AIG and its subsidiaries operate from approximately 250 offices in the United States, 5 offices in Canada and numerous offices in other foreign countries. The offices in Manchester, New Hampshire; Springfield, Illinois; Houston, Texas; Atlanta, Georgia; Baton Rouge, Louisiana; Wilmington, Delaware; Hato Rey, Puerto Rico; San Diego, California; Greensboro, North Carolina; Livingston, New Jersey; 70 Pine Street and 72 Wall Street in New York City; and offices in approximately 30 foreign countries including Bermuda, Hong Kong, the Philippines, Japan, England, Singapore, Taiwan and Thailand are located in buildings owned by AIG and its subsidiaries. The remainder of the office space utilized by AIG subsidiaries is leased.
(a) Represents the sum of general net premiums earned, life premium income, agency commissions, management and other fees, net investment income, financial services commissions, transaction and other fees, equity in income of minority-owned insurance operations and realized capital gains. (See also tables under Item 1, "Business".)
(c) Including commercial paper and excluding that portion of long-term debt maturing in less than one year.
General insurance operations for the twelve month periods ending December 31, 1995, 1994 and 1993 were as follows:
In AIG's general insurance operations, 1995 net premiums written and net premiums earned increased 9.5 percent and 10.9 percent, respectively, from those of 1994. In 1994, net premiums written increased 8.4 percent and net premiums earned increased 7.5 percent when compared to 1993.
AIG's results reflect the net impact with respect to incurred losses of catastrophes approximating $100 million in 1995, $55 million in 1994 and $70 million in 1993. AIG's gross incurred losses from catastrophes approximated $190 million in 1995, $174 million in 1994 and $134 million in 1993. The Kobe Japan earthquake which struck in early 1995 resulted in gross and net incurred losses to AIG of approximately $73 million and $30 million, respectively. A substantial portion of the remaining balances resulted from storms which struck portions of the United States and the Caribbean. The Northridge earthquake which struck the Los Angeles area of California in January, 1994, resulted in gross and net incurred losses of approximately $174 million and $55 million, respectively. If these catastrophes were excluded from the losses incurred in each period, the pro forma consolidated statutory general insurance ratios would be as follows:
Excluding the effects of the aforementioned catastrophes, the general insurance operation has improved significantly over the three year period. AIG's ability to maintain the pro forma combined ratio below 100 is primarily attributable to the profitability of AIG's foreign general insurance operations and AIG's emphasis on maintaining its disciplined underwriting, especially in the domestic specialty markets. In addition, AIG does not seek net premium growth where rates do not adequately reflect its assessment of exposures.
General insurance net investment income in 1995 increased 7.7 percent when compared to 1994. In 1994, net investment income increased 7.1 percent over 1993. The growth in net investment income in each of the three years was primarily attributable to new cash flow for investment. The new cash flow was generated from net general insurance operating cash flow and included the compounding of previously earned and reinvested net investment income. (See also the discussion under "Liquidity" herein.)
General insurance realized capital gains were $68.1 million in 1995, $52.5 million in 1994 and $65.3 million in 1993. These realized gains resulted from the ongoing management of the general insurance investment portfolios within the overall objectives of the general insurance operations and arose primarily from the disposition of equity securities and available for sale and trading fixed maturities as well as redemptions of fixed maturities.
AIG's general reinsurance assets amounted to $16.88 billion and resulted from AIG's reinsurance arrangements. Thus, a credit exposure existed at December 31, 1995 with respect to reinsurance recoverable to the extent that any reinsurer may not be able to reimburse AIG under the terms of these reinsurance arrangements. AIG manages its credit risk in its reinsurance relationships by transacting with reinsurers that it considers financially sound, and when necessary AIG holds substantial collateral in the form of funds, securities and/or irrevocable letters of credit. This collateral can be drawn on for amounts that remain unpaid beyond specified time periods. The application of this collateral against balances due or any changes to the amount of collateral are based on the development of losses recoverable on an individual reinsurer basis. This development includes losses incurred but not reported (IBNR). Approximately 50 percent of the general reinsurance asset is from unauthorized reinsurers. In order to obtain statutory recognition, nearly all of these balances are collateralized. The remaining 50 percent of the general reinsurance asset is from authorized reinsurers and over 96 percent of such balances are from reinsurers rated A-(excellent) or better, as rated by A.M. Best. This rating is a measure of financial strength. The terms authorized and unauthorized pertain to regulatory categories, not creditworthiness.
AIG maintains a provision for estimated unrecoverable reinsurance and has been largely successful in its previous recovery efforts. At December 31, 1995, AIG had allowances for unrecoverable reinsurance approximating $125 million. At that date, and prior to this allowance, AIG had no significant reinsurance recoverables from any individual reinsurer which is financially troubled (e.g., liquidated, insolvent, in receivership or otherwise subject to formal or informal regulatory restriction).
The consolidated general reinsurance assets of $16.88 billion include reinsurance recoverables for (i) paid losses and loss expenses of $1.74 billion and (ii) $13.35 billion with respect to the ceded reserve for losses and loss expenses, including ceded IBNR (ceded reserves). The ceded reserves represent the accumulation of estimates of ultimate ceded losses including provisions for ceded IBNR and loss expenses. The methods used to determine such estimates and to establish the resulting ceded reserves are continually reviewed and updated. Any adjustments
At December 31, 1995, general insurance reserves for losses and loss expenses (loss reserves) amounted to $33.05 billion, an increase of $1.61 billion or 5.1 percent over the prior year end and represent the accumulation of estimates of ultimate losses, including IBNR, and loss expenses and minor amounts of discounting related to certain workers' compensation claims. General insurance net loss reserves increased $1.27 billion or 6.9 percent to $19.69 billion and represent loss reserves reduced by reinsurance recoverable, net of an allowance for unrecoverable reinsurance. The methods used to determine such estimates and to establish the resulting reserves are continually reviewed and updated. Any adjustments resulting therefrom are reflected in operating income currently. It is management's belief that the general insurance net loss reserves are adequate to cover all general insurance net losses and loss expenses as at December 31, 1995. In the future, if the general insurance net loss reserves develop deficiently, such deficiency would have an adverse impact on such future results of operations.
