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Pension Cost — All v Traditional

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Net Periodic Pension Cost - All Companies vs Traditional Spreading - 2014 all (205)As noted in an earlier post in which employer contributions to pension plans were compared with pension costs, the trends for net periodic pension costs have been confused the past 4 years by a small subset of companies that have chosen to switch to immediate recognition of gains and losses. Previously, that subset of companies followed the traditional accounting still in use by the majority of companies, involving a deferral-disregard-spread approach to gains and losses: (1) gains and losses, including changes in measurement of obligations due to changes in interest rates, are not recognized until after the year in which the gains or losses actually arise, at the earliest; (2) cumulative gains or losses up to 10% of the greater of the value of pension assets or pension obligations are disregarded; and (3) gains or losses outside that 10% corridor are spread over the future service life of active employees (i.e., generally about 15 years).

In very sharp contrast, the small subset of companies that are departing from the traditional approach recognize pension gains or losses in full in the fiscal year in which those gains or losses arise. The influence of this small subset on aggregate global trends is obvious in this graph. The blue curve with open circles represents the aggregate global pension cost for 205 of the largest U.S. companies that sponsor defined benefit pension plans for fiscal years 2000 through 2014, showing an increase in pension cost for 2014 relative to 2013 cost. This is similar to the chart that will be published by most if not all of the major pension studies; and more likely than not, none of those published studies will point out what has been the source of most of the volatility in pension cost the past 4 years.

Of those 205 companies, the red curve with closed circles shows the aggregate global net periodic pension cost for the 196 companies that continue to use the traditional deferral-disregard-spread approach. If all companies had continued to use that traditional approach, pension costs would have declined in 2014 relative to 2013 costs, as seen by the trend for those 196 companies.

As noted in my earlier post, one practical implication of the presence of this small subset of companies diverging from the traditional approach is that it is difficult if not impossible to predict the near-term future aggregate global pension cost with any accuracy. For the 196 companies that continue to use the traditional approach (except for any of those companies that switch to the approach used by the immediate-recognition subset), the aggregate pension cost during 2015 will increase, recognizing a portion of the net losses arising during 2014 due largely to remeasurement of pension obligations at lower interest rates. For that small subset of companies, however, those 2014 losses have already been recognized. As during the past 4 years, gains or losses for that subset will depend entirely on whether interest rates rise or fall, together with investment gains or losses, currency gains or losses for companies with foreign pension plans, and other actuarial gains or losses. As with any year, it is anyone’s guess whether the direction of 2015 experience for that group will be a net gain or a net loss, and how much that amount might be. But what has been clear the past 4 years is that while the number of companies in that subset remains small so far, their influence on the aggregate numbers when all companies are combined can be very huge. So as long as all companies are thrown into one pot as most pension studies do, one cannot confidently predict the aggregate global pension cost numbers for 2015 or subsequent years in the near term.

I continue to collect data from 10-k financial statements published by corporations for fiscal years ending in 2014, anticipating eventually reaching all of the more than 1,300 pension plan sponsors covered in my pension hobby’s studies. General results for specific subsets of that universe might differ from the general trends seen here. However, all larger general groups — for instance, the S&P 500 constituents — will be showing the general trend shown here.

(As I’ve previously disclaimed, posts such as this represent efforts of my favorite pastime. My formal work does not involve any of this, and none of it represents any position or comment that should in any way be attributed to my employer. Likewise, as always, it represents general personal impressions and should not be treated or used as formal professional advice.)

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Written by macheide

17 March 2015 at 2:46 pm

Posted in άctuary

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