Good morning, and welcome to Arthur J. Gallagher & Co.'s first quarter 2011 earnings conference call. Participants have been placed on a listen-only mode. Your lines will be open for questions following the presentation. If you require operator assistance, press star zero on your telephone keypad. As a reminder, 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 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, Jr., Chairman, President, and CEO of Arthur J. Gallagher & Co.. Mr. Gallagher, you may begin.
Thank you, Rob. Pardon me, and thank you everybody for being with us. Good morning, and welcome to our first quarter conference call. I'm joined this morning by Doug Howell, our Chief Financial Officer, as well as the head of our operating divisions, and we appreciate your being on the call this morning. We're off to a great start in 2011. I realize that the comparability is tough because of the adjustments in our earnings release, but you have to look at us on an adjusted basis. Looking at us that way, we had a great quarter. Our adjusted numbers, as per our earnings release, adjusted brokerage revenue up 10%, adjusted brokerage EBITDAC up 14%, adjusted risk management revenue up 18%, adjusted risk management EBITDAC up 10%. Combining our brokerage and risk management businesses, revenue is up 12%, EBITDAC up 13%.
Our organic brokerage growth was 1.6%, and in risk management, we are up 5.8% organically. We've returned to organic growth, which I think is a real testament to our sales culture. Although the first quarter is seasonably our lowest revenue quarter, we actually had a little bit of improvement in margins. The way I look at our results, there's an awful lot of positive numbers, and I hope this gives us a little momentum for the rest of the year. Our retail wholesale PC operations continue to fight in a very difficult environment in the U.S.. Our wholesalers continue to see softening, and business that would have been in the E&S markets continues to go to standard markets. We had good new business in the quarter. We had good retention, and yet our U.S. PC operations are essentially flat.
The story of our brokerage growth is coming from two operations, our U.S. benefits operations and our international PC operations. Our benefits team is off to a very good start. I've said all along that the new law in the U.S. would help grow our U.S. benefits business, and it has in two ways this quarter. Number one, accounts are leaving our competitors and coming to Gallagher. Our new business is very strong. Secondly, people who own smaller benefits consulting firms are interested in joining Gallagher Benefits platform, which we've invested in for years. Our international PC operations had solid organic revenue growth, and our international acquisitions from 2010 contributed nicely as well. In particular, our London operations continue to attract talent to our growing team, and our acquisition in Perth, Australia in 2010 has strengthened that part of the world.
During the quarter, I had a chance to visit our offices across Australia. I was in our PC brokerage offices in Perth and Sydney, and I was in our Gallagher Bassett offices in Melbourne, Sydney, and Brisbane. Our team down under is dynamic, professional, and very turned on. We have a great business in Australia with presently over 700 employees. Let me turn to the risk management segment. The integration of our GAB Robins acquisition has made excellent progress during the quarter. Our new colleagues are aboard serving clients, and our client retention has been very good. GB's total revenues grew 18% in the first quarter. Organic revenue growth, as I said earlier, was 5.8% in GB, which is the best it's been in many, many quarters. Both the 18% growth and the 5% organic were largely influenced by our international teams in the U.K. and Australia.
They're doing extremely well. However, on top of that, domestic claim counts grew in the quarter, even though the economy remains a bit soft. Let me move to our merger and acquisitions. We continue to build our pipeline and to close deals. We did four acquisitions in the quarter, contributing just over $27 million in revenue. I always want to stop quarter by quarter and welcome our new teammates. Each of these firms chose to join Gallagher. They had a choice, and I'm proud that they chose us and want to make sure that I welcome them aboard. Our pipeline is very robust, and I think 2011 will be another solid year for acquisitions. Let me talk a little bit about the market and the economy.
Even though we continue to fight the headwinds of lower rates and still a sluggish economy, it's nice to see us post organic growth in the quarter. Just a few quarters ago, I said I had never seen a more difficult operating environment. Frankly, I feel a little bit better about the environment today. Rates are still soft, and renewals are still very competitive, but I have six points that I'd make that I think point to an improved environment. Number one, I believe we are past the return premium part of the recession. Number two, some of our clients are starting to say that their businesses are improving. We see some strengthening in temporary health, transportation, and somewhat in light manufacturing. Number three, insurance carriers appear to be getting tired of the softening market. We're being told that they will let accounts go rather than cut the prices again.
Now, there still remains a pricing gap between a new piece of business and a renewal piece of business, but underwriters are truly trying to underwrite their accounts. I'm not saying that rates are going up, but I do feel that the rate of decline appears to be slowing. Number four, in places like Florida, California, and Illinois, work comp looks to be a line of coverage that has to have some rate improvement, and the markets clearly know this. Number five, in Florida, and frankly, any place else where there's cat exposures, our E&S property lines look to be poised for some rate increases. The global catastrophe losses over the past few months and the impact of the new RMS v11 catastrophe models have brought steep cuts to a halt. Six, in our risk management business, it appears that claim counts might be growing again.
