(b) Includes $769 million and $131 million in WTC losses in 2001 for general and life insurance operations, respectively.
AIG considers among its most important accounting policies those policies with respect to reserves for losses and loss expenses, future policy benefits for life and accident and health insurance contracts, deferred policy acquisition costs, and fair value with respect to certain assets and liabilities of certain of the subsidiaries of AIG's financial services operations. These are the policies that require management's most significant exercise of judgment on both a quantitative and qualitative basis. Further explanation of how management exercises that judgment is included throughout Management's Discussion and Analysis and in the relevant footnotes to the consolidated financial statements.
(a) $1.38 billion net of tax with respect to acquisition, restructuring and related charges in connection with the acquisition of AGC (see the discussions under "Other Operations" herein and Note 20 of Notes to Financial Statements); and
HSB was acquired on November 22, 2000 and consolidated into AIG's financial statements during the fourth quarter of 2000. This acquisition was accounted for as a purchase.
DBG is AIG's primary domestic division. DBG writes substantially all classes of business insurance, accepting such business mainly from insurance brokers. This provides DBG with the opportunity to select specialized markets and retain underwriting control. Any licensed broker is able to submit business to DBG without the traditional agent-company contractual relationship, but such broker usually has no authority to commit DBG to accept a risk.
General insurance operations for the twelve month periods ending December 31, 2001, 2000 and 1999 were as follows:
(a) Reflects the realignment of certain internal divisions in each year.
(b) 2001 includes WTC losses of $769 million in the aggregate.
In comparing the foreign currency exchange rates used to translate the results of AIG's foreign general operations during 2001 to those foreign currency exchange rates used to translate AIG's foreign general results during 2000, the U.S. dollar strengthened in value in relation to most major foreign currencies in which AIG transacts business. Accordingly, when foreign net premiums written were translated into U.S. dollars for the purposes of the preparation of the consolidated financial statements, total general insurance net premiums written were approximately 2.8 percentage points less than they would have been if translated utilizing those foreign currency exchange rates which prevailed during 2000.
Net premiums written are initially deferred and earned primarily on a pro rata basis over the term of the related coverage. The net unearned premium reserve constitutes deferred revenues which are generally earned ratably over the policy period. Thus, the net unearned premium reserve is not fully recognized as net premiums earned until the end of the policy period.
AIG, along with most general insurance entities, uses the loss ratio, the expense ratio and the combined ratio as measures of performance. The loss ratio is the sum of losses and loss expenses incurred divided by net premiums earned. The expense ratio is statutory underwriting expenses divided by net premiums written. The combined ratio is the sum of the loss ratio and the expense ratio. These ratios are relative measurements that describe for every $100 of net premiums earned or written, the cost of losses and statutory expenses, respectively. The combined ratio presents the total cost per $100 of premium production. A combined ratio below 100 demonstrates underwriting profit; a combined ratio above 100 demonstrates underwriting loss. The statutory general insurance ratios, including WTC losses in 2001, were as follows:
A major part of the discipline of a successful general insurance company is to produce an underwriting profit, exclusive of investment income. If underwriting is not profitable, losses incurred are a major factor. The result is that the premiums are inadequate to pay for losses and expenses and produce a profit; therefore, investment income must be used to cover underwriting losses. If assets and the income therefrom are insufficient to pay claims and expenses over extended periods, an insurance company cannot survive. For these reasons, AIG views and manages its underwriting operations separately from its investment operations.(See also the discussion under "Liquidity" herein.)
The adjusted underwriting profits were $88 million in 2001, $785 million in 2000 and $669 million in 1999. When WTC losses in 2001 are excluded from losses incurred, the adjusted underwriting profit would be $857 million for 2001, a 9.2 percent increase over 2000. This increase was primarily due to the domestic adjusted underwriting profit resulting from the disciplined underwriting of DBG. The underwriting environment varies from country to country, as does the degree of litigation activity. Regulation, product type and competition have a direct impact on pricing and consequently profitability as reflected by adjusted underwriting profit and statutory general insurance ratios. (See also Notes 4 and 19 of Notes to Financial Statements.)
AIG's historic ability to maintain its 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 premium growth where rates do not adequately reflect its assessment of exposures.
General insurance net investment income in 2001 increased 7.1 percent when compared to 2000. In 2000, net investment income increased 7.3 percent over 1999. 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 and Note 8 of Notes to Financial Statements.)
AIG is a major purchaser of reinsurance for its general insurance operations. AIG is cognizant of the need to exercise good judgment in the selection and approval of both domestic and foreign companies participating in its reinsurance programs. AIG insures risks in over 70 countries and its reinsurance programs must be coordinated in order to provide AIG the level of reinsurance protection that AIG desires. These reinsurance arrangements do not relieve AIG from its direct obligations to its insureds.
A.M. Best. This rating is a measure of financial strength. The terms authorized and unauthorized pertain to regulatory categories, not creditworthiness. Approximately $1.2 billion of the $2.0 billion in gross WTC losses is covered by reinsurance, with approximately 99 percent of this coverage placed with companies that are rated A or better.
AIG maintains an allowance for estimated unrecoverable reinsurance and has been largely successful in its previous recovery efforts. At December 31, 2001, AIG had allowances for unrecoverable reinsurance approximating $75 million. At that date 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).
At December 31, 2001, the consolidated general reinsurance assets of $27.65 billion include reinsurance recoverables for paid losses and loss expenses of $3.82 billion and $18.90 billion with respect to the ceded reserve for losses and loss expenses, including ceded losses incurred but not reported (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 therefrom are reflected in income currently. It is AIG's belief that the ceded reserves at December 31, 2001 were representative of the ultimate losses recoverable. In the future, as the ceded reserves continue to develop to ultimate amounts, the ultimate loss recoverable may be greater or less than the reserves currently ceded.
growth in exposure of such lines. For example, if the fire insurance coverage remained proportional to the actual value of the property, the growth in property's exposure to fire loss can be approximated by the amount of insurance purchased.
A summary of asbestos and environmental claims count activity for the years ended December 31, 2001, 2000 and 1999 was as follows:
The average cost per claim settled, dismissed or otherwise resolved for the years ended December 31, 2001, 2000 and 1999 was as follows:
AIG's survival ratios for involuntary asbestos and environmental claims, separately and combined, were based upon a three year average payment. These ratios for the years ended December 31, 2001, 2000 and 1999 were as follows:
AIG's three principal overseas life operations are American Life Insurance Company (ALICO), American International Assurance Company, Limited together with American International Assurance Company (Bermuda) Limited (AIA) and Nan Shan Life Insurance Company, Ltd. (Nan Shan). ALICO is incorporated in Delaware and all of its business is written outside of the United States. ALICO has operations either directly or through subsidiaries in approximately 50 countries located in Europe, Africa, Latin America, the Caribbean, the Middle East, and the Far East, with Japan being the largest territory. AIA operates primarily in Hong Kong, Singapore, Malaysia and Thailand. Nan Shan operates in Taiwan. AIG's domestic life operations sell financial and investment type products, as well as traditional life products. (See also Note 19 of Notes to Financial Statements.)
Life insurance operations presented on a major product basis for the twelve month periods ending December 31, 2001, 2000 and 1999 were as follows:
(c) 2001 reflects AIG Star Life Insurance Co., Ltd. which was acquired in April 2001.
Underwriting risk represents the exposure to loss resulting from the actual policy experience adversely emerging in comparison to the assumptions made in the product pricing associated with mortality, morbidity, termination and expenses. Both AIG's foreign and domestic life companies limit their maximum underwriting exposure on traditional life insurance of a single life to approximately one million dollars of coverage and $2.5 million of coverage, respectively, by using yearly renewable term reinsurance. (See also Note 5 of Notes to Financial Statements and the discussion under "Liquidity" herein.)
