Posted by: Nanette Byrnes on October 07, 2008
The House of Representative’s Committee on Oversight and Government Reform is in the midst of its hearing on the decline of American International Group. The picture emerging is one of a far-too independent Financial Products group (AIGFP), home to the credit default swap business that eventually drew the insurer to the brink of bankruptcy, a board of directors that had been warned by the company’s auditor about problems valuing those contracts, and management that had very little clarity about just how much AIG was on the hook for.
There’s plenty here to fuel taxpayer anger over government aid to Corporate America. Exhibit A: a $443,343.71 bill for a subsidiary’s executive retreat taken just days after the New York Fed came to the company’s rescue with an emergency $85 billion line of credit. Hosted at the St. Regis Resort Monarch Beach in Dana Point, California, the event racked up nearly $7,000 in golf fees and $23,280.00 was spent at the Spa Gaucin, where massages start at $175 and facials can cost as much as $350. Following the hearings, AIG CEO Edward Liddy clarified that the event was for top independent agents, and of 100 attendees, only 10 were employees, none from headquarters.
Also damning, the termination agreement with the former head of AIGFP, Joseph T. Cassano, outlining a 9-month consulting contract under which he continued to be paid $1 million a month.
Of deeper concern are a series of questions answered for the Committee by a man named Joseph W. St. Denis, vice president of accounting policy at AIG Financial Products from June 2006 until his unhappy departure in October 2007. St. Denis had been hired to address material weaknesses at AIGFP but clashed with Cassano, and his answers describe a leadership at AIGFP that made it impossible for him to that job.
More detail is coming out, too, about the two challenges that lead to AIG’s severe crisis last month. The first was the fact that AIG had agreed to post collateral on its credit default swaps if its ratings fell. In June 2007, SEC filings indicated counterparties to AIG in credit default swaps had asked for collateral of $847 million. By February 2008 that was up to $5.3 billion. Four months later it was $16.5 billion. And last Friday, new CEO Edward Liddy said the company had borrowed $61 billion of the $85 billion available from the government, and that as much as $54 billion of that had gone to AIGFP.
Those downgrades were linked to AIG’s other problem: its need to value those contracts, many of which were exposed to declines in the subprime mortgage market. As of June, AIG had determined its market loss on these AIGFP contracts to be $26 billion.
Former CEOs Martin Sullivan and Robert Willumstad are putting a lot of blame on mark-to-market accounting, which caused the company to have to log the lost value of their derivative contracts. But former SEC chief accountant Lynn Turner argued firmly against modifying those rules in his own testimony.
Long-time AIG CEO Maurice Greenberg summed it up simply in his written testimony: “Additional risk AIG had taken on through these new credit default swaps…appears to have been substantially unhedged,” he wrote. A mistake, clearly, no matter what the accounting rules say.
Greenberg had been slated to testify in person, but bowed out due to illness.
How can you manage smarter? BusinessWeek writers Nanette Byrnes, Patricia O’Connell, Emily Thornton, Matthew Boyle, Michelle Conlin and Diane Brady synthesize insights from the brightest business thinkers, critique the latest management trends, and comment on leaders in the news.