AIG Accounting Scandal - Case Study Example

AIG Accounting Scandal The American International Group, Inc.-AIG-is among the world’sbiggest insurance and financial services company. It has an estimated ninety-threethousand employees with business in approximately a hundred and thirty countries. The company is ranby Maurice Hank Greenburg. The company has a shareholder’s equity, as in 2007, of approximately ninety-five billion U.S dollars. The net income as of 2007 by the company was approximately six billion U.S dollars. Its premium waswith over 59.8 billion, writtenin 2007. GenReCompany is one of the world’sleadinginsurers. Established in 1921 it had its headquarters in Connecticut. Warren Buffets Berkshire Hathaway owned the company. The company was ranoriginally RonaldFerguson until his retirement in 2002. In 2007, the premium written was over six billion U.S dollars(Schonfeld 2006). Participants Involved in the Demise of AIG One of the participants involved In the AIG demise was Hank Greenburg. He was born in 1925, admitted to the New York bar in 1953, joinedAIG in 1962and named CEO in 1968(Young, 2009). He ranAIG for 38 years before stepping down in March 21 2005(Young, 2009). Another participant was Ron Ferguson. He was the CEO of Gen Re He was bornin 1942(Young, 2009). He was a fellow of CAS ad co-developed the B-F method. He joined Gen Re in 1966 and was CEO in 1987. Later, in 1998, Berkshire HathawayassimilatedGen Re. Helater retired in 2002(Young, 2009). Others include Christopher Garad, FCAS. He was Gen Re’s Senior Vice president and Chief Underwriter of finite reinsurance in the U.S from 1994 to 2005. Elizabeth Monrad, CPA. She was the CFO of Gen Re as from 2000 to 2003. Robert graham, JD. He was SVP and assistant general counsel at Gen Re until 2005 (Young, 2009). Christian Milton. He was the VP of AIGs reinsurance until 2005. RichardNapier was the SVP accountable for Gen Re affiliation with AIG. John Houldswoth was the CEO of Cologne Re Dublin CRD. Eliot Spitzer, JD was born in 1959. He was a former attorney general of New York. During his time as an attorney general, he had some outstandingprosecutions including the mutual fund scandals that was in 2003, the insurer bid rigging, in 2004; and AIG accounting scandal, in 2005. He elected governor of New York in 2006(Young, 2009). How AIG Came Under Scrutiny In 2001, the S.E.C learned that AIG has aided a customer company in strengthening its balance sheet through a bogus insurance transaction. This leads to ensuing of investigations. In 2003, the S.E.C and justice department settle with AIG on a ten million U.Sdollars civil penalty and an independent consultant retained. In 2004, federal grand jury begins investigation of AIG’s income smoothing products. The SEC files a bid rigging complaint against AIG and others. AIG Admits to Improper Accounting On February 9 2005, AIG released its 2004earnings. AIG discloses that the reinsurance deal with Gen Re should have accounted for as a deposit on March 30 205. On May 31, 2005, the restatement amounted to reduction in 2004 net income of 1.32 millionU.Sdollars(Young, 2009). The state authorizesan attack on AIG. On May 27 2005, Spritzer files a civil suit against AIG he alleges that AIG engaged in misleading accounting and financial reporting, projecting an unduly positive picture of AIGs underwriting enactmenton behalf of the investing public. In particular, he states that AIG engaged in two sham insurance trades that provided investors the impression that the company had larger reserves for claims than it did. This was another wrongdoing bythe AIG(Young, 2009). Greenberg Fires Back In an interview, Greenberg says that the use of the attorney general’s office to prosecute and persecute people in the press for his own political gain goes against American legal principles. Greenberg claimed that the prosecution was not about right or wrong but the fact that he was running for office.CNBC’s(Consumer News and Business Channel) Charles Gasparino reports that in an earlier, conducted interview with Greenberg, he refers to Spitzer as a thug. The federal authorities attack. The S.E.C firan a complaint in the U.S District court against AIG on Feb 2, 2006. The S.E.Cs complaint was based on the fact the case was not about the violationof the technical accounting rules but it involved the deliberate, extreme efforts used by senior corporate officers of a facilitator company, in this case Gen Re, to aid and abet senior management of AIG, the issuer.The aiding and abetting helped in structuring transactions having no economic substance that were designed solely for the unlawful purpose of achieving specific, and false, accounting effect on the issuers financial statements. On 9 Feb 2006, S.E.C and the department of justice made a settlement with AIG. There was to be a total settlement in excess of 1.6 billion