The Pensions Regulator has issued a follow-up statement to the one it issued last autumn on scheme funding in the current economic climate. The statement as reported in the press appeared to give grounds for serious concerns. What did the regulator actually say and what does it mean for employers and trustees?
What the regulator actually said
The regulator emphasised the continuing common interest of trustees and employers in maintaining the long-term financial strength of the sponsoring company. In some cases in the current climate this could require previously agreed recovery plans to be re-considered.
The regulator is keen to emphasise its flexibility on a 'case-by-case' basis by assuring trustees and employers that it will continue to apply the system's flexibilities pragmatically "looking for outcomes in the best interests of the scheme and sponsor". It wants trustees and employers to understand reasonable affordability in the contexts of temporary impact (such as the consequences for a sponsor's cashflow resulting from the economic cycle) and longer-term changes affecting the employer's strength, recognising that this will often be a difficult judgment call.
Where the impact is short term, the regulator suggests that back-end loading the recovery plan might be the best approach. On the other hand, where a fresh valuation reveals a much larger deficit it may be that a longer recovery plan would be appropriate, perhaps with alternative security (such as contingent assets) being put in place at the same time.
The regulator's comment that "..the pension recovery plan should not suffer, for example, in order to enable companies to continue paying dividends to shareholders.." has excited press comment. The regulator goes on to note, however, that the maintenance of dividend payments with an altered recovery plan could be justified in "exceptional circumstances".
So what does this mean?
Employers and trustees can take away the following from the regulator's statement:
- The regulator's statement does not ban employers from paying dividends (at whatever level) where this might prejudice the recovery plan.
- Employers cannot, however, assume that dividends can be maintained (at whatever level) simply at the expense of the pension scheme.
- Unsecured creditors would not normally expect payment of debts due to them to be put on hold or re-scheduled to enable dividends to be paid out to shareholders. The regulator's reference to "exceptional circumstances" being required to justify payments of dividends to shareholders while payments to the pension scheme are reduced or re-scheduled needs to be understood in that context. Just because it is a longer-term liability, it cannot be assumed that the pension debt can be pushed to the back of the payment queue where cash is in short supply.
- It has been, and will remain, possible to renegotiate recovery plans and maintain a dividend policy where that is consistent with the long-term prosperity of the employer and is not simply at the expense of the pension scheme. Such a strategy would need to achieve an appropriate balance between the competing interests of all the relevant stakeholders in the company's business.
- Trustees should expect full engagement from the employer in order to understand why a particular approach to affordability issues is justified (for example, where dividends are maintained – or any other action is taken - but pension contributions are, in effect, cut). If recovery plans are going to be re-opened on the grounds of reasonable affordability then the regulator will also want to see concrete evidence that it is a genuine factor.
- Trustees will also want to ensure that the employer is committed to seeing that the scheme will benefit promptly from future improvements in market conditions and the company's fortunes.