From the blog: FTSE engineering company GKN might consider issuing bonds of up to £250m in order to help finance its UK pension deficit, it has recently been reported in the Times.
If the company were to fund the schemes’ deficits via the issue of bonds, it would be swapping one form of debt for another.
If the company were to fund the schemes’ deficits via the issue of bonds, it would be swapping one form of debt for another.
Trustees will need to take care when considering any second-order effects, such as the impact on the employer covenant
With corporate bond yields currently at all-time lows, the issue of bonds is a potentially appealing option.
Any company considering such a step will need to balance the cost of this new debt against the cost of servicing its existing pension liability on both an accounting and funding basis.
Potential knock-on effects
Advance funding a pension deficit is likely to appear very attractive to the trustees of a company considering such a move. It could also mean that the employer can maintain its current level of cash contributions to its pension schemes.
However, trustees will need to take care when considering any second-order effects, such as the impact on the employer covenant supporting the pension schemes, and the ability of a sponsor to service all of its debts in the future.
The Pensions Regulator’s objective to “minimise the adverse impact on any sustainable growth prospects of an employer” also means the impact of issuing debt for this purpose should be balanced against the other needs of the sponsor.
A deal that is good for the trustees but bad for the sponsor is unlikely to achieve a successful outcome for either in the long term.
A deal that works for all
However, the size of a company's pension deficits can be such that it creates a barrier to corporate activity.
By reducing the headline pension deficit, a scheme sponsor may be able to achieve other strategic objectives and address shareholders’ concerns.
Ultimately, an agreement that is good for the trustees and better enables the employer to successfully achieve its long-term strategic objectives should be seen as a win for all of the parties concerned.
Jacqui Woodward is a senior consultant at covenant specialists Punter Southall Transaction Services
