Ackman Proposes Bond Insurer Split, Policyholder Veto

Hedge-fund manager William Ackman, who has bet against bond insurers including MBIA Inc. and Ambac Financial Group Inc., proposed restructuring the companies so more capital stays within their insurance subsidiaries.

Ackman, managing partner of Pershing Square Capital Management LP in New York, said the companies' insurance units should be divided into separate municipal and asset-backed businesses. Dividends should flow to the asset-backed unit from the stronger municipal insurance operation, he said in a proposal to regulators, lawmakers and banks yesterday.

State regulators are pressuring bond insurers to make sure the municipal debt they back retains its AAA credit ratings. Credit rating companies are reviewing whether the bond insurers still merit top ratings, given downgrades of securities backed by subprime mortgages that they guarantee.

The proposal ``offers the best prospect for protecting the most policyholders and ensuring a viable ongoing municipal bond insurance market,'' New York law firm Edwards Angell Palmer & Dodge LLP, which performed an analysis for Pershing, said in a memo included with the presentation. Copies were obtained by Bloomberg News and confirmed by Ackman.

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Berkshire's offer to MBIA

February 6, 2008

Mr. Gary Parr
Deputy Chairman
Lazard

Dear Gary:

As you know, many constituencies in the financial markets have been increasingly focused on the emerging issues in the financial guaranty industry for several weeks now. In fact, we ourselves have had several meetings with the New York Insurance Department to explore whether there is something we can do under the current circumstances that would be helpful in addressing the growing concerns in the financial marketplace. Unfortunately, the structured finance "side" of the business, with its many moving pieces and interdependent variables, has proven to be beyond our ability to adequately analyze. Nonetheless, we are ready and willing to lend our reinsurance support to the municipal side of the house, and in fact had set out in a letter to the New York Superintendent of Insurance a concept that we believe would address the needs and concerns of main street America's municipalities. The Superintendent has no objection to our approaching you with this proposal. We would like to meet with you and your client, MBIA, to discuss whether MBIA would have any interest in the proposal .

The key elements of the proposal we described to the Superintendent were: (1) we would raise the capital level in our monoline insurer, Berkshire Hathaway Assurance Corporation (BHAC), to $5 billion; (2) we would assume by reinsurance the muni bond portfolio of several of the monoline companies for a premium of 150% of the existing unearned premium reserves of the companies (with respect to two of the leading companies this would result in a combined unearned premium reserve of $6 billion, plus $3 billion for a total premium of $9 billion which, with the increased capital contribution to BHAC would result in approximately $14 billion of assets available to meet the combined $600 billion or so of total principal value of municipal bonds insured by these two companies); (3) we would undertake not to reduce BHAC's assets by dividends, fees, etc., for a minimum period of ten years; and (4) we had furthermore proposed that, if the companies found a preferable solution during the first 30 days of our cover, they could have a no-questions-asked walk-away option in consideration of a break-up fee that would be paid to us.

The gist of our proposal to you is that we would reinsure MBIA's current municipal bond insurance portfolio in consideration of a premium payment to us of an amount equal to 150% of the existing unearned premium reserves. Like many potential reinsurance buyers, I recognize that your first reaction may be that this is an excessive premium, and I want to offer you upfront the thought processes that led me to conclude that this is in fact a fair proposal that achieves important objectives for both parties.

We priced this proposed reinsurance cover to reflect the significant opportunity cost from our perspective in providing this type of bulk reinsurance cover. In the current market environment, we are able to command premium levels double (or higher) your client's prior rates to insure the risks that in addition have the benefit of your client's AAA insurance cover. Given our conservative use of capital (for example, the capital ratios in our monoline insurer would be higher than other insurers and would not be subject to reduction by dividends, fees, etc. for a minimum of ten years under the concept we presented to the Department), by offering this cover we forgo these direct opportunities to wrap already wrapped bonds. Despite this, there is an obvious appeal to a bulk transaction like this given the low overhead costs which would be involved.

