General Motors Co.'s plan to contribute $2 billion of its stock — the equivalent of 11% of the stock sold in its $18.1 billion IPO — to its U.S. pension plans sets a bad precedent for future funding of the pension liabilities.
Rather than contribute the 61.5 million GM shares, the company should have sold the stock to the public as part of the initial public offering and contributed the cash proceeds to the plans.
Making a stock contribution is a gamble on the future performance of the company and its stock.
Given that GM still faces huge legacy costs from the old General Motors Corp. and had, as of Sept. 30, an unfunded liability of $10.3 billion in U.S. pension plans, it can hardly afford to lose even small gambles in its pension funding.
GM executives talk a good game about changing the way the company operates. Christopher P. Liddell, vice chairman and chief financial officer of the Detroit-based automaker, said in a teleconference Nov. 18 that GM “used to be a $100 billion finance company and a $100 billion pension plan with a small car company attached. We have to get away from that business model. We have to get back to making cars, and having that drive the economics of the business. One way of doing that is having a balance sheet that is debt-free and a pension plan that is fully funded and defeased.”
GM has a long way to go to achieve the new management model Mr. Liddell envisions, and contributing company stock instead of cash suggests it hasn't fully adopted the new model. Contributing company stock to fund a pension plan has often been done by companies in difficulty and short of cash.
Some may argue the shares contributed will represent just 2.3% of GM's total $85.9 billion of U.S. pension assets, and companies can contribute up to 10% in their own securities to their pension plans under the Employee Retirement Income Security Act of 1974.
On the other hand, what other pension plan would make an allocation of $2 billion to GM stock at this time?
In fact, one of the risk factors GM underscores in boldface emphasis in its offering statement is its pension plans, warning: “Our U.S. defined benefit pension plans are currently underfunded, and our pension funding obligations could increase significantly due to a reduction in funded status as a result of a variety of factors, including weak performance of financial markets, declining interest rates, investment decisions that do not achieve adequate returns, and investment risk inherent in our investment portfolio.”
GM projects it could make contributions of $500 million in 2012, $100 million in 2012 and $3.9 billion in 2014 and $5.4 billion in 2015, along with contributions totaling $600 million in 2012 and 2013. Those projections assume GM earns its assumed 8.4% investment return on assets.
But if the return falls to 7.4%, the contributions would rise to $800 million in 2012, $200 million in 2013, $4.1 billion in 2014 and $5.7 billion in 2015.
A decline in investment returns might be a sign of a downturn generally in the economy, which would hurt sales of GM along with other companies, making its pension funding challenge tougher.
But, on the other hand, a rise in interest rates would lessen the funding burden.
In the past, GM promised much more in pension benefits than it could afford. Funding those benefits was a major cause of the downfall of the old GM. That legacy is still a threat to the long-term viability of the new GM.
Mr. Liddell's new model for GM has a way to go to become reality. Still, GM's new shareholders, its UAW pension beneficiaries and the nation should hope his model is achievable, They should hope that the dangers of overpromising pension benefits are understood, that the company has changed its ways and that its confidence in the future, as shown by its stock contribution, is not misplaced.
However, the stock contribution might make people wonder.