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Pension funding gap no problem for top companies, says Scope

A deepening pension funding shortfall is generally not a concern for corporates’ creditworthiness, according to Scope, a ratings agency.

In a statement, it said falling interest rates were largely to blame for the funding shortfall, although it claimed that asset levels were already too low to cover future pension payments before interest rates fell.

The funding gap, according to Olaf Tölke, managing director of corporates at Scope, “is especially problematic if companies cannot cover annual pension payments with cash flow”.

For companies listed on the DAX, for example, the ratings agency said a fall in the interest rate by half a percentage point would cause their aggregate pension liability of €371bn to grow by €40bn.

“[I]t is increasingly important for investors to look closely at the level of dedicated pension assets – at profitability and how this relates to the pension liability,” he said.

But the growing pensions funding gap is generally not a concern when it comes to a company’s creditworthiness, with Scope saying it has given companies’ ratings “the all-clear”.

“Highly rated companies,” Tölke said, “can generally cover pension payments with operating cash flows without any problems.”

He also noted that pension liabilities were “not as rigid as loans or bonds, which require a payment to be made at a specific point in time”.

Other factors supporting Scope’s views are that company pensions are paid pro-rata and are mostly due far into the future.

It also notes that whether interest rates are rising or falling has no impact on the cash payments a company makes each year.

The assets set aside for pension obligations act as a cushion for highly rated companies, it said.

Its views are reflected in how the rating agency treats pension debt in its analysis of a company’s creditworthiness.

This, Tölke told IPE, is “one of our key differentiating factors versus the incumbent rating agencies that treat the ‘pension debt’ differently in their credit metrics.

“As it is a difficult topic we thought we’d give some more detail about.”

According to Scope, ratings agencies generally count the full balance of unfunded pension obligations as company debt.

Scope, however, includes just two-thirds of the unfunded portion when calculating a company’s adjusted debt if dedicated pension assets can cover annual pension payments for at least the next three years.

If this is possible for the next five years, the balance is halved.

The unfunded pension obligation contributes much less than a company’s valuation to the rating that Scope assigns to the company, which ultimately reflects its probability of default.

Founded in 2002 in Germany, Scope is a relative newcomer compared with more established rating agencies Moody’s, Fitch and Standard & Poor’s.

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