A time for thick skins and challenging minds

When I started work in the 1960s, and throughout most of the rest of my Shell career, the basis of my remuneration was comparatively simple. I did a job. That job had a value to the organisation expressed as a "Grade" and that Grade had a salary range attached to it. I was paid within that salary range and then if I moved to a higher graded job I was paid more. Occasionally - very occasionally - I received a modest bonus perhaps roughly equivalent to one month's salary. In addition I benefited from being part of a Defined Benefit Pension scheme to which I contributed, as did my employer. The receipts from this scheme were of course deferred until I retired and started to draw my pension - essentially this retirement benefit was remuneration deferred from my employed days. This was the traditional model common across the world of work and reflective of the then tradition of most of us having only one employer over our lifetime - and of an assumption of a duty of care on the part of the employer not just during the working years but into retirement. In the last couple of decades this model has broken down and whilst it still exists the changes in social and business attitudes of modern times have profound implications for pension fund trustees.

As I have written here before the closure of DB schemes to new entrants is in part recognition that the modern "compensation" package with, for some, its much higher and non-pensionable bonus element does not need to value pension provision so highly as in the past. It must also be true that in a period of high unemployment young people, especially graduates, are grateful for having a job offer at all - the lack of the provision of a Final Salary pension in their package is unlikely to be an issue. And for today's employers the paying of remuneration now, and with a high performance related element, seems much preferable to the creation of the long-term financial burdens that the provision of pensions for employees involves. It is also the case that the norm now is for individuals to have more than one employer over their working life - many more in most cases. Surely the norm for the future will be fully transferable money purchase pensions schemes rather than the DB (or DC for that matter) scheme based on a "single lifetime employer" assumption. So what is the Trustee role when a company decides to close a scheme to new entrants i.e. to change the basis of its compensation offer? I would argue that it is minimal. Trustees should certainly question a sponsor as to whether such a decision is in any way a weakening of the sponsor covenant. But that it about it - the Trustees duty of care is to scheme members and by definition an employee outside the scheme is not a member.

But, of course, it is not just the closure of schemes to new entrants that is underway at the moment. Take, for example, Unilever's recent decision to close its final salary DB scheme to further accruals. Although pensioners and those close to retirement age will not be affected (or will only be slightly disadvantaged) for the employee in mid career the decision must have come as a bombshell - after all this is a company that made over £5billion profit last year. As the Pensioners' Alliance Chief Executive said "This is pretty bad news for someone at Unilever who is in their mid 40s and had expected a certain level of Pension". Indeed it is! As recently as October 2010 the Chair of Trustees of the Unilever Fund said to the fund's members, in good faith I'm sure, "… it is our ongoing belief that Unilever has a strong commitment and ability to support the [Pension] Fund into the future"!

It is in circumstances like those at Unilever that the role of the Trustee becomes crucial and the need for independence of thought and attitude becomes paramount. Similarly if a Private Sector scheme decides to follow its Public Sector cousins and opt for the use of CPI rather than RPI for annual increment increases for pensioners, as some quite large schemes have done recently, the Trustee must challenge the rationale for the change and ask for alternatives to be considered. Easier said than done if you have a powerful sponsor determined to make a change.

Arguably the role of the Pension Fund Trustee has never been more important than in these febrile times. Thick skins and challenging minds required!

A Trustee’s role in a Fund’s investment strategy

A not uncommon reaction from friends when it emerged that I was a candidate to be a Pension Fund trustee was “I didn’t know that you were interested in investment, Paddy?” The implication was that the big deal for a trustee was involvement in the management of the Fund’s Asset portfolio – that’s where the action was. A couple of slightly cynical acquaintances even said when I was elected “Well that should help you sort out your personal investment portfolio” and when I said that I didn’t have such a thing they looked at me with amazement – must be the friends I keep! That maintaining and increasing fund value is a key role of a trustee I happily accept but for me to immerse myself in the minutiae of investment tactics - I don’t think so.