The asset-liability relationship is appropriately managed in AIG's foreign operations, as it has been throughout AIG's history, even though certain territories lack qualified long-term investments or there are investment restrictions imposed by the local regulatory authorities. For example, in Japan and several Southeast Asia territories, the duration of the investments is often for a shorter period than the effective maturity of the related policy liabilities. Therefore, there is a risk that the reinvestment of the proceeds at the maturity of the initial investments may be at a yield below that of the interest required for the accretion of the policy liabilities. At December 31, 2001, the average duration of the investment portfolio with respect to ALICO Japan's operations was 5.4 years.
invest the future premium receipts without sacrificing investment quality. To the extent permitted under local regulation, AIG may invest in qualified longer-term securities outside Japan to achieve a closer matching in both duration and the required yield. AIG is able to manage any asset-liability duration difference through maintenance of sufficient global liquidity and to support any operational shortfall through its international financial network. (See also the discussion under "Liquidity" herein.)
The asset-liability relationship is appropriately managed in AIG's domestic operations, as there is ample supply of qualified long-term investments.
AIG Financial Products Corp. and its subsidiaries (AIGFP) structure financial transactions, including long-dated interest rate and currency swaps and structured borrowings through notes, bonds and guaranteed investment agreements. AIGFP does not engage in trading activities with respect to commodity contracts. AIG Trading Group Inc. and its subsidiaries (AIGTG) engage in various commodity trading, foreign exchange trading, interest rate swaps and market making activities. (See also the discussions under "Capital Resources" herein and Note 19 of Notes to Financial Statements.)
AIG's Consumer Finance operations include American General Finance, Inc. and its subsidiaries (AGF) as well as AIG Consumer Finance Group, Inc. and its subsidiaries (CFG). AGF and CFG provide a wide variety of consumer finance products, including mortgages, consumer loans, retail sales finance and credit related insurance to customers both domestically and overseas, particularly emerging markets. (See also Note 19 of Notes to Financial Statements.)
Financial services operations for the twelve month periods ending December 31, 2001, 2000 and 1999 were as follows:
Financial services operating income increased 19.2 percent in 2001 over 2000. This compares with an increase of 17.1 percent in 2000 over 1999.
ILFC is exposed to operating loss and liquidity strain through non-performance of aircraft lessees, through owning aircraft which it would be unable to sell or re-lease at acceptable rates 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. As a result of these measures and its own contingency planning, ILFC did not suffer any material losses from airline shutdowns in the aftermath of the September 11 terrorist attacks, but there can be no assurance that ILFC will successfully manage the risks relating to the impact of possible future deterioration in the airline industry. At December 31, 2001, ILFC's fleet of 508 aircraft included 471 aircraft for operating lease, four aircraft under finance lease and 33 managed aircraft. Approximately 80 percent of ILFC's fleet is leased to non-U.S. and Canadian carriers, and this fleet, the most efficient in the airline industry, continues to be in high demand from such carriers. (See also the discussions under "Capital Resources" and "Liquidity" herein.)
AIGFP participates in the derivatives dealer market conducting, primarily as principal, an interest rate, currency, equity and credit derivative products business. AIGFP also enters into structured transactions including long-dated forward foreign exchange contracts, option transactions, liquidity facilities and investment agreements and invests in a diversified portfolio of securities. AIGFP derives substantially all its revenues from proprietary positions entered in connection with counterparty transactions rather than from speculative transactions. Revenues in 2001 increased 11.6 percent from 2000 compared to a 43.3 percent increase during 2000 from 1999. During 2001, operating income increased 16.9 percent from 2000 and increased 34.5 percent during 2000 from 1999. As AIGFP is a transaction-oriented operation, current and past revenues and operating results may not provide a basis for predicting future performance. (See also the discussions under "Capital Resources," "Liquidity" and "Derivatives" herein and Note 19 of Notes to Financial Statements.)
AGF derives a substantial portion of its revenues from finance charges assessed on outstanding mortgages and finance receivables from the sub-prime market. CFG is engaged in developing a multi-product consumer finance business with an emphasis on emerging markets. Revenues in 2001 increased 10.1 percent from 2000 compared to a 14.8 percent increase during 2000 from 1999. The growth in revenues during 2001 was generally due to the growth in the average finance receivables. During 2001, operating income increased 28.8 percent from 2000 and 15.0 percent during 2000 from 1999. The increase in operating income resulted from the growth in finance charges and improved credit quality of the receivables portfolio, partially offset by lower yields on finance receivables in 2001. (See also the discussions under "Capital Resources" and "Liquidity" herein.)
AGF is exposed to loss when contractual payments are not received. AGF manages its collection exposure through the mix of types of loans and security thereon. (See also Notes 8 and 9 of Notes to Financial Statements.)
Retirement savings & asset management operations for the twelve month periods ending December 31, 2001, 2000 and 1999 were as follows:
Income before the cumulative effect of accounting changes amounted to $5.50 billion in 2001, $6.64 billion in 2000 and $6.19 billion in 1999.
Refer to "Accounting Standards" herein for details of the cumulative effect of accounting changes.
(a) As of November 2001, AIG guaranteed the notes and bonds of AGC.
At December 31, 2001, the commercial paper issued and outstanding was as follows:
During 2001, AIGFP increased the aggregate principal amount outstanding of its notes and bonds payable to $13.92 billion. AIGFP uses the proceeds from the issuance of notes and bonds and GIA borrowings to invest in a diversified portfolio of securities and derivative transactions. The funds may also be temporarily invested in securities purchased under agreements to resell. (See also the discussions under "Operational Review", "Liquidity" and "Derivatives" herein and Notes 1, 8, 9, 12 and 19 of Notes to Financial Statements.)
During 2001, AIG issued $137 million principal amount of Medium Term Notes, and $177 million of previously issued notes matured. At December 31, 2001, AIG had $644 million in aggregate principal amount of debt securities registered for issuance from time to time.
ments, net of taxes was primarily due to the decline in domestic interest rates. The transfer of bonds in the held to maturity, at amortized cost category to the bonds available for sale, at market value category in accordance with the transition provisions of FASB 133 resulted in a gain of $339 million recorded in the statement of comprehensive income as a cumulative effect of an accounting change adjustment. At December 31, 2001, capital funds included a cumulative effect of an accounting change adjustment gain of $150 million. During 2001, there was a loss of $443 million, net of taxes relating to derivative contracts designated as cash flow hedging instruments. (See also the discussion under "Operational Review" and "Liquidity" herein, Notes 1(x) and 8(d) of Notes to Financial Statements and the Consolidated Statement of Comprehensive Income.) During 2001, retained earnings increased $4.62 billion, resulting from net income less dividends.
The maturity schedule of AIG's Other Commercial Commitments at December 31, 2001 was as follows:
To facilitate and expand certain retirement savings and asset management activities, AIG establishes SPVs. AIG receives fees for management of the assets held in the SPV which support the issuance of securities such as collateralized bond obligations sold by the SPV to independent third party investors. These SPVs serve a variety of business purposes, including financing, liquidity, or to facilitate independent third party management participation.
At December 31, 2001, AIG's consolidated invested assets included $8.09 billion of cash and short-term investments. Consolidated net cash provided from operating activities in 2001 amounted to $7.71 billion.
Sources of funds considered in meeting the objectives of AIG's financial services operations include guaranteed investment agreements, issuance of long and short-term debt, maturities and sales of securities available for sale, securities sold under repurchase agreements, trading liabilities, securities and spot commodities sold but not yet purchased, issuance of equity, and cash provided from such operations. AIG's strong
capital position is integral to managing this liquidity, as it enables AIG to raise funds in diverse markets worldwide. (See also the discussions under "Capital Resources" herein.)
The liquidity of the combined insurance operations is derived both domestically and abroad. The combined insurance operating cash flow is derived from two sources, underwriting operations and investment operations. In the aggregate, AIG's insurance operations generated approximately $27.4 billion in pre-tax cash flow during 2001. Cash flow includes periodic premium collections, including policyholders' contract deposits, paid loss recoveries less reinsurance premiums, losses, benefits, acquisition and operating expenses. Generally, there is a time lag from when premiums are collected and, when as a result of the occurrence of events specified in the policy, the losses and benefits are paid. AIG's insurance investment operations generated approximately $14.1 billion in investment income cash flow during 2001. Investment income cash flow is primarily derived from interest and dividends received and includes realized capital gains net of realized capital losses. (See also the discussions under "Operational Review: General Insurance Operations" and -- "Life Insurance Operations" herein.)
