Ireland: A €1bn question
The leading Irish companies contributed €1bn to pensions in the financial year 2009 but there were few substantive changes to pension arrangements, writes Conor Daly
The year 2010 was difficult for Ireland. Much has been written in recent months of the funding challenges faced by the Irish exchequer culminating in the announcement of a joint EU/IMF bailout in late November. Irish pensions schemes have not escaped unscathed. A recently published report by Lane Clark & Peacock Ireland (LCP) highlighted how many of Ireland's largest companies face significant pension funding challenges. The report (LCP Ireland 2010 Pension Accounting Briefing) reviewed the pension disclosures in the most recently published accounts of Irish listed companies as well 12 significant state owned companies.
The LCP report highlights the difficulties faced by these corporations, which have a combined pension accounting deficit estimated to be €16bn as at 30 September 2010. This represents a very significant increase from the €7bn deficit figure for the same 33 companies at year end 2009.
The increase in these deficits could not have come at a worse time as the country struggles to emerge from a sharp recession, with many industries continuing to suffer trading difficulties. Indeed, the LCP report highlights the scale of the pension deficits by comparing them to companies' market capitalisation. In many cases the position appears unsustainable and brings into question the ability of these companies to meet the pension benefits without significant structural change to their pension schemes.
The state sector has its own particular challenges given the scarcity of exchequer funds in Ireland. The level of pension accounting deficits for the 12 state owned companies alone was estimated by LCP to stand at €7.3bn as at 30 September 2010.
There was limited evidence that any significant general steps were taken during 2009 to tackle funding issues, with a few defined benefit schemes closing to new entrants (for example, Fyffes and Elan) and some other schemes implementing limited adjustments to benefit formulae (AIB amended the terms of its Irish and UK defined benefit schemes during 2009 so that the retirement benefits are based on the average of pensionable salary over the five years before retirement, for example).
A number of high profile schemes considered in the LCP briefing have taken action more recently, which we can expect to impact on their 2010 accounts, for example:
• ESB, which disclosed the highest level of deficit in both 2008 and 2009, took decisive action during 2010 and has changed the basis for future accrual from final salary to career average re-valued earnings (CARE) along with various other initiatives.
• Bank of Ireland has limited the future increases applying to pensionable salaries for active members and will no longer grant pension increases in the first three years after retirement.
Deferral of action
Despite record levels of deficits, and with the exception of a few isolated cases, it was striking from the LCP analysis that most companies did not carry out any significant changes to their pension arrangements during 2009.
The 33 companies analysed contributed a total of €1bn to their pension schemes over the 2009 accounting period. This represents a 10% increase on the contributions compared to 2008 and shows an ongoing commitment by Ireland's leading companies to fund their pension liabilities (for example, C&C Group paid a special contribution of €20m, representing 74% of the pension deficit at the start of the year, to its Irish defined benefit pension scheme).
However, evidence suggests that the admirable continuing commitment by companies to their pension schemes in many cases leads to a retention of investment risk in the operation of the pension funds; the scale of the deficits is such that increased contributions alone are insufficient to eliminate the shortfalls. This is clear from the LCP briefing which highlights that the level of equity investment remains at a high level (57% at year-end 2009) with no material change since year-end 2008.
Another factor likely to have contributed to a deferral of change was the continued extension of statutory deadlines for submission of funding proposals by the Irish Pensions Board. A significant majority of Irish pension schemes failed the Pensions Act funding standard during 2009 (and indeed continue to fail the funding standard).
Given the scale of the funding difficulties faced by many Irish pension scheme trustees and sponsors since 2008, the deadline for submission of funding proposals was deferred on a number of occasions by the Irish Pensions Board. These deferrals, while necessary to avoid large scale wind ups of pension schemes, have most likely contributed to the ‘wait and see' approach being adopted by Irish companies to their pension liabilities.
Recent government measures
The most recent extension to the funding proposal deadlines was announced by the minister for social protection in October 2010. Since this date, the government has announced a number of measures designed the assist employers in addressing their pension funding challenges. The two most significant of these measures are the sovereign annuity initiative and the new defined benefit model.
• The sovereign annuity initiative emerged from a proposal made by the Society of Actuaries in Ireland and the Irish Association of Pension Funds. It envisages that annuities could be written by reference to EU sovereign bond yields and the Pensions Act funding standard would be amended so that the liabilities would be adjusted accordingly.
• The new defined benefit model envisages some amendments to the existing final salary model, with a likely move to a core base level of defined benefit with a higher level of security and the possible introduction of some element of conditional indexation (in a similar way to the Dutch model).
Much of the detail on the above measures have yet to be provided but it is clear, having regard to the debt crisis emerging in some peripheral EU states, that careful consideration of the risks would be required before any significant increase in exposure to non-AAA rated sovereign bonds. However, the government has committed to completion of these proposals by the end of January 2011 and it
is hoped that the final outcome will provide some assistance to employers, trustees and members as they endeavour to meet defined benefit pension liabilities.
The year 2010 has in many ways been an ‘annus horribilis' for Ireland Inc. with the delivery of severe austerity measures and the arrival of the IMF. The pension funding challenges faced by companies reflect many of the financial difficulties encountered throughout the country. However, recent reports indicate that Irish GNP has stopped declining and Irish exports continue to grow.
Significant structural change is required for many pension schemes but the partners and staff at LCP in Ireland are hopeful that a combination of fresh ideas, radical legislative changes and improved trading circumstances will result in a more robust and sustainable occupational pension environment by the end of 2011.
Conor Daly is a partner at LCP Ireland