Berkshire's In for a Bruising

It's also a mistake to get too wrapped up in this one AIG deal. There are other Gen Re transactions that will be looked at in due course. There is no indication yet of Buffett's involvement in these, but regulators haven't really delved deeply into these.

Down Under

However, there is a wealth of detail available on a 1998 deal that National Indemnity, another Berkshire subsidiary, did with a shaky Australian financial company called FAI. The transaction made FAI look far healthier than it was. FAI was then bought a few months after the National Indemnity deal by another Australian insurer, HIH, which later crashed, in part due to the hidden weaknesses at FAI.

An Australian government report shows in meticulous detail the role National Indemnity played in the FAI deal. (Detox first looked at it in 2003.) And this deal could come under the SEC's scrutiny, even though it was done with a foreign company. Berkshire's publicly traded status in the U.S. means anything it does falls under the jurisdiction of the SEC.

While it is still debatable whether Buffett himself will end up in real trouble, it is hard to argue that Berkshire won't get penalized in some way. Its role in helping AIG carry out an apparently improper deal is really no different from the roles that J.P. Morgan (JPM), Citigroup (C) and Merrill Lynch (MER) played in allegedly providing Enron with products that allowed the failed energy giant to make its financial statements look stronger than they were. The SEC obtained highly embarrassing settlements from each financial institution in connection with the products they provided to Enron.

And it's not even certain that Berkshire has been accounting for its finite deals properly. The Wall Street Journal last month reported that Gen Re's lawyers have said that the unit accounted for the AIG transaction properly. But how does an insurance company account for a deal that isn't really insurance, as appears to have been the case with the AIG-Gen Re deal? The onus is on Berkshire to walk us through this, especially as Buffett has called for transparent financial statements in the past. The AIG transaction certainly doesn't look like an insurance deal because, although reserves and premiums were transferred from Gen Re to AIG, it doesn't appear any risk changed hands.

Berkshire would have to have made some book keeping entries for the AIG deal. It would also have recorded finite reinsurance fees -- $5 million in the AIG deal. If the finite deals are found to be improper, this might prompt restatements, which would be highly damaging to Berkshire and Buffett.

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