Unfunded pension liabilities at six of the nation's largest airlines soared to a combined $10.3 billion last year, contributing to the carriers' post-Sept. 11 woes.
Escalating pension liabilities - along with depressed air travel, falling profits and economic uncertainties - paint a gloomy picture for domestic airlines. Only one major carrier, Dallas-based Southwest Airlines Co., reported a profit in the first quarter of this year, and Southwest doesn't sponsor a defined benefit plan.
Airline pension plans were hit hard, along with those of other sectors, by the depressed stock market and low interest rates. But the air travel industry's slow recovery prospects, coupled with soaring liabilities, could further affect the bottom line and require cash contributions at a time when cash is hard to come by.
While liabilities were moving higher, total defined benefit assets of the six air carriers at the end of the year declined about 14%, to $30 billion at year-end 2001 from $35.1 billion a year earlier.
Only two of the six carriers (Delta Air Lines Inc. and American Airlines Inc.) with defined benefit plans reported being positively funded in 2000, but the events of 2001 left all major airlines staring up out of an even deeper hole. Information in 2001 annual reports bespeaks the extent of the damage to airline pension funding levels. (Not all the companies report their pension information in the same way, because liabilities depend on a variety of actuarial assumptions and accounting methods. In most instances, liabilities shown are the difference between the fair value of assets and the company's benefit obligation at the end of the year.)
* U.S. Airways Inc., Arlington, Va., saw its benefit obligation jump to $5.5 billion in 2001 from $4.3 billion in 2000. With total assets at the end of the year of $3.1 billion, U.S. Air went from being underfunded by only $300 million in 2000 to $2.4 billion at the end of 2001, according to information in its annual report.
* UAL Corp., Chicago, had its pension liabilities triple to more than $2.5 billion, from $741 million in 2000, according to information in its annual report;
* American, Fort Worth, Texas, fared relatively well with accumulated benefit obligations of $6 billion at the end of 2001 and assets of $5.5 billion, for a shortfall of about $500 million. In 2000, American's assets exceeded accumulated liabilities at the end of the year by about $400 million.
* Northwest Airlines Inc., St. Paul, Minn., saw its unfunded pension liabilities increase to $2.3 billion in 2001 from about $500 million in 2000;
* Continental Airlines Inc., Houston, had unfunded pension liabilities of about $244 million at the end of 2001 only slightly less than the net underfunding of $282 million it reported the previous year; and
* Delta, Atlanta, reported the largest change in funded status. But its disclosure is based on the projected benefit obligations. Unlike many of the other companies, it didn't break out its accumulated benefit obligation at the beginning and end of the year. The projected benefit obligation includes the value of projected salary increases until retirement. The Delta annual report indicates the plan was overfunded by about $1.1 billion in 2000, but for 2001 the company's "funded status" had deteriorated to a $2.4 billion deficit. (At the end of 2000, Delta also changed its fiscal year end from June 30 to Dec. 31.)
Kelly Torpey, manager of financial reporting at Delta, said the large swing in its pension liabilities was due primarily to "asset performance during the period" and that Delta meets or exceeds ERISA minimum funding requirements. She said accumulated benefits as of Dec. 31 were "less than the assets of the plan."
Nancy Eckl, vice president of trust investments at American Airlines, agreed that deteriorating asset returns and lower interest rates hurt most pension plans.
"The combination of lower rates and the difficulty in achieving expected rates of return ... there probably was not a pension plan out there that was not affected," said Ms. Eckl.
Pension actuaries say the sudden weakening of the airlines' funded status is not surprising, given the depressed state of the industry after Sept. 11. Moreover, sour equity returns and low interest rates combined to increase the present value of long-term pension obligations for plan sponsors in 2001.
"I'm not surprised (at the rise in unfunded liabilities)," said a pension actuary who works with the airline industry and who wished to remain unidentified. "Clearly when your plan assets fall relative to the accumulated benefit obligation exposure, you have a situation where you may have to take a charge to income. It's definitely a negative, but its not horrible," he said.
Concerns about airline pension liabilities landed the industry near the top of the Pension Benefit Guaranty Corp.'s watch list of large single employer plans most likely to terminate, just behind the steel industry. The list was published in September.
PBGC spokesman Gary Pastorius said the PBGC continues to monitor the situation, but has no reason to expect any airlines to terminate their pension plans.
Contributions in offing
Some airlines might have been able to defer making 2001 contributions if they had prepaid pension expenses or have made excess contributions in the past. Eventually, however, they will be required to fork over substantial contributions if the market doesn't boost asset returns dramatically.
That type of help from the market doesn't seem to be forthcoming, as market averages have bounced around wildly since 1999. In fact, it is this reliance on stock market returns that might have pushed plan sponsors in other industry sectors, not just airlines, into underfunded status, according to Ethan Kra, chief retirement actuary at Mercer Human Resource Consulting, New York. Increases in pension shortfalls for the last two years can be attributed to market underperformance, he said.
Northwest, for example, expected to earn 10.5% on its plan assets in 2001, according to its annual report. While projecting a gain of $514 million, the fund actually lost $370 million, according to the report.
Major airlines in general were using relatively high long-term expected rate of return assumptions in 2001. Northwest's 10.5% was the highest of the six looked at for this story, followed by Delta, at 10%; and AMR and U.S. Airways, 9.5% each. Continental didn't show a percentage assumption in 2001 but used an expected 9.5% return assumption between 1998 and 2000.
Mr. Kra said the level of underfunding is largely due to "the distressed state of the markets."
"They took a calculated gamble by investing in equities and did well in the 1990s, but it impacted all of corporate America, which is now facing for the first time in a generation the fact that their pension plans did poorly for two consecutive years," said Mr. Kra.
As a result, Mr. Kra predicts a major swing back toward fixed income by pension plan sponsors. "Based on changes in accounting methods and policies coming down the pike, I think there is a good possibility that a significant number of companies will change their investment philosophy and investment approach to move more heavily into long-term bonds from equities over the next 10 years," he said.