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Executives

J. Powell Brown – President, Chief Executive Officer & Director

Jim W. Henderson – Vice Chairman of the Board & Chief Operating Director

Cory T. Walker – Chief Financial Officer, Senior Vice President & Treasurer

J. Hyatt Brown – Chairman of the Board

Analysts

Michael Grasher – Piper Jaffray

Keith Alexander – JP Morgan

Kenneth Billingsley – Signal Hill

Eli Fleminger – Stifel Nicolaus

Sarah Dewitt – Barclays Capital

Mark Hughes – SunTrust Robinson Humphrey

Brown & Brown, Inc. (BRO) Q3 2009 Earnings Call October 20, 2009 8:30 AM ET

Operator

Welcome to the Brown & Brown Incorporated earnings conference call. Today’s call is being recorded. Please note that certain information discussed during this call including answers given in response to your questions may relate to future results and events or otherwise be forward-looking in nature and reflect our current views with respect to future events including financial performance. Such statements are intended to fall within the Safe Harbor provision of the securities laws.

Actual results or events in the future are subject to a number of risks and uncertainties and may differ materially from those current anticipated or desired or referenced in any forward-looking statements made as a result of a number of factors including those risks and uncertainties that have been given or will be given or identified from time-to-time with the company’s reports filed with the Securities & Exchange Commission. Additional discussion of these and other factors affecting the company’s business and prospects are contained in the company’s filings with the Securities & Exchange Commission.

With that said, I will now turn the call over to Mr. Pal Brown, President and Chief Executive Officer.

J. Powell Brown

Q3 was another interesting quarter. Shrinking exposure units continue to be the biggest impact on our numbers, greater than decreasing rates. Rates are under pressure everywhere except we see some flattening in coastal areas. We continue to watch the healthcare reform debate take shape in Washington and I’ll tell you that Jim and Cory and I are here in Daytona with a special invited guest Hyatt decided to sit in with us today so he’ll be in the room as well. Now, I’d like to turn it over to Cory for the financial update.

Cory T. Walker

Our third quarter results look remarkably similar to our second quarter results. Our net income for the third quarter of 2009 was $41 million which was up slightly from last year’s third quarter net income of $40.6 million and our earnings per share for both quarters was $0.29 per share. From a revenue standpoint, commissions and fees for the quarter decreased slightly by .3 percentage points or $800,000 to $243 million from the $243.8 million earned last year.

Included in the press release is our normal internal growth schedule that you’re use to seeing and in that schedule it shows that we had $10.4 million of profit sharing contingent commissions which is about $700,000 more than the $9.7 million that we received last year in the third quarter. Our best estimate of the profit sharing contingent commissions that we will receive in the fourth quarter of this year is estimated at about $1 million right now. Now, if you exclude the effects of the profit sharing contingent commissions and the small books of business that we sold that were in the numbers from last year or about $500,000 our total core commissions and fees for the quarter shrunk by .4% or $844,000.

However, within that net number was $11.3 million of acquired revenues so that means that we had $12.1 million less of commissions and fees on the same store sales basis and hence the 5.2 percentage points negative internal growth. As the internal growth schedule indicates, 98% of that negative growth really was a broad based impact from our retail operations. Now, two quick points that I just want to make about the internal growth schedule is one that you know that when we buy a book of business from a producer or an agency, we exclude that from any of the revenue calculations and if we end up having a producer comes that brings a book of business, that is also considered acquired revenues and we exclude that.

The second point is that the last two quarters Proctor Financial had a very strong revenue base and it started in the fourth quarter of last year. This year fourth quarter for them we probably expect them to be down about $2.5 million from the big quarter they had in the fourth quarter of ’08 so I just want you to realize that when you project out their internal growth for the fourth quarter. So, leaving that area Jim and Powell will end up talking about each of the specific divisions in a moment.

