Author Topic: Problems with pension(s)?  (Read 13045 times)

DonFanucci

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Re: Problems with pension(s)?
« Reply #10 on: September 26, 2016, 01:46:44 PM »
I agree with dwy, the return on assets is usually not the issue. The way GAAP works is that there is a pension liability expense generated each year and that is netted against the expected return on assets to compute the pension expense on the income statement. Then the difference between the expected return and actual return on assets comes out of the Other Comprehensive Income statement. So too high of an expected return inflates the income statement by artificially lowering the pension expense and shifting the difference to OCI.

The more important number for the balance sheet is the discount rate on the liability- does that look too high?

The pension obligation is carried on the balance sheet as an obligation and liability.  Let us say that the retiree liabilities is an amount of $120MM.  The pensions have assets and are funded to the tune of $100MM.  So there is a $20MM shortfall.  OK, all well & good.

This is the leverage here worth thinking about. Perhaps the assets are allocated in such a way as to match the duration of the liability so that both sides of the equation move up and down in tandem with rates.

These ZERO interest rate environments are really hurting pensions.

Totally. And this is really the case with anyone that is trying to earn a return to pay off fixed rate debt. The amount of cash that's ultimately going out the door to pay pensioners is a given amount (assuming no cost of living adjustment), the only question is whether you can come up with the cash to pay it. Lower discount rates (and higher liabilities) are just reflections of the fact that you need to invest more today to have the necessary cash in the future.
« Last Edit: September 26, 2016, 01:55:13 PM by DonFanucci »


Grahamfan2

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Re: Problems with pension(s)?
« Reply #11 on: September 30, 2016, 07:54:45 AM »
Instead of deciding if the assumptions are reasonable I suggest you recast the income statement and balance sheet. consider underfunding as debt and using a debt rate you consider appropriate, adjust the income statement wiping out the recorded pension expense (which constitutes a range of assumptions and lagged calculations) and taking into account pro forma interest expense.  Try to account for the fact that pension liabilities tend to be understated due to changing mortality tables.

The calculation is simplified because new benefits aren't being earned

KinAlberta

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Re: Problems with pension(s)?
« Reply #12 on: September 30, 2016, 10:16:53 AM »
IMHO, pension assumptions are terrible.  In the late 90s, at the tail end of a huge stock market bubble, return assumptions were generally increased.  Hey, if the stock market has been returning 20%, why would you assume a 8% return, let's mark that baby up.  Much better than contributing more.

Anyway, they are totally backwards looking and take no account of the present market values of stocks or bonds.  That is the case even when you have a lot of supposedly learned professionals running things.  I think mostly everyone on this board and elsewhere in the value investors universe thinks the market return is going to be somewhat challenged over the next 10 years or so.  Equity markets are slightly to significantly overvalued, depending upon your metrics and analysis.  The generational bond bull market simply has nowhere to go.  As you say, 20/30/50 is going to have a heck of a time returning 7.5%.  If 20% is cash, you need almost 10% on the 50/30 stocks/bonds.  I don't think you'll get 10% in the S&P at today's prices and can't see how you'll possibly get that in the types of bonds this pension is likely to own.

FWIW, without looking it up, I think 7.5% is probably one of the more conservative projections out there.  I think 8% is probably more common.

Not sure how that effects the company.


As an aside, back as far as the 1970s Buffett's has been making interesting comments on excess pension return projections.  Some googling should bring up the discussions.

Jurgis

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Re: Problems with pension(s)?
« Reply #13 on: September 30, 2016, 02:48:20 PM »
As an aside, back as far as the 1970s Buffett's has been making interesting comments on excess pension return projections.  Some googling should bring up the discussions.

The interesting things is that these issues been around since 1970s and mentioned multiple times in 1990s, 2000s, now 2010s. And very few companies (none? does GM count?) have gone under.

