AIG Has $4.1 Billion Cost on Inadequate Reserves at Property-Casualty Unit

American International Group Inc. said higher-than-forecast claims costs cut fourth-quarter profit by $4.1 billion, and $2 billion previously designated to repay its bailout will be used to bolster the property-casualty unit.

The insurer reached an agreement with the U.S. Treasury Department permitting the company to keep $2 billion of proceeds from the sale of Star Life Insurance Co. and Edison Life Insurance Co., New York-based AIG said today in a statement. Funds will be used by the Chartis property-casualty unit for losses tied to coverage including workers’ compensation and asbestos liability.

AIG is adding to reserves, a sign that it underestimated the cost of claims, while rivals including Travelers Cos. have been taking profits after determining they had set aside more funds than necessary. AIG Chief Executive Officer Robert Benmosche, seeking private capital to replace government funds, needs to reassure investors the company has adequate resources for policyholders after competitors said the company undercharged to retain business after its 2008 bailout.

The reserve strengthening is “another indication that previous management teams at AIG were aggressive” in their assumptions about how profitable coverage would be, said Jonathan Hatcher, a Jefferies Group Inc. analyst in New York. “The current management wants to go on the road expressing reserve conservatism.”

AIG had to strengthen reserves by about $2.3 billion in the fourth quarter of 2009. Workers’ claims sometimes surface years after a policy is sold as employees report back and neck injuries. Asbestos claims may be submitted by commercial clients as lawsuits emerge.

‘Adverse Development’

AIG dropped $1.04, or 2.5 percent, to $41.33 at 9:52 a.m. in New York Stock Exchange composite trading. The insurer has dropped about 14 percent this year.

“The strengthening to Chartis loss reserves reflects adverse development on prior accident years,” AIG said in the statement.

AIG has previously had to retain funds from asset sales to prop up its insurance units rather than immediately repay the government. AIG retained about $2.4 billion for Chartis in 2009 under pressure from regulators and ratings firms that monitor the insurer’s ability to pay policyholder claims, Mark Herr, a company spokesman, said at the time. The $2.4 billion came from selling a U.S. auto insurer and a stake in a reinsurer.

Bailed Out

The insurer was bailed out in 2008 in a rescue that swelled to $182.3 billion after losses on bets tied to subprime mortgages. Regulators including Federal Reserve Chairman Ben S. Bernanke said the company’s insurance operations were stable.

Chubb Corp. CEO John Finnegan has said insurer bailouts punished the best-run companies and impeded the functioning of markets.

“The opportunities for financially strong companies to absorb the business of weakened competitors were initially compelling,” Finnegan said in the Warren, New Jersey-based insurer’s annual letter to shareholders in March. “This is as it should be in a free market unimpeded by federal intervention. But the willingness of the federal government to prop up weakened competitors by artificially injecting capital is troubling.”

AIG is appealing to private investors to replace government capital that accounts for 92 percent of its stock. The firm, which has sold assets including non-U.S. life insurance units and a consumer lender, plans to keep a plane-leasing subsidiary, the Chartis property-casualty insurer, a mortgage guarantor, and the SunAmerica Financial Group life business, Benmosche, 66, has said.

Star, Edison

AIG completed a deal this month to sell Star and Edison to Prudential Financial Inc. for about $4.8 billion, including $600 million in assumed debt.

While AIG will retain $2 billion, other cash proceeds will be given to the Treasury, according to the agreement with the department. The transfer will be the first repayment of the Treasury since the department exchanged its $49 billion preferred stake for common shares last month.

Mark Paustenbach, a spokesman for the Treasury Department, declined to comment.

To contact the reporter on this story: Andrew Frye in New York at afrye@bloomberg.net.

To contact the editor responsible for this story: Dan Kraut at dkraut2@bloomberg.net

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