A variety of actuarial methods and assumptions are normally employed to estimate net losses for long tail casualty lines. These methods ordinarily involve the use of loss trend factors intended to reflect the estimated annual growth in loss costs from one accident year to the next. Loss trend factors reflect many items including changes in claims handling, exposure and policy forms and current and future estimates of monetary inflation and social inflation. Thus, many factors are implicitly considered in estimating the year to year growth in loss costs. Therefore, AIG's carried net long tail loss reserves are judgmentally set as well as tested for reasonableness using the most appropriate loss trend factors for each class of business. In the evaluation of AIG's net loss reserves, loss trend factors vary slightly, depending on the particular class and nature of the business involved. For the majority of long tail casualty lines, net loss trend factors approximating nine percent were employed. These factors are periodically reviewed and subsequently adjusted, as appropriate, to reflect emerging trends which are based upon past loss experience.
Estimation of asbestos and environmental claims loss reserves is a difficult process. These asbestos and environmental claims cannot be estimated by conventional reserving techniques as previously described. Quantitative techniques frequently have to be supplemented by subjective considerations including managerial judgment. Significant factors which affect the trends which influence the development of asbestos and environmental claims are the inconsistent court resolutions, judicial interpretations which broaden the intent of the policies and scope of coverage and the increasing number of new claims. The case law that has emerged can be characterized as still being in its infancy and the likelihood of any firm direction in the near future is very small. Additionally, the exposure for cleanup costs of hazardous waste dump sites involves issues such as allocation of responsibility among potentially responsible parties and the government's refusal to release parties. The cleanup cost exposure may significantly change if the Congressional reauthorization of Superfund expected in 1996 dramatically changes, thereby reducing or increasing litigation and cleanup costs.
In the interim, AIG and other industry members have and will continue to litigate the broadening judicial interpretation of the policy coverage and the liability issues. At the current time, it is not possible to determine the future development of asbestos and environmental claims. Such development will be
A summary of asbestos and environmental claims count activity for the years ended December 31, 1995, 1994 and 1993 were as follows:
Life insurance operations for the twelve month periods ending December 31, 1995, 1994 and 1993 were as follows:
As previously discussed, the U.S. dollar declined in value in relation to most major foreign currencies in which AIG transacts business. Accordingly, when foreign life premium income was translated into U.S. dollars for purposes of consolidation, total life premium income was approximately 3.4 percentage points greater than it would have been if translated utilizing exchange rates prevailing in 1994.
The growth in the premium income of the domestic life segment resulted primarily from the sales of terminal funded pension plan annuities and to a lesser extent the renewal of risk bearing premium related to COLI. Additionally, the interest income earned on the policy loans associated with the life products caused domestic investment income to increase significantly.
Life insurance operating income in 1995 increased 14.5 percent to $1.09 billion compared to an increase of 21.9 percent in 1994. Excluding realized capital gains from life insurance operating income, the percent increases would be 22.2 percent and 19.1 percent in 1995 and 1994, respectively. The contribution of life insurance operating income to income before income taxes and the cumulative effect of accounting changes amounted to 31.5 percent in 1995 compared to 32.3 percent in 1994 and 30.0 percent in 1993.
surance. The life insurance operations have not entered into assumption reinsurance transactions or surplus relief transactions during the three year period ended December 31, 1995. (See also Note 5 of Notes to Financial Statements.)
Financial services operations for the twelve month periods ending December 31, 1995, 1994 and 1993 were as follows:
ILFC is exposed to loss through non-performance of aircraft lessees, through owning aircraft which it would be unable to lease or re-lease at acceptable rates or sell at lease expiration and through committing to purchase aircraft which it would be unable to lease. ILFC manages its lessee non-performance exposure through credit reviews and security deposit requirements. At December 31, 1995, only three of 278 aircraft owned were not leased and these three aircraft have been committed
In 1995, AIG's equity in income of minority-owned insurance operations was $81.7 million compared to $56.0 million in 1994 and $39.6 million in 1993. In 1995, the equity interest in insurance companies, which includes two equity operations which commenced business during 1993, represented 2.4 percent of income before income taxes and the cumulative effect of accounting changes compared to 1.9 percent in 1994 and 1.5 percent in 1993.
Other realized capital losses amounted to $28.9 million, $52.3 million and $12.7 million in 1995, 1994 and 1993, respectively.
Minority interest represents minority shareholders' equity in income of certain consolidated subsidiaries. In 1995, minority interest amounted to $36.3 million. In 1994 and 1993, minority interest amounted to $29.7 million and $26.9 million, respectively.
In 1995, AIG recorded a provision for income taxes of $955.5 million compared to the provisions of $776.5 million and $683.0 million in 1994 and 1993, respectively. These provisions represent effective tax rates of 27.6 percent in 1995 and 26.3 percent in each of 1994 and 1993. The increase in the effective tax rate in 1995 over prior years is primarily due to the profitability of domestic general adjusted underwriting relative to income before income taxes and the cumulative effect of accounting changes. (See Note 3 of Notes to Financial Statements.)
Net income amounted to $2.51 billion in 1995, $2.18 billion in 1994 and $1.94 billion in 1993. The increases in net income over the three year period resulted from those factors described above.
Although financing may be obtained through other sources, GIAs serve as the primary source of proceeds for AIGFP's investments in a diversified portfolio of securities and derivative transactions. (See also the discussions under "Operational Review", "Liquidity" and "Derivatives" herein and Notes 1, 9 and 11 of Notes to Financial Statements.)
