What if the SEC issued an accounting directive and some major corporations sloughed it off? What if the SEC appears to have shrugged it off as well?
That reaction appears to have happened at a few big corporations this year when it came to reporting upfront major contributions of earnings of pension funds to their overall bottom lines.
These companies confined the contribution from pension fund earnings to a footnote in the financial statements of their annual reports, even though the gains were a meaningful part of the corporation's total income.
The Securities and Exchange Commission, just before the start of this year's proxy season, advised corporations to be upfront in reporting pension fund earnings when the earnings are a significant percentage of corporate income.
In the letter, Chief Accountant Lynn E. Turner wrote that any gains or losses in a pension fund's investments or any change in a pension plan that is likely to have a material impact on the financial condition or the results of operations should be disclosed in the section of the annual report known as Management's Discussion and Analysis.
That means, for instance, mentioning big gains from, say, a pension funds' roaring stock market investments or the conversion to a cost-saving cash balance pension plan.
Diana Scott, principal, Towers Perrin, said of the directive, "I think it was really a heads-up reminder" to companies of SEC existing rules to disclose material effects to income, "telling companies to think about it in regard to the pension plan."
The juxtaposition of that report -- and Pensions & Investments' stories in April reporting the huge contributions to corporate earnings of income from pension funds at some major companies -- shows the importance of highlighting information often relegated to a footnote in annual reports.
A footnote in IBM Corp.'s annual report shows its pension fund earned $638 million in 1999. That amounts to 5.4% of the corporation's total pretax earnings. There is nothing about its pension fund in its 12-page MD&A in its annual report.
Corporations obscure the origin of a meaningful amount of corporate profit by not being upfront about it in their financial reports.
However, some other big companies with significant pension fund gains contributing to their bottom lines were forthright in mentioning it in their MD&As, whether because of the SEC directive or because it has been the company's practice all along.
E.I. du Pont de Nemours & Co., for instance, mentions the contribution of pension income generally in its MD&A.
SEC officials won't comment on how corporations are or are not following the directive now that many companies have issued their annual reports.
Highlighting the contribution from pension earnings is important because it is different in nature. Ostensibly owned by the corporation, pension earnings and assets are in a trust, not easily gotten at by the sponsor. Laws make reversions of assets costly to corporations, assessing extra taxes or requiring benefits enhancements. Pension earnings can help reduce pension expenses. But pension earnings can't normally become part of the corporate cash flow. So earnings from the pension fund cannot have the same value for shareholders as earnings from the sales of goods and services. Corporations with significant pension earnings contributions should be upfront in pointing this distinction out to shareholders.
The Washington Post Co. is a model of how pension earnings should be reported when they have a material affect on the company's bottom line.
In its annual report, the company not only mentions that pension income was 21% of pretax operating income. It also breaks out the pension credit by operating segments: $26.4 million in newspaper publishing, $48.3 million in magazine publishing, and so on for its other segments.
As Donald E. Graham, the company's chairman and chief executive officer, notes in the annual shareholders report, pension income "is of lesser quality than the rest of our earnings . . . and it is important that shareholders take note of its extent," according to a P&I story.
Officials at the American Institute of Certified Public Accountants, which received a letter from the SEC about the directive last December, declined to comment about how well corporations are following it.
If the SEC has rules and issues directives, it and the AICPA ought to do more to make sure they are followed and to pull the heads of some companies out of the footnotes. Heads up, indeed, investors.