So what is the role of a non-professional trustee on a DB scheme’s Board with regard to investment? I think that above all it is to look at the subject from a fairly high level strategic perspective. The liability side of a Fund’s standing at any one time changes fairly slowly and is very assumption based. For example longevity and discount rate assumptions are just that – assumptions. Because they deal with future events, and because by definition the future is uncertain, they cannot be seen as factual - but all too often they can become unrealistically regarded almost as hard data. So, for example, discount rates based on bond yields can steer pension fund asset allocations towards bonds in an attempt to reduce volatility and improve the future prospects of the funding level - however this can be at the cost at the cost of potentially producing much lower long-term asset returns. The risk is that assumptions, which are very soft data, can distort asset allocations which can even lead to a delusionary perspective of the health of a fund. We all operate in the present and for some Trustees there may be a bias towards caution. If a Fund’s valuation at any one time can be seen to be more predictive of a healthier future by increasing the proportion of the liability driven element in the asset side this can be attractive to a risk-averse Trustee.

So in looking at investment strategy the Trustee does need to understand liability assumptions and not be over-influenced by them. Clearly a vehicle which locks in returns with a high degree of certainty - for example by using bonds with their dependable cash flows - can be useful for part of the portfolio. If this part of the asset base is notionally allocated to the meeting of current and short and medium term pension payment obligations that can be enticing. The rest of the fund can be allocated to investments with a longer time horizon - principally Equities in most cases. It is at this level of abstraction that I think Trustees should be operating – the principles of portfolio structuring taking due regard of the actuary’s liability forecasts. But it is worth remembering that every pound that is locked up in a liability driven investment vehicle is a pound that is not available, except at a cost, for other asset classes. There is a trade-off between on the one hand locking in returns and on the other hand keeping all the investment options open. And as is always the case the Actuary should be challenged – not to disagree with his assumptions but to request him to disagree with himself by running sensitivity analyses!

The Trustee’s role then is to avoid the detail of investment decisions, to try not to second guess the investment managers and to review performance at a fairly high level of summation. This means, ironically, that although Pensions conferences can be valuable for Trustees (more should go to them) many of the exhibition displays at these conferences by the investment community are not really for them. Trustees should not really be engaging in conversation with the earnest investment managers in their smart suits and with an impressive City addresses on their business card! What is, however, in my view firmly in the domain of the Trustee is to reflect that he is not only concerned with the metrics of the Fund’s investment but also with its integrity. The difficulties that some big name DB schemes have got into in recent years has tended to disguise the fact that most DB schemes remain adequately funded with good sponsors and reasonable prospects of discharging their liabilities over time. These funds are very significant players indeed in the world of finance and investment and they can also be a force for good in it. So for funds to invest ethically and especially to make investments in the new “social investment” asset class is something that Trustees should in principle support.

The changing role of the Trustee as DB schemes mature

Twenty years ago the Pension Fund of which I am a Trustee had 44,315 members of which 34% were Actives, 51% Pensioners and 15% Deferred members. Today the Fund’s total membership is numerically almost identical – 44,482 - but this membership is split very differently. Only 14% are Actives, 66% are Pensioners and 20% are Deferreds. Every Pension Fund is different but the trend in mature funds away from Actives to Pensioner members, of both types, is clear. In Shell in the UK the factors included a changing business model which meant a significant reduction in labour intensive business sectors and an increasing tendency to contract out areas of the business to third parties for whom there was no Pensions liability. This trend will continue and the situation where Pensioners represent close on 90% of the total membership of the Fund is not many years away. If a Defined Benefit scheme is closed to new members or closed to future accruals for its Actives (neither is currently the case for Shell) then the significance of the Pensioner membership as a percentage of the total will increase further. What are the implications for Funds, from a Trustee perspective, of this radically changing membership composition?