During 1995, AIG repurchased 220,000 shares of its common stock in the open market at a cost of $16.0 million. During 1994, AIG repurchased 3.14 million shares of its common stock in the open market at a cost of $177.7 million. AIG intends to continue to buy its common shares in the open market from time to time and to satisfy its obligations under various employee benefit plans through such purchases.
Payments of dividends to AIG by its insurance subsidiaries are subject to certain restrictions imposed by statutory authorities. AIG has in the past reinvested most of its unrestricted earnings in its operations and believes such continued reinvestment in the future will be adequate to meet any foreseeable capital needs. However, AIG may choose from time to time to raise additional funds through the issuance of additional securities. At December 31, 1995, there were no significant statutory or regulatory issues which would impair AIG's financial condition, results of operations or liquidity. (See also the discussion under "Liquidity" herein and Note 10 of Notes to Financial Statements.)
At December 31, 1995, the adjusted capital of each of AIG's domestic general companies and of each of AIG's domestic life companies exceeded each of their RBC standards by considerable margins.
A substantial portion of AIG's general insurance business and a majority of its life insurance business is carried on in foreign countries. The degree of regulation and supervision in foreign jurisdictions varies from minimal in some to stringent in others. Generally, AIG, as well as the underwriting companies operating in such jurisdictions, must satisfy local regulatory requirements.
To AIG's knowledge, no AIG company is on any regulatory or similar "watch list".
At December 31, 1995, AIG's consolidated invested assets included approximately $2.36 billion of cash and short-term investments. Consolidated net cash provided from operating activities in 1995 amounted to approximately $7.21 billion.
The combined insurance pretax operating cash flow coupled with the cash and short-term investments of $1.87 billion provided the insurance operations with a significant amount of liquidity during 1995. This liquidity is available to purchase high quality and diversified fixed income securities and to a lesser extent marketable equity securities and to provide mortgage loans on real estate, policy and collateral and guaranteed loans. With this liquidity coupled with proceeds of approximately $13.8 billion from the maturities, sales and redemptions of fixed income securities and from the sales of marketable equity securities, AIG purchased approximately $19.5 billion of fixed income securities and marketable equity securities during 1995.
During 1995, AIG received approximately $1 billion from redemptions of held to maturity municipal bonds. Prior to redemption, the yield on these bonds approximated eight percent. The yield on the reinvestment of the proceeds in bonds with similar characteristics averaged nearly six percent. AIG does not anticipate that these redemptions will have a significant effect on AIG's general investment income, operations, financial condition or liquidity.
The following table is a summary of AIG's invested assets by significant segment, including investment income due and accrued and real estate, at December 31, 1995 and 1994:
The following tables summarize the composition of AIG's insurance invested assets by insurance segment, including investment income due and accrued and real estate, at December 31, 1995 and 1994:
At December 31, 1995, approximately five percent of the fixed maturities portfolio was Collateralized Mortgage Obligations (CMOs). All of the CMOs were investment grade and approximately 79 percent of the CMOs were backed by various U.S. government agencies. Thus, credit risk was minimal. CMOs are exposed to interest rate risk as the duration and ultimate realized yield would be affected by the accelerated prepayments
Mortgage loans on real estate, policy and collateral loans comprised 11.3 percent of AIG's insurance invested assets at December 31, 1995. AIG's insurance holdings of real estate mortgages amounted to $2.1 billion of which 32 percent was domestic. At December 31, 1995, no domestic mortgages and only a nominal amount of foreign mortgages were in default. At December 31, 1995, AIG's insurance holdings of collateral loans amounted to $845.1 million, all of which were foreign. It is AIG's practice to maintain a maximum loan to value ratio of 75 percent at loan origination. AIG's policy loans increased from $2.23 billion at December 31, 1994 to $3.95 billion at December 31, 1995, with approximately one billion dollars of this increase relating to the domestic corporate-owned life insurance product.
AIGFP's derivative transactions are carried at market value or at estimated fair value when market prices are not readily available. AIGFP reduces its economic risk exposure through similarly valued offsetting transactions including swaps, trading securities, options, forwards and futures. The estimated fair values of these transactions represent assessments of the present value of expected future cash flows. These transactions are exposed to liquidity risk if AIGFP were to sell or close out the transactions prior to maturity. AIG believes that the impact of any such limited liquidity would not be significant to AIG's financial condition or its overall liquidity. (See also the discussion under "Derivatives" herein.)
Securities available for sale, at market value and securities purchased under agreements to resell are purchased with the proceeds of AIGFP's GIA financings and other long and short term borrowings. The proceeds from the disposal of securities available for sale and securities purchased under agreements to
resell have been used to fund the maturing GIAs or other AIGFP financing. (See also the discussion under "Capital Resources" herein.)
Securities available for sale is mainly a portfolio of debt securities, where the individual securities have varying degrees of credit risk. At December 31, 1995, the average credit rating of this portfolio was AA or the equivalent thereto as determined through rating agencies or internal review. AIGFP has also entered into credit derivative transactions to hedge its credit risk associated with $1.1 billion of these securities. There were no securities deemed below investment grade. There have been no significant downgrades through March 1, 1996. Securities purchased under agreements to resell are treated as collateralized transactions. AIGFP generally takes possession of securities purchased under agreements to resell. AIGFP further minimizes its credit risk by monitoring counterparty credit exposure and, when AIGFP deems necessary, it requires additional collateral to be deposited. Trading securities, at market value are marked to market daily and are held to meet the short-term risk management objectives of AIGFP.
