With the credit and economic turmoil of 2008 and 2009 now well behind us and the flurry of merger and acquisition (M&A) activity at the tail end of 2010, pension and benefits plans continue to get a lot of attention in the press and corporate boardrooms. Why? Simple. There are big dollars and risks involved.

Disposing of a pension plan and its liabilities in the sale of a business or acquiring a new pension plan in an acquisition or merger can have a big impact on a company’s bottom line. Not only are there big dollars and risks involved with the plan, but any changes to the pension promise to employees can have a huge effect on their morale—and their productivity.

On the other hand, as with all the other dimensions involved, M&As present a great catalyst to change or update the pension program.

Upfront diligence
When a pension plan is taken on through M&A activity, many organizations have the best of intentions for harmonizing their pensions (and other benefits) between different groups of employees down the road. Many never quite get around to it, though, and find that at the end of that road they have a huge problem. Add in a few more acquisitions, and a company is faced with not only a number of disparate employee groups but also an overwhelming pension harmonization project.

The most common questions in an M&A are what are we required to do, what are our options and what risks are we taking on? Those questions need to be addressed with respect to the pension plan, but too often they’re not given their fair share of attention. Yet a merger that acquires a pension plan would be far less risky if organizations addressed the following questions during the due diligence stage:

  • What will the cash impact be?
  • What will the impact be on profit and loss?
  • What are the ongoing costs to run this plan?
  • What about pension governance and any legal risks?
  • When do we want our pension programs to be harmonized for all employees?
  • How much will harmonization cost?
  • How much will harmonization save in future years?
  • How will employee morale be affected by all of this now versus down the road?
  • Will the challenge be bigger or smaller if we wait?

From the pension spend and budget approval standpoint, it’s a lot easier to factor the costs of harmonizing the company pension program into the cost of the M&A upfront. Realistically, that cost will pale in comparison to the overall costs involved in the acquisition, and that has to be an easier sell than going to look for approval to fit the costs of a plan redesign, pension plan merger or windup into the annual budget at a later date.

This is not to suggest that dealing with an acquired pension plan is simple or easy when it is dealt with at the beginning. In many situations, there just isn’t enough time available to deal adequately with pension matters. But delaying these issues until after the dust settles often makes things harder than they need to be. Dealing successfully with a pension plan in an M&A depends on many factors—with, in most cases, no clear-cut rules to follow. The most important factors are the transfer of the plan assets, the legislative requirements and plan member communication (too often given short shrift).

Plan sponsor considerations to ensure due diligence

  • plan document—current and past
  • plan amendments
  • correspondence with regulators
  • employee booklets
  • pension statement
  • trust agreements
  • insurance contracts
  • funding agreements
  • collective agreements
  • administrative procedure documents
  • administration forms
  • compliance with pension and tax authorities
  • actuarial valuation report
  • cost certificates
  • financial statement
  • investment policy
  • investment manager report
  • legal opinions on contribution
  • holidays, charging expenses to the plan and surplus ownership
  • unapproved partial windups
  • historical fluctuations in plan membership
  • pending asset transfers/mergers
  • DB to DC conversions

Prominent points for an M&A

  • Understand the different needs of all audiences.
  • Help plan members make informed decisions.
  • Establish the right key messages.
  • Give members the right communication tools.

Going forward
The simplest scenario in an M&A transaction involving a pension plan is the purchase of shares. When all the purchaser is doing is acquiring the shares of the company, the pension plan continues to be sponsored by the original company. The purchaser simply accepts all of the plan’s liabilities and obligations.

However, things get trickier when the purchaser takes on some or all of the assets and employees of the acquired company, or if the two companies merge to form a single new entity. Pension assets are not automatically assigned to the new company—giving the merging companies greater flexibility in deciding what to do with the plan. Instead, the purchaser will be involved in costly and time-consuming consultations with its actuaries and lawyers as well as regulatory and administrative requirements that have to be fulfilled. And in unionized workplaces, collective agreements further complicate matters, as the new company will almost always be expected to continue the plan or compensate the members with something similar. Likewise, employment agreements will dictate what types of the benefits need to be continued post-acquisition.

