Benefits Planning in a Challenging Environment

Transcription

1 March 2011 Benefits Planning in a Challenging Environment A report prepared by CFO Research Services in collaboration with Prudential Financial, Inc.

2 March 2011 Benefits Planning in a Challenging Environment A report prepared by CFO Research Services in collaboration with Prudential Financial, Inc.

3 Contents Research sponsor s introduction About this report Managing benefits strategies in the face of uncertainty Coping with healthcare costs Managing benefits tradeoffs Managing retirement benefits in a weak economy A stabilizing environment for defined benefit (DB) plans Looking for more security and lower costs in defined contribution (DC) plans Conclusion

4 Research sponsor s introduction Finance executives face a number of difficult challenges related to employee benefits. Many corporate defined benefit (DB) plans remain underfunded, thereby requiring that companies make incremental, and sometimes large, contributions to their plans. Companies relying on a defined contribution (DC) plan as their primary retirement offering may have a significant number of employees who have not saved enough for retirement. And, on top of all this, growing healthcare costs continue to strain companies benefits budgets, and limit companies ability to strengthen benefits offerings. Prudential Financial, Inc. commissioned CFO Research Services to survey finance executives on how they are managing benefits in today s environment, as part of our ongoing effort to support finance executives in their benefits decision-making processes. Below are some of our perspectives on the key findings from this research. First, not surprisingly, concerns about the rising cost of healthcare benefits are foremost on the minds of finance executives. However, it s encouraging that only a minority of finance executives expect to reduce funding for other benefits, such as DC or DB plans, in order to fund healthcare benefits. Going forward, it will be important for companies to maintain a balance across their benefits programs, recognizing that helping employees prepare for retirement, protect themselves against key risks such as disability or death, and fund healthcare costs are all significant priorities that deserve companies attention. Many finance executives report that their companies plan to control benefits costs by shifting more responsibility for healthcare and other benefits to employees. Expanding and strengthening voluntary benefits programs is one way that companies can control benefits costs, while providing employees with a comprehensive benefits package at a more attractive price than they could find on their own. Second, many finance executives report that their companies are focused on reducing DB risk, and a significant minority are considering transferring DB risk to a third party in the near future. These findings echo our conversations with DB clients, who are increasingly interested in learning about the types of DB risk transfer solutions available, and the associated costs and benefits of these solutions. This education process is critical to ensuring that companies are well prepared to act when the right conditions, such as reaching a certain DB plan funding level, materialize. In addition, companies can also consider other benefits risk transfer solutions, such as a retiree life insurance buy-out, to transfer the risks and liabilities associated with retiree life insurance benefits to an insurer. Finally, finance executives who view their companies retirement plans as a source of competitive advantage are more likely than other finance executives to say that their companies have a responsibility to ensure that employees can convert their retirement savings into a stream of lifetime income. This demonstrates that some companies are recognizing the value in offering retirement plans that help employees both save for retirement and address their income needs during retirement. Such retirement plans can be a source of competitive advantage because they may help attract and retain talented employees. At Prudential, we are committed to offering finance executives a wide range of solutions to address the benefits challenges that their companies are facing. This research is part of our ongoing effort to understand the benefits priorities and needs of leading companies. Thank you for taking the time to engage on this important topic. Charles Lowrey Executive Vice President and Chief Operating Officer, U.S. Businesses Prudential Financial, Inc cfo publishing llc march