AIGTG conducts, as principal, market making and trading activities in foreign exchange, interest rates, precious and base metals and natural gas and other energy products. AIGTG owns inventories in the commodities in which it trades and may reduce the exposure to market risk through the use of swaps, forwards, futures and option contracts. AIGTG uses derivatives to manage the economic exposure of its various trading positions and transactions from adverse movements of interest rates, exchange rates and commodity prices. AIGTG supports its trading activities largely through trade payables, unrealized losses on swaps, short-term borrowings and spot commodities sold but not yet purchased. (See also the discussions under "Capital Resources" and "Derivatives" herein.)
Derivatives are generally either negotiated over the counter contracts or standardized contracts executed on an exchange. Standardized exchange traded derivatives include futures and options which can be readily bought or sold over recognized security exchanges and settled daily through such clearing houses. Negotiated over the counter derivatives include forwards, swaps and options. Over the counter derivatives are generally not traded like exchange traded securities. However, in the normal course of business, with the agreement of the original counterparty, these contracts may be terminated early or assigned to another counterparty.
The senior management of AIG, with review by the Board of Directors, defines the policies and establishes general operating parameters for AIGFP and AIGTG. AIG's senior management has established various oversight committees to review the various financial market, operational and credit issues of AIGFP and AIGTG. The senior managements of AIGFP and AIGTG report the results of their respective operations to and review future strategies with AIG's senior management.
AIGTG attempts to secure reliable current market prices, such as published prices or third party quotes, to value its derivatives. Where such prices are not available, AIGTG uses an internal methodology which includes interpolation or extrapolation from verifiable prices nearest to the dates of the transactions. The methodology may reflect interest and exchange rates, commodity prices, volatility rates and other relevant factors.
(a) See also Note 8 (e) of Notes to Financial Statements.
(c) At December 31, 1995, AIGTG's net replacement values with respect to interest rate and currency swaps were $356.0 million and $1.71 billion with respect to futures and forward contracts.
(d) The net replacement value with respect to purchased option contracts of AIGTG at December 31, 1995 was $459.0 million.
The interest rate risk on securities available for sale, at market, is managed by taking offsetting positions on a security by security basis, thereby offsetting a significant portion of the unrealized appreciation or depreciation. At December 31, 1995, the unrealized gains and losses remaining after benefit of the offsets were $6.6 million and $6.1 million, respectively.
AIGFP carries its derivatives at market or estimated fair value, whichever is appropriate. Because of limited liquidity of certain of these instruments, the recorded estimated fair values of these derivatives may be different than the values that might be realized if AIGFP were to sell or close out the transactions prior to maturity. (See also the discussions under "Operational Review: Financial Services" and "Liquidity" herein.)
At December 31, 1995, the counterparty breakdown by industry with respect to the net replacement value of AIGFP's derivatives portfolio was as follows:
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - --------------------------------------------------------------------------------
The gross replacement values presented represent the sum of the estimated positive fair values of all of AIGTG's derivatives contracts at December 31, 1995. These values do not represent the credit risk to AIGTG.
In March 1995, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 121 "Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to Be Disposed Of" (FASB 121). This statement requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable and an impairment loss must be recognized.
In December 1995, FASB issued "Special Report, a Guide to the Implementation of Statement No. 115 on Accounting for Certain Investments in Debt and Equity Securities." Among other things, this guide provided for a transition provision permitting a one-time transfer of debt securities from the held to maturity classification to the available for sale classification. Pursuant thereto, AIG has transferred approximately $2.8 billion of bonds held to maturity, at amortized cost, having a market value of approximately $100 million in excess of such amortized cost.
Schedules: I--Summary of Investments--Other Than Investments in Related Parties as of December 31, 1995 S-1 II--Condensed Financial Information of Registrant as of December 31, 1995 and 1994 and for the years ended December 31, 1995, 1994 and 1993 S-2 III--Supplementary Insurance Information as of December 31, 1995, 1994 and 1993 and for the years then ended S-4 IV--Reinsurance as of December 31, 1995, 1994 and 1993 and for the years then ended S-5 VI--Supplemental Information Concerning Property-Casualty Insurance Operations as of December 31, 1995, 1994 and 1993 and for the years then ended S-6
We have audited the consolidated financial statements and the financial statement schedules of American International Group, Inc. and subsidiaries listed in the index on page 33 of this Form 10-K. These financial statements and financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and the financial statement schedules based on our audits.
As discussed in Note 1(w) of Notes to Financial Statements, the Company changed its method of accounting for investments in certain fixed maturity securities in 1993.
(a) Principles of Consolidation: The consolidated financial statements include the accounts of American International Group, Inc. and all significant subsidiaries (AIG). All material intercompany accounts and transactions have been eliminated.
General Insurance Operations: AIG's general insurance subsidiaries are multiple line companies writing substantially all lines of property and casualty insurance. One or more of these companies is licensed to write substantially all of these lines in all states of the United States and in more than 100 foreign countries. Premiums are earned primarily on a pro rata basis over the term of the related coverage. The reserve for unearned premiums represents the portion of net premiums written relating to the unexpired terms of coverage.
Acquisition costs are deferred and amortized over the period in which the related premiums are earned. Investment income is not anticipated in the deferral of acquisition costs (see Note 4).
Life Insurance Operations: AIG's life insurance subsidiaries offer a wide range of traditional insurance and financial and investment products. One or more of these subsidiaries is licensed to write life insurance in all states in the United States and in over 70 foreign countries. Traditional products consist of individual and group life, annuity, and accident and health policies. Financial and investment products consist of single premium annuity, variable annuities, guaranteed investment contracts and universal life. Premiums for traditional life insurance products are generally recognized as revenues over the premium paying period of the related policies. Benefits and expenses are provided against such revenues to recognize profits over the estimated life of the policies. Revenues for universal life and investment-type products consist of policy charges for the cost of insurance, administration, and surrenders during the period. Expenses include interest credited to policy account balances and benefit payments made in excess of policy account balances. Investment income reflects certain minor amounts of realized capital gains where the gains are deemed to be an inherent element in pricing certain life products in some foreign countries.
