AG-Prudential: The Best Shareholders Can Get?

The big insurers' deal isn't sweet, but there's no white knight in sight

Ever since American General Corp. (AGC ) Chairman and CEO Robert M. Devlin first announced a stock-swap with British insurer Prudential PLC on Mar. 12, then valued at $26.5 billion, Wall Street has thought that the Houston insurer's shareholders were getting the short end of the stick. Prudential's stock price has tumbled 16% since, and American General's about 4%, thus crushing the premium American General shareholders will receive to 5% from 22%. And that could put the kibosh on the merger. Says one industry analyst: "I'm not convinced the deal will close."

Clearly, this is not what shareholders hoped for. The trouble started when European shareholders balked at Prudential's decision to pour money into an American retail financial services franchise just as the U.S. seems headed towards recession. "We are underwhelmed," says one. Then, American shareholders got the jitters that their shares would tank once U.S. domestic mutual funds started dumping what were about to become British-registered Prudential shares. "A lot of people believe there will be an excess supply of shares on the market," says Tom Goggins, who manages the John Hancock Financial Industries Fund which holds American General stock.

Still, this deal may be the best shareholders can get. Devlin is running out of options. A big believer in consolidation, he has been racing to build a winning diversified financial services franchise since he became CEO in 1995. Until 1998, the dealmaker was on a roll, picking up four life insurers and one annuity company, including USLife Corp. for $1.8 billion. Then he put out feelers to buy firms such as TransAmerica, Liberty Financial, and Aetna's financial services in recent years, industry sources say. But he couldn't compete with the rich prices offered by wealthy European outfits such as Aegon and AXA that were on a shopping spree (chart). And, with a market capitalization of $19 billion, American General seemed difficult to swallow--until Prudential showed up.

NO SWOOPING. When the Prudential deal was first announced, Wall Street was abuzz with rumors that heavyweights such as Sanford I. Weill at Citigroup (C ) or Maurice R. "Hank" Greenberg at American International Group Inc. (AIG ) might swoop in with a counterbid. Unlikely, say investment bankers, because American General has had informal talks with both in the past two years. Devlin insists discussions were never serious enough to reach his board.

On its own, American General was going nowhere fast. Its stock remained stuck in neutral for years, trading in a $35-to-$40 range. Its retirement services business racked up earnings fast. But their impact was dulled by slower growing life insurance and consumer-finance businesses. And Salomon Smith Barney estimates that without a merger with Prudential, American General will likely miss its 12%-to-14% earnings growth target in 2001. "They are an average company that has come to the end of a long road," says portfolio manager R. Harold Schroeder of Dallas-based Carlson Capital, which owned 109,000 shares in December.

Devlin believes the Prudential deal is his best chance to jump-start growth in the U.S. After melding with Prudential, he estimates the company will own roughly 10% of America's $190 billion annuities market, which is expected to rapidly swell as baby boomers retire. Faster growing retirement services will account for 60% of the combined company's North American operating earnings, up from 30% at American General. "We will have an American General in the U.S. market that is heavily focused on the higher growth part of the company," says Devlin.

He may be right. But as the company's founder Gus Wortham said in 1945, in insurance, "you can either acquire, or be acquired." And for American General, the first option no longer exists.

By Emily Thornton, with Pamela L. Moore in New York and Heidi Dawley in London

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