American International Group bought itself some time Monday, and not a moment too soon.The insurer received a $20 billion liquidity cushion when New York state said it could access funds tied up in regulated subsidiaries. AIG is also looking to secure a lending facility of as much as $75 billion arranged by J.P. Morgan Chase and Goldman Sachs.
Both steps became vital when both Standard & Poor's and Moody's Investors Service late Monday downgraded AIG's debt, potentially triggering the need for the company to come up with as much as $20 billion in additional collateral and payments for certain products. The access to additional liquidity should mean the firm won't have a problem doing so.
But even if AIG has momentarily escaped the worst ravages of the downgrades, it doesn't change the fact that the firm needs to raise more capital. Until it sorts out that longer-term problem, and comes up with a restructuring plan that streamlines its businesses and sells off assets, its stock will continue to suffer.
The added danger is new liquidity facilities could tempt AIG to continue to drag its heels. AIG is in its predicament partly because it incorrectly surmised that it had time to work out a grand strategic plan. Indeed, since the start of the credit crunch, AIG has failed to get out in front of its problems.
Now, AIG needs to take what it can get. That applies to accepting lower-than-expected prices for businesses it needs to sell or the level of dilution required to place equity with new investors.
That will be painful for both the company and shareholders. But it is better than the alternative: Just ask investors in Lehman Brothers.
Granted, AIG's silence Monday beat presenting a half-baked plan that only talked about the firm's intentions without presenting actual transactions. But it should be careful taking too hard a line with potential investors, as it reportedly did when it shooed away private-equity firms this weekend because it felt they were aiming for too sweet a deal. Playing hard to get only works when there are plenty of suitors circling.
That isn't the case with AIG. The markets know it needs capital and the firm shouldn't pretend otherwise.
With stock and debt markets taking a beating in the wake of Lehman's bankruptcy filing, AIG's losses may grow wider in the third quarter. Some analysts believe a $10 billion third-quarter loss isn't out of the question.
This looming loss in part explains the downgrade as S&P said it expects greater losses in both AIG's portfolio of residential mortgage-backed securities as well as in insurance products protecting against loss in complex instruments backed by mortgages. Such losses also would cut deeper into the firm's already weakened capital base. AIG may have a tough time selling assets at prices that bolster capital, given its status as a distressed seller trying to flog assets in the worst of markets. So access to liquidity could make it seem a little less desperate in negotiations.
But AIG can't try to drive too hard a bargain. Underscoring that point, S&P noted that if AIG fails to successfully raise capital, either through investments or the sale of assets, and mortgage losses continue to mount, the firm could face further downgrades.
In other words, AIG needs to jump quickly on any serious options that present themselves.
By: David Reilly
Wall Street Journal; September 16, 2008
