CreditSights analysts weigh up AIG’s $9.8bn reinsurance deal with Berkshire Hathaway

American International Group’s  (AIG) $9.8 billion reinsurance deal with Berkshire Hathaway covering US commercial long-tail exposures for accident years 2015 and prior comes at a “significant” cost for AIG but should offer improved earnings stability, according to analysts at CreditSights.

The analysts view the deal as credit positive in that future reserve charges on older blocks of business will be mostly absorbed by the deal providing improved earnings stability and partial protection against particularly adverse reserve developments.

But they also noted that “this comes at a significant cost given that AIG will be paying $9.8+ billion for the deal (of which ~$7.2 billion is currently set to be reimbursed) and will likely book a first quarter loss associated with the deal.”

They added: “From AIG's perspective, this is essentially a one-time lump sum payment to put many of its past underwriting challenges behind it. AIG's equity and credit performance has been dogged by frequent reserve adjustments and unexpected negative development associated with commercial P&C insurance.

“Furthermore, given that the liability side of the balance sheet is largely behind closed doors and unavailable to investors, it was difficult for either equity or credit to get comfortable with the level of reserves.”

They noted that AIG's commercial combined ratio has frequently exceeded 100 percent, meaning that the business was posting underwriting losses that needed to be made up through investment income. And certain quarters, such as 4Q15 and 4Q12, a reserve review process led to excessively high combined ratios of 160.4 percent and 130.4 percent.

The also noted that while the reinsurance deal will also free up capital for AIG, they expect that the company will return this capital to shareholders as part of its capital return plan.

“Though the reinsurance deal, to a partial extent, cleans the slate and addresses AIG's mixed underwriting of the past, we will need to see improved and consistent underwriting performance on new business before we expect so see credit spreads tighten,” the analysts noted.

“To that end, we give credit to management for emphasizing the importance of improved underwriting performance and for very clearly making it a priority. The company is willingly exiting unprofitable lines of business, choosing not to renew certain customers with lone products and limited cross-selling opportunities, and has shown some progress towards improving the current year accident loss ratio.

“The pressure is on for AIG and management to deliver strong current and future underwriting performance, especially in light of the fact that AIG also announced that it expects a material prior year adverse reserve development in 4Q16.”

Did you enjoy reading this story?  Sign up to our free daily newsletters and get stories like this sent straight to your inbox.