The editorial in the url below summarizes a report by analysts at Credit Suisse that highlights the extent of the underfunding of ‘multi-employer pension plans’ (“in which companies across an industry pay into a single asset pool”). The underfunding of these defined benefit plans is reminiscent of the general underfunding of company pension plans (as opposed to defined contribution, 401K individual pension plans):
“Among the findings: Multi-employer plans in the U.S. are underfunded by some $369 billion. An estimated $43 billion of that off-balance-sheet liability belongs to the 44 S&P 500 companies that are exposed to multi-employer plans. The other 88% of the $369 billion is borne by small, mid-cap or private firms that may be even less prepared to cover the obligations. The report says Safeway's $6.9 billion in liabilities amount to 76% of the company's market cap, for example.”
Like any economic model, the key to determining the extent to which a pension fund is sufficiently capitalized is the assumptions that go into the formula. In particular, companies assume certain growth rates for their ‘investments,’ which then determine how much money the firm needs to put into its pension fund today in order to pay out the future benefits it has promised:
“[The U.S. government] requires annual filings to the Department of Labor on multi-employer plans and measures their financial health. But Labor uses an "actuarial" reading of the numbers, which envisions an average (and hefty) 7.5% rate of return on investments, smoothed over five years. Even under that generous view, about 500 plans—or 37%—are less than 80% funded and thus considered financially troubled. Credit Suisse applies a more realistic "fair value" reading—which uses a lower rate of return and current liabilities. By that standard, only 4% of multi-employer plans are healthy and many are exposed as accounting scams. One example: Labor's actuarial reading of one SEIU fund for health-care employees finds it 100.4% funded. Credit Suisse's fair-value reading finds it 49.6% funded—or some $6.8 billion in the hole.”
I think this issue is a good example of the short-term nature of many business decisions and the very real consequences these decisions generate. CEOs in particular, aware that their average tenure at large for-profit firms is less than five years, are able to make promises today knowing the chances are slight that they will be around to have to deliver on them. It reminds me of what passes for governing by today’s politicians (who in the U.S., by the way, are doing much worse than corporations in terms of pension management with a $800 to $900bn funding gap at the state level: http://online.wsj.com/article/SB10000872396390443890304578010752828935688.html):
“The truth is that CEOs and union chiefs have jointly ignored the problem for years, choosing to put more money into current wages and benefits rather than fund pensions.”
The result is that promises made to large groups of employees in return for years of service will be unable to be kept. Even worse, while the pensions of ordinary employees remain criminally underfunded, executives act to make sure their retirement plans are much more effectively managed (e.g., http://online.wsj.com/article/SB121761989739205497.html):
“At a time when scores of companies are freezing pensions for their workers, some are quietly converting their pension plans into resources to finance their executives' retirement benefits and pay.”
Other examples are not difficult to find (e.g., http://online.wsj.com/article/SB105113544510795200.html):
“Federal rules require companies to make minimum contributions if their pension plans become excessively underfunded. … But companies can coast for years with pensions that have just two-thirds or three-quarters of the money they would need to pay their future obligations. The practice illustrates the growing gap in retirement security between most employees and those at the very top. … [In 2002] for instance, Motorola's pension plan that covers more than 70,000 employees and retirees was underfunded by $1.4 billion, the company's regulatory filings show. Although Motorola didn't add any money to help bridge this gap, the company did contribute $38 million to a special pension fund, with assets of $135 million, for an undisclosed number of top executives.”
Take care
David
The Union Pension Bomb
Editorial
The Wall Street Journal
May 15, 2012
