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LETTER TO THE EDITOR

Dear Sir, Please take this as a constructive comment, but I reckon you're overstating the pension costs of the German companies in your list 'Multinational Pensions Costs' in the December issue of IPE, by anything up to a factor of five! The reason is that you're probably including interest cost", an inherent component of pension cost. In a nutshell, pension liabilities increase from year to year by three elements: La) interest cost (this is interest on the prior year's accrues liability) Lb) normal cost (this is the cost of one year's worth of benefit), and Lc) cost of unexpected events (usually aggregated under the title "amortisation").
However, pension fund assets backing the liabilities progress essentially by: Aa) return on assets, and Ab) contributions and outflows.
For funded plans, the pension cost under almost all accounting standards is essentially derived by adding the three "Ls" above and subtracting therefrom the first "A". This makes eminent sense from the point of view of an employer accounting for his pension obligations.
For a book reserved plan, however, the pension cost is usually derived by adding the three "Ls", full stop. The returns achieved by the non-earmarked assets buried in the sponsoring company's fixed or other assets somewhere will normally be shown below-the-line in financial items.
The starkest example would be liabilities consisting only of pensioners; the funded plan would have no cost; the book reserved plan would show cost equal to the interest cost.
This is not only an academic issue. The inflated pension cost drives employment cost up artificially, so that investment decisions will be flawed. We are aware of several multinationals that have taken or wanted to take investment decisions without taking into account the interest cost factor explained above.
Thankfully, the International Accounting Standards Committee (IASC) did recognise the issue and has at least permitted - if not prescribed - the recognition of the financial items (interest cost and return on assets) under financial rather than employment costs (cf. las 19,119).
Alf Ghodes, Watson Wyatt, Munich"

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