JOHN RALFE CONSULTING. Response to the DWP public consultation on British Steel Pension Scheme

Transcription

1 Response to the DWP public consultation on British Steel Pension Scheme John Ralfe 21st June 2016 John Ralfe is an independent consultant advising companies and trustees on pensions. His clients include several FTSE100 & FTSE350 companies, with pension liabilities from 200m to 2.5bn, as well as non-quoted companies, and the trustees of one of the largest university schemes. In 2012 he acted as the expert witness for the Competition Commission s investigation into BT s pensions. Over the last 15 years, he has written over 90 articles and letters for the Financial Times on all aspects of pensions, including pension regulation. Until 2002 he was Head of Corporate Finance at Boots and instrumental in moving the 2.4bn Boots Pension Fund to 100% AAA long dated sterling bonds. He was a consultant to the Accounting Standards Board on FRS17 and the International Accounting Standards Board on share options and worked with Harvard Business School to develop Boots Pensions as a Case Study. He is currently a Specialist Advisor to the Work and Pensions Select Committee Inquiry into BHS and pension regulation 1

2 Contents Page 1 Introduction 3 2 Summary 4 3 The Consultation Document does not explain why the government is proposing to change the law in the one particular case of BSPS 4 The Consultation Document does not explain who would be the sponsor of BSPS 5 The Consultation Document does not explain why BSPS as a zombie scheme with no sponsor, should still be eligible for the PPF 6 The Consultation Document does not explain how much cash TSUK would inject into BSPS as part of the deal 7 The Consultation Document does not explain why each individual BSPS member should not be given a choice 8 The Consultation Document does not explain why the BSPS circumstances are unique and why it would not create a dangerous precedent Appendices John Ralfe Financial Times article on Trafalgar House 11 John Ralfe Financial Times article on Kodak 14 2

3 1 Introduction 1.1 If Tata Steel sells its lossmaking UK plants over the next few months, it originally looked like the 15bn British Steel Pension Scheme would simply enter the Pension Protection Fund, just like hundreds of other schemes have already done. 1.2 But the government has launched a public consultation on a plan from the BSPS Trustees, supported by Tata Steel, to stay out of the PPF. 1.3 The plan would lop off a huge chunk of the pension fund s liabilities by reducing annual inflation-linked pension increases to the legal minimum, so increases would be cut from the current RPI to the lower CPI rate of inflation. Although it is not spelt out in the Consultation Document, more importantly the impact of this switch means pensions earned before 1997 would receive no annual inflation increases at all. A pensioner, or widow, age 80 could get no pension increases at all, and a pensioner age 60 could get just half the annual CPI increase. 1.4 Any reduction is going to be unpalatable for members, but since these inflation increases are based on PPF rules, BSPS members would see this reduction anyway even if they entered the PPF. 1.5 Under the PPF rules, people below retirement age lose 10 per cent of their pension. However, the PPF s more generous tax-free cash lump sum at retirement would reduce the loss to about 5 per cent. 1.6 BSPS trustees argue that the overwhelming majority of members 70,000 pensioners and widows would be no worse off under its plan, versus entering the PPF lifeboat. It also calculates that 50,000 members below retirement age (including 12,000 employees) would be better off. 3

4 2 Summary 2.1 The government should not agree to the BSPS proposal, supported by Tata Steel. The Consultation Document fails to properly explain: why the government is proposing to change the law to accommodate the one particular case of BSPS. If it is to encourage Tata Steel to retain its UK businesses, there are tried-and-tested existing legal mechanisms to reduce its pension liabilities, which should not be side-stepped who would be the sponsor of BSPS following any restructuring. It seems it would have to be a zombie scheme with no sponsor, which the BSPS Trustee submission envisages why BSPS as a zombie scheme with no sponsor, should still be eligible for the PPF, exploiting the moral hazard of heads-we-win, tails-youlose. The Trustees should be prepared to support the proposal even without the PPF underpin how much cash TSUK or Tata Steel would inject into BSPS as part of the deal, a crucial part of any RAA. The BSPS Trustee submission suggests that, far from injecting cash, TSUK would be released from its guarantees why each individual BSPS member should not be given a choice whether to remain in BSPS or go into the PPF. Under the proposal 5,800 members will be materially worse off and 70,000 members will be no better off why the BSPS circumstances are unique and why, it were approved, it would not create a dangerous precedent for other companies to follow. 4