We've had claim count growth in five of the last seven months. Let me be cautious here. This is all just glimmers of change at this point. The market is still soft, and with oil prices rising, our economy could slow again, but I do feel better about 2011 at this point in the year than I did at the same time in 2010. As I've said before, if you give us a little economic growth, slow the rate decreases down, get our clients hiring again, with our expense control in place, we would be in a very positive leverage position. Doug?
Thanks, Pat, and good morning, everyone. Today, I want to accomplish two things. First, I want to walk through some enhancements we've made to our investor materials, and then I'll jump into the corporate segment and give you some comments in that segment. Starting with our earnings release, you'll see the enhancements on pages six and seven. We now include both reported and adjusted information. We're doing this because we think the adjusted information provides a better basis of comparison between periods because we eliminate some of the unusual items or non-recurring items from the adjusted column. In addition, over the last couple of months, we've done a substantial makeover of our supplemental quarterly package because unusual, irregular and one-time items are distorting the normalized and underlying comp and operating ratios, especially in our brokerage segment.
We filed 12 historical quarters as part of the Bank of America Merrill Lynch conference on February 16th, and we referenced it again in a special 8-K on March 16th. The current version is on our website and has been updated to include our first quarter 2011 results. When you take a look at it, the makeover follows what we were doing in the earnings release. It provides both reported and adjusted information, but now that we've updated, it has 13 quarters. When you have 13 quarters of adjusted information, it provides a great basis to see our underlying trends and seasonality, and we really encourage everyone to use the adjusted information as a basis to build your models. Hopefully, you have a copy of the supplement in front of you. If you don't, print it off after the call and then re-listen to the transcript of this call.
I want to walk through it. If you have it in front of you, start by turning to page two of the supplement. You'll see that page two presents our brokerage segment results for the last 13 quarters on an all-in reported GAAP basis. Now flip to page three. Page three lays out those unusual or irregular or one-time items that we've historically discussed, such as book gains, severance, lease abandonment charges, and then last year, the whole change in timing of supplemental commissions. Flip to page four. Page four is really just the sum of pages two and three, and it arrives at our non-GAAP adjusted results. Page four is presented on a sequential basis, and then we present it on a quarter-over-quarter basis when you get to page five. Turn to page five because I want to spend an extra minute on page five.
I really like this view. When you look at our brokerage segment, this page lays out first quarter, second quarter, third, and fourth, of course, lays it side by side, and it allows you to really see the consistency of our adjusted comp and operating expense ratios in each quarter. Then it also allows you to compare the first quarter to later quarters, and you'll easily see the seasonal nature of our results. For example, when you look at the first quarter, our comp ratio has been 66% in the first quarter every single quarter for the last four years. We think this is excellent work in an environment where there's still wage increases that are being given in a flat organic or down organic market.
Second, when you go to the operating expense ratio, you can see that in our first quarter, we're now down to about an 18% run rate on that. It was 23% in 2008. The difference between 2008 and 2009, that's when we began harvesting all the expense initiatives that we've been working on for years. When you get to the bottom of page five, you can see the EBITDA numbers, and you can see that our margins have improved substantially since 2008. In fact, this quarter, we posted 16 points of EBITDA margin, which is up 70 basis points from last year, same first quarter.
You can take a look at quarters two, three, and four, and you can see how the comp ratios are fairly consistent, the operating ratios are fairly consistent in the last couple of years, and it also points out the extreme seasonal nature of our brokerage segment. You can do the same thing when you get to page nine for the risk management segment. The risk management segment shows the same thing. We've had consistent comp and operating expense ratios, and our EBITDA margin, especially this quarter, is well over our 15% target margin on that. When you look at the brokerage segment, there's four pages where we go reported, we show the adjustments, we show sequential, and then we show quarter-over-quarter that.
We do the same thing for risk management on pages six to nine, then we do it for a combined brokerage and risk management segment on pages 10 to 13. Finally, turn to page 14. Page 14 gives you a couple of years of comparative, condensed information for our corporate segment, and we organize that by activity like we provide on page three of the earnings release. We provide it this way because it's difficult to understand our corporate segment using a traditional P&L because of the tax-related investment. I'm still getting some questions on the traditional P&L format, and I think it's a much more productive conversation to have discussions on this segment using the format you see on page three of the earnings release and on page 14 of the supplement. That's the overview of what the supplement provides.
We expect to update this package quarterly. I'm strongly encouraging you to use this adjusted information when you're building your models, because I think it'll really help you compare our results and see the trends and seasonality and the underlying performance of our business. All right. That's probably enough investor relations administrative comments. You heard Pat talk about the brokerage and risk management segment, let me jump down to the corporate segment. First, for the corporate segment, we posted $0.08 of loss this quarter. We told you in January, we thought we would lose $0.05-$0.07.
