I gave my first directors and officers (D&O) liability insurance presentation to a board of directors in 1996. The CFO of this publicly traded company asked me to discuss the highlights of its recently renewed D&O insurance program. The presentation lasted less than five minutes—and not one question was asked by any of the board members present. In fact, most of them were engaged in other conversations that they must have deemed more important or more interesting than insurance. My presentation was a mere formality: the board essentially rubber-stamped the CFO’s insurance
decisions.

Since then, a board’s involvement in insurance decisions, like D&O coverage, has changed dramatically. Now our firm presents to its client public company boards and audit committees at least once a year. Board members are no longer passive and disinterested when it comes to insurance. Instead, most are well informed about the liabilities directors face and want to fully vet their D&O insurance protection—specifically its structure, limits and scope of coverage. Questions often arise about insurance carrier solvency, the importance of differences in conditions A-side coverage, appropriate coverage limits and the terms and conditions of the policy. A decade ago, CFOs generally made all these decisions; in today’s ever-litigious corporate environment, many executives now defer these important decisions to their entire boards for input and formal approval before finalizing major insurance placements.

Risky business

Boards are also becoming more engaged in risk management, specifically enterprise risk management (ERM). Traditional risk management identifies exposures to loss, examines various techniques to address the risk and then selects the most appropriate techniques to control it. Note that risk management focuses only on accidental losses, not all losses. A key technique used in risk management is insurance or risk transfer; however, insurance is only one facet of risk management. It’s been suggested that the paradox of insurance is that it is a good first and last response to managing risk, but is not always the most appropriate response. There are other important risk management tools, such as risk avoidance, self insurance, loss prevention, loss control, contractual risk transfer and alternative forms of risk financing.

All-encompassing risk

In contrast, enterprise risk management deals with all aspects of an organization’s risk, not just accidental loss. The Risk and Insurance Management Society defines ERM as “a strategic business discipline that supports the achievement of an organization’s objectives by addressing the full spectrum of its risks and managing the combined impact of those risks as an interrelated risk portfolio.” The Committee of Sponsoring Organizations of the Treadway Commission defines ERM as a “process, effected by an entity’s board of directors, management and other personnel, applied in strategy setting and across the enterprise, designed to identify potential events that may affect the entity, and manage risk to be within its risk appetite, to provide reasonable assurance regarding the achievement of entity objectives.” Both definitions are mouthfuls, but the point is that ERM is all-encompassing and comprises the spectrum of organizational risk. Note the key takeaway that ERM is a process “effected by an entity’s board of directors.” Since the recent financial and economic meltdown, the board’s involvement in ERM has grown significantly. Boards are expected to more effectively identify and assess risks across the organization, driven in large part by anxious shareholders and other stakeholders who want to ensure that both the balance sheet and shareholder value is properly protected. As such, the board’s role in ERM is one of the hottest topics in corporate governance.

Proposed rules

In July 2009, the Securities and Exchange Commission (SEC) took these responsibilities even further by proposing new disclosure rules regarding board oversight of ERM, which could impact how boards approach and manage risk in the future. The proposed amendments include newly mandated disclosures on the boards’ increasing involvement with ERM. If you thought directors of a public company had a tough enough job fulfilling traditional fiduciary and stewardship duties, imagine how those directors must feel knowing they could be held responsible for not accurately identifying and assessing all entity risks and for not properly planning a response for each one. If the SEC proposal passes, Christmas will come early and often to the plaintiff’s bar.

More responsibility?

The process of identifying and managing traditional and known risks is certainly doable for directors. But should they also be held accountable for the highly improbable “Black Swan”? According to Black Swan author Nassim Nicholas Taleb, “a Black Swan is a highly improbable event with three principal characteristics: It is unpredictable; it carries a massive impact; and, after the fact, we concoct an explanation that makes it appear less random, and more predictable, than it was.” He considers 9/11 the prime example of this phenomenon. Think about being responsible for identifying something that is unpredictable, something that has a huge negative impact, and after the fact, experts assert that you should have predicted it. That is one tough exercise for anyone. Boards need to be well equipped to deal with these increasing responsibilities, relying heavily on outside professional service providers to guide them through the labyrinth that is ERM. Whether or not the proposed SEC risk management oversight rules are enacted, ERM will become a recurring theme in boardrooms across America. In fact, it just moved to the top of the agenda.

by Spence Hoole

Hank Greenberg is one of the most iconic of characters in the insurance and finance worlds. Maria Bartiromo of Businessweek had an interesting interview with him recently:

MARIA BARTIROMO

A New York Times story last week suggested that you are poaching talent from AIG and reconstructing the AIG model at your privately held firm, C.V. Starr. Is your intention to build a competitor to AIG?
MAURICE “HANK” GREENBERG

No. Look, I’m building an insurance company and an investment company. We didn’t poach anybody. We hired 13 people from AIG out of the 100,000-plus they have. We didn’t poach them; they came to us. A lot of them had left AIG previously. I know one company in Switzerland that hired 130 people from AIG.

