AMERICAN INTERNATIONAL GROUP(AIG)

COMPANY BACKGROUND

AIG was started as a general insurance company by Cornelius Vanderr Starr in 1919 in Shanghai, China and begin a life insurance operation in 1921. AIG expand their business in mainland China by opening branches in Hong Kong, Vietnam and Philippines in 1925 and open the first office in New York in 1926. The organization spread their firm to Latin America in 1930-1939. During the world war 2, the business were suspended. Right after World War 2, they began in new market around the globe including Japan and Germany, soon after World War 2, they open American International Underwriters offices to provide insurance for the US military in 1946. In 1948 they continue to spread even more to France and Singapore. In 1950-1959, they invest in insurer Globe and Rutgers Insurance Group, expand the company’s domestic market presence. They expand to UK, Lebanon, South Korea and Australia. Worldwide personal accident and health division were established in 1961 and began to write Directors and Officers liability insurance coverage and becoming a leading provider in 1966. AIG were chosen to be incorporates in Delaware in 1967 and informed as the best insurance organization and began a new era as a public company in 1969. AIG enters Sweden, Egypt, Hungary, Poland and Romania in 1973-1978 and introduces new energy, transportation and entertainment products to serve the needs of the customer in 1979. In 1980, A pollution liability program is introduced and acquires mortgage insurer. AIG begins trading on the New York Stock Exchange in 1984 and it was the first foreign organization list on the Tokyo Stock Exchange. In1992, Chinese Government grants AIG a license because of 40th years running profitability insurance company. In 1994, AIG gain a license to operate in Russia and launches internet site in 1995. AIG receives a license to market automobile insurance to Japanese consumers. In 2003, they bought 9.9% capital shares to invest in the people’s insurance. Martin J. Sullivan is appointed as the president and CEO. The company’s Disaster Relief Fund aids Hurricane Katrina recovery. AIG acquires Travel Guard and emergency travel assistance in 2006 and acquires Matrix Direct Inc marketer insurance. In 2009, Robert H. Besnmosche is name as a President and CEO. Today, AIG restructures itself, fully repays its assistance from US government plus a profit, restores its reputation and relaunches its brand.

SCANDAL METHODOLOGY

AIG was accused, and charged with security fraud, improper accounting, bid rigging and pratices involving workers compensation funds. Security fraud is also known as stock or investment fraud. It is the deceptive practice of inducing investors to purchase stocks based on false information. Maurice Raymond ‘Hank’ Greenberg, the Chief Executive Officer of AIG is the main player of this scandal and the key player were Joseph Cassano and Chris Dodd. It happened on 2000-2005, the nature of the scandal on 2000-2001 is they inflates their financial reports with help of ‘Gen Re’ and Securities and Exchange suspects that AIG may be conducting questionable accounting without solid evidence. On 2004, Security and Exchange fine lawsuit against AIG for engaging in fraudulent accounting and on 2005 AIG releases earning for 2004. he clamed loans as revenue and ordering traders to increase the stock price and massive total of $3.9 billion. The loans dressed up as profit. Joseph Cassano resigned after AIG Financial Products posted $11 billion in losses, now lives in an exclusive enclave and allowed to keep $34 million in bonuses and the company hired him as a consultant at $1 million a month. AIG received total 163 billion dollar loan none of this money was accounted for and then they only had to pay 112.5 billion back due to the government ‘slashing; the loan. He has not yet been prosecuted but is being watched very closely. Chris Dodd was responsible for bonuses given out to the people high up in the company and he had received more money from the scandal than anyone else but not was punished for anything that happened in the scandal. Essentially AIG attempted to give potential and existing investors that it had more money in its coffers for future claims that it in fact did. The fraud began in 2000 when AIG released a report that despite the fact that insurance premiums increased in their reserves fell. This lead to a 6% drop in AIG share price. Greenberg contacted Ferguson (Gen Re’s CEO) their re-insurer and asked them to absorb AIG’s loss of reserves to a maximum of 500 million for the next 24 months. In exchange AIG payed GenRe 5 Million dollars. This was made possible because AIG used reinsurance accounting while GenRe used deposit accounting. “This is very unusual. Why would a captive of large amount collect a very large amount of money and did not pay any claims? They could have gone through a loss-free year, but it does not seem alike.” Said Doug McLeod This difference in accounting technique allowed the companies to hide their fraudulent actions without detection. The deceitful accounting practices that took place had the following effect on AIG’s reserves for claims. While they were reporting net reserves in excess of tens of millions of dollars, they were in fact losing hundreds of millions of dollars. Many if not all of the accounting practices used in order to perpetrate the fraud flew in the face of either federal regulation or ethically accepted accounting practices. The collective manipulation of their ledgers and of investors by purposely using two different accounting methods is unethical however not illegal. However, their knowledge of the fact that which they were reporting as revenue was actually loss and the collusion in order to make it so is both unethical and illegal. The collective disregard for ethics displayed by those in positions of power and trust was shocking to most. While there was no immediate financial motive to gain by artificially inflating AIG reserves, such action kept AIG stock up of which both CEO’s had significant holding. In Addition to the GenRe scandal AIG was subsequently involved in a series of bad decisions and financial dealings that lead to their eventual bailout in 2007. “While none of those dealings were illegal at the time or required manipulation of financial documents, the ethics and responsibility of those transactions have been called into question by many. Between 2004 and 2005, investigation began against AIG in the hopes of discovering abnormalities. New York’s attorney general bombarded AIG with fraud investigation from the early to mid 2000s. AIG had played a role in the bid rigging and two of its executives plead guilty to criminal charges. The investigation began with two transactions between AIG and GenRe but after further notice AIG was found of being involved in one of the largest accounting fraud in USA at the time. They got bailed out by the Federal Reserve with eighty five billion dollar loan. “Inconceivable that the Federal Reserve could or should pay any role in preventing AIG’s collapse.” Said Geithner.

