T H U R S D A Y ,   M A R C H   3 1 ,   2 0 0 5

Greenberg Severs Ties with AIG  |  NAIC Voices SMART Act Concerns  |
Latest Chapter in NAIC-Congressional Relations  |  Agents E&O and State Tort System Survey  |  Have You Tackled Security and Natural Disaster Preparation?  |  The Need for Diversification  |  Big "I" National News

P R O D U C E R   C O M P E N S A T I O N   I S S U E   U P D A T E
Greenberg Severs Ties with AIG

Amidst whispers to the press that American International Group Inc.’s board was contemplating ways to sever all ties with its former CEO, Maurice “Hank” Greenberg announced his retirement as its nonexecutive chairman, effective next week. The announcement coincides with reports that investigations of AIG transactions are mounting.

Last Friday, The New York Times and Bloomberg News sources said that board members were contemplating whether Greenberg should be permitted to retain his role as nonexecutive chairman. Greenberg already had relinquished his role as CEO two weeks earlier at the board’s prodding. Just as the board members convened on Monday to address the issue, they received a letter from Greenberg’s lawyer, David Boies, addressed to the board’s counsel Richard Beattie (legal ethical constraints restricted Boies from writing directly to the board when it is represented by counsel), announcing Greenberg’s resignation from the board, effective upon his return to the United States (expected to be yesterday or today).

The letter points out that the industry is changing quickly and becoming more complex. “Mr. Greenberg’s objective has been, and is, for AIG to be in the vanguard of these changes,” it reads. “In order to lead meaningful changes in the industry and at AIG, the company and its officers and directors must resolve any outstanding questions or issues and move forward. To that end, Mr. Greenberg recognizes the need to promptly and cooperatively resolve all inquiries and investigations by regulators and other authorities.”

According to the WSJ, independent board members were frustrated with Greenberg’s refusal to cooperate with investigators, citing an incident last week when Greenberg’s personal lawyers “refused to immediately allow investigators to remove documents from Starr International Co. and C.V. Starr, private entities essentially controlled by Mr. Greenberg that are affiliated with AIG.” Board members worried that the incident “harmed AIG and would cause them and the company liability.”

Greenberg parts ways with the company after 37 years of service. AIG announced that Frank Zarb, the board’s lead director, will assume the role of nonexecutive chairman until the new chairman is selected.

On the heels of that announcement, AIG revealed Wednesday that it will delay filing its 2004 10-K again, pushing the date back to April 30.

In the same statement, AIG said that “its review to date” indicates that the documentation of a deal with Berkshire Hathaway’s General Re Corp. unit “was improper and, in light of the lack of evidence of risk transfer, these transactions should not have been recorded as insurance. Therefore, AIG’s financial statements will be adjusted to recharacterize such transactions as deposits rather than as consolidated net premiums.” 

In other AIG news, a March 25 WSJ report says that the company might take action to “clean up suspected accounting mistakes that may total as much as $3 billion from as many as 30 insurance transactions.”

WSJ sources say that the mistakes in question occurred over a five-year period and “range from the possible booking of revenue and income earlier than they should have been recorded to the transferring of liabilities off the company’s books, even as AIG remained responsible for those obligations.”

In addition, questions continue if Greenberg’s roles with Starr International Co. and C.V. Starr will terminate. While AIG’s independent directors cannot force Greenberg out of his leadership positions with those companies (which reportedly won about 16% of the common stock of AIG), it was reported in the WSJ that a “person familiar with the matter” predicted that “the Starr companies will cease doing business with AIG in the future.”

There has been speculation about regulators’ view of Berkshire Hathaway CEO Warren Buffett’s involvement in the AIG-General Re deal. Buffet is scheduled to meet with regulators April 11 to discuss the transaction. According to a statement on his company’s Web site, “It was reported that Mr. Buffett was briefed on the ‘nature’ and ‘structure’ of the 2000-2001 reserve transactions between Gen Re and AIG. To the contrary, Mr. Buffett was not briefed on how the transactions were to be structured or on any improper use or purpose of the transactions.”

