What you want to know about Pensions

Ok, so I’m going to assume that you already know to Schweser formulae for pensions. The problem is that there are quite a few testable areas simply not covered, or at least, well known. This is an attempt, even if frail, to assist in those matters. _______________________________________ 1. Did you know the difference between Actual and Expected ROA is reported in OCI, Equity? 2. GAAP reports prior period service costs in OCI and amortizes them over the remaining (employee) service life. IFRS expenses fully vested benefits and amortizes unvested benefits according to the corridor approach. 3. The corridor approach is simple. Basically, if your unamortized items are greater than 10% of either the OPENING values of PBO or Fair Value Plan Assets, then you can either amortize the full amount or only that above 10% (who would seriously amortize the full amount?)… 4. Actuarial g&l stem from 2 factors: assumptions used in determining the PBO and difference between actual and expected ROA. Long term, this should approach zero. Short term, it’s due to market fluctuation. ECONOMIC PENSION EXPENSE (and adjustments) 1. This is what you should do as an analyst. The economic pension expense (think economic income vs accounting income) can be calculated in two ways. One, subtract the change in Funded Status from Contributions. Two, take the change in the PBO, addback Benefits Paid, and subtract Actual ROA. 2. CF Statement adjustments. If economic pension expense is GREATER than funded status (which is Fair Value of Plan Assets - PBO), then treat this as BORROWING. Reduce CFO and increase CFF by the after tax amount. If vice versa, treat this as PRINCIPAL PAYDOWNS and increase CFO and reduce CFF by the after tax amount. 3. Income Statement adjustments. Back out all pension expense components. (Remember, GAAP presents this as a net amount, and IFRS can either do that or itemize) Addback interest costs to interest expense. Addback current service costs to SG&A. Addback ACTUAL ROA to nonoperating income (note this is not expected ROA here folks as it is in pension expense). Disregard the amortized items. 4. Balance Sheet adjustments. Change the pension asset/liability reported to reflect Funded Status. Say you have a $500 reported pension ASSET, but its funded status is $300. Change it to $300. Let’s say the tax rate is 40%. The difference of $200 will be split into Tax Deferred Liabilities of $80 and OCI (Equity) of $120. Balance sheet should balance. A LITTLE NOTE ABOUT PENSION ASSET ON BALANCE SHEET REPORTING HERE IFRS and GAAP are different. We all know that GAAP simply reports the funded status on the balance sheet. But, did you know that the unrecognized transition liabilities, prior service costs, and actuarial losses are all added up (yes, treated as assets, odd, I know) and placed in OCI (Equity)? Also, we all know the IFRS equation to report pension asset on the BS. But, did you know that IFRS requires you to report the LOWER of that figure or the sum of: PV future refunds + unrecognized actuarial loss + unrecognized prior service costs? The difference is disclosed in the footnotes, and if the latter option is chosen, will be the transition liability.