“More plan sponsors (industrial companies with pension obligations) than ever have seen their pension plans go from being sorely underfunded to being nearly fully funded or even overfunded over the last year as equity markets have soared and rising interest rates have trimmed the present value of future pension obligations,” observes an April 4, 2014 research note by RBC Capital Markets analysts Eric N. Berg, Bulent Ozcan and Kenneth S Lee.
“Pension plan managers can lock in these gains by doing a pension transfer to an insurance company now. And that means, should the stock market take a fresh dive, it’ll be the insurance company’s problem to work through,” the analysts add.
What’s more, these companies would be able to palm off their pension benefit obligations (PBOs) to insurance companies at a relatively low cost – even up to just 50% of their annual operating cash flow for some.
The pension transfer market
Prudential Financial Inc (NYSE:PRU) basically pioneered the market with its ground-breaking pension transfer transactions for General Motors Company (NYSE:GM) and Verizon Communications Inc. (NYSE:VZ) about a year and a half ago.
RBC’s research, first conducted May 2013, now updated, to assess the size of the pension-close out market, as well as identify the larger industrial companies that could logically take the closeout route, may similarly be considered a first mover in the field.
“Our refreshed analysis of the pension closeout market leads us to believe the total ‘addressable market’ has increased significantly over the past year to $1 trillion of pension obligations,” observe the analysts.
Identifying likely corporate pension transferors
RBC brackets likely candidates in three categories, namely, “ideal,” “likely,” and “low-cost” transferors.
A company whose ratio of pension obligation to its market cap is above average relative to its peers, and which could transfer out its pension at a cost below the average of these peers, is considered “ideal.” Companies with similarly above-average pension obligation ratios which could dispose their pension liabilities for less than a year’s cash flow are called “likely” candidates. However, companies that could rid pension liabilities for a half-year’ worth or less of their cash flows, regardless of their pension/market cap ratio, are clubbed in the “low-cost” category.
The under noted table shows how RBC’s projection of a $ 1 trillion market is made up:
It may be noted that in their model RBC assume that the transferor company would pay the insurers 110% of the plan liability, that it would close-out the pensions of its retirees only and that it tops off the pensions of existing employees to the extent money is taken from their account to fund the close-out for retirees.
The $1 trillion list
This list of 231 companies covers any that are able to transfer their defined benefit pensions to an insurer at a cash cost of less than 50% of its 2013 operational cash flow. We reproduce below the first 50 companies appearing in the list.
“The key conclusion of our study update is that as a result of the rise in interest rates and of the surge in the stock market the pension transfer business in the U.S. is going to be an even bigger market than we thought and could potentially involve dozens (scores perhaps) of oldline U.S. companies that have had traditional, defined-benefit pension plans for years – and could benefit in terms of less balance-sheet and earnings volatility,” says the RBC research note.