Q&A: Surveying the pensions landscape

Q: The Pen­sion Schemes Act intro­duces new pow­ers for the Pen­sions Reg­u­la­tor and even crim­i­nal sanc­tions. How can spon­sors ensure they com­ply and remain on the right side of the law?

A: The act will cre­ate mean­ing­ful uncer­tain­ty and will cer­tain­ly have an impact on behav­iour, but there isn’t a one-size-fits-all approach to defined ben­e­fit (DB) pen­sions. The broad­en­ing of the moral haz­ard tests, par­tic­u­lar­ly around con­tri­bu­tion notices, will focus direc­tors’ minds on the impact of trans­ac­tions on DB schemes as the leg­is­la­tion is very broad­ly draft­ed. Busi­ness­es and investors must be alive to these risks to not fall foul of the new con­tri­bu­tion notice tests or face crim­i­nal sanc­tions. The ambit of the act catch­es many nor­mal busi­ness activ­i­ties, for exam­ple pay­ing div­i­dends, which I wor­ry has not been ful­ly thought through. We need clar­i­ty from the Pen­sions Reg­u­la­tor through new guid­ance in this area. Hav­ing the right advis­ers in place will clear­ly be essen­tial.

Q: ESG – envi­ron­men­tal, social and gov­er­nance issues – is a hot top­ic. How do you see it fit­ting into the DB pen­sions land­scape?

A: ESG has gen­er­at­ed sig­nif­i­cant inter­est in insti­tu­tion­al invest­ment cir­cles through con­sid­er­a­tion of invest­ments in ESG-com­pli­ant cor­po­rates by DB schemes. How­ev­er, ESG also impacts the main asset of the pen­sion scheme, the cor­po­rate covenant, an often-over­looked aspect, impact­ing the vis­i­bil­i­ty trustees have of that “asset”. Trustees must begin to fac­tor the covenant impact of ESG into their risk man­age­ment strate­gies. The E of ESG risks will clear­ly affect cor­po­rate busi­ness plans in cer­tain sec­tors, such as oil and gas. How­ev­er, the broad­er approach to becom­ing car­bon neu­tral can impact busi­ness plans in many sec­tors and under­stand­ing the bot­tom-line impact of social and gov­er­nance changes for the covenant remains a nascent dis­ci­pline.

Q: With increased merg­ers and acqui­si­tions in recent months, are com­pa­nies with DB pen­sion schemes always a risk to investors or can they also present an oppor­tu­ni­ty?

A: In the cur­rent envi­ron­ment, cor­po­rates need liq­uid­i­ty and may need to dis­pose of non-core assets. Pri­vate equi­ty investors may look on those as val­ue oppor­tu­ni­ties, par­tic­u­lar­ly if they can man­age the pen­sions risk effec­tive­ly over the life cycle of their hold­ing peri­od. Over­seas investors, in par­tic­u­lar, may see val­ue in UK cor­po­rates for for­eign exchange rea­sons and because of the poten­tial pur­chase price deduc­tion from a tar­get hav­ing a UK DB pen­sion scheme.

Q: With the Pen­sions Regulator’s new plans to require longer-term jour­ney plan­ning from trustees, how can spon­sors com­ply with­out sti­fling their busi­ness plans?

A: Cor­po­rates have a num­ber of levers avail­able to fund their DB pen­sion scheme: cash con­tri­bu­tions; non-cash con­tin­gent sup­port, avail­able to sup­port down­side sce­nar­ios; invest­ment per­for­mance; and time. Under­stand­ing what fund­ing tar­get trustees are aim­ing towards and the time required to reach this objec­tive is crit­i­cal. That under­stand­ing needs to be mapped against cor­po­rate busi­ness plans, which should enable a meet­ing of minds between cor­po­rates and trustees regard­ing the right invest­ment strat­e­gy with the right bal­ance of risk, giv­en the covenant.

Q: What can spon­sors do to reduce pen­sions risk on their bal­ance sheets?

A: Insur­ance trans­ac­tions are becom­ing more pop­u­lar to trans­fer pen­sions risk off the bal­ance sheet and pro­vide secured out­comes for mem­bers. But they are expen­sive and like­ly unachiev­able for many schemes. Equal­ly, run­ning schemes off is unlike­ly to be suf­fi­cient­ly secure. New options are avail­able from DB pen­sion con­sol­ida­tors; while we’ve yet to see them real­ly take off, a wider choice of end-games is to be wel­comed.

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