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American International Group held the number one spot for the largest Insurance Company in the US until its collapse in September 2008. According to Shelp (2006) the demise is believed to have originated from bad bets AIG made from insuring securities that were mortgage backed. The unthinkable happened on September 16, 2008 when the government used Federal Reserves to bail out AIG from its miseries to a tune of $85 billion but still loses continued to grow. An additional package was added to make a total of $182 billion. This made a history in the US as the biggest ever government bailout in the US.
An assortment of businesses associated with AIG that run the array from life insurance, to leasing of aircrafts to retirement plants for teachers in elementary schools remained profitable. However, these businesses could not offset huge losses that had been incurred. Given the size and complexity of the deals performed by AIG, it was decided by the federal officials that the company was to be bailed out rather than letting it cause havoc in the international markets which would likely follow bankruptcy (Shelp, 2006). By 2010, AIG had gone back to its position as the number one seller of fixed annuities and late repaid the government $51 billion. It also announced that it will pay back the Federal Reserve bank of New York and later return gradually return it' stock ownership to the public market. This paper gives a discussion of the factors that led to the demise of AIG by first providing its historical background. It then describes in detail the organizations problems and offers alternative solutions of these problems. A recommendation will also be provide to the company to ensure that it does repeat the same mistakes it made.
History of AIG
The history of AIG can be dated back to 1919 when a World War I veteran by the name Cornelius Vander Starr travelled to Asia carrying only 300 Japanese yen in his pocket and set up an insurance agency in the capital city of China, Shanghai. Star was the first Westerner to sell Insurance policies to the Chinese. As Shelp (2006) puts it, his main products were fire and marine insurance which he sold through hiring of locals of areas the company operated in as managers and agents. He did this business for quite some time until early 1949 when AIG changed its location and moved to its current 'home' New York City. This was the same time Mao Zedong pushed forward the People's Liberation Army of the communists on Shanghai. AIG then went on and expanded to different markets through subsidiary companies including regions like Latin America, the Middle East, Europe and other parts of Asia.
In 1962, Starr relinquished the management of AIG's lagging U S holdings and handed it to Maurice R. Greenberg. Under new management the US holdings changed from dealing with personal insurance and began dealing with high-margin corporate coverage. The main focus was now selling insurance policies by the use of independent brokers and not agents as done before so as to get rid of the idea of agent salaries. Using brokers gave AIG a chance to price insurance according what it expected to earn in return even when there was a problem of decreased sales of some of its products for a long time with some little extra expense. Greenberg officially became Starr's successor in 1968 and in 1969, the company went public. Greenberg focused on making huge commercial deals that made the company command a big share of insurance business. Some of these deals were considered abnormal at that point in time. For instance there were coverage like protection of law suits against directors and officers of a company and insurance against kidnapping (Shelp, 2006). No one had ever had of such insurance covers before.
As from 2005, AIG was tangled in a series of investigations on allegations of fraud. These investigations were conducted by the Attorney General's Office of New York State, the US Justice Department and Securities and Exchange Commission. Greenberg was overthrow in February 2005 amid an accounting scandal and to this day he fighting civil charges pushed forward by New York State. AIG as a company together with some of its executives were fined by the office of the Attorney General of New York to a tune of $1.6 billion. The CEO position was taken by Martin J. Sullivan, a man who began his career in AIG in 1970 as a clerk in its office in London (Shelp, 2006).
Sullivan stayed in office until June 15, 2008 when he resigned after disclosure of losses in fiancé and a fall in stock price. The Chairman of the Board of Directors of AIG since 2006, Robert B. Willumstad replaced Sullivan but he was also forced to step down by the US government and his position awarded to Edward M. Liddy who took office on September 17, 2008 (Shelp, 2006). Later in the year, Mr. Liddy announced his retirement and the Board of Directors chose Robert Benmosche as the new CEO as from August 3, 2009.
