Today, the U.S. Treasury and the Federal Reserve announced new measures to restructure federal financial support to American International Group, Inc. (AIG) “in order to keep the company strong and facilitate its ability to complete its restructuring plan successfully.” These new measures are intended to “establish a more durable capital structure, resolve liquidity issues, facilitate AIG’s execution of its plan to sell certain of its businesses in an orderly manner, promote market stability, and protect the interests of the U.S. government and taxpayers.” AIG stated that the actions taken by the Federal Reserve and Treasury “will make possible an orderly disposition of certain of AIG’s assets and a successful future for the company.”
The new measures include the following:
- Equity investment – Treasury will purchase, under the Troubled Asset Relief Program (TARP), as authorized under the Emergency Economic Stabilization Act (EESA), $40 billion of newly issued AIG preferred shares, which will be entitled to 10% cumulative dividends, plus warrants to purchase a number of shares of common stock of AIG equal to 2% of AIG’s issued and outstanding shares as of the purchase date. AIG will use this equity to pay down $40 billion of the Federal Reserve’s secured lending facility established by the Federal Reserve Board of New York (FRBNY) in September. Treasury will continue to hold the shares of convertible participating serial preferred stock issued in connection with the FRBNY’s secured lending facility, with the result that the taxpayers will own approximately 77.9% of the equity of AIG and hold warrants to purchase an additional 2%.
Under the agreement with Treasury, AIG must comply with the executive compensation and corporate governance requirements of Section 111 of EESA, including stringent limitations on executive compensation for AIG’s top five senior executive officers and golden parachute payments, and a freeze on the size of the annual bonus pool for AIG’s top 70 executives. Additionally, AIG must maintain and enforce new restrictions on corporate expenses and lobbying adopted by AIG’s current management. It should be noted that Treasury’s purchase of AIG stock is not being conducted under its Capital Purchase Program (CPP), though the terms of the AIG stock purchase bear some similarities to those under the CPP.
- Amendment of existing credit facility – Certain terms of the existing FRBNY secured credit facility will be modified, including a 550 basis point reduction in the interest rate on the facility from three-month LIBOR plus 850 basis points to three-month LIBOR plus 300 basis points, and a reduction in the fee on undrawn funds from 850 basis points to 75 basis points. Additionally, the length of the facility will be extended from two to five years, though other material terms of the facility will remain unchanged.
- Additional lending facilities – Under its powers pursuant to Section 13(3) of the Federal Reserve Act, the Federal Reserve has authorized the FRBNY to establish two new lending facilities relating to AIG to “alleviate capital and liquidity pressures on AIG associated with two distinct portfolios of mortgage-related securities.”
- Residential Mortgage-Backed Securities Facility – FRBNY will lend up to $22.5 billion to a newly-formed limited liability company (LLC) to fund the purchase of residential mortgage-backed securities from AIG’s U.S. securities lending collateral portfolio. AIG will make a $1 billion subordinated loan to the LLC, thereby bearing the risk for the first $1 billion of the losses on the portfolio. Proceeds from this facility will be used to repay the $19.9 billion of outstanding borrowings under the $37.8 billion securities lending facility established by FRBNY in October.
- Collateralized Debt Obligations Facility – FRBNY will lend up to $30 billion to a newly-formed LLC to fund the purchase of multi-sector collateralized debt obligations (CDOs) on which AIG Financial Products has written credit default swap (CDS) contracts. AIG will make a $5 billion subordinated loan to the LLC, thereby bearing the risk for the first $5 billion of the losses on the portfolio.
All loans will be secured by all of the newly-formed limited liability companies’ assets and be repaid from cash flows produced by these assets, and proceeds from any sales of these assets. The FRBNY and AIG will share any residual cash flows after the loans are repaid. These structures are similar to the senior and subordinated loan structure used by the FRBNY to facilitate JPMorgan Chase’s acquisition of Bear Stearns.
The Federal Reserve stated that the “U.S. government intends to exit its support of AIG over time in a disciplined manner consistent with maximizing the value of its investments and promoting financial stability.”