5 Managing benefits strategies in the face of uncertainty Jobs, healthcare, and the economy these have deservedly been among the top headline grabbers in Concerns remain that the U.S. recovery will be both slow and jobless. Although inflation is projected to remain under 2% through 2011, unemployment is also projected to remain at approximately 9%. Employers remain conservative about hiring new employees given the uncertain economic outlook. In addition, the precipitous plunge in the value of retirement portfolios in 2008 has had a lasting impact on employers and employees risk tolerances. Although the stock market has made up much of the ground lost, making retirement more secure and better protecting investments from market volatility continues to be a priority for employers and employees. In September 2010, CFO Research Services in conjunction with Prudential Financial, Inc. surveyed senior finance executives from a range of midsize and large U.S. companies. Our goal was to gauge how the confluence of these various forces was changing outlooks for benefits strategies. The survey was targeted at companies maintaining DB plans with at least $250 million in assets. Our survey shows that benefits programs continue to figure importantly in finance executives decisionmaking, even as they look for ways to manage costs more tightly. The importance of benefits programs is reflected in the increased attention they are commanding from senior management and the finance office. Half (53%) of the finance executives in this survey say that their senior management spends much more time on benefits decision-making now than in the past, and nearly as many (48%) say that benefits consume more of their finance staff s time and attention. The weak economy has brought the issue of the cost of benefits programs to the fore. For example, 77% of finance executives in the survey say that cost has become much more of a concern when selecting providers, and 44% of them indicate that they are likely to consolidate providers within the next year. However, with many forecasters expecting limited growth in salaries in 2011, companies may also increasingly view their benefits programs as an important tool to retain employees. In fact, nearly all of the respondents to the survey (86%) say that benefits are either just as important, or even more important, for attracting and retaining employees than they were a year ago. In addition, smaller to midsize companies (those with revenues of less than $1 billion) are placing even more of a priority on employee satisfaction. While 39% of all respondents say that one of their top three benefits priorities for next year is to increase employee satisfaction with benefits plans, this percentage rises to 55% among companies with revenues of less than $1 billion. (See Figure 1, page 3.) About this report In September 2010, CFO Research Services (a unit of CFO Publishing LLC) conducted a survey among senior finance executives in the United States from companies that sponsor defined benefit (DB) plans to examine the impact of current market forces on benefits planning. In particular, we looked at strategies employers are now pursuing to cope with the rising cost of benefits programs in a slowly growing economy. We gathered a total of 171 complete survey responses from senior finance executives working in a broad cross-section of company segments, as follows: Annual revenue <$500M 9% $500M-$1B 14% $1B-$5B 37% $5B+ 40% Titles Director of finance 22% Chief financial officer 20% VP of finance 17% Controller 15% Treasurer 6% EVP or SVP of finance 5% Senior benefits manager or director 3% CEO, president, or managing director 1% Other 11% Respondents work for companies in nearly every industry. No single industry sector represented more than 20% of responses. 2 march cfo publishing llc

6 Finally, a large minority of respondents (43%) view their companies retirement programs, in particular, as a real competitive advantage. With wages remaining stagnant, the strength of benefits programs may provide differentiation for employers and help maintain a motivated, effective workforce. But finance executives in the survey are seeking ways to strike the best balance between providing attractive benefits programs and holding the line on benefits costs. As one CFO from a midsize financial services firm writes, An increase in employee contributions toward their benefits and a decrease in the benefits package are the only ways we can sustain any program to retain the current workforce. The weak economy has brought the issue of the cost of benefits programs to the fore. Coping with healthcare costs Finance executives in the survey clearly say that the rising cost of healthcare benefits is the biggest challenge they face. As Figure 1 shows, 87% of respondents say that controlling the cost to the company of healthcare benefits is one of their top three benefits priorities, and nearly half (46%) of the respondents rate minimizing the impact of increased healthcare costs on employees as a top-three priority. In contrast, only 23% say that reducing the cost of other benefits programs, such as retirement or group benefits, is a top priority. This concern with healthcare costs remains fairly consistent regardless of company size. Concerns over increasing healthcare costs are driven primarily by long-term trends in the healthcare industry. The impact of the Obama Administration s healthcare reform legislation on both costs and coverage remains uncertain; corporate responses are just as cloudy, and a treasurer from the healthcare industry writes, We will keep things the same until the uncertainty of healthcare legislation is resolved. Although half of the finance executives in our survey believe that the impact of the recent legislation will be a moderate increase in healthcare costs, only 22% think the impact will be substantial. Meanwhile, the cost of healthcare has been rising relentlessly, regardless of the reform legislation. According to government estimates, average annual growth in healthcare expenditures will average more than 6% annually for Figure 1: Rising healthcare costs dominate finance executives concerns with benefits planning. Which of the following are your company s top three priorities for its benefits programs over the next year? 100% 80% 60% 40% 20% 87% Companies <$1B: 55% 46% 39% 0% Controlling the cost to the company of healthcare benefits. Minimizing the impact on employees of the increased cost of healthcare benefits. Increasing employee satisfaction with the company s benefits plans. Percentage of respondents Note: Respondents could select up to three responses. Partial response set shown cfo publishing llc march