(d) Mortgage Loans on Real Estate, Policy and Collateral Loans--net: Mortgage loans on real estate, policy loans and collateral loans are carried at unpaid principal balances. Impairment of mortgage loans on real estate and collateral loans is generally measured based on the present value of expected future cash flows discounted at the loan's effective interest rate subject to the fair value of underlying collateral. Interest income on such loans is recognized as cash is received.
(g) Trading Securities, at market value: Trading securities are held to meet short term investment objectives, including hedging securities. These securities are recorded on a trade date basis and marked to market. The unrealized gains and losses are reflected in income.
(j) Trade Receivables and Trade Payables: Trade receivables and trade payables include balances due from and due to clearing brokers and exchanges and receivables from and payables to counterparties which relate to unrealized gains and losses on open futures and forward contracts, securities and commodities.
(k) Securities Purchased (Sold) Under Agreements to Resell (Repurchase), at contract value: Purchases of securities under agreements to resell and sales of securities under agreements to repurchase are accounted for as collateralized transactions and are recorded at their contracted resale or repurchase amounts, plus accrued interest. Generally, it is AIG's policy to take possession of securities purchased under agreements to resell.
(m) Reinsurance Assets: Reinsurance assets include the balances due from both reinsurance and insurance com-
(n) Investments in Partially-Owned Companies: The equity method of accounting is used for AIG's investment in companies in which AIG's ownership interest approximates twenty but is not greater than fifty percent (minority-owned companies). Equity in income of minority-owned insurance operations is presented separately in the consolidated statement of income. Equity in realized capital gains of such companies is included in other realized capital gains (losses). Equity in net income of other unconsolidated companies is principally included in other income (deductions)-net. At December 31, 1995, AIG's significant investments in partially-owned companies included its 48.3 percent interest in Transatlantic Holdings, Inc. (Transatlantic), which derives a substantial portion of its assumed reinsurance from AIG subsidiaries; its 19.9 percent interest in Richmond Insurance Company; its 23.9 percent interest in SELIC Holdings, Ltd; and its 24.4 percent interest in IPC Holdings, Ltd. This balance sheet caption also includes investments in less significant partially-owned companies and in certain minor majority-owned subsidiaries. At December 31, 1995, the market value of AIG's investment in Transatlantic exceeded its carrying value by approximately $308.2 million.
(p) Separate and Variable Accounts: Separate and variable accounts represent funds for which investment income and investment gains and losses accrue directly to the policyholders. Each account has specific investment objectives, and the assets are carried at market value. The assets of each account are legally segregated and are not subject to claims which arise out of any other business of AIG.
(q) Securities Sold but not yet Purchased, Principally Obligations of the U.S. Government and Government Agencies, at market value: Securities sold but not yet purchased represent sales of securities not owned at the time of sale. These obligations are recorded on a trade date basis and are carried at current market values. The unrealized gains and losses are reflected in income currently.
(u) Income Taxes: Deferred federal and foreign income taxes are provided for temporary differences for the expected future tax consequences of events that have been recognized in AIG's financial statements or tax returns.
(i) Standards Adopted in 1995: In March 1995, the Financial Accounting Standards Board (FASB)issued Statement of Financial Accounting Standards No. 121 "Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to Be Disposed Of" (FASB 121). This statement requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable and an impairment loss must be recognized.
In October 1995, FASB issued Statement of Financial Accounting Standards No. 123 "Accounting for Awards of Stock-Based Compensation to Employees" (FASB 123). FASB 123 establishes accounting and reporting standards for stock-based employee compensation plans. These plans include stock option and stock purchase plans. FASB 123 provides employers a choice: Adopt FASB 123 accounting standards for all stock compensation arrangements which requires the recognition of compensation
expense for the fair value of virtually all stock compensation awards; or continue to account for stock options and other forms of stock compensation under the current accounting standards (APB No. 25 "Accounting for Stock Issued to Employees") while also providing the disclosure required under FASB 123. AIG has adopted the disclosure requirements of FASB 123 effective for the year ended December 31, 1995 financial statements.
In 1994, the American Institute of Certified Public Accountants (AICPA) issued a Statement of Position (SOP) 94-6 "Disclosure of Certain Significant Risks and Uncertainties" (SOP 94-6). Pursuant to SOP 94-6, AIG has made certain disclosures as to risks and uncertainties and the nature of AIG's operations and AIG's use of estimates in the preparation of its 1995 financial statements.
In October 1994, FASB issued Statement of Financial Accounting Standards No. 119 "Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments" (FASB 119). FASB 119 requires disclosure about derivative financial instruments and amends FASB 105 "Disclosure of Information about Financial Instruments with Off-Balance Sheet Risk and Financial Instruments with Concentrations of Credit Risk" (FASB 105) and Statement of Financial Accounting Standards No. 107 "Disclosure about Fair Value of Financial Instruments".
FASB 119 requires disclosure about the amounts, nature and terms of derivatives that are not subject to FASB 105. Also, FASB 119 requires disclosure about financial instruments held or issued for trading purposes and purposes other than trading. This statement was adopted by AIG effective December 31, 1994.
In December 1994, AICPA issued Statement of Position 94-5 "Disclosure of Certain Matters in the Financial Statements of Insurance Enterprises" (SOP 94-5). Pursuant to SOP 94-5, AIG has disclosed certain information with respect to unpaid claims and claim adjustment expenses; accounting methods used by AIG's insurance subsidiaries that are permitted by various domestic and foreign insurance regulatory authorities rather than prescribed by such authorities; and AIG's policies and methodologies for estimating the liability for unpaid claim adjustment expense for difficult-to-estimate liabilities.
