Death and the discount rate: UK companies weigh pensions
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[November 21, 2017]
By Simon Jessop and Carolyn Cohn
LONDON (Reuters) - Some of Britain's biggest companies are
considering wiping millions or even billions of pounds from their
pension deficits by changing a couple of key assumptions, including when
staff are expected to die.
Retailer Tesco paved the way last month by slicing more than three
billion pounds from the pensions deficit in its accounts, citing data
showing slower rises in life expectancy as well as predictions of higher
"A lot of other companies will be asking to do something similar," said
Martin Hunter, principal at investment consultants Punter Southall.
Pension shortfalls are a common problem around the world and in Britain,
two-thirds of almost 6,000 company defined benefit, or final salary,
schemes are in the red, a drag on some share prices as investors worry
about how they will be funded.
Improving the assumptions underlying its pension scheme gives a company
more freedom to raise dividends or expand, but runs the risk of future
problems unless caution is applied.
Of 22 UK listed companies contacted by Reuters, some with large deficits
and some in surplus but with large liabilities, seven said they could
use updated numbers for their next six-monthly accounting or more
conservative triennial pension valuations.
Those among the seven with large deficits were BT <BT.L>, TUI <TUIT.L>,
International Consolidated Airlines Group <ICAG.L>, Barclays <BARC.L>
and Severn Trent <SVT.L>.
Two companies with large pension liabilities, but with schemes currently
in surplus, Aviva <AV.L> and RBS <RBS.L>, also said they may use the new
longevity statistics, issued in March, and/or new assumptions for their
discount rate, which fixes the money needed now to pay future pensions.
Six companies declined to comment and nine did not reply.
FROM DEFICIT TO SURPLUS
Industry-funded pension lifeboat the Pension Protection Fund (PPF) puts
Britain's collective shortfall at 150 billion pounds ($199.07 billion),
a gap that can force listed companies to raise capital or cut dividends,
making them less attractive to investors.
India's Tata Steel <TISC.NS> spent more than a year trying to cut its
liabilities to push through a merger of its European steel operations
with Germany's Thyssenkrupp <TKAG.DE>. A large deficit has also hurt
debt-laden UK construction and support services firm Carillion <CLLN.L>
Tesco said its pension fund was realigned to more appropriately reflect
expected returns and had no link to its plan to take over wholesaler
The degree to which other companies can follow Tesco is not straight
forward, though. As well as varying staff demographics, the age of the
scheme, its assets and existing discount rate could all stymie the
Tweaking the number in the six-month review of liabilities in company
accounts, closely watched by investors, as Tesco did, is also easier
than changing the 'triennial valuation', a three-yearly deal with scheme
trustees agreeing how much a company must add.
While Tesco's accounting pension scheme deficit is now 2.4 billion
pounds, down from 5.5 billion pounds, its triennial deficit, also
published last month, has gone up to 3 billion pounds from 2.75 billion
pounds, even though the company said that also took changing mortality
trends into account.
Companies have been forced to pay more into their schemes due to a
decade of falling interest rates since the financial crisis, but
Britain's schemes are still only 91 percent funded, the PPF said. Those
of the biggest 350 listed firms are in their weakest position since
2009, a PwC report in June said.
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A road sign warning drivers of elderly people crossing the road is
seen in Hale, northern England February 19, 2015. REUTERS/Phil
After the Bank of England raised rates this month, many corporate pensions
advisers will be looking to reflect the brighter outlook from rising yields,
said Ameet Patel, senior research analyst at Northern Trust Capital Markets.
FTSE 100 schemes had a total deficit of 36 billion pounds at end-2016, according
to RBC calculations, though rising stock markets have helped their positions
If every FTSE 100 company followed Tesco, using updated mortality statistics and
increasing the discount rate by 0.3 percentage points, they would enjoy a total
accounting surplus of 54 billion pounds, RBC analyst Gordon Aitken said.
ROOM FOR MANEUVER
Who is in the scheme is key.
While there has been a slowdown since 2011 in improvements in life expectancy
for people in England and Wales, longevity assumptions have improved for richer
men, something their employers need to bear in mind, the regulator said.
"Defined benefit schemes have a preponderance of older male members," said
Lesley Titcomb, chief executive of The Pensions Regulator. "If you have a higher
proportion of affluent males in your membership, using a general assumption
about longevity would not be right."
The regulator and trustees look at the triennial rather than the accounting
pensions scheme figure. Trustees may also be cautious about approving a too-big,
too-quick change in assumptions in case the trend reverses.
"Are you prepared to add the more generous longevity assumptions and be proved
wrong in five years?" said pensions consultant and independent trustee John Ralfe, pointing out that longevity assumptions have proved wrong in the past.
Douglas Anderson, partner, Club Vita, which assesses longevity statistics,
agreed: "We shouldn't get hung up about the last two years but about how long
the trend is going to continue - for the next 30-40 years."
Tesco's use of estimated long-term corporate bond yields rather than its
previous use of longer-dated, lower-yielding government bonds was the biggest
help in cutting its deficit.
Not all schemes may have previously taken such a conservative approach, however,
potentially leaving them less scope to follow suit.
While BT's discount rate is 2.5 percent, other firms with large pension deficits
such as BP <BP.L> and Shell <RDSa.L> use higher rates, of 2.7 percent and 3
percent respectively, RBC said.
And with any changes needing auditor or regulatory approval, companies will need
to consider them carefully despite the "nudge" from Tesco, said Joe Dabrowski,
head of investment and governance at the Pensions and Lifetime Savings
Association, which represents pension scheme professionals.
"Although there's some flexibility, it doesn't mean you can just stick anything
you want in it and magic your deficit away.
"Your assumptions will have to be grounded in realistic assumptions... They need
to be in the bounds of realism and backed up by some supporting evidence."
($1 = 0.7570 pounds)
(Editing by Philippa Fletcher)
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