Covidien, a $10.4 billion manufacturer of medical devices and supplies, inherited multiple U.S. pension plans with about $455 million in assets when it was spun off from Tyco International in 2007. Covidien wanted to limit the volatility in the plans’ funded status and its impact on the company’s financials and cash contributions.
Covidien decided to outsource the pension plans’ investment management and choose SEI Investments, in part because of its experience with liability-driven investment, to handle the selection and monitoring of managers.
Covidien and SEI conducted asset-liability studies of the plans and decided to divide them into two groups, based on liabilities and characteristics. Then they created custom liability-focused asset allocation strategies for each of the two groups. One group had a lower funded status, so its asset allocation retained a 60% weighting to equities, while the other group, with a higher funded status, had just 30% of its assets invested in equities.
Covidien adopted a process that includes setting trigger points—levels of funded status at which the company will consider further de-risking plan assets. “As we become more fully funded, we will allocate more and more to fixed income and fixed-income-like funds,” says assistant treasurer Gregory Andrulonis.
Covidien began to implement the changes in January 2008, and Andrulonis says one hurdle was “just the extreme market volatility we experienced while we were going through the implementation.”
But the revamped allocations helped shield the plans from the market meltdown. Covidien estimates that as of May, the pension plans’ assets were $69 million higher than they would have been under the previous asset allocation strategy. And volatility was significantly lower, with the first plan at just -0.17%, instead of the -0.51% that would have resulted under the previous asset allocation, and the second plan at -0.33%, vs. -0.65%.