7 the next decade substantially above expected growth in GDP, at least in the near term. With the outlook for revenue growth remaining sluggish, some finance executives believe that taking dramatic action is their only option. A CFO at a large telecommunications company says bluntly, We may no longer offer medical benefits at all. Other finance executives, however, are examining all their alternatives in order to forestall such dire consequences. In particular, a large number of the finance executives in the survey believe their companies will have to call on employees to shoulder a larger portion of benefits costs overall. When asked to name the most significant changes they expect their companies to make in benefits programs in the coming year, respondents most often cite programs or plans that place more demands on the employee for example, higher co-pays or premiums in the case of healthcare benefits. Companies may also increase their focus on voluntary benefits to control the costs of benefits programs. One controller at a midsize construction company is simply echoing the comments of many other respondents when he writes that the most significant change at his company will be moving more of the cost of healthcare to our employees. A director of finance at a large manufacturer notes, Any changes will be driven by attempting to hold the cost of the plan to be cost neutral to the company. Managing benefits tradeoffs A large part of the challenge of maintaining employee satisfaction with benefits is likely to depend on how well companies can manage the impact of rising benefits costs. Most (83%) of the respondents expect their companies to take actions to increase employee contributions to healthcare costs, and 67% say they plan to transfer some benefits risk to employees. In addition, 41% say they plan to shift an increased portion of retiree benefits costs, such as retiree healthcare, to retirees, or eliminate these benefits altogether. (See Figure 2.) Survey responses suggest that one tactic available to companies is to adjust funding allocations across different benefits areas. A majority (55%) of finance executives report that their companies already manage benefits holistically and make explicit tradeoffs between investments in different benefits areas. In addition, three-quarters (74%) of respondents indicate that their companies are willing to reduce costs in some benefits areas to offset costs in other areas. Some respondents also say that their employees must take more control over their own benefits planning and make difficult choices among benefits. A VP of finance comments that his company will increase emphasis on employee responsibility (healthcare coverage) and choice (retirement plan). Figure 2: Employers are likely to look to share more responsibility for the rising cost of benefits with their employees. 100% 80% 60% 40% 20% 83% 67% 41% 0% My company is likely to increase employee contributions to healthcare costs. My company will likely transfer some of its benefits risk to employees. My company will shift an increased portion of retiree benefit costs to retirees or eliminate these benefits altogether. Percentage of respondents 4 march cfo publishing llc