In addition to the combined insurance pre-tax operating cash flow, AIG's insurance operations held $7.2 billion in cash and short-term investments at December 31, 2001. The aforementioned operating cash flow and the cash and short-term balances held provided AIG's insurance operations with a significant amount of liquidity.
(a) Includes $846 million of bond trading securities, at market value.
(b) Includes $1.19 billion of non-redeemable preferred stocks, at market value.
The fair value of the fixed maturity available for sale portfolio is subject to decline as interest rates rise and subject to increase as interest rates decline. Such changes in fair value are presented as a component of comprehensive income in unrealized appreciation of investments, net of taxes.
The fixed maturities held to maturity portfolio were transferred to bonds available for sale, at market value as at January 1, 2001 as permitted and in accordance with the transition provisions of Financial Accounting Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities" (FASB 133). (See also the discussion under "Accounting Standards" herein.)
When permitted by regulatory authorities and when deemed necessary to protect insurance assets, including invested assets, from adverse movements in foreign currency exchange rates, interest rates and equity prices, AIG and its insurance subsidiaries may enter into derivative transactions as end users. (See also the discussion under "Derivatives" herein.)
AIG calculated the VaR with respect to the net fair value of each of AIG's insurance segments as of December 31, 2001 and December 31, 2000. AIG uses the historical simulation methodology which entails re-pricing all assets and liabilities under explicit changes in market rates within a specific historical time period. In this case, the most recent three years of historical market information for interest rates, foreign exchange rates, and equity index prices were used to construct the historical scenarios. For each scenario, each transaction was re-priced. Portfolio, business unit and finally AIG-wide scenario values were then calculated by netting the values of all the underlying assets and liabilities. The final VaR number represents the maximum potential loss incurred by these scenarios with 95% confidence (i.e., only 5% of historical scenarios show losses greater than the VaR figure). A one month holding period was assumed in computing the VaR figure.
The following table presents the average, high and low VaRs on a combined basis and of each component of market risk for each of AIG's insurance segments as of December 31, 2001 and December 31, 2000.
The following table is a summary of the composition of AIG's financial services, and retirement savings & asset management invested assets at December 31, 2001 and 2000. (See also the discussions under "Operational Review: Financial Services Operations", "Operational Review: Retirement Savings & Asset Management Operations", "Capital Resources" and "Derivatives" herein.)
As previously discussed, the cash used for the purchase of flight equipment is derived primarily from the proceeds of ILFC's debt financings. The primary sources for the repayment of this debt and the interest expense thereon are the cash flow from operations, proceeds from the sale of flight equipment and the rollover and refinancing of the prior debt. During 2001, ILFC acquired flight equipment costing $4.41 billion. (See also the discussion under "Operational Review: Financial Services Operations" and Capital Resources" herein.)
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 required 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 "Operational Review: Financial Services Operations" and "Derivatives" herein.)
AIGFP is exposed to credit risk. If its securities available for sale portfolio were to suffer significant default and the collateral held declined significantly in value with no replacement, AIGFP could have a liquidity strain. AIG guarantees AIGFP's debt and, as a result, is responsible for all of AIGFP's obligations.
AIGTG conducts, as principal, market making and trading activities in foreign exchange, and commodities, primarily precious and base metals. 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, foreign currency exchange rates and commodity prices. AIGTG supports its trading activities largely through trading liabilities, unrealized losses on swaps, short-term borrowings, securities sold under agreements to repurchase and securities and commodities sold but not yet purchased. (See also the discussions under "Capital Resources" and "Derivatives" herein.)
(b) These amounts are also presented as the respective balance sheet amounts.
(c) At December 31, 2001, AIGTG's replacement values with respect to interest rate and currency swaps were $549 million.
Market risk arises principally from the uncertainty that future earnings are exposed to potential changes in volatility, interest rates, foreign currency exchange rates, and equity and commodity prices. AIG generally controls its exposure to market risk by taking offsetting positions. AIG's philosophy with respect to its financial services operations is to minimize or set
Additionally, depending upon the changes in interest rates and other market movements during the day, AIGFP's system will produce reports for management's consideration for intraday offsetting positions. Overnight, the system generates reports which recommend the types of offsets management should consider for the following day. Additionally, AIGFP operates in major business centers overseas and is essentially open for business 24 hours a day. Thus, the market exposure and offset strategies are monitored, reviewed and coordinated around the clock. Therefore, offsetting adjustments can be made as and when necessary from any AIGFP office in the world.
AIG calculated the VaR with respect to AIGFP and AIGTG as of December 31, 2001 and December 31, 2000. AIG uses the historical simulation methodology which entails re-pricing all assets and liabilities under explicit changes in market rates within a specific historical time period. In this case, the most recent three years of historical market information for interest rates, foreign exchange rates, and equity index prices were used to construct the historical scenarios. For each scenario, each transaction was re-priced. Portfolio, business unit and finally AIG-wide scenario values were then calculated by netting the values of all the underlying assets and liabilities. The final VaR number represents the maximum potential loss incurred by these scenarios with 95% confidence (i.e., only 5% of historical scenarios show losses greater than the VaR figure).
The following table presents the VaR on a combined basis and of each component of AIGFP's and AIGTG's market risk as of December 31, 2001 and December 31, 2000. VaR with respect to combined operations cannot be derived by aggregating the individual risk presented 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 or commodity 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 and the terms of over the counter derivatives are non-standard and unique to each contract. 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.
With respect to AIGTG's derivatives contracts at December 31, 2001 and December 31, 2000, the net replacement values represent the net sum of estimated positive fair values after the application of legally enforceable master 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.
The fair value sources of the net replacement values of AIGFP's derivatives portfolio were based on valuation models. Although these models are proprietary, the inputs were obtained from independently published exchange prices, external subscription services' prices such as Bloomberg or Reuters or third party broker quotes for use in these models. When such prices are not available, AIGFP uses an internal methodology which includes interpolation or extrapolation from verifiable prices nearest to the dates of the transactions.
The following table provides the contractual and notional amounts by maturity and type of derivative of AIGTG's derivatives portfolio at December 31, 2001 and December 31, 2000.
In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities" (FASB 133). In June 2000, FASB issued Statement of Financial Accounting Standards No. 138 "Accounting for Derivative Instruments and Hedging Activities-an amendment of FASB Statement No. 133" (collectively, FASB 133).
AIG documents all relationships between hedging instruments and hedge items, as well as its risk-management objectives and strategy for undertaking various hedge transactions. This process includes linking all derivatives that are designated as hedges to specific assets or liabilities on the balance sheet, or specific firm commitments or forecasted transactions. AIG also assesses, both at the hedge's inception and on an ongoing basis, whether the derivatives used in hedging transactions are highly effective in offsetting changes in fair values or cash flows of hedged items.
In January 1, 2001, the Emerging Issues Task Force (EITF) issued EITF 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets." EITF 99-20 provides guidance on the calculation of interest income and the recognition of impairments related to beneficial interests held in an investment portfolio. Beneficial interests are investments that represent rights to receive specified cash flows from a pool of underlying assets (i.e., collateralized debt obligations). In accordance with the transition provisions of EITF 99-20, AIG recorded in its consolidated income statement for 2001 a cumulative effect of an accounting change adjustment loss of $130 million ($200 million before tax).
In June 2001, FASB issued Statement of Financial Accounting Standard No. 142 "Goodwill and Other Intangible Assets" (FASB 142). FASB 142 is effective for AIG for the year commencing January 1, 2002. FASB 142 requires AIG to discontinue the amortization of goodwill in its consolidated income statement.
