UK - Pension fund trustees are being advised to review employer covenants, investigate the sponsor's current financial status and begin future funding negotiations as soon as possible, as Aon Consulting is hearing evidence of employers stating they cannot afford to pay existing funding needs.

A survey produced by Aon of its clients found in the first half of this year the number of schemes believing they had both a weak covenant and weak funding level averaged 16% - suggesting work was needed

That said, Aon is also advising scheme trustees do all they can to protect the scheme but also take into account the pressure demands for increased funding could have on employers in the current climate, as pushing too hard could potentially force a company to go under.

"A year ago, pension funds were saying they would do a high level desk-top review of the employer covenant," said Paul McGlone, principal and actuary.

"But to undertake an employer covenant assessment on historical data is not going to give a true picture. In the last six months things have changed and employers are coming to say they can't afford the levels of contributions to pay off their debts [to the pension scheme]."

In an example of how smaller companies are struggling in the current economic climate, Aon suggested whereas an employer might be given the option by trustees of reducing current contributions to 60%, the employer is more likely to argue they need to reduce them

McGlone said he is aware of one case at a small employer where members of the defined contribution have been asked to allow the employer to defer contribution payments for a year to help the financial status of the company, rather than force redundancies.

Given the rapid decline some companies have shown over recent weeks - such as Woolworths which now in administration - trustees are more aware of the need to check what the exact financial status of the sponsoring employer and how that could affect the long-term funding of the scheme.

As a result, said Anthony Light, head of covenant assessment at Aon, trustees are not just reviewing their previous deals but actually signing confidentiality agreements with employers so they may gain access to today's financial information to ascertain whether future profit potential will indeed finance longer-term funding agreements.

"More and more trustees are becoming interested in what is going to happen in the future," said Light.

"They are now taking a look at forward-looking data, and it seems to a be a pretty sensitive issue with companies, especially if they are listed and it is market-sensitive information. If a company says they are going to generate 8% in profits, you need to know how they are going to do that, and not achieve 2%.

"It is a job to make sure you don't push the company under because the best security is the sponsoring employer. You must seek "as fast as they can afford to, but not faster than they can afford to. If you force the company to put money into the scheme rather than pay the electricity bill, you don't do your members any favours," said Light.

On the back of these funding pressures and heightened oversight of pensions costs, McGlone has predicted 50% of the remaining DB schemes open to new members will close their doors within the next three years.

This latest revelation comes at the same time as rival firm Watson Wyatt warns two in every three defined benefit pension funds expect employer contributions to rise following their next valuation.

That said, its study of schemes indicated while 95% of the survey respondents believe their DB scheme's funding position has worsened as a direct result of the financial turmoil, confidence in the strength of the sponsoring employer's covenant remains high, as 81% rated their employer covenant as strong or very strong, compared with 83% a year ago.

"The majority of respondents are confident that the employer will remain financially strong enough to continue to support the current liabilities of the pension scheme," said John Ball, head of defined benefit consulting at Watson Wyatt.

"But their confidence has shown signs of waning recently, with a distinct shift from those describing the employer covenant as "very strong" to describing it as 'strong'. How trustees view the employer covenant will be crucial during upcoming negotiations over contributions. Trustees know they need more money, companies know they need to keep control of their cashflows; there are going to be some difficult discussions."

Watson Wyatt's study also found 40% of schemes believe they will no longer meet their planned timetable to become fully-funded.

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