By Hugh Son, Erik Holm and Craig Torres
Sept. 17 (Bloomberg) -- American International Group Inc. averted the worst financial collapse in history by accepting an $85 billion federal loan and giving the government a majority stake.
The U.S. reversed its opposition to a bailout of AIG, the nation's biggest insurer by assets, after private efforts failed and the Federal Reserve concluded that ``a disorderly failure of AIG could add to already significant levels of financial market fragility,'' according to a Fed statement late yesterday.
``It's an enormous relief,'' said David Havens, credit analyst for UBS AG in Stamford, Connecticut. ``Nobody really knows what it would have meant if they would have been allowed to fail, but there was an enormous amount of systemic risk. The problem was, nobody really knew how bad it could have been.''
AIG gives up a 79.9 percent stake to the government and senior managers including Chief Executive Officer Robert Willumstad, 63, will give up their jobs. Retired Allstate Corp. CEO Edward Liddy, 62, will be AIG's new leader, according to a person familiar with the plans, who declined to be identified because the change hadn't been formally announced. Allstate is the biggest publicly traded home and auto insurer in the U.S.
The two-year revolving loan gives AIG time to sell assets ``on an orderly basis,'' the New York-based insurer said late yesterday in a statement. The U.S. has the right to discontinue payment of dividends to AIG's common and preferred stockholders, who are already reeling from a 94 percent drop in common shares this year.
Global Disruptions
The agreement, supported by the Treasury Department, may avoid wider chaos in world markets that threatened to engulf more financial companies. Industry losses could have totaled $180 billion if AIG collapsed, according to RBC Capital Markets.
``This should help to calm the markets in the short-term and hopefully provides AIG some time to get their house in order,'' said Michael Cuggino, president and CEO of San Francisco-based Pacific Heights Asset Management LLC, which manages about $3.8 billion.
AIG posted three quarterly losses totaling $18.5 billion. The insurer was pushed to the brink of failure because of a business that sold credit-default swaps, the protection for debt investors that plunged in value as the securities they guaranteed declined. The company covered $441 billion of fixed- income investments for banks and other parties, including $57.8 billion in securities tied to subprime mortgages.
The insurer's survival became uncertain after credit-rating downgrades on Sept. 15 threatened to force AIG to post more than $13 billion in collateral when the company was already short on cash. AIG couldn't raise money by selling shares after the stock plunged to less than $4 a share, compared with $70.11 in October, 2007.
Loan Terms
The Fed's loan doesn't require asset sales or the company's liquidation, though these are the most likely ways AIG will repay the Fed, central bank staff officials told reporters on condition of anonymity. Interest will accrue at the three-month London interbank offered rate plus 8.5 percentage points.
The Fed doesn't have an expectation of whether AIG will be smaller, nonexistent or similar to its current form at the end of the loan's term, the staffers said.
The Fed or Treasury will end up actually holding the AIG stake, the staffers said. The Fed bailed out AIG while refusing aid to Lehman Brothers Holdings Inc., which collapsed earlier this week, because financial markets were more prepared for a Lehman failure, a Fed staff official said.
``It's extraordinary, I am floored,'' said former Treasury counsel Peter Wallison in an interview. ``No one could have possibly imagined this a few months ago. I can't imagine why the Fed would do this unless they were sure AIG's failure posed systemic risk. It does speak to the fears in the market.''
Greenberg's Redux
The rescue comes less than two weeks after the U.S. took over Fannie Mae and Freddie Mac as rising mortgage defaults threatened the companies. The Fed stepped in after JPMorgan Chase & Co. and Goldman Sachs Group Inc., which were brought in to help assess AIG, failed to come up with a solution, according to a person familiar with the talks.
Liddy is currently on the board of Goldman, the company Henry Paulson ran as CEO before becoming the U.S. treasury secretary in 2006.
Willumstad, the former Citigroup Inc. president who left the bank in 2005 to seek a CEO position, was named to AIG's top post in June. His predecessor, Martin Sullivan, was chief for three years until being ousted after two record quarterly net losses. Maurice ``Hank'' Greenberg reigned at AIG for almost four decades until he was forced to retire in 2005 amid regulatory probes.
Unit Sales
Greenberg, who remains one of the company's biggest stakeholders, said the company needed a bridge loan instead of a plan that put the company under government control. An investor group led by Greenberg said in a federal filing hours before the rescue was announced they might want to buy the company or some units or make loans to AIG.
``Why would you want to wipe out shareholders when you just need a bridge loan?'' Greenberg, 83, said in an interview before the announcement. ``It doesn't make any sense.'' Greenberg declined to comment after the Fed announcement, spokesman Glen Rochkind said.
AIG may sell its stake in reinsurer Transatlantic Holdings Inc., its consumer finance division American General Finance, its U.S. auto insurance business, and its asset manager, analysts have said.
Aircraft Leasing
AIG's aircraft-leasing unit International Lease Finance Corp. may be bought by investors led by the unit's founder, Steven Udvar-Hazy, the Wall Street Journal reported, citing unnamed people. Udvar-Hazy has been in discussions with potential investors since Sept. 14, the Journal said.
The insurer rejected a bid for a joint investment by Allianz SE and J.C. Flowers & Co. on Sept. 14, said two people with knowledge of the offer.
Allianz, Europe's biggest insurer, and Flowers, the New York-based private equity firm run by J. Christopher Flowers, proposed the cash infusion to help AIG fend off a liquidity crunch, the people said.
Sabia Schwarzer, an Allianz spokeswoman, declined to comment. Flowers and Nicholas Ashooh, an AIG spokesman, didn't return calls seeking comment.
To contact the reporters on this story: Hugh Son in New York at hson1@bloomberg.net; Erik Holm in New York at eholm2@bloomberg.net.
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