2 European countries turn plans into cash

Two European nations are considering taking over public pension plans, converting their assets of approximately $34 billion into cash for general government use and turning the plans into pay-as-you-go systems.

The latest example is the United Kingdom’s attempt to take over the £20.1 billion ($31.3 billion) Royal Mail Pension Plan, London as part of a plan to partially privatize the postal company.

For European governments, taking over pension assets means one-time cash infusions that can be used for operating expenses or to pay down government deficits without recognizing the liabilities until the year they’re paid. But John Ralfe, an independent investment consultant and former head of corporate finance at Boots PLC, Nottingham, England, called the proposed takeover a “magic trick.”

The Royal Mail pension assets “would go into the government’s coffers,” Mr. Ralfe said. “They get a windfall of (£20) billion, which is a complete fiddle.”

A 2003 accounting rule adopted by Eurostat, Luxembourg, the statistical office of the European Union, permits the one-time recognition of the surplus. A Eurostat spokeswoman cited 11 historical examples of pension obligation takeovers back to 1994, including the €5 billion infusion the Belgian government received when it took over assets of Belgacom SA in 2004.

The Royal Mail proposal, if approved by Parliament and the European Commission, would immediately move the pension fund’s cash and government bond assets into government coffers, about one-third of total assets. Cash proceeds from the sale of other assets would follow. To cut costs, the plan was closed to new members as of March 31, 2008, the retirement age raised and the method for calculating retirement benefits amended, according to the Royal Mail Group Ltd. website.

Eleven managers would be affected, according to list of firms as of March 31, 2008, the most recent data available, though three firms run the vast bulk of assets. Hermes Investment Management Ltd., London, runs six active mandates, including private equity, emerging markets equity and U.K. real estate, which together constituted 36% of total plan assets. Legal & General Investment Management Holdings Ltd., London, manages two passive equities portfolios — one for U.K. and one for international ex-U.K. — each worth about 13% of plan assets. And Barclays Global Investors, San Francisco, runs an active debt and cash with swaps overlay portfolio, also worth about 13% of total assets.

A spokeswoman for BGI declined to comment. Spokesmen for Hermes and L&G did not respond to requests for comment.

Royal Mail CEO Gerry Degaute did not return multiple requests for further information.

In Ireland, more than a dozen university and public agency defined benefit funds, with combined assets of €1.7 billion ($2.3 billion), would be converted to pay-as-you-go plans under a proposal made in April by the Department of Finance (Pensions & Investments, April 20). Those plans include the €495 million University College Dublin fund and the €243 million University College Cork Statutory Pension Scheme.

Philip Shier, senior actuarial consultant at Hewitt Associates LLC in Dublin, at that time said that being part of a government-backed pay-as-you-go scheme is “straighter and cleaner for (plan) members,” but that it is “the taxpayers that should be slightly concerned about it.”

The forces driving the proposals aren’t simple. On one hand, the pension plans in governments’ sights for takeover are considerably underfunded. The Irish plans have an aggregate funded level of 57%. The Royal Mail scheme’s deficit doubled in a year to £6.8 billion as of March 29, making it 75% funded.

However, Mr. Ralfe noted, if the government takes over the Royal Mail plan, the measure used for calculating the plan’s liabilities would move to government bond rates from corporate bond rates, with the lower gilt rates producing a higher liability figure.

In the case of Royal Mail, the sponsoring company also needed government rescue. An independent consultant recommended in February that the U.K. government, as a way to modernize Royal Mail Group Ltd., London, should partially privatize the company, as well as take over its pension plan and implement a new postal regulatory regime.

The Postal Services Bill, which would include these reforms, passed the House of Lords on May 20. The bill goes to the House of Commons, where debate had been postponed as of press time. The postal workers union has lobbied against part-privatization, but it supports the pension restructuring, according to a spokeswoman who asked not to be named.

“We fully support (the government takeover of the pension liabilities),” she said. “We think it’s morally right that the government take on the pension scheme.”

The precarious health of government balance sheets is as much a reason for the moves as are politics, experts said. The Irish government’s growing debt led to a downgrade by Fitch Ratings Ltd., London, to AA+ from AAA on April 8, and the U.K. plans to issue record levels of debt to pay for economic stimulus packages. On May 21, Standard & Poor’s Ratings Services revised its outlook for U.K. debt to negative from stable, threatening the nation’s AAA rating.

Moving funded pension plans to pay-as-you-go systems creates a cash infusion for current governments, but throws the idea that each generation pays for its own benefits out the window, said Kevin Wesbroom, an actuary at Hewitt Associates, where he is U.K. leader, global risk services. Whereas current taxpayers and politicians benefit in the near term, future generations would be saddled with higher annual costs of benefit payments. Also, a funded plan whose investments outperform risk-free government bond rates by two percentage points annually is one-third cheaper to run than a similar pay-as-you-go system.

But it is politically expedient to cater to those paying the most attention to pensions — that is, those who have retired or are about to retire — than to make decisions that are best for future generations.

“The time scale with pensions is just totally inconsistent with the time scale with politicians,” Mr. Wesbroom said.