Risk – most companies don’t want it, but insurance companies live on it. Yet underwriting risk may be the most dangerous risk. A company can write far too much insurance, at far too low a price, and nobody might be any the wiser for years to come. FBD, founded to provide competitive insurance for farmers, was renowned for its steady conservatism and this has made its recent troubles all the more difficult to fathom.

FBD says its strategy of expansion, particularly away from its core, didn’t deliver. Shareholders may put it more bluntly and say that it binged on price-sensitive customers, overdosed on easy investment returns and ended up on the operating table in need of life support with very few friends.

Luckily, its parents (Farmer Business Developments) came to the rescue (again) and bought its remaining share of the hotels for €48.5m having already taken the other half in exchange for the cancellation of a €60m loan four years earlier.

But following the huge losses due to larger than expected prior-year claims and the need to boost its reserves, it needed more. With a rights issue unlikely to succeed, it turned to the bond market. This would prove prohibitive as the market looked for a return in excess of 11.6% due to the risk – an €8m annual cost it simply could not afford.

At the final hour, FBD CEO Fiona Muldoon secured a €70m convertible 10-year bond at a rate of 7% per annum that could convert into equity in the future.

This was to be the final piece in a series of key measures which included offloading the hotels and leisure business, closing the defined benefit pension scheme and cutting costs to give FBD the chance to survive.

This time two years ago, FBD shareholders had every reason to celebrate. Shares touched €20, three times more than January 2011, profits in excess of €50m and a dividend of 49c per share.

But at the EGM held last week, weary shareholders arrived in Dublin with shares worth half that of 12 months earlier, the dividend cancelled and €150m in shareholder value evaporated over the year.

But strangely, it doesn’t seem to have fazed many of them, including its biggest shareholders – Farmer Business Developments with €55m worth of shares and the IFA with €5m. A lot of these organisations are made up of the same people – close relationships and farmers and the IFA had a huge pride in owning an insurance company. But has this gotten in the way of taking the hard decisions?

After all, nearly 10 years ago, the shares hovered around €40, with profits in excess of €160m, and investments in hotels and property. The shares then collapsed to below €6 as the company racked up losses of €39m.

FBD tried to adapt after the global financial crisis, but was crippled by poor investments in hotels and properties and had to make significant write-downs. Meanwhile, the board committed to deliver on its progressive dividend policy.

In a very changed and internationally owned insurance market, can FBD realistically afford to carry the cost of this level of service while remaining competitive?

FBD focused its efforts on hoovering up “no-frills” customers under the now abandoned No Nonsense brand. It claimed at the time that over 70% of motor and home insurance customers were using the internet or telephone to purchase insurance. Despite this, unlike any of its competitors, FBD only closed 25% of its branches and today retains 33.

Despite committing to finding €7m in cost savings to turn the insurer around, Muldoon has not committed to closing branches. No doubt, closing branches is something that its core shareholders may see as damaging for business with its key farming customers. After all, service and risk selection has been an important part of the proposition and business model. However, in a very changed and internationally owned insurance market, can FBD realistically afford to carry the cost of this level of service while remaining competitive?

Storm brewing

Storm Darwin in 2014 hit FBD for €30m in claims, but insurance companies insure their risk and the real cost to FBD was €10m net of reinsurance. While some of the blame is related to storms, fundamentally, the underwriting business had become unprofitable.

Not only were fewer players competing for a larger slice of a much smaller pie, the industry had become reliant on investment returns to drive overall business profitability. This strategy has become unstuck with such low investment returns today. Simply put, to return to overall profitability, the underwriting business must perform, and this means that premiums must rise. Coupled to this, FBD is small in international terms and competing with much bigger companies that can afford certain markets to be unprofitable.

As if that was not bad enough, a different storm has been brewing in Europe – called Solvency II. This will see new regulations around capital coming into effect in January 2016.

Shareholders, who had been pretty calm, were beginning to lose confidence in the management and board by the AGM last May. Some 13% were opposed to the re-appointment of Michael Berkery, who has served as chairman for the past 19 years. Andrew Langford, as chief executive for the past seven years, faced the same share of no votes. Likewise, a similar percentage didn’t want Padraig Walshe, chairman of Farmer Business Developments, reappointed to the board.

By July, despite claiming that FBD had no difficulty meeting Solvency II regulations, Andrew Langford suddenly resigned, clearing the way for Muldoon, formerly of the Central Bank. While she has strong experience in regulation and particularly insurance, shareholders may question her relevant experience to take the difficult decisions to turn the ship around.

The final blow came to shareholders in August when it emerged that FBD needed to top up its reserves by €88m and lost €96m in the first six months of 2015. The board then rushed to sell its 50% remaining stake in the hotel and leisure business to Farmer Business Developments. While it said it had always intended to exit the hotels business at some stage, this was the first real indication that FBD might need capital to shore up its balance sheet. It then made further efforts to boost its capital reserves, by closing the defined benefit pension scheme and cancelling the dividend in 2015. The dividend in 2014 totalled €17.5m.

Meanwhile, Muldoon secured the Fairfax investment which is the final piece in a series of key measures to secure the future of FBD. But it does come at a significant cost. If this all plays out as Muldoon and the board appear confident it will, Fairfax will effectively get 20% of the insurance company for €55m (net of funding cost). That is €70m minus its annual interest income of €5m for three years. To put this in context, Farmer Business Developments bought the remaining 50% share in the hotels for €48.5m. Farmer Business Developments, meanwhile, will also see its shareholding in FBD fall to a stake similar to this Canadian investor.

All this does beg the question – was there a better way? Could an investor have been found for the hotels to free it up to invest? But that ship has sailed and only time will tell if Farmer Business Developments can unwind its position in hotels that it never intended to own in the first place? The board of Developments owe a great deal to the founding shareholders of FBD for trusting them down through the years. Now it is time for them to deliver on this trust, because there is no money left in the pot.

Back at the insurer, for the shares to rise to the all important €8.50 target, the focus will turn to Muldoon, who needs to act fast. A strong board with international and relevant financial experience is needed to guide this ship in the fog. Muldoon will need a clear vision of how FBD can be profitable. It may not be popular and it will take pain, but these are the hard decisions that now need to be made. It may have to become smaller before it becomes stronger. Expertise, money and scale is needed and pride must be parked at the door. The two largest shareholders with seats on the board need to clearly understand the insurance needs of farmers. It was set up to provide competitive insurance to farmers. In today’s market, can it continue to deliver this while returning to profitability?

FBD is used to partners, having worked closely before with KBC. Fairfax, which specialises in insurance companies, should bring expertise to FBD.

While its investment in Bank of Ireland was opportunistic, this time around it may be different. Would Fairfax take a larger stake in the future? Would this be so bad, if it could help deliver real long-term value to shareholders? If past performance of FBD is anything to go by, perhaps it is not.

During the year, former CFO Cathal O’Caoimh retired from the board. Dermot Mulvihill was the only non-executive director to resign. Fiona Muldoon joined the board one year ago, before becoming CEO. Liam Herlihy, former chairman of Glanbia, and Ruairi O’Flynn, former CEO of Canada Life, also joined the board during the year. The remaining six non-executive board members remain intact, including former IFA general secretary Michael Berkery (€126,000), who has served as chairman for almost 20 years, along with former IFA presidents Eddie Downey (€30,000) and Padraig Walshe (€40,000). Last year, the non-executive directors received a total remuneration of €414,000.