De-Risking Defined-Benefit Plans

Prudential’s Portfolio Protected Buy-in relieves sponsor of market, mortality risk

As U.S. companies look more closely at the risks involved in offering defined-benefit pension plans, Prudential Financial says it has pioneered a transaction, called Portfolio Protected Buy-in, that relieves plan sponsors of market risk and mortality risk.

In the first transaction, Hickory Springs Manufacturing Co. transferred $75 million of pension risk to Prudential, which will fund all future pension payments for its plan participants who were retired as of May 1. The assets sit in a separate account at Prudential, which guarantees that it will make all future pension payments for those retirees, no matter what return it realizes on the separate account.

From Hickory Springs’ perspective, the separate account sits on its balance sheet as an asset, and that asset will always exactly match the related pension liabilities. “No other investment out there today is that perfect match,” says Steve Ellis, CFO of Hickory Springs.

The company, a manufacturer of furniture and bedding components in Hickory, N.C., has a defined-benefit retirement plan that covers about 5,000 retired and active employees and has about $150 million in assets.

Gordon Fletcher, a principal and actuary in the financial strategies group at consultancy Mercer, says the interest in de-risking defined-benefit retirement plans follows the damage done to DB plans’ funding during the financial markets crisis in 2008 and 2009.

“Things got very bad because of the turmoil in the financial markets, and now they’ve improved,” Fletcher says. “So sponsors in the U.S. are looking to take risk off the table.”

Such de-risking transactions have become “a common part of the tool kit for U.K. pension plans,” he adds. “It’s something that we’re very pleased to see come across and be deployed by U.S. plans.”

Christine Marcks, president of Prudential Retirement, cites the U.K. pension market as a “bellwether” and says more $40 billion of transactions involving pension risk transfer have been done in the U.K. in recent years.

Glenn O’Brien, managing director of Prudential Retirement’s pension and structured solutions business, notes that, unlike another type of risk transfer transaction called a pension buy-out, Prudential does not deal directly with the plan participants, but makes its payments to Hickory Springs. He notes that Hickory Springs can unwind the transaction; it can also choose to have Prudential cover more participants in the future.

Asked about the cost, Hickory Springs’ Ellis says that while the transaction involved a cost in excess of the present value of the liabilities transferred, the company no longer has to pay for management fees or advisory fees related to the investment of the assets, making it “an economically correct and viable transaction.”

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