LONDON – Hewitt Associates, a global human resources consulting and outsourcing company, has said that FTSE 100 companies are in danger of sleepwalking into reporting an unnecessary £26 billion in pension liabilities in their accounts.

UK 'Longevity Gap'
The additional amount relates to the differing assumptions used by companies and trustees in predicting the life expectancy of the members of UK's largest defined benefit pension funds.  On average, FTSE 100 companies currently assume a life expectancy for a 60 year old male of around 86 years in their annual accounts. By contrast, trustees of the same schemes are predicting life expectancy of around 88 years.

Hewitt is warning UK companies against simply adopting trustees' longevity assumptions as they have done in the past, as scheme funding and accounting rules require companies and trustees to take different approaches to predicting longevity. While companies are required to report a 'best estimate' for their financial accounts (see note 1 below), trustees are required to use a 'prudent' approach for the purposes of scheme funding valuations (see note 2 below).

The differences between the two sets of assumptions highlights the challenges that schemes and sponsors face when predicting life expectancy, and the impact this can have on a company's financial health.

Martin Bird, head of Longevity Solutions at Hewitt Associates said:

"The life expectancy of scheme members is one of the most critical risks currently facing companies with defined benefit pension schemes, particularly as people are living longer. Not only does it impact scheme valuations significantly and, therefore, the amount the sponsor is required to contribute to the scheme, but it also has a direct impact on the company's accounts.

"In the current environment it is vital that companies do not sleepwalk into a potentially costly and inappropriate set of assumptions by simply following the trustees, as they have done in the past. Companies need to take an independent look at their longevity assumptions to avoid adding in layers of inadvertent costs."

Calculations by Hewitt show that for every year that member life expectancy increases, scheme liabilities rise by between three and four percent. Therefore, if FTSE 100 companies just adopt assumptions in line with trustees, as they have done historically, it would add a further £26 billion to their collective liabilities.

Record Pension Deficits
The news comes at a time when the FTSE 100 is facing its largest ever collective deficit of £75 billion (see note 3 below) and when many of the UK's largest companies are trying to manage and reduce their pension scheme risk.

Matt Wilmington global risk management specialist at Hewitt Associates said:

"Longevity is climbing up the risk agenda as companies and trustees have started to realise the potentially massive implications of a longer life in retirement. It now rates in the top three pension risk concerns of trustees alongside equity volatility and interest rate risk. As companies start to realise the implications of increased life expectancy on their financial health, they are working with trustees to identify means of managing – or entirely removing – this risk." 

Earlier this year Babcock International completed the first ever longevity swap when it secured a deal for fixed payments for a finite term to a third party, in exchange for the actual value of pensions due to members - regardless of how long the members and their dependents live.  Hewitt believes the longevity swap market will see a minimum of six deals over the next year, with a total value of over £5 billion.

While historic methods of assessing longevity risk have relied on very basic demographic data, Hewitt believes that approaches are becoming more sophisticated, with the UK's leading pension schemes implementing a much more bespoke approach to predicting life expectancy.

Martin Bird said:

"In the past, many companies and schemes typically relied on a small number of factors, such as age and sex, to predict longevity and companies simply adopted the same assumptions as the trustees for their annual accounts. Techniques for setting assumptions have now become much more sophisticated, relying on a myriad of health, wealth and lifestyle data which has enabled a greater understanding of a scheme's underlying liabilities."

Notes to editors:

1. The rules under which companies are required to report pension schemes in their accounts are set out in IAS 19 and FAS 87. 
2. The rules that UK trustees must adhere to in relation to scheme specific funding valuations are set out in Part 3 (Scheme Funding) of the Pensions Act 2004.
3. As at 7 September 2009, based on Hewitt Associates' Pension Risk Tracker tool which provides a daily value of the total pension surplus / deficit for FTSE 100, 250, 350 companies, in addition to the S&P 500 and DJ Euro Stoxx 50. It can be found at: ttps://rfmtools.hewitt.com/PensionRiskTracker/.
4. All calculations regarding assumptions are based on the latest data submitted by companies and trustees at 31 December 2008.
5. For further reading, Hewitt has produced a Longevity Risk Management briefing paper. To request a copy, please contact Helen Essex – Helen.essex@capitalmsl.com.
6. In a theoretical example, a UK company defined benefit pension scheme has liabilities of £1billion and assets of £750million, leaving the scheme with an overall deficit of £250million. If the company were to increase its longevity assumptions by two years per member, they could expect their liabilities to grow to £1.1 billion – and the deficit to £350 million, i.e. a 40 percent increase.
7. Companies typically assume life expectancy for a 60 year old male of around 86 years in their annual accounts. In contrast, trustees of the same schemes are predicting life expectancy of around 88 years in the scheme valuations.

About Hewitt Associates
Hewitt Associates (NYSE: HEW) provides leading organisations around the world with expert human resources consulting and outsourcing solutions to help them anticipate and solve their most complex benefits, talent, and related financial challenges. Hewitt works with companies to design, implement, communicate, and administer a wide range of human resources, retirement, investment management, health care, compensation, and talent management strategies. With a history of exceptional client service since 1940, Hewitt has offices in more than 30 countries and employs approximately 23,000 associates who are helping make the world a better place to work. For more information, please visit www.hewitt.com.

Other Contacts
Anna Mitchell, Capital MS&L, on 020 7307 5346 or anna.mitchell@capitalmsl.com
Helen Essex, Capital MS&L, on 020 7307 5343 or helen.essex@capitalmsl.com