We at CIEBA read with interest the June 20 commentary by Joe Rankin, "Why many companies should terminate defined benefit plans." While we as fiduciaries for various active, partially frozen and frozen defined benefit plans understand the arguments made for plan termination, it's critical to recognize that: 1) DB plan asset allocation can significantly reduce funded status volatility at a cheaper cost than plan termination, and 2) DB plans still provide a clear benefit to companies, employees and society at large.
Mr. Rankin's June 20 commentary asserts that employers with frozen plans "still assume the liability associated with market volatility." As a group of some of the most experienced investment fiduciaries responsible for DB plan investments, our view is that this assertion ignores the fact that asset allocation can be adjusted to effectively eliminate this risk, and potentially at a lower price than that of a termination and annuity sale transaction. If this were not possible, insurance companies would also be unable to mitigate these same risks (a scary thought!). Many of CIEBA's members employ and observe firsthand the effectiveness of such strategies (also known as defeasance or hibernation strategies).
We also take issue with the assertion that "if sponsors choose not to terminate plans now, they will almost certainly pay out more in the long run than they would today." Obviously, insurance companies looking to sell the annuities that would be used to terminate a DB plan will only do so if they believe it is a good business transaction for them. Part of the insurance industry's evaluation includes a consideration of the profits it can earn on such a transaction. It is not at all obvious that this profit that the terminating sponsor will pay to the insurance company is less than the future costs to which Mr. Rankin refers.
In fact, many of the ongoing costs to which Mr. Rankin refers, such as investment management fees and actuarial services, are expenses the insurance industry will incur as well (and pass through in their pricing of an annuity). For example, insurance company portfolio managers don't work for free, and insurance companies will perform their own actuarial work for risk management and insurance regulatory compliance reasons. Many CIEBA members have reached the conclusion that a plan termination today is in fact a more expensive alternative.
Moreover, it also has been many of our members' experience that fully terminating a pension plan is not a realistic alternative (e.g., when the plan includes non-frozen participants, such as union employees). Buying annuities for active participants can be prohibitively expensive — if possible at all — as they represent hard-to-hedge risks, and insurance companies naturally demand a large premium to accept those risks. So, if a plan sponsor is unable to terminate a certain portion of their plan, they will incur those same costs that Mr. Rankin mentions (trustee fees, accounting fees, etc.), without the benefit of economies of scale.
Lastly, many plans might not be fully funded, and will have to contribute the funded status difference between the assets and annuity purchase price at the time of a termination transaction. In these cases, the terminating plan sponsor will have to divert cash flow to pension funding, instead of to other potentially worthwhile investment opportunities the company's shareholders might prefer.