Our investment income decreased by $1.1 million which was primarily due to substantially lower interest rates on our short term money market accounts. We also had about $575,000 of other income which is really just primarily the miscellaneous rental and other income, very little sales of books of business. Jumping back down to the pre-tax income line our pre-tax margin for the third quarter of ’09 was 27.7% compared with the prior year margin of 27.2% which was an improvement of .5 percentage points. This is an outstanding accomplishment of our profit center leaders that show an improvement in our margin in the face of the continuing strong headwinds of our lower client exposure units due to the economic downturn and the continued reduction in insurance rates.

In the current quarter employee compensation benefits decreased by .4 percentage points to 49.1% of total revenues. The total dollar decrease in employee compensation and benefits was an aggregate $2.6 million. However $2.7 million of this aggregate total was attributable to just the standalone acquisitions since last year. Therefore, if you look at just the same store sales basis which also includes roll in acquisitions, but if you look at just those offices excluding that we actually had reduced employee compensation benefits of $5.3 million of which approximately $4 million came from employee compensation and $1.2 million came from a positive adjustment to our self funded medical fund.

Our non-cash stock based compensation costs was $1.7 million in the third quarter which is consistent with the estimated cost of the last few quarters. In the current quarter our other operating expenses decreased by .1 percentage points to 14.6% of total revenues. The total dollar decrease in the other operating expenses was $900,000. However, $700,000 aggregate was attributable to just those standalone acquisitions. Therefore, on a comparable same store sales basis those offices had an aggregate of other operating expenses of approximately $1.6 million of which most was attributable to lower T&E expenses, reduced bad debt expenses and lower operating supplies and fees.

Moving to amortization and depreciation on a combined basis that increased only $200,000 and that’s due to a lower number of acquisitions that occurred in the last 12 months. Our interest expense is consistent with the expected quarterly expense of about $3.6 million. Our effective tax rate is expected to continue to run at about 39.3% which is similar to last years. The trends for the third quarter pretty much are consistent with what happened in the nine months year-to-date and with such I just want to say that the earnings for the nine month period was down $4.6 million to $213.7 million and that was primarily due to $4.3 million in less profit sharing contingent commissions for that nine month period. Therefore, our net income for the nine month period was $0.91 or 3.2% down from the $0.94 we earned in the last quarter of last year.

Two other points that we would like to make is one, we did extend our $200 million uncommitted credit facility with Prudential Insurance Company at essentially the same terms and conditions and that goes for another three years from here. Then lastly, I know a lot of you were kind of taken for a loop on the number of shares that are listed in the EPS calculation and that basically came about because of the new GAAP rule FAS B128. The bottom line is that there really is no change in the number of shares we have outstanding. It was brought about because of our PSP shares. We have 141 million shares, roughly 141 to 142 million shares that we pay dividends on and have the ability to vote. Of that 141 million shares 5.1 million are PSP shares, that represents about 3.6% of those total shares.

This new rule basically says that those 5.1 million shares should not be listed in the basic diluted share count or the fully diluted. However, the earnings per share is the same as it always has been because you have to pro rate the earnings, the $41 million and only take 96.5% of that earnings that is attributable to the 136 million shares and that’s how you get the $0.29. So, it is another convoluted GAAP rule that just takes a second to kind of understand on a go forward basis. The main thing for you all to kind of remember is that we basically have about 5.1 million PSP shares that have met the first price target and will not be vested until sometimes over the next 15 years when they meet the service requirements. So, that’s the technical side and hopefully that explains that 136.

With that overview I’ll turn it over to Powell.

J. Powell Brown

I’d like to start with Florida retail down 12.5% versus 8.6% in Q2 starting in Northeast Florida and Jacksonville property rates, GL rates and auto rates are flat to down 10% with exposure units down 15% to 20%. In the construction areas specifically GL rates are down 20% to 30%, auto rates are flat to down 10% and in those construction exposures they are down 30% to 50%. Daytona Beach area properties down 15, GL is down 10%, auto is down 10%, exposure units for GL and work comp are down 20% to 40%. That’s non-construction. Construction GL rates are down 15% to 20%, auto rates are down 10%, GL construction exposures are down 50%, work comp payrolls are down 10% to 40%.