U.Sdollars (Young, 2009).This ran to relation of AIG to suspect inappropriate accounting, bid rigging in addition to practices that involved employees comp monies. It begged for the replacement of the CEO and CFO. Federal criminal firan actions against some officers at AIG and Gen Re. The officers had an alleged violation of sixteen counts of the criminal code that includedone count of conspiracy charges, seven counts of Security fraud, and five counts of false statement charges to the S.E.C and lastly three counts of mail fraud. Amongst the officers charged, there were a few who plea bargained, they were; Richard Napier, the Senior Vice President of Gen Re; John Houldswoth, the CEO and CRD; and lastly witnesses for the prosecution The setting that ran to the charges in court was; in Oct 26 2000, AIG announced that premiums increased in Q3 but reserves fell by 59 million U.S dollars. In Oct 26 2000, AIG’s share price dropped from 99.37 to 93.31 U.S dollars on the NYSE by 6pecrent (Young, 2009). According to Napier, Greenberg asked Ferguson to transfer temporarily loss revenues to AIG. This entairan raising the amount of 200 to 500 U.S dollars that was to occur by the end of the year 2000 and was supposedly to last 6 to 9 months (Schonfeld 2006). Greenberg said AIG should incur nolosses emphasizing the deal should be riskless. Richard Napier was the Gen Re point person and Christian Milton was the AIG point person. The two parties agreed to strike and make the deal work. Gen Re was to transfer loss reserves to AIG in exchange for a payment of premium. There were two separate contracts implemented to transfer the loss. One was 250 million U.S dollars in 200million with a cap of 300 million U.S dollars(Young, 2009). Second was 250million in 2001 with a cap of 300million. Gene Re obligated to pay AIG a premium of 500million; 250 million per contract(Schonfeld 2006). Gen Re was to receive 5million for doing the deal. The contract was to last twenty-four months(Young, 2009). Issues to the deal In order to appear that Gen Reofferedthe deal, papertrace was significant. Gen Re had to appear to be on the hook for 500million premium without actually paying it(Young, 2009). AIG had to pay Gen Re a five million U.S dollars fee for doing the deal without attracting the attention of regulators. Analystscomplimented AIG for doing what it does best, that is, growing fast and making the numbers as important as was the change in reserves that saw 106 million U.S dollars addition to reserves. They said that AIG put to rest the minor controversy from the last quarter and added 106 million to reserves. How CRD Paid 10m U.S Dollars in Premium without Really Paying This was through an existing contract in which Gen Re holds 31.8 million U.S dollars payable to AIG. Gen Rewas to pay only 7.5 million to commute an existing agreement with AIG’sbrother company HSB. Gen Re was to pay the national union 9.1 m U.S dollars in premium to take out extra cover the HSB losses that wee commuted. CRD was to pay 0.4 million (Schonfeld 2006) in premiums to Gen Re for as ham reinsurance contract and receives a loss payment of 13million shortly after the ink dries. CRD was to pay LPT a premium of 10m to AIG. Both CRD and Gen Re left with 5.2m to cover the fee(Schonfeld 2006). Prosecution Evidence During Houldswoth trial testimony, the recordingof him states that there is no risk transfer with Monrad stating that AIG may have a difficult time getting the accounting they desire out of the deal they want to and further states that AIG seeks no real risk. Houldswoth says AIG did not ask Gen Re for information to perform actuarial analysis of risk. Graham, recorded saying that they Gen Re were not paying the premium fee yet to AIG lest they get the cash first. He later says he doubts AIG would want the deal made public if things went south. Under a Secret side deal, AIG paid Gen Re a five million U.S dollars fee and did not actually pay the ten million in premium stated in a written agreement. Ferguson and Monrad discussedthe draftagreement as a no risk transaction. Fergusontalked over the terms of contract with Greenburg including that AIG would be no risk. Defense Strategy The defense case happened for two days. Five character witnesses took to the stand with the exception of defendants who did not testify. The defense attacked the reliability and credibility of Napier and Houldswoth as they had access to conversations and meeting that never occurred; they had insufficient evidence of side deals. The defense argued that Buffet knew of and approved the deal, the LPT had negligibleconsequences on AIG financials, there was no financial motive and that recordings were out of context. Relevant Laws and Regulations Under the U.S code of laws, there are; Security Investor protection laws that comprise of code of federal regulations; conspiracy laws; and