5 3 The Consultation Document does not explain why the government is proposing to change the law in the one particular case of BSPS 3.1 The Consultation Document does not explain why the government is even considering the BSPS plan. It would do nothing to ease the underlying problems of the UK steel industry huge global overcapacity and higher UK costs and it does not help the sale process, since none of the potential purchasers will take on pensions anyway. 3.2 Nor is the government trying to protect the PPF, even though BSPS has a huge 1.5bn deficit against the PPF measure. 3.3 The consultation document does say that the BSPS plan is part of support for the UK steel industry, steel workers and affected localities which sounds like an indirect form of regional aid for some of the UK s most deprived areas, especially Port Talbot in south Wales. 3.4 Perhaps the government does not want to be seen to dismiss the BSPS plan out of hand, so it is simply going through the consultation motions. 3.5 The government may be encouraging Tata Steel to retain, not sell, its UK business by reducing its pension liabilities, side-stepping the existing mechanisms. TSUK would continue as sponsor of BSPS, but a big chunk of pension liabilities disappear. There have been many suggestions in the press that Tata Steel is less than whole hearted in the disposal process. 3.6 If Tata Steel wants to retain its UK business, but with lower pension liabilities, there are existing legal mechanisms to do this - with important safeguards to protect members and the PPF. The Consultation Document has not explained why this should be side-stepped. 5

6 4 The Consultation Document does not explain who would be the sponsor of BSPS 4.1 Even if the BSPS plan were accepted, and future inflation increases reduced to the statutory minimum, the Consultation Document does not explain who would be the new sponsor or guarantor of BSPS, standing behind it to underwrite any future shortfalls. 4.2 The Consultation Document is clear that Tata Steel would not be prepared to guarantee BSPS and that no new owner of TSUK would prepared to sponsor it. The Minister has made it clear that the government would not guarantee it. 4.3 The only other option is to have a zombie scheme with no real sponsor other than the trustee company. This is currently the position for two schemes -Trafalgar House, approved in 2006 and Kodak approved in 2013 (see appendices for full details). 4.4 The BSPS Trustee submission to the Consultation spells out that the new sponsor could be a special purpose vehicle with limited capital (8.7). 4.5 The Regulator allowed Trafalgar House Pensions to become a zombie scheme, with no employer standing behind it to make cash contributions to plug the deficit. Its legal sponsor is the pension trustee company, itself owned by the scheme, with no income or cash flow. 4.6 Having the pension trustee company as the legal sponsor creates a minefield, as the trustee company directors have a head-on conflict of interest as both directors of the sponsoring company and trustees of the pension scheme. 6

7 4.7 Despite the absence of a real sponsor, Trafalgar House is still eligible for the PPF, creating a situation of heads we win, tails the PPF loses. 4.8 In 2006 the architect, and public face of Trafalgar House was Baroness Altmann the current pensions minister; she was an advisor to Trafalgar House in 2006, and a trustee between 2007 and 2010 and again from 2014 until she was appointed as a Minister. This conflict may make it difficult for the Minister to take a dis-interested view of pension regulation. 4.9 In 2013, the Regulator approved a deal allowing Eastman Kodak to reach an agreement with its UK pension plan, helping it to emerge from Chapter 11 bankruptcy. The UK pension plan agreed to buy two of Kodak s businesses for $650m and withdraw its 1.9bn legal claim against Eastman Kodak A new Kodak UK pension plan was formed like Trafalgar House, a zombie scheme with no corporate sponsor standing behind it to make deficit contributions. The ex-kodak businesses will, it is claimed generate enough cash to plug the deficit Trafalgar House and Kodak represent the Pensions Regulator bending its own rules, allowing zombie schemes and should not be used as a precedent for BSPS

8 5 The Consultation Document does not explain why BSPS as a zombie scheme with no sponsor, should still be eligible for the PPF 5.1 Zombie schemes including Trafalgar House and Kodak, with no sponsor to underwrite them, should not be eligible for the PPF. 5.2 If the BSPS Trustees are confident that the proposal is in the best interests of its members, it should be prepared to propose it, without the PPF underpin. To have the benefit of the PPF underpin with no sponsor amounts, amounts to heads-we-win/tails-you-lose. 6 The Consultation Document does not explain how much cash TSUK or Tata Steel would inject into BSPS as part of the deal 6.1 As the Consultation Document explains (para 65), one of the rules of a Regulated Apportionment Arrangement is that it is a better outcome than administration. 6.2 The Consultation Document gives no idea how much cash TSUK or Tata Steel would put into BSPS as part of the deal, or indeed whether it would put in any cash. 6.3 The BSPS submission makes it clear that far from injecting any cash, it envisages TSUK would be released from its guarantees (8.5). 8