In state news, Georgia Insurance Commissioner John Oxendine will request information from “numerous” companies about their use of finite reinsurance contracts, according to Business Insurance. And in Connecticut, the Insurance and Real Estate Committee passed to the House a bill that requires brokers to disclose compensation from insurers. The bill does not require agents to disclose compensation if they are not paid by customers, according to a Knight Ridder/Tribune article.

Jennifer Sikorski  (jennifer.sikorski@iiaba.net) is IA’s associate editor. | T O P |

O N   T H E   H I L L
NAIC Voices SMART Act Concerns

The National Association of Insurance Commissioners (NAIC) is raising concerns about the discussion draft of the State Modernization and Regulatory Transparency (SMART) Act that is expected to move forward this year.

NAIC President Diane Koken, in a March 18 letter to House Financial Services Chairman Mike Oxley (R-Ohio) and Insurance Subcommittee Chairman Richard Baker (R-La.), expressed concern that the draft legislation would create "unhealthy regulatory confusion" in insurance markets. Koken reportedly wrote that federal law is "generally not needed" to overhaul insurance regulations and that the draft legislation would create a number of legal and practical concerns, possibly encouraging litigation by those taking issue with particular state regulatory actions.

Chairmen Oxley and Baker informed Koken March 9 that the Financial Services Committee will begin a title-by-title review of the draft in April, in preparation for introduction, with a markup planned for later this year. The discussion draft, put forth by Chairmen Oxley and Baker last year, would require states to develop uniform standards for regulating the industry in areas such as agent and company licensing and speed-to-market policies. It also would preempt p-c insurance rate regulations that many states have had in place for years, while eschewing a federal regulator.

Chairmen Oxley and Baker have said legislation to overhaul the insurance regulatory system is inevitable because "overlapping" state regulations have not kept pace with the evolving insurance marketplace. "While the NAIC has done a good (if often unappreciated) job in developing model laws and working towards uniformity and transparency, reforms to promote uniformity, transparency and competition have not been adopted by most states—ultimately, resulting in less competition, inefficient regulation and higher costs for consumers and businesses," Oxley and Baker wrote in their letter to Koken.

The Big "I" strongly supports the Oxley-Baker SMART discussion draft, which is similar to a proposal it put forward more than three years ago for middle-ground reforms to the existing state regulatory system.

"We are very pleased to hear of Chairman Oxley and Chairman Baker’s plans to move forward with the SMART legislation in 2005," says Charles E. Symington Jr., Big "I" senior vice president of government affairs and federal relations. "We have staunchly supported this proposal from the beginning, and we continue to support it now. The middle-ground, common-sense reforms envisioned in the discussion draft will bring needed reforms to the existing regulatory structure, while keeping regulation at the state level, which is good for consumers and our members alike. This is the right time to move ahead on the bill, and we applaud the chairmen for going forward."

Cliston Brown (cliston.brown@iiaba.net) is Big "I" director of public affairs/media relations. | T O P |

 V I E W :   O N   T H E   H I L L
Latest Chapter in NAIC-Congressional Relations
What Does the Relationship Mean to the Regulation Debate?

The United States Congress and state insurance regulators have a unique relationship, and it is one that continues to develop in fascinating ways.

In 1944, the Supreme Court determined that the insurance business is a form of "interstate commerce" and thus a subject that falls within the policy domain of the federal government. However, early the next year, Congress granted to the states the authority to regulate and tax the business of insurance. At various times in the subsequent decades, Congress has reassumed its overarching authority and imposed its will on the business. Examples of congressional action in this area include the creation of the flood, crop and terrorism insurance programs; various health insurance-related measures; and the Gramm-Leach-Bliley Act and other insurance-oriented federal laws.