mail fraud laws. Among the Securityinvestor laws, it is considered unlawful to use or employ, in connection with the acquisition or trade of any securitylisted on a national securities exchange… any manipulative or deceptive device or contravention of rules (10)(b)(5), (12)(b)(20)(Schonfeld 2006). Employment of manipulative and deceptive devices. It states that it shall be unlawful for any person, either directly or indirectly, by the use of any means or instrumentality of regionalbusiness or of the mails otherwise of one facility of any national Securities exchange. Rule (13) (b) (2) (A) (Schonfeld, 2006) states that no person shall openly or indirectly fabricate or cause to be falsified, any book, record or account subject. If two or more people conspire either to commit any offense against the United States, or to defraud the U.S, or any agencythereof in any manner or for any purpose, each deserved a fine under this title or restrained not more than five years or both. Whoever having formulated or meaning to plan any scheme or artifice to defraud for purposes of executing such scheme… any other such thing shall, under his fine, fined or imprisoned not more than 20 years or both (Schonfeld, 2006). This was among the mail fraud laws concerning frauds and swindles. For the penalties of the committed misconducts, any person who deliberately violates any establishment of the chapter or any regulation of which is deemed criminal…shall upon conviction be penalized no more than 5 million U.S dollars or confined no more than twenty years or both (Schonfeld, 2006). However, when such anindividual other than a typical person,is a person a fine not exceeding twenty-five million imposed; nevertheless, no individual shall be subject to incarcerationin this segment for the abuse of any rule or regulation if he proves that he had no know range of such rule or regulation. Fate of Participants Ron Ferguson’s conviction was ofone count of conspiracy, seven counts of Securities fraud, five counts of false statements to S.E.C and three counts of mail fraud. His sentence was two years in prison and twoyears’ supervised release with a fine of 200,000 U.Sdollars (Young, 2009). Christopher Garand’s conviction was one count of conspiracy, sevencounts of Securities fraud, five counts of false statements to the S.E.C and three counts of mail fraud. His sentence wasone year and one day in prison with a years supervised release plus a 150,000 fine (Young, 2009).Christian Milton’s conviction wasone count of conspiracy, seven counts of Securities fraud, five counts of false statements to the S.E.C and three counts of mail fraud. He got a four-year sentence in prison with 2years of supervised release. In addition, he was to pay a 200,000 fine (Young, 2009). Robert graham’s conviction comprised of one count of conspiracy, sevencounts of Securities fraud and five counts of false statements to the S.E.C and three counts of mail fraud. His sentence is still pending Elizabeth monrad, CPA,convicted of one count of conspiracy, seven counts of Securities fraud, five counts of false statements to the S.E.C and three counts of mail fraud. She had an eighteen-month period sentence in prison with threeyears’ supervised release. In addition, her fine was 250,000 U.S dollars (Young, 2009). Hank Greenberg was an unindicted co-conspirator who took the fifth.Later on, Spritzer stepped down as governor in 2008 amid allegations of patronizing a prostitution ring. In conclusion, the company did not give full disclosure to the shareholders; hence, they suffered many losses amounting to 1.7 billion U.S dollars. Keeping the shareholders in the loop should have prevented this. AIG took responsibility for misconduct and agreed to pay restitution and penalty fees. AIG managed to hide their accounting improper ties by falsely recording loans as revenues, steering clients to insurers whom AIG had a payoff agreement. The AIG told traders to inflate stock prices. AIG faced substantial hurdles that would make it difficult to transforming back to the secretive and ingrained culture that Hank built over the years. The scope of the company’s liability is unknown.A better way the AIG had used to mask the problem is if the personnel at the companies could have avoided sharing personal information to other people over text, email or over the phone. Independent committees and management reviews formed.to stop fraud; the workers on their toes should not open emails and other things from people they know. References Davidson,Adam. (2006) AIG Settles Fraud, Bid-Rigging and Improper Accounting Charges with SEC, N.Y. Insurance journal. Schonfeld, Mark K (2006) Securities and Exchange Commission, Plaintiff, against American International Group, Inc., Defendant.Securities and Exchange Commission Young, Dan R. (2009) Actuarial Accounting: A Cautionary Report. Read More