AIG 2005 Annual Report Download - page 116

Management’s Discussion and Analysis of
Financial Condition and Results of Operations Continued
Operations’’ and ‘‘Life Insurance & Retirement Services repurchase agreements, and securities and spot commodities
Operations’’ herein. sold but not yet purchased. ILFC, AGF and AIGCFG all
With respect to General Insurance operations, if paid losses utilize the commercial paper markets, retail and wholesale
accelerated beyond AIG’s ability to fund such paid losses from deposits, bank loans and bank credit facilities as sources of
current operating cash flows, AIG might need to liquidate a liquidity. ILFC and AGF also fund in the domestic and
portion of its General Insurance investment portfolio and/or international capital markets without reliance on any guarantee
arrange for financing. Potential events causing such a liquidity from AIG. An additional source of liquidity for ILFC is the use
strain could be the result of several significant catastrophic of export credit facilities. AIGCFG also uses wholesale and
events occurring in a relatively short period of time. Addi- retail bank deposits as sources of funds. On occasion, AIG has
tional strain on liquidity could occur if the investments sold to provided equity capital to ILFC, AGF and AIGCFG and
fund such paid losses were sold into a depressed market place provides intercompany loans to AIGCFG. An AIG subsidiary
and/or reinsurance recoverable on such paid losses became purchased additional shares of ILFC in the amount of
uncollectible or collateral supporting such reinsurance recover- $400 million during the third quarter of 2005. Cash flow
able significantly decreased in value. See also the discussions provided from operations is a major source of liquidity for
under ‘‘Operating Review — General Insurance Operations’’ AIG’s primary Financial Services operating subsidiaries.
herein. AIG, the parent company, funds its short-term working
With respect to Life Insurance & Retirement Services capital needs through commercial paper issued by AIG
operations, if a substantial portion of the Life Insurance & Funding. As of December 31, 2005, AIG Funding had
Retirement Services operations bond portfolio diminished $2.69 billion of commercial paper outstanding with an average
significantly in value and/or defaulted, AIG might need to maturity of 32 days. At February 28, 2006, AIG Funding had
liquidate other portions of its Life Insurance & Retirement $5.3 billion of commercial paper outstanding with an average
Services investment portfolio and/or arrange financing. Poten- maturity of 24 days. As additional liquidity, AIG parent has a
tial events causing such a liquidity strain could be the result of $2 billion inter-company revolving credit facility provided by
economic collapse of a nation or region in which AIG Life certain of its subsidiaries, a $1.375 billion 364-day revolving
Insurance & Retirement Services operations exist, nationaliza- bank credit facility that expires in July 2006, a $1.375 billion
tion, terrorist acts, or other such economic or political five year revolving bank credit facility that expires in July 2010
upheaval. In addition, a significant rise in interest rates leading and a $3 billion 364-day revolving credit facility that expires
to a significant increase in policyholder surrenders could also in November 2006, of which $1.14 billion is currently
create a liquidity strain. See also the discussions under available as back-up liquidity. AIG parent’s primary sources of
‘‘Operating Review — Life Insurance & Retirement Services cash flow are dividends and loans from its subsidiaries. Largely
Operations’’ herein. as a result of regulatory restrictions, approximately 89 percent
In addition to the combined insurance pretax operating of consolidated shareholders’ equity was restricted from imme-
cash flow, AIG’s insurance operations held $9.63 billion in diate transfer to AIG parent at December 31, 2005. AIG
cash and short-term investments at December 31, 2005. cannot predict how recent regulatory investigations may affect
Operating cash flow and the cash and short-term balances held the ability of its regulated subsidiaries to pay dividends. See
provided AIG’s insurance operations with a significant amount ‘‘Risk Factors — Regulatory Investigations’’ in Item 1A. Risk
of liquidity. AIG subsidiaries have also issued debt securities to Factors. AIG parent’s primary uses of cash flow are for debt
fund insurance needs. In December 2005, Transatlantic issued service, capital contributions to subsidiaries and the payment of
$750 million of debt securities in a public offering, of which dividends to shareholders. See also Note 9 of Notes to
$450 million were purchased by other AIG subsidiaries. Consolidated Financial Statements for additional information
Transatlantic contributed the proceeds of the offering to a on debt maturities for AIG and its subsidiaries.
reinsurance company subsidiary. The capital contributions referred to under Item 1. Busi-
This liquidity is available, among other things, to purchase ness — Regulation and the settlements described under Item 3.
predominately high quality and diversified fixed income securi- Legal Proceedings were funded using existing capacity from
ties and, to a lesser extent, marketable equity securities, and to internal and external sources, including the issuance of
provide mortgage loans on real estate, policy loans, and commercial paper.
collateral loans. This cash flow coupled with proceeds of
approximately $139 billion from the maturities, sales and Special Purpose Vehicles and Off Balance
redemptions of fixed income securities and from the sale of Sheet Arrangements
equity securities was used to purchase approximately $165 bil- AIG uses special purpose vehicles (SPVs) and off balance sheet
lion of fixed income securities and marketable equity securities arrangements in the ordinary course of business. As a result of
during 2005. recent changes in accounting, a number of SPVs and off
AIG’s major Financial Services operating subsidiaries consist balance sheet arrangements have been reflected in AIG’s
of AIGFP, ILFC, AGF and AIGCFG. Sources of funds consolidated financial statements. In January 2003, FASB
considered in meeting the liquidity needs of AIGFP’s opera- issued Interpretation No. 46, ‘‘Consolidation of Variable
tions include guaranteed investment agreements, issuance of Interest Entities’’ (FIN 46). FIN 46 addressed the consolidation
long-term and short-term debt, proceeds from maturities and and disclosure rules for nonoperating entities that are now
sales of securities available for sale, securities sold under
64 AIG m Form 10-K