In more recent years, Congress (and the House of Representatives in particular) has forcefully and repeatedly expressed concern with the inefficiencies, lack of uniformity and anti-competitive rules that exist in the state regulatory system today. Some policymakers are so frustrated that they have called for the creation of an entirely new federal regulatory mechanism, but most observers believe the most attractive option is the adoption of targeted congressional legislation that leaves regulatory authority with the states while mandating improvements and uniformity in key areas. This targeted "federal tools" approach to reform has been championed most notably by Reps. Mike Oxley (Ohio) and Richard Baker (La)., the chairs of the House Financial Services Committee and the House subcommittee with jurisdiction over insurance issues respectively. Last year, Chairmen Oxley and Baker transformed their conceptual views into a formal legislative package, which they titled the State Modernization and Regulatory Transparency Act (SMART Act).

Due in large part to the heat being applied by Washington, state policymakers have been seeking improvements to the insurance regulatory system on their own, but those efforts have only proven that it is practically impossible for the states to obtain reforms to the key areas of regulation on a consistent basis nationwide. The SMART Act proposal would bolster these ongoing efforts by implementing on a nationwide basis many of the reforms that have been pursued by the National Association of Insurance Commissioners (NAIC) and other groups. Given the state-friendly nature of their proposal, many readers might expect the NAIC to offer favorable reviews of the efforts of Chairmen Oxley and Baker. However, the NAIC recently sent a strongly-worded missive to the congressional leaders expressing a series of concerns and stating that the SMART Act is "not a concept that NAIC would suggest to Congress." (See "NAIC Voices SMART Act Concerns"   above).

The NAIC is not known on Capitol Hill for its political acumen, but its letter even caught longtime observers of the organization by surprise. First, the NAIC and key individual regulators have previously made positive statements about the role of Congress in the insurance reform debate, yet the latest letter appears to voice a different view. Second, the SMART Act is a good deal for state regulators and is certainly preferable to the federal chartering proposals that have strong support in some corners. The Oxley-Baker approach also achieves the stated objectives of the regulators themselves, such as (1) keeping insurance regulation in the hands of the states, (2) implementing the long overdue reforms that state regulators have unsuccessfully pursued, (3) reforming insurance regulation on a 50-state basis, and (4) eliminating the need for federal regulation altogether.

The NAIC has a new leadership team in place and recently lost its top government affairs staffer, so it is important not to read too much into the organization’s recent correspondence. Their actions in the months to come will be far more important.

Wesley Bissett (wes.bissett@iiaba.net) is Big "I" senior vice president, government affairs and state relations. | T O P |

P & C   T R E N D S
Agents E&O and State Tort System Survey  

What do the U.S. Chamber Institution for Legal Reform’s recent and well-publicized state liability rankings mean for independent agents? As ambassadors of reality in their communities, it is often insurance agents who must deliver the news that liability insurance is expensive, hard to find or both. What does the legal environment mean to you and your agency, and what must you set aside for insurance agency errors and omissions protection (agency E&O coverage)?

“The legal system in some states is badly broken and needs to be fixed,” says Thomas J. Donohue, president and CEO of the U.S. Chamber of Commerce. “We won’t rest until we restore basic fairness to the courts by eliminating the unfair home field advantage enjoyed by certain plaintiffs’ attorneys.” In other words, like it or not, you and your clients are participants in the legal environment in your state.

The map below highlights the best and worst state legal systems. If you are a red state, you and your clients should be aware of the less-favorable legal environment. I encourage you to obtain the free report available from the U.S. Chamber of Commerce-affiliated  Institute for Legal Reform. It is chock full of interesting insights and details about the state of our legal/tort system and what it means to state and local business environments as ranked by 1,437 senior corporate attorneys. Often it helps to remind your clients of that. You can also print the chart and keep the report in your waiting area.

