Is AIG a Smart Investment?
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Former Wall Street darling, AAA rated insurance giant American International Group (NYSE: AIG) reported earnings last week, as a modest shell of its former self. The company was, by a wide margin, the largest recipient of government largess in the recent recession. The U.S. Treasury and the New York Federal Reserve branch combined to loan, or invest, nearly $200 billion into the company last decade as a lifeline, and at the close of the first quarter of 2012 still owned roughly a 70% stake in the company.
Results for the first quarter for the company came in at $3.2 billion, sort of. Let us not be so naive as to believe anything is ever simple and straight forward when it comes to its earnings. From a company with worldwide presence, but a particular focus on eastern Asia, AIG has only two real operating units now, a life insurer and a property insurer. It still has its aircraft leasing unit, but that has always been an overly glamorized and relatively small part of AIG's business, and really should long ago have been sold off as it is not even arguably a core part of AIG. Net income per share came to $1.71 per diluted share, an enormous improvement from the $1.3 billion, or $0.31 per share in the year earlier quarter. Operating profits, which exclude much of AIG's hedging and investing activities, came to $3.1 billion, or $1.65 per share, compared with last year's $2.1 billion, or $1.34 per share. Analysts had expected earnings of $1.19 per share, so it surely looked like a great quarter.
AIG's property unit, Chartis, had a reasonable quarter, but danger signals abound. It reported earnings of about $0.9 billion, reversing a year ago loss of over $400 million. It accomplished this by the kindness of Mother Nature, as catastrophic claims losses fell by nearly 75% from the year earlier, which in turn led to Chartis' claims ratio falling from 89.7% a year ago to 68% in the first quarter of 2012. Chartis' business is principally in the Pacific Rim, and catastrophic claims are a real part of its business. But the “whens” of catastrophes are out of any insurers' control, and if a quarter comes with no meaningful catastrophic claims, just say “thank you” and move on. What Chartis can control is its expense ratio, which has climbed quarter by quarter from 28.9% a year ago, to 34.1% in the first quarter of this year. That over five point expansion in expense ratio is simply absurd for AIG, and needs to be addressed immediately. The combined ratio of 102.1%, while not bad, really should have been a bit better than it was.
AIG's life insurance company, SunAmerica, had its typical solid quarter, with net earnings of $862 million. But the operating income, before hedging and investment losses, was $1.3 billion, up from $1.2 billion in the year earlier. Bottom line income fell from the year ago's $967 million, largely because investment losses in the quarter were more than double the year ago quarter, at $466 million.
SunAmerica's business is inherently consistent compared to property / casualty carriers.
The aircraft leasing company, as I mentioned, is a small part of AIG's portfolio. After taking a huge, mark to market write off in mid-2011, earnings settled at $120 million for the division in the first quarter of 2012, exactly the same as the year earlier quarter. There is growth potential here as new airlines around the world want operations without having the cash to buy new aircraft. But compared to the insurance operations, airplane leasing will never be material, nor core, to AIG.
So, if between the two insurance arms and the aircraft leasing we have about $2 billion in profits, how did AIG post over $3 billion in consolidated earnings? One of those pesky old asset / debit reevaluation measures. It seems so often that companies with these types of variables manipulate them at will. But AIG's profits would have been quite acceptable, even without the adjustment. What goes up will surely come down, and vice versa. And the company, which is making billions from operating companies with some reliability right now, still has critics.
So, the company with all these owned Asian and American businesses is really down just to two. Just like many other insurance holding companies, there is the property casualty division, and the life division. Growth will be slow, and the company, when it settles down, will be profitable, yet a bit on the dull side.
The U.S. Treasury is slowly but surely selling off its enormous stake in AIG, and in early May is making its third divestiture. The issue for current shareholders is one of dilution. The issue for the Treasury is saving face from a political standpoint.
I see AIG as perhaps approaching investment grade for the average interested investor. I want to see how the market digests increasing large government sales, and also, how criticism of the governments' treatment of AIG in the form of extending tax breaks from last decade's losses to offset any current federal tax liability affects things, particular since Elizabeth Warren is likely going to be a sitting U.S. Senator soon.
For a real quality combined insurer, look to CNA Financial (NYSE: CNA), a leading property and life insurance holding company. This steady insurance company reported profits of $250 million, or $0.93 per share. This represented a smart, 14% advance from the $220 million, or $0.82 per share in the year ago quarter. The company also smashed analysts' expectations of $0.68 per share. These results came on the strength of a combined ratio of 97.3%. CNA is noted for its efficient and somewhat strict underwriting, which often comes in handy at quarterly income time. The company also raised its dividend to $0.15 quarterly, matching what it had been paying prior to the recession.
CNA is 90% owned by Loews, but that should not deter a conservative investor seeking a buy and hold insurance carrier. CNA is expected to achieve average profit advances of 5% over the next five years. There is nothing too exciting here, but then, a well-run insurer is rarely exciting.
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