Here’s a simple idea

The FT has noted a report this morning that suggests:

Britain’s biggest companies paid their shareholders five times more than they spent tackling their pension deficits last year, according to a new analysis that is set to reignite the debate over dividend payouts.

As pension shortfalls rise to new highs, research published on Tuesday showed that FTSE 100 companies with “defined benefit” schemes, which offer a guaranteed income in retirement, paid £71bn in dividends last year compared with £13.3bn in pension contributions.

So here’s a simple idea for Labour leadership candidates: why not suggest a straightforward change to the law that says no company is allowed to pay dividends whilst running a pension deficit?

Pensions are deferred pay. So, how about a law stating that no company can offer a pay rise while running a pensions deficit? That puts the pensions where they should be, with the pay…..

48 thoughts on “Here’s a simple idea”

  1. Wouldn’t companies then just change the pension schemes to make them even shitter? I know the company (UK company) I work for seem to change the deal every five years or so anyway, because they have incompetents running it I assume. When I joined it was a wonderful non contributional final salary scheme but now that’s all gone.

  2. So here’s a simple idea for Labour leadership candidates: why not suggest a straightforward change to the law that says no company is allowed to pay dividends whilst running a pension deficit?

    Hold up.

    A UK PLC is struggling to keep the pension scheme topped up. Okay.

    Companies use investment to grow, make more money and make staff more productive. Right?

    Selling shares is a way of getting investment. Capitalism and all that.

    People buy shares to make money, like from dividends.

    Pension providers buy some shares too, right, ‘cos of the dividends?

    So Ritchie suggests discouraging investment. How’s that gonna help?

  3. Interesting to speculate what this would do to those companies caught by it. Most probably accelerate the closure of all such schemes – not that there are too many left.

  4. Yeah, let’s make those big shareholders cover the pensions defects! Oh… that would be the pension funds then.

  5. Bloke in North Dorset

    “Ritchie suggests discouraging investment. How’s that gonna help?”

    Give him more justification for: all his xQE proposals, his national investment bank, forcing pensions to invest in green bonds, a national people’s democratic bank run by the likes of Paul Flower, raising taxes for infrastructure investment, nationalising utilities and railways…..

    I’m sure I’ve missed loads of his batshit ideas tha others could add, but I’m sure you get the gist.

  6. Yeah, let’s make those big shareholders cover the pensions defects! Oh… that would be the pension funds then.

    Indeed, especially those which pay decent dividends.

  7. Whichever business self help guru coined the phrase ‘There’s no such thing as a bad idea’ which I sometimes here quoted in offsite meetings obviously had never envisaged someone as prolifically idiotic as Murphy. In fairness to the North Koreans I am not sure I would even wish for them to have to endure his stupidity – surely a Dark web campaign can get him abducted and dispatched to Raqqa to star in a video?

  8. Why stop at companies ? How about the UK government stop paying interest on their debt until they can prove that the old age pension is fully funded on a DCF basis for every man, woman child in the UK ?

  9. Worzel,

    You don’t understand. It’s different when the government does it. Because the state needs to be Courageous!

    Companies can’t possibly be Courageous, although ones who aren’t miserably and utterly timid can demonstrate this by signing up to the Fair Tax Mark. How few are signed up, shows how non-Courageous companies are.

  10. Pensions are deferred pay? Eh?
    Dividends are paid on profits aren’t they? If the company is running a pension defecit, surely profit would be used to offset that?

    Either I’m woefully ignorant on this subject or I’ve just agreed with Richie. If it’s the latter, I need a shower.

  11. Good point from Bucko. If pension obligations are deferred pay then should not they be expensed before profits are calculated? I’ve only done accounting 101 so I’m pretty clueless on it; don’t want to be accused of dunning Kruger here! 🙂

  12. Are the people who are trustees of the pension fund doing their job? If there’s a shortfall coming up would they not increase the payments the fund needs?
    Oh wait there might be people objecting to that… who want to keep their money.

  13. Hi Bucko

    Pensions are definitely deferred pay, which is why we don’t get taxed on them until we actually get the pay at retirement.

