20-6 Pension overfunding

20-6 Pension overfunding - Joy of Overfunding Companies...

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Joy of Overfunding: Companies reap a Gain off Fat Pension Plans Source: Wall Street Journal, 15 June 1999 Shareholders of General Electric Co. were pleased to see it turn in another banner year in 1998, with strong contributions to earnings from many different parts of the company. That includes one part they might not have thought of: its pension plan. Of GE's 1998 pretax profit of $13.8 billion, its pen- sion plan provided more than $1 billion. Pension plans as a boon to the bottom line? Those same pension plans that used to be a financial burden for many companies, and were so often underfunded? Yes, and not just at GE but at many other big Ameri- can companies, too. Chalk up one more minor miracle for the amazing 1990s bull market. Like many pension plans, GE's has grown fat as the stock market in which it is heavily invested has rolled on. It is overfunded, far in surplus. GE couldn't with- draw this surplus without paying a stiff excise tax, enacted in 1990 to put a stop to the pension raids of the 1980s. But thanks to an accounting rule that is little known to either shareholders or analysts, and that was writ- ten for a very different era, there is a way to gain from the pension surplus. The rule provides that if investment returns on pension assets exceed the pen- sion plans' current costs, a company can report the excess as a credit on its income statement. Voila: higher earnings. It's happening at a lot of companies, and the amounts are substantial. Bell Atlantic Corp.'s pension plan produced a $627 million pretax credit for the com- pany's 1998 income statement. GTE Corp. reaped a $473 million pretax credit. Caterpillar Inc. scored a $183 million credit. At Northrop Grumman Corp., 40% of first-quarter pretax profit was attributable to the overfunding of the pension plan. USX-US Steel Group would have reported a first-quarter loss except for its overfunded pensions. One might think that for employees, the overfunding of plans would be good news; there would be at least a chance that the company would improve their bene- fits. But in fact, the incentives for companies are quite different. If a small pension surplus is a boon to the bottom line, a bigger surplus is an even bigger boon. And one way to make the surplus bigger is to reduce benefits. Indeed, while no company ever cites profits as a rea- son for a pension switch, many companies with over- funded pension plans are changing their plans, fre- quently with the result that future benefits become less generous. Next month, for instance, International Business Machines Corp. will convert its overfunded pension plan to a variety that will provide lesser benefits for many older workers -- and that will ren- der the plan even more overfunded. "It's important to know that we're not making this
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This note was uploaded on 05/03/2010 for the course ACCT 202 taught by Professor Yang during the Spring '10 term at UPenn.

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20-6 Pension overfunding - Joy of Overfunding Companies...

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