Can anyone explain the adjustment you have to make to CFO & CFI when you net borrow for your pension obligation, or when you effectively pay down the obligation? Looking forth logic here. Thanks!
Well… firm deducts contribution as operating cash flow. So if you realized that overfunded. They were able to deduct too much. So CFO needs to adjusted UP (take out an outflow means it goes up) CFI - you are prepaying your pension liability so its similar to paying down a loan or debt so CFI goes DOWN. Now you do not contribute enough to pension. CFO you didn’t put enough if so CFO is overstated so CFO is adjusted DOWN CFI - YOu are borrowing more or increasing your pension liability. So adjust CFI up. Note there is a tax effect too!
CFO: NI+Reported pension expense-Employer contribution CFI: Economic pension expense-employer contribution there is also adjustment to NI: adjusted NI=reported NI+(reported pension expense-conomic pension expense) X (1-T)
I think it depends on economic pension expense and NOT on whether plan is over/under funded. CFAI mentions: If contributions exceed economic pension expense then reduce CFI by the after-tax difference and increase CFO by the same amount. Check p.231 on CFAI book.
Employer contribution - econ pension expense is a CFF Outflow