FOOL ON THE HILL
How Much Do AIG Execs Make?

AIG, beyond a shadow of a doubt, is one of the biggest success stories in American business in the 20th century, having grown from a small insurer in China to the world's largest insurance company, with operations in 130 countries. But AIG's executive incentives are not only options on AIG stock, but also options in two private entities to which outside shareholders have no access. In an age of greater scrutiny of company finances, this could be a problem.

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By Bill Mann (TMF Otter)
February 12, 2002

I admire American International Group (NYSE: AIG), the world's largest insurance company. But since I don't own it, I've never really looked beyond its financial statements.

In a recent Rule Maker column, however, I said that investors should endeavor to learn from the best companies in the world -- about what they do and why they have clawed their way to the top. AIG's performance as a company and as a stock has been nothing short of phenomenal. Since AIG went public in 1969 it has grown from a market capitalization of $300 million up to its current $193 billion, a compound annual growth rate of 22%, excluding dividends. Earnings have grown at a similar clip, 19% per year.

These kinds of returns are phenomenal, especially when you consider that AIG's main pursuits are life insurance and property and casualty insurance, brutal businesses with products bearing commodity qualities. Yet AIG has spread its reach to hundreds of insurance subsidiaries in 130 countries. This is a successful company that has generated excellent returns for its long-term shareholders.

I found something really troubling about AIG, though. It is impossible to tell how much several of AIG's top executives are being paid to discharge their duties in running the company. What is clear is that Chief Executive Officer and Chairman Maurice "Hank" Greenberg and several other top executives make truckloads of money, as they should, given the company's performance during their reigns. What is less clear, due to an inscrutable relationship between AIG and two private companies plus a foundation, is just how big that particular truck is. While there is nothing inherently wrong or illegal about this, there's not a whole heck of a lot right about it either.

Lying on top of AIG, controlled by its top executives are three private entities, called C.V. Starr & Co., Starr International Company (SICO), and The Starr Foundation. I emphasize that these entities do not appear in any way to hide assets, debts, or any other assorted shenanigans. But their existence and the role they play in compensating AIG brass betrays a certain principle upon which the public markets are built: shareholders ought to be able to tell how much they're paying executives to do their jobs.

You might want to upload a copy of AIG's Proxy Statement (Form DEF 14A) from 2001 to follow the action.

Under "Ownership of Certain Securities," you immediately see something that is quite unusual: line items not only for AIG Common Stock, but also separate entries for "Starr Common Stock" and "SICO Voting Stock." Between them, Senior Management and Directors (35 people) own 3.76% of all AIG common stock with a total current value of $7.3 billion.

In the next lines we see that six of the directors own significant portions of Starr common stock, with Hank Greenberg's 21.86% share leading the way. These six directors are all senior management at AIG -- none of the current non-employee directors has a stake in Starr. All told, Executive Officers of AIG own 83% of Starr and have complete control of its board. For SICO it is much of the same: five employee directors of AIG own stakes in SICO (Jay Wintrob, who joined AIG in the recent acquisition of SunAmerica, does not own SICO stock), none of the outside directors own any SICO. AIG executive officers control exactly 50% of SICO's voting shares.

An insider-laden board
Here's why this unusual structure matters. As I stated earlier, the senior executives of AIG own about 3.7% of the company's stock. But they also control another 18.36% through these entities. SICO owns 13.62%, Starr owns 2.71%, and The Starr Foundation 2.03% (the directors of the Starr Foundation disclaim any ownership of its shares, but they do control those shares for all AIG shareholder votes).

In this way, AIG is effectively fully controlled by the management, who have a significant enough voting bloc (23.9%) to pass any shareholder proposal they wish. Add to this the fact that AIG's 18-member board is comprised of six employee directors, one Chairman of SunAmerica, a wholly owned subsidiary, and two directors who provide services to AIG, and you have a company where the management can make decisions without external oversight. The board is packed with insiders, and though they own less than 4% of the company outright, management wields nearly unbreakable voting power.

It reminds me of nothing more than a corporate structure one finds in China where the controlling family of a company owns a paltry amount of stock, but wields control through a web of assignees and holding companies. Fitting, too: AIG was founded by Cornelius Vander Starr in Shanghai, in 1919. Starr and Greenberg are the only two Chief Executives AIG has ever had.