$0.01 of that difference is due to additional M&A costs, and another $0.01 or so of difference is because our clean energy investments didn't produce as much as we had thought when we gave you that guidance at the end of January, as we were waiting for our permanent regulatory permits. We've got three of them. We hope the other three come quickly, we'll be back in production on three of those. Actually, we are here, come the first of April. Looking forward, let me give you some thoughts as you build your models for the corporate segment. Again, I want to follow the table that's on page three of the earnings release. For the interest in banking line, assume about $11 million of pre-tax expense or about $0.06 of loss per quarter.
For the corporate line, assume about $2 million of pre-tax expense or a little over $0.01 of loss per quarter. For M&A costs, that's going to be a little harder to predict depending on our deal flow. If you need a range, I doubt we would have more than about $0.01 of cost in any one quarter going forward. As for our clean energy investments, we give you a lot of detail on page four of the earnings release. In a nutshell, we're making great progress at maybe a little slower than I had hoped, but this is a complicated field, and any progress is really good news.
When you get done digesting those words on page four of our earnings release, your model should end up with about $0.01 or $0.02 of profit in the second quarter and profits of about $0.03-$0.04 per quarter in the third and fourth quarter. By 2012, we hope to be making $0.08-$0.10 a quarter of profits when we get all of our plants in place. When you wrap it up, do a little bit of a gut check on this. When you get done modeling the corporate segment, you should end up with about $0.06-$0.07 of loss in the second quarter, and then about $0.05 of loss for the corporate segment in both the third and the fourth quarter. One other heads-up.
Recall that last year, when we put a plant into production, we had to consolidate it because we were the controlling party of the project during the startup phase. After we turned the project over into full-time production, we no longer controlled it, and we didn't consolidate it any longer. We're going to control another project here in the second and third quarter of this year. Again, it will cause a gross up of revenues and expenses in our corporate segment P&L. In the end, it doesn't change the economics that much, but it does cause some gross up noise through the P&L. All that said, if you model us using the shortcut table on page three of the earnings release, this will make no difference at all to any of your models. Okay, those are my comments. Back to you, Pat.
Rob, if you'd open up for questions and answers, I think we're ready.
Thank you. The call is now open for questions. If you have a question, please pick up your handset and press star one on your telephone at this time. If you're on a speakerphone, please disable that function prior to pressing star one to ensure optimum sound quality. You may remove yourself from the queue at any point by pressing star two. Again, that's star one for questions.
Anybody dialing in, Rob?
Yes, sir. Our first question is coming from the line of Adam Klauber of William Blair. Please state your question, sir.
Good morning, everyone.
Good morning, Adam.
First question is on the broker organic. You had effectively a 700 basis point swing from a year ago. Now, how much of that was the change in rate exposure, and how much of that was the change in net new?
Adam, I think that when you look at the swing between. Let me just tell you what we're seeing in a different way. We're seeing that our organic growth, the increase in the economy is probably offset. Just the stabilization of the economy, I should say, is probably offsetting still some rate cutting that's going on out there. Really, of our 1.6% organic growth. That's really the new business in excess of the loss business, is really contributing.
Adam, as I said in my comments, Doug's absolutely right. The PC business is probably a pretty straightforward offset to actually being still organically down.
Our benefits business in the United States was up very nicely in the quarter, our organic growth outside the United States, Canada, England, and Australia, is doing very well. In Australia, that's a factor of both new hires and production, as well as the economy there is very strong. In the U.K., it's a factor of new teams joining us. In Canada, I think it's more of just the typical kind of North America sort of flattish.
Okay. To follow up on that, as far as the U.K., you obviously have a presence in Lloyd's now. What's the atmosphere there after the earthquake? Are rates going to go up, and is that going to impact your international business?
I would say that the underwriting community in London, on the cat side, has pretty much put a stake in the ground and are saying that they want rate. That's for cat cover across the globe.
Okay. On the benefits business, we've been hearing, as far as the healthcare legislation, that originally there was potentially some pressure on commissions for the small life business. More recently, we've been hearing that maybe one or two large carriers on 100-plus lives, they're not pushing for commissions to be down, but going to more of a per member, more of a capitated rate or more of a fee-based rate. Are you seeing that?
Yes, it's really kind of a mixture. Jim Durkin is on the line, and he heads our Gallagher Benefit Services operation. Jim, why don't you speak up a little bit about what you're seeing on the commission side?
Pat, this is Jim. Yes, in terms of the commissions, it's kind of a mixed bag. Some carriers are trying to move away from the normal way commissions have been paid. I can't give you any consistency. Some carriers are running into resistance in terms of what they want to do by different state regulators. I will tell you, clearly the direction is to separate the broker's compensation, have it on a standalone line in the bill in some fashion, it's up to the broker then to sell it to the client and convince the client of the value they bring. Just a comment from our perspective, it's really nothing new for us. We've been in a disclosure mode for many years, quite frankly, we bring value to the client, and they're willing to pay for that.
It doesn't matter to our customers how it gets billed or how it gets collected.
