That’s the conclusion of a new Towers Perrin analysis, which examined anticipated accounting rule changes for pensions and other post-retirement benefits expected to be released in March by the Financial Accounting Standards Board (FASB) (See FASB Pushes On With Pension Accounting Standards Rewrite ).
A Towers Perrin news release said that, after tax adjustments (assuming a 35% tax rate), the FASB’s planned changes would have shaved shareholders’ equity by $180 billion for the 78 Fortune 100 companies that sponsor defined benefit plans, representing a 9.3% cutback in their total shareholders’ equity.
The Towers Perrin study also analyzed how the planned accounting changes might introduce greater volatility in the balance sheet and income statements of retirement plan sponsors, according to the announcement. The analysis showed that for the 78 Fortune 100 companies studied:
- Each additional 10% return (or loss) on assets as of year-end 2004 would have changed shareholders’ equity by $56 billion for these companies, representing nearly a 3% change in shareholders’ equity for the group.
- A 10% change in retirement plan obligations as of year-end 2004 (as might occur if discount rates were changed by a half to three-quarters of a percent) would have changed shareholders’ equity for these 78 companies by a total of $77 billion, representing 4% of the total shareholders’ equity of the group.
- An additional 10% return (or loss) on assets, if recognized on the income statement, would have changed 2004 pretax income by 19% for the group.
- A 10% change in retirement plan obligations, if recognized on the income statement, would have changed 2004 pretax income by 26% for the group.
A Differing Impact
The Towers Perrin analysis found that the impact of the FASB’s expected changes in retirement plan accounting will vary widely from company to company. For some companies, the impact will be dramatic. For example, for one out of 10 companies studied, recognizing a 10% increase in retirement plan obligations as cost would have turned 2004 pretax income into a loss. Similarly, recognizing a 10% reduction in these obligations on the income statement would have more than doubled the companies’ 2004 pretax income.
“As our analysis shows, these accounting changes are certain to have a dramatic impact on many companies’ financial statements in the years ahead. Phase I is likely to result in significant reductions in shareholders’ equity and Phase II seems certain to introduce added earnings volatility,” said Bill Gulliver, principal and chief actuary for Towers Perrin’s HR Services business, in the announcement “However, it is uncertain exactly how the market will react because most of the information expected to find its way onto the balance sheet is already disclosed in financial statement footnotes. Consequently, many analysts are already using that information to adjust the balance sheet today.”
Phase I of the FASB pension reporting project, which is expected to affect most companies’ year-end 2006 financial reporting, focuses on cleaning up the balance sheet, the study said. Phase II, which will take longer to complete, involves a comprehensive reexamination of all aspects of accounting for pensions and other post-retirement benefits.
Among the most significant changes expected in Phase II is a move toward mark-to-market accounting for retirement plans, with a requirement that a comprehensive income statement more rapidly report the effects of changes in the fair value of plan assets and liabilities from year to year, the Towers Perrin analysts said.