Company Focus
40 companies sitting on pension time
bombs
United Airlines' struggles
have put a new focus on a pension guaranty system that is near
collapse. Reform could take a huge chunk out of the bottom line on
big offenders.
By Michael
Brush, MSN
Thanks to robust
stock returns since the lows of mid-2002, a serious problem weighing
on many companies has simply vanished from public debate: Their
massively underfunded pension plans.
Over the past two
years, pension portfolios inside companies have risen sharply along
with the market, sweeping under the rug concerns about looming
retirement-plan shortfalls.
But severe turbulence in the
airline sector may soon change all that, moving the menace of
bankrupt pension plans squarely back into the spotlight.
If
so, many of your stock holdings could be at risk as companies are
forced to shore up pension plans. Wefll get to potential problem
companies in a moment, and the best ways to spot them. But first, a
little background on whatfs brewing.
The domino effect
To find the culprit
that could bring things to a head near term, look no further than
bankrupt UAL Corp. (UALAQ,
news,
msgs),
the parent of United Airlines. As part of its recent flight into
bankruptcy, the troubled airline decided to hoard cash by
gtemporarilyh suspending contributions to its pension
plans.
But herefs the rub. Many corporate-debt analysts --
like those at CreditSights, an independent credit research group --
think the move looks like the first step in a scenario that will see
United Airlines walk away from its pension obligations altogether at
some point. United Airlines suggested as much in court filings last
week.
United Airlines workers wonft spend their golden years
in the poorhouse if this happens. They would still get most, if not
all, of their pensions -- because those pensions are guaranteed by
our countryfs Pension Benefit Guaranty Corp. (PBGC). Thatfs a
government body funded by premiums from companies that operate
defined-benefit pension plans. (As a quick refresher:
Defined-benefit plans are the ones where workers get a pension based
on how long they worked for a company and how much they got paid.
These workers donft make direct contributions, unlike people in
defined-contribution plans, such as 401(k) plans.)
However,
if United Airlines bails on its pension obligations and leaves the
PBGC to clean up the mess, that could set off a chain reaction at
other airlines -- most likely Delta Air Lines (DAL,
news,
msgs)
and US Airways Group (UAIR,
news,
msgs),
for starters. They, too, would plead that they need to bail from
their pension obligations to stay competitive, says Glenn Reynolds,
chief executive of CreditSights, gbecause they will have an inherent
cost-structure disadvantage.h
The
link to your stock portfolio
But how could the mess hit
stocks in your portfolio that have nothing to do with the airline
industry? To find the nexus, look no further than the PBGC itself --
and the heap of problems it faces.
Thanks in part to a sharp
decline in the number of defined-benefits plans (from 112,000 in the
mid-1980s to just over 31,000 today), the PBGC now collects much
less in premiums. Thatfs one reason itfs at risk of bankruptcy
itself -- or rather, of the need to go to the government for a
taxpayer bailout if it hits the wall, which looks more and more
likely.
Look at the bill PBGC would get stuck with if United
Airlines bailed on its pension obligations. The airline has
contributed just $50 million in premiums to PBGC. But PBGC says it
would be saddled with claims worth $6.4 billion. This kind of
mismatch provides a powerful incentive for companies like United
Airlines to walk away from their pension obligations. Itfs a good
deal -- for them, at least.
Even before United Airlines went
into bankruptcy, problems were mounting at PBGC. It had an $11.2
billion deficit at the end of 2003. Now, itfs potentially exposed to
bills for as much as $85 billion from possible pension-plan
terminations -- about $23 billion from the airline sector alone. In
total, private defined-benefit plans had a massive $400 billion gap
between assets and liabilities as of the end of 2003, suggesting
bigger headaches down the road. gPBGC is basically going to go
bankrupt if you look at it from a purely actuarial basis, because it
canft handle the influx of bankrupt pension plans,h says Roger King,
a senior analyst at CreditSights.