In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the consolidated financial position of American International Group, Inc. and its subsidiaries (the "Company") at December 31, 2001 and 2000, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in the accompanying index present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. 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 financial statement schedules based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
(b) Consists of derivative gains and losses qualifying for cash flow hedging arising from the adoption of FASB 133.
Life Insurance Operations: AIG's life insurance subsidiaries offer a wide range of traditional insurance and financial and investment products. Traditional products consist of individual and group life, annuity, endowment and accident and health policies. Financial and investment products consist of single premium annuity, variable annuities, guaranteed investment contracts, universal life and pensions. Premiums for traditional life insurance products and life contingent annuities, excluding accident and health products, are recognized as revenues when due. Estimates for premiums due but not yet collected are accrued. 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. Policy charges collected with respect to future services are deferred and recognized in a manner similar to the deferred policy acquisition costs related to such products. Expenses include interest credited to policy account balances and benefit payments made in excess of policy account balances. Accident and health products are accounted for in a manner similar to general insurance products described above. Investment income reflects certain amounts of realized capital gains where the gains are deemed to be an inherent element in pricing certain life products in some foreign countries.
The deferred acquisition costs with respect to non-traditional products are adjusted with respect to estimated gross profits as a result of changes in the net unrealized gains or losses on debt and equity securities available for sale. That is, as debt and equity securities available for sale are carried at aggregate fair value, an adjustment is made to deferred policy acquisition costs equal to the change in amortization that would have been recorded if such securities had been sold at their stated aggregate fair value and the proceeds reinvested at current yields. The change in this adjustment, net of tax, is included with the change in net unrealized gains/losses on debt and equity securities available for sale that is credited or charged directly to comprehensive income. Deferred policy acquisition costs have been decreased by $177 million at December 31, 2001 and increased by $222 million at December 31, 2000 for this adjustment. (See Note 4.)
AIG, as lessor, leases flight equipment principally under operating leases. Accordingly, income is recognized over the life of the lease as rentals become receivable under the provisions of the lease or, in the case of leases with varying payments, under the straight-line method over the noncancelable term of the lease. In certain cases, leases provide for additional payments contingent on usage. AIG is also a remarketer of flight equipment for its own account and for airlines and financial institutions, and provides, for a fee, fleet management services to certain third-party operators. AIG's revenues from such operations consist of net gains on sales of flight equipment and commissions.
Foreclosure proceedings are initiated on real estate loans when four monthly installments are past due and these loans are charged off at foreclosure. All other finance receivables are charged off when minimal or no collections have been made for six months.
(i) 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 carried at current market values. Unrealized gains and losses are reflected in income currently.
(k) UNREALIZED GAIN AND UNREALIZED LOSS ON INTEREST RATE AND CURRENCY SWAPS, OPTIONS AND FORWARD TRANSACTIONS: Interest rate swaps, currency swaps, equity swaps, swaptions, options and forward transactions are accounted for as contractual commitments recorded on a trade date basis and are carried at current market values or estimated fair values when market values are not available. Unrealized gains and losses are reflected in income currently. Estimated fair values are based on the use of valuation models that utilize, among other things, current interest, foreign exchange and volatility rates. AIG Financial Products Corp. and its subsidiaries (AIGFP) attempts to secure reliable and independent current market prices, such as published exchange prices, external subscription services' prices such as
Futures, forwards and options purchased and written are accounted for as contractual commitments on a trade date basis and are carried at fair values. Unrealized gains and losses are reflected in income currently. The fair values of futures contracts are based on closing exchange quotations. Commodity forward transactions are carried at fair values derived from dealer quotations and underlying commodity exchange quotations. For long dated forward transactions, where there are no dealer or exchange quotations, fair values are derived using internally developed valuation methodologies based on available market information. Options are carried at fair values based on the use of valuation models that utilize, among other things, current interest or commodity rates and foreign exchange and volatility rates, as applicable.
(n) OTHER INVESTED ASSETS: Other invested assets consist primarily of investments by AIG's insurance operations in joint ventures and partnerships, invested collateral with respect to AIG's securities lending program and other investments not classified elsewhere herein.
Unrealized gains and losses from the revaluation of those investments carried at fair values are reflected in comprehensive income, net of any related deferred income taxes or realized capital gains or losses.
(o) REINSURANCE ASSETS: Reinsurance assets include the balances due from both reinsurance and insurance companies under the terms of AIG's reinsurance agreements for paid and unpaid losses and loss expenses, ceded unearned premiums and ceded future policy benefits for life and accident and health insurance contracts and benefits paid and unpaid. It also includes funds held under reinsurance treaties. Amounts related to paid and unpaid losses and loss expenses with respect to these reinsurance agreements are substantially collateralized.
respectively. The undistributed earnings of unconsolidated entities owned less than 50 percent was $55 million as of December 31, 2001.
From time to time, AIG assesses the carrying value of its real estate relative to the market values of real estate within the specific local area. At December 31, 2001, there were no impairments.
(r) SEPARATE AND VARIABLE ACCOUNTS: Separate and variable accounts represent funds for which investment income and investment gains and losses accrue directly to the policyholders who predominantly bear the investment risk. 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. The liabilities for these accounts are equal to the account assets.
The computation of earnings per share for December 31, 2001, 2000 and 1999 was as follows:
In accordance with the transition provisions of FASB 133, AIG recorded in its consolidated income statement for 2001 a cumulative effect of an accounting change adjustment loss of $6 million. This loss represents the net fair value of all previous unrecorded derivative instruments as of January 1, 2001, net of tax and after the application of hedge accounting. AIG also recorded in its consolidated statement of comprehensive income for 2001 a cumulative effect of an accounting change
adjustment gain of $150 million. This gain represents the increase in other comprehensive income, net of taxes, arising from recognizing the fair value of all derivative contracts designated as cash flow hedging instruments, and to a lesser extent, hedging instruments used to hedge net investments in foreign operations.
In addition to hedging activities, AIG also uses derivative instruments with respect to investment operations, which include, among other things, writing option contracts, and purchasing investments with embedded derivatives, such as equity linked notes and convertible bonds. All changes in the market value of these derivatives are recorded in earnings. AIG bifurcates an embedded derivative where: (1) the economic characteristics of the embedded instruments are not clearly and closely related to those of the remaining components of the financial instrument; and (2) a separate instrument with the same terms as the embedded instrument meets the definition of a derivative under FASB 133.
(a) AIG and its domestic subsidiaries, excluding the AGC and SunAmerica life insurance companies and their subsidiaries, file a consolidated U.S. Federal income tax return. Each of AGC's and SunAmerica's life insurance companies and their subsidiaries file a consolidated U.S. Federal income tax return.
Revenue Agent's Reports proposing to assess additional taxes for the years 1987, 1988, 1989 and 1990 have been issued to AIG and Letters of Protest contesting the proposed assessments have been filed with the Internal Revenue Service (IRS). In addition, Revenue Agent's Reports proposing to assess additional taxes for the years ended September 30, 1993 and 1994 have been issued to SunAmerica. Such proposed assessments relate to years prior to AIG's acquisition of SunAmerica. Letters of Protest contesting the proposed assessments have been filed with the IRS. It is management's belief that there are substantial arguments in support of the positions taken by AIG and SunAmerica in their Letters of Protest. AIG also believes that any changes in its tax obligations resulting from these examinations will not be significant to AIG's financial condition, results of operations or liquidity. All AIG, SunAmerica and AGC consolidated tax returns are audited by the IRS. Although the final outcome of any issues raised in connection with these audits is uncertain, AIG believes that the ultimate liability, including interest, will be immaterial to AIG's results of operations, financial condition and liquidity.
A component of life insurance surplus accumulated prior to 1984 is not taxable unless it exceeds certain statutory limitations or is distributed to shareholders. This surplus, accumulated in policyholder surplus accounts, totaled approximately $945 million at December 31, 2001. AIG has not made any provision in the accompanying financial statements for taxation of this amount as management has no intention of making any distributions from this surplus.
