In countries where significant pensions are often provided by employers, accounting for company-funded pension schemes is a contentious subject. It has been targeted by the SEC as an area where many corporate liabilities remain off balance sheet. The most difficult area is the ‘defined benefit’ pension scheme where the employer promises to pay a pension that is calculated on the employee’s salary at the time they retire. In order to calculate the cost of providing the pension to be expensed proportionately as the employee delivers service to the entity, it is necessary to estimate the employee’s likely final salary, likely period from retirement to death, and the likely return on assets that would meet the pension requirements over that time. Clearly the margin for error is considerable, and as life expectancy has grown, the need to make catch-up adjustments has been considerable.
Many companies set up such schemes years ago when employees often died a year or two after retirement, but employers now find themselves paying pensions for people who are living 20 to 30 years after retirement. As a consequence many such schemes are being run down, but they remain a problem, particularly in mature companies where profitability may be declining while the number of retired staff still on the books is growing. There are companies where the value of the pension scheme is greater than the market value of the company.
There are companies where the value of the pension scheme is greater ...