HOW THEY HIDE THE SCANDAL

AIG, the world’s largest insurance conglomerate hide their scandal by overstated their financial numbers which means detection of examining income patterns and their irregularities. Unusual changes in numbers might be a signal problem, as the accounting in an organization does now always corresponding expenses. Overstate revenue may be recognized by consistent cash flow problems. Another case is capital change in books, they change every number that recorded in the books to a bigger number so that the fraud can gain more without being caught easily. The third one is they fraud eleven billion dollars worth of investment without being investigated for six years of the scandal, in the end, AIG involved in penalty of one hundred million dollars to settle fraud charges for some companies that get involved in this case and seven hundreds million for disgorgement. The fourth way is about the balance sheet transaction, GenRe inflated the number in balance sheet and increasing dramatically AIG’s stock price but when the stock crash, a lot of investor lost five hundreds million dollars. Kept a secret is one of the causes, the bank of New York told AIG not to expose its financial swap agreement to the public by the settlement of payment to global banks. The last but not least, their accountants outside help to hide the scandal unknowingly by give them some share of the fraud and internal accountants failed to notify management failing investments issues such as sub-prime mortgages, mortgage backed securities, and collateralized debt obligations. Finally, this case was detected by several bank securities in New York such as investigation, Securities and Exchange Commission, US Justice Department and New York State Attorney General and the aftermath AIG discloses that reinsurance deal with Gen Re should have been accounted as a deposit, correct adjustment resulted in $1.32 billion reduction of net income, attorney general files civil suit against AIG, SEC files complaint about AIG. Total settlement with SEC and justice department was one point six billion dollars, CFO and CEO replaced that made Maurice Greenberg steps down and alleged violation of sixteen counts of the criminal code. “The board’s decision to provide this information represents a welcome step toward transparency and accountability as our investigation proceeds.” Said Elliot Spitzer.