Income taxes paid in 1995, 1994 and 1993 amounted to $1,065,700,000, $741,900,000 and $466,600,000, respectively.
The Uruguay Round of the General Agreement on Tariffs and Trade Agreements Act (GATT), which was approved in 1994, contains several revenue raising provisions. One of GATT's funding measures requires AIG to include, in its estimated tax payments, income taxes resulting from the Subpart F income of foreign subsidiaries.
In the normal course of their operations, certain AIG subsidiaries are provided reinsurance coverages from AIG's minority-owned reinsurance companies. During 1995, 1994 and 1993, the premiums written which were ceded to Transatlantic amounted to $189,000,000, $200,000,000 and $238,100,000, respectively.
Life insurance recoveries, which reduced death and other benefits, approximated $111.4 million, $96.0 million and $76.7 million, respectively, for each of the years ended December 31, 1995, 1994 and 1993.
* The principal reason for the increase in 1994 relates to life insurance in-force ceded with respect to corporate-owned life insurance.
(b) The analysis of the future policy benefits and policyholders' contract deposits liabilities as at December 31, 1995 and 1994 follows:
6. RESERVE FOR LOSSES AND LOSS EXPENSES AND FUTURE LIFE POLICY BENEFITS AND POLICYHOLDERS' CONTRACT DEPOSITS (Continued)
(ii) Mortality and surrender rates are based upon actual experience by geographical area modified to allow for variations in policy form. The weighted average lapse rate, including surrenders, for individual and group life approximated 7.3 percent.
(iii) The portions of current and prior net income and of current unrealized appreciation of investments that can inure to the benefit of AIG are restricted in some cases by the insurance contracts and by the local insurance regulations of the countries in which the policies are in-force.
(iv) Participating life business represented approximately 29 percent of the gross insurance in-force at December 31, 1995 and 47 percent of gross premium income in 1995. The amount of dividends to be paid is determined annually by the Boards of Directors. Anticipated dividends are considered as a planned contractual benefit in computing the value of future policy benefits and are provided ratably over the premium-paying period of the contracts.
(i) Interest rates credited on deferred annuities vary by year of issuance and range from 4.0 percent to 8.3 percent. Credited interest rate guarantees are generally for a period of one year. Withdrawal charges generally range from 6.0 percent to 10.0 percent grading to zero over a period of 6 to 10 years.
(iv) The universal life funds have credited interest rates of 4.5 percent to 7.0 percent and guarantees ranging from 3.0 percent to 5.5 percent depending on the year of issue. Additionally, universal life funds are subject to surrender charges that amount to 8.5 percent of the fund balance grading to zero over a period not longer than 20 years.
(e) Experience adjustments, relating to future policy benefits and policyholders' contract deposits, vary according to the type of contract and the territory in which the policy is in-force. In general terms, investments, mortality and morbidity results may be passed through by experience credits or as an adjustment to the premium mechanism, subject to local regulatory guidance.
(a) Statutory Deposits: Cash and securities with carrying values of $3.65 billion and $3.04 billion were deposited by AIG's subsidiaries under requirements of regulatory authorities as of December 31, 1995 and 1994, respectively.
(c) Includes $480.9 million increase and $440.5 million decrease in unrealized appreciation attributable to participating policyholders at December 31, 1995 and 1994, respectively.
During 1993 gross gains of $99,162,000 and gross losses of $43,094,000 were realized on dispositions of fixed maturities carried at amortized cost.
The amortized cost and estimated market value of investments in fixed maturities carried at amortized cost at December 31, 1995 and December 31, 1994 were as follows:
The amortized cost and estimated market value of bonds available for sale and carried at market value at December 31, 1995 and 1994 were as follows:
(f) CMOs: At December 31, 1995, CMOs, held by AIG's life companies, were presented as a component of bonds available for sale, at market value. All of the CMOs were investment grade and approximately 79 percent of the CMOs were backed by various U.S. government agencies. The remaining 21 percent were corporate issuances.
At December 31, 1995 and 1994, the market value of the CMO portfolio was $2.2 billion and $1.7 billion, respectively; the amortized cost was approximately $2.1 billion in 1995 and $1.8 billion in 1994. AIG's CMO portfolio is readily marketable. There were no derivative (high risk) CMO securities contained in this portfolio at December 31, 1995.
(g) Fixed Maturities Below Investment Grade: At December 31, 1995, the fixed maturities and securities available for sale held by AIG that were below investment grade were insignificant.
(i) At December 31, 1995, non-income producing invested assets were insignificant.
At December 31, 1995, AIG's debt outstanding of $17.99 billion, shown below, included borrowings of $14.32 billion which were either not guaranteed by AIG or were matched borrowings under obligations of guaranteed investment agreements (GIAs).
An analysis of the Medium Term Notes for the year ended December 31, 1995 was as follows:
At December 31, 1995, AIG had $247,000,000 principal amount of Series D Medium Term Notes registered and available for issuance from time to time.
At December 31, 1995, the maturity schedule for ILFC's outstanding Medium Term Notes was as follows:
(i) Zero Coupon Notes: On October 1, 1984, AIG issued Eurodollar zero coupon notes in the aggregate principal amount at stated maturity of $750,000,000. The notes were offered at 12 percent of principal amount at stated maturity, bear no interest and are due August 15, 2004. The net proceeds to AIG from the issuance were $85,625,000. The notes are redeemable at any time in whole or in part at the option of AIG at 100 percent of their principal amount at stated maturity. The notes are also redeemable at the option of AIG or bearer notes may be redeemed at the option of the holder in the event of certain changes involving taxation in the United States at prices ranging from 38.28 percent currently, to 89.88 percent after August 15, 2003, of the principal amount at stated maturity together with accrued amortization of original issue discount from the preceding August 15. During 1995 and 1994, no notes were repurchased. At December 31, 1995, the notes outstanding had a face value of $189,200,000, an unamortized discount of $115,852,000 and a net book value of $73,348,000. The amortization of the original issue discount was recorded as interest expense.
