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Break Ups and Shake Ups
The summer months have been anything but relaxing at troubled insurer American International Group (AIG). Things got off to a good start when the company agreed to sell its AIA Group, an overseas life-insurance business, to Prudential (PUK) for more than $35 billion. The market applauded this news because it has been no secret for some time now that in order for AIG to get back to prominence it must relieve itself of the stake that the government took during the bailout period. The Federal Reserve loaned the company tens of billions of dollars to keep it afloat at the height of the recession, and the U.S. government currently owns about 80% of AIG.
But the good vibes were quickly extinguished when Prudential started noticing serious investor backlash due to the perception that the aforementioned price tag was too high. The United Kingdom insurer the submitted a lower bid that was closer to $30 billion and the deal unraveled quickly. Reports began to arise that AIG’s CEO Robert Benmosche was in favor of trimming the price as long as the deal was consummated, but the board of directors disagreed.
Shortly thereafter, grumblings of a feud between Mr. Benmosche and Chairman Harvey Golub began. These whispers were rapidly verified when in mid-July, Mr. Golub stepped down from his post citing that one of the two had to go, and “it was easier to replace a Chairman then a CEO”. His replacement will be Robert Miller who has extensive experience reorganizing troubled companies, which probably means that he too is no stranger to getting his way. Mr. Benmosche has stated he will quit if he is not given the freedom to run AIG his way. The potential for more hand wringing and head butting is there, however, we hope the fact that Mr. Miller has been on the company’s board for over a year now means the two can work together. Instability at top positions is exactly what AIG does not need at this juncture.
With leadership and directional concerns hopefully in the rearview mirror, the focus once again is being shifted back to asset selloffs and any other ways that capital can be raised to square up with the government. First off, rumors of other bids for AIA, most notably from Chinese groups, have apparently not come to fruition. Therefore, management is now formulating plans to relieve itself of this entity via an initial public offering. AIA is one of AIG’s crown jewels, and the initial pact, if completed, could have cut its debt burden by about a quarter. The chances of an IPO bringing in $30 billion are slim to none, but time is of the essence and this looks to be the road that will be taken. Banking insiders have calculated that AIG could sell up to a 50% stake in the foreign insurer and raise up to $15 billion through a Hong Kong listing. Indications were that Mr. Benmosche was against the IPO and petitioned the board to wait and seek other potential bidders, but even he has to realize that barring a last-minute savior, the IPO will be necessary. Risks of executing such an agreement, coupled with difficulties in gaining that type of funding severely limit the number of potential suitors.
The IPO will get the ball rolling as far as paying off the debt, but it is only the tip of the iceberg. Management is still going to need to aggressively divest businesses and when all is said and done, AIG will be a much smaller company than the one that tumbled during the financial crisis. Two units that are already firmly on their way out of the portfolio are the American Life Insurance Company, an overseas insurance firm, and Nan Shan, a Taiwanese life insurance concern. More recently, it was disclosed that bids were not being accepted for American General Financial, the consumer lending unit. We had not anticipated that this segment would go. In our initial thoughts, when the selloff talks began, the general consensus was that this would be a cornerstone of the future AIG, but this no longer appears to be the case. This highlights the fact that the company sees the urgency in getting out from under the government’s thumb. In recent interviews, Mr. Benmosche has displayed a worry that as long as AIG has such a high number of government borrowings outstanding it could be hard-pressed to tap the stock and credit markets for fresh capital.
Fortunately, the businesses that are being kept have shown signs of life lately. Investment income has been trending higher over the last few months, and general and domestic life insurance policies are rolling in at a steadier clip. Too, the AIG that emerges from the selloffs and debt paybacks may well generate some handsome margins based on the underwriter’s unwillingness to cut its prices too far even during the dark times. On top of this, the aircraft leasing branch, International Lease Finance Corporation, is now operating at a healthy enough rate that it will be able to raise $4 billion from debt markets to pay off a lifeline that it was individually extended from the Federal Reserve during the downturn. Perhaps most important, the erosion of its clientele never reached the levels that many pundits anticipated. With that, retention levels have been stout across the board. And we see no reason why these customers will not stay on board so long as AIG continues to execute its plan to diminish the government’s role.
On that note, though no timeline has been set, once the debt burden has been paid off, management will need to work out a plan with the Treasury Department to reclaim the 80% stake. We would expect a similar tactic to that which is currently occurring with Citigroup (C) That company converted the government’s preferred shares into common stock that will be sold over time. However, this scenario is changing constantly and a recent company release stated that AIG might issue a large number of new common shares that would lead to significant dilution to existing investors. Funds accumulated through this move would then be used to buy back the Treasury’s preferred shares. A combination of these two approaches is also a possibility.
What will be left when all the dust settles is highly debatable. Some on the Street are estimating a near-term government exit while others expect it to be in the fold until well into 2013. A return to the scale and stature of the old AIG is undoubtedly out of the question, but there would be no shame in running a larger-sized successful insurance company. And the game plan to get to just such a position appears to be in the works.
The effects on AIG’s stock cannot go unnoticed either. Anytime news breaks that the company is making maneuvers to alleviate the government presence, the shares jump on this speculation. And if nothing is disclosed for an elongated period their quotation often sags. In total, this equity has climbed more than 30% since the start of 2010. Still, this feat is much less dramatic when one takes in to consideration that it has lost 97% of its value over the last three years. Too, it would still be trading at a nominally low price if not for a 1-for-20 reverse split executed when the company’s future looked bleak.