Aon plc

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

Aon plc is a leading global professional services firm providing a broad array of risk, health, and wealth solutions. It operates across various industries, helping clients navigate complex and interconnected challenges.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview:

Aon plc is a global professional services firm that provides a broad range of solutions in the areas of risk, retirement, and health. Their services are generally designed to reduce risks, generate revenue, and allow clients to better handle those risks that they do face. The firm operates through two main segments: Commercial Risk Solutions and Reinsurance Solutions.

  • Commercial Risk Solutions: This segment offers risk management, insurance broking, and consulting services to clients. These services are designed to help companies in various industries manage their risks, negotiate for the best insurance policies, and manage their claims. It includes commercial brokerage, cyber, insurance consulting, construction, real estate, trade credit, aviation, and marine. In short, helping clients understand their risks and the best way to protect themselves from it.
    • This segment represented $10.174 billion in revenue in 2022, and $1.591 in the first three months of 2023.
  • Reinsurance Solutions: This segment provides reinsurance brokerage and consulting services. Through this segment, Aon acts as a broker on the side of insurance carriers and help them find the reinsurance or coverages they need in order to reduce risks of insurance claims coming from their portfolio. This segment focuses on providing reinsurance solutions to insurance companies by helping them assess their risks, and by helping them find the correct reinsurance that protects their financial health, or by allowing them to offload excess risk onto insurers.
    • This segment represented $2.197 billion in revenue in 2022, and $427 million in the first three months of 2023.
  • Investment Strategy, Capital Management and Strategy and Data and Analytics: Aon has expanded these capabilities to grow recurring revenues by being able to deliver data based solutions and help their clients with long term investment strategy that would reduce risk and provide more value.

Industry Trends:

  • Increasing Complexity of Risk: The business environment is becoming increasingly complex, with risks stemming from cyber threats, geopolitical instability, and climate change. This creates a greater need for companies to seek help in managing those risks.
  • Rising Insurance Costs: Insurance premiums have increased considerably in recent years due to a number of factors, including higher claims and increasing regulation. This has driven insurance companies to be better underwriters by obtaining better data and having stronger risk mitigation policies.
  • Data-Driven Decision Making: The availability of massive data sets and increasingly powerful analytical tools has resulted in an increased focus on data driven decision making for finance and operations.
  • Digital Transformation: More and more industries are incorporating digital and technology based solutions. As a result, they need help adapting their business to these changes and protecting their financial information. This requires tech-related products such as cloud solutions, cybersecurity services, AI and data driven tools.

Competitive Landscape: Aon operates within the global professional services market, characterized by a diverse range of players. Key competitors include Marsh, Willis Towers Watson, and Gallagher. These companies, alongside Aon, are part of a fairly concentrated group that have historically proven their capabilities. The industry is prone to consolidation, as companies seek to gain economies of scale and increase their market share. Because these service offering are specialized and have long-term relationships with their clients, it is difficult for new entrants to make significant headway. The main source of competition comes from current incumbents that try to outperform their peers in terms of offering better services for lower prices.

What Makes Aon Different?

Aon’s value proposition is a combination of its data capabilities, client reach, and global perspective.

  • Global Reach: The company has a massive, global network of business partners across all segments of the financial world. They can provide assistance in various fields that most other financial services firms are not able to or will be too small to do so.
  • Data-Driven Solutions: Aon has made considerable investments in data analytics and technology, enabling it to provide clients with specialized insights and tailored solutions.
  • Focus on Risk, Retirement, and Health: Because they service a large variety of business, Aon is able to deliver combined strategies, which most of their competitors, who might specialize in only one area, are not able to provide.

Moat Assessment:

Aon has what I would classify as a narrow moat due to a mix of switching costs and intangible assets.

  • Switching Costs: Long-term relationships are key in the financial services business. There are considerable costs to switching providers, including the risk of losing data and information, needing to onboard, and to build relationships with new advisors. Given that these services usually affect very large organizations in important ways, they are often very important to the survival and overall profitability of those businesses. They are not willing to take that much risk by changing partners on whim. This leads to high retention rates for Aon.
  • Intangible Assets: The company has built a solid reputation and brand that resonates with their clients, built up over a very long period. In addition, the financial and proprietary data that they have collected over time through their business provides an additional advantage over competitors.

Moat Rating Justification: 3/5 I’m giving a moat rating of a 3/5 for the above points. Although Aon has a wide-range of different services, they do not benefit from extreme network effects or other more defensible and hard-to-replicate characteristics, nor are they at the top tier of their niche markets. They do not offer a truly unique service that cannot be done by any of their competitors. However, they still have defensible competitive advantages that should keep them profitable for at least a few years more, which is why it gets a rating of 3.

