Hymans Robertson has claimed that UK-based companies can cut cash costs of their defined benefit (DB) pension schemes by up to 30% if they chose to implement an effective bespoke strategy “instead of following the herd” and adopting a ‘Fast Track’ route.
The Pensions Regulator (TPR) has last year proposed a regulatory approach to valuations in its revised DB funding code that would look into pension schemes adopting a “twin track” route – Fast Track and Bespoke – to demonstrate compliance.
The proposal is that the new funding investment strategy will form part of the twin track route, with the fast track option requiring relatively simple information on the valuation and trustees’ approach to risk management.
TPR has noted that schemes with a weak employer covenant (willingness and ability to fund the scheme) and those which are relatively mature with a high proportion of pensioner members would be encouraged under the new code to have a lower level of investment risk.
Where trustees follow a bespoke approach, they will have to show funding arrangements in detail in their statements, giving an explanation of how they have diverged from the fast track method and their reasons for that. Trustees will also need to show how they are mitigating any additional risk.
According to research by Hymans Robertson, however, if a company is able to pledge security to adopt a corporate focussed (bespoke) approach, they could reduce cash costs by up to 30% compared to following expected Fast Track requirements.
The firm said that schemes taking this bespoke option would, additionally, have more time to recover from any funding shocks, adding that this approach could save as much as 65% when compared to a route that could be followed by trustees if a company “does not properly engage with the endgame discussion”.
Leonard Bowman, head of corporate DB endgame strategy at Hymans, said: “The majority of DB pension schemes are reaching the endgame – the final stages of their journey. But with an array of decisions to be made it is vital that they plan strategically and carefully and seek expert help in these final stages.”
He added that “simply having a long-term funding objective is not enough” if plan sponsors want to manage their pension costs and risks over the lifetime of a scheme.
“A holistic strategy and associated governance framework needs to be planned and put in place, as the long-term funding objective is only one piece of many in the DB endgame jigsaw,” he said.
Hymans’ modelling seeks to find out the costs of schemes taking different paths and stark differences can be seen. “With cash cost reductions of around 30-65% it is clear that taking the wrong path, making a poor choice and failing to execute these final stages in the best way could lead to significant extra cost,” Bowman noted.
He urged plan sponsors to look carefully at the value that offering security can bring. “If this means a move away from Fast Track becomes feasible, then by providing the trustees with greater long-term comfort, in a way that is not just linked to the company covenant, our modelling shows the significant economic value that can be generated for corporates.”
He said that improved security can support longer recovery plans and it can also prevent any short-term fluctuations that a scheme experiences from disrupting long-term funding and investment strategies.
“By seeking expert guidance as they face these momentous decisions about the DB endgame strategy, companies can ensure that nothing gets missed,” Bowman said.