9 7 The Consultation Document does not explain why each individual BSPS member should not be given a choice 7.1 The proposal does not give each member the right to choose whether they go into the PPF or stay with BSPS, which is fundamentally unfair. The claim that time is of the essence, or that it would be difficult to obtain permission from each of the 130,000 BSPS members, simply does not hold water. 7.2 Crucially, there are 5,800 people in the BSPS with a bridging pension who would be substantially worse off under the proposed plans potentially losing tens of thousands of pounds as opposed to entering the PPF. Why should they be railroaded? 7.3 Given a choice, many other 70,000 members who would be no worse off in the PPF may nevertheless prefer its certainty and security and would choose to go into the PPF. 7.4 Easing this cap was included in the 2014 Pensions Act, but the government has not yet managed to enact this legislation. The government should do so immediately, whatever else happens. 9

10 8 The Consultation Document does not explain why the BSPS circumstances are unique and why it would not create a precedent 8.1 The government has given emphatic assurances that the UK steel industry s circumstances are exceptional and that other companies would not be allowed to do the same in future. But exceptions can become the norm; all members of company pension schemes, and everyone else interested in the integrity of the UK pension system, should be very concerned that this proposal drives a coach and horses through the fundamental principle that pension promises, once made, cannot be changed retrospectively. 10

11 Appendices Financial Times FTfm Viewpoint June 8 th 2015 John Ralfe Zombie scheme haunts Pension Protection Fund Ros Altmann, the new UK pensions minister Should the new chief executive of the UK pensions regulator take a tougher line on approving the restructuring of company pension schemes? The regulator s approvals of controversial restructurings such as UK Coal in 2012 and Kodak in 2013, certainly allowed the Pension Protection Fund, the pensions lifeboat, to avoid large hits, but only by bending the regulator s own rules. They are nothing, however, compared with the extraordinary Trafalgar House Pension Trust deal in 2006, which is still unfinished business for the regulator. Like many UK schemes, Trafalgar House, with 25,000 members, is in deficit to the tune of 300m as of March 2014, with assets of 1.6bn and liabilities of 1.9bn. But unlike other plans, it is a zombie scheme. No employer is standing behind it making cash contributions to plug the deficit. Its legal sponsor is the pension trustee company, itself owned by the scheme, with no income or cash flow. 11

12 To plug the deficit, the trustees are betting on investment outperformance in high-risk assets. Although 40 per cent of assets are in bonds and swaps to match liabilities, 60 per cent are in equities, private equity, hedge funds and property. The trustees aim to plug the deficit by 2024 by making an average annual return of gilts plus an astonishing 6 per cent. The regulator s 2006 approval allowed the sponsor the rump of the engineering group, Trafalgar House, bought by Kvaerner, the Norway-based engineering company, and then sold to a management buyout to abandon its pension obligations, subject to paying just 101m into the scheme by This was 200m less than the deficit as calculated by FRS17 accounting rules. This 2006 deal was the first real test of the new regulator s powers and it seemed to take us back to the bad old days, when a company could just walk away from its pension scheme. It prompted hard questions in parliament. The trustees 2006 plan was to clear the deficit through asset outperformance by 2014, but actual performance has been poor. The scheme would have done better simply holding all of its assets in passive long-dated index-linked gilts. Meanwhile, in the eight years from 2006 to 2014 it has paid more than 100m in fees to investment managers. Despite the absence of a real sponsor, Trafalgar House is still eligible for the Pension Protection Fund. When it does inevitably enter the PPF, its deficit will be paid by other companies through a higher levy. To add insult to injury, its 2014 PPF levy is just 200,000, down from 1.2m in In 2006 the architect and public face of this game of heads we win, tails the PPF loses was Ros Altmann, the new UK pensions minister; she was a Trafalgar House trustee between 2007 and 2010 and again from In 2006, the regulator also approved a zombie deal for Polestar, the printing group. The trustee company became the sponsor and planned to plug its deficit through high-risk investment bets. In 2011, however, the trustees wound up the scheme after the regulator told them to crystallise 12