(b) The U.S. Federal income tax rate is 35 percent for 2001, 2000 and 1999. Actual tax expense on income differs from the "expected" amount computed by applying the Federal income tax rate because of the following:
(c) The components of the net deferred tax liability as of December 31, 2001 and December 31, 2000 were as follows:
For the years ended December 31, 2001, 2000 and 1999, reinsurance recoveries, which reduced loss and loss expenses incurred, amounted to $8.80 billion, $6.00 billion and $5.13 billion, respectively.
Life insurance assumed represented 0.2 percent of gross life insurance in-force at December 31, 2001, 0.2 percent for 2000 and 0.4 percent for 1999 and life insurance premium income assumed represented 0.3 percent, 0.4 percent and 1.9 percent of gross premium income for the periods ended December 31, 2001, 2000 and 1999.
(b) The analysis of the future policy benefits and policyholders' contract deposits liabilities as at December 31, 2001 and 2000 follows:
(i) Interest rates (exclusive of immediate/terminal funding annuities), which vary by territory, year of issuance and products, range from 1.5 percent to 12.0 percent within the first 20 years. Interest rates on immediate/terminal funding annuities are at a maximum of 12.2 percent and grade to not greater than 7.5 percent.
(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 8.3 percent.
(i) Interest rates credited on deferred annuities, which vary by territory and year of issuance, range from 1.5 percent to 9.2 percent. Current declared interest rates are generally guaranteed to remain in effect for a period of one year though some are guaranteed for longer periods. Withdrawal charges generally range from zero percent to 20.0 percent grading to zero over a period of zero to 10 years.
(ii) Domestically, GICs have market value withdrawal provisions for any funds withdrawn other than benefit responsive payments. Interest rates credited generally range from 2.0 percent to 8.7 percent. The vast majority of these GICs mature within 10 years. Overseas, interest rates credited on GICs generally range from 2.5 percent to 7.3 percent and maturities range from 1 to 5 years.
(iii) Interest rates on corporate life insurance products are guaranteed at 4.0 percent and the weighted average rate credited in 2001 was 6.4 percent.
(a) STATUTORY DEPOSITS: Cash and securities with carrying values of $4.55 billion and $5.63 billion were deposited by AIG's subsidiaries under requirements of regulatory authorities as of December 31, 2001 and 2000, respectively.
(d) MARKET VALUE OF FIXED MATURITIES AND UNREALIZED APPRECIATION OF INVESTMENTS: At December 31, 2001 and 2000, the balance of the unrealized appreciation of investments in equity securities (before applicable taxes) included gross gains of approximately $403 million and $687 million and gross losses of approximately $1.3 billion and $1.0 billion, respectively.
The deferred tax liability related to the net unrealized appreciation of investments was $590 million at December 31, 2001 and the deferred tax liability related to the net unrealized appreciation of investments was $15 million at December 31, 2000.
The amortized cost and estimated market value of bonds available for sale and carried at market value at December 31, 2001 and 2000 were as follows:
The amortized cost, related hedges and estimated market value of securities available for sale and carried at market value at December 31, 2001 and 2000 were as follows:
The amortized cost and estimated market values of securities available for sale at December 31, 2001, by contractual maturity, are shown below. Actual maturities may differ from contractual maturities because certain borrowers have the right to call or prepay certain obligations with or without call or prepayment penalties.
(f) FINANCE RECEIVABLES: Finance receivables, net of unearned finance charges, were as follows:
(g) CMOS: At December 31, 2001, CMOs, held by AIG's life companies, were presented as a component of bonds available for sale, at market value. Substantially all of the CMOs were investment grade and approximately 26 percent of the CMOs were backed by various U.S. government agencies. The remaining 74 percent were corporate issuances.
At December 31, 2001, the gross weighted average coupon of this portfolio was 6.74 percent. The gross weighted average life of this portfolio was approximately 6.31 years.
(h) FIXED MATURITIES BELOW INVESTMENT GRADE: At December 31, 2001, fixed maturities held by AIG that were below investment grade or not rated totaled $20.99 billion.
At December 31, 2001, AIG's debt outstanding of $65.73 billion, shown below, included borrowings of $56.82 billion which were either not guaranteed by AIG or were matched borrowings under obligations of guaranteed investment agreements (GIAs) or matched notes and bonds payable.
(a) COMMERCIAL PAPER: At December 31, 2001, the commercial paper issued and outstanding was as follows:
Commercial paper issued by Funding and AGC is guaranteed by AIG. At December 31, 2001, AIG did not guarantee the commercial paper of any of its subsidiaries other than Funding and AGC. In early 2001, AICCO ceased issuing commercial paper under its program and the agreement which AIG had provided supporting the commercial paper was terminated; AICCO's funding requirements are now met through Funding's program.
(b) BORROWINGS UNDER OBLIGATIONS OF GUARANTEED INVESTMENT AGREEMENTS: Borrowings under obligations of guaranteed investment agreements, which are guaranteed by AIG, are recorded at the amount outstanding under each contract. Obligations may be called at various times prior to maturity at the option of the counterparty. Interest rates on these borrowings are primarily fixed, vary by maturity, and range up to 9.8 percent.
Payments due under these investment agreements in each of the next five years ending December 31, and the periods thereafter based on the earliest call dates, were as follows:
At December 31, 2001, the market value of securities pledged as collateral with respect to these obligations approximated $4.6 billion.
interest at either fixed rates set by AIG at issuance or variable rates determined by reference to an interest rate or other formula.
An analysis of AIG's Medium Term Notes for the year ended December 31, 2001 was as follows:
At December 31, 2001, Medium Term Notes issued by SunAmerica Inc. in the aggregate principal amount of $171 million had maturity dates ranging from 2002 to 2026 at interest rates ranging from 6.03 percent to 7.34 percent.
At December 31, 2001, the maturity schedule for ILFC's outstanding Medium Term Notes was as follows:
(B) Zero Coupon Convertible Senior Debentures:On November 9, 2001, AIG issued zero coupon convertible senior debentures in the aggregate principal amount at stated maturity of $1.52 billion. The notes were offered at 65.8 percent of principal amount at stated maturity, bear no interest unless contingent interest becomes payable under certain conditions and are due November 9, 2031. The net proceeds to AIG were $990 million. Commencing January 1, 2002, holders may convert the debentures into shares of AIG common stock at a conversion rate of 6.0627 shares per $1,000 principal amount of debentures on any day if AIG's stock price exceeds 120 percent of the conversion price on the last trading day of the preceding fiscal quarter for a set period of time, and after September 30, 2031, on any day if AIG's stock price exceeds such amount for one day, subject to certain restrictions. The debentures are redeemable by AIG on or after November 9, 2006 at specified redemption prices. Holders may require AIG to repurchase the debentures at specified repurchase prices on November 9, 2006, 2011, 2016, 2021 and 2026. At December 31, 2001, the debentures outstanding had a face value of $1.52 billion, unamortized discount of $518 million and a net book value of $1.0 billion. The amortization of the original issue discount was recorded as a component of other income (deductions) - - net.
Simultaneous with the issuance of this debt, AIG entered into a swap transaction which effectively converted AIG's net interest expense to a U.S. dollar liability of approximately 7.9 percent, which required the payment of proceeds at maturity, December 4, 2001, of approximately $159 million in exchange for 200 billion Italian Lire and interest thereon.
(ii) Term Notes Issued by ILFC:ILFC has issued unsecured obligations which may not be redeemed prior to maturity.
As of December 31, 2001, notes in aggregate principal amount of $4.70 billion were outstanding with maturity dates from 2002 to 2006 and interest rates ranging from 4.75 percent to 8.38 percent. Term notes in the aggregate principal amount of $1.2 billion are at floating interest rates and the remainder are at fixed rates. These notes provide for a single principal payment at maturity.
At December 31, 2001, ILFC had $900 million in aggregate principal amount of debt securities registered for issuance from time to time. In addition, ILFC established a Euro Medium Term Note program for $2.0 billion, under which $771 million in notes were sold through December 31, 2001.
