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Text: A.I.G.'s Announcement

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Insurer Admits Bad Accounting in Several Deals


Published: March 31, 2005

The insurance giant American International Group acknowledged yesterday that its accounting for a number of transactions, including a deal with a unit of Warren E. Buffett's company, was improper.

The disclosure by American International Group, its fullest to date since questions about its dealings first emerged late last year, comes as federal and state regulators are digging through dozens of transactions to determine how extensively A.I.G. dressed up its financial condition.


According to the company's continuing internal review, several transactions "appear to have been structured for the sole purpose or primary purpose of accomplishing a desired accounting effect," yesterday's statement said. The company said that the impact of the accounting errors would lower its book value by $1.7 billion.

"The depth and breadth of troubles and apparent lack of accounting controls at A.I.G. is alarming," William Wilt, an analyst with Morgan Stanley, wrote in a report yesterday.

A.I.G. also cited flawed accounting of its business with reinsurers that it controls in Bermuda and Barbados.

The disclosure may not bode well for A.I.G.'s former chief executive and chairman, Maurice R. Greenberg. Investigators are focusing on a 2000 transaction between A.I.G. and General Re, a unit of Mr. Buffett's company, Berkshire Hathaway, that artificially inflated A.I.G.'s reserves by $500 million.

Reserves, which are watched by investors, are the funds an insurer sets aside to pay future claims. Mr. Greenberg was forced to step down as chief executive on March 14 after regulators uncovered evidence that he had initiated the transaction with General Re.

A.I.G. is now conceding that the deal was not accounted for properly. "A.I.G. has concluded that the Gen Re transaction documentation was improper and, in light of the lack of evidence of risk transfer, these transactions should not have been recorded as insurance," the company said.

The statement suggests that the paths of the company and the man who built it into a worldwide giant could now diverge as A.I.G. and its board seek to settle all investigations and Mr. Greenberg's lawyers seek to protect their client.

"This is the first sign that they may be taking separate paths," said Robert Mintz, a former federal prosecutor and head of the white-collar criminal defense group at the law firm of McCarter & English. "That doesn't mean they necessarily will conflict, but it means they are not walking the same road at this point."

People close to the investigation said Mr. Greenberg's liability would rest on what he understood about the transfer of risk in the General Re deal and whether he believed the transaction to be questionable.

Mr. Greenberg's lawyer, Robert Morvillo, declined to comment yesterday.

Mr. Greenberg, 79, is scheduled for an interview with investigators on April 12. Mr. Buffett, 74, is scheduled for an interview on April 11.

The transaction with General Re enabled A.I.G. to artificially inflate its reserves by $250 million in the fourth quarter of 2000 and the first quarter of 2001. A.I.G. bought a portfolio of insurance coverage from General Re that would result in future losses but at that moment allowed A.I.G. to add $500 million in reserves. The company said yesterday that the deal should have been characterized as a deposit.

A.I.G., which had faced a deadline today to file its annual report with the Securities and Exchange Commission, said yesterday that it now hoped to file by April 30.

The breadth of yesterday's admission indicates that A.I.G. still faces some huge challenges. In particular, its top executives, including Martin J. Sullivan, who replaced Mr. Greenberg as chief executive, are all longtime A.I.G. executives who were running the company when it engaged in flawed accounting.

"I would be shocked if the company goes through a multibillion-dollar restatement and no one else loses their jobs," said Gregory Taxin, the chief executive of Glass, Lewis & Company, an institutional investor advisory service in San Francisco.

Regulators have not uncovered anything tying any of the questionable transactions to Mr. Sullivan, said people briefed on the investigations. A spokesman for A.I.G. declined to comment. The company and General Re are cooperating with the investigation.

A.I.G. has fired a chief financial officer and vice president of reinsurance because they declined to cooperate with investigators. Another senior executive was fired over the weekend.

Regulators lauded A.I.G.'s statement yesterday but cautioned that the issues addressed in its disclosure were limited in what has become a wide-ranging investigation. The Securities and Exchange Commission, the New York attorney general's office, the New York State Insurance Department and the Justice Department are all looking at various ways the company might have manipulated its financial condition.

Regulators are looking at a broad universe of issues, focusing on whether scores of A.I.G.'s transactions were properly accounted as transfers of risk or whether they were deals with lightly regulated reinsurance companies as a way to bolster A.I.G.'s financial position.

The issues under inquiry are whether reinsurance companies controlled by A.I.G. were treated as separate entities in order to help hide A.I.G.'s exposure to risk; whether reinsurance transactions are tantamount to loans that should have been so listed; whether assets and liabilities were swapped to smooth earnings; and, finally, whether A.I.G. used finite reinsurance to smooth earnings.

"It feels to me that we are seeing the tip of an iceberg," Mr. Taxin of Glass Lewis said.

Investors had little reaction yesterday, but A.I.G.'s admission that it had engaged in flawed accounting had one major consequence: the ratings agency Standard & Poor's stripped the company of its triple-A rating, leaving only seven American corporations that still have the highest rating.

Another agency, Fitch Ratings, which lowered its rating on A.I.G. two weeks ago, put the company on negative credit watch yesterday, indicating that it could take further action soon.

"When companies are digging that deep and taking that much time, there's a heightened risk that they might find something," said Keith Buckley, group managing director and head of Fitch's insurance group.

Shares of A.I.G. fell 1.8 percent, or $1.04, to $57.16.

In its statement, A.I.G. referred to a number of problems, many of which had been previously cited in news reports. At the heart of virtually each issue is the question of whether A.I.G. engaged in transactions and interacted with companies for legitimate economic reasons, or to improve A.I.G.'s financial appearance.

A.I.G. acknowledged that it had a much cozier relationship with various reinsurance companies than it had previously disclosed.

Union Excess, a Barbados-registered reinsurer that had previously been characterized as a separate entity, is in fact controlled by A.I.G. via financial arrangements with Starr International Company, a private holding company that owns 12 percent of A.I.G. The board of Union Excess is populated by current and former members of A.I.G. management. Both Mr. Greenberg and Mr. Sullivan are directors of Starr International.

"From its formation in 1991, Union Excess has reinsured risks emanating primarily or solely from A.I.G. subsidiaries, both directly and indirectly," A.I.G. said.

The company said it had similarly undisclosed relationships with Capco Reinsurance, also based in Barbados, and Richmond Insurance, based in Bermuda.

A.I.G. had to disclose to regulators earlier this week that it had misled the New York State Insurance Department about the nature of its relationship with Union Excess in filings with the department.

According to its statement yesterday, if Union Excess were treated as part of A.I.G. for the 14 years of its existence, it would have reduced A.I.G.'s net worth by $1.1 billion. A.I.G. has not yet decided how to treat the entity.

The company disclosed a number of other readjustments and reclassifications, like how it reported and identified net investment income. That disclosure raised another red flag for some. "The story is the same; either charges may need to be taken or apparent financial engineering led to the characterization of income as 'operating' when it was not," Mr. Wilt, the Morgan Stanley analyst, wrote.

Steve Dreyer, practice leader for insurance ratings at Standard & Poor's, said of the rating downgrade: "It's a view of the company's prospective business position being impacted by the thousand cuts of accounting issues, regulatory issues and overall management distraction. The bottom line is, it doesn't look like a AAA company."

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Buffett, Warren E


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