General Re, a Berkshire Hathaway subsidiary, has reached a $92 million settlement with the federal government which will allow the firm to avoid prosecution for its role in an accounting fraud involving AIG. The Wall Street Journal reports that the settlement also includes corporate governance changes that will require Berkshire Hathaway’s Chief Financial Officer to attend meetings of General Re’s audit committee and mandates that General Re appoint an independent director.
The terms of the settlement call for General Re to pay $60.5 million toward restitution for investors who suffered losses in the AIG fraud, $12.2 million to settle the charges with the Securities and Exchange Commission, and $19.5 million to the U.S. Postal Inspection service.
Berkshire Hathaway’s acquisition of General Re in 1998 ran into difficulties almost immediately when underwriting standards proved to be inadequate and large losses ensued. The September 11, 2001 terrorist attacks demonstrated continued underwriting weakness at the company which Warren Buffett discussed in his 2001 annual letter to shareholders. Berkshire also inherited General Re’s problematic derivatives book which took years to wind down at a significant loss, as described in Mr. Buffett’s 2002 annual letter to shareholders where he famously referred to derivatives as “financial weapons of mass destruction.” It should be noted that underwriting issues at General Re appear to be fixed based on results in recent years and the company does provide a large amount of float for Mr. Buffett to invest.
Beyond the financial troubles at General Re, the most troubling aspect has been the serious risks to Berkshire’s reputation based on the alleged impropriety surrounding AIG. A number of General Re executives were implicated in the case and there were some convictions as well. All companies depend on their reputation to varying degrees, but none as much as Berkshire Hathaway. Berkshire’s sterling reputation has enriched shareholders over the years by making it possible to acquire companies whose founders weigh such matters very highly. Now that the AIG matter is settled, Berkshire and General Re can move past this unfortunate chapter.
The author owns shares of Berkshire Hathaway.