Have you said to a client getting a big increase, “Please, don’t kill the messenger!” Well, beyond the fact that you are an obvious scholar by appropriately quoting two of humanity’s most respected big thinkers, Sophocles and Shakespeare, this statement alludes to a very important message. We work in a highly competitive marketplace; we do not just make up insurance premiums; they are a function of their component costs. We have little-to-no influence over the biggest component of most insurance polices: loss and legal defense costs. If a state’s legal climate facilitates more lawsuits and legal action, it affects everyone’s commercial, professional and personal liability premiums.

You may be wondering, “What about my agency E&O premiums?” According to the ILR, the total cost of tort system to U.S. businesses (large and small) is $129 billion. Moreover, businesses with revenues less than $1 million bear a seemingly disproportionate 26% of the cost, or about $33 billion. Agency E&O, like all professional liability premiums, contribute to those totals.

As one of the staff that toils with our state association partners who serve as your agent on our endorsed agency E&O program with GE Insurance Solutions, underwritten by Westport Insurance Company, I can tell you that the legal environment in your state absolutely affects your E&O premiums. The average premium per agency is higher where the environment is more litigious. This affects not only settlements, but also defense costs, which make up about one-third of the total claims expense. Ever since the program started in the mid-1980s, a blue-ribbon committee of your fellow member agents and state association staffs—the Big “I” Professional Liability Committee—has watched over it. If you are interested in agency E&O issues, contact your state E&O administrator.

Is there hope for a red state? The study this year notes that although Mississippi ranked 50 in this year's study, 96% of respondents who were familiar with the state's comprehensive legal reform legislation enacted last year expect a major or moderate improvement in the state's litigation environment. Many of you are active in your state legislatures, perhaps this year’s ILR study will motivate you to be an active part of the process and help get your state from where it is today to where you believe it should be.

Paul Buse (paul.buse@iiaba.net) is a licensed agent and president of Big “I” Advantage, IIABA’s for-profit subsidiary. | T O P | 

 V I E W :   T E C H   U P D A T E
Have You Tackled Security and
Natural Disaster Preparation?
Two New ACT Reports Show Steps to Take

Recent events in the news have highlighted the critical need for agencies to have a comprehensive security policy that protects the confidential customer information they possess. And the 2004 hurricane season was extraordinary in effect on both agency operations and clients. How has your agency changed its operations in response to both of these events?

ACT has produced two new reports, "The Independent Agent’s Guide to Systems Security; What Every Agency Principal Needs to Know" and "Key Considerations in Disaster Planning & Management for Independent Agencies & Brokerage Firms," to help agents address these issues. Both reports are written for agency business leaders in non-technical language and are available on the ACT Web site .

A security breach can devastate an agency’s reputation in its community. A virus can bring the agency’s systems down, causing an interruption in the ability of the agency to do business and costly repairs to remove the infection. Failure to implement and enforce a sound security policy, and then to monitor it for compliance, can result in a theft of the agency’s expirations information, upon which the very value of the agency rests.

The Agency Security Guide is the product of a year’s work by an ACT work group of industry experts. ACT believes the agency business leader needs to understand and then communicate the importance of security to the rest of the agency, as well as to make sure that the agency takes the necessary steps to protect itself. The guide is designed to lay out the major risks that agencies face and to provide recommendations on how to deal with these risks. It also provides steps for agencies to consider should a security breach occur. The guide also provides information agents can use to evaluate an outside security consultant should the agency decide to tap outside expertise.

Agents also can use the agency security risk self-assessment tool provided in the guide, as well as the sample agency security policy which is designed to provide a starting point for agencies to use in developing their own customized policies that fit their particular operations.

Thinking through the agency’s security risks and fashioning the security policy are only the first two steps, however. It is critical that the agency train its employees on the policy, monitor the implementation of the policy, enforce compliance, review the various systems’ logs for abnormal usage or volume and continue to review and refine the policy.