Southeast Florida going down the coast to West Palm and Fort Lauderdale, property is flat to down 5%, GL is flat down to 15%, auto is down 5% to 10% and exposure units are down 10% to 25%, that’s non-construction. In construction area general liability and auto rates are down 5% to 10% with exposure units, payrolls down 20% to 70%. Southwest Florida Naples and Fort Myers property is really flat to down 5%, general liability and auto down 7% to 10% on rates. Payrolls which have already been greatly depressed in Southwest Florida are down 5% plus; that’s non-construction. In the construction area rates are down 5% to 10% with payrolls down 15% to 20%.

Moving up the coast to the Tampa area property rates are down 10% to 20%, GL is down 5% to 10% and auto rates are flat to down 10%, exposure units down 10% to 15% in other than construction. In the construction area rates are flat to down 10% specifically exposure units down 10% to 20% and even 30% in the construction lines. Moving to the center part of the state in Orlando, rates are flat to down 5% and exposure units are down 5% to 15%. In the construction area rates are generally flat with exposure units down 10% to 30%.

National retail down 4.7% versus 5.6%. We’ll start in the Northeast in the Rochester Syracuse area. Rates are generally flat, property GL and automobile with exposure units down 2% to 7%. In the construction area rates are also flat with exposure units down 5% to maybe 15%. In and around the New York City area Garden City and then on the Island property rates, GL and auto rates are flat to down 5%, exposures units are flat to down 20%. In the construction area rates are down 10% to 20% with exposure units down somewhere between 5% and 20% in construction.

In the Connecticut area in Hartford, rates are generally flat with exposure units down 5% to 15%. Moving down to New Jersey property rates are flat, GL and auto are down 5% to 10%, exposure units except in workers compensation are generally flat. Work comp and payrolls are down 10% plus. Very aggressive use of schedule credits in the work comp area in the State of New Jersey. In construction GL rates are down 5% to 10%, auto rates are down slightly, payrolls are down 10% to 20% in the New Jersey area.

Coming down the eastern seaboard in to Virginia rates are generally flat to down 5% but exposure units are down 5% to 10%. Further south in South Carolina, property rates are down flat to down 5%, GL flat to down 5%, auto down 5% to 10%, exposure units are typically down 5% to 20%. In Georgia rates and property GL and worker comp are flat, automobile right out of the box down 15% to 18%, very competitive there. Exposure units are down 15% to 20% across the board including the construction areas but automobile is really the one that is under intense pressure in Georgia.

Going west in to Louisiana, rates are generally flat to down maybe 10% in general liability, exposure units are down 5% to 10% because the oil patch, construction accounts are very similar in Louisiana. Moving North in to the Midwest and Michigan, rates are generally flat to off 10% depending on line of coverage, exposure units are down 10% to 15%. Construction rates are flat in Michigan yet exposure units are down 20% to 50%. The cash for clunkers had a bump in the month that it was going on but the next month there was a significant slowdown and we’re not seeing much stimulus money in the state of Michigan from the construction standpoint.

In western retail we’re down 12% over 14.8% in Q2 and we’ll start in Seattle Washington where rates continue to be flat with exposures down slightly maybe 5% and in the construction area exposure units are down 10%. Down the cost in to Portland Oregon, rates are flat to down 10% with exposure units down somewhere between 5% and 12% except in construction. Construction rates are flat but exposure units are down 30% to 40%.

In Northern California and Nevada, rates tend to be fairly flat but exposure units are down 10% to 20%. If you move in to Southern California property, GL, auto and work comp is somewhere between flat and down 10% with exposure units down 5% to 20%. In the construction area rates can be flat to down 15% with exposure units down 5% to 30%. Going in to the Las Vegas area rates are generally flat including construction but exposure units are down 20% plus in all non construction lines and construction lines down 30% and 40%.

