The Federal Reserve Board on Sept. 16 took the unprecedented step of taking control of 79.9% of American International Group’s stock in return for a loan of up to $85 billion designed to allow the company to “fund its operations in an orderly fashion.”
A Fed official said that daily operations “will be business as usual for AIG”
The government is intervening in part because of a concern that a failure of the AIG operations that act as counterparties in derivatives transactions and other complex transactions could trigger failures throughout the financial services industry.
“The board determined that, in current circumstances, a disorderly failure of AIG could add to already significant levels of financial market fragility and lead to substantially higher borrowing costs, reduced household wealth, and materially weaker economic performance,” the Fed says in a statement.
“The purpose of this liquidity facility is to assist AIG in meeting its obligations as they come due,” the Fed says. “This loan will facilitate a process under which AIG will sell certain of its businesses in an orderly manner, with the least possible disruption to the overall economy.”
AIG is a huge international company with more than $1 trillion in assets, including a number of property casualty and life insurance subsidiaries, as well as aircraft leasing and auto lending units. It also has a now-dormant mortgage lending unit.
The documents were signed by AIG’s board and Fed officials just after 9 p.m. on Sept. 16, several hours after Fed and Treasury Department senior officials briefed key members of Congress on the decision.
The AIG facility has a 24-month term. Interest will accrue on the outstanding balance at a rate of 3-month Libor plus 850 basis points, the Fed said. The rate equates to 11.3%.
Insurance subsidiaries and affiliates will remain subject to state regulation, but the “government” will appoint new management, the official said. Edward Liddy, former Allstate Corp. CEO was reported to be named to replace Robert Willumstad, AIG’s current CEO, according to a CNBC interview with Eric Dinallo, New York Superintendent (see related story below.) The board will remain the same at the moment, a senior Fed aide said.
The loan will be “fully” collateralized not by the assets of a particular subsidiary or affiliate, but the entire entity, the Fed official said.
But, the Fed official said he was “not prepared to answer” why the private sector declined during several days of talks to provide the company with liquidity.
A New York Insurance Department official said the effective takeover did not have to be approved by state regulators, but that appointment of new management will have to be approved by state regulators.
The loan covenant will give the agency veto power over “important management decisions,” such as sale of subsidiaries and payment of dividends.
A senior Fed official said the decision was made to provide liquidity to AIG but not to Lehman Bros., which filed for bankruptcy protection early on Sept. 15 because AIG constituted a “systemic risk” to the system.