The entire insurance brokerage business is likely to be hurt by the recent civil suit brought against Marsh & McLennan Cos. Inc. and its Marsh Inc. insurance brokerage subsidiary by New York Attorney General Elliot Spitzer says Fitch Ratings.

The suit alleges conflicts of interest related to contingent commission arrangements in the insurance broker market, and makes allegations of collusion and bid rigging in the insurance contracting process.

The rating agency notes that the most recent developments in this case includes:

  • senior management changes at Marsh & McLennan, including the resignation of chairman and CEO, Jeffrey Greenberg;
  • an announcement by Marsh & McLennan that its brokerage operations will implement significant reforms of its brokerage compensation and compliance practices; and
  • statements from major brokers and commercial insurers that they are eliminating contingent commission arrangements known as placement service agreements.

Any potential resolution of the suit is still likely to include significant fines, Fitch notes.

Fitch believes that there remains a strong likelihood that other brokers will face similar allegations as the investigation continues, including charges related to “tying” arrangements in which a broker agrees to place primary insurance policies with an insurer only if the insurer’s reinsurance cessions are placed through the broker as well.

Fitch adds that the sweeping changes at Marsh& McLennan will have larger implications for the overall insurance brokerage industry. These reforms include complete elimination of the practice of receiving any contingent compensation from insurers related to the placement of insurance contracts.

Fitch believes that Marsh’s announcement will force other brokers that have not already renounced contingent commissions to follow suit. It notes this change could have a significant adverse effect on insurance broker revenue growth and operating profitability.

Over the longer term, it is unclear whether previous contingent commission revenue will be offset by higher fees or commission rates paid by insureds to their broker. Fitch believes that however allegations related to the industry probe are settled, insurance brokers will continue to be a critical player in the distribution of property/casualty insurance, and will be accordingly compensated in some form based on the value of services provided.

Last week, Fitch downgraded Marsh & McLennan’s ratings, and placed it on Rating Watch Negative. It also placed insurance broker Aon’s ratings on Rating Watch Negative reflecting general industry risk.