In Phoenix Arizona, the property rates are flat with GL and auto down 5% to 15%, exposure units in non construction would be down 5% to 10%. It’s very competitive in the work comp environment with scheduled credits used to deviate from rates up to 25%. In the construction area in Phoenix rates are down 5% to 10% but exposure units are down 10% to 30%. In Denver, Colorado property rates, all rates actually are down 5% to 10% except automobile and exposure units are down 5% to 15%. That’s including construction. Finally, in to Houston Texas, coastal property there is generally flat to up slightly, maybe 5% to 10%, GL rates, auto rates and work comp rates are down 5% to 20% and generally all exposure units across the board including construction are down 20% plus.

I would like to point out that all of my comments relative to construction do not include bankrupt or out of business clients. These are existing clients that we see with compressed sales themselves or payrolls. Finally, relative to employee benefits, Countrywide as a general statement small group accounts start out of the box with rates up 5% to 12% and large groups are up 6% to 14% or more on average. However, the number of insured lives is going down typically and there’s lots of changes and deductibles and plan designs which bring down the overall increases substantially.

With that said, I’d like to turn it over to Jim for programs, services, wholesale and M&A.

Jim W. Henderson

With respect to the brokerage division the quarter reflected a slight improvement in the net organic revenue challenge in that division. For the quarter the negative organic growth was 5.4%. This is a trend from 7.5% in the second quarter, 8.5% in the first quarter and some 14.6% in 2008. This unit has the headwinds of the economy rates and also business that would vacate over to the direct markets.

I recently attended the NAPSLO conference in Orlando. Some general comments by the carriers there include that they continue to lose business to the primary writers. The economy is the biggest drag and challenge on their premium growth. Premium writings for many companies we talked to are down anywhere from 9% to 10% for 2009. This is an improvement over their experience of some 14.5% for 2008. Some of the carriers have unused property CAT aggregates and have been more aggressive on a select basis for certain coastal property. In this environment we find it very advantageous to develop strong relationships with the new aggressive markets, managing our expenses down and certainly bring in the new talent as available in this market.

Next, in turning to the program and services division, this unit again turned out a great performance on organic growth. Most of the units in this division produced both top line growth and improvements in operating profits. I’d like to pay special recognition to several units including [Paul Glance] and his team at Proctor for continuing to beat budget and prior year performance numbers. In [inaudible] insurance Ken Masters and [Len Johnson] for their ability to increase the bottom line numbers by some 6% in light of a 2% top line challenge. Linda Downs and Susan Heath in our longstanding dental program where they had a 6% organic growth and a 9% increase in profits.

With respect to our M&A activity, we continue to be challenged by the uncertainty on the revenues which obviously impacts the value significantly. The number of reduced deals, M&A deals for Brown & Brown for 2009 is reflective of the agents and brokers industry. For 2009 the announced M&A deals for the industry stands at 170. This compares to some 264 or a 31% reduction in ’09 versus ’08. To add some color in terms of the impact of top line bottom line, we looked at a particular deal. Revenue trending was down about 10%, when you take this 10% top line that number falling through resulting in a 30% margin shrinking to a 20%. Suddenly you’ve got not 10% but a 33 1/3% reduction in value.

On this basis it’s difficult to establish value with a seller. This disparity causes a seller to postpone the transaction until there is less volatility. We feel that with a better economic condition and market pricing that we seem to be heading in to, we believe that the M&A deal activity will return to historic levels. In addition to the current favorable tax environment, there are many of the baby boomer owners in the industry that will need a liquidating event within the next few years and Brown & Brown is well positioned to capitalize on this unique opportunity.

My last comments really stemming from our attendance of the Council of Insurance Agents & Brokers Conference, this is a meeting of some 40 or 50 carriers that we have during this event. Mostly carriers reported relatively flat or moderate decrease in pricing. When you dig in to that question it turns out this is really on their renewal business and in fact their retention rates have somewhat suffered to achieve this price stability. With respect to their new business, the pricing tends to be more aggressive on new business versus the renewals when measure on exposure unit basis and comments that their margins are less on the renewal business.