I think, Adam, let me follow up on that. Thank you, Jim, for speaking up. I think that's a huge point for us. I've said since this new law was enacted that I believe that the smaller benefits broker is in real trouble, especially those that are not transparent. A, the benefits business was supposed to be transparent since the '70s, but it clearly wasn't with all brokers. Now that that commission is a separate line, and someone has to really talk about what the value is they bring, we've been doing that for 30 years. We are completely transparent. I really think that the new law puts the smaller broker out of business.
Thanks. One more question. On the brokerage compensation, it was up around 9% from last year. Is there anything specific that drove it up during the quarter? Can we expect the growth rate to come down on compensation costs?
I don't know, I think if you're talking about in total dollars, it might be up 9%. Again, go back to page five of our supplement, or you can even pick this up from page six of the earnings release. We're reporting a 66% compensation ratio for our brokerage segment in the first quarter of 2011. It was 66% last year, it was 66% in 2009, it was 66% in 2008. There is nothing that's contributing to an increase in the compensation ratio in our underlying business. Granted, our revenues are up because we have acquisitions and everything, so the dollar amount will increase. When it comes to the compensation ratio, we're pretty happy that we've held that thing flat for the last four years.
Adam, I think Doug makes a great point. That 66% ratio is what we're looking at every single quarter, we want to look at that ratio. I would be the happiest guy in the world to see our compensation in the brokerage segment go through the roof along with revenues.
Right. The comp ratio is obviously flat to the point that the fact that comp costs are up is a factor that is probably tracking revenues.
Exactly right.
I understand that. Okay.
Exactly.
Exactly.
Since we're on this, remember, guys, one of the things that I think is causing some problems out there is when we had the timing of supplemental commissions last year in the first quarter. It put $15 million as a one-time pop into revenues. That drove the appearance of the compensation ratio dropping to 63% on a reported basis. I think that's causing some confusion on the street. If you look at page five, you can see the consistency of our comp ratio. In addition, when you get to page five of the supplement, we showed about 66% in the first quarter. We've shown 58%, 59% in the second, 58%, 59% in the third, 63% in the fourth. You can see the seasonal nature of our business and how that impacts the compensation ratio when you look at page five of the supplement on our website.
Okay. Thanks a lot.
Thanks, Adam.
Thank you. Our next question is from the line of Sarah DeWitt with Barclays Capital. Please state your question.
Hi, good morning.
Good morning, Sarah.
You had mentioned that Florida property prices appeared poised to increase. Could you elaborate on what your expectations are for the potential magnitude of increases there this year?
I don't know that yet, Sarah. I can't give you a number. All I can tell you is that we've seen this before. We go all the way back to 1992, with the hurricane that hit Florida, and we've seen this many cycles in property before. The earthquake and the tsunami, other cat losses, along with this RMS v11 modeling, that the model has changed the expectations of underwriters against their aggregations, and it's causing some real concern. When you combine both of those, significant cat activity with a change in the model, we're just being told by underwriters that they see it, that they're just not going to cut prices anymore, and that they're going to need some increases. I don't have a parameter for that yet.
Okay, great. Given your comments that the economy and P&C pricing appear to be improving, could you discuss what your outlook is for brokerage organic growth and margins this year, given somewhat of an improved environment?
Well, consistently, we don't give guidance on that. I'll let Doug comment on that. Let me comment on what I'm saying. I want to be really clear on this. I am not saying that the PC market is turning. I'm not saying that. We are still seeing, in particular in the U.S., PC pricing come down. As I mentioned in my comments, my prepared remarks, there's a gap between a new piece of business and a renewal. Underwriting companies are telling us they're going to let business go if it needs a cut to be cut again. Yet we can move that business and get a price cut. They are firming. They're digging their heels in when it comes to cutting their existing book of business. That's what I mean by a gap between renewal and new business. Having said that, I'm seeing some economic improvement.
Remember, we're a lagging indicator. We're not going to feel the economic growth in our numbers until clients start to get additional premium audits, have to raise their exposure units at renewal, and we're just starting to feel a little of that. I'm pleased that we were up 1.6% organically. As I said in my comments, that's primarily driven by our international businesses. Our U.S. business is still soft, softer than that, I'm feeling a little better right now than I did at this time last year. I'm not willing to put any numbers around that.
In terms of margins, Sarah, I think one of the things that we've been saying, I think it might have been you that even asked the question last quarter. In a flattish type environment, in the brokerage space, a flattish organic, that could be 1 point down, 1 point up, something like that, we'd be happy to hold our margins that we did last year. If you look at, again, page five of the supplement, we posted 22 points of EBITAC margin for both in 2009 and 2010. Again, in a flat organic environment, posting 22%, we'd be pretty happy with that for the 2011 full year.
If you get substantially more organic growth than that, you would see some margin expansion absent, we don't get the rampant inflation in our operating costs or for some reason, there's a compensation reset out there in the world because of inflation. By and large, in a flat environment, if we can post 22 points of EBITAC margin this year, we'd be pretty happy with that.