So you’re saying AIG’s talent is fleeing?
That’s been going on for some time.

Are the restrictions on executive compensation imposed by pay czar Ken Feinberg driving talent into your arms?
They’re driving people into anybody’s arms, not just mine. Anybody in the insurance business. Why would someone running an important area of the company and doing a good job stay there for the maximum of $200,000 when they can maybe make $400,000 to $600,000 someplace else?

I’m sure you’ve thought about this, but what if Spitzer had not forced you out as CEO of AIG in 2005? How would things have been different?
It would have been 100% different. Nothing like [what has happened] would have taken place. [AIG] would have been strong. Oh, we would have had some losses, but they would have been minuscule compared with what we’ve seen.

How much money would you have saved the American taxpayer?
We wouldn’t, in my judgment, have had to borrow any money from the taxpayer.

What would you have done differently?
I know for a fact that [Martin] Sullivan told everybody: “Just do everything you want, get as much business as you can, and don’t worry about a goddam thing.” Everything they did disregarded risk management. That’s not the way you run a company. And the board sat on its tail. Frank Zarb did nothing. He was the goddam chairman. What did he do?

Did he understand what was happening?
Well, he was chairman. Shouldn’t he have known? What did he get paid for as chairman? Just to go to a meeting?

And if I remember correctly, the board increased their salaries.
Yes, they did. They were working so hard, they increased their salaries.

If you had still been at the helm of AIG during that black week in September 2008, and it became clear AIG needed a bailout to survive, would you have gone to the government or tapped into your connections in China and elsewhere?
I’d have done everything I could to keep the government out. Absolutely.

Since you left AIG, there have been a string of executives in charge: Sullivan, Robert Willumstad, Edward Liddy, and now Robert Benmosche. How would you rate the job Benmosche is doing?
From what I can see, he’s doing a pretty good job. He’s an experienced executive. He ran MetLife (MET). I think he’s a better leader. But if you can’t pay reasonable compensation, I don’t care how good you are.

Treasury Secretary Tim Geithner was asked on Meet the Press on Nov. 1 if he would like to see AIG prosper. And he said: “I’d like it to be successful enough that the taxpayer can get out.” After that, he said he didn’t care what happened.
That’s a really great statement, isn’t it?

What’s the government’s goal here?
To liquidate the company and pay the taxpayer back. But the taxpayer will never be paid back by liquidating AIG. The only way to get paid back is to rebuild the company so it becomes viable again. Why was it decided AIG would be the sacrificial lamb?

Was it to save Goldman Sachs?
Maybe. But I think there’s got to be a complete investigation of who did what and why.

How significant has this been in terms of wealth destruction for you?
Considerable. Not just for me, but for every one of the employees and executives at AIG. And how many shareholders? AIG had a market cap of $180 billion when I left. Goddam near worthless today.

Maria Bartiromo is the anchor of CNBC’s Closing Bell and writes the blog, Maria Bartiromo’s Investor Agenda, at http://investoragenda.cnbc.com.

The Wall Street Journal had a great piece that is one of my favorites of the newspaper, a human interest story targeting a specific individual that tells a bigger story about the company he/she works for. This particular story is about a subject that I follow closely – that of AIG, now rebranded Chartis. Mr. Eastwood seems to be doing a good job but is still “deep in the woods”. Follow the link at the end of the piece to find the original wsj.com page.

In January, Peter Eastwood, the leader of one of the largest insurers in the U.S., walked into a broker’s office with a plea. “We want our partners to stick with us,” he said.

Mr. Eastwood had just been promoted to run Lexington Insurance Co., one of American International Group Inc.’s most profitable units, and he wanted to prevent jittery clients from bolting after last September’s government bailout.

“It’s been a humbling process,” says Mr. Eastwood, 42 years old. Although he had nothing to do with causing the mess that forced the government to swoop in, paying back the roughly $80 billion that AIG owes the Federal Reserve Bank of New York and the Treasury Department hinges largely on executives such as Mr. Eastwood who run the company’s many insurance units.

Those businesses need to thrive so the company can sell them or steer profits to the government — and still have something left over.

Before AIG nearly collapsed under the weight of its credit-default swaps, the insurer was widely seen as an indomitable force. The swagger is largely gone, with executives and employees now having to reassure clients about the New York company’s financial strength, fend off poaching and scramble for new business.