The weak economy is the biggest factor driving their reduction in premiums as well. The primary carriers, their loss ratios for 2009 are reporting at a higher combined than their reinsureds combined to less CATS actually penetrating layers going to the reinsureds. Some carriers are reporting that they’re experiencing an increase in severity of claim losses and have special concerns regarding their workers compensation books of business.

Additional conditions are being offered on certain classes of business including professional liability, non-public D&O, EPL, [inaudible] machinery. So, in this environment we’ve always done well in aggressive market pricing on new business, both on new and protecting our renewals. We’re certainly asking for more commissions and we tend to exclude workers compensation from our profit sharing agreements.

These comments, this is a [inaudible] we’ve been through before. We feel very confident in our game plan to move forward. With that, I’ll turn it back over to Powell.

J. Powell Brown

In conclusion I’d like to say that our business is a reflection of the broad market economy. Our carriers both national and regional that we work with are doing everything in their power to retain their renewals and thus a very competitive pricing environment. We continue as a group to write lots of new business and retain our existing clients and yet the shrinkage of exposure units and rate decreases impact our ability to grow organically. However, in light of this we continue to be stronger today and as a result of this as the economy improves we’ll be stronger tomorrow.

We are continuing to hire new people in production and invest in our future. We believe that the real difference, and Cory alluded to this earlier, if you look at our earnings between now year-to-date and last year year-to-date, is really about the $5 million of contingencies that we didn’t receive this year that we did last year. Finally, I would say that we look for much of the same in to the middle of 2010. With those comments, operator I would like to turn it back over to you and we’ll open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Michael Grasher – Piper Jaffray.

Michael Grasher – Piper Jaffray

A few questions, first of all on cancel and rewrites can you talk about any change in volume that maybe is occurring there?

J. Powell Brown

No, we haven’t seen any significant change in cancel and rewrites. I know we talked a little bit about that last quarter particularly in certain areas i.e. Southern California but we have not seen this quarter a significant uptick in cancel and rewrites.

Michael Grasher – Piper Jaffray

Would you actually say it’s actually I guess moving the other direction at this point?

J. Powell Brown

That may be a matter of perspective. We don’t hear a lot about cancel and rewrites other than the normal course of business and so therefore policies are just occurring and expiring on the normal expiration date. So, I don’t know if I would say it’s moving in the other direction I think I’d just say it’s more normal.

Michael Grasher – Piper Jaffray

Then just thinking about your commentary around exposures and rates and a lot of it being down for the most part, if you strip away that aspect of your revenue, your commission line and just think about the business that gets generated through new small business development or the lack thereof in this environment, how much would you say that your organic growth is suffering from that aspect of it alone or have you really thought about that?

J. Powell Brown

I’m going to answer the question a little differently and tell me if this addresses your question. We have said that we believe that two thirds to three quarters of the negative down draft in our business is directly a result of the economy or shrinking exposure units. The other component would be rate decreases so if you look at that, we call that the double whammy. So, depending on where you are in the country to your point, you go in to a place like Las Vegas, small business, meaning accounts that are written under $25,000 or $30,000 of premium are under incredible pressure and when I say pressure I’m not talking about existing they’re just going out of business as just an example.

But, we as a group as I said in our concluding comments, continue to write lots of new business but it’s hard to fill the hole in when you’ve got the double whammy. If you were going to take the economy out of the question, which you cannot, we would tell you that this period of time right now seems to look like 1998 and 1999. That was in a period of time where there was a gradual decline of rates, I believe if my recollection is correct, of somewhere between 4% and 7%. Exposure units right now if you believe the averages are down around 6% and if the economy is flat to up in that environment, which it was in ’98 and ’99, we grow organically. But when you have the shrinking exposure unit and shrinking rates it’s very difficult to grow organically. Does that answer your question?

Michael Grasher – Piper Jaffray

I think for the most part it does. In terms of the shrinking exposure you’re just considering the existing small businesses out there I believe and what I’m speaking to is just sort of the lack of new small businesses being generated, new business ideas, new companies being established.