Okay. If I could just sneak one more in. On the risk management margin, it fell year-over-year ex unusual items, even though you had some pretty meaningful organic growth. What drove that?
Say that again. I didn't hear your setup. You said year-over-year what?
The risk management margin fell ex unusual items, even though there was some meaningful organic growth.
Yeah. Here's the thing is, I think what you have to look at in that business, we're trying to run that. Again, if you go to page nine of the supplement, we're trying to run that business around 15 points of EBITAC margin for the year. Last year, in the first quarter, we showed 16.8 points of margin that we were probably running a little hotter there, a little excess margin. I think the team has been told to make sure you hit your at least 15 points of margin this year. They hit 15.7, we think that's pretty good work. I know we're spending some money on the GAB Robins acquisition. We carved that out in the release, but there's still costs associated with that. We're making some nice enhancements to our IT systems there. We're doing some nice things in that segment.
If we can end up the year and show between 15 and 16 points of EBITAC margin in the risk management space, we'll be happy with that. We're really happy that they posted 15.7 this quarter.
Okay, great. Thanks for the answers.
All right.
Thanks, Sarah.
Thank you. Our next question is from the line of Mark Hughes of SunTrust. Please state your question.
Thank you very much. It's actually Jack Shirk in for Mark this morning. My first question is on the gap you're seeing between new versus renewal business. Has that gap closed recently or just sort of what you were talking there?
No, I think it's still about where it was in the fourth quarter, and I can't put a percentage around it. Well, I guess I could put a little bit of a percentage around it. Typically, if you've got an account that's renewing and we're talking to underwriters about trying to renew that account, let's say five to seven down, and they're digging their heels in, saying, "No more cuts." We'll get the 5%-10% off when we move the account. It's never our goal to be jumping business around the marketplace, but our job is to make sure we get the best program, the best risk management program for our clients. That's really what the gap is right now between somebody trying to hold a renewal and someone willing to price it to take it as new business.
Okay. On the Florida market, just curious on your thoughts of the magnitude and the change, or how one would relate to the other in terms of the upcoming change with Citizens, with their pricing and out with their versus the RMS models, which would have a larger impact on your business?
Well, we're the largest E&S broker in the state of Florida. We place more of that business than anybody in the state. That as a percentage of our overall company is not that great, but any kind of movement in that regard would be beneficial to us as long as we can, A, have customers that can pay the bill, and B, we can get the market to supply us the coverage. The problem with Florida property is when rates go screaming up, capacity comes down, and oftentimes, you're just not placing as much of the business as you did before. You end up not getting the benefit of much of a run-up. Right now, I can't give you a % that we're expecting.
We're just out trying to be in front of the wave, telling our clients, "Look, we've had a great six, seven, eight years, and there's problems on the horizon.
Okay. Just my final question is on the risk management business, the uptick that you've seen in claim counts, is that across any particular end markets or is it more widespread?
I think it's more widespread. What we're seeing, I believe, is a bit of an uptick in the economy in the U.S.
Okay, great. Thank you very much.
Thank you.
Thank you. Our next question is from the line of Brian DiRubbio of Feltl & Company. Please state your question.
Good morning, guys. How you doing?
Good, Brian. How are you?
I'm well. Pat or Doug, as I look at the GAB Robbins acquisition from last year and then the more recent purchase of Risk Planners this year, I get the sense that you're finding more, how would you say, motivated sellers. Am I reading this right? Are there some more similar opportunities out there for you guys?
I think we're seeing an interesting point in Gallagher Bassett space. I think that smaller competitors, unless they're specifically niche focused into one particular product or one particular locale, are having a problem with the fixed cost structure of their operations. I think that this is a business of scale, and I think that the GAB Robbins was a great example of a management team that came in and stabilized that business and did a nice job of holding on to their nice client list, and that was a great opportunity for us to join forces. Basically, you can eliminate an infrastructure that's supporting a smaller competitor. We think that there's good opportunities on the horizon for that. We have some great competitors out there. I see that space as having some more opportunities.
On the other hand, if the clients aren't priced right and they're not being serviced right, we're not going to be jumping in just trying to consolidate them.
I also, Brian, I want to weigh in this, Pat. I have been very excited about that business for 25 years. Really, when I look out and see where the world's going, if you think about it, $0.65 of every premium dollar at some point in time turns into a claim. If you can empirically show that your outcomes in terms of claims adjusting are better than your competitors, whether they be frontline standard insurance companies or other TPAs, ultimately, that's where the cost in insurance is, and we're going to be winners in that space. We're getting to a point where we can start to show people, if you hire Gallagher Bassett, your claim costs are going to go down.
Yeah, we love that business, Brian, as you know.
No, I know you guys do. Are you still planning on, just pending on that, rebundling happening, or has that stopped?
I'll let Scott Hudson weigh in on that.
That's still happening on probably the same frequency that it has over the last year or so. Nothing particularly noticeable. Where it happens is on accounts for us that are in the, let's say, zero to $500,000 range, not the larger risk management type business for us. We haven't seen an appreciable difference one way or another at this stage. It's still very competitive with a lot of the carriers.
