Sins of commission
Feb 1st 2005
From The Economist Global Agenda
In a landmark deal with Eliot Spitzer, New York’s attorney-general, Marsh & McLennan, the world’s largest insurance broker, has paid $850m to settle civil charges of bid rigging and alleged wrongdoing. Who’s next?
ELIOT SPITZER, New York’s attorney-general and a possible candidate for governor of New York state in 2006, has done his reputation no harm by humbling yet another financial giant. On Monday January 31st, he announced that Marsh & McLennan, the world’s biggest insurance broker, which he has hounded since the middle of 2004, is to stump up $850m to settle civil charges that it rigged bids and acted against the interests of some of its clients. The money, to be paid in installments between June and mid-2008, will be put into a fund to compensate clients who asked Marsh to find insurance for them between 2001 and the end of last year.
As usual in such cases, Marsh has neither admitted nor denied any wrongdoing, though the company has agreed to apologise to clients for “shameful” and “unlawful” acts. Nor can the company yet close the book on the sorry affair. Marsh says that internal investigations being carried out by Davis Polk & Wardwell, a law firm, and Kroll, one of its own subsidiaries, will continue. The firms have trawled through more than 2,400,000 pages of e-mails and other documents and have interviewed more than 200 members of Marsh’s staff.
Regulators from states outside New York may also turn up fresh evidence of alleged wrongdoing. Connecticut has already filed a civil lawsuit alleging unfair business practices. Class actions by shareholders also loom. Six executives in insurance, including one from Marsh, have so far pleaded guilty to criminal charges and, said Mr Spitzer, “there will be more to come”.
Mr Spitzer’s allegations against Marsh were, among other things, that it had persuaded insurers to submit deliberately high quotes so that an incumbent insurer’s bid was more likely to be accepted; that it had steered business towards certain insurers in return for a fee; and that Marsh and its subsidiaries had failed to disclose to clients the nature or effect of these arrangements.
Above all, Mr Spitzer highlighted that fact that Marsh, in common with other agents that he challenged at the time, was paid “contingent commissions”—kickbacks from insurers for putting business their way, whether or not it was in the clients’ interests. By its own admission, Marsh made $845m in 2003 from contingent commissions, a figure that is, coincidentally, only slightly less than the amount for which it has settled this week. To pay for the settlement, Michael Cherkasky, who replaced Jeffrey Greenberg as chief executive when Marsh’s problems began to unfold, said the company would take a pre-tax charge of $618m in its results for the final three months of 2004. This is on top of $232m that it has already set aside.
Who’s next for the Spitzer treatment? Though the feisty attorney-general reserved his biggest guns for Marsh, several other companies were also named as part of the same probe. Mr Spitzer has already settled criminal charges for wrongdoing with several employees of AIG, the world’s biggest insurer, and ACE, a large property-casualty firm. Ironically, both companies are run by other members of the Greenberg family: Jeffrey’s younger brother Evan heads ACE, while their father Hank presides over AIG.
Mr Spitzer is also understood to have subpoenaed a gaggle of other firms. Whether or not he moves against them, his investigations have already had a profound effect on the insurance industry. For starters, Marsh ceased from October to accept contingent commissions from insurers with whom it does business. This alone will cut its revenues by about 7% in an average year and, if 2003 is a guide, up to one-third of its pre-tax profits. That was one reason why the company’s shares lost more than 40% of their value when Mr Spitzer’s probe became known. To cut costs, the company has already laid off 3,000 people.
To be fair, many other agents either were not as good as Marsh at extracting contingent commissions or made a conscious effort not to go down that road. Take Munich Re, a big German reinsurer: though its American subsidiary was investigated by Mr Spitzer’s department, it seems, for now, to be in the clear. Indeed, contingent commissions have proved less popular in Europe, though Britain’s Financial Services Authority is understood to have begun its own probe.
Better disclosure is now a top priority. In future, Marsh says it will give clients details of all forms of compensation it receives from insurers; it will also set up a compliance committee to make sure that its new standards of disclosure and governance are being met. The industry is also aware that the nearer Mr Spitzer gets to being chosen as the Democratic candidate for the governorship of New York state, the keener he may become on headline-grabbing settlements with those he suspects of conflicts of interest and malpractice. For that reason alone, the insurance industry is unlikely to have seen the last of him yet.
Copyright © 2005 The Economist Newspaper and The Economist Group. All rights reserved.
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