Trustees of mature funds, in which the number of members receiving pensions far exceed those still working, must take account of these changes both in the “hard” aspects as well as the soft. By hard I mean issues to do principally with the sponsor’s covenant and with funding ratios. When Pensions Funds were first set up in most cases on day one of the fund’s existence 100% of the membership were Actives. Gradually, of course, this changed and at some point the fund’s annual contribution receipts (Employer and Employee contributions related to Actives) became overtaken by the outgoings – the benefits paid to Pensioners. From this point on the nature of the Fund began subtly to change. No longer was the Fund primarily a tool for attracting and retaining staff. Instead it became an increasing actual or potential burden on the sponsor – there is no need to recall here the dramatic effect this had on some famous sponsors with, in some cases, the Company’s Pension Fund turning into an albatross which imperilled the whole business! The scandal of these cases was that we are not talking about an overnight event which suddenly turned a well-funded Pensions scheme into one with a hugely negative funding ratio. What we are talking about is culpable neglect on the part of Trustees who did not see the signs of a deteriorating position, or of Sponsors who didn’t do anything about it. You can model fund membership composition changes and test this on the future financial health of the Fund in “what if” scenarios – there is no excuse for Trustees who do not insist that this happens.

The “Soft” issues to do with the change in the balance between Actives, Deferreds and Pensioners include Board composition, communications and the general perspective of the fund that Trustees should have. Pensioner members will want to be able to rely on Trustees to protect their interests – not that these are especially complicated. In essence Pensioners need reassurance that their fund is being properly managed so that the income stream on which their retirement is predicated is reliable. When changes occur – for example if schemes close their doors to new members or stop further accruals for Actives – this is a good time to reassure Pensioners that their own positions are unaltered. A practical way of showing that the Trustees understand the changing nature of the Fund would be to give Pensioners greater representation on Boards. And a mature DB scheme becomes much less an element in employee compensation, and as such a responsibility of the Sponsor’s Human Resources Department, and much more takes the character of a stand-alone investment business for ex staff providing benefits to which, of course, they are fully entitled! The relationship with the sponsor also changes in a subtle way. In the past the Pension Fund’s funding by the Sponsor was a pragmatic way of keeping employees happy. Now it is a duty and a legal obligation but without any concomitant benefits of employee loyalty or staff retention. Loyal and contended staff can add to the bottom line – loyal Pensioners make no such contribution!

Trustees have a duty of care to all of their Fund’s members and must not discriminate between the member classes. But this doesn’t mean that they should be unaware of the member composition changes that are underway – many of the priorities of a closed mature fund are likely to be very different from that of a Fund with a high proportion of Actives and which is still open to new members.

A response to Mercer’s Trustee survey

A recent survey by Mercer of 119 Pension schemes and 800 trustees revealed that around one third of trustees monitor the sponsor covenant only annually - or even less frequently. The integrity of the sponsor covenant is essential and I am surprised that any trustee could believe that the job can be done without monitoring it closely. However we do need to make a distinction between having a regular (e.g. annual) process which includes an element of sponsor challenge on the one hand and the more informal but continuous “keeping an eye” on the Sponsor’s business performance and their attitude to the Pension fund on the other. In the past it seems that many funds watched their funding ratios gradually decline but were reluctant sufficiently to challenge sponsors to rectify matters. Funds do not usually go from being healthy to being in trouble overnight. An important part of the “monitoring the covenant” duty is for trustees to look closely at risk and to request the carrying out funding ratio sensitivity analyses which forecast the effect of various key variable changes – both on the investment and the liability side. For example a trustee could request that a case in which more “pessimistic” longevity assumptions are made be actuarially quantified - and then challenge the sponsor as to what their reaction would be in such circumstances? This is what I would call “active monitoring” of the covenant as opposed to the passive monitoring which some trustees may see as sufficient.

In Mercer’s survey it was also revealed that in less than half of the schemes surveyed was there formal trustee performance evaluation. In my view such evaluation is desirable – so long as it focuses not just on knowledge but also on suitability. It would be wrong to start an evaluation exercise from the assumption that the only thing that trustees need in order to be effective is to be knowledgeable on all aspects of Pension Fund management. They don’t, so long as across the Board as a whole, and including external advisors, there is sufficient knowledge. Far more important for a trustee is the need for an enquiring mind and preparedness to challenge the conventional wisdoms - trustees must not be shy retiring violets! Evaluation needs to concentrate as much on personal qualities and attitude as on pensions specific knowledge.