ILFC had an Export Credit Facility up to a maximum of $4.3 billion, for approximately 75 aircraft to be delivered through 2001. ILFC had the right, but was not required, to use the facility to fund 85 percent of each aircraft's purchase price. This facility was guaranteed by various European Export Credit Agencies. The interest rate varies from 5.75 percent to 5.90 percent on the first 75 aircraft depending on the delivery date of the aircraft. At December 31, 2001, ILFC had $2.37 billion outstanding under this facility. Borrowings with respect to this facility are included in Notes and Bonds Payable.
At December 31, 2001, the future minimum payments for ILFC's borrowings under the Export Credit Facility were as follows:
AIGFP is also obligated under various notes maturing from 2002 through 2026. The majority of these notes are denominated in U.S. dollars and Euros and bear interest at various interest rates. At December 31, 2001, these notes had a U.S. dollar carrying value of $2.53 billion.
(iv) Notes and Bonds Payable Issued by AGC and AGF:As of December 31, 2001, AGC notes in aggregate principal amount of $1.34 billion were outstanding with maturity dates ranging from 2003 to 2029 at interest rates ranging from 6.25 percent to 7.75 percent. At that date, AGF notes in aggregate principal amount of $2.20 billion were outstanding with maturity dates ranging from 2002 to 2009 at interest rates ranging from 5.75 percent to 8.45 percent. These notes provide for a single principal payment at maturity.
At December 31, 2001, AIG did not guarantee any of the debt obligations of AGF. As of November 2001, AIG guaranteed the notes and bonds of AGC.
At December 31, 2001, ILFC's capital lease obligations were $365 million. Fixed interest rates with respect to these obligations range from 6.18 percent to 6.89 percent; variable rates are referenced to LIBOR. These obligations mature through 2005. The flight equipment associated with the capital lease obligations had a net book value of $931 million.
(f) As of December 31, 2001, the combined principal payments due of all significant debt, excluding commercial paper, in each of the next five years and periods thereafter were as follows:
(g) REVOLVING CREDIT FACILITIES: AIG and Funding have entered into syndicated revolving credit facilities (collectively, the Facility) aggregating $1.5 billion. The Facility consists of $1.0 billion in short-term revolving credit facilities and a $500 million five year revolving credit facility. The Facility can be used for general corporate purposes and also to provide backup for Funding's commercial paper programs. There are currently no borrowings outstanding under the Facility, nor were any borrowings outstanding as of December 31, 2001.
(h) INTEREST EXPENSE FOR ALL INDEBTEDNESS: Total interest expense for all indebtedness, net of capitalized interest, aggregated $3.97 billion in 2001, $3.64 billion in 2000 and $2.96 billion in 1999. Capitalized interest was $71 million in 2001, $69 million in 2000 and $60 million in 1999. Cash distributions on the preferred shareholders' equity in subsidiary companies of ILFC and certain SunAmerica, AGC and HSB subsidiaries are accounted for as interest expense and included as minority interest in the consolidated statement of income. The cash distributions for ILFC were approximately $15 million, $19 million and $17 million for the years ended December 31, 2001, 2000 and 1999, respectively. The cash distributions for the SunAmerica subsidiaries were approximately $46 million, $62 million and $40 million for the years ended December 31, 2001, 2000 and 1999, respectively. The cash distributions for AGC subsidiaries were approximately $153 million, $158 million and $142 million for the years ended December 31, 2001, 2000 and 1999, respectively.
Preferred shareholders' equity in subsidiary companies represents preferred stocks issued by ILFC and certain SunAmerica, AGC and HSB subsidiaries, wholly owned subsidiaries of AIG.
In March 2001, SunAmerica Capital Trust II redeemed the 8.35% Trust Originated Preferred Securities for $185 million plus accrued and unpaid dividends to the redemption date. Concurrently, SunAmerica redeemed all of the related 8.35% junior subordinated debentures, due 2044, for $191 million plus accrued interest.
The preferred stock consists of $100 million liquidation value of 8.05% preferred stock issued by American General Capital III in December 2000, $300 million liquidation value
of 8.5% preferred stock issued by American General Capital II in June 2000, $200 million liquidation value of 7.875% preferred stock issued by American General Capital I in September 1999, $500 million liquidation value of 8.125% preferred stock issued by American General Institutional Capital B in March 1997, $500 million liquidation value of 7.57% preferred stock issued by American General Institutional Capital A in December 1996.
In July 2001, $215 million liquidation value of 8.125% preferred stock were redeemed by American General Capital, L.L.C. and $287 million liquidation value of 8.45% preferred stock were redeemed by American General Capital, L.L.C..
(d) HSB: The preferred stock consists of $95 million liquidation value of Exchange Capital Securities issued in July 1997 by HSB Capital I, a statutory business trust wholly owned by HSB. The sole assets of HSB Capital I are invested in debt securities of HSB. The capital securities accrue and pay quarterly cash distributions at a variable rate equal to 90 day LIBOR plus 0.91% of the stated liquidation amount of $1,000 per capital security, which rate was 2.79% at December 31, 2001. The capital securities are not redeemable prior to July 15, 2007 and are mandatorily redeemable upon the maturity of the debt securities on July 15, 2027 or the earlier redemption of the debt securities. AIG has issued a guarantee of the obligations of HSB, which together with the terms of the debt securities, the guarantee of HSB with respect to the capital securities, the indenture and the trust agreement with respect to the trust provide a full and unconditional guarantee of payments due on the capital securities. The trust is accounted for as a wholly owned subsidiary of AIG. The debt securities issued to the trust and the common securities issued by the trust to HSB are eliminated in the consolidated balance sheet.
(c) The common stock activity for the three years ended December 31, 2001 was as follows:
Common stock increased and retained earnings decreased $2.04 billion in 2000 and $818 million in 1999 as a result of common stock splits in the form of 50 percent and 25 percent common stock dividends paid July 28, 2000 and July 30, 1999, respectively.
The following tables provide the contractual and notional amounts of derivatives transactions of AIGFP at December 31, 2001.
The following table presents AIGFP's futures and forward contracts portfolio by maturity and type of derivative at December 31, 2001 and December 31, 2000:
AIGFP utilizes various credit enhancements, including collateral, credit triggers and credit derivatives to reduce the credit exposure relating to these off-balance sheet financial instruments. AIGFP requires credit enhancements in connection with specific transactions based on, among other things, the creditworthiness of the counterparties and the transaction's size and maturity. In addition, AIGFP's derivative transactions are generally documented under ISDA Master Agreements. Management believes that such agreements provide for legally enforceable set-off and close out netting of exposures to specific counterparties. Under such agreements, in connection with an early termination of a transaction, AIGFP is permitted to set-off its receivables from a counterparty against its payables to the same counterparty arising out of all included transactions. As a result, the net replacement value represents the net sum of estimated positive fair values after the application of such strategies, agreements and collateral held. Subsequent to the application of such credit enhancements, the net exposure to credit risk or the net replacement value of all interest rate, currency, and equity swaps, swaptions and forward commitments approximated $10.84 billion at December 31, 2001 and $9.51 billion at December 31, 2000. The net replacement value for futures and forward contracts approximated $64 million at December 31, 2001 and $204 million at December 31, 2000. The net replacement value most closely represents the net credit risk to AIGFP or the maximum amount exposed to potential loss.
At December 31, 2001 and December 31, 2000, the counterparty breakdown by industry with respect to the net replacement value of AIGFP's derivatives portfolio was as follows:
Commissions, transaction and other fees for the twelve months ended December 31, 2001, 2000 and 1999 from AIGFP's operations were $1.18 billion, $1.06 billion and $737 million, respectively.
(d) AIGTG becomes a party to derivative financial instruments in the normal course of its business and to reduce its currency, interest rate and commodity exposures.
Futures and forward contracts are contracts for delivery of foreign currencies, commodities 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. 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. As a writer of options, AIGTG generally receives an option premium and then manages the risk of any unfavorable change in the value of the underlying commodity, currency or index. At December 31, 2001, the contractual amount of AIGTG's futures, forward and option contracts approximated $475.4 billion.
