Please ensure Javascript is enabled for purposes of website accessibility

There's Only 1 Way Forward for AIG and CEO Peter Hancock

By Alex Dumortier, CFA - Jan 13, 2016 at 12:12PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The results of a poll of American International Group institutional shareholders suggests there is a lot of support for some radical action. A breakup of the insurer could well be in the cards.

U.S. stocks are lower in late morning trading on Wednesday, with the Dow Jones Industrial Average (^DJI 1.27%) and the S&P 500 (^GSPC 1.73%) both down 0.65% at 12:05 p.m. EST. Shares of mammoth insurer American International Group Inc are outperforming, up 0.33%.

At the end of October, this columnist wrote that it took Carl Icahn to point out the obvious on AIG. In an open letter to the insurer's CEO Peter Hancock, the legendary investor called for two immediate actions in order to enhance shareholder value:

  • Implementation of a cost control program.
  • AIG should focus on property and casualty insurance, hiving off its life and insurance businesses into two separate publicly traded companies.

AIG's executive management and its board are surely beginning to feel the heat rising beneath their executive chairs. A week ago, the insurer announced that its fourth-quarter results would include "an update on its strategy and its proactive plan to drive shareholder value."

Hancock has little room to maneuver, as it now appears AIG's institutional shareholders privately hold similar views to those the unabashed Icahn states publicly.

In a note published on Tuesday, Sanford C. Bernstein & Co.'s Josh Stirling presented the results of a survey Bernstein conducted across some of its institutional clients. The numbers suggest there is essentially no support for the status, nor any ambivalence regarding the way forward. For example:

  • "Only 4% of investors said they support management's current strategy, as it is."
  • "Only 9% of the respondents indicated they would support management's directors in their most likely posture -- pursuing the current strategy enhanced by a 'modest acceleration of cost-cutting and small divestitures."
  • 86% of respondents want AIG to announce a plan "de-conglomerate and un-lock value by selling businesses and/or spinning divisions."

Bernstein's survey covered over 100 investors that represent more than a third of AIG's shares. Given the level of consensus among the respondents, however, it's unlikely the shareholder base as a whole is satisfied, or feels very differently.

There is quite a bit of research supporting the existence of a diversification (or conglomerate) discount in the financial services sector (see, for example, Laeven & Levine (2005) and Schmid & Walter (2007)).

In other words, companies that diversify across different businesses areas, such as lending and securities underwriting, are valued less highly than those that choose to focus on a single one.

That diversification discount also exists within the insurance industry. The authors of a 2008 paper in The Journal of Risk and Insurance concluded:

Our results indicate that un-diversified insurers consistently outperform diversified insurers. In terms of accounting performance, we find a diversification penalty of at least 1 percent of return on assets or 2 percent of return on equity.

Two percentage points may not seem like much, but in the context of a company that has earned a median annual return on common equity of just 7.3%, it starts to look pretty significant.

Furthermore, at AIG, that conglomerate discount is probably compounded by a size discount because it is one of only three insurers that has been designated as a SIFI (Systemically Important Financial Institution) and will, therefore, almost certainly be required to hold additional capital.

With rival insurer MetLife Inc announcing a breakup plan of its own yesterday that would see it split off a substantial part of its retail segment, AIG had better come up with something big on January 26, failing which, Hancock is not long for his position.

For investors, I believe there is a medium-term opportunity here, with AIG's shares now trading roughly 7% below where they closed on Oct. 28, the day Icahn published his entreaty and announced he owned "a large stake" of the company.

Alex Dumortier, CFA, has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Dow Jones Industrial Average (Price Return) Stock Quote
Dow Jones Industrial Average (Price Return)
$33,761.05 (1.27%) $424.38
S&P 500 Index - Price Return (USD) Stock Quote
S&P 500 Index - Price Return (USD)
$4,280.15 (1.73%) $72.88
American International Group, Inc. Stock Quote
American International Group, Inc.
$57.41 (1.92%) $1.08
MetLife, Inc. Stock Quote
MetLife, Inc.
$67.81 (1.68%) $1.12

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 08/13/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.