Which schemes are destined for the PPF?

It is an inconvenient truth that companies fail. Last year, 17,243 companies in England and Wales entered insolvency, according to the Department for Business, Energy and Industrial Strategy’s Insolvency Service, representing an increase of 4.2 per cent from 2016.

It is also likely that DB as a model has had its day. According to the Pension Protection Fund, 39 per cent of DB schemes have closed to future accrual. Just 12 per cent remain open to new members.

With some 69 per cent of DB schemes in deficit on their company accounting basis, the consultancy has now predicted that most smaller stressed plans will likely enter the PPF at some point.

The costs are prohibitive. It’s not just the advisory costs, it’s getting the engagement of the regulator

Edward Spencer, Barnett Waddingham

Recent disasters such as the collapse of outsourcer Carillion have underlined the importance of the PPF, which was established in 2005 to absorb eligible DB schemes from insolvent employers.

The lifeboat itself has predicted that 60 schemes would join in 2017-18, up from 45 over the previous year.

Some experts are bearish on the long-term survival prospects of smaller, stressed DB schemes. For its part, the Pensions Regulator has repeatedly stated that it does not see any systemic problem with affordability in the sector.

The regulator may be too quick for some

For employers who genuinely cannot afford their pension promises, entry into the PPF is not the only outcome. Regulated apportionment arrangements and company voluntary arrangements are sometimes used where a scheme can afford more than the level guaranteed by the PPF.

Edward Spencer, partner at Barnett Waddingham, expressed concerns that these options are more accessible to bigger schemes that are stressed. He predicted that the majority of stressed smaller schemes are likely to end up in the PPF.

“The costs… are prohibitive. It’s not just the advisory costs, it’s getting the engagement of the regulator and the Pension Protection Fund in smaller cases, and I think that’s a real challenge,” he said.

“I think there’s probably quite a few schemes that are, at the smaller end, just kind of carrying on, even though in reality they probably know that’s not going to work,” he added.

Last year, the regulator announced a drive to be "clearer, quicker and tougher" in its interventions.

Spencer suggested that this mantra may actually remove the flexibility and time needed to resolve certain stressed scenarios.

For some schemes, “what they really need is time”, he said, adding: “You don’t know how things are going to play out.”

Employer health is critical

Funding deficits are coming down but remain high. On the gilts-plus basis used by most actuaries, PwC’s Skyval index revealed a UK aggregate deficit of £200bn at the end of April, down from £450bn at the end of November 2017.

But the past year has already seen high-profile collapses in the form of Toys R Us and Carillion, whose pension arrangements attracted a significant level of scrutiny.

Simon Cohen, head of investment consulting at Spence & Partners, pointed to the number of failures at FTSE 100 level as an indicator of more DB plans, big and small, heading for the PPF.

“Those pension plans are unlikely to be fully funded on a buyout basis, or well funded, and may well end up in the Pension Protection Fund,” he said.

The size of the employer in relation to its scheme is key for Cohen, and evidence suggests that reliance upon sponsors is growing.

Barnett Waddingham analysis indicates that 12 schemes have received deficit contributions of more than £100m this year, up from six schemes last year.

“There might be resources outside of the trustee body... as opposed to a smaller company that’s got a pension scheme, where that pension scheme is quite significant to the business,” he said.

Deficits need not damage schemes

Richard Butcher, managing director at professional trustee company PTL, put high funding deficits down to rising mortality and low gilt yields.

“It need not necessarily have any real harm to a DB scheme depending on how it chooses to secure its liabilities,” he said.

“You only bear the brunt of that increased cost if you choose to crystallise the liability, by which I mean buy an insurance product or match your liability to long-term gilts,” he added.