Duperreault promises AIG is on the right track

AIG reported a drop in net income to $938 million in the first quarter of 2018 from $1.2 billion in the same period a year ago as natural catastrophes impacted the results.

The general insurance operations were hit by $376 million of catastrophe losses primarily related to the California mudslides, US winter storms and the Papua New Guinea earthquake, as well as $135 million of severe losses, according to a company statement.

The combined ratio in general insurance deteriorated to 103.8 percent in the first three months of 2018 from 99.8 percent in the same period a year ago. The operations delivered an underwriting loss of $251 million compared to underwriting income of $12 million a year ago. Adjusted pre-tax income in general insurance halved to $510 million from $1.06 billion over the period.

Nevertheless, Duperreault spread optimism during the conference call. “It's nearly a year since my return to AIG and over that time we've driven a meaningful change and have accomplished a great deal,” he said. “During last year, we successfully reorganized our businesses into general insurance and life and retirement and have attracted world-class talent and that momentum is picking up augmenting an already strong talent base.”

The remarks failed to impress investors and AIG shares slid more than 6 percent on May 3, the day the results conference call took place.

Stability in the loss ratio and lower-than-expected claims costs on prior-year policies won't be enough to appease investors looking for real improvement, said Goldman Sachs' Yaron Kinar. The turnaround plan, he says, is looking like more of a 2019 story, he added.

AIG has been loss-making for the past two years and recorded a $6.08 billion net loss for 2017. The general insurance operations delivered an underwriting loss of $4.48 billion in 2017, an improvement compared to a loss of $5.61 billion in 2016, but at the same time, a deterioration compared to a loss of $3.12 billion in 2015. The combined ratio improved slightly to 117.3 percent in 2017 from 118.9 percent in 2016, but deteriorated compared to 110.1 percent in 2015.

“I have declared 2018 as the year of the underwriter and we do expect to deliver an underwriting profit by the end of this year as we enter 2019,” Duperreault said. “Reaching a combined ratio of below 100 percent will come through a combination of actions to improve loss and expense ratios.”

Duperreault is also promising double-digit returns on equity (ROEs) in the medium term to shareholders. He explained that by pushing the combined ratio under 100 percent, taking that number and putting it against AIG’s capital, the result would be ROEs in the high single-digit already.

But in addition, AIG should be lifted to the market top quartile in terms of combined ratios and that includes expenses, Duperreault said. “Expense levels are too high. We want to be top quartile in our expense levels. We should be the most efficient. We're big enough to be taking advantage of our scale,” he noted.

AIG is reorganising and repositioning the general insurance business to make it become less volatile. In addition, “priorities include addressing underperforming segments, while growing profitable lines of business, reorganizing the end-to-end business units and attracting strong talent to transition the business to be more effective in the market,” Peter Zaffino, CEO general insurance, explained during the call.

“The adjusted accident year loss ratio of 63.1 percent was generally in line with last year and we were pleased to achieve improvements in our North America commercial long-tail lines and international commercial businesses,” Zaffino said.

The improvements were, however, largely offset by the impact of reinsurance on net earned premiums, higher severe losses, non-cat winter weather and business mix changes, Zaffino noted. “While our new cat reinsurance programmes impacted the accident year loss ratio, they've driven a decline of approximately 20 percent in the total AAL [average annual loss],” Zaffino said.

More to do in North America

In general insurance North America the combined ratio deteriorated to 112.2 percent in the first quarter of 2018 from 102.0 percent a year earlier.

But referring to North America's adjusted accident year loss ratio of 71.7 percent in the first quarter, Zaffino noted that it included commercial long-tail improvements and benefitted from AIG’s business mix strategy in personal insurance, while increased acquisition ratio was largely driven by business mix changes.

AIG continues to adjust the casualty business in North America. “I expect us to be improving every quarter throughout this year and next year as we reposition the portfolio looking at excess casualty, looking at financial lines,” Zaffino said.

A lot of the issues in casualty is excess of loss and this can not be fixed through pricing, Duperreault added. “It's a high severity, low-frequency book,” he explained, suggesting that adjustments need to be done in selection, attachment, and terms and conditions.

Buying more reinsurance

AIG is also reshaping its reinsurance strategy to reduce net exposures in many business areas. This has, however, had a negative side effect in the first quarter. Net premiums written in general insurance North America decreased by 12 percent year on year, driven by the net impact of the reinsurance programme and the strategic portfolio actions in US casualty and property.