Cory T. Walker

The impact on the economy for that is certainly well published. With respect to perhaps if you look at the same store new unit sales are relatively the same for last year and this year, this including the fact that perhaps there is less inventory out there but our people tend to do and have been doing a great job of finding new opportunities there on new new business to bring in. So, the new businesses is of lesser pricing than before but the number of units are relatively the same on a per store basis.

J. Powell Brown

If I could also point one thing out, our average new piece of business written over the last four years is somewhere between $11,000 and $12,000 in commissions. So it might be a little larger than what you are talking about although it’s still truly middle market business. We write start ups and we write very large accounts in the United States but the average is $11,000 to $12,000 in commissions.

Operator

Your next question comes from Keith Alexander – JP Morgan.

Keith Alexander – JP Morgan

I was wondering if you could talk about the deceleration in the special programs business in the quarter? The trends there and how you describe your outlook? I know that you gave some guidance earlier but can you just talk a little bit more about that?

Cory T. Walker

The activity there really has been driven by Proctor Financial is the most significant movement of numbers both the increase experience in to last year and the first part of this year and the reduction this quarter which we gave some guidance on in the previous quarter. So, that unit is involved in the forced place business for financial institutions enjoyed an upsurge because of the [RICO] activity. That has in fact kind of flattened, there is still growth there but not at the rate experienced in the first two quarters. On a go forward basis we do expect some continued pressure on growth there. In the division itself we still expect to be positive organic but certainly not at the growth rate for the first two quarters.

J. Powell Brown

If you look at year-to-date on the special programs we grew essentially if you take Proctor out it was essentially flat. So, a little bit of that comment that I made earlier about the fourth quarter when you start comparing the fourth quarter last year to what proctor would be more flattish on the fourth quarter this year they’ll lose about 2.5 so it could actually dip in to – that could be a negative growth in the next quarter. Then of course, you’ve got a big quarter in the first quarter and the second quarter for Proctor so just take that in to consideration. But, the rest of the special programs on aggregate are basically flat.

Keith Alexander – JP Morgan

My next question is can you talk about how much of the comp and benefits expense is variable versus fixed? Then, how much of the reduction reflects variable factors versus absolute staffing levels?

J. Powell Brown

Well, I don’t think we can give you the specifics there. Out of the $4 million of compensation that I was referring to earlier, probably about $1.6 of that really came from producer compensation which obviously is variable to the reduced premium and commission levels that the agency has. The other about $2.6 million of that really came from just salaried employees and most of that is just coming from normal attrition where our profits and our leaders are trying not to replace people as they try to get a more efficient operation and get their costs in line with the revenue. That’s the breakdown between the variable and the fixed there on the compensation side of it.

Jim W. Henderson

I would only add that there is a variable and that is the producer comp. Secondly, there is a wave of compensation dealing with the fact that our leaders look in, if they’ve got less revenue there, that business has not returned, has not grown, then they deal with the fixed side as well and they’ve done that. For example, especially in our brokerage unit we’ve reduced expenses relatively at the same level of revenues in the second and third quarter dealing with the events there. So, Tony Strianese, Mike Reardon, [Bob McGrew], those guys are doing a great job of taking cost out almost at the same level of revenues.

Keith Alexander – JP Morgan

If I could just ask one more questions, in the commentary on the press release you mentioned promising opportunities in regard to employee benefits and M&A, could you just talk about that a bit further?

Jim W. Henderson

Our comment there really stems from what we believe now that there is certainly shaping a better definition of our role going forward with respect to if you look at national healthcare. There’s a lot going on in terms of the [sauces] being made in Washington for sure. But, in at least a couple of different bills there is a defined roll for brokers. We’re looking at those avenues where we know that we can add a lot of value to the customers going forward irrespective of what may happen on the national scene. If you look backwards the last six to nine months we’ve been perhaps a little bit more hesitant to jump in to a benefits agency with all of this activity happening, what will the role be. We feel better about our role today, certainly in certain niches and so are full prepared to readdress opportunities on benefit agencies.

Operator

Your next question comes from Kenneth Billingsley – Signal Hill.

Kenneth Billingsley – Signal Hill

I just want to follow up on the benefit agency question, do those tend to have a little bit lower margin than some of your other businesses?