Before that begins to play
out, you can bet PBGC will make lots of noise in Washington, D.C. It
will try to get politicians to do something to crack down on
companies that threaten to take down the whole system because they
are too far behind in funding their pension plans. The PBGC insures
the pensions of 44 million workers and retirees, so a lot of votes
and potential political pressure hang in the balance if it goes on a
campaign to paint a dire picture.
gRight now, PBGC doesnft
tend to go out and pound the table a lot,h says Reynolds. gBut if
they get activist, there could be hell to pay for some of these
companies out there. If Congress takes steps to make sure the gaps
are filled, it could affect any of the most exposed companies
because they will be asked to accelerate their payments to their
pension funds.h
Already PBGC executive director Bradley Belt
is laying the groundwork for reform. In a recent speech, he called
for changes that would toughen rules and raise premiums for
companies that are at high risk of running into trouble with their
pension plans. That could lower profits, and maybe stock
prices.
Who will get
hit?
To be sure, the government gave deadbeat companies a
reprieve of sorts in April. Thatfs when Congress agreed to increase
the interest rate used to discount future pension obligations back
to the present. That makes them look smaller, right now -- even if
it doesnft reduce the bill further down the road.
gSo now,
when you are determining your funding requirement, your pension plan
is going to look healthier,h says David Zion, an accounting expert
with Credit Suisse First Boston. gI viewed it as a bit of a
gift.h
Zion estimates that pension-plan contributions by
S&P 500 ($INX)
companies will drop to $21 billion in 2004, from $39 billion in 2003
because of the gift alone. Even so, he thinks 32 companies in the
S&P 500 will be required to contribute more than $200 million to
their pension plans in 2004 or in 2005.
Outside of the
airline group, predicts Zion, some of the biggest amounts will be
forked over next year by Ford Motor (F,
news,
msgs),
$1.3 billion; Exxon Mobil (XOM,
news,
msgs),
$1 billion; Hewlett-Packard (HPQ,
news,
msgs),
$472 million; ChevronTexaco (CVX,
news,
msgs),
$450 million; and Altria Group (MO,
news,
msgs),
$392 million.
But things could get worse if airlines run from
their pension obligations and threaten to put PBGC on the path to
bankruptcy, setting off a crackdown on deadbeat corporations by
Washington, D.C.
Are investors worried? Sean Reidy,
co-manager of the Olstein Financial Alert Fund (OFALX),
says his fund group backs out unfunded pension obligations when
valuing companies as standard practice. gBut we are probably a lot
more conservative than most people.h
Zachary Shannon, an
analyst with Camelback Research Alliance, which tracks
earnings-quality issues and unfunded pension burdens for clients,
agrees that investors seem a lot less concerned about pension issues
than they were a year or two ago. gWe think it is still really
relevant though,h he says.
How to
spot trouble
For a simple way to spot companies most
likely to run into trouble, investors should look for at least two
types of weaknesses, according to experts such as Zion and Shannon:
- Companies that have the biggest proportion of unfunded
pension obligations compared to market capitalization.
Unfunded pension obligations at Delta Air Lines, for example, are
8.7 times the size of its market cap. (Another way is to compare
the obligations to net assets.)
- Companies that get the biggest chunk of their net income
(excluding unusual items) from assumed returns on their
pension investments. Oddly, companies are allowed to include
returns on pension investments in their net income -- even though
they owe the money to retirees, and those returns are based on
assumed rates of return of 8% to 12% that are far bigger than real
market returns in many years. gIncome from pension plans should be
backed out to get a real net income number,h says Shannon. Over
the past three years, for example, the portion of net income that
came from pension gains was four times regular income at TRW
Automotive (TRW,
news,
msgs).
We
asked Shannon to screen for the top 20 offenders in both categories.
The results are in the tables below.