Many plan sponsors fantasize about being able to merge an acquired DB pension plan into their own DB plan and then move forward with a consolidated and consistent approach to their employees’ retirement needs. In Ontario, the reality can actually be of nightmarish proportions.

Plan mergers (read asset transfers) in Ontario are a no-man’s land of legalities, heartache and legal fees. Even if the Ontario regulator approved a plan-to-plan merger, plan sponsors would probably still be faced with having to protect both prior accrued benefits and any surplus assets derived under historical plan provisions for eternity.

This begs the obvious question: what options are more practical under an M&A scenario to deal with a DB pension issue, and how do plan sponsors communicate these issues to affected employees?

Given the complexity of pension plan mergers, buyers have three practical options:

Say no to the pension plan whenever possible – If given the option to set up your own pension plan or to offer benefits from an existing company pension plan, the best option is almost always to start fresh and say “no thanks” to acquiring the existing plan.

Continue an acquired pension plan as is – Given the complications of trying to merge two pension plans, you can always choose to operate multiple pension plans. The implications are higher pension operating costs and governance, risk management and compliance responsibilities, but the alternative is worse.

Freeze and settle an acquired existing pension plan – In the spirit of harmonizing the pension benefits between all employees and having a single pension plan, an option might be to freeze the existing plan and settle those benefits via group annuities with a life insurance company. Future accruals can then be provided under a revised benefit structure.

If the benefit levels within the existing pension plan do not satisfy employment agreements, then you might identify the new group as a separate class and offer those benefits at the level needed to satisfy pre-existing employment conditions, or you might make up the difference with base pay. Given that plan members with a portion of their benefits in one pension plan and the remainder in another may not get the same benefits if they had simply stayed in the one pension plan, you might consider offering a wraparound benefit to make them whole.

The point is to start fresh whenever possible and get the terms and conditions around contribution holidays, surplus ownership, rights to change the plan and the like set up the way your company wants to operate.

Other considerations
Much of the focus in an M&A rests with the buyer, but the seller should be aware of a few things, too. For example, if a group of acquired employees participated in the seller’s DB plan and are not offered at least a DC plan for future service, that could trigger a partial windup of the seller’s pension plan. If the buyer does establish a DB or DC plan for the acquired group of employees, then the buyer and seller need to communicate long into the future, as the seller will be required to process a termination benefit for an acquired employee when either that employee terminates participation in the successor pension plan or the buyer discontinues its pension plan.

Employee communication – Any type of change is difficult for most people, and being part of an acquisition or merger can be especially stressful. The uncertainty of whether you will even have a job six to 12 months in the future is stressful enough without having to learn a new culture and establish new relationships with those at the new company. The most important tool to manage employee anxiety and uncertainty and offer a smooth transition is a well thought-out communication plan.

Know your audience – When it comes to communicating change, one size does not fit all. The messages and the tools you use must be tailored to your audience to ensure understanding, acceptance and, eventually, engagement. While a “change blog” or a Web page will work well for some head office employees, it may not make sense for employees who are on the road. Spending the time and effort doing a thorough stakeholder analysis will give you a deep understanding of what your employees are most anxious about and their preferred method of communication (print, face to face), and may uncover other issues that could pose a risk to the change. In the end, the analysis will allow you to be targeted and impactful, driving employee understanding and acceptance of the change.

Though plan sponsors may face a tough road to change or update their pension programs after M&A activity, the hard work, communication and due diligence will pay off.

Kevin M. Sorhaitz is a principal and consulting actuary and David McCullagh is the national practice leader, communications, with Buck Consultants.

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Copyright © 2020 Transcontinental Media G.P. This article first appeared in Benefits Canada.

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