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American Pension Fund Fiasco
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American Pension Fund Fiasco

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The presentation talks about the American Pension Fund Fiasco

The presentation talks about the American Pension Fund Fiasco

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  • Defined Benefit: defined monthly benefit to retirees Defined Contribution: defined contribution from the employer but not the benefit
  • Studebaker terminated its employee pension plan. First casualty , when company faced economic crisis Increased outflow from pension funds due to increased longevity and decreasing fertility .
  • $7.7 bn surplus in 2001 to a record $3.6 bn deficit in 2002 and $11.2 bn deficit in 2003 $85 bn deficits was with financially unstable firms
  • Demography:pensioners more than the workers & unfavourable workers to retirees $7.7 bn surplus in 2001 to a record $3.6 bn deficit in 2002 and $11.2 bn deficit in 2003 $85 bn deficits was with financially unstable firms. Companies were allowed to count the income of their pension funds as part of their profits , used arbitrarily high rates of return to boost their bottom lines, investing in equities rather than in bonds Fund for the pension was decided upon the discount rate & Companies lacked to fund their pension schemes adequately.

American Pension Fund Fiasco Presentation Transcript

  • 1. Presented By: Dilip Alavane 2009 E02 Dhiraj Surana 2009E12 Manish Bharti 2009E14
  • 2. American Pension Fund Background
    • Resides on 2 major pillars;
    • Public system: Mandatory contributions from workers are transferred to retirees
    • Private system: Voluntary contributions are accumulated
      • Defined Benefit : defined monthly benefit to retirees
      • Defined Contribution: defined contribution from the employer but not the benefit
  • 3. Rise of PBGC
    • Defined Benefit Pension Plan : To protect the benefits for workers whose employers sponsors the pension plans.
    • The company Piccadly Cafeterias was being dissolved in bankruptcy and its plan covered 6800 employees and retirees
    • Studebaker terminated its employee pension plan.
    • First casualty , when company faced economic crisis
    • Increased outflow from pension funds due to increased longevity and decreasing fertility .
  • 4. The Perils of Retirement
  • 5. Failure of PBGC
    • Falling stock market and lower discount rate
    • Increasing number of retirees
    • Demography
      • Airlines and Steel companies have hit the PBGC particularly hard .
      • Demography: pensioners more than the workers & unfavorable workers to retirees
    • Foreign Competition
    • Accounting rules
      • Income of pension funds as part of their profits.
    • At the end of 2003 PBGC had a deficit of $11.2 bn , the agency paid $2.5 bn and collected only $ 973 mn as premiums.
    • Fund for the pension was decided upon the discount rate & Companies lacked to fund their pension schemes adequately.
  • 6. Rectification of Failure
    • The above failures can be rectified by
    • 1. Used higher interest rate to discount future liabilities which resulted firms to contribute less to their plan and pay less. Instead the discount rate should be based on Government Bonds.
    • 2. PBGC – premium should not be based on company’s credit rating.
    • 3. Premium should be an entirely independent entity than the company’s investments
  • 7. 401(K)
    • Defined Contribution (DC) plan that allowed the employee to make pre-tax contributions to the plan; which was later invested into one or more funds provided in the plan.
  • 8. Failure of 401(K)
    • 70% to 80% funds of 401(K) pension plan was invested in the stock market .
    • The decline in the first quarter of 2001 in stock market evaporated all of the gains
  • 9. Companies conquering the pension crisis
    • 1. Pouring in more than legal minimum in late 2003 to wipe out the deficits.
    • Eg: GM, 3G,Honeywell,Continental Airlines, Delphi.
      • GM : raised about $18 bn by issuing bonds and sold Hughes Electronics subsidiary to fulfill the pension shortfall which surpassed $25 bn.
      • Delphi sold $400 mn of trust-preferred security to raise money .
    • 2. Offering bonus rather than pay raise to lessen their future pension liabilities which are based on salaries
  • 10.
    • 3. Companies on tight budgets liquidated there non cash assets to pump up their pension funds.
      • US Steel putting the timber rights to 170,000 into its funds.
      • North-West Airlines put in 13.3 mn shares of stock in a subsidiary airline
    • 4. Companies were permitted to close their pension plans for new employees
  • 11. Conclusion
    • Investment in stock market should not be the only investment option. importance should be given on “Diversification of Portfolio”
    • Follow the basic accounting principle of “conservatism” while deciding and calculating the discount rate.
    • The pension shouldn’t be of only DB category ,but should also focus and concentrate on DC