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As regulators continue to shake skeletons out of American International Group Inc.'s closet and shareholders and customers hold their breath, analysts say the long-term implications are bound to affect the entire insurance industry.

Little is certain about what the fallout will look like in the end, either for AIG or for the insurance industry as a whole, but at the very least AIG's standing in the industry is no longer as sterling as it once was.

"Ibelieve that they're going to try to do business as usual," she says, "but that could potentially be challenged, going forward, by competitors and customers who may, after years and years of never having leverage with AIG, be finding some way to use their troublesome situation, in order to perhaps reprice a product."

The question then, says Sharaf, is whether the insurer will succumb to the pressure in order to preserve its existing customer base.

"In order to keep customers and their retention ratio, would they give a little?" she says. "They might ... but not a lot. I would bet anything that they're not going to give a lot. I don't think there's going to be any wholesale pricing aggressiveness just to keep customers."

Some habits will most certainly not be business as usual for AIG. One company specialty--the "creative" deal-making that was the hallmark of the finite reinsurance deal with Gen Re--will be a thing of the past. And not just for AIG and the myriad of firms associated with it.

That will be the case industrywide, says Steve Dreyer, practice leader for insurance ratings at Standard & Poor's.

"That goes back to the whole contingent commission debacle with Marsh last year and now with finite risk reinsurance and other practices," says Dreyer. "There's a lot of smoke and mirrors involved in this stuff, and it was accepted in the past that the smoke and mirrors were hiding a legitimate business practice but one that was complicated and could not be understood. Well, that doesn't work anymore."

He says that in the long run insurance companies will be limited in what they will be able to do in terms of financial engineering, or re-engineering. That may translate into a slower growth rate for shareholders.

"It's going to limit the scope of the things insurance companies can do, and it's going to limit their ultimate potential for profitability, because of the appearance of wrongdoing," he says. "Finite risk reinsurance, for example, is one that is rapidly becoming a label for something that's really bad and sinful. In fact, it's just one end of the spectrum of activities broadly classified as reinsurance, which we all would agree is a legitimate business practice."

AIG has gone a long way in the past few months, but in the wrong direction.

Late last year, New York Attorney General Elliot Spitzer and the U.S. Securities and Exchange Commission launched a probe into AIG's finite reinsurance transactions with Berkshire Hathaway's General Re Corp.

At issue was whether the deals in question were structured solely to make AIG's reserves for claims appear larger. Regulators are looking into whether there was enough of a transfer of risk to justify triggering insurance accounting procedures, which improved the company's balance sheet.

As investigators broadened the scope of their probe, they found dozens of AIG's transactions involving questionable accounting methods. Since 1999, investigators are questioning transactions totaling $1.5 billion to $3 billion.

The investigations have already led to the departure of AIG's longtime head Maurice R. "Hank" Greenberg, who ceded his posts of CEO and chairman in late March. It also prompted the firing of two top executives at the company as well as numerous departures and ousters at the boards of C.V.Starr & Co. and Starr International Co., companies associated with AIG.

Spitzer has made it clear that he's not looking to drag AIG through the criminal court system, and he expects to reach a civil (though no doubt sizeable) settlement with the company. Shareholders' ruffled feathers may have settled, at least for the short-term. But the long-term implications for the company are still up in the air.

May 1, 2005

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