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Elf compromise to resolve dilemma

Reforming your retirement ar-rangements can be painful and lengthy, as Elf Aquitaine found when it became the first French public company to move from a DB system to a new DC one.

Its experience is an interesting guide in the shifting landscape of retirement scheme reform, because it had all the ingredients of an intractable dilemma, which was resolved by compromises to achieve the group's long-term goals.

Elf's DB scheme was of long standing, with a large membership enjoying favourable terms. But costs and liabilities were exploding and it looked like becoming unsustainable. It took over 10 years of negotiations from the first round in 1984 to the final agreement in February 1995, with the new scheme being fully implemented since then.

When Caisse de Retraite Elf Aquitaine (CREA) was created in 1956, France was entering a long growth cycle with full employment and few retirees. Elf was not the huge group it is today. CREA originated in future subsidiary Antar, spreading to cover all oil activities in 1977.

The founder members expected equal retirement benefits with their colleagues in the public sector, which was a guarantee of a pension equivalent to 2% of their final year's earnings for each year in the company. They obtained a guarantee very close to this, and possibly more favourable, since for a 35-year career an employee could get from 70-75% of final earnings and sometimes more, depending on the pension he got from the compulsory schemes (social security, ARRCO, AGIRC) and, more precisely, on his career profile.

The compensation criteria were generous, so an average of 90% of retirees could claim benefits from CREA.

The first concerns surfaced in the early 1980s. First, Elf had to make provisions for its retirement liabilities when it decided to adopt US accounting principles. The first assessment of these was undertaken in 1982. But the company only really started to worry the following year, when newly elected president François Mitterrand lowered the minimum retirement age from 65 to 60. For CREA, this meant providing up to five more years of benefits. The considerable impact of this on its financial balance coincided with a parallel increase in life expectancy.To prevent an erosion of its financial position, CREA had to adopt a safeguard clause. It took three years of negotiations to reach agreement with the unions on this. In 1987, it was decided that the annual benefits paid by CREA could not exceed 5% of total compensation cost including social taxes, amounting to about 8% of total salaries.When we made forecasts at that time, they showed the limit would be reached by the year 2002, but each new survey was bringing the limit closer," says Gerard Quillet, president of CREA and Elf's co-ordinator for health and pensions benefits.New negotiations started in 1991. "The hypothesis we used in the simulation seemed exaggerated to many in terms of life expectancy growth and pay-as-you-go benefits shrinkage, but they may have been under-estimated," continues Quillet.

According to these calculations, CREA benefits were exploding from Ffr100m ($17.5m) a year in 1985 to Ffr300m in 1993 and in 1996 to Ffr350m - the ceiling imposed by the safeguard clause. Without the safeguard clause, DB costs would have reached Ffr500-600m by 2002. Applying the ceiling would have meant reducing pensions as early as 1996. To avoid that, new negotiations started in 1994 and ended in the February 1995 agreement to move to DC.

But in making this move from DB, Elf faced a difficult financial problem. How would it honour accumulated rights in the future - a total of Ffr10bn or more in liabilities? There was no miracle solution - everyone had to pay. Existing retirees saw the indexation clauses reduced until 2000, apart from the first Ffr500 that keeps pace with a purchasing power index. All rights for potential beneficiaries had been calculated at the end of 1994 and the DB scheme stopped generating any new rights from then.Since 1995, every employee covered by the new DC plan pays for it. There is a flat rate applying to the first tranche of salary, up to Ffr13,540 per month, of 0.5% for employee and 1% for the employer. The different rates apply for the upper levels of salary, depending on length of service with the group: 0.375% for employees with more than 15 years' service; 1.125% for those under this and 1.875% for those joining after 1 January 1995.The employers are contributing at a higher rate than under the DB plan, because they then add a contribution at double the employee's rate to the new DC plan. "The new system costs the company between Ffr50m and Ffr100m and the total retirement costs are only expected to fall back under this level around 2005."

The new scheme, Institution de Prevoyance pour la Retraite d'Elf Aquitaine (IPREA), is original in its approach as a DC plan, as more is provided than just giving rights to capitalised savings.The liability aspect is overseen by a technical committee, which handles the pension rights calculations. As in the second tier pay-as-you-go system, the retirement unit gives a right to determined pension and is bought by a set amount of contribution, which is calculated each year.

The asset management side is very important. Asset allocation is overseen by a financial committee with representatives from employer and the employees. Money management is outsourced to CPR-Gestion. The funds at present have only a 20% exposure to equities because of accounting constraints, with 70% in domestic bonds and 10% in international fixed income."

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