AIG 2006 Annual Report Download - page 140

American International Group, Inc. and Subsidiaries
Management’s Discussion and Analysis of
Financial Condition and Results of Operations Continued
sibility includes developing and implementing policies, procedures, business written by Lexington. Concord Re was capitalized with
management oversight processes, and other governance-related approximately $730 million through the issuance of equity
activities consistent with AIG’s overall operational risk manage- securities and loans from third party investors. AIG and its
ment process. subsidiaries invest in a wide variety of investment vehicles
(Risk and Control Self Assessment managed by third parties where AIG has no control over
AIG’s operational risk management program includes a self investment decisions. Accordingly, there can be no assurance that
assessment process. The self assessment process is used to such vehicles do not, or will not, hold securities of Concord Re.
identify key operational risks in a business and evaluate the
effectiveness of existing controls to mitigate those risks, as well Reinsurance Recoverable
as develop corrective action plans for identified deficiencies. The Reinsurance Security Department reviews the nature of the
risks ceded to reinsurers and the requirements for credit risk
Insurance Risk Management mitigants. For example, in AIG’s treaty reinsurance contracts, AIG
Reinsurance frequently includes provisions that require a reinsurer to post
collateral when a referenced event occurs. Furthermore, AIG limits
AIG uses reinsurance programs for its general insurance risks as
its unsecured exposure to reinsurers through the use of credit
follows: (i) facultative to cover large individual exposures;
triggers, which include, but are not limited to, insurer financial
(ii) quota share treaties to cover specific books of business;
strength rating downgrades, declines in policyholders surplus
(iii) excess of loss treaties to cover large losses; and
below predetermined levels or reaching maximum limits of
(iv) catastrophe treaties to cover certain catastrophes including
reinsurance recoverable. In addition, AIG’s CRC reviews all
earthquake, flood, wind and terror. AIG’s Reinsurance Security
reinsurer exposures and credit limits and approves most large
Department conducts periodic detailed assessments of the
reinsurer credit limits that represent actual or potential credit
reinsurance markets and current and potential reinsurers, both
concentrations. AIG believes that no exposure to a single
foreign and domestic. Such assessments may include, but are not
reinsurer represents an inappropriate concentration of risk to AIG,
limited to, identifying if a reinsurer is appropriately licensed and
nor is AIG’s business substantially dependent upon any single
has sufficient financial capacity, and evaluating the local economic
reinsurance contract.
environment in which a foreign reinsurer operates.
AIG’s consolidated general reinsurance assets amounted to
AIG enters into intercompany reinsurance transactions, prima-
$21.8 billion at December 31, 2006. AIG manages the credit risk
rily through AIRCO, for its General Insurance and Life Insurance &
in its reinsurance relationships by transacting with reinsurers that
Retirement Services operations. AIG enters into these transac-
it considers financially sound, and when necessary AIG holds
tions as a sound and prudent business practice in order to
substantial collateral in the form of funds, securities and/or
maintain underwriting control and spread insurance risk among
irrevocable letters of credit. This collateral can be drawn on for
AIG’s various legal entities. AIG generally obtains letters of credit
amounts that remain unpaid beyond specified time periods on an
from third-party financial institutions in order to obtain statutory
individual reinsurer basis. At December 31, 2006, approximately
recognition of these intercompany reinsurance transactions. At
54 percent of the general reinsurance assets were from unautho-
December 31, 2006, approximately $4.0 billion of letters of credit
rized reinsurers. Many of these balances were collateralized,
were outstanding to cover intercompany reinsurance transactions
permitting statutory recognition. Additionally, with the approval of
with AIRCO or other General Insurance subsidiaries.
insurance regulators, AIG posted approximately $2 billion of
Although reinsurance arrangements do not relieve AIG subsidi-
letters of credit issued by commercial banks in favor of certain
aries from their direct obligations to insureds, an efficient and
Domestic General Insurance companies to permit those compa-
effective reinsurance program substantially limits AIG’s exposure
nies statutory recognition of balances otherwise uncollateralized
to potentially significant losses. AIG continually evaluates the
at December 31, 2006. The remaining 46 percent of the general
reinsurance markets and the relative attractiveness of various
reinsurance assets were from authorized reinsurers. The terms
arrangements for coverage, including structures such as catastro-
authorized and unauthorized pertain to regulatory categories, not
phe bonds, insurance risk securitizations and ‘‘sidecar’’ and
creditworthiness. At December 31, 2006, approximately 85 per-
similar vehicles.
cent of the balances with respect to authorized reinsurers are
Effective July 15, 2006, Lexington and Concord Re Limited
from reinsurers rated A (excellent) or better, as rated by A.M.
(Concord Re), a ‘‘sidecar’’ reinsurer that was established exclu-
Best, or A (strong) or better, as rated by S&P. These ratings are
sively to reinsure Lexington, entered into a quota share reinsur-
measures of financial strength.
ance agreement covering the U.S. commercial property insurance
90 AIG 2006 Form 10-K