AIG Had Stake in Reinsurer - TheStreet

As recently as four years ago,

American International Group

(AIG) - Get Report

reported a 20% ownership stake in a small offshore reinsurance firm that's part of a widening investigation of the nation's biggest insurer.

In fact, AIG, in every annual report it filed from 1997 through 2000, reported a 19.9% equity stake in

Richmond Insurance Co.

, the Bermuda-based reinsurer. Richmond's name disappeared from AIG's reports in 2000, and hasn't resurfaced since.

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

.

Barron's

reported this week that investigators believe AIG might have used Richmond and Union Excess to take poor-performing insurance policies off the company's hands.

An AIG spokesman couldn't be reached for comment. Officials with Richmond declined to comment on the matter.

Investigators also are examining a four-year-old insurance transaction between AIG and

General Re

, a

Berkshire Hathaway

(BRKA)

subsidiary, for evidence of earnings manipulation on AIG's part.

The degree of independence between AIG and Richmond could be critical for regulators because it may determine whether the transactions were legitimate and fairly negotiated. If regulators determine AIG had effective control over Richmond, it would mean that AIG was doing deals with itself.

It's clear that AIG continues to maintain close ties to Richmond to this day.

The reinsurer, which has only six employees, is headquartered at AIG's corporate offices in Bermuda. A Bermuda insurance registry lists AIG as Richmond's "management company."

Joseph C.H. Johnson, Richmond's president, has been an AIG employee in Bermuda since 1954. Richmond's two other senior executives also are AIG employees.

Legally, however, Richmond is not an AIG subsidiary.

Established in 1986 by AIG, German-based insurer

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 are not owned by any single insurer.

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 main reason to have a rent-a-captive is because it is simply less expensive," says Rosemary McAndrew, president of McAndrew Risk Management, a Massachusetts consulting firm.

Another advantage of a rent-a-captive firm is that it's easier to enter into an arms-length transaction with than a traditional subsidiary.

But an insurance lawyer, who did not want to be identified, says an issue that sometimes comes up with rent-a-captive firms is whether they are truly independent entities.

Meanwhile, on a related front, AIG confirmed Tuesday that it had fired two top executives, Chief Financial Officer Howard Smith and Christian Milton, a vice president for reinsurance, for failing to cooperate with the investigation. Smith was a longtime associate of Maurice "Hank" Greenberg, AIG's former CEO, who stepped down last week under pressure from the company's board.

The 79-year-old Greenberg's forced retirement came in the face of mounting regulatory scrutiny of his curious role in a four-year-old insurance deal between AIG and reinsurance firm Gen Re. New York Attorney General Eliot Spitzer and the

Securities and Exchange Commission

are intrigued by Greenberg's apparent personal involvement in negotiating the transaction that bolstered AIG's reserves at a time when Wall Street was demanding balance-sheet improvement.

Investigators are scouring the internal emails and phone logs of AIG and Gen Re employees, looking for evidence that the deal was just financial engineering designed to fool investors and regulators. People familiar with the inquiry say investigators want to determine whether General Re took on any actual risk of paying out on the projected claims. The transaction helped AIG boost its balance sheet reserves by $500 million.