Can AIG’s Earnings Extend Its Monster Recovery?

AIG (NYSE:AIG) is expected to report earnings for the fourth quarter of 2012 Thursday, February 21. Increased claims and expenses due to the devastation caused by superstorm Sandy along the east coast of the U.S. are expected to affect the top line for the quarter. But the insurer has come a long way since being bailed out by the U.S. government after the financial crisis in 2008, as the company has restored its brand image and reputation. We will be keeping a close eye on the results of the property and casualty insurance division, which accounts for almost 60% of the company’s revenues and EBITDA.

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Damages From Superstorm Sandy

Around 5% of AIG’s direct premiums originate in the state of New York, which was the state worst hit by Sandy. The insurer estimates losses to be around $1.3 billion net of reinsurance, compared to $603 million in catastrophe related losses observed through the first nine months of the year. In 2011, the company reported total catastrophe related losses of $3.3 billion, influenced by floods in the Tohoku earthquake and tsunami in the first quarter, tornadoes in the U.S. during the second quarter, hurricane Irene in the third quarter and floods in Thailand during the fourth quarter.

Net premiums earned during the first nine months of 2012 were in line with the figure for the corresponding period in 2011, while claims and related expenses declined by 14% due to fewer natural disasters. This led to a narrower underwriting loss for the first three quarters from $2.5 billion in 2011 to $838 million. However, given the damage estimates from superstorm Sandy, we expect only a marginal improvement in the company’s margins for the fiscal year.

We expect some residual claims in the coming years, but our long term forecast is based on the assumption that there will be no major catastrophes like Sandy and Irene in the coming years. We expect the operating margin to return to its historical average, and you can modify the interactive chart below to gauge the effect a change in margins will have on our price estimate.

The Comeback Story

Following the 2008 financial crisis, AIG received a $182 billion bailout from the government, the largest received by a private company. Under public scrutiny, AIG renamed its international P&C operations from AIU Holdings LLC to Chartis in order dissociate the operations from the parent company. However, through the divestiture of non-core assets such as Japan-based life insurance subsidiaries, AIG Star Life Insurance Co., Ltd. and AIG Edison Life Insurance Company, which were sold to Prudential Financial (NYSE:PRU) in 2010 and the American Life Insurance Company (ALICO), which was sold to MetLife (NYSE:MET), AIG was able to repay  the Federal Reserve Bank of New York (FRBNY) credit facility in full. The Treasury sold its stake in AIG through a series of stock sales and ended up with a profit of $22.7 billion.

This allowed AIG to regain the public trust, despite the recent Starr International saga. The company re-branded its P&C division, Chartis, to AIG Property Casualty and SunAmerica to AIG Life and Retirement in the third quarter of 2012. This was quite important for AIG, as 50% of the divisions net written premiums originate in the U.S. The company already has an established distribution network of banks in the country and will rely on its brand image to compete for share in a mature market, which has around 2,500 P&C companies. We expect a slight increase in AIG’s market share in the coming years and will be looking for progress in the fourth quarter report.

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