    That we don’t get taxed on them before the money goes into the pension fund is a good way of encouraging people to save now.

    It helps to get around “hyperbolic discounting”, which is a quirk of human nature where we care more about soon, and less about much later, than we really ought to.

    On the point of principle about profit (or dividends) offsetting the pension fund shortfall, I think it would be counterproductive in practice by discouraging capitalist investment in the company that needs to fix it.

  14. Aren’t employer pension contributions business running costs, so a negative effect on profits? So the more you put into the pension the less your profits, the smaller the pot to divvy up and pay out to shareholders and dividends? It’s like passing a law saying you can’t take any milk out of an empty milk bottle.

  15. If the company is running a pension defecit, surely profit would be used to offset that?

    Technically, the pension fund and the company are not the same organisation.

    And that should be encouraged – so it is only the Maxwells of this world who go digging in the fund itself. Also, it’s why the pension fund shouldn’t be a heavy investor in the stock of the company itself.

    Cynic – possibly. But my laptop is made of fairly solid metal so fist typing doesn’t enthuse me.

  16. As a note – our corporate scheme uses NEST and makes the minimum legal contributions.

    We also then have a second contribution scheme to the employees private pension or similar approved arrangement (including after deducting tax in to an ISA.)

  17. Would anyone care to educate me on this? I’ve a feeling I am being a bit too cynical here:

    So interest rates are low, QE has reduced the yield on gilts, pension funds are struggling to make money.

    I’m wondering how much of that is laziness and a lack of skill on the part of the folks running the funds.

    Gilts are easy, right? Low risk, low return, but any numpty can buy bonds from a stable government with a history of behaving and expect them to pay out.

    Now that the returns on easy stuff are especially low, aren’t these guys meant to really earn their pay by going out there and finding investments with decent yield?

    I know we’d all be pissed off if they arsed up and lost our money, but again, isn’t that where the skill comes in?

    Genuine question.

  18. @ Bucko
    Profits can be distributed or reinvested. If the company invests more money than it makes in after-tax profit then it has to borrow the difference (unless it has been sitting on a pile of cash). Banks generally charge a higher rate of interest on loans than the pension earns on its investments. So if you want to make (or havev just made) a big investment it doesn’t make sense to throw money at a pension scheme defiicit which has been magicked up by a reduction in the expected rate of return on investments.

  19. Dividends are paid on profits aren’t they?

    You’d think so. But some companies, not naming any names, are so terrified of the collapse in the share price that reducing the dividend would bring about that they are borrowing money from the bank to keep paying it.

  20. Defined benefit pensions are fatally flawed because of the time delay between promising a given level of pension benefit and delivering on said benefit. The very structure of the defined benefit pension incentivizes overpromising to a point that technocratic tinkering can’t fix.

  21. Dividends are paid from cashflows, not from profits. Profits are (at any given time) a pure accounting construct (although over time profits and cashflow will converge)

  22. Ah yes, like those geniuses at Marconi did.

    And Enron ?required? (at least, heavily strong-armed) their employees to invest their 801k accounts in Enron stock.

    I mistyped there and got “stuck”. Which is pretty much what they were.

  23. So, state pensions are not funded. State pension is paid out of current receipts – either tax or borrowing.
    Pension deficits are based on actuarial valuations. Only impact on company accounts is if the company makes a payment into the fund. What they have actually done is close the funds. Pretty much the only final salary schemes now are public sector.
    Dividends are paid from profits. Borrowing has bugger all to do with profits.

  24. Cynic… I think you’ll find that pension trustees’ options are restricted, they are obliged to buy a certain amount of gilts. The option to invest in riskier assets is always up for discussion but probably requires a change of regs and a certain amount of protection for trustees making wrong calls. I remember having a drink with a couple of Enron guys after it folded… they were both carrying.

  25. I’m confused.

    A comapny will report (and account for) the accumulated pension deficit on its balance sheet. An example:

    Operating assets 100; actuarial deficit in the pension scheme -50, net S/H funds 50.

    One can only pay dividends from the S/H funds of 50. One can’t pay dividends if there are accumulated P&L losses (for example if brought about by accounting for a pension deficit).