But what are these other companies? SICO is a Panamanian corporation that seems to do little more than control that big chunk of AIG. In fact, in an August 2001 Texas Department of Insurance application regarding AIG's proposed acquisition of American General Annuity Insurance Company, AIG described SICO thusly: "SICO's primary purpose is to use [AIG's] shares to reward employees of [AIG] and its subsidiaries for their long-term service to [AIG]".

A bizarre ownership web
In the 2001 proxy statement, SICO provided AIG, at cost, about $1.4 million in services, and another $4.3 million in rentals. What services? Doesn't say, except that "from time to time, a subsidiary of SICO may assume insurance risks from third party reinsurers which may have assumed risks from AIG subsidiaries." This means that SICO, controlled by AIG, may be partially insuring risks taken on by AIG. This is vastly different from Enron's situation, as there is no direct ownership or capitalization of SICO by AIG.

AIG's liability should SICO be hit with a massive claim from reinsurance is zero. But what if the claim against SICO originates through AIG? AIG's stock could be under pressure due to the losses, which would hurt the capitalization of SICO, who at that moment may have to flood the market with  millions of shares of AIG stock to cover losses.

SICO is almost fully owned by the top 300 or so AIG employees, who are granted options in SICO by virtue of their employment at AIG. These options expire worthless if the employee leaves AIG before age 65. That's right -- you work at AIG, you can get AIG stock options, but you also get SICO options. How much are the SICO options worth? None of your business, SICO is a private company. How much do the management of SICO get paid? Again, none of your business, SICO is a private company. But we know, even if SICO does nothing more than pay out dividends of $0.17 a share on AIG stock, that the amount that flows through there is considerable. With SICO's ownership of  317,760,012 shares as of April 2001, that comes to a gross of $54 million in cash per year.

C.V. Starr is much of the same, but much more exclusive than SICO. Starr is another private company, independent from AIG, but is nearly entirely owned by the executive management of AIG.  Starr also gets some annual money from AIG dividends, about $8 million per year. It also serves as a collection of insurance agencies, with their biggest customer being, you guessed it, AIG. In 2000, AIG paid Starr $59 million for production of insurance business (net payments were $48 million), which equaled about 37% of Starr's gross revenues for the year of $159 million. After Starr pays its expenses, its shareholders get to keep the rest. Who are the shareholders? AIG executives, who have been rewarded for their services to AIG with options on Starr. How much money this is, once again, is not disclosed, but Hank Greenberg gets 21% of it. It doesn't smack so much of illegality as it does of incest.

Once again, the owners of Starr and SICO are awarded options based upon their service to AIG. How does that not count as compensation from AIG? Investors ought to be able to know how much money they are paying those who are charged with managing the company. AIG may be on the right side of the law, but from a shareholder disclosure standpoint, they sorely miss the mark.

If we take the stake held and controlled by Hank Greenberg as listed in the proxy, we see that he has a direct stake of 48,232,189 shares, with a current market value of $3.6 billion. He also, as a 21.86% shareowner of C.V. Starr, controls another 10,352,753 shares with a value of $767 million, though he disclaims direct ownership of the underlying shares. And finally, he controls 8.33 percent of the voting shares of SICO, however, this differs materially to the common stock ownership of SICO, which is undisclosed.

Messrs. Greenberg, Matthews, Smith, Tizzio, Tse, and Wintrob, are all officers and directors of Starr, and all except Wintrob are officers and directors of SICO. They receive compensation for these roles, in amounts that are undisclosed. However, as part of the long-term incentive plan for SICO, these AIG employees were awarded AIG stock in 2000 worth an aggregate $55.5 million. None of this is "paid" by AIG, but it most certainly is compensation based upon AIG employment, and it comes on top of generous pay and option packages offered by AIG.

None of this, again, should be seen as an accusation of wrongdoing by AIG. However, in an age in which companies that are known as "black boxes" are suddenly being given the once and twice over, AIG should be looked at as a company that has an ineffective board, an opaque compensation plan for officers, and some fairly confusing dealings with companies that, though they are independent and private, are owned and controlled by AIG insiders for the direct benefit of same.

Fool on!
Bill Mann, TMFOtter on the Fool Discussion boards.

Bill Mann does not own any security mentioned in this article. To see his holdings, please refer to his profile. The Motley Fool has a disclosure policy.