Pensions managing risk in volatile economic times 3 March 2009

Transcription

1 Pensions managing risk in volatile economic times 3 March 2009

2 Introduction Philip Wright Partner Telephone: Mobile: +44 (0)

3 What the government expects from employers and trustees Rt Hon Rosie Winterton MP Minister for Pensions and the Ageing Society, DWP

4 The impact of legislation old and new Peter Tompkins

5 Will Changes to Pensions Mean More or Less Saving Over Next 5 Years? Slide 5

6 Will Changes to Pensions Mean More or Less Saving Over Next 5 Years for your staff? Slide 6

7 Will Changes to Pensions Mean More or Less Saving Over Next 5 Years for you? Slide 7

8 Pensions The deciding factors? Tax and Government Incentives (eg 1978 contracting-out, 1988 personal pensions) Competition keeping up with other firms (eg setting up final salary plans in the 60s and 70s) Financial attraction (does it look like a good bet?) Slide 8

9 So where are we now? Loss of employer tax incentives (ACT) Poorer DB contracting-out terms & end of DC contracting-out in 2012 Closures of plans to new members and now to future accrual 83% of employers don t think they get value from their contributions Will people be convinced that auto-enrolment in a DC pension is worth it? Slide 9

10 Who decides? Employer choice Levelling down of existing benefits looks likely. Do I really need to spend more on pension than my competitor if it isn t properly valued by my staff? +Auto-enrolment It will make a difference, but how much? So much depends on the climate in 2012 Employee choice It hasn t been worth saving for a pension for the last 10 years, so why should it be worth bothering now? Slide 10

11 DB Expectations of increasing pensions are met as your salary rises, the amount you can expect at retirement also increases Expected Retirement Pension DB Pension expected at retirement Slide 11

12 DC Expectations probably lower than 10 years ago despite salary rises. What s the point of saving? is the reaction Expected Retirement Pension DB Pension expected at retirement DC Pension Slide 12

13 Employee decision-making Employees only value what they understand Who do they trust any more on financial services? How much effort should employers put into communication? Slide 13

14 Conclusion Much uncertainty over the future landscape for employer provision and employee take-up Widespread suspicion of a pension s worth especially given the attitude of the media Communications challenge, especially with a two-tier pensions workforce What others are doing will be increasingly important Slide 14

15 Unprecedented times need unprecedented action Marc T Hommel Partner, head of pensions for PwC HR Services Telephone: Mobile: +44 (0) marc.hommel@uk.pwc.com

16 Key messages Unprecedented times, unprecedented actions Three main areas of employer concern Cash Risk Cost and value Demise of sacred cows New rules of the game Slide 16

17 PwC pensions survey Around 100 organisations Tracks employer attitudes: Finance HR Pensions December 2008 Slide 17

18 Context for employers Market turmoil Debt financing Impact of pensions on rest of business Future employment deal Threat to dividends Accounting vs funding ( 300bn) Slide 18

19 300bn funding and accounting difference total UK schemes accounting surplus 100 bn Surplus / (Deficit) - Jan 06 Apr 06 Jul 06 Oct 06 Jan 07 Apr 07 Jul 07 Oct 07 Jan 08 Apr 08 Jul 08 Oct funding deficit Slide 19

20 Not easy being a trustee! Increasing liabilities Declining assets Sponsors in crisis Slide 20

21 Employers and trustees need to work together to address challenges Maintain pension scheme security Reduce employer cash commitments More assertive employer action than traditionally been the case Slide 21

22 Unprecedented times need unprecedented action Cash Slide 22

23 Cash concerned about the size of cash commitments Slide 23

24 Cash over concerned about the Pensions Regulator s position on prudence Slide 24

25 Cash of Finance Directors expect weaker employer covenant Slide 25

26 Cash of FTSE100 concerned about impact on dividends Slide 26

27 Cash Taking control of scheme funding Explain objectives and constraints 49% Covenant and cash availability Way we use advisers 43% 41% Offering contingent assets 30% Open and early engagement with trustees Slide 27

28 Unprecedented times need unprecedented action Risk Slide 28

29 Risk concerned about risks that the pension scheme poses to the business Slide 29

30 Risk Actively considering Buy-out or buy-in 39% Longevity hedging 34% Enhanced transfer values 33% Pension increase trades 13% Cost? Cash? Capacity? Slide 30

31 Unprecedented times need unprecedented action Cost and value Slide 31

32 Cost and value don t think they get value for money being spent Slide 32

33 Cost and value anticipate greater costs due to auto-enrolment Slide 33

34 Cost and value Importance of pensions in employment (change in last 3 years) Slide 34

35 Cost and value Importance of pensions in employment (change in last 3 years) Slide 35

36 Cost and value Changes to future service DB benefits Already implemented Currently considering 14% Lower DB benefits +45% 3% Freeze DB benefits +17% Recession an opportunity? Slide 36