Another subject on which Mercer reported was that of trustee remuneration. 37% of funds pay some or all of their non-professional trustees according to the survey. As an unashamedly amateur trustee I fully accept that external professional trustees on a Board should be paid but, in my opinion, other trustees should not be remunerated. I totally disagree with Mercer’s conclusion that nominal pay (or no pay) leads to trustees being perceived as amateurs “serving for altruistic reasons”. Indeed I would go further and say that at least some trustees on any Board should be amateurs - and I see absolutely nothing wrong with altruism! I am a trustee solely for altruistic reasons – I want somehow to protect/improve the lot of my Fund’s members. That’s what I am there for and I would prefer it that I and all my fellow trustees worked entirely voluntarily. If this sounds like a pro “Big Society” argument then so be it – perhaps it is! I agree that trustees should be of the “right calibre”, as Mercer put it, but do not think this means that it is a job like any other job that people do only because of the money they can earn - nor that this pay should be linked to some spurious measure of “performance” as Mercer also seem to want.

Finally Mercer’s survey reports on the composition of Boards and reveals that 48% of schemes apply some measure of selection for trustees. Ideally I think that Boards should be as diverse as practicable and that members should have a say in who represents them. Whilst I like the concept of the expert and objective “Independent trustee” I fundamentally object to the policy that some Boards seem to have introduced that “selection” should replace “election” for all trustees. A mix between “appointed/selected” on the one hand and “elected” on the other seems desirable and this is what I am used to. Justice has to be done and to be seen to be done and to have some Trustees elected by the various member groups will help ensure that this is the case.

Paddy Briggs is a Member Nominated Trustee Director of the Shell Contributory Pension Fund. He writes in a personal capacity and the views he expresses are his own.

© Pensions Age

The role of the Elected Trustee

The Trustee Board of which I am a member has fourteen members, including the Chairman, of which seven are nominated to serve by the Sponsor and seven are elected from various member constituencies. Of the seven Company Nominated Directors four are Shell employees and three Pensioners. Of the seven Member Nominated Directors four are directly elected by the 6,600 employees in the fund and three are elected from the 38,000 Pensioner (and Deferred Pensioner) members - one indirectly and two via a ballot of all Pensioners. I mention these details to show that there is always likely to be a fair diversity of types of Trustee but also to highlight that only two of us can claim to have been chosen directly by the 85% of our Fund’s members who are pensioners – although in total six of us are pensioners and can perhaps be seen to relate closely to this community. Similarly the eight employee members perhaps naturally associate with those still in employment. In making this analysis I can hear the voices of the Pensions lawyer and the Fund’s managers over my shoulder. “You are not a delegate of the Pensioners representing them – you must at all times act in the interests of the beneficiaries as a whole”! This of course is true and forefend the thought that I should be partial to one member sub-group over another!

I have now been a Trustee for a year and can say that the Board members who are my colleagues honour to the letter their legal duty to put members interests first whatever their backgrounds and whatever “constituency” they come from. They are also collegiate with one another and whilst there are some obvious differences between, for example, the Pensioner Directors and the Employee Directors these rarely come to the surface in a negative way. It is also pleasing to see that there is no “them and us” divide between the rather senior Company Nominated employee Directors and the rest of us. I am aware that other funds are not so fortunate – one elected member of a major fund told me that he and his fellow elected members have pre-meetings before Boards to agree their position on issues and to plot together against what he called the “company apparatchiks and puppets”!

When I meet fellow Shell Pensioners at various functions I stress to them that although they elected me the law does not permit me only to argue in their interest. But I also say that, so far anyway, this has not been a problem. We have not had an issue on which a decision one way would favour employee members to the detriment of pensioner members – or vice versa - and I think that it is unlikely that we will. So generally what is in the interest of Pensioners is either also in the interest of employees or at the very least is neutral to them. Given this, and whilst I am watchful of the risks of not being even-handed, I naturally think particularly of my Pensioner constituency when matters are under discussion.

