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Size is everything

Philip Macalister explains why Prudential was so attractive to Colonial.

Tuesday, August 18th 1998, 12:00AM

by Philip Macalister

All predatory actions have some strong attractions. For Colonial the attractions of Prudential's Australian and New Zealand businesses was the desire for size, the associated economies of scale, plus its strong base of traditional life business.

"The acquisition of Prudential cements Colonial's position as a key participant in the financial services sector in Australia and elevates Colonial's New Zealand business into a leading market position," Colonial says.

In New Zealand Colonial leaps to the number two position in the life insurance tables and it becomes the country's fourth largest fund manager. Across the Tasman the Prudential acquisition, coupled with the purchase of Legal and General several months ago, propels Colonial to the second biggest life insurer, behind AMP, by inforce and new annual premiums, and the fourth biggest fund manager.

Colonial chief executive Peter Smedley says that combining the businesses of Colonial and Prudential provides significant revenue opportunities and swells its customer base seven-fold in New Zealand to 350,000 people.

"The Prudential acquisition provides Colonial with an enhanced product range, more comprehensive distribution capabilities and access to a substantially expanded potential allfinanz customer base."

"Acquisition is the fastest and best means of achieving the efficiencies that arise from increased scale and business synergies, resulting in substantial benefits for shareholders and customers," Smedley says.

Of particular interest to Colonial in New Zealand was Prudential's strong base of traditional life insurance products, along with the recognition it was making strong inroads into the growing and important superannuation and savings markets.

 

Prudential's In force API business Dec 31, 1997

 

 $API 000s

Whole of life

33,750

Endowment

13,041

Linked Life

59,352

Personal Super

109,979

Employer super

26,269

Term

23,943

Individual disability

8,683

Group risk

8,059

TOTAL

$283,076

Prudential's decision to sell comes as a surprise for the industry as it was about a month ago that managing director John Molloy denied the business was on the market, rather he said that Prudential was on the acquisition trail itself.

Prudential' United Kingdom director responsible for international development, Keith Bedell-Pearce, says while the company has made excellent progress in New Zealand, "the overall market size restricted future growth prospects."

"Moreover the competitive environment and our relatively small market presence in Australia limited our prospects of achieving a long term satisfactory return for our shareholders," he says.

The current process of consolidation in the Australasian financial services sector has enabled us to obtain a price of twice embedded value.

"We believe the sale of our Australian and New Zealand businesses on these terms is the best way to deliver value to our shareholders."

Colonial says because Prudential's business is substantially larger than Colonial's in New Zealand the combined operation will be established as a profit centre separate to Australia.

Ultimately it will all be conducted under the Colonial name.

Key integration initiatives in New Zealand will include:

· Creation of a single product range under the Colonial name
· Maintenance and further development of Prudential's current distribution channels
· Migration of Prudential life products onto the LIFE400 policy administration system (which Colonial acquired with Legal and General)
· Transferring the management of New Zealand funds out of Prudential's Australian operations
and integrating it with Colonial's New Zealand funds management business, with subsequent
investment portfolio rationalisation and cost savings, and
· Elimination of duplicated corporate and support functions.

Colonial says Prudential's funds management business was losing money and its poor investment performance had lead to a loss of funds under management and made it difficult to win new wholesale business.

While Prudential's funds management operation made a profit of A$1.5 million in the year to December 31, 1996, that became a A$3.1 million loss the following year and in the six months to June 30 Prudential has recorded a loss of A$4.2 million for its funds management operations.

"Prudential has suffered from below benchmark investment performance over the past three years, which has had an adverse impact on investment product sales, has brought about a higher level of redemptions and has caused a reduction in funds under management, in particular external wholesale funds."

In New Zealand internal funds have grown $70 million in the six months to June 30, while retail unit trust business has fallen 21 per cent to $95 million. External wholesale mandates and other business has stayed stable at $100 million and $180 million respectively.

In Australia internal and external wholesale mandates have fallen by $678 million to $7.3 billion.

Colonial intends to transfer the funds under management to Colonial First State Investment, "with a view to reversing Prudential's poor investment performance."

Overall Prudential in New Zealand increased its annual profit from $8.4 million in 1996 to $22.4 million the following year. This result was buoyed by the NZI purchase.

The integration of Colonial's Australian and New Zealand businesses, including Legal & General Australia, with Prudential is expected to result in significant cost savings for the combined business, Colonial says.

It expects annual cost savings of A$100 million will be achieved by June 2001, and two thirds of these savings will be achieved by the end of 1999.

These cost savings are in addition to those already achieved through the integration of Prudential New Zealand and NZI Life.

Colonial says it has a strong track record of delivering cost savings both within its own operations and through acquisition.

In 1997, A$96 million in costs were removed from Colonial's cost base and progress to date on the Legal & General Australia acquisition has surpassed Colonial's initial expectations with A$40 million in annual cost savings expected to be delivered by the end of 1998, rising to more than A$50 million by the end of 1999.

It says Prudential in New Zealand will be able to add valuable expertise to the cost saving exercise because of its successful purchase and integration of NZI into its own operations.

The Prudential acquisition is to be funded by existing debt facilities and a placement of 54million Colonial shares at A$4.90 each. Colonial intends to take advantage of the current interest rate environment to secure medium and long term funding for the increased level of borrowings of the group.

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