Brian, I would say you have a loss pick out there over $5 million, you're going to be unbundled forever.
Got you. Pat, comment you made about the potential for rate increases, I think it was referred to with Florida. I remember last time you guys started seeing rate increases, you lost some business. Your business retention wasn't that great because you weren't properly training your folks to counsel the client, preparing them for this. Are you guys handling this a little bit differently this time?
Well, Brian, I don't remember ever publicly saying that our guys weren't doing a good job renewing their business. I think, when you're in a 10-year cycle, you have to realize that the people that you've hired over the last eight years have never seen any firming in rates. What they've done is they've basically gone into the marketplace and been able to get reduced pricing for clients year in and year out. We are not at this point out training our folks on explaining to people that we're in a hard market. I'm not trying to say that. In Florida, yes, we are absolutely training our folks to explain to clients what it means because, as I said, we're the largest excess and surplus broker in the state.
The excess and surplus market is the one that hardens first, it softens last, especially cat property. Of course, we're training our folks to be able to explain the market to our clients. The other good thing is, frankly, in Florida, an awful lot of our clientele are very sophisticated. They're risk management accounts. They have professional risk managers that understand this very well. They react to a tightening market by increasing their retentions, buying less on the top end, and managing their costs. In part, in a place like Florida, I think we're pretty well covered in that regard. By the way, I will tell you, Florida in particular, in every hard cycle I've seen since 1974, our business has gone up. We have not lost accounts. We've held onto our accounts and added new ones because clients need somebody that knows how to navigate this world.
Got you. Thanks a lot, guys. That's all I have.
Thanks, Brian.
Thank you. As a reminder, if you have a question, please pick up your handset and press star one on your telephone at this time. Again, that's star one for questions. Our next question is coming from the line of Dean Evans of Keefe, Bruyette & Woods. Please state your question.
Thanks. Most of my questions have been answered at this point. I guess a couple I wanted to hit. At Gallagher Bassett, out of the 5.8% organic growth, it looks like about half of that came from adjustments for large international cat events. Can you sort of, I guess, discuss how we should think about that for the second quarter, or should we see more benefits like that coming through? I guess, am I thinking about it correctly when I state that?
Yeah. Here's the thing, is we provide earthquake claim settlement services in New Zealand, and you'll see on the press release, we recorded a little over $3 million worth of revenue for that. It will go on for a number of quarters, and whether that's four quarters or eight quarters, I don't know. I just don't know how long it's going to take us to get through a couple hundred thousand claims down there. It will eventually go away, unless, of course, another situation happens there. We're breaking it out for you separately. You're right to understand that about three points of our organic growth came from just that program. The other three points or 2.8% of growth came from around the globe, particularly in our U.K. and Australian operations on other programs there, not natural disaster related.
It will go away eventually, and that's why we're breaking it out in the earnings release there so you can see it. When it goes away, you'll understand what happened.
Is the right magnitude to think about around that $3 million per quarter, or is that just kind of the first quarter higher number?
Yeah, that's what we've had for the last two quarters. If you go back to our fourth quarter, I think the number was about the same in the fourth quarter of last year and the first quarter of this year. It's about $3 million a quarter. The margins in that business are acceptable to us based on what we're doing there, the value we're providing. I think we get okay margins on it. $3 million a quarter is probably not a bad guess.
Okay. The second area I wanted to hit on was the corporate segment. You gave some good detail for the rest of 2011. How can we think about 2012, I guess assuming that the plants operate at full steam? What should we be thinking about there?
Yeah, I think that's a great question. I think when you look at 2012, again, there's a lot of things that can happen when you put these plants into place. Assuming that we get them up and running, we think on that line in the corporate segment, we'll make $0.08 to $0.10 per quarter of profit. Assuming we don't put in any more debt, assuming that our M&A activity stays about the same, and assuming that our corporate allocations stay about the same as they've been in the last quarter, then what I gave you for guidance going forward, the only big line that would change in 2012 is that segment or that line for clean energy investments should ultimately show about $0.08 to $0.10 of earnings per quarter.
Okay. That makes perfect sense. Thank you.
All right. Thanks, Dean.
Thanks, Dean.
Thank you. Our next question is from the line of Meyer Shields, Stifel Nicolaus. Please state your question.
Thanks. Good morning, everyone.
Good morning, Meyer.
Good morning, Meyer.
Hello. Sorry. Doug, if I can continue on that. You've said that, I think earlier in your comments, that the ramp-up was a little slower than you were expecting with the clean energy investments. That doesn't postpone the profit period, does it? In other words, it still ends 2019. I guess if it's slower, then that net income is gone or whatever. Am I thinking about that right?