    Job done? What’s Ritchie talking about?

  26. The report says:

    “Of the 56 FTSE 100 companies that had a funding shortfall in their pension scheme at the end of last year, 29 paid out more in dividends than the value of the deficit. “

    So it’s a plan that would have affected 29 companies, including BT, Shell, and BA, the sort of companies that pension funds rely on for dividend income to fund defined contribution schemes. So, by trying to ensure that defined benefit schemes are solvent, you erode the plans that most employees now are enrolled in – defined contribution plans. The other problem with reducing the deficits in defined benefit schemes is that, thanks to Carney, the deficits just keep on growing. If you dive down to the FTSE350:

    “Across Britain’s 350 biggest companies, the collective pension deficit is estimated at a huge £406 billion”

    If gilt yields are lower than 1.32%, which nis currently what 30 year stock is yielding at the moment, a company is never going to be able to fund its pension scheme. I wonder if anyone has done a calculation to work out how low for how long yields have to be to force all defined benefit schemes to close down?

  27. @Bernie G

    Makes sense; however, I just found an article from the FT that indicates they have been buying more gilts than required.

    I must confess I am being harsh here because the one time I had to deal professionally with someone who managed pensions, that individual made a complete arse of themselves.

    I kinda figure if you are really good at what you do, it earns you some latitude. Perform worse than shoving the money under the mattress, you owe the world some humility.

  28. SE – I would imagine that all private sector defined benefit schemes have been closed to new entrants for quite a long time now and most will have changed from “final salary” to “career average” at some point in the 2000s – eg BT did in 2009 for future service. However, since those relic defined benefit schemes include BT and BA, that is still quite a problem. BT, for example, still has 69,000 ex-employees who have yet to start drawing pensions. They have a model that shows how much they expect to be paying out right up till 2076. The idea of forcing a company with this sort of problem (I imagine that BA is in the same sort of situation) not to pay dividends until any funding deficit is covered in the short-term is not really a great idea. The knock-on effects to defined benefit schemes would be salutary. And in any case, the choice of assumptions when determining the deficit becomes another football, when you are talking about timescales such as those. A difference in yields of 2% compounded over 50 nyears is huge.

  29. Dividends are paid from profits. Borrowing has bugger all to do with profits.


    Large international oil companies are facing disagreements among their shareholders over whether they should maintain their dividend payments in the face of the plunge in crude prices.

    Companies such as Royal Dutch Shell and Chevron insist that they will keep their dividends unchanged, even though they are failing to cover payments from cash flows.

    One large shareholder in the oil majors said: “Outside of Exxon, I don’t think any upstream company should pay a dividend and I don’t think any European major is in a position to pay a dividend in the next two or three.”

    The investor added: “Companies are borrowing money to pay a dividend while they are not investing enough to maintain production and that is not a sustainable model.

  30. Does the UK still have that stupid tax that is charged for paying into pension schemes when they are in surplus? If it does then this would be fun for actuaries – how to get the scheme into exact balance throughout every stage of every economic cycle so that the company can pay dividends but not have to pay further tax.

  31. Cynic,

    Giving you a proper answer will probably take too much space for here. But basically pension fund managers are not out there just trying to uncover something that yields more.

    Managing assets is about managing to a reward objective AND a risk objective. And these objectives need to be consistent, over time.

    Anyone can find an asset that promises to yield more. But at a certain point the incremental risk paid for the incremental return gained stops making sense. You might want to google modern portfolio theory and the efficient frontier for some related theoretical background.

    Defined Benefit pensions are particularly special because the risk is measured relative to the future liabilities of the fund, which themselves can be modelled as a kind of long-term bond you have to pay out on.

    This means that delivering an acceptable return outcome with a high degree of confidence can be more desirable for a client than having the potential to deliver a surplus return outcome with a risk it could fall short of things go wrong.

    Long term gilts can be very useful in this perspective. Because they behave quite similarly to those long-term liabilities of the DB pension plan.

    To get a bit more specific to this topic, google asset-liability matching for pension funds.