J. Powell Brown

No, they don’t they have as a matter of fact, as good or better margins than P&C. Obviously, especially in our system.

Kenneth Billingsley – Signal Hill

When you say in your system, with the HIPAA requirements and changes that are occurring in benefits and healthcare now do you see additional costs coming in there or do you think you can manage those and keep the margins in line with what you’re doing in other segments?

J. Powell Brown

We think we can, yes. This is where certain special niches for example, on very small groups under let’s say 15, 20, 25 lives, margins are probably under more pressure. Above that level we have a greater opportunity to provide value and some services, the likes of which you just mentioned and make our margins and a better defined role in terms of value to the buyer.

Kenneth Billingsley – Signal Hill

The last question I have, and I missed this if you said it earlier, were there any transactions that were completed during the quarter and how much revenue did those bring in?

Cory T. Walker

Well just for the third quarter we’ve essentially only had really two transactions that have really amounted to approximately revenues of about $2.5 million. So, very few, the [Canford] and the Roussel acquisitions that we issued press release on.

Jim W. Henderson

Kenneth, it’s amazing given the number of people we talk to, the number of deals that we probably got to the 11th hour but that just did not close for whatever reason. Underneath those numbers there is a lot of looking, and shopping and talking so anyway we’re very encouraged by that but we have to get back to a basis under which to better close the valuation gap that we’re experiencing right now with the seller and what we’d like to pay for it.

Kenneth Billingsley – Signal Hill

I heard your comment talking about just the decline in the business, how a 10% decline has a much bigger impact on the value proposition to you and that’s maybe where you’re not able to close that gap. Looking forward would you imagine that’s it’s going to be end of this year or in to next year that some of these companies maybe will be forced to sell if the trends stay the same for the next six to nine months?

Jim W. Henderson

I think as the certainty on pricing and the economy, as it strengthens so too will the close deal activity but is that first or second quarter? It could very well be. I think that will be an evolving event in to next year. There is an outlier as well and that’s the capital gains tax that will be sitting out there in 2010 that most likely will disappear at that level in 2011. When we were talking to interested sellers, that is a motivating factor, that is a lot of money left on the table to send to Washington so we think that will probably create some activity in ’10, otherwise it may be just kind of waiting to look at options.

Operator

Your next question comes from Eli Fleminger – Stifel Nicolaus.

Eli Fleminger – Stifel Nicolaus

[Inaudible] loss ratios this year should benefit from the lack of hurricanes, do you expect that to translates in to higher commissions next year or do you think carriers generally view hurricanes as something beyond their control and therefore don’t factor in to their calculations?

J. Powell Brown

Well, basically if you make a general statement in years that have lower CATS you could make a general statement that the industry would probably receive higher contingent commission payments. However, as you know it’s all based on individual office experience and the losses at that local level. So, do they factor it in, when the carriers create a calculation they intend to pay, it’s a pay for performance type of plan, if it performs well they will pay out under these certain defined criteria. So, in a general statement you would believe in a year that had lower CATS that you could potentially have high contingencies but it’s all contingent upon the experience at the local level. So, if they had lots of automobile losses, for example, that counter catastrophic losses, then they might not pay out as much.

Eli Fleminger – Stifel Nicolaus

To make sure I understood you said earlier that you expect 2010, right now your outlook for contingencies to be roughly similar to what it is so far in 2009?

J. Powell Brown

We said, and we’re not economists, we’d love for you to tell us what that’s going to be like but we think that at least until the middle of next year we see more of the same.

Operator

Your next question comes from Sarah Dewitt – Barclays Capital.

Sarah Dewitt – Barclays Capital

Could you update us on the environment in Florida and any developments at Citizens and what this means for Brown?

J. Powell Brown

You may know Sarah that effective 11/1 that renewals and new business for 1/1 rates will go up on large properties in excess of $10 million in value up 20%. Then there are rate increases embedded in the small personal lines business as well. We as an organization write approximately $75 million of premium with Citizen in our retail operations and so some of that business will stay with them and the rates will go up. Some of it, depending on its location may move to other markets but obviously the intent of Citizens ultimately is to move back, at least that’s our understanding, to what it was intended originally to be which was a market of last resort.

