Merger talks between numerous Bermuda insurers took place last year, but few deals came off because market valuations were so low.

That was one of the revelations in a report by accountancy firm PricewaterhouseCoopers on the top issues facing Bermuda re/insurers in 2010.

There were two major deals last year, with Validus Holdings merging with IPC Holdings and PartnerRe acquiring Paris Re, but many observers expected more mergers and acquisition (M&A) deals to take place.

Earlier this month, Max Capital Group and Harbor Point Re agreed to merge to form a new company called Alterra Capital Holdings, news which has sparked expectations of more deals to come.

"Despite the paucity of announced deals last year, there was significantly more activity behind the scenes," the PWC report stated.

"Numerous discussions took place between potential buyers and sellers, hinting that many more deals would transpire.

"However, valuation gaps were significant in many proposed deals; potential sellers were simply not willing to accept depressed valuations and, in some cases, the dilution raising capital would imply."

Although market conditions have continued to improve this year, PWC suggested that valuations needed to improve to persuade sellers to make a deal.

In an interview, PWC Bermuda partner Arthur Wightman said other companies were looking for merger partners.

He added that the Class of 2005 group — who set up on the Island in the wake of Hurricane Katrina — had been successful and had high M&A potential.

Two of those companies, Validus and Harbor Point, have already found their own deals. Another, Flagstone Reinsurance Holdings, was one of the unsuccessful bidders for IPC last year.

A fourth 2005 start-up, Ariel Holdings, a privately-held re/insurer, was reportedly in merger talks with three companies last year, one of them rumoured to be Bermuda rival Aspen Insurance Holdings.

"I don't think the Max deal will be the last one we'll see, but we just don't know," Mr. Wightman said.

In 2009, improving markets helped to boost the value of insurers' assets during a year that also brought solid underwriting profits for the industry, meaning there are more healthy potential buyers, but at the same time fewer distressed sellers.

"Excess capacity and a residual soft market could lead to increased consolidation of underwriters, particularly in Bermuda, and potentially increased interest in vertical acquisitions of managing general agents, managing general underwriters or captive agents," the PWC report adds.

Potential changes in US tax policy are also high on insurers' agendas.

There is concern about the Neal bill, which, if enacted, would raise the US tax bill for many non-US insurance groups who provide reinsurance coverage for their own US subsidiaries.

In his Budget proposals in February, US President Barack Obama announced plans along similar lines to the Neal bill, but potentially less damaging to Bermuda re/insurers, Mr. Wightman said.

"The Obama proposal sets the affiliated reinsurance threshold at 50 percent," Mr. Wightman said. "As it's been drafted, it appears that those companies with reinsurance contracts up to that level will not be affected.

"This is more favourable to Bermuda than the potential legislation in the Neal bill — but these are all only proposals at the moment."

Solvency II — enhanced insurance regulations to be introduced in the European Union in 2012 — is another big issue for Bermuda.

The Island needs to achieve "regulatory equivalence" with "regulatory equivalence" with Solvency II to ensure that Bermuda companies will not be competitively disadvantaged by the move.

Mr. Wightman referred to comments made by Axis Capital chief executive officer John Charman last week at the World Insurance Forum, when he stressed the difficulties of a fragmented capital structure for global re/insurers. "So equivalence is extremely important," Mr. Wightman added.

Other major issues highlighted in the report are risk management, including the de-risking of investment portfolios following the dramatic losses of the 2008 market crash, and the embedding into the corporate culture of enterprise risk management.

A fundamental change in accounting for insurance contracts may happen as soon as 2013, requiring major preparation work by re/insurers.

Pricing adequacy during the continuing soft market cycle is also of great concern.