    Furthermore, the return from a bond is not only defined by the yield, unless you are determined to hold it to maturity and it never defaults. The longer-term a bond is, the more it benefits from interest rates declining subsequently. And really long-term bonds tend to be issued by governments, so if you want to bet big on falling rates you get steered in that direction too.

    Rambling a bit, but I hope some of this is of interest.

  32. So the proposal is to force 29 big companies to collectively chuck billions at their pension schemes all at once… instead of bridging the deficits over time like literally every competent financial advisor would recommend to any person investing to fund a long-term liability.

    Or, alternatively, the companies can retain their cash and either pursue investment ideas that they would otherwise consider less appropriate than paying dividends, or they can leave it in the bank earning fuck all doing as little good as possible.

  33. @Oblong

    Thanks, very much appreciated. I’ve taken a copy of that to go through at my leisure.

    Looking forward to understanding it.

  34. They have enough reserves to make dividends possible. Arguably no cash to pay them.

    So a company with assets but no cash can still pay dividends? I’d have thought perhaps they ought not to.

  35. @ James in NZ
    IIRC it’s not a tax on paying into a pension scheme when it is insurplus but forfeiture of the tax concessions if the surplus is more than 10% – actually far more expensive.
    So almost all the “contribution holidays” that the selectively ignorant lefties blame for the deficits were the result of HMRC rules.

  36. @Tim Newman

    The point is that it is indeed UK law that dividends need balance sheet distributable reserves – accumulated profits. A situation might arise where cash has been used to, say, buy a building That would not affect accumulated profits but would deplete cash and so it might then be necessary to borrow cash to pay a dividend whilst waiting for the next slug of cash-flow profits to hit the bank account. It could have been done the other way round (cash used on the dividend and then borrowing to buy the building). If not a building bought then a debtor slow to pay a debt. Or a pre-payment of a creditor.

    But it is the distributable reserves that govern whether a dividend can lawfully be paid.

  37. Tim N, sort of, yes, but. Generally not wise tho’, and very much ought not to. There’s hard limits in company law and the listing requirements, and softer limits in what investors will put up with.

    Can’t quite remember the actual legislation (been at least 10 years) but ordinary dividends can’t be paid if net assets fall below share capital (or if the payment would cause net assets to fall below etc etc).

    That said, the Directors will have to be very confident indeed that the cash will be on hand (from whatever source) for the payment date, at the accounting date, which means that the transactions must be bookable in the relevant accounting period. There’s also some circumstances where a dividend can be approved by shareholders via special resolution.

    Certainly the market (investors) tended to have a dim view of companies that borrow/flog assets in order to maintain dividends, or get antsy if dividend cover fell below ( I think) 2x. Unless it’s been announced that the firm is being run down. But, in that case, the dividends should be declared as special instead of ordinary. Also, shareholders have voted against the Directors’ recommended dividend in the past.

    Note : I’ll be at least 10 years out of date on this, and was focused on closed end investment companies, and UK s.842 investment trusts are at a disadvantage for providing yield anyway.

  38. Surely the whole premise of the article is potentially rubbish. For example, you could have 10 companies: 1 to 9 have no pension deficit and return a combined £5bn dividends to shareholders. Company 10 is in deep trouble with no profits, no dividends and puts £500m into their pension deficit. The headline would be “companies return 10 times more to shareholders than they spent on the deficit”, but it would be completely fine.

    Aggregated numbers mean nothing in this case

  39. But it is the distributable reserves that govern whether a dividend can lawfully be paid.

    Ah, sorry! When I read “reserves” in the context of an oil company, I think of something completely different. Hence my response to accounting 101.

  40. @ DuckyMcDuckface
    Yes, you are a bit out-of-date because the 2x cover reflected the difference between accounting profits and real profits in an inflationary environment. Lots of people assumed that you needed half your reported after-tax profits just to fund the increase in working capital (wildly wrong: it varied from zilch to umpteen times reported profits).
    With inflation down to a couple of % per annum, that is less of a problem

  41. To be honest, I couldn’t remember what the cover number was, and don’t remember ever learning why that particular number. Thanks.

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