This Insurer Has Improved Tremendously, But Is it a Buy Yet?

Matthew is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

We all know insurance giant American International Group, or AIG (NYSE: AIG), which is infamous for its extreme downward spiral during the financial crisis. Despite its reputation, the company has made great progress in turning itself around. AIG has fully repaid the $182.3 billion in government aid that it received, and most agencies regard their financial position as stable. With shares of the company still looking attractive after a 22% gain in the last four months, now seems like a good time to take a closer look at AIG, which is due to report its latest results on Thursday August 1. 

AIG today

Although AIG is still an enormous company, they are somewhat smaller than they were pre-crisis. In order to pay back its government loans, AIG sold some of its assets, including 21st Century Insurance, American Life Insurance Co, and other parts of their businesses. The U.S. Treasury also was issued a considerable amount of common stock in AIG, which it sold the last of in December of 2012. At the end of the day, the government made a profit of $22.7 billion on its support of AIG.

Currently, AIG has approximately 63,000 employees and serves customers in 130 countries all over the world. Products include property casualty insurance, life insurance, and mortgage insurance. One of the most positive outcomes of the crisis on AIG was that it forced the company to reduce its debt to a manageable level. As you can see in the chart below, the company’s long-term debt today is about one-fourth of its pre-crisis peak.

Looks cheap, but is it worth the risk?

While AIG certainly has a long way to go before it is completely out danger, the added risk that comes with owning the company’s shares is reflected in the form of reduced valuation. AIG is expected to earn $3.90 per share this year, meaning that it trades for 11.9 times current year earnings. The company is projected to grow its earnings to $4.17 and $5.02 in 2014 and 2015, respectively, which represents annual earnings growth of 13.7% on average. 

So, AIG shareholders are compensated for the additional risk they take on by owning the stock. There is always the possibility that the company will need to raise additional cash while trying to further clean up its asset portfolio, which would dilute shareholders even further. While I don’t see that happening anytime soon, shares trade at about a 20% discount to their tangible book value to make up for the possibility. Before we go jumping in, let’s take a look at a couple of slightly less risky names in the sector to see what our investment dollars can get us.

Other ways to go

In terms of size and global reach, AIG is in a class by itself as far as U.S.-based insurance companies go, but two that have comparable product offerings and business models include Hartford Financial Services (NYSE: HIG) and Loews Corp (NYSE: L).

Hartford is one of the largest multi-line insurers, and is focused on property-casualty, group benefits, and mutual funds. In order to sharpen its focus, the company sold off its retirement services, life insurance, and annuity business units over the past year. Hartford still has a long way to go in its restructuring, but the company trades for a very low P/E of just 9.6 times 2013’s earnings. While Hartford is far from being “low-risk”, it has a risk/reward that certainly looks attractive, especially if the company is successful in its new direction.

Loews is perhaps the least risky of the three, with interests in property/casualty insurance as well as other assets such as hotels, offshore oil and gas drilling, natural gas liquids, and interstate gas pipelines. Loews is a way to get insurance exposure while adding some diversity so that earnings are not completely dependent on one line of revenue. While insurance still makes up about two-thirds of Loews’ revenue, I find the diversified holdings of the company to be very appealing. The lower risk level is also priced into the shares, as Loews is the most “expensive” company here at 14.5 times this year’s expected earnings.

Final thoughts

I am still a bit hesitant to get involved in AIG, despite all of the positive developments of the past few years. When the company reports, I’m paying attention to the progress of winding down their riskier assets, as well as how the company plans to continually improve its financial position. As far as the earnings numbers go, a poor number could result in a dip in share price, at which point an investment in AIG may make more sense from a risk/reward perspective.

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Matthew Frankel has no position in any stocks mentioned. The Motley Fool recommends American International Group and Loews. The Motley Fool owns shares of American International Group and Loews and has the following options: long January 2014 $25 calls on American International Group. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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