(iii) Term Notes Issued by ILFC:ILFC has issued unsecured obligations which may not be redeemed prior to maturity.
At December 31, 1995, the maturity schedule for ILFC's Term Notes was as follows:
(iv) Notes and Bonds Payable Issued by AIGFP: During 1992, AIGFP issued 200 million principal amount Netherland guilder denominated bonds which bear interest at a rate of 8.4 percent, payable annually, and mature on June 30, 1997. At December 31, 1995, these bonds had a carrying value of $110.1 million.
During 1995, AIGFP issued notes as follows: (a) 249 million principal amount and 3 million principal amount Great Britain pound sterling denominated notes due December 29, 2000, with interest rates of 5.88 percent and 3 month sterling LIBOR, respectively, payable quarterly, and carrying values of $384.9 million and $4.6 million, respectively, at December 31, 1995; (b) 194 billion principal amount Italian lire denominated notes, which bear interest at a rate of 7.76 percent, payable annually, mature on December 31, 1998 and had a carrying value of $122.5 million at December 31, 1995; and (c) 180 million principal amount Australian dollar denominated notes, which bear interest at a rate of 5.87 percent, payable semi-annually, mature on January 2, 2003 and had a carrying value of $73.9 million at December 31, 1995.
AIG guarantees all of the notes and bonds issued by AIGFP.
(e) Loans and Mortgages Payable:Loans and mortgages payable at December 31, 1995 consisted of the following:
(f) Interest Expense for All Indebtedness:Total interest expense for all indebtedness, net of capitalized interest, aggregated $1,361,140,000 in 1995, $1,289,277,000 in 1994 and $1,103,955,000 in 1993. Interest expense paid approximated $1,318,736,000 in 1995, $1,055,503,000 in 1994 and $1,017,066,000 in 1993.
(a) At December 31, 1995, there were 6,000,000 shares of AIG's $5 par value serial preferred stock authorized, issuable in series.
(b) AIG parent depends on its subsidiaries for cash flow in the form of loans, advances and dividends. Some AIG subsidiaries, namely those in the insurance business, are subject to regulatory restrictions on the amount of dividends which can be remitted to AIG parent. These restrictions vary by state. For example, unless permitted by the New York Superintendent of
Insurance, general insurance companies domiciled in New York may not pay dividends to shareholders which in any twelve month period exceed the lesser of 10 percent of the company's statutory policyholders' surplus or 100 percent of its "adjusted net investment income", as defined. Generally, less severe restrictions applicable to both general and life insurance companies exist in most of the other states in which AIG's insurance subsidiaries are domiciled. Certain foreign jurisdictions have restrictions which generally cause only a temporary delay in the remittance of dividends. There are also various local restrictions limiting cash loans and advances to AIG by its subsidiaries. Largely as a result of the restrictions, approximately 60 percent of consolidated capital funds were restricted from immediate transfer to AIG parent at December 31, 1995.
(c) AIGFP becomes a party to off-balance sheet financial instruments in the normal course of its business and to reduce its currency, interest rate and equity exposures. Interest rate, currency and equity risks related to such instruments are reflected in the consolidated financial statements to the extent these instruments are carried at a market or a fair value, whichever is appropriate. Because of limited liquidity of certain of these instruments, the recorded estimated fair values of such instruments may be different than the values that might be realized if AIGFP were to sell or close out the transactions prior to maturity.
Futures and forward contracts are contracts for delivery of foreign currencies or financial indices in which the seller/purchaser agrees to make/take delivery at a specified future date of a specified instrument, at a specified price or yield. Risks arise as a result of movements in current market prices from contracted prices and the potential inability of counterparties to meet their obligations under the contracts. At December 31, 1995, the contractual amount of AIGFP's futures and forward contracts approximated $18.3 billion.
AIGFP determines counterparty credit quality by reference to ratings from independent rating agencies or internal analysis. At December 31, 1995, the counterparty credit quality by derivative product with respect to the net replacement value of AIGFP's derivatives portfolio was as follows:
AIGFP has entered into commitments to provide liquidity for certain tax exempt variable rate demand notes issued by municipal entities. The agreements allow the holders, in certain circumstances, to tender the notes to the issuer at par value. In the event a remarketing agent of an issuer is unable to resell such tendered notes, AIGFP would be obligated to purchase the notes at par value. With respect to certain notes that have been issued, AIGFP has fulfilled its liquidity commitments by arranging bank liquidity facilities. These banks agree to purchase the notes that AIGFP is otherwise obligated to purchase in connection with a failed remarketing. It is the intention of AIGFP to arrange similar liquidity with respect to the $1.3 billion aggregate amount of notes that are expected to be issued through 1999. In connection with one transaction that has a bank liquidity facility, AIGFP has committed through December 31, 1997 to purchase up to $278.6 million of notes in the event the bank is required to purchase notes under the liquidity facility. Any notes so purchased by AIGFP would be insured as to both principal and interest and, while held by AIGFP, would bear interest at an above-market tax-exempt rate. It is AIGFP's intention, as with existing obligations, to remove itself from this risk through bank participations before the issuance of the underlying notes.
The following tables provide the notional and contractual amounts of AIGTG's derivatives portfolio at December 31, 1995. In addition, the estimated positive fair values associated with the derivatives portfolio are also provided and include a maturity profile for the December 31, 1995 balances based upon the expected timing of the future cash flows.
Net replacement values presented represent the net sum of estimated positive fair values after the application of legally enforceable master closeout netting agreements and collateral held. The net replacement values most closely represent the net credit risk to AIGTG or the maximum amount exposed to potential loss. At December 31, 1995, the net replacement value of AIGTG's futures and forward contracts and interest rate and currency swaps approximated $2.07 billion.