Description of structure chart
Currently AIG is led by Robert Benmosche as the CEO who has supreme powers in the organization followed by the chairman of the board of directors Robert Miller. According to Gilson (2001) there are a total of ten directors who contribute ideas to the running of the organization. There are also ten different departments in the organization with each department dealing with specific issues. These are domestic life and retirement services, finance risk and investment, United Guaranty, Regulation and legal, life insurance, AIG environmental, Human resource and communication, Media Relations and Investment management.
There were various problems faced by AIG both internally and externally. These problems are explained below.
Big bonus payment
In March 2009, there was an announcement made by the company that it was to pay out $165 million as executive bonuses. As Gilson (2001) puts I, this plan did not only anger the public but also President Obama had earlier voted for the government bailout of the company from its financial crisis. He even lamented that it was very hard to understand how any bonuses would be warranted by derivative traders at AIG. It is very ironical that a company could be helped to come out of its dark financial times and still afford to offer huge bonuses to its executives. This bailout was in fact at the expense of tax payers' money. Senator Dick Durbin stated argued that such an action was ridiculous and quickly reminded them that it was because of the tax payers that they had a job.
As a result of poor leadership, AIG often found itself in various scandals. For instance, it was accused of accounting fraud. This is the reason why the Attorney general fined some of the executives of the company because all this was going on under their watch. This is a clear indication that the leadership was mainly targeted at making themselves richer and therefore put the interests of the company second. Awarding on bonuses was a breach of performance value because the executives wanted accountability for poor management of risks. There was a time when there was to much finger pointing with every one distancing himself from the problem (Gilson, 2001).
Credit card holders also complained of numerous problems. For instance one Mr. Jerry who had an auto policy for the previous two years and had fully paid for complained of having received a collection notice from Vital recovery services Inc. after two years. The reason provided was that Jerry had been insured for 30 days after cancelation of his policy. When he made sort for advice from Connecticut Insurance commissioner of state, he was informed that the practice was illegal. Under any circumstance, this was illegal and unprofessional for that matter. It is very unfortunate that a respected company like AIG could do this.
Exposure to Home loans
Most of the problems with AIG began in its financial product unit based in London. This is part of the company's financial services group. It was exposed to a number of securities that were linked to home loans' value. Credit-default swaps were sold by the financial products (Gilson, 2001). These were complex financial contracts that allowed buyers to insure their securities supported by mortgages. When the values of homes fell, the underlying mortgages' values also declined. This meant that AIG had also to reduce the securities value on its books. On the Wall Streets, AIG's financial buyer was referred to as a synthetic buyer of different asset backed securities. Essentially by investing in homes, AIG was performing what is similar to buying a house with no down payment.
In most of the times, Goldman Sachs, depicted by press as the source of AIG's risk to bad mortgages, used to package bond deals that were specifically meant to meet AIG demands for mortgage exposure. Synthetic investment in bonds was advantageous to AIG compared to direct buying of bonds. Considering that much of AIG's capital was invested in regulated insurance business, its investment assets could only be deployed in limited ways despite huge balance sheets. In fact it the buyers of swaps paid AIG some fee. This meant that it was being paid for making synthetic investments. However, what AIGFP did not know was that this strategy was far riskier than it had anticipated. It meant that when the bond value decline, AIG had an obligation to post collateral to counter parties (Gilson, 2001). Most of insured bonds were relatively illiquid meaning that judgment calls had to be frequently made to come up with a decision on whether or not to post more collateral. Some of the banks that had made such deals with AIG were very hesitant in demanding for more collateral. AIG did not build any capital as a back up to the insurance they sold. Moreover the profit it booked did not ever materialize. All the default rates on the mortgage securities in between 2005 and 2007 were higher than expected and led to some securities being worthless.
