How much did the restatements change AIG's reported 2004 earnings and equity?

Restated 2004 net income is $9.84 billion, compared with $11.05 billion previously reported, a reduction of about $1.2 billion. Restated shareholders' equity at year-end 2004 is $79.67 billion, versus $82.87 billion previously reported, a reduction of about $3.2 billion. Most of the equity decline stems from the First Restatement, including the reversal of the Union Excess and Richmond risk-transfer conclusions and the life settlement accounting change.

What caused the restatements?

AIG's internal review, overseen by the Audit Committee and launched in 2005, found that certain reinsurance and insurance transactions lacked sufficient risk transfer to qualify as insurance, and that some entities (Union Excess, Richmond, Capco) should have been consolidated. It also found improper recharacterization of capital gains as net investment income, unsupported reserve adjustments, misapplied FAS 133 hedge accounting, deferred tax errors, and balance sheet reconciliation failures in the Domestic Brokerage Group. The filing notes that many of these transactions appeared designed to achieve desired accounting results.

What are the material weaknesses and why do they matter?

Management identified weaknesses in the control environment (senior management able to override controls), controls over risk transfer evaluation, balance sheet reconciliations, derivative hedge accounting, and income tax accounting. PwC concluded that AIG did not maintain effective internal control over financial reporting as of December 31, 2004. These matter because they indicate the reliability of reported financial results was in question, which contributed to regulatory action, rating downgrades and the need for an independent consultant to review controls.

What is the cost of the regulatory settlements and how do they affect investors?

AIG agreed to payments totaling about $1.64 billion, including a $700 million SEC disgorgement, a $100 million SEC civil penalty, $25 million to the DOJ, $375 million to a fund for excess casualty policyholders, about $343 million for workers compensation premium tax underpayments and a $100 million NY fine. The after-tax charge is about $1.15 billion in Q4 2005. A substantial portion is available to resolve shareholder lawsuits, and many other securities, derivative and antitrust class actions remain pending, so further charges are possible.

What do the ratings downgrades mean for AIG's funding and operations?

Downgrades raise AIG's borrowing costs, reduce the competitive advantage of its AAA-type ratings in derivatives and structured transactions, and increase collateral requirements. AIG had already posted about $1.16 billion, and a further downgrade to Aa3 by Moody's or AA- by S&P could require about $962 million more as of February 28, 2006. The company also noted that SEC registration rules would limit its access to US public markets for a period, which could delay funding programs.

AIG 10-K FY2004 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K/A filed March 16, 2006. Cited figures are marked; the original filing is the authoritative source.

American International Group's Form 10-K/A (Amendment No. 1) for fiscal 2004, filed March 16, 2006, restates AIG's previously reported results in two stages: a First Restatement (originally disclosed in the May 2005 10-K) and a Second Restatement announced November 9, 2005.

Restated 2004 net income is $9.84 billion^a versus $11.05 billion previously reported, and restated shareholders' equity at year-end 2004 is $79.67 billion versus $82.87 billion. Total assets were restated to $801.1 billion from $804.6 billion. The filing attributes the restatements to insufficient risk transfer in certain reinsurance and insurance transactions (Union Excess, Gen Re, Richmond), improper net investment income and capital gains recognition, misapplied FAS 133 hedge accounting, deferred tax errors, and DBG balance-sheet reconciliation failures.

Management identified five material weaknesses in internal control over financial reporting as of December 31, 2004, and PwC issued an adverse opinion on internal control. The filing also discloses a February 2006 global settlement with the SEC, DOJ, NYAG and NY Department of Insurance totaling about $1.64 billion^b in payments, with an approximately $1.15 billion after-tax charge to be recorded in Q4 2005. Separately, a Milliman-led reserve review is expected to produce a roughly $1.2 billion after-tax charge in Q4 2005, reflecting an approximately $1.8 billion net reserve increase.

Ratings were downgraded during 2005 (S&P to AA from AAA, Moody's to Aa2, Fitch to AA), which has raised collateral requirements, with about $1.16 billion^c already posted and roughly $962 million more callable on a further downgrade. For investors, the key takeaways are the magnitude of the earnings and equity restatement, the severity of the control failures, the cost of regulatory resolution, and the reserve and ratings pressures that shaped the company's 2005 outlook. Note that this is a restated 2004 report, so its figures describe a prior period rather than current results.

