AIG Reinsurer Has Another Big Owner

Munich Re has a 49% stake in Richmond Insurance.
By Matthew Goldstein ,

Richmond Insurance Co., the tiny offshore reinsurance writer whose corporate pedigree has piqued the interest of regulators investigating

American International Group

(AIG) - Get Report

, is half-owned by

Munich Re

, the German company confirmed.

Munich Re

is the single largest investor in Richmond, a six-employee company that insurance regulators and prosecutors suspect AIG may have used as a dumping ground for some of its poor-performing insurance contracts.

The stake "is a fact very much in AIG's favor," says Dan Tinkelman, an associate professor of accounting at Pace University. "With a real outside party with that large of a stake, it could be that AIG doesn't have control."

A Munich Re spokeswoman says the insurer owns a 49% equity interest in Richmond, which operates out of Bermuda, Barbados and Gibraltar, three countries known for their lax corporate laws. The German insurer's ownership stake in Richmond also is reported in a 34-page document on Munich Re's Web site, called

"Overview of Munich Re Shareholdings".

"The participation is of relatively minor significance.

Its book value is in the low double-digit millions," a Munich Re spokeswoman said in an email response to a question about Richmond. "It is entered in our books at equity in line with accounting regulations."

AIG, by contrast, has a 19.9% equity stake in Richmond, which is run out of AIG's main Bermuda office on Richmond Road. AIG appears to be the reinsurer's primary source of business, according to insurance filings tabulated by ScheduleF.com, a division of Dowling & Partners Securities.

Federal and state investigators looking into allegations of earnings management at AIG are trying to determine whether the big insurer exerted undue control over Richmond and another offshore reinsurer,

Union Excess

, which is based in Barbados. Questions have arisen over whether some of AIG's reinsurance transactions were subject to proper negotiation and risk-transfer, qualities that would presumably be absent if AIG's deals were with an entity it controlled.

A determination that AIG controlled Richmond might have forced the New York company to consolidate the reinsurer's assets with its own and restate its financial statements for the past several years.

To prove AIG called the shots at Richmond, investigators would need to show that Munich Re "subordinated" itself to AIG's demands, Pace's Tinkelman says.

A spokesman for New York Attorney General Eliot Spitzer, one of the officials pursuing the AIG investigation, could not be reached for comment.

Established in 1986 by AIG, Munich Re and other unknown firms, Richmond was set up as a so-called "rent-a-captive" reinsurer. Rent-a-captives are companies formed by a group of insurers, but generally in a manner that permits each insurer to disclaim actual ownership for accounting purposes.

In Bermuda, rent-a-captives have become a popular vehicle for permitting big insurers to combine their powers to buy reinsurance protection. Rent-a-captives also require a smaller capital commitment from an insurer than forming a wholly owned subsidiary. The rent-a-captive structure enables an insurer to avoid consolidating a reinsurer's assets and liabilities onto its balance sheet.

Big insurers use reinsurance contracts to free up capital that they need to set aside in reserves to pay for future claims on outstanding policies.

AIG currently treats Richmond and Union Excess as unaffiliated subsidiaries in which it has a minority investment interest. Neither reinsurer has been consolidated into AIG's balance sheet. In fact, AIG stopped publicly disclosing information about its investment in Richmond in 2001, after determining it didn't have to under U.S. securities laws. The big insurer has never disclosed the size of its investment in Union Excess.

Under traditional accounting rules, a company must own more than 50% of another business to be required to consolidate the business onto its books.

There's no denying AIG has close ties to Richmond, and that's clearly something that has caught the interest of regulators.

A Bermuda insurance registry lists AIG as Richmond's "management company." The only published telephone number for Richmond is the general number for AIG's Bermuda offices.

All three of Richmond's top executives also are top executives with AIG. Joseph C.H. Johnson, Richmond's president, has been an AIG employee in Bermuda since 1954. He is also a director of Starr International, AIG's largest shareholder, owning about $19 billion of AIG stock.

Starr, created decades ago by AIG, provides deferred compensation to the insurer's executive-level employees. Maurice "Hank" Greenberg, AIG's former CEO, who stepped down last week under pressure because of the investigation, is another Starr director. Greenberg, who ruled AIG with an iron fist for nearly four decades, remains AIG's chairman.

In 2003, the most recent statistics available from ScheduleF.com, AIG was the only U.S. insurer to purchase reinsurance coverage from Richmond. At the end of 2003, Richmond had $666 million in net recoverables outstanding from 11 AIG subsidiaries.

Net recoverables denote money owed to Richmond on the reinsurance contracts. If regulators determine AIG did control Richmond, the $666 million would be added as liability onto AIG's balance sheet, because the insurer would not have really transferred any risk to another party.

But close ties between AIG and Richmond may not be enough to build a case against the nation's biggest insurer.

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