37 Key messages Unprecedented times, unprecedented actions Areas of employer concern Cash Risk Cost and value Demise of sacred cows Employers & trustees face new rules of the game Slide 37

38 Optimising decision making in pension schemes Andrew Evans Partner, Assurance Telephone: Mobile: +44 (0)

39 Optimising decision making in pension schemes A corporate perspective Ian Howard Pensions Director, Siemens plc

40 Our history over 160 years in the UK Pioneers of innovation in the UK since William Siemens arrived in 1843 aged 19 years First ever water meter (1852) London-Calcutta telegraph link (1869) Laid first submarine cable to link Britain and the USA (1873) First ever electric street lighting (1881) First electric lighting in a British theatre Savoy Theatre, London (1881) Slide 40

41 Siemens Benefits Scheme ( SBS ) 30,000 DB members - 3,100 protected actives 19,000 DC members - 14,500 actives DB assets and liabilities of 2bn DC assets of 200m 10 other trust based DB schemes with 6,300 members and liabilities of 400m Low volatility investment strategy 11 Directors of SBS Trustee Company Slide 41

42 The corporate agenda Closure of DB schemes to future accrual Merger of smaller schemes into the SBS Buy out of some (very small) schemes Simplification/harmonisation of remaining schemes Risk Reduction actions Ongoing reduction of liability growth and costs Continuous improvement of governance and best practice Slide 42

43 Optimising decision making Stay close to your Trustees understand their constraints and needs Recognise areas of common interest Investment sub committee Accounting and reporting Observing good governance and best practise Support development and maintenance of robust processes Risk register Payroll/administration Advisor reviews Roles of Independent Trustees, Secretary, Trustee/Company Advisors Slide 43

44 Optimising decision making The Corporate Pensions Department Responsible for strategy, accounting and reporting Runs Pensions Strategy Committee Medium/ long term planning Augmentations Early Retirement Applications Rule changes Financial Performance Provides secretarial service to Trustees Dotted line responsibility for administration Slide 44

45 Optimising decision making Project Gloaming Company Objective: reduce volatility risk and cost of DB schemes Trustee Objective: to protect accrued benefits Slide 45

46 Optimising decision making Project Gloaming The Deal: Final salary pensions closed to future accrual Deficits plugged 100% (on an IAS accounting basis) Top up of schemes each year Generous DC augmentations Revaluation of deferred pensions for 15 years to inflation plus 2% max Slide 46

47 Optimising decision making - summary Trustees should ensure that decisions are taken by persons or organisations with the skills, knowledge, advice and resources necessary to take them effectively and monitor their implementation. Trustees should have the necessary expertise to be able to evaluate and challenge the advice they receive, and manage conflicts of interest Myners Through mutual cooperation and engagement, beneficial and effective decision making is likely to ensue Edmund Truell Slide 47

48 Optimising decision making in pension schemes A day in the life of a Trustee (in uncertain times) Tony Ashford Chairman, HSBC Bank (UK) Pension Scheme

49 HSBC Pensions Trust Members Assets DB Asset allocation DB 104,000 DB 11bn Equities 18% Property 8% DC 51,000 DC 0.5bn Alternatives 11% Bonds 48% Cash/ Other 15% Slide 49

50 A day in the life of a Trustee My reputation is on the line How much time? This is a complex issue (I don t understand) A day in the life of a Trustee (in uncertain times) You want me to sit exams! How many meetings? Slide 50

51 It s not rocket science Governance framework Effective Board/ Committees Expert advisors People Process Structure It s not Rocket Science Rigorous supervision/ monitoring Commercial relationships Slide 51

52 Optimising decision making in pension schemes Looking after those investments Andrew Evans

53 Investment Governance Trustee objectives Corporate objectives Asset exist Assets safeguarded Valuations are accurate Counterparty, contract and other risks managed Doing what was intended Appropriate monitoring of reconciliations and other internal controls COMMONALITY OF INTEREST Slide 53

54 So what does this mean? Symptoms Increasing complexity of investments Current market conditions Caution within financial services industry Reliance on third parties Needs Awareness Education Challenge of advisers Regular monitoring Prescriptions Due diligence over back office Ensure sufficient resources available Share and share alike Slide 54

55 Risk Transference Chris Massey Partner and actuary Telephone: Mobile: +44 (0)

56 Key messages Manage pension risks like other business risks Focus your objectives on key risks and impact Target efficient solutions Timing is critical, particularly in volatile markets Buy-out is not always efficient Slide 56