Options are contracts that allow the holder of the option to purchase or sell the underlying commodity, currency or index at a specified price and within, or at, a specified period of time. Risks arise as a result of movements in current market prices from contracted prices, and the potential inability of the counterparties to meet their obligations under the contracts. At December 31, 1995, the contractual amount of AIGTG's purchased options approximated $26.5 billion.
(b) Options obligate AIGTG to buy or sell the underlying item if the option purchaser chooses to exercise. The amounts do not represent credit exposures.
At December 31, 1995, AIGTG had issued and outstanding $206.0 million principal amount of letters of credit. These letters of credit were issued primarily to various exchanges.
(e) At December 31, 1995, ILFC had committed to purchase or had secured positions for 292 aircraft deliverable from 1996 through 2004 at an estimated aggregate purchase price of $15.9 billion and had options to purchase an additional 34 aircraft deliverable through 2005 at an estimated aggregate purchase price of $2.5 billion. ILFC will be required to find customers for any aircraft presently on order and any aircraft to be ordered, and it must arrange financing for portions of the purchase price of such equipment.
AIG does not anticipate any losses in connection with the aforementioned activities that would have a material effect on its financial condition or results of operations.
AIG continues to receive indemnity claims asserting injuries from toxic waste, hazardous substances, and other environmental pollutants and alleged damages to cover the cleanup costs of hazardous waste dump sites (hereinafter collectively referred to as environmental claims) and indemnity claims asserting injuries from asbestos. Estimation of asbestos and environmental claims loss reserves is a difficult process, as these claims, which emanate from policies written in 1984 and prior years, cannot be estimated by conventional reserving techniques. Asbestos and environmental claims development is affected by factors such as inconsistent court resolutions, the broadening of the intent of policies and scope of coverage and increasing number of new claims. AIG and other industry members have and will continue to litigate the broadening judicial interpretation of policy coverage and the liability issues. If the courts continue in the future to expand the intent of the policies and the scope of the coverage, as they have in the past, additional liabilities would emerge for amounts in excess of reserves held. This emergence cannot now be reasonably estimated, but could have a material impact on AIG's future operating results. The reserves carried for these claims as at December 31, 1995 ($1.94 billion gross; $507.2 million net) are believed to be adequate as these reserves are based on known facts and current law.
A summary of reserve activity, including estimates for applicable incurred but not reported losses and loss expenses, relating to asbestos and environmental claims separately and combined at December 31, 1995, 1994 and 1993 was as follows:
Securities purchased (sold) under agreements to resell (repurchase), at contract value: As these securities (obligations) are short-term in nature, the contract values approximate fair values.
Securities sold but not yet purchased, principally obligations of the U.S. Government and Government agencies: The carrying amounts for these financial instruments approximate fair values.
Notes, bonds, loans and mortgages payable: Where practical, the fair values of these obligations were estimated using discounted cash flow calculations based upon AIG's current incremental borrowing rates for similar types of borrowings with maturities consistent with those remaining for the debt being valued.
(a) Stock Option Plan:On December 19, 1991, the AIG Board of Directors adopted a 1991 employee stock option plan, which provides that options to purchase a maximum of 4,500,000 shares of common stock could be granted to officers and other key employees at prices not less than fair market value at the date of grant. Both the 1991 plan, and the options with respect to 112,387 shares granted thereunder on December 19, 1991, were approved by shareholders at the 1992 Annual Meeting. At December 31, 1995, 2,099,983 shares were reserved for future grants under the 1991 plan. As of March 18, 1992, no further options could be granted under the 1987 plan, but outstanding options granted under the 1987 plan and the previously superceded 1982 plan continue in force until exercise or expiration. At December 31, 1995, there were 4,130,713 shares reserved for issuance under the 1991, 1987 and 1982 plans.
The fair value of purchase privileges granted during the year ended December 31, 1995 was $2,005,000. The weighted average fair value per share of those purchase rights granted in 1995 was $14.90. The fair value of each purchase right is estimated on the date of the subscription using the Black-Scholes model.
The following were weighted average assumptions: dividend yield of 0.32 percent, an expected life of 1 year, expected volatility of 16.9 percent, and a risk-free interest rate of 5.64 percent.
* Net pension expense included $30,978, $26,727 and $20,999 related to non-U.S. plans for 1995, 1994 and 1993, respectively.
(b) AIG sponsors a voluntary savings plan for domestic employees (a 401(k) plan), which, during the two years ended December 31, 1994, provided for salary reduction contributions by employees and matching contributions by AIG of up to 2 percent of annual salary. Commencing January 1, 1995, the 401(k) plan provided for matching contributions by AIG of up to 6 percent of annual salary depending on the employees' years of service.
The following table sets forth the liability for the accrued postretirement benefits of the various plans, and amounts recognized in the accompanying consolidated balance sheet as of December 31, 1995 and 1994. These plans are not funded currently.
(a) AIG and its subsidiaries occupy leased space in many locations under various long-term leases and have entered into various leases covering the long-term use of data processing equipment. At December 31, 1995, the future minimum lease payments under operating leases were as follows:
(a) Ownership: The directors and officers of AIG, the directors and holders of common stock of C. V. Starr & Co., Inc. (Starr), a private holding company, The Starr Foundation, Starr International Company, Inc. (SICO), a private holding company, and Starr own or otherwise control approximately 28 percent of the voting stock of AIG. Six directors of AIG also serve as directors of Starr and SICO.
Financial Services - AIG's financial services operations engage in diversified financial services for affiliated and non-affiliated companies. Such operations include, but are not limited to, asset management, short-term cash management and financing, premium financing, interest rate, currency, equity and commodity derivative products business, various commodities trading and market making activities, banking services and operations and leasing and remarketing of flight equipment.