Not saying to ignore pension issues, but so far and at least for big cos, the issues seem to have been contained or maybe kicked down the road. Apart from situations where the co was going under for other reasons already. FWIW.
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UNF2007

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Re: Problems with pension(s)?
« Reply #14 on: September 30, 2016, 07:26:16 PM »
See point #2 from Jack Bogle, lol
https://www.yahoo.com/finance/news/retirement-crisis-actually-three-says-103024629.html

First, I'm in agreement with what others have said, this is basically a problem of 1. figuring out what the average per annum after tax cash drain is going to be  2. how long will it be a problem (actuarial longevity of the retirees)  3. adjusting your valuation appropriately.

Second, there are so many factors that can influence your assumptions on this,I'm not sure how you get close to any level of certainty with what the outcome will be. I may be reading what you wrote wrong, but it seemed like you said that a 10 million increase in the projected pension liabilities or 10% of the stated pension value,  would wipe out the excess equity value in your model. If that is the case you basically have two choices in my view. Either you can do a very deep dive to figure out you best guess on what is going to happen with the pension issue, or look for something else. For myself I know I wouldn't have the expertise to get comfortable enough, with that small of a margin between success and failure.

DTEJD1997

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Re: Problems with pension(s)?
« Reply #15 on: September 30, 2016, 09:32:41 PM »
Second, there are so many factors that can influence your assumptions on this,I'm not sure how you get close to any level of certainty with what the outcome will be. I may be reading what you wrote wrong, but it seemed like you said that a 10 million increase in the projected pension liabilities or 10% of the stated pension value,  would wipe out the excess equity value in your model. If that is the case you basically have two choices in my view. Either you can do a very deep dive to figure out you best guess on what is going to happen with the pension issue, or look for something else. For myself I know I wouldn't have the expertise to get comfortable enough, with that small of a margin between success and failure.

This company was coming off a catastrophic collapse in sales when a couple of their major customers went bankrupt a few years ago...They now have two years of earnings behind them...this year was a good year.  The valuation is just silly low.  I know of no other stock that is valued as low as this one is on a P/E and cash flow basis.

If the economy does not fall apart, they can make a LOT of money.  They have invest in plant & equipment & training, they have started to significantly pay down their bank debt...

They are trading for 85% off their pre-crisis highs.  They have the capability to be trading a 1x P/E instead of a 2x P/E.  They were paying a dividend that would be equivalent to a current 30% yield...

So the potential is certainly there and I need to get it right.

Book value is LOW right now, as they have been coming off the worst years since the great depression.  Another 2 years of decent earnings, and the book value problem probably goes away.

So it is most definitely worth the trouble...

KinAlberta

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Re: Problems with pension(s)?
« Reply #16 on: October 03, 2016, 05:26:21 AM »
As an aside, back as far as the 1970s Buffett's has been making interesting comments on excess pension return projections.  Some googling should bring up the discussions.

The interesting things is that these issues been around since 1970s and mentioned multiple times in 1990s, 2000s, now 2010s. And very few companies (none? does GM count?) have gone under.

Not saying to ignore pension issues, but so far and at least for big cos, the issues seem to have been contained or maybe kicked down the road. Apart from situations where the co was going under for other reasons already. FWIW.

It sure would be interesting to see how companies dealt with the earlier 'gaming' of expected returns.

I'd guess firing older workers, attrition, offshoring, mergers, conversion of pensions, etc. I don't see any great downside for management to over promising on this front.

doughishere

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Re: Problems with pension(s)?
« Reply #17 on: October 03, 2016, 09:17:43 AM »
The discussion here made me think of this letter from Mr. Buffett to Kay Graham.  Hopefully it's good reading for you guys.

"There literally were years when the savings account earned more than was earned out of all operating assets of the steel business (In fairness to U.S. Steel, it should be mentioned that they were one of three pioneers in recognizing the importance of pension assets - and have done a better-than-average job through in-house management.)"
« Last Edit: October 03, 2016, 09:21:11 AM by doughishere »

doughishere

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Re: Problems with pension(s)?
« Reply #18 on: November 17, 2016, 03:58:15 PM »
Summary: Illinois pension deficit now 130 billion with a 7% assumed rate of return into perpetuity.