57 Manage pension risks like other business risks Identify and understand the risks Define objectives Execute and monitor Develop a risk management plan Evaluate the available risk reduction options Slide 57

58 Objectives focus on key risks & impact Risks Impact Asset Liability mismatch Balance Sheet P&L Demographic Current deficit Regulatory Cash Benefit security External perception Employee engagement Operational Capital requirements Slide 58

59 Target efficient solutions Add to the assets Transfer risk Risks Impact Asset Liability mismatch Balance Sheet P&L Demographic Cash Benefit security Current deficit Regulatory External perception Employee engagement Change existing assets Operational Capital requirements Reduce future costs Reduce past service liabilities Timing is critical Slide 59

60 Buy-out challenges Buy-in does not remove the gross liability Impact on P&L Deficit is geared-up Often requires additional funding Confidence in the insurance sector Lengthy process Slide 60

61 Pension Risk Transference Simplicity is Key! Rita Powell Inside Pensions Telephone : +44 (0) Mobile: +44 (0) rita@insidepensions.com

62 Key messages Keep it simple. Make it happen..

63 First Simple Steps A Appointments, Advisors, Administrators, Assets and Attitude to change B Balance of Power, Building strong working relationships, business plans C Conflicts of interest, Cleaning up data D Direction, decisions, developing strategy, delegation of authority E Executive Responsibility?

64 Make it happen with One Strategy One Business Plan One Team One Timetable

65 Scheme funding in volatile times Jonathon Land Partner and credit advisory specialist Telephone: +44 (0) Mobile: +44 (0)

66 Key messages Managing a scheme funding negotiation in the current economic climate is very challenging The Regulator is increasing pressure to raise funding levels The economic downturn constrains cash Understanding the employer covenant is vital Increased focus on what is affordable by the company Understand the issues and take control now Slide 66

67 The case study Now it is your turn What is your role? What angle are you looking at? We will be asking you for your views Slide 67

68 Background - how has the landscape changed? BEFORE 2005 Today Pension deficit Contingent liability Significant unsecured creditor Super material creditor? Control of contributions Company (often) Trustee negotiation Trustees imposition? Pierce corporate veil Regulator's power Insignificant Impose liabilities on companies and individuals Flexing muscles? What is the impact of downturn? Slide 68

69 What is the problem? Credit crunch Equities falling The value of employer covenants are falling Companies short of cash Higher bond yield neutral FRS17 position High profile insolvencies with pension schemes Slide 69

70 The impact of the credit crunch Surplus / (Deficit) 100 Jan 06 Apr 06 Jul 06 Oct 06 Jan 07 Apr 07 Jul 07 Oct 07 Jan 08 Apr 08 Jul 08 Oct 08 Jan Funding FRS 17 Slide 70

71 Linking employer covenant to funding and investment Employer covenant Deficit Investment strategy Funding target TPR now says scheme funding objective = Section 75 - employer covenant Slide 71

72 The seven dwarfs 2005? PPF MFR SSAP 24 Transfer values FRS17 Buy-out Buy-out Old funding basis Assets at market value Slide 72

73 The seven dwarfs today? Strong covenant New Scheme New Funding? Scheme Funding Old funding basis PPF FRS17 Swap Curve SelfEmployer Sufficiency Buy-out Buy-out Buy-out Assets at market value Slide 73

74 Factors influencing trustees negotiating position Change in the covenant Composition of the trustee board position, power and personality Trust Deed and Rules, trustees powers Use of public relations Fear of personal liability Negotiating skills, and who are their advisors What drives your trustees? Slide 74

75 Agreeing scheme funding The Regulator s code of practice states It is essential for the trustees to form an objective assessment of the employer s financial position and prospects as well as his willingness to continue to fund the scheme s benefits (the employer s covenant) This will inform decisions on both the technical provisions and any recovery plan needed Slide 75

76 Agreeing scheme funding The Regulator s press release 11 Dec 2008 says Trustee s should not over-react in the face of the downturn, but should ensure they are active and alert to potential changes in the health of the sponsor, and to the funding level of the scheme In responding to short-term cash flow difficulties trustees should first consider back-end loading recovery plans Slide 76

77 Agreeing scheme funding The Regulator s press release 18 February 2009 says "We are sensitive to the pressures employers face. There is no reason why a deficit should push an otherwise viable employer into insolvency "Employer and trustees should understand the difference between temporary impacts of the economic cycle and longer term structural changes to the strength of their scheme sponsor" Slide 77

78 What is an employer covenant review? An objective and independent assessment of the overall financial strength of the scheme employer(s) Combining credit advisory skills with the knowledge of the scheme actuary and the legal advisors Provides clear recommendations from detailed analysis, proportional to the risk Required for both the employer and the trustees You should take control by measuring and understanding the covenant Slide 78

