Profits crucial for pensions

LINDA BELL, pensions director for KPMG in East Anglia, warns firms not to sacrifice business growth to prop up pension funds

The firm’s research shows that these blue chip companies now fall into two categories: those who could pay off their pension deficits in a short timeframe from free cash flow and those who cannot pay off their deficits within any reasonable timeframe without sacrificing business growth.

If dividends and capital expenditure were added back to discretionary cash flow then in theory 97% of the FTSE 100 could clear their pension fund deficits within three years but this could be to the detriment of the businesses’ well-being.

At first sight these figures look alarming but they mainly reflect the consequences of the economic downturn on companies’ profits and cash flow. The message to sponsoring companies, of all sizes, to pension fund trustees and to the regulators is to maintain a long-term view and avoid knee-jerk reactions. The most important thing in securing the future of pension provision is to secure the future of the business, not the other way round.

As we predicted last year, companies are now spending more on deficits than funding pensions for current staff. For the FTSE 100 nearly �2 out of every �3 spent on defined benefit plans in 2009 went on deficit reduction. At the same time, total employer contributions paid to defined benefit schemes increased to �17.8bn in 2009 compared with �14bn in 2008, as demands to fund deficits for past benefits increased.

This provides further evidence of the trend for businesses to spend increasingly more on commitments made in the past than on investment in the company or new benefits for its current and future employees.

The research also found that the recent Government moves to change the way pension rises are calculated, by using the Consumer Prices Index rather than the Retail Prices Index, will reduce deficits but have limited impact on the ability of companies to pay off deficits. Far more important are measures designed to strengthen the profitability of companies themselves.

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As the economy comes through the current cycle we expect deficits to fall and businesses to strengthen. Improving profits and cash flow has a far greater impact on businesses’ ability to finance deficits than moderate changes to past benefits.

It will, therefore, be important for trustees of defined benefit plans to support the competitiveness of their employer and its ability to access finance. This will include recognising that capital providers are essential to business success and the right balance needs to be struck around pension funding. Now is the time for all employers to take action to develop a strategy to progressively reduce their pension risk.

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