As DB scheme closures continue apace, Matt Ritchie seeks out the rare cases where new schemes are entering the market

Good news can be hard to come by in the defined benefit space. We frequently hear that the schemes will soon be a fond memory, as funding pressures, longevity and regulations conspire to bring an end to the once ubiquitous form of benefit provision. But some employers, whether by necessity or more rarely by choice, are starting new DB schemes.

The notion the DB scheme is on its last legs is supported by the figures. If one considers the survival of DB provision a desirable thing, the National Association of Pension Funds’ most recent annual survey makes for a sombre read.

The survey found 23 per cent of the association’s members’ schemes were closed to both new staff and contributions from existing members. This was up from 17 per cent in 2010, and just 3 per cent in 2008.

However, while in a very slim minority, some new DB schemes are joining the fray.
DLA Piper partner Matthew Swynnerton has worked on establishing a few new schemes recently, particularly in the energy sector. These new schemes have typically been established as a result of business transactions, with two distinct kinds of deal.

The oil and gas industry is renowned for the paternalistic nature of the employer/employee relationship, with relatively generous remuneration and benefits packages the norm as compensation for the demanding and often dangerous work. Pensions form a component of that, and Swynnerton says a requirement to ensure employees continue to enjoy these benefits will often be written into sale and purchase agreements for transactions.

“That used to be a very common requirement on asset acquisitions, but over the last decade as the funding issues in relation to DB schemes have become more severe, that trend has all but completely stopped in traditional private sector deals. It’s now relatively unusual to see contractual requirements for certain levels of benefit to be provided,” he says.

Public sector transfers and electricity and railways industry deals can also result in the establishment of new DB schemes. Employees of utilities that were formally owned by the state can have their benefits protected by legislation such as the Electricity Pension Regulations 1990.

The regulations provide for certain staff in the electricity industry to be covered as ‘protected persons’, and stipulate that these staff cannot have the terms of their future benefits varied. Significantly, this continues to be the case when a protected employee moves within the industry.

Merger and acquisition activity is not the only catalyst for establishment of new schemes. Some companies are looking to the initiatives as a way to sweeten remuneration packages. Shepherd + Wedderburn partner Louisa Knox has witnessed this in action.

“Some employers are still looking at ways of remunerating high earners,” she says. “They may not set up a traditional DB scheme for a myriad of employees but they would try and target certain employees depending on their salary range and offer DB equivalent benefits for them. So they would create targeted contractual arrangements.”

Business restructurings can also give rise to the establishment of new DB vehicles, providing the opportunity for the various sponsors engaged in multi-employer schemes to arrive at a more equitable distribution of liabilities. The natural development of business interests over time can lead to inconsistencies in the distribution of pension liabilities, so it can make sense to carve schemes up into new DB arrangements in which these burdens are distributed more appropriately.

“It can be done so the covenant sitting behind the scheme is not weakened as a result of doing it, but it actually makes more sense because liabilities are properly tagged to the employers who are participating,” Knox says.

Challenges
Swynnerton says time pressure can be demanding when it comes to putting in place new DB arrangements. Drafting trust deeds, scheme and benefit design and practicalities such as appointing trustee boards are all factors that may not lend themselves to swift execution.

Whilst some receiving employers will be relatively indifferent to the pension obligations they take on as part of the transaction, Knox says others will be seeking to rid themselves of the risk of DB provision in short order.

“It’s such a big risk for a business and that’s why these things are not being done daily. It’s more ‘we have to do it’ as opposed to ‘we’d love to do it, it’s fantastic, let’s jump on that bandwagon’. For many employers it’s more of a reluctant recognition that they have to do it, as opposed to a desperate desire.”

As a result some schemes will offer the defined benefit promise for a limited period. This adds a layer of complexity in determining what sort of provision should be in place at the conclusion of the DB arrangement, whether that means a move from final salary to career average benefits, or moving to defined contribution.

Naturally, any paring back of benefits is likely to be met with resistance. This is especially true in sectors with strong union representation.

“You’ve got a situation where once you’re back into the DB arena after you’ve set up a new scheme, negotiations with employees are starting from the standpoint of: ‘if you’re moving away from this we need to see compensation’,” Knox says.

Further, dealing with the regulatory minefield of DB provision poses problems of its own.

“The number of different policies and governance documents that schemes are required to have has increased,” Swynnerton says. “That’s fine for all the DB schemes that have been around for a long time and have been able to address those and put in place those policies incrementally, but for a new scheme now going through all of those issues within a relatively short time frame is quite challenging.”

It is not all hardship, however. Knox says that starting afresh on a brand new scheme provides the opportunity to set out clear documentation, avoiding the anachronisms and complexity that can exist where schemes have had to adapt to changing circumstances over time.

“You’ve got one set of documents as opposed to so many schemes, even in this day and age, that have a myriad of amendments and complexities over all the various increases and the way things have been equalised in the past. So, there’s an advantage to having a lovely fresh scheme to start with,” she says.

A third way
Whilst schemes are certainly being created, they are vastly outnumbered by those that are closing. Defined contribution looks set to rule the roost as auto-enrolment pulls millions of newcomers into pension saving for the first time.

A third form of pension provision has recently been generating debate though, after Pensions Minister Steve Webb announced his desire to create a more favourable environment for risk-sharing vehicles, so-called ‘defined ambition’ schemes.

In theory, more even sharing of the risk of retirement saving between members and employers is entirely possible, though NAPF senior policy adviser workplace pensions James Walsh says member feedback has been that the current regulatory landscape has made such schemes unpalatable.

“One of the problems is if you’ve got any sort of risk sharing scheme with a balance of DB and DC in it you still get hit with full DB regulations, and that’s a big barrier to setting up these sorts of risk sharing schemes.”

Accordingly, Webb’s recent comments around defined ambition schemes have been welcomed, and the NAPF is taking a close interest in the initiative.

“It’s encouraging that the minister is thinking along these lines, we support the direction of his argument and it will be very interesting to see if the government can carry this one through,” Walsh says. “It’s not about establishing new DB schemes, by definition they would be risk sharing. But it is one way of setting up new schemes for new members where they get some of the benefits of DB, some degree of certainty.”

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