8 Managing retirement benefits in a weak economy Retirement planning remains a priority for most companies. A majority of respondents (62%) agree with the statement that ensuring employees are adequately prepared for retirement is very important for their companies; only 27% of respondents expect that the recent healthcare legislation will reduce funding available for defined contribution (DC) plans. However, the economic downturn has affected companies abilities to strengthen retirement programs. In fact, slightly more than half (53%) of respondents say that the economy has prevented their companies from doing more to help employees prepare for retirement. This result becomes even more problematic when we see that nearly as many finance executives (47%) say that their employees are not as well prepared for retirement as they should be. The largest companies in the survey (those with revenues greater than $5 billion) appear to be better positioned to maintain or improve retirement benefits for their employees. A high percentage (72%) of finance executives at the largest companies agree that ensuring employees are adequately prepared for retirement is very important. Respondents from these companies are also the least likely to say that their employees are not well prepared for retirement (36% versus 54% for companies smaller than $5 billion). (See Figure 3.) The largest companies may simply be able to weather the economic crisis better and consequently can afford to devote more resources to benefits. Only 38% of respondents from the largest companies say that the economic climate is preventing them from doing more to help employees prepare for retirement, compared with 62% of companies in the revenue bands under $5 billion. For example, a finance director at a large company in the consumer products industry writes that his company will continue to focus on risk and cost reduction through initiatives that are primarily transparent to current employees. Retirement planning remains a priority for most companies. Figure 3: Larger companies are more focused on preparing employees for retirement and believe they are better equipped to do so. 100% Company Revenues <$5B Company Revenues >$5B 80% 60% 40% 20% 55% 72% 54% 36% 62% 38% 0% Ensuring its employees are adequately prepared for retirement is very important to my company. My company s employees are not as well prepared for retirement as they should be. The current economic climate prevents my company from doing more to help its employees prepare for retirement. Percentage of respondents agreeing with each statement 2011 cfo publishing llc march

9 A stabilizing environment for defined benefit (DB) plans As companies grapple with the weak economy, those that have maintained active DB plans may find that their retirement plans can help to differentiate their benefits programs. A large minority of respondents (43%) view their companies retirement plans as a source of competitive advantage. The finance executives in this segment are almost twice as likely (57% to 29%) to maintain an active DB plan a plan that remains open to new entrants as those who don t see their plans as a competitive advantage. Comparison with a similar survey conducted by CFO Research Services in 2009 * suggests that the number of companies planning significant changes to their DB plans has declined, although many plans remain significantly underfunded. In our 2009 survey, almost half (47%) of finance executives reported that their companies were likely to freeze or terminate their DB plans sometime within the next two years; only 31% thought that they were unlikely to do so. In our 2010 survey, the results are reversed, with 20% saying their companies are likely to freeze or terminate their plans, but 43% saying they are not likely to take that action. (See Figure 4.) Similarly, in 2009, 52% of respondents thought they would be likely to close their DB plans to new entrants over the next two years. In 2010, only 15% of respondents say they expect their companies to close their plans. These comparisons suggest that companies that were highly motivated to make drastic changes in their DB plans may have largely done so, while those that have maintained their DB plans to this point are less likely to be considering changes. * Managing Retirement Benefits Amid Capital Market Disruption, CFO Research Services in collaboration with Prudential, August 2009 Figure 4: Companies are less likely to be planning substantial changes to their db plans than they were a year ago. In your opinion, how likely is your company to make any of the following changes to its DB plan over the next two years? Freeze or terminate DB plans % 58% 42% 47% 22% 58% 42% 43% 54% 46% 53% 46% 20% 37% 47% 54 47% 0% 20% 40% 60% 80% 100% Not likely Somewhat or very likely Already completed or don t know/not applicable 2009 Close DB plans to new entrants 27% 52% 22% % 15% 55% 0% 20% 40% 60% 80% 100% Not likely Somewhat or very likely Already completed or don t know/not applicable 6 march 2011 Percentage of respondents Note: Percentages may not total 100%, due to rounding cfo publishing llc

