A FTSE 100 company has become the first to make surety bonds part of the funding strategy for its defined benefit plan, a new option for corporate executives looking to make good on pension promises.
The 5½-year, £400 million ($679 million) deal, for an undisclosed pension fund, was put together by Aon Risk Solutions, the risk management unit of Aon PLC.
The deal brings together eight insurance companies and is “the largest syndication the U.K. surety market has ever seen,” Mark Holt, Aon team leader, said in a news release from the firm.
It is a transaction that can potentially be transported overseas, to other companies grappling with the strain that DB pensions can place on balance sheets.
The innovative deal “is very much a crossover piece between pensions and insurance, which has many people excited,” said Lynda Whitney, London-based partner at Aon Hewitt.
The concept of a company offering a guarantee on its pension promise is not new. “When a pension trustee is negotiating with a sponsor about contributions to bring it to fully funded status, there is a range of things that can be done,” said Chris Redmond, senior investment consultant at Towers Watson & Co. in London. “A trustee can agree (to) a plan for contributions and accept that at goodwill. Sometimes they may want slightly greater assurance around that, and in particular to protect ... against the sponsor defaulting.”
In that instance, the corporate sponsor can go to a bank for a letter of credit, which underwrites future contributions to the pension fund.
But using a surety bond, an undertaking from an insurance company to pay a certain sum to a pension fund under specific conditions, is a new option. Triggers for payout vary from company insolvency to non-compliance with a pension fund's deficit recovery plan.
Now the door has been pushed open on alternative sources of capital.
“There may be preconceived ideas that corporates have to use a letter of credit,” said Leroy Hobson, London-based head of surety for Zurich Insurance PLC's U.K. global corporate business, one of the insurance companies involved in this first pension fund deal.
“This is not the case. Zurich surety is increasingly finding that some of our larger global corporate clients, typically FTSE 100 or FTSE 250 large multinational global corporate groups, are looking at ways to diversify the provision of financing and in most cases (including the guarantee to pension fund trustees) surety bonds are good alternatives to letters of credit and bank guarantees.”