13 the position and warned the trustee company it would use its powers to wind up the scheme if they did not. The regulator s report on Polestar concluded that under any reasonable scenario the scheme could never expect to pay the benefits promised to its membership [and] in the absence of an employer that could make payments to the scheme, the PPF was... exposed to a growing deficit. It added: The regulator would not expect any scheme to take excessive investment risk, unsupported by the employer covenant, and to the detriment of younger scheme members and the PPF. All of this applies verbatim to Trafalgar House. It is inconceivable it will be able to pay its pension promises, it has no sponsoring employer, it is taking huge investment risk and the eventual hit to the PPF is increasing. As with Polestar, the regulator should tell the trustees to crystallise the position and warn them it will wind it up if it does not. If the pensions regulator chooses not to do this, it should produce a detailed public explanation of why it is prepared to let this extraordinary arrangement continue. 13

14 Financial Times FTfm Talking Head May 6 th 2013 John Ralfe Kodak pension deal brings regulator into question Has the Pensions Regulator given up on regulating pensions? b5a feabdc0.html#axzz47qxvliou Last week, the venerable US company, Eastman Kodak, reached an agreement with its UK pension plan, helping it to emerge from Chapter 11 bankruptcy. Under this deal, approved by the UK Pensions Regulator, the UK pension plan will buy two of Kodak s businesses for $650m and withdraw its 1.9bn ($2.8bn) legal claim against Eastman Kodak. By approving this extraordinary deal, the Pensions Regulator seems to have abandoned rule-based pension regulation, and moved to regulation by expediency. This approval, combined with others in recent months, prompts the sobering question: has the Pensions Regulator given up on regulating pensions? Rules operating since the regulator was set up in 2005 suggest that the Kodak UK pension plan would enter the Pension Protection Fund, with its 15,000 members receiving PPF compensation, set at a lower level than the promised pensions. Meanwhile, the regulator would pursue Kodak UK and Eastman Kodak in the English and US bankruptcy courts for the 1.9bn ($2.8bn) deficit on a buyout basis, especially as the US parent guaranteed Kodak UK s pension obligations. Like all unsecured creditors, the pension plan would receive a share of company assets, which may include equity in a new company, reducing the PPF s net loss. 14

15 Rather than this tested and transparent mechanism, a new Kodak UK pension plan will be formed a zombie with no corporate sponsor standing behind it to make deficit contributions with around 1bn of assets. The pension plan will not be given the Kodak businesses in exchange for dropping its legal claim, but, adding insult to injury, is paying $650m for them. The new plan s main asset 40 per cent of total assets will be the Kodak businesses, which, it is hoped, will pay cash dividends to the plan. Individual members can choose to transfer to the new plan, with pensions slightly higher than the PPF compensation, or stick with the existing plan and enter the PPF. The new plan will be eligible to enter the PPF at some point in the future. To shed much-needed light on this bizarre deal, the regulator should produce a Section 89 report as soon as possible, to explain why buying two Kodak businesses for $650m, and giving up the 1.9bn claim, was the best deal the regulator could achieve. Eastman Kodak, after all, had guaranteed the UK pension plan. The regulator should also explain how much more than the $650m purchase price the two businesses are worth, showing how much of the 1.9bn claim has effectively been paid. It should also indicate if the two businesses will be sold to third parties to realise the difference between the purchase price and the real value. (Eastman Kodak has been trying to sell the two businesses and announced plans to sell one of them to Brother only a few weeks ago). Most importantly, the regulator should also explain why, if this was the best deal, the plan did not simply enter the PPF, with the PPF then buying the two businesses for $650m, which would then become part of its overall assets. How much would the PPF lose if it took on the Kodak pension plan? With 1bn of assets and 2.9bn of buyout liabilities, the PPF liabilities are around 2bn. Before including the difference between the value of the two businesses bought and the $650m purchase price, this is a 1bn hit for the PPF, its largest single hit by a long way. 15

16 The PPF s 1bn surplus at March 2012 would be wiped out by taking on the Kodak pension plan. It would signal the need for hefty increases in pension scheme levies, a possible reduction in compensation payable to claimants, and even call into question the PPF s long-term viability. The regulator must demonstrate, without any shadow of a doubt, that it approved this deal for genuine reasons, not just as a convenient way to keep the Kodak pension plan out of the PPF. There were other high-profile examples in 2012 of the regulator allowing companies to put other creditors ahead of the pension scheme, driving a coach and horses through a fundamental regulatory principle. Trinity Mirror was allowed to stop 70m of agreed pension deficit contributions to repay bond holders. Premier Foods was allowed to stop 82m of deficit contributions and use all 130m of asset disposal proceeds to pay down bank debt. The regulator also approved the split of UK Coal into two companies, with its pension scheme injecting 30m into one of them. This company is now seeking voluntary liquidation, with a 540m hit for the PPF. 16