A second ACT work group formed following the abnormal 2004 hurricane season to determine what lessons had been learned with regard to agency disaster planning and management. This work group also drew upon additional agents who had been involved with other kinds of disasters around the country. The group decided to develop a tool in a checklist format to assist agents formulating their own disaster plans. The report covers steps to take well before a disaster, when a disaster is imminent and after a disaster strikes. A list of additional resources that agents may want to tap is also included.

The newly published guide will be useful to any agency, no matter where it’s located, because the principles apply whether the disaster results from fire, wind, ice, flood, hurricane, earth movement, terrorism, hazardous material, spyware, viruses, worms or other causes. Just as in the security area, it is critical for the agency to think through how it will manage the disaster in advance and to develop a continuity plan where its employees understand their role in the emergency, and regularly practice responding to the various contingencies.

The guide puts special emphasis on advance planning, protecting agency data and systems, communications issues and personnel considerations. It encourages agents to consider advance arrangements with third party, off-site resources that can provide services remotely, such as backing up the agency’s data and storing it out of the region, providing access to the agency management system and the agency’s data through the Internet, and responding to customer phone calls if the agency’s phones are down.

Jeff Yates (jeff.yates@iiaba.net) is ACT’s executive director. | T O P |

L & H   T R E N D S
The Need for Diversification

AIG’s recent business problems underscore a fundamental issue facing all investors: The need to adequately diversify investment portfolios. Although it seems logical, a number of investors still violate this axiom. When considering investing in the stock market, all investors should ask themselves:

1) How much risk should a take in the stock of any particular company?

2) How much risk should I take in the stock of any particular industry?

3) How much risk should I take in the stock market in general?

These questions tie into the fundamental portfolio concepts of systematic risk and nonsystematic risk. Since systematic risk is the risk inherent in the entire stock market, it is known as "un-diversifiable risk."

Nonsystematic risk, sometimes referred to as specific risk, is associated with an individual company. The key for investors is to adequately spread their holdings to reduce the volatility associated with a particular company.

As we have seen during the past few years, it is not necessarily a safeguard. Enron and MCI were large companies that went bankrupt when financial irregularities were discovered. Therein lays the problems when large companies run into sudden financial problems. Analysts who follow a particular company can rarely discover the complexity of their accounting practices. AIG’s problems came to light as a result of investigations into other aspects of the company. 

Of course, by investing in a number of companies—the basis for mutual fund companies’ explosive growth in the 1980s—investors also reduce their opportunities to hit home runs with any one stock. Everyone wishes that they had invested $10,000 in Microsoft stock in the early 1980s. They would have been able to stop working a decade ago. But for every Microsoft, there are fives times as many companies that don’t make it. The key is to ask what the investment objective is for the person who is investing. If their goal is for retirement, then it’s critical that they invest with different types of companies such as growth, value, large cap, small cap, etc. The critical element of the portfolio becomes asset allocation, i.e. adequately diversifying the holdings among, stocks (domestic and international), bonds and even other investments such as Real Estate Investment Trusts and, for heavy hitters, hedge funds.

What is the ultimate lesson for independent agents? For many agency principals, the value of their agency stock is their largest single investment. Although it’s great from a control standpoint (no funny accounting shenanigans to deal with), the diversification problem remains. Some agency principals own the agency’s building as another investment, which is a good strategy over a long holding period. Still the value of the agency and the building can be intertwined when it comes to the local business climate, so additional diversification is needed.

A meaningful retirement account—SEP, 401(k) plan—is an important component to balance an agency principal’s long-term savings portfolio. This enables the principal to be able to sell the agency and possibly take back a note on the sale (as long as there are other retirement assets). An installment sale enables the agency principal to spread the payments and have a stream of income for five to 10 years, as long as there is solid management in place with a good track record.

Diversification is the key to getting a good night’s sleep. And, that is a good retirement objective.

Dave Evans (dave.evans@iiaba.net) is a certified financial planner and life-health contributing editor for IA magazine. | T O P |