The following table provides the contractual and notional amounts and credit exposure, if applicable, by maturity and type of derivative of AIGTG's derivatives portfolio at December 31, 2001 and December 31, 2000. The gross replacement values presented represent the sum of the estimated positive fair values of all of AIGTG's derivatives contracts at December 31, 2001 and December 31, 2000. These values do not represent the credit risk to AIGTG.
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 within a product category. At December 31, 2001, the net replacement value of AIGTG's futures, forward and option contracts and interest rate and currency swaps approximated $3.1 billion.
AIG has issued unconditional guarantees with respect to the prompt payment, when due, of all present and future obligations and liabilities of AIGFP and AIGTG arising from transactions entered into by AIGFP and AIGTG.
(e) As a component of its asset and liability management strategy, SunAmerica utilizes swap agreements to match more closely the cash flows of its assets to the cash flows of its liabilities. SunAmerica uses these swap agreements to hedge against the risk of interest rate changes. At December 31, 2001, SunAmerica's swap agreements had an aggregate notional principal amount of $17.90 billion. These agreements mature in various years through 2031.
For investment purposes, SunAmerica has entered into various total return agreements with an aggregate notional amount of $26 million (the "notional amount") at December 31, 2001. The total return agreements effectively exchange a fixed rate of interest (the "payment amount") on the notional amount for the coupon income plus or minus the increase or decrease in the fair value of specified non-investment grade bonds (the "bonds"). SunAmerica is exposed to potential loss with respect to credit risk on the underlying non-investment grade bonds and fair value risk resulting from the payment amount and any depreciation in the aggregate fair value of the bonds below the notional amount. SunAmerica is also exposed to potential credit loss in the event of nonperformance by the investment grade rated counterparty with respect to any increase in the aggregate market value of the bonds above the notional amount. No collateral is held or pledged to support these agreements. The agreements are marked to market and the change in market value is recognized currently in life investment income. Net amounts received (paid) are included in operating income and totaled $18 million, ($39 million) and ($12 million) for the years ended December 31, 2001, 2000 and 1999, respectively. AIG guarantees the payment obligations of SunAmerica under such agreements.
(f) AGC and certain of its subsidiaries have entered into various interest rate and currency swap agreements, treasury rate lock agreements and options to enter into interest rate swap agreements. AGC uses these agreements to hedge its exposure to interest rate changes and currency rate fluctuations that are associated with investment operations and/or anticipated debt issuances. At December 31, 2001, AGC's swap agreements with respect to investment operations had an aggregate notional amount of $331 million; AGC's swap agreements with respect to debt had an aggregate notional amount of $800 million, of which $400 million was with AIGFP. There were no treasury rate lock agreements outstanding at December 31, 2001. The impact of AGC's derivatives on AIG's results of operations, financial condition and liquidity was insignificant.
(g) At December 31, 2001, ILFC had committed to purchase 551 aircraft deliverable from 2002 through 2010 at an estimated aggregate purchase price of $32.1 billion and had options to purchase 49 aircraft deliverable from 2002 through 2008 at an estimated aggregate purchase price of $3.0 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.
(h) AIG and its subsidiaries, in common with the insurance industry in general, are subject to litigation, including claims for punitive damages, in the normal course of their business. AIG does not believe that such litigation will have a material effect on its operating results and financial condition.
(i) Risk Based Capital (RBC) is designed to measure the adequacy of an insurer's statutory surplus in relation to the risks inherent in its business. Thus, inadequately capitalized general and life insurance companies may be identified.
The RBC formula develops a risk adjusted target level of adjusted statutory capital by applying certain factors to various asset, premium and reserve items. Higher factors are applied to more risky items and lower factors are applied to less risky items. Thus, the target level of statutory surplus varies not only as a result of the insurer's size, but also on the risk profile of the insurer's operations.
(j) SAI Deferred Compensation Holdings, Inc., a wholly-owned subsidiary of AIG, has established a deferred compensation plan for registered representatives of certain AIG subsidiaries, pursuant to which participants have the opportunity to invest deferred commissions and fees on a notional basis. The value of the deferred compensation fluctuates with the value of the deferred investment alternatives chosen. AIG has provided a full and unconditional guarantee of the obligations of SAI Deferred Compensation Holdings, Inc. to pay the deferred compensation under the plan.
Fixed maturity securities: Fair values for fixed maturity securities carried at amortized cost or at market value were generally based upon quoted market prices. For certain fixed maturity securities for which market prices were not readily available, fair values were estimated using values obtained from independent pricing services. No other fair valuation techniques were applied to these securities as AIG believes it would have to expend excessive costs for the benefits derived.
rates for similar type loans. The fair values of the policy loans were not calculated as AIG believes it would have to expend excessive costs for the benefits derived.
GIAs: Fair values of AIG's obligations under investment type agreements were estimated using discounted cash flow calculations based on interest rates currently being offered for similar agreements with maturities consistent with those remaining for the agreements being valued.
(a) At December 31, 2001, AIG had two types of stock-based compensation plans. One type was a stock option plan; the other, an employee stock purchase plan. AIG applied APB Opinion 25 "Accounting for Stock Issued to Employees" and related Interpretations (APB 25) in accounting for each plan. Accordingly, no compensation costs have been recognized for the plans.
(i) STOCK OPTION PLAN:On September 15, 1999, the AIG Board of Directors adopted a 1999 stock option plan (the 1999 Plan), which provides that options to purchase a maximum of 15,000,000 shares of common stock can be granted to certain key employees and members of the Board of Directors at prices not less than fair market value at the date of grant. The 1999 Plan limits the maximum number of shares as to which stock options may be granted to any employee in any one year to 375,000 shares. Options granted under this Plan expire not more than 10 years from the date of the grant. Options with respect to 25,000 shares, 12,000 shares and 13,500 shares were granted to non-employee members of the Board of Directors on May 16, 2001, May 17, 2000 and September 15, 1999, respectively. These options become exercisable on the first anniversary of the date of grant, expire 10 years from the date of grant and do not qualify for Incentive Stock Option Treatment under the Economic Recovery Tax Act of 1981 (ISO Treatment). The Plan, and the options previously granted thereunder, were approved by the shareholders at the 2000 Annual Meeting of Shareholders. At December 31, 2001, 9,383,419 shares were reserved for future grants under the 1999 Plan. The 1999 Plan superseded the 1991 employee stock option plan (the 1991 Plan) and the previously superseded 1987 employee stock option plan (the 1987 Plan), although outstanding options granted under the 1991 Plan continue in force until exercise or expiration. At December 31, 2001, there were 17,234,202 shares reserved for issuance under the 1999 and 1991 Plans.
Additional information with respect to AIG's plans at December 31, 2001, and changes for the three years then ended, were as follows:
(a) Includes those options that vested January 1, 1999 as a result of the merger of SunAmerica Inc. with and into AIG.
The following weighted average assumptions were used for grants in 2001, 2000 and 1999, respectively: dividend yields of 0.20 percent, 0.17 percent and 0.20 percent; expected volatilities of 28.0 percent, 27.0 percent and 25.0 percent; risk-free interest rates of 5.10 percent, 5.42 percent and 5.33 percent and expected terms of 7 years.
There were 503,847 shares, 742,773 shares and 892,929 shares issued under the 1996 plan at weighted average prices of $62.02, $52.66 and $38.24 for the years ended December 31, 2001, 2000 and 1999, respectively. The excess or deficit of the proceeds over the par value or cost of the common stock issued under these plans was credited or charged to additional paid-in capital.
As of December 31, 2001, there were 654,751 shares of common stock subscribed to at a weighted average price of $68.55 per share pursuant to grants of privileges under the 1996 plan. There were 336,020 shares available for the grant of future purchase privileges under the 1996 plan at December 31, 2001.
The following weighted average assumptions were used for grants in 2001, 2000 and 1999, respectively: dividend yields of 0.20 percent, 0.17 percent and 0.20 percent; expected volatilities of 26.0 percent, 34.0 percent and 34.0 percent; risk-free interest rates of 3.47 percent, 5.95 percent and 5.33 percent; and expected terms of 1 year.