10 However, companies with DB plans continue to cope with under-funding, with 58% of finance executives overall reporting that their companies are either likely to increase, or have already increased, contributions to close a funding gap. If a company is expecting to take three years or longer to close its funding gap, it is more likely to be one of the larger companies in the survey (those with revenues of more than $1 billion). Of the respondents who say that their companies are working to close DB plan funding gaps within two years, about two-thirds are from midsize and small companies (those with revenues of less than $1 billion). At the same time, finance executives are also looking to reduce their risk exposure. More than a third (37%) of respondents agree that reducing risk within the DB plan is more important to their companies than earning higher investment returns, while only 15% actively disagree with this statement. For example, a director of finance from the healthcare industry comments that the new approach to managing investment risk at his company will include increased contributions and long-duration physical assets in the investment portfolio. We will work to develop triggers to move physical assets from Treasuries to Corporates and vice versa. Companies that view their retirement plans as a source of competitive advantage are more likely to work with others to manage risk in their DB plans: 57% report that the company s actuary actively looks for ways to reduce DB funding volatility; 56% say that their investment consultant actively counsels the company on risk reduction; and 63% agree that the company s actuary and investment consultant coordinate well. These are substantially higher percentages than seen at companies where retirement plans are viewed as less of a competitive advantage. Many finance executives are at least considering a variety of strategies for reducing volatility in portfolios. Nearly 60% of respondents report that their companies either are likely to implement, or already have implemented, risk management approaches (such as liability-driven investment strategies) for their DB plans, while 30% are likely to transfer risk to a thirdparty insurer in the next two years. Just under a quarter of respondents (24%) may be considering transferring risk, but say they need more information in order to decide. As a result of the Pension Protection Act and related accounting rules, some companies have started Figure 5: cost is one of the top considerations for finance executives who are evaluating risktransfer solutions. What factors would be most likely to encourage your company to adopt DB solutions that transfer risk to a third-party insurer? Lower-cost solutions become available in the market 37% More choices for risk-transfer solutions become available External consultants, actuaries, or others recommend my company adopt risk-transfer solutions The funding level of my company s DB plan increases 23% 22% 25% Other major DB plans adopt risk-transfer solutions 13% Interest rates rise Other 8% 10% 0% 10% 20% 30% 40% Percentage of respondents Note: Respondents could select up to two responses cfo publishing llc march

11 to explore ways to transfer pension risk in order to reduce funded status volatility. Finance executives cite the availability of lower-cost solutions and more choice as the key factors that would encourage them to transfer DB risk. (See Figure 5, page 7.) As noted, the larger companies (with revenues greater than $1 billion) are more likely to have longer horizons for closing funding gaps; these companies are even more likely than midsize or smaller companies to be looking for lowercost risk transfer solutions (45% of the larger companies versus 28% of midsize or smaller companies). Companies maintaining active DB plans may find that their retirement plans can help to differentiate their benefits programs. Looking for more security and lower costs in defined contribution (DC) plans Reducing costs, managing fiduciary risk, and employee education are among the focus areas for DC plans. (See Figure 6.) Finance executives in our 2010 survey place equal priority on lowering plan administration costs and on boosting employee education effectiveness. The focus on education has increased from 2009 s survey, which may indicate an increased desire by employers to have employees take greater responsibility for preparing for retirement. A CFO at a large energy company notes, The biggest change will be [in] communications with our employees to help them better understand their benefits and associated risks. Guaranteed lifetime income products are playing a role in employers retirement benefits planning. Approximately a quarter of respondents believe their companies have a responsibility to ensure that employees Figure 6: Finance executives give equal weight to the need to lower the cost of their DC plans and the desire to better prepare employees to take more control of their retirement planning. Which of the following are your company s top three priorities for its DC plan at the present time? Lower plan administration costs Strengthen employee education about retirement planning 53% 51% Reduce investment management fees 38% Enhance investment options 35% Reduce fiduciary risks 35% 0% 10% 20% 30% 40% 50% 60% Percentage of respondents Note: Respondents could select up to three responses. Partial response set shown. 8 march cfo publishing llc

