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The Consequences of Poaching: Berkshire Edition

By Jessica Alling - Sep 27, 2013 at 2:54PM

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Berkshire's eye may be focused on entering a new market, but its poaching may have unintended consequences for its established businesses.

Lots of headlines and news fodder stemmed from the exit of four top executives from American International Group (AIG -0.57%) to start a new commercial property and casualty insurance division within Berkshire Hathaway (BRK.A -0.28%) (BRK.B -0.21%) this past April. And though most of the attention centered on AIG's ability to move forward in its recovery with so many top employees leaving, there's been little notice of a big consequence of Berkshire's move.

Background
With Berkshire's entrance into the commercial property and casualty insurance market, it's stepped on some pretty big toes: AIG's. Trying to boost its measly 1.6% market share of the U.S. excess and surplus liability market, estimated to be around $25 billion annually, Berkshire's poaching may have cramped its other operations. After 20 AIG employees left the company for Berkshire's new division, the former decided to halt any future ties with the latter's reinsurance business.

Reinsurance can be thought of as insurance for insurers. Basically, a second insurance company will be paid a fee to take on some of the liability from the first insurer. Berkshire's National Indemnity Co. and General Re operations are two of the world's largest reinsurers. In fact, based on the first half of 2013, NICO reported a net income of nearly $3 billion, which accounts for 60% of the nation's top 18 reinsurers' aggregate profits.

The AIG/BRK numbers
Based on AIG's 2012 annual report, Berkshire was its top reinsurer with $2.19 billion in coverage, including a $1.6 billion policy from 2011 on AIG's outstanding asbestos claims. Berkshire's policies represented 8.5% of AIG's total reinsurance of $25.8 billion. In terms of Berkshire's total 2012 underwriting revenue from its reinsurance businesses, the $2.19 billion would equate to 14%.

By looking at this comparison, it's clear Berkshire may come away worse for the wear. Since reinsurance is really a risk management activity for AIG, it doesn't need to enter into those policies. It also has a number of other reinsurers to choose from once removing Berkshire from its Rolodex. Though it is interesting to note that AIG's No. 2 and 3 reinsurers (based on percentage of reinsurance business) are Swiss Re and Munich Re. Both companies are partially owned by Berkshire Hathaway -- 6% and 3%, respectively. It will be interesting to see if AIG continues to do business with those firms in the future.

Looking forward
If Berkshire can really make a dent in the excess-surplus market, the impact of AIG's exit from its reinsurance business won't hurt as badly. But since the current operations will need a ramping-up period, there may be some noticeable impact in the coming year or so. For AIG, there will probably be less of an impact, though it might find better pricing from Berkshire's competitors. Either way, both companies offer plenty of opportunities for investors, and the whole saga shouldn't bring either firm many headaches in the long term.

Fool contributor Jessica Alling has no position in any stocks mentioned. The Motley Fool recommends American International Group and Berkshire Hathaway. The Motley Fool owns shares of American International Group and Berkshire Hathaway and has the following options: long January 2014 $25 calls on American International Group. Try any of our Foolish newsletter services free for 30 days.

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Stocks Mentioned

Berkshire Hathaway Inc. Stock Quote
Berkshire Hathaway Inc.
BRK.A
$460,000.00 (-0.28%) $-1,300.00
Berkshire Hathaway Inc. Stock Quote
Berkshire Hathaway Inc.
BRK.B
$306.00 (-0.21%) $0.65
American International Group, Inc. Stock Quote
American International Group, Inc.
AIG
$56.97 (-0.57%) $0.33

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