AIG: Despite the Pandemic, There's Reason for Optimism

The share price fell by half, roughly doubling the dividend

Author's Avatar
Jun 29, 2020
Article's Main Image

There’s been more cloud than sunlight in American International Group Inc.’s (AIG, Financial) world over the past couple of years.

Soon after it partially recovered from the natural disasters of 2018, its share price was pulled down, way down, by the Covid-19 and economic crises. In fact, it’s now 49.35% below its 52-week high.

Of course, when most investors flee a stock with great haste, value investors rush in to search for a bargain. And that appears to be the case with some of the investing gurus followed by GuruFocus.

Among them was Steven Romick (Trades, Portfolio) of the FPA Crescent Fund, who argued in his first-quarter shareholder letter that other investors had overreacted to the Covid-19 news. He added in the May 11 report that:

“We believe that AIG has earnings power in the next few years of around $6 per share. Panicked selling caused its stock price to trade as low as an unchallenging 0.3 times tangible equity. We added to the Fund’s position in AIG on this weakness.”

However, Romick did prematurely think that the virus was under control; writing on May 11, “We do not think its life insurance business, which accounts for 40 percent of premiums, will be overly affected as we are thankfully seeing a flattening of the COVID-19 infection curve.”

Given that the company depends heavily on its life business, one might expect it to take a serious hit because of the number of coronavirus-related deaths. However, President and CEO Brian Duperreault noted in the first-quarter earnings release, published on May 4, “in Life and Retirement, we do not believe that the impact of COVID-19 will result in a material reduction of our long-term return profile.”

I would interpret that to mean he expects a hit of some degree this year, but not enough to affect long-term averages. Of course, the virus is not yet under control, so we’ll have to keep an eye on that issue.

The other 60% of AIG’s business comes from property and casualty insurance, which does not offer coverage for pandemics (although some legislators would like to change that retroactively). It should be reasonably safe from material disruptions.

Looking at the company’s current financial strength and profitability, it’s hard to generate much enthusiasm. At the same time, the valuation table suggests the price may be attractive:

2108317315.jpg

Given the low rating for financial strength, we might think debt is a problem, especially for a company that was chastened during the 2008 financial crisis. As we see in this 10-year chart, though, AIG has held its net debt issuance steady since the end of 2012:

291d1ddd95ab3dbc2a8ec5f841d41e4d.png

For the past two years, the company has been repositioning itself for better future performance. In his recent letter to shareholders, Duperreault wrote, “Last year we also launched AIG 200, our global, multi-year effort across the enterprise to position AIG for the future. This work will improve how we do business and strategically position AIG to become a top-performing company as we create value for all of our stakeholders.”

Part of that effort involved the sale its reinsurance company, Fortitude Re, for $1.8 biilion.

From an investor’s perspective, part of AIG’s attractiveness is found in its dividend and buyback record:

862347923.jpg

Dividend yield

The company’s current dividend yield is 4.17%, which is on par with its competitors and a little better than in its past.

As this 10-year chart shows, the dividend roughly doubled when the share price fell by a half:

e17193f0545201417a9819f1999d2799.png

Dividend payout ratio

The dividend payout ratio sits at a comfortable 26% of earnings, down from ratios of 32% and 35% in the past two fiscal years.

This level is quite conservative, leaving the company with ample money for reinvestment and new investments to grow revenue and net income.

Forward dividend yield

The forward dividend yield is the same as the trailing 12-month dividend, so we know the most recent dividend payment was the same as the previous four payments.

Yield on cost

AIG’s five-year yield on cost is at a whopping 10.29%. This means that if an investor buys at the current price and holds the stock for five years, while the company continues to raise its dividend at the same rate for five years, this would be the average annual return for that period.

However, as we saw in the chart above, the yield rose because the stock fell dramatically. It did not go up because AIG had been increasing its dividend payments aggressively.

I would say the best way to interpret that attractive yield on cost figure is to treat it as a value trap. The only way to get that kind of yield on cost would be for the share price to fall by half again over the next five years.

Still, buying and holding would likely deliver about half of that 10.29%, which would still have some appeal.

Dividend growth rate

For most companies, this section of the summary page would also include the dividend growth rate, an important consideration for income investors.

But, as we’ve seen, the above-average dividend is an accident, so to speak. It did not grow because of corporate policy, but because the share price took such a beating.

Share buyback ratio

The three-year share buyback ratio shows AIG repurchasing a moderate amount of its own stock over those years: The ratio is 3.7.

As this chart of total shares outstanding shows, the company has steadily reduced its share count over most of the past 10 years:

6b050b8ecc8b00a1a9ae030570a0fd6c.png

If the company continues to reduce its share count, this could contribute to significant capital gains in coming years. But is it likely to buy back more shares this year?

In the first quarter, it bought back 12 million shares at a cost of $500 million, according to its earnings release on May 4. That works out to an average of $41.66 per share, which would have been a reasonable cost in the early part of the quarter when the price was in the low- to mid-$50s.

We have had no indication on whether the company will act on its remaining $1.5 billion authorization. For this year, at least, I would expect it to hold back.

Valuation

AIG receives a 7 out of 10 for valuation, suggesting it is currently trading at a bargain price. That’s backed up its discounted cash flow valuation, which shows it offers a 43.57% margin of safety.

Its price-earnins ratui has fallen to 6.18, which is a lower ratio when compared with its own history and with its competitor and peers.

Gurus

A significant number of gurus have put their capital into AIG. Hotchkis & Wiley had the biggest holding at the end of March: 25,753,105 shares, representing 2.99% of the company’s shares and 3.51% of its own portfolio.

Richard Pzena (Trades, Portfolio) of Pzena Investment Management held 15,884,497 shares, while Diamond Hill Capital (Trades, Portfolio) held 14,371,178 shares.

Conclusion

Bought now, at its currently discounted price, American International Group offers an attractive dividend, particularly if it can deliver on its promise of better shareholder returns.

The five-year yield on cost offers what appears to be a misleading promise. More realistically, we would expect something like half of the 10.29% shown. Still, combined with potential share buybacks, it suggests a strong, single-digit return each year for the next five years.

Thus, AIG stock holds some promise for income investors looking for decent yield from a well established company in a mature industry.

Disclosure: I do not own shares in any companies named in this article and do not expect to buy any in the next 72 hours.

Read more here:

Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.