The principle that some members of Pension Fund boards should be elected is not universal and some very large Funds have Boards that only appoint and/or select their members. In my opinion if we are privileged to live in a country which has a pluralist, democratic system then election of those that govern us is a sine qua non. I would not argue that all Trustees should be elected or that those who are chosen by their peers have greater legitimacy than those who have been selected (or those for whom being a Trustee comes with their job). The key to having a successful Trustee Board is to have diversity and openness of discourse. Unlike in the formal business environment from which most Board members come there is far less hierarchy and a far greater need to reach a consensus than in a world in which the buck stops with the man in charge. So whilst elections for positions in businesses would be inconceivable elections to Trustee boards seems at the very least highly desirable. In any enterprise creative tension is healthy and I see no reason why behind the closed doors of a Trustee Board meeting there shouldn’t always be frank and fearless exchanges of views. That is more likely to come if some of the Board members have been chosen by their peers.

Paddy Briggs is a Member Nominated Trustee Director of the Shell Contributory Pension Fund. He writes in a personal capacity and the views he expresses are his own.

© Pensions Age

The Pensioner as stakeholder (2)

Many Companies have embraced the stakeholder society – at least in their public statements and their PR. As BT puts it: “For most companies the three most vital stakeholder groups are Customers, Employees and Shareholders” – most other businesses have something similar in their “Corporate Social Responsibility” statements. Some add “Local communities” to this list and others include “Suppliers” and “Government” - but I have yet to see a Company saying that its Pensioners are stakeholders. Why not?

Pensioners are, of course, former employees but do we surrender our stakeholder status when we retire – or do we just move from being a stakeholder in a company to being a stakeholder in that company’s Pension Fund? And is there more to our connection with our former employer than “just” being a beneficiary of its Pension Fund – do we have rights and responsibilities which go beyond the right to a Pension? As always I am not looking for a lawyers’ answer to this question – no doubt the law would say that once we leave the employ of an organisation we surrender any legal interest in that entity – pensions apart. What I am seeking to define is the nature of what actually is quite a complex post-employment relationship - and perhaps which goes rather deeper than many employers and Pensioners would believe.

A Defined Benefit pension, as defined in its Trust Deed, is deferred salary – essentially part of the compensation package that we enjoyed as an employee. Given this it is at least arguable that in the same way that an employer had a duty of care beyond “just” compensation when we were working they also have similar duties when we stop. An employee with problems or special needs can expect that his employer will take an interest and help. Is there any reason why this should cease on retirement? In my case Shell facilitates and funds a “Pensioners’ Association” which provides support to retired staff and in addition there is a “Shell Pensioners Benevolent Association”, a registered charity, which makes grants to pensioners in need. Finally Shell also provides a team of “Pensioner Liaison Representatives”, pensioners themselves, who call on all Shell pensioners every year and provide help to them when necessary.

If the moral principle is established that a Company has a duty to Pensioners beyond that of ensuring that the Pension Fund is funded properly, and beyond its legal obligations, where should the line be drawn? The Pensioners of any large employer are not a homogenous group – any more than they were all the same when they were employees. In the employment years benefits packages differed widely with high responsibilities and specialised skills generating far higher incomes than was the case for those in the more mundane operational jobs - and for a final salary based DB scheme the effect of this continues into retirement. But in retirement needs differ and for many there is absolutely no real guarantee that received pensions will continue to be sufficient to meet their needs. A Pensioner who retired twenty years ago on a pension for which the final salary driver was modest may find himself in real difficulties today – even allowing for the fact that the State Pension augments his occupational pension. If a mismatch between income offered and employee need had existed in a pensioner’s employment years then one way or another it would have been corrected. A Union or staff association would have pressed for increased remuneration for underpaid employees or the company itself would have realised that it needed to offer more in order to retain/attract staff. But beyond retirement this no longer applies. This is where the concept of Pensioner as stakeholder becomes useful.

