Gen Re to Pay $92.2 Million, Dissolve Dublin Subsidiary to Settle Finite Re Charges

By Meg Green, senior associate editor, BestWeek
A.M. Best
January 20, 2010

Berkshire Hathaway's General Re Corp. has agreed to pay $92.2 million and dissolve a Dublin subsidiary to resolve federal charges relating to sham finite reinsurance contracts with American International Group Inc. and Prudential Financial Inc.'s former property/casualty division.

The U.S. Securities and Exchange Commission said Gen Re would pay $12.2 million to settle its charges that it used sham finite reinsurance contracts to help AIG and Prudential manipulate and falsify their reported financial results. Also, the Department of Justice said Gen Re would pay $19.5 million to the U.S. Postal Inspection Service Consumer Fraud Fund to resolve related criminal charges.

Gen Re also agreed to pay $60.5 million through a civil class-action settlement to AIG's shareholders, the SEC said in a statement. Gen Re previously forfeited to the government about $5 million in fees it earned for its participation in the scheme with AIG.

Attempts to reach the Gen Re and the SEC for additional comment were not immediately successful.

Under the settlement, Cologne Re Dublin, the Gen Re subsidiary that structured the AIG transactions, will be dissolved. Cologne Re Dublin stopped writing new business in 2005, according to BestLink.

AIG has already agreed to pay $800 million to settle related securities fraud and improper accounting charges. AIG's former chairman, Maurice R. "Hank" Greenberg, and former chief financial officer, Howard I. Smith, had previously agreed to pay $15 million and $1.5 million, respectively, to settle SEC charges.

According to the SEC's complaint against Gen Re, filed in U.S. District Court for the Southern District of New York, Cologne Re Dublin entered into two sham reinsurance transactions with AIG in 2000 that improperly allowed AIG to reverse a declining reserve trend and falsely report additions to both loss reserves and premiums written.

Senior officials at Gen Re helped AIG structure the two sham transactions. The contracts show reinsurance transactions that appeared to transfer risk to AIG, but the transactions did not transfer risk.

Five former executives, four from Gen Re and one from AIG, were sentenced to serve jail time in connection with the case. Those executives include Ronald Ferguson, former Gen Re CEO; Christian Milton, former AIG vice president of reinsurance; and Elizabeth Monrad, former Gen Re chief financial officer (BestWire Aug. 20, 2009).

The SEC claimed that Gen Re separately entered into a series of sham reinsurance contracts with Prudential's property/casualty division from 1997 to 2002. The contracts had no economic substance and purpose other than to allow Prudential to build up and then draw down on an off-balance sheet asset or "finite bank" parked with Gen Re, the SEC said. As a result of the sham transactions, Prudential improperly recognized more than $200 million in revenues in 2000, 2001, and 2002. Gen Re received fees totaling $8.1 million for structuring and executing the scheme with Prudential.

Prudential didn't admit or deny the allegations and consented to a permanent injunction (BestWire, Aug. 7, 2008). Pru sold its property/casualty operations to Liberty Mutual in 2003.

The DOJ said the settlement with Gen Re requires the company to continue for three years the internal corporate remediation provisions it has already implemented, including appointing an independent board member; having representatives of Berkshire Hathaway attend audit committee meetings; and creating a complex transaction committee to review reinsurance transactions to ensure that they are not designed to assist other parties in falsifying, manipulating and/or window-dressing its financial statements.

It also includes enhancing the review and reporting roles of its internal audit group; establishing a risk committee to examine underwriting transactions; enhancing underwriting rules for reinsurance and deposit transactions; ensuring proper training and ethical compliance in risk-transfer protocols applicable to reinsurance contracts; and dissolving its subsidiary, Cologne Re Dublin, that had helped to structure the sham transaction.

Last fall, the National Association of Insurance Commissioners estimated the use of finite contracts had fallen by 30% to 40% since year-end 2005, when it adopted additional disclosure requirements. Those included requiring chief financial officers to attest that all reinsurance contracts were legitimate risk transfers (BestWire, Nov. 16, 2009).

General Re Group's currently has a Best's Financial Strength Rating of A++ (Superior).

Most AIG companies have current Best's Financial Strength Ratings of A (Excellent). Shares of AIG (NYSE: AIG) were trading at $28.11 in afternoon trading on Jan. 20, down 0.5% from the previous close.

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