predict, though, that while the rate increases will continue for the rest of 2003, they will begin to diminish by 2004.

As a result, some analysts are beginning to question brokers' ability to maintain their growth in the future and to wonder what will happen to the brokerage industry if insurance rates begin to slide.

The last time the market turned soft, in the late 1980s, mass consolidation within the brokerage industry ensued, leaving commercial buyers unhappy with the number of brokerage options available to them.

"The brokers are riding the crest of the up cycle," said Michael A. Smith, a managing director of Bear Sterns & Co. Inc. in New York. "That's improving the revenue lines. Expenses are not going up as fast, so margins are improving, and that's having an accelerated effect on the bottom line."

Mr. Smith predicted, though, that "by the second half of 2004, we are going to see pretty clear signs of a downturn" in the market. Consequently, he said, brokers are going to have to find other means to grow their revenue base.

"Brokers will probably go into a comparative tailspin in the next down cycle, just as they did in the last one," Mr. Smith said. He noted, though, that the number of large acquisition targets is much smaller today than it was during the late 1980s.

"I think what's more likely to happen is that when we do get into a down cycle, management and shareholders are going to become discouraged and you'll see the publicly traded brokers put up for sale. And it's possible that a large bank or investment bank would be an interested buyer," he said.

Hugh Warns, a vp with J.P. Morgan Equity Research in Baltimore, is not as pessimistic.

"The way people were running their businesses in the '90s, during the soft market, really forced discipline to build out best practices," he said of the brokerage industry. "I think you'll see a lot of the brokers emerge from this, even when we go into a soft market, with a slightly higher level of profitability on a go-forward basis. I just think these operations have been cleaned up substantially."

At the same time, Mr. Warns said, a new group of companies such as Hilb, Rogal & Hamilton Co. and Brown & Brown Inc. are now growing national platforms with a wide variety of products and specialties. This second generation of companies "is much stronger today than is was five years ago, and it was almost not existent 10 years ago," he said. "You were either an alphabet house or you were a local shop."

While their future remains to be seen, brokers are enjoying their financial successes in the meantime.

The world's largest broker, Marsh & McLennan Cos. Inc., reported a 10.9% rise in 2002 brokerage revenues, to $8.3 billion. Net income rose 40.1%, to $1.4 billion.

Analysts who track Marsh say that most of the broker's growth in 2002 came from premium increases, but because roughly 45% of Marsh's brokerage business is derived from fees rather than commissions, Marsh's revenue growth rate lags behind that of brokers that derive a majority of their business from commissions. They also note that Marsh is benefiting from its vast expertise as clients face a difficult market and seek alternatives.

Chicago-based Aon Corp. also benefited from premium rate hikes in 2002, analysts say. Brokerage revenues rose 12.9%, to $6.3 billion, while profits rose more than 200%, to $466 million.

Cathy Seifert, an analyst with Standard & Poor's Corp.'s equity group in New York, points out, though, that Aon's operating margins are still under pressure.

"This is a company that has had to focus on integrating a number of acquisitions, and what happened to them on Sept. 11 was a real issue," Ms. Seifert said, referring to the loss of 175 employees and its largest service center, which was located in the World Trade Center. "I don't think they are in much of a position to leverage the opportunities that exist in the marketplace because of issues outside of industry-specific pressures," she said.

In a statement, Patrick G. Ryan, Aon's chairman and chief executive officer, addressed that concern. "While our 2002 performance improved, we did not reach our original targets for the year, due in part to some nonrecurring items," he said. "Our fundamental businesses remain strong, however, and as we address underperformance in certain units and improve expense management, we expect earnings to increase in 2003."

At least one broker is quick to point out that its growth is not just about premium rate hikes.

"JLT's achievements over the last year cannot simply be attributed to increased insurance premiums in the current hard market, but also reflect organic growth achieved through new business wins and the benefits of a well-managed business," Jardine Lloyd Thompson Group P.L.C. said in its year-end results statement, released last week.

The world's fifth largest brokerage reported £388.1 million ($583.2 million) in brokerage revenues in 2002, an 11% increase compared to 2001. Profits rose 33%, to £69.3 million ($104.1 million).

The largest revenue gains among the world's largest publicly held brokers came from the two biggest acquirers.

Glen Allen, Va.-based HRH reported the largest 2002 brokerage revenue increase, with an acquisition-fueled 38.3% rise to $446.7 million. About $95 million of revenue in 2002 came from acquisitions made in 2001 and 2002, according to Carolyn Jones, senior vp and chief financial officer. In 2002, HRH made seven acquisitions, with annualized revenue of $104 million. The vast majority of that revenue increase comes from its July 2002 acquisition of Atlanta-based Hobbs Group L.L.C., Ms. Jones said (BI, May 20, 2002).

Acquisitions also were the name of the game for Daytona Beach, Fla.-based Brown & Brown, whose 2002 brokerage revenues rose 25.7%, to $452.3 million.

Brown & Brown made 32 acquisitions in 2002, which resulted in $62 million in revenues for the year, a company spokesman said.

But it's not just brick and mortar acquisitions that were made in the brokerage industry in 2002. Brokers also acquired new producers and teams of producers from competitors.

"One of the more-interesting factors is you're seeing more of a war for talent going on in the industry," said Adam Klauber, managing director of Cochran, Caronia Securities L.L.C. in Chicago. Acquisitions are not playing a big role in the growth at such brokers as Arthur J. Gallagher & Co. and Willis Group Holdings Ltd., which have instead opted to take on new producers and teams of producers, Mr. Klauber said.

Itasca, Ill.-based Gallagher, for example, hired 130 new producers between July 2001 and September 2002, according to the company. As a result, Gallagher said in its year-end results statement that it expects salaries and employee benefits costs to be higher than normal throughout most of 2003.

For 2002, Gallagher's brokerage revenues topped the $1 billion mark for the first time, increasing 21.8% to $1.1 billion. Profits rose only 3.6%, to $129.7 million, as a result of a variety of investment losses and a reduction in tax credits, the broker said.

London-based Willis has hired 150 new producers over the last 12 months, according to the company. Potential hires "recognize that this is a new Willis, defined by passion and energy, and want to be a part of building a great company," said Mario Vitale, chief executive officer of Willis North America.

Willis' 2002 brokerage revenues increased 22.4%, to $1.7 billion, while its profits soared to $210 million, from just $2 million in 2001.