Well, there's a yes and no answer to that question. Yes for the existing plants that we have in place and those that we're going to put in place. If we put them in service like we did by the end of 2009, we'll get 10 years' worth of earnings on that plant. The law has been extended, if we put up a new plant, let's say between now and the end of the year, we would get an additional 10 years' worth of earnings on that. As you know, we have two plants that we're looking for locations for. It could very well be that by the time we get to the end of this year, we simply build a new plant and put it in place, save the existing two to put in place after 2011.
The life on those two remaining plants would be eight years then, the new plants that we build, we'd get 10 years out of. In a way, I'm giving you a yes answer and a no answer. Remember, these plants are not very expensive to build.
Yeah. Okay. That's what I was looking for. It's actually very helpful. Thank you.
You're welcome.
When we look at supplementals, I guess I'm in the insurance brokerage component here. If we continue seeing what you've been describing, which is that we're past the worst of the rate decreases, but I would guess, and this is my comment, not yours, that loss cost inflation is still outpacing any rate increases that are out there, so underwriting profitability is getting worse. How does that increasing volume, decreasing profitability shake out in terms of expectations for supplementals and contingents?
That's a great question, Meyer. It's a constant dialogue with our underwriting companies in terms of how we should be compensated. There's always a balance. Contingents, as you know, and one of the reasons we break that revenue out so clearly for you in the earnings release is you recognize it is contingent. The supplementals are negotiated every year, and those are accrued quarterly based on contracts we have with our carriers. The contingents are based on revenue growth and profitability, and there is a yin and yang between as underwriting profitability goes down and contingent commissions look like they're under pressure, we are asking the underwriting companies to provide us with additional supplementals. It's important revenue to our company. It's very important compensation to their distribution source, and we expect to do everything we can to hold that revenue, even when markets are not performing well themselves financially.
Okay. That's great. One last question again in the risk management. The $3 million, the performance fee.
Right.
Is there any compensation or other expense associated with that, or does that fall all to your bottom line?
That mostly goes to the bottom line. You have to look at that a little bit like a profit-sharing contingent or commission that we get on our wholesaling business or in our risk management. It's highly profitable business. We pay some bonuses on that. If you wanted to assume that 85%-90% of it falls in the bottom line, it's probably a fair guess.
Okay, great. Thanks so much, guys.
Thanks, Meyer.
Thanks, Meyer.
Thank you. Our next question is from the line of Dan Farrell with Sterne Agee. Please state your question.
Hi. Good morning.
Good morning, Dan.
Hey, Dan.
I was wondering if you could just comment on the international organic growth and maybe talk about some of the factors that are driving the better results there versus the U.S. brokerage business.
Yeah, that's a good question. I'm glad to take that one. We've got solid organic growth in the PC brokerage space in both England and in Australia, as well as Canada. The real growth is in England and Australia, and they're driven differently in each place. In England, as you know, we've been the fastest growing Lloyd's broker probably for the last seven years. We have a team of people there that I think are just virtually second to none, and we've recruited a number of teams that over the last five years have taken a business that was a relatively quiet business in the U.K. to probably one of the most prominent U.K. brokers in the London market. I'm really proud of those guys. They've done a great job. Three years ago, we started from scratch, an energy and natural resources play.
That business will be nicely profitable, probably over $20 million in revenue this year from a dead start three years ago, that's just one of probably eight examples of where we've done that in the U.K. That's been terrific. In Australia, we've been in Australia for years. Frankly, there were times there when we were struggling both with profitability and for growth. We were lucky enough to do an acquisition in Perth. A year ago, we took about a 40% position in SBA in Perth, Australia. We completed in 2010, a 100% acquisition of that equity. That brought a terrific team, again, focused on natural resources, oil, and energy, and that has really boosted our capability of recruiting in Sydney as well as in Perth. That business has done quite well. In Canada, we've done extremely well in oil and energy.
We really have a global play on oil, energy, and natural resources that has come together extremely well and provided us with the lion's share of our organic growth this quarter.
Thank you. That's helpful. Could you just also comment on your outlook for the acquisition pipeline, maybe both near term and longer term, then just update us on what you're targeting for a mix of stock versus cash in deals going forward?
I'll let Doug talk about the deals. I'll talk about the pipeline. I get the good news, he gets the bad. The bottom line is, I think that we're in a spot that we are probably the best acquisition pipeline we've ever had, and that's both in quality of operations we're looking at as well as quantity. The people that have joined us over the last two years, outstanding operations, people that are turned on doing a great job of using the Gallagher platform. Remember, what we're really selling out there is, we're not looking to retire anybody. Our whole model is to find people that love this business, that fit our culture, that can use the niches and the capabilities that we've built, and to expand their business. We're not buying shops out there and synergizing a bunch of costs out.
What we're looking for is the opportunity to hire more production talent and to expand the niches that those people are already doing and to use the expertise that they have to expand what we do. I just have never been more pleased with what we're seeing in terms of the quantity as well as the quality of firms that are, for the first time in many instances, really looking at possibly joining another firm.