02—Key points

Key Highlights

Restated 2004 net income of $9.84 billion, down about $1.2 billion (roughly 11%) from the $11.05 billion originally reported, reflecting the combined First and Second Restatements and the Q4 2004 changes in estimates.
Restated shareholders' equity at December 31, 2004 of $79.67 billion, versus $82.87 billion previously reported; total assets restated to $801.1 billion from $804.6 billion.
Q4 2004 changes in estimates reduced pretax earnings by about $1.6 billion, including an $850 million increase in asbestos and environmental reserves and a $178 million reinsurance arbitration charge.
Five material weaknesses in internal control over financial reporting as of December 31, 2004 (control environment, risk transfer evaluation, balance sheet reconciliations, derivative hedge accounting, income tax accounting); PwC issued an adverse opinion on internal control.
February 2006 regulatory settlements with the SEC, DOJ, NYAG and NY DOI involving about $1.64 billion in payments and an approximately $1.15 billion after-tax charge in Q4 2005, plus a three-year independent consultant requirement.
Ratings downgrades in 2005 (S&P AAA to AA, Moody's Aaa to Aa2, Fitch AAA to AA) required about $1.16 billion of collateral postings, with a further ~$962 million callable on a downgrade to Aa3/AA-.
Subsequent-period charges disclosed: about $1.2 billion after-tax reserve strengthening from the Milliman review and about $150 million additional Q4 2005 catastrophe charges, with Hurricane Wilma losses of roughly $400 million.

03—Questions

Frequently Asked Questions

How much did the restatements change AIG's reported 2004 earnings and equity?
Restated 2004 net income is $9.84 billion, compared with $11.05 billion previously reported, a reduction of about $1.2 billion. Restated shareholders' equity at year-end 2004 is $79.67 billion, versus $82.87 billion previously reported, a reduction of about $3.2 billion. Most of the equity decline stems from the First Restatement, including the reversal of the Union Excess and Richmond risk-transfer conclusions and the life settlement accounting change.
What caused the restatements?
AIG's internal review, overseen by the Audit Committee and launched in 2005, found that certain reinsurance and insurance transactions lacked sufficient risk transfer to qualify as insurance, and that some entities (Union Excess, Richmond, Capco) should have been consolidated. It also found improper recharacterization of capital gains as net investment income, unsupported reserve adjustments, misapplied FAS 133 hedge accounting, deferred tax errors, and balance sheet reconciliation failures in the Domestic Brokerage Group. The filing notes that many of these transactions appeared designed to achieve desired accounting results.
What are the material weaknesses and why do they matter?
Management identified weaknesses in the control environment (senior management able to override controls), controls over risk transfer evaluation, balance sheet reconciliations, derivative hedge accounting, and income tax accounting. PwC concluded that AIG did not maintain effective internal control over financial reporting as of December 31, 2004. These matter because they indicate the reliability of reported financial results was in question, which contributed to regulatory action, rating downgrades and the need for an independent consultant to review controls.
What is the cost of the regulatory settlements and how do they affect investors?
AIG agreed to payments totaling about $1.64 billion, including a $700 million SEC disgorgement, a $100 million SEC civil penalty, $25 million to the DOJ, $375 million to a fund for excess casualty policyholders, about $343 million for workers compensation premium tax underpayments and a $100 million NY fine. The after-tax charge is about $1.15 billion in Q4 2005. A substantial portion is available to resolve shareholder lawsuits, and many other securities, derivative and antitrust class actions remain pending, so further charges are possible.
What do the ratings downgrades mean for AIG's funding and operations?
Downgrades raise AIG's borrowing costs, reduce the competitive advantage of its AAA-type ratings in derivatives and structured transactions, and increase collateral requirements. AIG had already posted about $1.16 billion, and a further downgrade to Aa3 by Moody's or AA- by S&P could require about $962 million more as of February 28, 2006. The company also noted that SEC registration rules would limit its access to US public markets for a period, which could delay funding programs.

04—Continue

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