EFFECT ON THE SCANDAL

There are several impact of this scandal such as decreasing stock market, financial institutions, bank run, wealth, global and the US itself. Stock that declined are Dow Jones in March 2009 to a mere 6600 points from 14000 in October 2007 in the US stock market. Many banks in financial institutions were also affected directly due to the financial crisis associated with the collapse of AIG, the international Monetary und estimated that larger US and European banks lost more than one trillion dollars from bad debts from January 2007 to September 2009. The losses were estimated to hit 2,8 trillion dollars by 2010. Initially, companies affected were those directly involved in home construction and mortgage lending. From 2007 to 2008, over 100 mortgage lenders went bankrupt, a major concern was that investment bank Bear Stearns would collapse which result in its sale to JP Morgan Chase. Several other major institution failed, acquired under duress or fell subject to government takeover, which included: Lehman Brothers, Merrill Lynch, Fannie Mae, Freddie Mac, Washington Mutual, Wachovia, Citigroup, and of course AIG. There was basically a bank run, which occurs when a large number of customers withdraw their deposits at the same time due to the fact that the assumption that the banks may become insolvent. Withdrawals topped at $144.5 billion versus the prior week of $7.1 billion. In a meeting on September 2008, Treasury Secretary Henry Paulson met with key legislator to propose a seven hundred billion dollars emergency bailout. This resulted in the Troubled Asset Relief Program signed into affect on October 2008. Wealth was affected estimated that Americans lost an averaged of more than twenty five percent of their net worth. By 2008, S&P five hundred was down by forty five percent. Housing prices had dropped twenty percent from their 2006 peak, with a projection of 30-35% drop 45 percent in the near future. Total home equity in the US dropped from 13 trillion dollars to 8.8 trillion dollars by mid 2008 and continued to fall. The total retirement asset dropped by 22 percent from 10.3 trillion to 8 trillion dollars. Savings and investment assets lost 1.2 trillion dollars. Pension assets lost 1.3 trillion dollars. Since its peak in 2007, household wealth was down by fourteen trillion dollars. The collapse of AIG inadvertently affected not only the US economy, but the global economy as well. The crisis continued, there could have been an extended recession or worse, although many governments began taking necessary actions to turn things around. Capital injections were made by the governments as well as cutting interests rates to help borrowers. UBS, an investment bank, estimated that Europe’s recession would last two quarters, the US would last three quarters, and the UK would last four quarters. The country that took the major hit was Iceland, relative to it’s size, suffered the largest banking collapse by any other country in economic history. The effect in the US itself, the Brookings Institution reported US consumption accounted for more than a third of the growth in global consumption in the years preceding the fallout. The US economy has been spending too much and borrowing too much for years and the rest of the world depended on the US consumer as a source for global demand. Regarding the recession in the US declines in growth elsewhere were dramatic due to the dependence on the US. GDP decline for Germany was 14.4 percent, Japan declined 15.2 percent, UK declined 7.4 percent, Latvia decline by 18 percent, Europe drop by 9.8 percent and Mexico declined by 21.5 percent. Millions of people suffered from the Economic Crisis which AIG played an important role. ”You want to give them something they’re not going to get on their own” said Kennan Simmon. Not only did the financial products division make unwise choices, but there accounting books were reportedly fraudulent too. They paid tens of millions in disclosed commissions to brokers to divide the market and engaged in stock price manipulation to inflate the AIG stock price. This was the first and only billion dollars class action settlement since the financial crisis began to unfold.

RECOMMENDATION

Recommendation is important for AIG’s future to not repeat the same mistake as before. I recommend that AIG should hire a whistle blower to reveals if there are any dishonest behavior in the organization. The official security should do more research about the company. Make sure the accounting is done right by making many accountants look it over. Make sure to pay back loans in a given time or take a reasonable loan. I suggest that they must not be greedy for money. Get CEOs who actually have a proper future plan for the company to improving its performance. When the situation are very critical I can suggest to go bankrupt if they need to rather being in a fraud case. Take matters into one’s own hand which mean handle the problem alone when others failed to face it. All transactions and revenue should be thoroughly checked by the government and many agencies to make sure that no number are wrong or miscount. Make sure the financial of the company are stable therefor it will be safe from fraud, bankruptcy and some other problem. Notify the government if the company are borrowing a large amount of loan. The employees can be train to learn more about what the company need to achieve its goals and especially the accounting which is really important for every business. They should always keep an eye on the top people of the company because in this case the biggest major player was the CEO Hank Greenberg, therefore the government and SEC should always keep a look out. The government should track these transactions between companies, because in this scandal it shows that the government did not know fully about the violation until the company exposed that they did an improper transactions. The investigators who have a doubt in a company should keep close attention to the company’s net income because in this case the net income of the company that was stated was not the real net income and I believe that are some ways I believe the government and SEC can stop situations like these from occurring.

REFERENCE

McLeod, D. (December, 2008) http://www.ipsnorthamerica.net/news.php?idnews=1906

Geithner, T. (August, 2010) http://www.thenation.com/article/153929/aig-bailout-scandal#

Spitzer, E. (March, 2005) http://online.wsj.com/news/articles/SB111218569681893050

Simmon, K. (February, 2010) http://www.forbes.com/2010/02/16/aig-business-travel-leadership-meetings-10-corporate-conferences.html