The benefits provided by a Company to its stakeholders often go beyond the legal minimum. In the case of the Pensioner as stakeholder it could be argued that the Company has a particular moral duty to ensure that pensioners in need are cared for. This may include the provision of benevolence and practical and social support. But I would argue that the responsibility goes beyond this and that it includes an obligation to correct matters structurally when it can be shown that the cumulative effect of pension rises not keeping up with real pensioner inflation over time has inevitably hit hardest at older pensioners with smaller pensions. In such cases companies may need to do more. For example a one-off Pension Fund contribution by a sponsor specifically to boost the pensions of poorer pensioners, which then creates a new and more satisfactory platform on which future index-based increments will be based, could well be justified in such situations.

Paddy Briggs is a Member Nominated Trustee Director of the Shell Contributory Pension Fund. He writes in a personal capacity and the views he expresses are his own.

© Pensions Age

Why Member communications in DB schemes matters

Why Member communications in DB schemes matters - and how to know if you have achieved your communications objectives

It is something of a cliché to say that we live in a world of communications overload with all of us bombarded daily with a huge variety of messages on an ever increasing number of media. Sometimes, as with social media like Twitter or Facebook, we choose to participate (or not) but even if we remain aloof from these fashionable clubs we still have to wrestle with a superfluity of information, commercial offers and bewildering choices via more traditional channels. Given this media explosion those of us connected with the world of Pension Funds can perhaps reassure ourselves that we are much more modest in our communications activities with Fund members. This is changing with new disclosure regulations coming into force and certainly the world of communications for DC schemes is becoming more complex and challenging. But for DB schemes it is different. The average Pensioner member of a Defined Benefit Pension scheme will perhaps get one formal communication a year from the Fund plus, if he chooses to ask for it, a copy of the Fund’s annual report and other standard material. Actives will also get regular statements which record their individual pension position plus, perhaps, invitations to subscribe to AVCs. In addition some funds have websites and webcasts – mainly for Actives - but that’s about it. Is this sufficient and should DB schemes’ Funds be doing more – and how do they know if their communications are achieving the Fund’s objectives?

One of the core principles of communications can be summarised in the shorthand “Stimulus and Response”. In short every communication that anyone issues requires a response and should be designed to elicit that response. So, for example, an advertisement from a Motor Car manufacturer (the stimulus) will generally be seeking the response from the target group it is aimed at of being put on the short list of possible cars that the purchaser will consider. Responses can also be more passive and subliminal. Corporate Advertising responses are usually measured over time to see if a company’s reputation among its target group members has risen as a result of the advertising. The key word here is “measured” – where communications are required to elicit something other than a purchase (where hard sales data will tell you if you are succeeding) then you have to find a measurement mechanism to tell you if you are being successful.

Most communications with members of DB schemes are not designed to achieve an action response – i.e. the Fund members are not usually required by the Fund to do anything directly as a result of receiving the communication. Funds communicate with their members to inform them and to reassure them – especially to try and demonstrate to them that the Trustees are protecting their interests. There is also, of course, the statutory responsibility that all Funds have to ensure that key data about the Fund, and any material changes that have been made to the Fund, are properly communicated. So how can Trustees know whether their communications are being effective – in other words that the stimulus that the communications represent are achieving the desired response? The absolute necessity here is to measure this and to track it over time. Two research methodologies can help us. Qualitative Research digs deep with members of the target group to identify their behaviour and opinions – one-to-one interviews and focus groups are typical ways of doing this. The respondents are selected randomly from the population but it is common to have different groups for each subset of the population that are of interest – different age groups or genders for Pensioners for example. Qualitative Research gives you a feel for attitudes and opinions but it does not give you statistically significant results. For this you need Quantitative Research in which samples are much larger but which ask less potentially discursive questions. A sample size of around 400 might be typical in a DB scheme which wants to know the effect of communications on its say 20,000 Pensioner members.

So after creating the stimulus we measure the response and the final step is to complete the feedback loop by refining the communication in future. So, for example, if one of the communications objectives is to try and ensure that all Fund members are aware of the “funding ratio” of their fund and why it is important then Quantitative Research will tell you statistically whether you are succeeding and Qualitative Research will help you understand why – and help you improve your communications next time around.

Paddy Briggs is a Member Nominated Trustee Director of the Shell Contributory Pension Fund. He writes in a personal capacity and the views he expresses are his own.

© Pensions Age