Transport operator Go-Ahead has cut its pension liabilities by about £40m by changing the inflation measure used for its bus workers’ final salary scheme.
On April 1 this year, Go Ahead became the latest in the line of employers reducing their pension liabilities by altering scheme inflation indexation. Last year, De La Rue and John Lewis both made the jump from retail price index to consumer price index.
Each measure uses a different ‘basket of goods’ that is based on a range of priced goods found across the UK economy, as well as different mathematical formulae; CPI tends to be lower than RPI.
The company said: “The IFRS1 balance sheet valuation of the group’s pension liabilities reduces by around £40m and the group will recognise a pre-tax, non-cash exceptional credit of this value in the financial results for the year to June 30 2018, with a corresponding increase to shareholders’ funds.”
We do not think RPI is a good measure of inflation and discourage its use
Office for National Statistics
A spokesperson for Go-Ahead said the switch “reduces the financial risks of the plan and enhances the long-term sustainability of the scheme, providing an improvement in the security of plan members’ benefits”.
The decision was taken after a review between the company and the Go-Ahead Group Pension Plan. A 60-day consultation with “relevant employees” closed on March 7 this year.
The scheme’s liabilities – being assessed as at March 31 2018 – will reduce as a result of the changed inflation assumption. In July last year, the bus plan’s IAS 19 deficit stood at £20.9m.
The company said it will keep its cash contributions to the scheme at £6.5m this year, the same level as last year, despite the reduction in liabilities.
RPI is not a good inflation measure
RPI lost its status as a ‘national statistic’ in 2013.
In a paper published this month, the Office for National Statistics said: “We do not think [RPI] is a good measure of inflation and discourage its use.”
It added that “there are other, better measures available and any use of RPI over these far superior alternatives should be closely scrutinised”.
The spokesperson from Go- Ahead made reference to the status of RPI, saying: “A range of concerns have been raised by various experts about the RPI and its credibility as a measure of price inflation. In particular, the RPI is widely believed to overstate actual price rises.”
The fact CPI tends to be lower than RPI makes it attractive for employers to switch.
According to John Broome Saunders, actuarial director at consultancy Broadstone, the mathematical difference between RPI and CPI can be between 0.8 per cent and 1 per cent.
Some companies cannot go ahead with CPI
Not all employers have succeeded in transitioning their schemes from RPI to CPI. This year, the High Court has so far blocked attempts from BT and Thales to emulate De La Rue and John Lewis.
A company’s ability to make the indexation switch depends on the scheme’s rules. Ian Neale, director at pensions intelligence service Aries Insight, said that most trustees will have examined the option, but only a minority of schemes have been successful.
“It all comes down to the precise wording in the scheme rules. The problem is that when scheme rules were drafted, in many cases it was long ago,” he said. “So far in fact that inflation and retail price indexation were virtually synonymous.”
Thales case shines light on power of scheme rules
A High Court case involving Thales and trustees of its pension scheme has concluded it cannot move from the retail price index to the consumer price index for some benefits, highlighting how the wording in a scheme’s rules dictates the measure of inflation that is used.
Some rules specified RPI, but in other cases the wording is less clear, according to Neale. It is by exploiting this vagueness, he said, that schemes might achieve a move to CPI.
Compounding the losses
Last year, Go-Ahead proposed a dividend increase of 6.5 per cent, resulting in a full-year dividend of 102.08p. The company paid out £41.8m to shareholders.
The dividend proposal was made before changes to scheme indexation rules were discussed, according to the Go-Ahead spokesperson, and is not related to the CPI switch.
“Our current dividend policy is to maintain dividend cover of approximately two times earnings through a five year cycle. This policy is underpinned by the stable performance of our bus division,” the spokesperson said.
Nevertheless, while dividends at the company go up, scheme members will now receive smaller benefits than those previously promised.
Switching to CPI: What should trustees consider?
Video: Duncan Buchanan, partner at law firm Hogan Lovells, and Vicky Paramour, professional trustee at Law Debenture, debate what scheme trustees need to consider before agreeing to such a CPI switch.
The Pensions Regulator has recently reiterated its concerns about the widening gap between shareholder payments and deficit repair contributions, and told trustees to look at the effect dividend payments have on the employer.
However, it did not address shareholder payments relative to reductions in benefit increases, such as through changing the inflation measure. The regulator declined to comment on the issue.
Broome Saunders cautioned against underestimating the significance of a small reduction in pension payment increases.
“When you compound that up throughout 20 years’ worth of pension payments, that can be quite a significant difference,” he said.
