PENSIONS ON THE FRONT PAGE Nicola Paul Aon Consulting

INTRODUCTION Is FRS17 the final nail in the coffin for Final Salary Pension Schemes? –Publicity –Member appreciation

OVERVIEW Why FRS17 was introduced Method and Assumptions Comparison to other standards Effect on Company finances Investment policy The Future

WHY WAS FRS17 INTRODUCED? (Perceived?) Problems with SSAP24 –Too much discretion –Weak Disclosure –Actuarial profession to blame? International trends Move towards use of market value of assets

METHOD AND ASSUMPTIONS (1) Liabilities Discounted using corporate bond yield Inflation determined by comparing yield on fixed interest and index linked gilts Discretion with salary increase and demographic assumptions

METHOD AND ASSUMPTIONS (2) Assets Market Value Expected Return on Assets

METHOD AND ASSUMPTIONS (3) Balance Sheet Full value of surplus/deficit recognised Surplus restricted to recoverable value

METHOD AND ASSUMPTIONS (4) Profit and Loss Account Service Cost –Projected Unit Method Financing Cost –Interest Cost –Expected Return on Assets STRGL –Balancing items

DIFFERENCES FROM SSAP24 SSAP24 has: Cumulative balance sheet entry Discounted Income Asset Valuation Less prescription with method and assumptions Triennial valuations Amortisation of actuarial gains and losses Spreading of benefit improvement costs

DIFFERENCES FROM FAS87 FAS87 uses: Smoothing Actuarial gains and losses spread forward Spreads prior service costs

EFFECT ON COMPANY FINANCES Direct impact on retained profits… and hence on –dividend policy –bank covenants –performance criteria –executive bonus schemes

EFFECT ON COMPANY FINANCES Analysts may change their view Comparative size of pension fund and Company Not many have adopted early!

INVESTMENT POLICY Move towards corporate bonds Myners review => demise of managed fund? Conflict between Trustees and Company?

IMPLEMENTATION Delayed until 2005 Negative publicity Will it still be introduced?

SOME THOUGHTS Companies have closed final salary schemes –many in the last year or so –despite “riding out” the MFR Too much legislation… or too generous a benefit? FRS17 does not force Companies to increase contributions –MFR does

SOME MORE THOUGHTS Education rather than abolition? Is it just an excuse to put in place cheaper, less generous pension provision? Has FRS17 just forced companies to face the reality of increasing pension costs?

CONCLUSIONS Indications are that FRS17 is here to stay Differences of opinion as to whether it is a good or bad thing Accounting standards do not change the economic reality Tell it how it is!