There are a number of alternatives that could be taken by AIG. However, as you would expect, there are some advantages and disadvantages that would be linked to each one of them. Some of these alternatives include
Change in industrial associations and employer relations
This is the best alternative because a good working environment is what any employee would wish for to produce better results. The organizational culture at AIG was in a mess to a point that employees and supervisors do not look in the eye. Such a working environment does not encourage any innovation and creative thinking from employees. The company could therefore encourage its employees to engage in constructive bargaining so as to get rid of the differences between workers using enterprise bargaining to bring about lasting and innovating change and others seeking to cut cost without any kind of innovation. As Sheldon (1999) puts it, for an organization to get rid of bad working relationships, its employees need to rebuild the working environment and base it in security, trust and involvement of employees in major issues within the organization either directly or indirectly. AIG has clearly shown that any values an organization espouses are could as well be empty promises unless they are embodied by the leadership. AIG should therefore re-establish proper working relations not only between the leaders and employees but also amongst the employees.
The greatest advantage with this is that it could make employees feel like they are part of the company unlike in the past where they used to feel like they are nothing more than laborers. This would definitely motivate them to work harder and diligently to ensure that the company succeeds.
Consultation with employees on issue that concern the company would also create a chance to make correction and adjustments in some proposals and policies before-hand so that when they are implemented everyone is prepared for them and will fully support them (Sheldon, 1999).
The only disadvantage with this is that it would require some investment in employee motivation either in monetary value or nonmonetary value. However, any organization willing to improve its organization culture should be able to sacrifice some resources for the sake of its employees.
AIG could significantly modify its operations and structure so as to strengthen its financial conditions. Restructuring is the second alternative because it could clearly change how work is conducted at AIG but still maintain the name and values. However it would take longer than changing organization culture would take (Sheldon, 1999). It is also the most appropriate at the moment. For instance, AIG could restructure its operations to meet working capital needs so as to be able to repay the loan it was awarded by the Federal government.
The advantage of this is that, it would create more independent and strong insurance business that is worthy of confidence of investors (Sheldon, 1999). It would also protect and stabilize AIG's value as an important franchise business. The cost structure should also be reviewed in order to reduce its operating cost.
This will also improve transparency and corporate governance and maximize the company's value so that when the economic conditions improve, those willing to buy will be in a position to finance acquisition. The company will also be in a position to access the capital market directly.
The main problem with restructuring that it could require very drastic changes in the company that might not be taken in good faith by employees and lead to a continuation of the bad blood between supervisors and workers. This could see AIG go back to making even bigger losses.
Sheldon (1999) argues that Restructuring might also require that the company brings in a new management team and get rid of the current team. Changing the entire staff is not an easy thing because the new staff would require orientation into polices and values of the company and it might take long before they catch up and produce better results.
The company could also decide to change its name so as to improve its image. At the moment anyone who hears of the name AIG would definitely remember all the bad things that have been said about the company. For instance, cases of fraud and executive bonuses annoyed the public. This is the last option because it's quite involving and could take even longer than the first two to bring positive changes. Sheldon (1999) explains that positive changes is not also guaranteed. The image of AIG as a brand name is therefore badly damaged. At some point the company used its subsidiary names to make sales. This should make the Board of directors to understand that changing the company's name might necessary to improve its relationship with customers and other companies it does business with.
Changing the name of the company would create a different face in the eyes of the public but the company would remain the same so there would nothing for the employees to be scared of. However, the psychological nature of humanity will present a different view all together.
It might however, take some time before people get used to a different name. This would mean that the company works harder like it is a new business organization. Businesses that are afraid of working with new companies that they do not know how they really work might be hesitant to do business with it (Sheldon, 1999).
The new brand name might also not be so catchy to the public like AIG was. Competing against other recognized insurance companies would present a tall order and even lead to the company making more losses instead of the profits that are very much needed to repay the loan.
For any organization to prosper, it needs good leadership who are in a position to make proper and genuine decisions that would improve the organizations status rather than thinking of how to benefit themselves. The leaders of AIG should therefore realize how critical the company is in the world economy. However, it should use the mistakes make in the past as a learning opportunity and ensure that no such thing happens again.