Marsh rolls over in response to Spitzer’s charges
Marsh has submitted to Eliot Spitzer’s shock 14 October allegations of price-fixing by replacing its chief executive Ray Groves and revealing that it will no longer charge insurers contingent commissions, often known as Placement Service Agreements (PSAs) or Market Service Agreements (MSAs), in exchange for placing business with insurers.
The broker revealed on Friday that it had suspended all MSA agreements “pending completion of the investigation” and had also replaced its CEO Ray Groves with Michael Cherkasky, the head of the company’s corporate investigations arm Marsh Kroll.
Marsh responded after stunned investors had driven down parent MMC’s share price by almost 25 percent on the 14 October (by midday Eastern Board time, MMC’s stock was trading at $26.24 today – down from $46.13 preceding the allegations) – as they digested the scale of the allegations from the New York attorney-general which hint at widespread collusion in price-fixing.
Spitzer revealed in his civil complaint that a Marsh official claimed the broker received $800mn in contingent fees in 2003 via its dedicated market-facing unit, Marsh Global Broking. This, in itself, is a significant sum but, as Spitzer points out, there is “little or no overhead” to these payments because they are simply over-rider arrangements. This suggests that these arrangements may have contributed close to half of MMC’s 2003 $1.5bn profits, including contributions from its asset management arm, Putnam Investments, and consultancy division Mercer Oliver Wyman.
Marsh reeling by body blows
Marsh’s announcements on Friday suggest the firm is reeling at the suddenness of Spitzer’s attack and the consequential collapse in its share price. Yesterday, (17 October), the firm cancelled its investor conference with analysts which was supposed to discuss the impact the allegations will have on MMC’s earnings. Instead the firm claimed it would file a return with the Securities and Exchange Commission that would include discussion on the effects of MSAs and hold a conference call either later this week or next week.
In the immediate aftermath of the allegations, MMC’s board of directors said that it had commissioned an “independent review” and stressed its “full confidence in the company’s leadership” before adding that once the “review has been concluded, the Board will take all appropriate action in the interests of our shareholders, employees and our clients”.
Nevertheless, Spitzer sent a strong signal that he wants an overhaul of the company’s management exclaiming: "The leadership of that company is not a leadership I will talk to; it is not a leadership I will negotiate with." According to sources, Spitzer’s office had been angered by MMC’s responses to its investigations into market timing at Putnam Asset Management and, more recently, commission agreements at its employee benefits consultancy operations. In investigating Marsh over its use of PSAs, Spitzer said his office had been "misled at the very highest levels of that company".
This suggests Groves is unlikely to be the only Marsh casualty. Cherkasky arrives from Marsh Kroll, MMC’s risk consulting company acquired by the broker for $1.9bn in cash earlier this year. Prior to joining Kroll, Cherkasky was briefly Spitzer’s colleague while chief of the Investigations Division for the New York County District Attorney’s Office.
Groves, a chartered accountant who became head of Marsh Inc in 2003, will remain as an advisor to the company while Roger Egan, the broker’s president and chief operating officer, will also continue with the firm, explained MMC’s embattled chief executive Jeffrey Greenberg in a statement.
Greenberg added that his firm was “actively reviewing every aspect of Marsh's business to identify and stop any practices that might encourage behaviour that is inconsistent with our values and commitment to the highest professional and ethical standards”.
Insider comment: Act in haste, repent at leisure
Although Marsh’s response to suspend its PSA agreements was understandable in the light of the allegations and subsequent share price collapse, the firm may still live to regret it.
PSAs are self-evidently a conflict of interest; but conflicts can be managed if they are fully disclosed. Marsh claimed these fees were in exchange for services rendered such as policy wordings or claims advice, although Spitzer described them as “nebulous”. Nevertheless, in one fell swoop Marsh has deprived itself of a significant proportion of its earnings.
The move has also hung a “guilty” sign above the company; after all it can hardly defend the practice after suspending it. This could prove especially damaging because Spitzer’s complaint – which may itself lead to criminal charges against the firm – will also be the catalyst for a host of other actions performed by insurance commissioners and class action lawyers.
Would it not have been more prudent to say: “We are horrified by the scale of the allegations and will act firmly with any employees who have breached our standards. We will also ensure that all arrangements are fully disclosed to our clients”?
This may have been scoffed at, but would at least give the broker some breathing space and time to reassure its major clients about developments. Instead, MMC’s 2004 earnings will now be significantly reduced and the broker must defend a myriad of allegations and complaints on the back foot.
Insider Week’s sister publication, The Insurance Insider, will be available to download from the 21 October. It includes:
A full history of Marsh’s controversial unit, Marsh Global Broking
Winners and losers in the Spitzer fall-out
Complete reprint of articles written by The Insurance Insider and its sister publications on PSAs since the publication of “Hidden Commissions: Isn’t it time for greater transparency in overriders?” in Autumn 2003
The impact on MMC’s financials