S.E.C. Inquires Into Pension Accounting

We all knew it was coming. We all knew that the big corporate giants could and likely were playing games with their pension fund funding obligations to manage earnings. But we couldn't prove it without the power of the subpoena to investigate. In 1995, Congress, along with the accountants (read Arthur Anderson), the underwriters (read Citicorp), the high tech giants (read Seagate, 3Com and Sun Microsystems---who are they?) and the big corporations (read Enron, Worldcom and Disney) took away your power as an individual or member of a class to issue subpoena's to investigate suspected fraudulent activity. The act was called the "Private Securities Litigation Reform Act"----its funny how the word "reform" is used by these guys anytime they want to take your rights away. Well, at last the government is getting around to uncovering the truth we all knew was there----years later, and billions of dollars lost too late. Read this from the New York Times:

The New York Times > Business > S.E.C. Inquires Into Pension Accounting at Ford and G.M.

October 20, 2004
S.E.C. Inquires Into Pension Accounting at Ford and G.M.
By MARY WILLIAMS WALSH and STEPHEN LABATON

The General Motors Corporation and the Ford Motor Company said yesterday that the federal government had asked them to provide information about how they account for their pension funds and retiree medical benefits, suggesting that a new inquiry into an area of accounting that has long troubled both investors and pension-rights advocates will cast a broad net.
The two automakers joined the Delphi Corporation, which disclosed on Monday that the Securities and Exchange Commission had requested similar information. The commission is seeking e-mail messages and other documents that pertain to the actuarial assumptions that the companies have used since the year 2000 to calculate their pension values and other obligations to retirees.
All three companies said they were cooperating with the S.E.C., and said that they thought they had properly accounted for their pension funds and benefits.
An official of the S.E.C. confirmed that the commission had not found any violations of securities law at the companies. He said the commission wanted to examine the records to see if there was any connection between the application of pension accounting standards and effor

The official said the commission was looking at companies where small adjustments in actuarial assumptions could have a significant impact on overall financial performance - a description that would apply particularly to companies, like the automakers, with very large pension funds. The S.E.C. official also said the agency was examining companies that had been making especially aggressive actuarial assumptions.

A spokesman for Northwest Airlines, when asked whether that company had been contacted by the S.E.C., said: "Northwest Airlines will release its financial results on Wednesday. We will address this issue during our analysts' news media call."

Among large American companies with traditional pension plans, Northwest Airlines has been assuming an unusually high return on its pension investments. In 2003, Northwest assumed a 9.5 percent return on average over the long term. The median was 8.64 percent, according to an analysis by the actuarial firm Milliman USA of the 100 largest companies with pension funds.

Even though companies are not allowed to take surplus earnings out of their pension funds, a company that assumes its fund will post big investment returns can report significantly higher earnings, or narrow its losses, because the assumption artificially reduces the reported cost of providing benefits, which bolsters the bottom line.

Because pension funds and retiree medical plans are long-term commitments, actuaries routinely make assumptions about future economic and demographic trends when calculating the value of promised benefits in today's dollars. Some of their assumptions are regulated, but for others, companies and their consultants have considerable latitude.

Even when a company is found to have used an unusual actuarial assumption, it is extremely hard to prove that it did so deliberately to increase earnings or produce some other desired effect.

That was why the S.E.C. had requested e-mail records and other documents, the official said, "to see what's motivating them when they set these assumptions."

Analysts differed on whether the S.E.C. inquiry might ultimately lead to widespread changes in how companies account for their pension funds and retirement benefits.

One debt rating service, Fitch Ratings, issued a report yesterday that suggested that actuarial assumptions in the area of health care costs were unlikely to stand up under regulatory scrutiny because they have not kept pace with the real world. As a result, Fitch said, companies have been understating the size of their health care obligations to retirees for several years.

If regulators require companies to revise their assumptions, Fitch warned, the result would be "higher cost accruals that would directly reduce reported income."

The problem is likely to be most pronounced with automakers, which have promised health care coverage to vast numbers of current workers and retirees.

If General Motors increased its assumption of health care cost inflation to just 10 percent a year - still a low rate compared with the current escalation in costs - its health care obligations to retirees would increase by $10 billion. That, in turn, could depress operating income by about $750 million a year.

But the report noted that relatively large revisions might turn out to be necessary at other companies as well.

Analysts have also noted that pension accounting still presents ample opportunities to manipulate corporate financial results unobserved, despite recent changes requiring companies to provide more detail about their pension funds.

Analysts have long complained that inflated earnings help to keep share prices higher than they might otherwise be, which in turn can raise executive bonuses. At the same time, advocates for retirees say the current standard motivates companies to invest in riskier assets than employees and retirees might want.

In addition to Northwest Airlines, companies using above-average pension investment assumptions include Baxter International, a medical products company, and Freeport McMoRan, a mining and oil exploration company, both of which assumed in 2003 that their pension funds would return an average 10 percent on investments over time.

General Motors and Eastman Kodak have pension-earnings assumptions that at 9 percent seem high relative to the rather conservative asset allocation of their pension funds. A spokesman for Eastman Kodak, Gerard Meuchner, said his company had not been contacted by the S.E.C. He said the earnings assumption was justified by the pension fund's above-average performance.

A spokeswoman for Baxter said that its pension fund works on a fiscal year that ends on Sept. 30, so changes in its actuarial assumptions tend to come later than others.

"Any update we would report in our next public filing," she said, adding that this filing would be made tomorrow. She declined to explain how Baxter arrived at its pension figures and said that the company had not been contacted by the S.E.C.

Jack Ciesielski, publisher of The Analyst's Accounting Observer, said he was not optimistic that S.E.C. interest in pension accounting would lead to broad changes.

Even relatively conservative companies, he said, are following rules that do not reflect financial reality. But while fundamental changes are needed, the issue is so complex, he said, "it ain't going to happen anytime soon." Just about every important regulatory effort dealing with financial reporting, he said, "is just in quicksand.''

Comments

[noname]

Deja vue. For every rule there's a loophole. When the market was bullish, big corporations were making money of pension plans; with the market going sour they have paper losses and upset financial reports.