AIG is reducing its net exposures in North America property cat, lowering the net limits on its property per risk in marine and purchasing an international cat treaty. The company is also reshaping its risk portfolio internationally.

“We took actions to further reduce volatility over the past quarter as we secured a new European casualty excess of loss programme,” Zaffino said. The plan is to expand it across the international business by the end of the second quarter.

The company also entered into a new workers' compensation catastrophe treaty that includes terrorism and expanded its aerospace programme by increasing the aggregate limit and reducing the net retention.

“While our reinsurance strategy will impact net premium written levels in the short-term, going forward our results should be less volatile,” Zaffino noted.

“We continue to expect that 2018 net premiums written will be relatively flat to 2017,” he added.

International business looks better

In international general insurance, the combined ratio is much lower than in North America, but also deteriorated in the first quarter of 2018 to 57.3 percent from 53.8 in the same period a year ago.

“The commercial adjusted accident year loss ratio improved compared to full year 2017 results and personal insurance continued to perform profitably with slight deterioration due to winter weather,” Zaffino commented.

“In Japan with the merger of AIU and Fuji Fire and Marine now complete, we're managing through the integration,” he noted.

AIG has merged its wholly-owned subsidiaries, AIU Insurance Company and The Fuji Fire and Marine Insurance Company to create the AIG General Insurance, the largest foreign non-life insurance company in Japan.

“We have experienced some reduction in new business following the merger which we had anticipated, but we expect to see improvement as we progress through the year,” Zaffino commented.

The international operations saw the accident year loss ratio in casualty improve due to some of the reinsurance actions AIG took at 1/1, Zaffino explained. But at the same time, AIG faced some losses that pierced some higher levels not seen in the past, he explained. As a reaction, AIG negotiated an excess of loss treaty for international casualty which will improve the accident year loss ratios in 2018, Zaffino said.

Banking on fresh talent

AIG is investing in its expertise and capabilities to improve the performance of its general insurance segment by hiring executives from competitors. In December 2017 AIG appointed Tom Bolt as chief underwriting officer, general insurance. He joined AIG from Berkshire Hathaway Specialty Insurance, where he was serving as president and CEO of the UK and Southern Europe.

“One of his first priorities has been to balance our gross and net per risk limits in select lines to further stabilize performance,” Zaffino said. “Tom is working with our business leaders to align on risk appetite, improve our pricing capabilities and utilize data to make better-informed decisions,” he added.

AIG has also hired Chris Townsend as CEO international general insurance. Townsend previously served as president of MetLife's Asia region, with responsibility for all businesses and operations across 11 markets in Asia.

“His early focus has been on finalizing the international structure, appointing leaders in our major geographies and better positioning AIG in the market by reviewing performance and risk appetite in certain countries,” Zaffino said.

More recently, AIG appointed XL Catlin's Anthony Vidovich as chief claims officer, general insurance. Vidovich has served as global head of claims, insurance and reinsurance at XL Catlin since 2015.

General insurance to deliver

Zaffino reiterated Duperreault’s promise that the combined ratio in general insurance will improve under 100 percent on an exit run rate basis by the end 2018 as the management’s underwriting actions and efforts to manage expenses earn into the financial results.

Regarding market conditions, AIG sees the situation in US property improving most. “Rates improved in the high single-digits on average across the portfolio with the most significant increases being driven by excess and surplus (E&S) property,” Zaffino said.

In US casualty, overall rate increases were similar to the previous quarter, remaining in the low to mid-single-digits but with wide variations depending on the line of business, attachment point and experience, Zaffino said. “We review loss cost trends and other variables regularly and adjust underwriting and pricing decisions accordingly,” he explained.

“While it takes some time for our underwriting actions to earn into the income statement, a combination of both loss ratio improvement and expense management will contribute to our 2018 exit run rate,” Zaffino said.

Even so, KBW analysts have lowered the earnings expectation for AIG in 2018 and 2019, mostly reflecting the company’s first quarter 2018 earnings miss and higher expected core loss ratios.

At the same time, KBW analysts maintain an “outperform” rating, since they think that AIG has now fully recalibrated its P&C earnings base, positioning it for growth in response to rising interest rates, generally favourable P&C pricing, and improving internal underwriting capabilities.

“We remain fully convinced that capable management can develop better broking relationships, attract better talent, and implement better underwriting processes that will translate - admittedly slowly - into better underwriting results,” the analysts said.