At the end of October, hedge fund billionaire and activist investor Carl Icahn wrote a note to insurance behemoth AIG’s CEO outlining his proposals for the company, and then followed that with another letter on Monday.
In addition to warning that “time is of the essence,” Icahn pushed for the company to split off its mortgage and life-insurance operations and focus on its core property and causality-insurance business.
But Joshua Shanker at Deutsche Bank disagrees with his assessment.
“We believe AIG would benefit from selling low [return on equity (ROE)] businesses to better owners near book value, but also believe it would be a mistake for AIG to sell high a ROE business like [United Guaranty Corp] — the company’s [private mortgage insurance] business,” said Shanker’s note to clients Tuesday.
Shanker — calling Icahn an “activist agitator” — argued that the mortgage business makes good money and that by stripping it and other parts of the business away, the main company would be left with nothing valuable to build the company around.
He argued that cutting ties with the company is just a short-term move instead of focusing on the extended health of AIG.
“In a very simplistic characterization, some investors seek to harvest the value of UGC by converting it to cash and then to use that cash to buy back AIG shares,” wrote Shanker. “We believe it would be foolish for AIG to do so, and, from our small pulpit, recommend that AIG resist activist pressure to make such a change as a symbol in the name of progress.”
Icahn is known for his proclivity for buying large stakes in companies and then suggesting major changes. On Monday, Icahn acquired a 7% stake in Xerox, promising to “have discussions with representatives of the Issuer’s [Xerox’s] management and board of directors relating to improving operational performance and pursuing strategic alternatives, as well as the possibility of board representation.”
When he acquired his stake in AIG in late October, he argued in his letter than the separated company was “too big to succeed.”
“We believe you must acknowledge that the current multiline strategy is not generating competitive returns,” wrote Icahn. “Separate monoline companies will be more focused, more efficient, generate better returns and, as a result, command significantly higher market valuations.”
Shanker believes that the mortgage-insurance business helps AIG secure a number of investments, attain a better valuation, and generate its own capital instead of relying on AIG’s.
In addition to the simple financial benefit of a sale, part of Icahn’s argument is that he believes a sale will allow AIG to lose its “too big to fail” designation. AIG has been designated a SIFI, or systemically important financial institution, and that increases regulation. This, Icahn argues, is holding back the company.
Shanker pointed out that the company has said the SIFI designation has no effect on business.
There is “no guarantee that AIG could escape the SIFI designation, which, incidentally, creates ‘definitively no’ capital constraints on its balance sheet,” he said.
While Shanker does not totally rule out a sale of the UCG asset, he said the price must be very beneficial to AIG.
“If a buyer or the public wishes to overpay for this asset, AIG should be willing to part with it,” said Shanker in the note. “However, in the most general sense, if AIG sells it at a market price to buy its own stock at a market price, it may prove to be ROE-destructive, rather than accretive.”
Shanker had some suggestions, including selling off a 46% stake in an aeroplane-leasing business, but Icahn’s demands were not among them.
NOW WATCH: Money & Markets videos
Business Insider Emails & Alerts
Site highlights each day to your inbox.