Taking all these factors into account, we came down in favor of making the proposal and are prepared to pursue it with you directly. It is efficient as both a bulk transaction and a transaction that we believe will help stabilize the currently unstable marketplace conditions for the municipal business. In that sense, this approach also has the appeal of serving the greater public good, not an unimportant consideration for us, both as a matter of principle and as a company with a vested interest in national economic conditions.

From your perspective, I would respectfully suggest that this proposal would allow MBIA to release substantial capital from the municipal bond side of the house that can be deployed to support other obligations. I would submit that our proposal at the pricing levels we require is actually a cheap way for MBIA to raise capital as compared to other alternatives and is therefore of great benefit to MBIA's owners and their municipal bond policyholders.

Should this proposal prove to be of interest to you, and I sincerely hope that it is, we would ask for the courtesy of a reply as soon as possible. We would be prepared to complete this transaction within the next five days.

Sincerely,

Ajit Jain,
President

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Buffett Sees Stocks In "General Range of Fair Value": CNBC Interview Transcript (Part 2)

Becky: How is the bond insurance business going so far, the one that you started up at the end of last year?

Buffett: Well, we've done a few things, and as I mentioned the other day, for example, we were paid two percent on a 50 million dollar deal, we were paid a two percent premium, that's a million dollars, and all we did on that was, we backed up the present bond insurer, which is rated triple-A, we backed them up in case they don't pay. So, we're getting a premium of two percent for something they charged originally less than one percent for, and they still have to pay and all we have to do is pay if they don't pay. So, it just shows you what the state of the market is now, and the fact, and it also shows you that the offer we made, I think, in terms of present market prices for insurance, is really on the low side.

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Buffett's Big Muni Bond Offer: CNBC Interview Transcript (Part 1)

Becky Quick: We know Warren that you've already put a plan out where you are, in fact, a bond insurer yourself. You have a new company that's doing that. But beyond that, Ambac, FGIC and MBIA, they all have some significant problems. What do you think needs to be done?

Warren Buffett: Well, last Wednesday, as you know we have formed a new bond insurer. And last Wednesday, Berkshire Hathaway made a firm offer to the three largest bond insurers, who in aggregate I think, insure about 800 billion (dollars) of tax exempt bonds.

And what we said we would do is, and we gave a copy of this, of course, to the Superintendent of Insurance of New York. We said we would form, we would add to our company's resources five billion dollars. That five billion dollars in the new insurance company, we would pledge that there would be no dividends or any kind of distributions or management fees taken out of that for ten years, so all the earnings of that company would be retained to build up the claims-paying ability.

And we offered to take over the liabilities for the whole $800 billion of these three companies for a premium that would be equal to, essentially, one-and-a-half times the remaining premium left over the life of the bonds. They have what they call an 'unearned premium reserve' which reflects the original premium less the amount that's been proportionately earned. And we said, for one-and-a-half times that amount, we would take away all of their liabilities so that the $800 billion in bonds would carry a real triple-A insurance, and would sell in the market as if it had real triple-A insurance. Whereas now the bonds sell at significant discounts.

And we provided additionally that if they felt that this premium was too high or that they could do better that for thirty days, they would have the backstop of our offer which would be totally firm, and if they came up with anything better for themselves and for the holders of their insured bonds, that for a break-up fee of one-and-a-half percent of the premium, that they could go and take the other deal. So that the world would know that, one way or the other, that that the municipal bond insurance problem was behind it. It would be either with our offer or some other offer that they went out and obtained.

So, we put that out there to the three largest insurers and if they should decide to take it, eight-hundred billion of bonds that are now selling as if they were uninsured, or even in some cases a little worse. They're probably selling on balance maybe 5 percent below where would sell for if the insurance was regarded as good, which is 40 billion on 800 billion. We will see what happens.

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