U.S. Extends AIG Bailout by up to $30 Billion

By LIAM PLEVEN, MATTHEW KARNITSCHNIG, MICHAEL R. CRITTENDEN and DEBORAH SOLOMON The federal government is boosting its investment in embattled insurer American International Group Inc., providing the company with an additional $30 billion in capital on an as needed basis, but also exposing U.S. taxpayers to additional risk. The new terms ease the financial burden on the company, which on Monday reported a $61.66 billion loss for the fourth quarter. The Treasury Department and Federal Reserve announced the overhaul of the government's bailout of the firm in a joint statement early Monday. In addition to providing up to $30 billion in additional capital to AIG in return for preferred stock, the Treasury said it would convert its existing $40 billion of preferred shares into new preferred shares that more closely resemble common stock. Under the new terms, the Treasury is to get a 77.9% equity interest via preferred stock on Wednesday. The steps by the Treasury will be coupled with changes to the Fed's existing $60 billion resolving credit facility for AIG. The Fed and the Federal Reserve Bank of New York plan to take up to a $26 billion preferred interest in two AIG life insurance subsidiaries -- American Life Insurance Co. and American International Assurance Co. -- as well as make $8.5 billion in new loans to benefit the domestic life insurance subsidiaries of AIG. In addition, the interest rate on the existing credit facility will be modified to reduce the existing floor. The Fed and Treasury said the steps are meant to provide "tangible evidence" of the government's commitment to an orderly restructuring of AIG, and that the cost of not helping the company was judged to be too high. "Given the systemic risk AIG continues to pose and the fragility of markets today, the potential cost to the economy and the taxpayer of government inaction would be extremely high," the joint statement said. Record Quarterly Loss Also on Monday, AIG posted a fourth-quarter net loss of $61.66 billion, or $22.95 a share, compared with a year-earlier net loss of $5.3 billion, or $2.08 a share. The latest results included the restructuring charges and write-downs as the company continues to be slammed by credit-market deterioration, especially in its exposure to commercial mortgage-backed securities. AIG Chief Executive Edward M. Liddy said in a statement that the company has made "meaningful progress" in addressing its liquidity issues, but it taking more steps to preserve the value of its business amid the economic and capital-market turmoil. AIG said it will continue looking for buyers for its units that are already up for sale and will continue reviewing its options for other units, which may include a public offering. AIG said it is considering combining its domestic life and retirement businesses as it looks to boost competitiveness. The combined units would have assets of $246.8 billion. The loss is the biggest quarterly loss in history, breaking the record set by Time Warner Inc. in 2002 amid its acquisition by America Online. Operationally, AIG's general-insurance business swung to a loss amid write-downs, falling investment income and losses at United Guaranty Corp. General-insurance net premiums dropped 16% to $9.2 billion. Life-insurance profits fell 70% and financial services' loss widened. AIG's shares were recently up 7.6% at 45 cents in premarket trading. The stock is off 73% so far this year. Fitch Ratings affirmed its credit ratings on AIG amid the government support, but downgraded some of the company's hybrid debt, saying there was a possibility of increased future political or other incentives to defer payment on hybrid instruments to preserve cash and support the repayment of the government money. Reversal of Initial Plan The new deal, the government's fourth for AIG, represents a nearly complete reversal from the one first laid out in mid-September. Back then, federal officials acted as a demanding lender, forcing the insurer to pay a steep interest rate for what was expected to be a short-term loan. Now the government is relaxing loan terms by wiping out interest in hopes of preserving AIG's value over a longer period. The U.S. will give AIG access to up to $30 billion in new cash from its Troubled Asset Relief Program, or TARP, but will also cut the insurer's $60 billion credit line with the Federal Reserve to between $20 billion and $25 billion. With the latest move, AIG will have the benefit of up to $70 billion from the TARP program; it got a $40 billion TARP investment in November. The total amounts to 10% of the $700 billion financial-sector rescue fund, money that most lawmakers did not expect would go toward propping up a troubled insurer. Officials believed they had little choice but to use the TARP money, particularly because they lack the authority to unwind a troubled firm such as AIG the way the government can do now with failing banks. Timothy Geithner And the government isn't necessarily finished providing support. Government officials are expected to continue assisting AIG as needed in order to help the company shrink and dispose of some of its businesses, according to people familiar with the matter. The AIG funding eclipses the $50 billion that Citigroup Inc. has received from three Treasury programs, and the $45 billion that Bank of America Corp. has received, although each of those firms might receive additional funding in coming months, if necessary. The two banks also have commitments from the U.S. government to back potential losses down the road, putting hundreds of billions of dollars in public funds on the line. The decision to approve another revision of the AIG bailout amounts to a calculated bet by Treasury Secretary Timothy Geithner and Federal Reserve Chairman Ben Bernanke -- both architects of the original bailout -- that there would be even greater risk to letting AIG fail. Fed officials feared that a bankruptcy filing by AIG could be disastrous for the economy, which is in worse shape than it was six months ago. While AIG is trying to unwind many of the derivatives contracts in its Financial Products unit, deepening trouble at AIG would create more trouble for municipalities that have business relationships with the firm. In addition, a bankruptcy risked driving away many of AIG's roughly 74 million policyholders, forcing them to replace insurance contracts at a difficult time, adding to economic troubles in the more than 100 countries in which AIG operates. Valuation of Businesses The deal puts the government more directly into the insurance business. A key aspect of the plan involves creating trusts to hold two AIG units that sell life insurance overseas: Asia-based American International Assurance and American Life Insurance, which operates in 50 countries. Sept. 16: The government extends AIG a two-year loan of up to $85 billion, and gets a 79.9% stake in return.Oct. 8: Bailout loans increase to nearly $123 billion due to problems in AIG's securities-lending program.Nov. 9: The rescue package increases to $150 billion, including a new $40 billion federal investment.March 1: The government makes $30 billion in TARP money available and cuts the loans to up to $25 billion.But AIG and the government have yet to agree on how to value those businesses. That's a major issue for both the company and taxpayers, because it will help determine how far AIG will go to reducing the outstanding government debt. If those AIG franchises lose value after the trusts are created but before they can be sold, that could hurt taxpayers. Already taxpayers are exposed to tens of billions of dollars in soured AIG assets, via participation in investment vehicles that the government helped finance. The Obama administration may move even deeper to ensure AIG's success: providing financing to buyers interested in purchasing AIG's aircraft-leasing business, International Lease Finance Corp. AIG will package life-insurance assets into bonds to give to the government, reducing its federal debt by the value of the bonds. The government can either hold them or sell them to investors. Officials at the Fed think the restructured rescue package gives the U.S. government adequate collateral to protect taxpayers. Two elements of last fall's rescue -- the creation of special-purpose vehicles for certain debt and mortgage assets -- will remain in place and provide interest and earnings to help cover the government's commitments. The latest version of the bailout came as AIG faced potentially crippling cuts to its credit ratings. Downgrades would likely have forced it to post billions of dollars in collateral on an array of financial contracts, and could also have triggered the termination of many corporate insurance policies, costing AIG billions more. In a November filing with the Securities and Exchange Commission, AIG warned that a one-notch downgrade of its long-term rating could require it to pay out about $8 billion to its counterparties. The major credit-rating companies signed off on the latest package, according to people familiar with the matter, clearing the way for the deal to go forward. The revision was negotiated over a period of months between AIG and U.S. government officials, these people say. —Sudeep Reedy and Kerry E. Grace contributed to this article. Write to Liam Pleven at liam.pleven@wsj.com, Matthew Karnitschnig at matthew.karnitschnig@wsj.com and Deborah Solomon at deborah.solomon@wsj.com