Ford’s Innovative Pension Play

Automaker aims to trim pension risk by buying out salaried retirees, former employees.

In a groundbreaking move to reduce Ford Motor’s pension obligations and related balance-sheet volatility, the company said it will offer salaried retirees and former salaried employees lump sums in lieu of future pension payments.

“This involves retirees in a plan that’s not terminating,” says Mike Archer, leader of intellectual capital for the North American retirement practice of consultancy Towers Watson, pictured at right. “We’re unaware of any other large plan that has done this.” Other organizations have offered lump sums to former employees who are vested in the pension plan but not yet retired, he says.

Whittling down pension obligations will make it easier for Ford to manage them, Archer says. “The size of pension obligations that they have requires them to spend an awful lot of time managing those obligations,” he says. “A strategy that helps Ford make the obligation smaller is one that long term will help them make the success of the organization more fully dependent on how they do in the core business than how they do in managing their pension obligations.”

Ford plans to offer lump sums to 90,000 retirees and former employees, funding the payments from pension plan assets. “Individual offers will be made over time to accommodate the size and complexity of this program,” CFO Bob Shanks said during Ford’s quarterly earnings conference call last week. “We would expect to complete the process sometime next year.”

At the end of 2011, Ford’s U.S. pension plans, including those for salaried and hourly employees as well as unqualified plans, had $48.8 billion in obligations and $39.4 billion in assets, for an overall funded ratio of 80.7%. Shanks said the U.S. salaried pension plan represents about a third of that $49 billion in obligations.

He noted that the company had already taken steps to improve its risk profile with regard to its pension obligations by announcing changes earlier this year in how it manages plan assets. “But this is a huge step forward, in terms of actually eliminating some of the obligation altogether,” Shanks said.

In response to a question about the discount rate Ford will use to compute the present value of the pension payments it has promised to retirees and former employees, Shanks said the calculation will be done “person by person.

“It’s done with actuarial data around each individual and how long they might be expected to live,” he said. “It’s not one rate, it will be thousands of rates.”

Given the “unprecedented nature” of the offer and the difficulty in knowing how many of those eligible will decide to take a lump sum, Ford can’t estimate what the impact will be on its pension obligations, Shanks added.

Archer says that when pension plans give workers who are retiring a choice between a lump sum and an annuity, “it’s not unusual to see 70%, 80%, in some cases even 90% of employees take lump sums.” But he says the take-up rate is likely to be lower among retirees who are already receiving pension payments. The longer someone has been retired, “the more you may have come to rely on the annuity stream you have,” he says.

Archer says he’s seeing interest from other companies but adds that the response Ford gets will affect how many companies decide to do something similar. “I think there will be at least some followers,” he says. “But the degree to which it becomes a major trend depends on how successful it is for the first ones out of the gate.”

 

In 2010, Ford won a gold Alexander Hamilton Award for a previous phase of its efforts to de-risk the pension plan.

For a different approach to containing pension risk taken by a North Carolina manufacturing company, see De-Risking Defined-Benefit Plans.

 

 

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