12 can can convert their retirement savings into a stream of lifetime income, and 40% say that their companies either are likely to add guaranteed lifetime income products to their DC plans in the next two years or have already done so. Another 21% may be considering these products, but say they first need more information before they can decide. (See Figure 7.) For those who believe their retirement plans offer a real competitive advantage, 31% agree that their companies have a responsibility to ensure that employees can convert retirement savings into a stream of lifetime income, and an additional 10% strongly agree. In contrast, only 13% of those who do not see any competitive advantages in their retirement plans believe their companies should provide for guaranteed lifetime income, and a mere 1% strongly agree. In addition, 28% of those who see a competitive advantage in their retirement plans also say they are looking for more information on guaranteed lifetime income products before they can decide whether to adopt them. with 55% of respondents saying that increased demand from plan participants is likely to drive adoption. These responses may highlight the need for employers to invest more in educating employees about the steps they can take to achieve a secure retirement. Favorable regulatory changes are cited by finance executives as another factor that could drive greater adoption of these products. In addition, about a quarter of respondents are looking for a wider variety of products to become available before they consider adding guaranteed lifetime income products. Guaranteed lifetime income products are playing a role in employers retirement benefits planning. Increased demand from plan participants is the most frequently cited potential driver of increased adoption of guaranteed lifetime income solutions (37% of respondents). (See Figure 8, page 10.) This trend is even more pronounced within midsize companies, Figure 7: Guaranteed lifetime income products are receiving attention from finance executives as they continue to examine retirement offerings. Within the next two years, how likely is your company to offer annuity-like products for DC plans that are designed to generate guaranteed lifetime income for plan participants after their retirement? Guaranteed Lifetime Income Products 10% 30% 21% 39% 0% 20% 40% 60% 80% 100% Already offers Somewhat or very likely to offer Not enough information to decide Not at all likely Percentage of respondents 2011 cfo publishing llc march

13 Figure 8: Employee demand for guaranteed lifetime income products will be a key factor in employers wider adoption of these products. In your opinion, which of the following factors would be most likely to prompt your company to offer guaranteed lifetime income products in its DC plan? Demand from plan participants 37% Regulatory changes that validate and support the use of in-plan guaranteed lifetime income Increased availability, choice, and information about guaranteed lifetime income products Greater emphasis on DC plan as a retirement vehicle for the company s employees Recommendation by plan consultants Introduction of products with lower fees 15% 15% 17% 26% 33% Adoption of guaranteed lifetime income products by other major DC plans 12% Other 5% 0% 10% 20% 30% 40% Percentage of respondents Note: Respondents could select up to two responses. Conclusion In summary, we found that finance executives continue to place a great deal of importance on their companies benefits programs, recognizing the value of these programs for attracting and retaining a high-quality workforce. However, the increasing cost of benefits programs tops the list of finance executives concerns. Many of the respondents to this survey acknowledge that they will be forced to look at ways to shift more responsibility for the cost of benefits programs to their employees, as well as explore other cost reduction strategies such as consolidating benefits providers. In the end, as a director of finance at a midsize company notes in our survey, the current environment requires that more attention than ever be paid to weighing good benefits options with the cost of those options. In retirement planning, the need to hold the line on benefits costs and to reduce financial risk may mean more serious consideration of risk-transfer solutions for companies that have retained their DB plans. Some companies with DC plans are interested in guaranteed lifetime income solutions as a means of better ensuring adequate retirement income streams for their employees. 10 march cfo publishing llc

14 is published by CFO Publishing LLC, 51 Sleeper Street, Boston, MA Please direct inquiries to Jane Coulter at or CFO Research Services and Prudential Financial, Inc. developed the hypotheses for this research jointly. Prudential Financial, Inc. funded the research and publication of our findings. At CFO Research Services, David Owens directed the research and wrote the report. CFO Research Services is the sponsored research group within CFO Publishing LLC, which includes CFO magazine, CFO Conferences, and CFO.com. March 2011 Copyright 2011 CFO Publishing LLC, which is solely responsible for its content. All rights reserved. No part of this report may be reproduced, stored in a retrieval system, or transmitted in any form, by any means, without written permission.