On Monday, the Government Accountability Office said in a report that AIG’s operations “have begun to show signs of stabilizing” but that the “ultimate success of AIG’s restructuring and repayment efforts remains uncertain.”

AIG has tried to hold and attract desired commercial-insurance customers. But business has suffered, with premiums declining at a double-digit percentage rate in the second quarter from a year earlier in the massive property-and-casualty division that includes Lexington. Income has tumbled in the division by more than 40% to $1 billion, after factoring out capital gains and losses.

New AIG chief Robert Benmosche is weighing whether he wants to keep the global property-and-casualty business, which has been rebranded Chartis, or sell a stake in the unit to investors.

Mr. Eastwood and other executives who toil mostly outside the glare directed at the outspoken Mr. Benmosche and his predecessors face the relentless challenge of essentially trying to run their businesses amid the turmoil. Some customers say the distractions have been obvious.

Last month, Stanford University Medical Center decided to drop two AIG policies, including one from Lexington for medical-malpractice claims. AIG was “really concentrated on their problems, rather than our problems,” says Jeff Driver, the medical center’s chief risk officer, who dealt with different AIG executives, not Mr. Eastwood. “It seemed to be more about them than about us.”
[lexington and churchhill downs] Getty Images

Lexington Insurance, a major AIG subsidiary, sells coverage to many high-profile clients, including Churchill Downs, where the Kentucky Derby is run.

A Chartis spokeswoman says many insurance clients “have appreciated our open and customer-focused approach” during the past year, adding that it “has become an even greater advantage for us in the marketplace.”

On its own, Lexington would be one of the nation’s largest insurers. It has logged tidy profits, including $1.5 billion in 2007, or 27% of the total for AIG’s commercial-insurance operations. Lexington takes on big and unusual risks shunned by many rivals, from onshore oil rigs to sports facilities. Lexington customers include some of the largest U.S. companies, such as General Electric Co., and the insurer is willing to commit millions of dollars on a single policy.

At the time of the AIG bailout, Mr. Eastwood handled health-care accounts at Lexington as a deputy to Kevin Kelley, who had turned the unit into a crown jewel for its parent. Last December, Mr. Eastwood was showering at a Houston hotel when an AIG executive called with word that Mr. Kelley was leaving with his top aide to join a rival. Mr. Eastwood was asked to take over.

Mr. Eastwood caught a flight back to Boston, where Lexington is based, alert to the danger that Mr. Kelley’s departure might spark an exodus. “By the time I get back to 100 Summer St., will I be the only one left in the building?” he recalls thinking.

The Rhode Island native launched a campaign to persuade people to stay. One pivotal moment came in an employee Webcast, where Mr. Eastwood spoke and then asked other top Lexington executives to talk, too. “To me, it was about securing the top and working my way down,” he says.

After the bailout, AIG established retention programs that called for giving thousands of employees bonuses ranging from $92,500 to $4 million. AIG hasn’t disclosed how much specific individuals at Lexington or elsewhere in the company were promised. “They went up to Boston with a bag of money,” says one person familiar with the matter. Mr. Eastwood says compensation hasn’t been “a central theme of the conversations.” The bonuses were distinct from the controversial payments that went to employees of the financial-products unit whose problems largely sparked the bailout.

There were tense moments. Shortly after taking over, Mr. Eastwood called Geof McKernan, the head of NSM Insurance Group, an agency in Conshohocken, Pa. “Are you calling to tell me everything is OK?” Mr. McKernan asked, according to both men. “What are you going to do when the top 10 people in your organization walk out in one week?”

“I don’t think that’s going to happen,” Mr. Eastwood replied.

Mr. Eastwood got credit for keeping the top Lexington staff largely intact, though the threat isn’t gone. According to people familiar with the matter, a rival insurer tried last month to hire a Lexington executive who had been Mr. Eastwood’s peer before he got the top job at the unit. AIG responded to the attempted raid by promoting the executive to a position outside Lexington, and he stayed.

Since taking over at Lexington, Mr. Eastwood also has hit the road, traveling to more than 20 cities from San Diego to London to meet with customers and brokers, some of whom already were nervous because of the bailout.

In January, Mr. Eastwood went to Charlotte, N.C., and met with Steve DeCarlo, who heads an insurance brokerage, AmWINS Group Inc., which does more than $150 million of business with Lexington. “He understands the challenge ahead of him,” Mr. DeCarlo says. “He’s nobody’s dummy.”

It helps that AIG still is a huge player in commercial insurance, so finding alternatives at a competitive price can be hard, says Jim Rubel, an executive vice president at Lockton Inc., a Kansas City, Mo., brokerage.

Many customers also are comforted by the billions of dollars that AIG’s insurance units have for paying claims and oversight of AIG’s claims-paying strength by state insurance regulators. In May, Wyndham Worldwide Corp. renewed a policy with Lexington that provides $25 million of coverage for property damage at hundreds of the Parsippany, N.J., company’s hotels.