Dan, in terms of paying for the deals, I guess that's my responsibility in this. We have $200 million of cash in the balance sheet right now that's available to do deals. As you know, our cash flow at the end of the first quarter is seasonally our lowest. Between now and the end of the year, we could generate another $100 million-$150 million of cash that could be used in acquisitions. In 2011, we have the ability to use $350 million of cash in deals. We believe that in certain deals, though, we'll still use stock with some of our merger candidates. There's a desire to take our stock. There's a desire to hold it. We like to bring owners into our business with us so that we're all working toward the same goal. We'll balance that out.
It's a little harder to use stock in certain jurisdictions around the world. We'll tend to favor cash in certain foreign countries. Domestically, we'll probably still want to do 50% to 70% in stock. If we have free cash, still, we'll be able to buy our stock back. It really ends up being a cash deal if we end up buying the stock back in the market. We've got a lot of dry powder right now, and I think that we've got a pretty good currency, and we'll just have to look at it on a deal-by-deal basis.
Great. Thank you.
Thanks, Dan.
Thanks, Dan.
Thank you. As a reminder, if you'd like to ask a question, once again, you may press star one on your telephone keypad at this time. Our next question is from the line of Mike Grasher, Piper Jaffray. Please state your question.
Hi, good morning, everyone.
Good morning, Mike.
Question on the E&S market, if you could elaborate on your comments beyond the state of Florida.
I think that what we're seeing in terms of E&S pressure, or soon to be, I believe, E&S pressure, is anything that's cat exposed. A California earthquake, international excess and surplus placements, heavy facultative reinsurance placements. Anything that's got catastrophe exposure, underwriters are looking very hard at it right now. Let's face it, they should. They've taken a beating.
Okay. Just as a follow-up to the M&A pipeline and that, if you go back, say, 12, 18 months, I think a lot of folks were concerned about taxes and that as a reason for their potential sale. Have reasons for sales changed at all?
I think that's a good question because, sitting around my table, we kind of predicted that there'd be a slowdown with the extension of the tax law for two years. We thought, well, okay, the pressure's kind of off. I think what's happened is a lot of the potential sellers looked and said, "I almost missed the window. I'm not doing that again." I've got two years to really consider what I'm doing, I believe that the view that the tax law will change in 18 months is actually helping us to continue to proceed with some of our talks.
It just depends, though, Mike, to pile on there. If you look at our benefits space, I think that what you heard Pat say at the very beginning, we've got a lot of great merger candidates on the employee benefits space because they realize they've got great relationships with their customers. They're highly professional brokers, they need a larger trading platform in order to be successful. They need our resources to continue to service their clients. These are really good people out there, I think they understand that coming into the Gallagher fold, trading off of our name with our resources, and more importantly, within our culture, these folks love the opportunity to sit there and say, "Hey, I really don't see much downside of this at all." I think we're seeing that in the benefits space.
When you get into the wholesale space, I think they're seeing similar things there on our retail P&C space in the U.S. Being part of the Gallagher franchise actually accelerates their entrepreneurialism and doesn't really cause too much problem. Everything's going to change when they come to us a little bit, but they're still going to be able to go out and sell and do a great job with their clients. They see the value coming to Gallagher. They may have woken up to this value because of the tax law, but they're really coming back to the table because of what we can provide to them.
There's another point I'd make. I'd pile in with Doug here. Most of the people that are selling their business now, Mike, are baby boomers. They're close to my age. I'm 59. They're looking at what they're going to do for their team, their people, and how they're going to perpetuate basically the culture that they've got. They find our culture to be one that's agreeable, but they also find the opportunity to expand their business, as Doug said, not just in the benefits space, but in the property casualty arena. We have got so much capability inside our company to be able to help people solve problems for their client and get new business. The people we're trying to find to join us are the ones that love to go out and sell insurance every day.
Okay, thanks for that color. Just as a follow-up to that, I guess, Doug, you look at the current headcount as it is, any anticipation or expectations given Pat's outlook for adding sort of non-producing staff?
First of all, everybody knows we're always hiring producers. We'll hire a producer any day of the week. If we had eight days in the week, we'd hire eight days of the week for producers. When it comes to back office support, a lot of the hard work we've put in over the years should allow us to be able to bring producers on without having to add substantial back office support. Our centers of excellence around the world that are providing services are doing tremendous work. If we have to expand in the middle office or back office support area, we can do this in some of our offshore locations. The cost to do that is not that much more. It's a very low-cost expansion and a high-quality environment.
We can bring on a lot of business without hiring too terribly many in the middle or back office.
Okay, thanks.
Thank you. There are no further questions at this time. I would like to turn the floor back over to Mr. Gallagher.
Thank you, Rob. Thank you again, everybody, for being with us today. As I said, I'm pleased with our quarter. Our sales culture has never been stronger. We've built a team of professionals who deliver highly effective risk management solutions to our clients every day. Our merger and acquisition pipeline is very deep, and we're working hard to make 2011 our best year ever. Thank you for being with us this morning.
This does conclude today's teleconference. You may disconnect.