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Loan to AIG takes Fed into uncharted waters

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NEW YORK--American International Group Inc. last week signed a definitive agreement with the Federal Reserve Bank for a two-year, $85 billion revolving credit facility in return for the government taking a 79.9% ownership of the insurer.

Observers say it is unclear what the federal government will do with AIG once the facility expires.

A statement issued by AIG said that under terms of the deal the insurer must repay the facility from, among other things, the proceeds of certain asset sales and the issuance of debt or equity securities.

Interest charged will be based on the three-month London Interbank Offered Rate plus 8.5 percentage points, or 12.26% as of Sept. 26. The deal called for an initial gross commitment fee of 2% of the total facility on the Sept. 23 closing date.

AIG will also pay a commitment fee on undrawn amounts of the credit facility at the rate of 8.5% a year. The interest and commitment fees are generally payable through an increase in the outstanding balance under the facility, AIG said.

The deal calls for AIG to issue preferred stock, held for the benefit of the U.S. Treasury, that will be convertible into common stock. On Friday, AIG said in a subsequent statement it does not have to seek normal stockholder approval of the preferred stock issuance, because of an exception granted by the New York Stock Exchange.

Shareholders will be notified by mail and "AIG will proceed to issue the preferred stock when it has received all material approvals," said the statement.

An observer familiar with the situation said the 79.9% government stake was arrived at because if the government owned 80% or more, regulation would require it to consolidate AIG's financial results on its own balance sheet.

Borrowings under the facility are conditional on the Federal Reserve "being reasonably satisfied with, among other things, AIG's corporate governance," according to AIG.

AIG Chairman and Chief Executive Officer Edward M. Liddy said in a statement, "AIG made an exhaustive effort to address its liquidity needs through private sector financing but was unable to do so in the current environment. This facility was the company's best alternative.

"We are pleased to have finalized the terms of the facility, and are already developing a plan to sell assets, repay the facility and emerge as a smaller, but profitable company. Importantly, AIG's insurance subsidiaries remain strong, liquid and well-capitalized."

Attorney Robert G. Heim, of New York-based Meyers & Heim L.L.P., speaking before Friday's statement by AIG, said "AIG and the Federal Reserve are likely going to try to craft the stock issuance so as not to require shareholder approval, and courts have been reluctant to step into these types of truncations to enforce the usual shareholder rights."

Some large AIG shareholders convened last week in an effort to devise alternatives to the federal bailout plan. The group included AIG's former chairman and chief executive officer, Maurice R. Greenberg. The group's attorney, Mickey Kantor, with Mayer Brown L.L.P. in Washington, could not be reached.

But with the deal now signed, nothing further can be accomplished by the group, said attorney Jacob H. Zamansky, of Zamansky & Associates in New York. "If they had $85 billion, they could have done the deal themselves," he said.

Mr. Greenberg subsequently sold 5 million AIG shares last week for $18.8 million, a Securities and Exchange Commission filing shows. Starr International Co. Inc., which Mr. Greenberg controls, also sold 35 million shares for $107 million. Their ownership accounts for 9.99% of AIG's outstanding common stock, according to the filing.

Under New York law, owning 10% or more of an insurer "is a presumption you have a controlling interest," which triggers "much stricter regulation," said a New York Insurance Department spokesman.

Phillip Phan, a professor at the Johns Hopkins Carey Business School in Baltimore, said reducing control to less than 10% removes the necessity of keeping the insurance department or the SEC closely informed and provides Mr. Greenberg with flexibility "to plan maneuvers without someone else jumping ahead of him."

"You don't really want to be caught in a bidding situation in an auction, which is inevitably what happens when you disclose your intentions. It's sort of a minor legal maneuver, but it has big consequences for his ability to pursue a strategy," said Mr. Phan.

A spokesman for Mr. Greenberg had no comment.

It still isn't known what the government will do once the two-year facility expires.

Cliff Gallant, an analyst at Keefe, Bruyette & Woods Inc. in New York, said after the loan is paid back, "The view would be that the taxpayer's taken some amount of risk extending its loan, and so part of the return payment is not just their interest cost, but the ownership of the company."

Mr. Heim said, "I think at this point it is unclear what the government's intentions will be....This is really a unique deal, and there's not a lot of precedent for the Federal Reserve to go by at this point."