AIG Woos Common Stock Investors

NEW YORK (TheStreet) -- American International Group's (AIG) moves to court common stock investors appears to be working: Despite the implied dilution of its huge offering plans, the shares keep charging higher.

Late Thursday, AIG announced plans to distribute a dividend of 75 million warrants on Jan. 19 to shareholders of record as of Jan. 13. Each warrant represents more than two individual shares of AIG common stock. If a shareholder holds 1,000 AIG shares, he will receive about 534 warrants, with a strike price of $45 apiece. The warrants are exercisable up to a decade after they are issued.

"It appears to us that the warrant terms are slightly more generous than we originally anticipated," says Wells Fargo analyst John Hall. "Our initial expectations for the warrant terms looked for 0.5 warrants per common share."

The move was just the latest in a multi-phase, multi-pronged recapitalization effort, in which AIG has become heavily reliant on common equity.

The biggest part of that plan pertains to the Treasury Department's swap of $40 billion worth of preferred shares into common stock. While AIG hasn't been able to pay the high coupon on the preferred investment, the common stock will cost the firm nothing but dilution: The deal will award the federal government 1.65 billion new shares, representing a 92% stake.

A provision in AIG's amended recapitalization plan in October also left open the possibility of a follow-on equity offering, depending on market conditions.

Partly because of that dilution and other potential hiccups in AIG's complex divestiture plans, Hall expects the stock to underperform. He doesn't have a price target for AIG, but values the stock in a range of just $20 to $30. After the market stops pricing in the warrant on Jan. 20, he thinks the stock will retreat back to that level.

"AIG common shares will no longer be a bundled security ... and we expect the shares to trade more on the basis of the underlying fundamental value of the company's insurance businesses," says Hall.

Nonetheless, AIG has been working to court private investors for the long haul.

Though few took note of his remarks, CEO Robert Benmosche first indicated that shareholder value would be preserved at the company's annual meeting in May. Since then, Bruce Berkowitz, one of the top-rated mutual fund managers, has become the largest private holder of AIG shares, building up his stake for a long-term hold.

In November, also AIG closed an exchange of nearly 50 million private preferred shares known as "corporate units." The cash-and-stock exchange deal issued 4.9 million new common shares and $162 million in cash to existing holders of the units.

AIG has also made an effort in the debt markets, refinancing debt for its aircraft leasing facility, International Lease Finance Corp., then raising $4.3 billion in debt capital for the parent company and $1 billion for ILFC last year. But, by and large, AIG has been appealing to long-term stock investors who are willing to be patient as it slogs through its government exit and works to turn business lines from stable to profitable. Until recently, short-term speculative traders had been dabbling in AIG equities through its tough bailout-and-restructuring process.

Despite the implied dilution from the exchanges, warrants and potential stock offerings, AIG's share price is up 37% since a close of $39.10 on Sept. 30, the day the firm AIG outlined its comprehensive plan to repay the federal government and give common stockholders a piece of the pie.

At current prices, investors who receive warrants can lock in a $17 gross profit per share, or a 38% gross margin based on the $45 strike price. Yet, because they are exercisable through Jan. 19, 2021, there could be much more value ahead.

Linus Wilson, an assistant finance professor at the University of Louisiana at Lafayette, believes that the Treasury Department will probably begin offloading its stake as soon as possible.

Wilson thinks a large secondary offering - perhaps as much as $25 billion - could commence just after the warrant deal is complete this month. Wilson's research shows that, the longer the government drags out the secondary offerings, as in the case of Citigroup (C), the less value taxpayers will receive from the deals.

"Moreover," he adds, "a large secondary offering will increase the volumes of the stock making an at-the-market sale of about 7% of the daily volume less time consuming."

He estimates that taxpayers are now looking at a $36 billion paper profit on their AIG investment.

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-- Written by Lauren Tara LaCapra in New York.

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