An effort to reform retirement

After the financial crisis of 2009, many economists warned of a slow recovery as the dynamics of many markets were significantly impacted by the worst crisis that the world has seen since the Great Depression. Some economies are still battling to come to terms with this as people are living longer and becoming heavily dependent on the state for retirement support.

But this is unsustainable and the retirement fund industry has a role to play in this aspect. A report by PriceWaterhouse Coopers (PWC) points out that because of this, multinationals are closing the door on defined benefit (DB) pensions, where the employer underwrites the costs and risks of providing workers with guaranteed pension incomes, as deficits become unmanageable.

The closing of DB pension arrangements has become a global phenomenon with employers grappling with what to replace it with.

PwC surveyed 114 Fortune 500 global multinationals. Many of which operate within South Africa. Together these companies employ 4.7 million people and have combined pension liabilities of $950 billion. PwC found that only six percent wish to perpetuate DB arrangements.

Nine in ten companies are actively deploying defined contribution (DC) as their predominant workplace retirement provision, with the commensurate transfer in cost and risk from employer to employees.

Tom Winterboer, PwC Leader of Financial Services for Africa, says, "In spite of the best efforts of sponsoring employers, DB pension deficits have remained stubbornly on corporate balance sheets. The size and volatility of these deficits is concerning shareholders and creditors, and is making multinationals more determined than ever to make difficult decisions and reduce the negative impact on their organisation."

He adds that multinationals are resoundingly rejecting the open-ended financial risks of defined benefits.

"As to the future of workplace retirement provision, many employers are still grappling with what to do. There is wide recognition that employers need to innovate to meet the needs of the new world at work."

PwC's survey found that the majority of multinationals (83%) are closing their DB plans to new employees with 71% and are also intending to freeze DB accruals for their existing employees.

This shift towards DC is prompted by the continuing financial strain and volatile impact on companies of supporting DB pension and healthcare obligations.

The PwC report shows that almost 80% of respondents said they have global retirement liabilities that exceed a third of their group's market capitalisation. A significant percentage (88%) of companies are concerned about the risks their global DB obligations pose to their balance sheet, with 83% worried about costs, 76% about impacts on cash flows and 58% about impact to credit rating.

Gert Kapp, PwC Retirement Fund Leader for Africa, points out that the study confirms that across the globe employers no longer have the motivation to perpetuate DB arrangements and there is renewed determination to take action to address the risks that legacy DB obligations pose.

"Employers are grappling with their responsibility for future benefits provision. There is little desire to take on unacceptable risks, so DC are the preferred choice of 9 out of 10 employers. However, at the same time, there is recognition that employers have a role in helping employees to understand what they need to do to save for their retirement, and to provide for the flexibility and access to a range of retirement savings that an increasing diversified workforce demands and appreciates," he says.

However, just because there is a growing disillusionment with the DB approach to retirement, it does not mean that companies are turning their backs on their employees. The research shows that 90% of multinationals still want to play a significant role in the provision of retirement benefits to their employees.

Ninety three percent of companies recognise that providing retirement benefits is important to maintain their reputation as an employer of choice. But only a small number, 15%, of employers feel their current benefits policy is sufficiently effective for the new world of work.

Nanie Rothman, Associate Director in PwC's Actuarial, Risk and Quants Division, says that although employers have no appetite to return to the costs and risks of DB schemes, there is a growing appetite to invest in new paternalism. This is where companies are taking responsibility and are investing in resources to give employees access to appropriate retirement savings arrangements and to help them make more informed decisions about their retirement provision.

"This is in particular relevant in South Africa where it is widely seen that retirement provision is inadequate to sustain pensioners throughout retirement. There is also a recognition that employees need to be given greater flexibility in a world of increasing diversity and unpredictability," adds Rothman.

The results from the report show that South Africa is not very different from the rest of the world when it comes to retirement reform. While there are dynamics which are unique to the South African market, the major driver of the move towards the DC approach is the fact that costs are increasing and retirees are living longer.

Issues of increased participation and cost containment are big issues in the South African market and have been identified by government as objectives which need to be achieved. It will be interesting to see how the international approach to retirement benefits will be adapted to fit in with government's own views on retirement reform.

There is a definite need for the move towards DC to take place in South Africa, and a shift in mind set towards internationally accepted trends can add significant value to the South African market. However, not adapting these trends to resolve our own challenges will complicate the industry as opposed to simplifying it, which goes against government's ambition for retirement reform. Please comment below, interact with us on Twitter at @fanews_online or email me your thoughts [email protected].