American International Group Inc has agreed to pay roughly $10.2 billion to Warren Buffett's Berkshire Hathaway Inc to take on many long-term risks on U.S. commercial insurance policies it has already written.
The reinsurance transaction covers "long-tail" exposures, which are liabilities that can emerge long after policies are issued, from excess casualty, workers compensation and other AIG policies dating from 2015 and before.
Berkshire's National Indemnity Co unit will take on 80 percent of net losses in excess of the first $25 billion, with a maximum liability of $20 billion.
The payment comprises $9.8 billion plus interest since the beginning of 2016. AIG expects to make the payment to National Indemnity by June 30, and Berkshire will guarantee National Indemnity's obligations.
Friday's transaction helps AIG Chief Executive Peter Hancock reduce risks that his New York-based insurer took on before he took over in June 2014, and frees up capital for share buybacks.
"This decisive step enables us to focus firmly on the future," and provides "additional risk capacity to serve our clients and return capital to shareholders," Hancock said in a statement.
For Buffett and reinsurance chief Ajit Jain, the transaction boosts how much Omaha, Nebraska-based Berkshire can invest elsewhere, including stocks and whole companies.
Berkshire's float, which helps fund growth and reflects the amount of insurance premiums collected before claims are paid, totaled $91 billion as of Sept. 30.
UBS analyst Brian Meredith, who rates AIG "neutral," in a research note said the transaction "calls into question" the quality of AIG's underwriting as recently as 2015.
"This announcement indicates that there may be more pain left," he wrote.
AIG is retaining authority to handle and resolve claims. Hartford Financial Services Group Inc struck a similar arrangement when it passed off some asbestos liabilities to National Indemnity earlier this month.
National Indemnity in 2014 reached a similar transaction with Liberty Mutual covering $6.5 billion of liabilities, but took responsibility for handling asbestos and environmental claims. Liberty Mutual agreed to handle workers compensation claims.
AIG plans to take a charge in the just-completed fourth quarter for the transaction. It said it would have recognized a $2.9 billion loss had the agreement been reached a year ago. The payment represents nearly 3 percent of its investment portfolio.
In morning trading, AIG shares were up 76 cents at $67.05, while Berkshire Class A shares rose $1,740 to $240,600.
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