| The 20 most underfunded
pension plans |
| Company |
Market cap |
Underfunded amount
at 12/31/03
|
Ratio of amount
underfunded to
market cap |
| Delta Air
Lines (DAL,
news,
msgs)
|
645 million |
5.65 billion |
8.77 |
| Northwest
Airlines (NWAC,
news,
msgs)
|
746 million |
3.74 billion |
5.03 |
| AMR Corp. (AMR,
news,
msgs) |
1.35 billion |
2.66 billion |
1.97 |
| Continental
Airlines (CAL,
news,
msgs) |
595 million |
1.07 billion |
1.81 |
| AK Steel
Holding (AKS,
news,
msgs) |
721 million |
1.18 billion |
1.65 |
| Goodyear Tire &
Rubber (GT,
news,
msgs) |
1.92 billion |
2.75 billion |
1.44 |
| W.R. Grace (GRA,
news,
msgs) |
381 million |
361 million |
0.95 |
| Delphi (DPH,
news,
msgs) |
5.3 billion |
3.97 billion |
0.75 |
| Visteon (VC,
news,
msgs) |
1.3 billion |
870 million |
0.65 |
| McDermott
International (MDR,
news,
msgs) |
708 million |
410 million |
0.58 |
| Alaska Air
Group (ALK,
news,
msgs) |
558 million |
311 million |
0.56 |
| British
Airways (BAB,
news,
msgs) |
4.54 billion |
2.4 billion |
0.53 |
| Crompton (CK,
news,
msgs) |
684 million |
337 million |
0.49 |
| Ispat
International (IST,
news,
msgs) |
2.17 billion |
965 million |
0.44 |
| Vitro (VTO,
news,
msgs) |
292 million |
127 million |
0.44 |
| Ford Motor (F,
news,
msgs) |
26.9 billion |
11.68 billion |
0.43 |
| ArvinMeritor (ARM,
news,
msgs) |
1.37 billion |
561 million |
0.41 |
| Navistar
International (NAV,
news,
msgs) |
2.5 billion |
994 million |
0.40 |
| Standard
Register (SR,
news,
msgs) |
313 million |
123 million |
0.39 |
| Olin (OLN,
news,
msgs) |
1.2 billion |
457 million |
0.38 | | Source: Camelback Research Alliance
| 20 companies with largest
percentage of income from assumed returns on pension
funds |
| Company |
Market cap |
Income from pension
plan in
last 3 yrs* |
Income before items
in last 3
yrs** |
Improvement to net
income from
pension
income in last 3 yrs *** |
| TRW
Automotive (TRW,
news,
msgs) |
2.05 billion |
261 million |
58 million |
449% |
| MeadWestvaco (MWV,
news,
msgs) |
6.01 billion |
186 million |
83 million |
223% |
| Glatfelter (GLT,
news,
msgs) |
584 million |
57 million |
58 million |
99% |
| Longview
Fibre (LFB,
news,
msgs) |
659 million |
29 million |
35 million |
83% |
| Duquesne
Light (DQE,
news,
msgs) |
1.45 billion |
26 million |
-33 million |
76% |
| CTS Corp. (CTS,
news,
msgs) |
414 million |
28 million |
-51 million |
55% |
| Tredegar (TG,
news,
msgs) |
633 million |
17 million |
34 million |
51% |
| Unisys (UIS,
news,
msgs) |
3.42 billion |
218 million |
432 million |
51% |
| Prudential
Financial (PRU,
news,
msgs) |
24.7 billion |
664 million |
1.39 billion |
48% |
| Hecla Mining (HL,
news,
msgs) |
639 million |
3 million |
-6 million |
44% |
| Xcel Energy (XEL,
news,
msgs) |
6.83 billion |
150 million |
-367 million |
41% |
| Potlatch (PCH,
news,
msgs) |
1.18 billion |
29 million |
-77 million |
38% |
| Tecumseh
Products (TECUA,
news,
msgs) |
755 million |
36 million |
97 million |
37% |
| Pactiv (PTV,
news,
msgs) |
3.54 billion |
186 million |
580 million |
32% |
| Northeast Utilities
System (NU,
news,
msgs) |
2.39 billion |
169 million |
558 million |
30% |
| Kerr-McGee (KMG,
news,
msgs) |
7.89 billion |
43 million |
149 million |
29% |
| A.O. Smith (AOS,
news,
msgs) |
844 million |
32 million |
118 million |
27% |
| Vector Group (VGR,
news,
msgs) |
617 million |
7 million |
-26 million |
26% |
| GenCorp (GY,
news,
msgs) |
523 million |
47 million |
180 million |
26% |
| Samsonite (SAMC,
news,
msgs) |
281 million |
7 million |
-28 million |
25% | | Source: Camelback Research Alliance
*Reported
pension income minus assumed corporate tax rate of 35%
**Income
excluding unusual items
***For companies reporting losses, the
loss would be lower by this percentage, without pension
income
|
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At the time of
publication, Michael Brush did not own or control shares in any
equities mentioned in this column.
Quotes supplied by ComStock, Inc. and
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