79 How do you measure the strength of the employer covenant? Weak Tending to Weak / Tending to Strong Strong Slide 79

80 How do you measure the strength of the employer covenant? Key areas: Section Assessment Section Overall current assessment 4. Balance sheet 1. Group Structure 5. Current profitability and cash flow 2. Scheme specifics 6. Forecasts 3. Willingness to support and legal powers 7. Market and Industry Assessment Slide 80

81 How do you measure the strength of the employer covenant? Example: Section Overall current assessment Assessment Tending to strong Section 4. Balance sheet 1. Group Structure 5. Current profitability and cash flow 2. Scheme specifics 6. Forecasts 3. Willingness to support and legal powers 7. Market and Industry Assessment Slide 81

82 Scheme funding in volatile times Case Study Nigel Casson David Davies

83 Company Issues Underperforming divisions High interest charges Tight cash flow and banking covenants Poor forecasting accuracy Depressed share price Scheme still accruing benefits Slide 83

84 Company Issues Forecast cash available and proposed pension contributions ( 'm) Actual Sept 08 Mar-09 Operating cash b/f Restricted cash b/f Cash from operations Total Original company proposal Forecast 09/10 Forecast 10/11 Forecast 11/ Total Slide 84

85 Case study Project Cake Future prospects - bank covenants Gross Debt : EBITDA Covenant EBITDA Interest cover 7% Headroom Ratio Ratio Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Sep-11 Mar-12 Sep-12 Mar-13 EBITDA : Interest Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Sep-11 Mar-12 Sep-12 Mar-13 Covenant Gross Debt : EBITDA Senior Debt : EBITDA Covenant Covenant Cash Flow Coverage Covenant Ratio Ratio Mar Sep-09 Mar-10 Sep-10 Mar-11 Senior Debt : EBITDA Sep-11 Mar-12 Covenant Sep-12 Mar Mar-09 Sep-09 Mar-10 Sep-10 Mar--11 Sep-11 Cash Flow coverage ratio Mar-12 Sep-12 Mar-13 Covenant Cash is clearly constrained Slide 85

86 Trustee Issues Deficit 350m FRS17 Is company going concern? Poor employer covenant with little chance of improvement Basis Deficit Previous approach 100m Corporate bond (FRS17) 350m Government bond (gilts) 750m Buy-out 1.5bn Slide 86

87 Questions for the audience Trustees >What is your biggest concern in your role? >What would you ask for? Company >What is your fall back position? >What would you ask for? Slide 87

88 Case study Project Cake What can trustees ask for? 1. Immediate cash settlement of the deficit 2. All free cash to be paid to the Scheme 3. Recovery plan to coincide with refinancing 4. Escrow account for deficit 5. Proportion of all future disposal proceeds to be paid to the Scheme 6. Security over assets 7. Letter of credit/ bank guarantee 8. Group guarantee over funding objective/ buy-out deficit 9. Increase number of participating employers 10.Do nothing until the time of the refinancing 11.Seek joint and several liability Slide 88

89 Case study Project Cake The company s position? 1. No increase in the proposed offer 2. Ask the Trustees to work with the company 3. Understand that we have always supported the Scheme and to stop being so unreasonable 4. The Regulator has said that you should work with the company and help it through the down turn 5. Consider a contribution holiday for two years 6. Back end load the recovery plan 7. Set deficit at FRS 17 levels funding above this level the rating agencies will not give us credit Slide 89

90 Case study Project Cake Outcome Forecast cash available and proposed pension contributions ( 'm) Actual Sept 08 Mar-09 Operating cash b/f Restricted Cash b/f Cash from operations Forecast 09/10 Forecast 10/11 Forecast 11/ Total Total Original company proposal Revised proposal Slide 90

91 Case study Project Cake Outcome Secured for the trustees Joint and several liability Increased information provision Agreed percentage of subsidiary disposal proceeds to the scheme Equitable contribution level for all parties Slide 91

92 In our experience Both company and trustees need to Know and understand the trustees powers Think through what information is required and how it will be used Work together to secure a balanced solution There is no right answer, the final solution is dependent on really understanding the position and the negotiation skills of the parties How good a deal would you negotiate? Slide 92

93 Key messages Managing a scheme funding negotiation in the current economic climate is very challenging The Regulator is increasing pressure to raise funding levels The economic downturn constrains cash Understanding the employer covenant is vital Increased focus on what is affordable by the company Understand the issues and take control now Slide 93

94 Levies, life and the (pensions) universe Partha Dasgupta CEO, Pension Protection Fund Raj Mody Partner and Chief Actuary Telephone: +44 (0) Mobile: +44 (0)

95 Panel Session Marc Hommel Andrew Evans Jonathon Land