Mr. Driver, the Stanford risk manager, hasn’t ruled out a return to AIG. “We just want to step back and see how they develop,” he says.

Mr. Eastwood says the situation “feels a lot more stable.” This month, he spoke again to Mr. McKernan and asked the Pennsylvania insurance executive how things were going. “AIG’s not having any negative effect on my business. You’ve been able to keep your team together,” Mr. McKernan said. “So I’m happy.”

You can find the original HERE at wsj.com.

Today’s post comes from ProPublica, a remarkable non-profit group made of journalists and editors dedicated to investigative journalism. Look below to see what it has to say about AIG’s government subsidy. ProPublica was featured on NPR this morning and I am sharing with you an article from their website:

by Paul Kiel, ProPublica - February 6, 2009 9:15 am EST.

Former Treasury Secretary Henry Paulson (Lauren Victoria Burke/wdcpix.com)

Former Treasury Secretary Hank Paulson said last October [2] that the taxpayers shouldn’t fret about putting $250 billion in the nation’s banks: “This is an investment, not an expenditure, and there is no reason to expect this program will cost taxpayers anything.”

But a draft report from the Congressional Oversight Panel for the TARP says Paulson should have known better. According to the panel’s analysis, the preferred stock and warrants Treasury received are worth far less than the investments themselves, amounting to at least a $43 billion subsidy to the banks. That shortfall, they found, was inevitable from the structure of the investments. That’s because the analysis “demonstrates that the value received – including the market’s estimate of its future worth – was considerably less at the time of the transaction than the amount paid by Treasury.”

In other words, there was every reason to believe the program would cost taxpayers a lot.

The subsidy climbs even more, to $78 billion, when you add in Treasury’s investments to prop up ailing institutions like AIG and Citigroup. As of the report’s completion, the Treasury had used $254 billion to buy stakes in banks and AIG, meaning about a third of that was a giveaway. A breakdown of the panel’s analysis of the size of the subsidies by institution is below the fold.

Update: The panel has posted the final version of the report here [3] (PDF).

First, the eight largest bank investments, excluding the extra help given to ailing Citigroup and Bank of America:

	Amount Invested	Estimated Value	Subsidy %	Subsidy $
Citigroup	$25 billion	$15.5 billion	38%	$9.5 billion
Wells Fargo	$25 billion	$23.3 billion	7%	$1.8 billion
JP Morgan Chase	$25 billion	$20.6 billion	18%	$4.4 billion
Bank of America	$15 billion	$12.5 billion	17%	$2.6 billion
Morgan Stanley	$10 billion	$5.8 billion	42%	$4.2 billion
Goldman Sachs	$10 billion	$7.5 billion	25%	$2.5 billion
PNC	$7.6 billion	$5.5 billion	27%	$2.1 billion
U.S. Bancorp	$6.6 billion	$6.3 billion	5%	$0.3 billion

Next, an analysis of two of the emergency interventions (the analysis was done before Bank of America received an extra $20 billion last month):

	Amount Invested	Estimated Value	Subsidy %	Subsidy $
AIG	$40 billion	$14.8 billion	63%	$25.2 billion
Citigroup	$20 billion	$10 billion	50%	$10 billion

As always, you can see a complete, up-to-date list of the banks and other companies that have gotten bailout money here [4]. Since the report’s completion, the Treasury has continued buying stakes in the nation’s banks. That means the giveaway amount has continued going up. Assuming about a third of the $285 billion invested to date is a kind of subsidy, that means the total subsidy has climbed to $85.4 billion.

The report, signed by the panel’s chair, Harvard Law Professor Elizabeth Warren, cautions that it’s possible the Treasury’s investments might pan out miraculously well. It’s also possible it will be worth much less.

The panel hired an international valuation firm to perform the analysis. An analysis by the Congressional Budget Office last month came to a similar conclusion [5].

The reason for the shortfall, Warren writes, was inherent in the way Treasury structured the deals: they were “certain to create significant subsidies.” For one, the terms were crafted to attract a broad array of participants [6]. And they were one size fits all, regardless of the credit risk of the bank. Even in the cases of AIG and Citi, where the Treasury crafted unique terms, they were generous.

Warren does allow that the purpose of the Treasury’s program was not to make a buck, but rather to support the financial system. For the purpose of this report, at least, she sets aside the question of whether these subsidies are a bad idea. But she does hint that Paulson wasn’t straightforward about the costs, and that’s got to change: “if TARP is to garner credibility and public support, a clear explanation of the economic transaction and the reasoning behind any such expenditure of funds must be made clear to the public.”