By doing so, at some point in the future those rates that go up – now those Sarah that I talked about, there is a 10% rate increase across the board on Citizens business. There’s a 20% rate increase on the very large commercial residential properties which are the condominium complexes specifically. The intent is over the next several years Citizens can raise rates 10% a year on their entire book and at some point in the next several years private markets would come in and potentially take some of the better risks out of Citizens thus depopulating the exposure for the state of Florida.

Sarah Dewitt – Barclays Capital

You mentioned you rate $75 million of premium with Citizens. What would be the impact on the FIU business from the changes?

Jim W. Henderson

It definitely is an opportunity, the question is going to be capacity and that is aligning carriers that are willing to take on the additional coastal exposure which we are very busily working on. The new rate structure does bring in to play an ability to probably align carrier capacity at rates that on select risk they can make money at this new rate structure particularly with this imposed 20% increase. So it is an opportunity, fulfillment is going to be getting the capacity in place which we are busily doing.

Operator

Your next question comes from Mark Hughes – SunTrust Robinson Humphrey.

Mark Hughes – SunTrust Robinson Humphrey

In looking at Florida the difference between 2Q and 3Q, how much does a quiet storm season affect your organic growth there?

J. Powell Brown

I don’t think the change in Q3 over Q2 is really a function of the quite storm season. It’s more as you know Mark that Florida has historically gone through waves, some people might call it boom and bust periods but there are waves in the economic evolution of our state and it’s one of those down cycles at the present time. As you know, I saw something over the weekend that showed that unemployment in the state had reached 12% and so areas like Fort Myers and Southwest Florida have been poster childs of areas with excess capacity in residential building and yet there are lots of units that are starting to move at certain prices whereas in Southeast Florida we don’t see as many units moving.

So, although it’s kind of bumping along here in Florida at the present time, we believe that it to will change and improve in the future. So, it’s not a function of the storms one way or the other because we still sell a lot of business.

Mark Hughes – SunTrust Robinson Humphrey

Would you say sequentially it’s still getting more challenging or are we bumping along the bottom?

J. Powell Brown

Well, I wish we could tell you that. Our instinct is that it would be getting down there towards the bottom but we don’t know. We keep doing everything we can to deliver for our clients but when we’re meeting with them midterm on their accounts, many of them are telling us we just don’t have any more projects on the horizon or our sales have not ticked up. It’s different by customer base, by location, by industry, by everything but we really don’t know. But, we know the one thing about Florida that is good is there’s a great deal of resiliency in this economy and we believe it will bounce back but it might just be a while.

Mark Hughes – SunTrust Robinson Humphrey

Have you shared the distinction within Proctor how much of that is prime versus subprime?

J. Powell Brown

We did last time yes, we talked about that in Q2, we said 20/80, 20% sub 80% prime.

Mark Hughes – SunTrust Robinson Humphrey

Then finally Jim you had talked about you had gotten feedback from many carriers that their pricing on renewals was steady but the new business was competitive. Did you get a sense of how much decline in price there is on those new pieces of business?

J. Powell Brown

Not other than the fact that that gap had widened. They were paying a greater differential out to attract that business and invest in it. I was curious as to why do you do that and they said, “Well, we’re still making money on it we’re just making less money than we are on renewals.” I said, “That’s great. We’d love to partner with you.” They’re very aggressive, we’re probably very cautious in terms of marketing out renewal business. The opportunity though is to hook up with these companies and take business away from others which we are doing.

Operator

With no additional questions in the queue I will turn the call back over to Mr. Brown for closing remarks.

J. Powell Brown

Thank you all very much for your time and we look forward to talking to you next time. Have a great day.

Operator

With that, that will conclude your conference for today. You may now disconnect.

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Source: Brown & Brown, Inc. Q3 2009 Earnings Call Transcript
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