AIG 2006 Annual Report Download - page 90

American International Group, Inc. and Subsidiaries
Management’s Discussion and Analysis of
Financial Condition and Results of Operations Continued
prior accident years included approximately $520 million related account the higher ultimate loss ratios for accident years 2001
to Transatlantic with the balance spread across many other and prior.
classes of business. Most classes of business produced For the year-end 2005 loss reserve review, AIG’s actuaries
favorable development for accident years 2003 and 2004, and responded to the continuing adverse development by further
adverse development for accident years 2001 and prior. increasing the loss development factors applicable to accident
For 2004, AIG’s overall net loss reserve development from years 1999 and subsequent by approximately 5 percent. In
prior accident years was an increase of approximately $3.19 bil- addition, to more accurately estimate losses for construction
lion, including approximately $317 million from the general defect-related claims, a separate review was performed by AIG
reinsurance operations of Transatlantic and excluding approxi- claims staff for accounts with significant exposure to these
mately $377 million from accretion of loss reserve discount. This claims.
$3.19 billion adverse development in 2004 was comprised of For the year-end 2006 loss reserve review, AIG claims staff
approximately $4.67 billion of adverse development for the 2002 updated the separate review for accounts with significant expo-
and prior accident years, partially offset by approximately sure to construction defect-related claims in order to assist the
$1.48 billion of favorable development for accident year 2003. actuaries in determining the proper reserve for this exposure.
The adverse development for the 2002 and prior accident years AIG’s actuaries determined that no significant changes in the
was primarily attributable to excess casualty, D&O and related assumptions were required. Prior accident year loss development
management liability classes, and asbestos and environmental in 2006 was adverse by approximately $100 million, a relatively
reserves, all within DBG, and also to Transatlantic. Most classes minor amount for this class of business. However, AIG continues
of business throughout AIG produced favorable development for to experience adverse development for this class for accident
accident year 2003. years prior to 2003.
The following is a discussion of the primary reasons for the Loss reserves pertaining to the excess casualty class of
development in 2006, 2005 and 2004 for those classes of business are generally included in the Other liability occurrence
business that experienced significant prior accident year develop- line of business, with a small portion of the excess casualty
ments during the three-year period. See Asbestos and Environ- reserves included in the Other liability claims made line of
mental Reserves below for a further discussion of asbestos and business, as presented in the table on page 37.
environmental reserves and developments. D&O and Related Management Liability Classes of Business:
Excess Casualty: Excess Casualty reserves experienced signifi- These classes of business experienced significant adverse devel-
cant adverse loss development in 2004 and 2005, but in 2006 opment in 2004 and 2005, but experienced slightly favorable
there was only a relatively minor amount of adverse development. development in 2006. The adverse development in 2004 and
The adverse development for all periods shown related principally 2005 related principally to accident years 2002 and prior. This
to accident years 2000 and prior, and to a lesser extent 2001, adverse development resulted from significant loss cost escala-
and resulted from significant loss cost increases due to both tion due to a variety of factors, including the following: the
frequency and severity of claims. The increase in loss costs increase in frequency and severity of corporate bankruptcies; the
resulted primarily from medical inflation, which increased the increase in frequency of financial statement restatements; the
economic loss component of tort claims, advances in medical sharp rise in market capitalization of publicly traded companies;
care, which extended the life span of severely injured claimants, and the increase in the number of initial public offerings, which
and larger jury verdicts, which increased the value of severe tort led to an unprecedented number of IPO allocation/laddering suits
claims. An additional factor affecting AIG’s excess casualty in 2001. In addition, extensive utilization of multi-year policies
experience in recent years has been the accelerated exhaustion of during this period limited AIG’s ability to respond to emerging
underlying primary policies for homebuilders. This has led to trends as rapidly as would otherwise be the case. AIG exper-
increased construction defect-related claims activity on AIG’s ienced significant adverse loss development since 2002 as a
excess policies. Many excess casualty policies were written on a result of these issues. AIG responded to this development with
multi-year basis in the late 1990s, which limited AIG’s ability to rate increases and policy form and coverage changes to better
respond to emerging market trends as rapidly as would otherwise contain future loss costs in this class of business.
be the case. In subsequent years, AIG responded to these In the year-end 2004 loss reserve review, AIG’s actuaries
emerging trends by increasing rates and implementing numerous responded to the adverse development for D&O and related
policy form and coverage changes. This led to a significant management liability classes by increasing the loss development
improvement in experience beginning with accident year 2001. factor assumptions. The development factors applicable to accident
In the year-end 2004 loss reserve review, AIG’s actuaries years 1997 and subsequent were increased by approximately
responded to the adverse development for excess casualty by 5 percent in the year-end 2004 reserve study. In addition, the
increasing the loss development factor assumptions. In the year- expected loss ratios for accident years 2002 and subsequent were
end 2004 reserve study, the development factors applicable to increased to take into account the higher ultimate loss ratios for
accident years 1998 and subsequent were increased by approxi- accident years 2001 and prior. The loss ratios for the older
mately 12 percent. In addition, the expected loss ratios for accident years increased due to the combination of higher than
accident years 2002 and subsequent were increased to take into expected loss development in the year and the increase in the loss
development factor assumptions.
40 AIG 2006 Form 10-K