Study Session 5 tells us that we should consider the effect of the pension plan’s asset structure ( equity and fixed income portion) in calculating the WACC. They state that we should not use the balance sheet assets& liabilities. My question is wouldn’t the pension plan assets and liabilities be on the balance sheet as well?
The pension plan assets are netted against the Projected Benefit Obligation (PBO)according to GAAP. Because of this netting process the balance sheet doesn’t give you the full picture of the company.
oh forgot about that seems that l2 stuff is getting rusty Thanks for the help mwvt9
Sure!
mwvt9 Wrote: ------------------------------------------------------- > The pension plan assets are netted against the > Projected Benefit Obligation (PBO)according to > GAAP. > > Because of this netting process the balance sheet > doesn’t give you the full picture of the company. Exactly. Another point they make is that in real life often the assets of the pension plan can be as large or larger than the market capitalization of the firm, so the assets held in that plan can make a significant impact on the “full picture”.
Good point Dwight.
I feel that risk arising from management of pension plan assets is a different from the risk reflected in WACC which is necessarily the risk associated with the subject company itself. For eg - Equity & debt on balance sheet are LIABILITIES from the company’s perspective where as pension fund assets (equity and fixed income both) are ASSETS for the company. I am not too convinced with the asset beta approach of incorporating the risk of pension fund assets. (Whatever is presented in curriculum looks fairly logical but there are some open ends like the one described above) Any comments on the same?
dhruva.phegade Wrote: ------------------------------------------------------- > I feel that risk arising from management of > pension plan assets is a different from the risk > reflected in WACC which is necessarily the risk > associated with the subject company itself. > > For eg - Equity & debt on balance sheet are > LIABILITIES from the company’s perspective where > as pension fund assets (equity and fixed income > both) are ASSETS for the company. > > I am not too convinced with the asset beta > approach of incorporating the risk of pension fund > assets. > > (Whatever is presented in curriculum looks fairly > logical but there are some open ends like the one > described above) > > Any comments on the same? I think it comes down to why financial statements are prepared in the first place. One of the big reasons is that investors can get a picuture of the company and decide whether they want to give capital to them. From the investors standpoint, an underfunded pension is very important as future profits from the firm must go to fund it if investment results can’t make up the difference.
I agree with your point but I am not convinced with the way this risk in incorporated. A better methodology needs to be there that can address the additional risk of underfunded pension funds.
Well, if you want to get theoretical about it I would hold off until after June 6. : ) Learn the CFAI way now and give em hell later!
dhruva.phegade Wrote: ------------------------------------------------------- > I agree with your point but I am not convinced > with the way this risk in incorporated. > A better methodology needs to be there that can > address the additional risk of underfunded pension > funds. I agree with you, but let have this discussion on June 7, because I do not have time to wate. I am just trying to pass for now. Accept it or leave it 
ok guys… lets keep the focus on passing for now