Risks to the Moat:

Aon faces a number of risks that could potentially impact the durability of its moat and overall business:

  • Technological Disruption: While Aon has made investments in data and technology, the industry is still evolving rapidly. The rate of adaptation of business changes, and the companies ability to adapt may cause them to become less profitable.
  • Intense Competition: Competition for market share can result in higher costs, lower revenues, and higher customer churn. In a highly competitive sector, businesses will need to focus intensely on maintaining current processes, while continuously trying to better them and find innovative solutions. It is not guaranteed that even the best of businesses can maintain or increase their market share in a competitive market.
  • Changes in Regulations: Companies that handle personal information and finance for their clients are often subject to numerous legal limitations that have the possibility of severely altering a business or industry. Governments may also pass new regulations that may place constraints on certain types of service offerings.
  • Cybersecurity Threats: Aon maintains high data privacy standards, but even then data breaches have become an increasing concern. Because the company handles extremely valuable and sensitive financial and private information of their clients, a single data breach could cause enormous damage to their business operations and credibility.
  • Macroeconomic Factors: A global recession, slowdown, or inflation, can result in reduced sales of certain products, which directly affects top line revenue.

Business Resilience:

Aon demonstrates a high level of resilience due to its size and breadth, which serves to limit risk. Its diversified revenue base and services and wide-ranging global operations help to maintain revenue despite fluctuations in certain areas of the world and certain industries. Management is focused on a growth agenda and they seem to be taking steps to better themselves through digital innovation. These initiatives could allow the company to become more efficient and more profitable over the long-term.

Financials Deep Dive

Aon has demonstrated considerable resilience in its financials. They have a steady pattern of growth, with revenues and profits usually rising from year to year. The company has shown consistent returns on invested capital and high cash flow generation. They are committed to returning capital to shareholders through dividends and buybacks, as well as reinvesting in the business and seeking out strategic M&A to fuel long term growth. Aon’s financial health, therefore, appears to be in good standing overall. Some of the key financial highlights:

  • Revenues: The company’s revenues have grown steadily over the past few years. Revenues were at $13.4 billion in 2022, as a result of 5% growth. They were at 3.7 billion for the first three months of 2023, and are expected to grow even more throughout 2023.
  • Profitability: The company maintains solid profitability, especially within the commercial risk and the reinsurance businesses. In 2022 the company made a profit of $2.4 billion. In Q1 of 2023, they are showing a profit of $700 million.
  • Free Cash Flow: Aon has very strong cash flows, even in times of economic downturn. This allows them to continue to service debt, provide dividends to shareholders, make acquisitions, and grow their operations. Free cash flow was at $2.16 billion for 2022.
  • Debt: While Aon takes on significant debt, it is not unreasonable or unmanageable. This also depends on the outlook, and their debt does not cause much financial burden because the cash flows from the business are so significant. The total debt of Aon is about $12 billion as of the end of December 2022.
  • Debt/Equity: Aon has a long term goal of keeping this in between 0.2x and 0.3x, and they are at or around that level.
  • Book Value Per Share Is around $64 as of December 2022.
  • Dividend Yield: Aon has had a consistent, long-term policy of maintaining dividends, and they currently have an attractive yield of 0.96%.

Aon’s management team seems to be very good in terms of capital allocations, while following a somewhat conservative approach. They make steady investments that should have a significant impact to their long term revenue and profitability, while avoiding excess financial risk. They are also making strategic acquisitions, which shows their dedication to continue to improve over the years ahead. Overall, Aon’s financial health appears strong, which should provide a good backbone for continuing to grow this well-established business.

Understandability Rating: 3 / 5

Aon operates within a complex industry with many complicated processes. Although a decent amount of information on the business is readily available in the public domain, assessing the true value and prospects for the business takes a long while and a degree of industry expertise, for a few key reasons. First, understanding and fully appreciating insurance broking, risk mitigation, and financial information is difficult, and requires substantial expertise. Secondly, their financials, and all its subsidiary parts are complicated and hard to get an exact grip on even for trained financial analysts. And thirdly, the company operates across a large number of different countries, and has a global reach that most other comparable businesses do not. All of these things make the company more complicated than most others, but it is still possible to grasp the underlying value drivers and the business model. This is why it gets a score of 3 for understandability.

Balance Sheet Health: 4/5

Aon’s balance sheet is healthy overall but not flawless. Their debt is at reasonably high levels, but the company does have good cash flows that provide flexibility for financing their debt obligations. However, it must be acknowledged that there can be a few risks relating to high levels of indebtedness, as it makes the business somewhat more sensitive to market fluctuations, even though it is not a company dependent on discretionary spending. They have high levels of equity, which help reduce the risk that arises from higher levels of debt. Overall the balance sheet is in good shape for their current operating environment and business model. As such, I’ve given a rating of 4 for the balance sheet health.

Recent Concerns and Management’s Stance Aon has recently made some changes to their reporting practices, particularly regarding how goodwill and acquired intangibles are reported and accounted for, as well as reporting of non-GAAP earnings and profitability. Although not a red flag, they may make future performance a bit harder to compare with past performances. In addition, the company had to issue more bonds with high yields in 2022, and that combined with more inflation has resulted in higher interest payments. The company has also had to write-off some of its investments in Russia, and had to report a $228 million loss relating to its Russian operations. Given that a significant portion of their revenue is generated in non US markets, the effect of foreign currency exchange, including inflation, and geopolitical risks should also be closely followed. All of this combined with the risk of a recession will make financial performance in the near future to be volatile and uncertain. Management is focused on maintaining the current structure and generating higher organic growth and profitability. They do not see a recession or other similar macro conditions as negatively affecting their long-term prospects, and are continuing to reinvest in the business through M&A and organic means.