Second round

American International Group

Apr 7th 2005 NEW YORK
From The Economist print edition

A crafty, patient executive faces an ambitious, impatient prosecutor

ODDLY, things are looking up for American International Group (AIG). Yes, the embattled global insurer has admitted overstating past earnings and has postponed filing its financial statements with the Securities and Exchange Commission (SEC), provoking questions about how much the company is really worth; yes, there was an embarrassing kerfuffle between lawyers over the possible removal of critical documents in Bermuda; yes, regulators are looking through an ever-expanding list of suspect deals; and yes, Maurice “Hank” Greenberg (pictured above, on the left), the brilliant executive who built AIG, has been forced to sever his formal ties with the firm. But a company as aggressive as this has faced litigation before. Even as the headlines seem ever more dire, AIG and Mr Greenberg already looked poised for a modest comeback.

This week has seen two important events: one, a stunning concession by prosecutors; the other, the possible insulation from the reach of prosecutors of Mr Greenberg's control of AIG, even though he has left the firm. On April 4th, New York's attorney-general, Eliot Spitzer (above, on the right), said that the company would not face criminal prosecution and that there was likely to be a settlement. At a stroke, Mr Spitzer removed the single greatest threat to AIG. This is strange. The investigation is still at an early stage. AIG is a remarkably complex company. And only last year it was faulted by regulators for failing to be co-operative in another investigation. In going for a settlement rather than a trial, Mr Spitzer has spared the insurer the uncertainty of facing a jury and the possibility of embarrassing testimony. And his statement presumably encompasses other regulators, including the Department of Justice and the SEC, which are part of the joint investigation into AIG.

“That is about the dumbest thing I have ever seen; it's not negotiation, it's capitulation,” says Eugene Anderson, an attorney with Anderson Kill, a law firm that has frequently been in litigation with AIG over insurance claims. In contrast, AIG's owners were delighted. The company's share price, which had been on an extended slide (see chart), saw its first decent rally since the company's latest regulatory troubles began. At one point on April 4th, it was 9.2% up on the previous Friday's close; it ended the day 5.7% ahead.

Apparently, Mr Spitzer was motivated by a desire to calm financial markets. This has nothing to do with the law, but may suit the modern, ambitious public attorney. None of Mr Spitzer's main financial investigations has yet led to a trial. He likes quick settlements, and may simply have decided that a criminal prosecution would be too complicated and hard to be worthwhile. That said, Mr Spitzer's incentive to tie this one up quickly is particularly acute. He has said that he wants to be the next governor of New York. The election is due in the autumn of 2006 and the campaign is already warming up. Clobbering a large company based in lower Manhattan might do the cause more harm than good.

Now that Mr Spitzer has said that he is seeking a settlement, time is on AIG's side. Few companies know how to use time to their advantage so well. No insurer is a tougher litigator over claims, says Mr Anderson, and part of its strategy is typically to stall. The result, he adds, is that there is pressure to settle, and on terms advantageous to AIG. While there is no statistical benchmark for intransigence in litigation, AIG's unusually low cost of claims, relative to premiums, serves as a rough gauge of its success. In the coming months, this tenacity may prove as useful against regulators as it has been against customers.

At the same time as things are beginning to look up on the legal side, AIG has been undergoing an organisational metamorphosis that may have profound legal consequences. In the past two weeks Mr Greenberg has quit as both chief executive and chairman of AIG. Mr Spitzer declared this an example of prosecutorial success in an article in the Wall Street Journal on April 5th. But Mr Greenberg remains in charge of three entities that collectively control the largest block of AIG shares. Of these, the most important is Starr International, named after C.V. Starr, AIG's founder. This is a private Panamanian firm that holds 12% of AIG's shares and contributes significantly to the compensation of the insurer's executives, via handouts of these shares at retirement.

Last week, AIG said that its acting executives serving on Starr International's board would vacate their positions. These included Martin Sullivan, the chief executive, Donald Kanak, the chief operating officer, Edmund Tse, who runs the life-insurance arm, and at least six others whom AIG chose not to name. The executives would, however, retain their interests in AIG shares held by Starr International; the Panamanian company would thus continue to play a large role in their pay. Meanwhile, control of Starr resides among the men purged from AIG, notably Mr Greenberg, who remains Starr International's chairman, Howard Smith, AIG's former chief financial officer, who was dismissed for failing to co-operate with regulators' inquiries, and Michael Murphy, an aide of Mr Greenberg's, who was also fired by AIG for not co-operating.

America's regulators clearly have jurisdiction over AIG, a company listed on the New York Stock Exchange, based in New York and incorporated in Delaware; but Starr International is outside their purview. By separating the leadership of the two companies, the most obvious way to extract information has been broken. Even America's divorce lawyers, a particularly inquisitive lot, have found Starr International impenetrable. Mr Greenberg and his authority over AIG may have moved out of the regulators' reach.

If Mr Spitzer were to follow the pattern of his other investigations, the case against AIG would feature several resignations, a damning e-mail (though AIG, being familiar with the courts, has always been more careful about written communication than the investment banks Mr Spitzer went for a couple of years ago) and a fine that sounds large but is not crippling. What may be harder for AIG to confront are more prosaic business challenges. The premium the market used to place on its shares is largely gone, undermining a key aspect of its historic strategy: using a high stock price to buy more cheaply valued companies. With the loss of its vaunted AAA credit rating, its advantages in the debt markets are ebbing away as well. Mr Greenberg, as the head of Starr, might not be entirely pleased with the prospects of his investment.

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