Options could not be exercised prior to six months after, nor after 10 years from, grant date. For certain stock options, one reload option was granted for each previously-owned share of common stock tendered to exercise options. Reload options vested immediately and were exercisable for the remaining term of the original options.
AIG has adopted a Supplemental Executive Retirement Plan (Supplemental Plan) to provide additional retirement benefits to designated executives and key employees. Under the Supplemental Plan, the annual benefit, not to exceed 60 percent of average final compensation, accrues at a percentage of average final pay multiplied for each year of credited service reduced by any benefits from the current and any predecessor
Eligibility for participation in the various non-U.S. retirement plans is either based on completion of a specified period of continuous service or date of hire, subject to age limitation. Where non-U.S. retirement plans are defined benefit plans, they are generally based on the employees' years of credited service and average compensation in the years preceding retirement.
In addition to AIG's defined benefit pension plan, AIG and its subsidiaries provide a postretirement benefit program for medical care and life insurance, domestically and in certain foreign countries. Eligibility in the various plans is generally based upon completion of a specified period of eligible service and reaching a specified age. Benefits vary by geographic location.
(d) AGC sponsors a voluntary savings plan for its employees (the AGC 401(k) plan), which provides for salary reduction contributions by employees and matching contributions by AGC of up to 4.5 percent of annual salary.
(e) HSB sponsors a voluntary savings plan for its employees (the HSB 401(k) plan), which provides for salary reduction contributions by employees and matching contributions by HSB of up to 6 percent of annual salary.
The following table sets forth the change in benefit obligation, change in plan assets and weighted average assumptions associated with various pension plan and postretirement benefits. The amounts are recognized in the accompanying consolidated balance sheet as of December 31, 2001 and 2000:
For measurement purposes, an 8.0 percent annual rate of increase in the per capita cost of covered healthcare benefits was assumed for 2001. The rate was assumed to decrease gradually to 5.0 percent for 2007 and remain at that level thereafter. *Plan assets are invested primarily in fixed-income securities and listed stocks.
For measurement purposes, an 8.5 percent annual rate of increase in the per capita cost of covered healthcare benefits was assumed for 2000. The rate was assumed to decrease gradually to 5.0 percent for 2007 and remain at that level thereafter. *Plan assets are invested primarily in fixed-income securities and listed stocks.
The projected benefit obligation, accumulated benefit obligation, and fair value of plan assets for pension plans with accumulated benefit obligations in excess of plan assets were $1.19 billion, $1.06 billion and $499 million, respectively, as of December 31, 2001 and $360 million, $304 million and $51 million as of December 31, 2000. The principal reason for the increase from 2000 to 2001 was the acquisition of AIG Star Life Insurance Co., Ltd. during 2001.
A one-percentage-point change in assumed healthcare cost trend rates would have the following effects:
owned by SICO may be set aside by SICO for the benefit of the participant and distributed upon retirement. The SICO Board of Directors may permit an early pay-out of units under certain circumstances. Prior to pay-out, the participant is not entitled to vote, dispose of or receive dividends with respect to such shares, and shares are subject to forfeiture under certain conditions, including but not limited to the participant's voluntary termination of employment with AIG prior to normal retirement age. In addition, SICO's Board of Directors may elect to pay a participant cash in lieu of shares of AIG common stock. If the expenses of the SICO Plan had been reflected by AIG, the pre-tax amounts accrued would have been $56.9 million, $78.3 million and $88.1 million for 2001, 2000 and 1999, respectively.
(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, 2001, the future minimum lease payments under operating leases were as follows:
(b) Minimum future rental income on noncancelable operating leases of flight equipment which have been delivered at December 31, 2001 was as follows:
DBG writes substantially all classes of business insurance accepting such business mainly from insurance brokers. This provides DBG the opportunity to select specialized markets and retain underwriting control. Any licensed broker is able to submit business to DBG without the traditional agent-company contractual relationship, but such broker usually has no authority to commit DBG to accept a risk. HSB's operations are included in this group.
Transatlantic offers reinsurance capacity both domestically and overseas on treaty and facultative bases for a full range of property and casualty products.
Personal Lines engages in the mass marketing of personal lines insurance, primarily private passenger auto, homeowners and personal umbrella coverages.
AIG's three principal overseas life operations are ALICO, AIA and Nan Shan. ALICO is incorporated in Delaware and all of its business is written outside of the United States. ALICO has operations either directly or through subsidiaries in approximately 50 countries located in Europe, Africa, Latin America, the Caribbean, the Middle East, and the Far East, with Japan being the largest territory. AIA operates primarily in Hong Kong, Singapore, Malaysia and Thailand. Nan Shan operates in Taiwan. AIG's domestic life operations sell financial and investment type products, as well as traditional life products.
Financial Services: AIG's financial services subsidiaries engage in diversified financial products and services including premium financing, banking services and consumer finance services.
AIGFP structures financial transactions, including long-dated interest rate and currency swaps and structured borrowings through notes, bonds and guaranteed investment agreements. AIGFP does not engage in trading activities with respect to commodity contracts. AIGTG engages in various commodities trading, foreign exchange trading, interest rate swaps and market making activities.
(a) Includes AIG Parent and other operations which are not required to be reported separately, other income (deductions) -- net and adjustments and eliminations. (b) Represents the sum of general net premiums earned, life premium income, net investment income, financial services commissions, transaction and other fees, retirement savings & asset management commissions and other fees and realized capital gains (losses). (c) Includes $769 million and $131 million with respect to WTC losses for general and life insurance operations, respectively. (d) Includes acquisition, restructuring and related charges of $2,017 million.
(d) The following table summarizes AIG's life insurance operations by major internal reporting group for the years ended December 31, 2001, 2000 and 1999:
(e) The following table summarizes AIG's financial services operations by major internal reporting group for the years ended December 31, 2001, 2000 and 1999:
(f) A substantial portion of AIG's operations is conducted in countries other than the United States and Canada. The following table summarizes AIG's operations by major geographic segment. Allocations have been made on the basis of the location of operations and assets.
(a) Including general insurance operations in Canada. (b) Represents the sum of general net premiums earned, life premium income, net investment income, financial services commissions, transaction and other fees, retirement savings & asset management commissions and other fees and realized capital gains (losses).
With respect to the charges of $1.36 billion incurred in the third quarter of 2001, approximately $512 million were related to direct costs of the acquisition, including $85 million in investment banking, legal and accounting fees. Direct costs of'$427 million were related to employee severance and other termination benefits, and other compensation costs related to change in control agreements with AGC executives. The costs were also based in part on a projected elimination of' positions, in accordance with AIG's post-business combination plans, which will enhance the effectiveness and efficiency of the combined operations. The balance of the $1.36 billion represented charges resulting from post-business combination plans, recognizing that certain assets will have no future economic benefit or ability to generate future revenues. Such charges include asset impairment charges related to software, leasehold improvements and certain goodwill. Also included were certain adjustments associated with conforming AGC's balances to AIG's existing accounting policies and methodologies.
Of the $1.36 billion, approximately $305 million has been paid as of December 31, 2001. The balance is included in Other liabilities.
The following quarterly financial information for each of the three months ended March 31, June 30, September 30 and December 31, 2001 and 2000 is unaudited. However, in the opinion of management, all adjustments (consisting of normal recurring adjustments) necessary to present fairly the results of operations for such periods, have been made for a fair presentation of the results shown.
The following condensed consolidating financial statements are provided in compliance with Regulation S-X of the Securities and Exchange Commission (the "Commission"). In accordance with Rule 14a-3 of the Commission, this information has been omitted from the 2001 Annual Report to Shareholders.
AGC is a holding company and a wholly-owned subsidiary of AIG. At December 31, 2001, AGC had commercial paper outstanding as well as notes issued. (See Note 9.) As of November 2001, AIG has provided a full and unconditional guarantee of all outstanding debt of AGC.