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Business & Money

Presenting a new management model.

Fortnightly Magazine - November 2005

volatile and unpredictable contributions. In some cases, this volatility creates uncertainty, which then creates a lack of flexibility in decision making.

The same traditional success metrics no longer can be relied on to relieve these new financial and subsequent operational pressures. Traditionally, common success metrics focused solely on the organization's return vs. peers, and return vs. benchmark. Clearly, these important metrics should continue to be evaluated in any model. However, success based on these metrics alone doesn't control the volatility. How can risk be managed when additional metrics, such as impact of contributions on cash flow and impact of pension expense on operating income, aren't aligned with the traditional metrics?

With responsibilities spread across actuaries, consultants, investment managers, board members, and internal executives, a holistic view of the pension plan becomes difficult. Typically, plan sponsors analyze assumption changes by working with an actuary or investment consultant, creating a very fragmented process. It also can take a lot of time to get output back from the actuary, and even then it's still only one view.

Simply put, the traditional model is fragmented, time-consuming, and ineffective. In the end, the only employee held accountable is the CFO. A fundamental re-engineering of the way pensions are managed is required.

The Future of Pension Management

The future model for managing pensions should aim to manage pension-related risk the same way other financial risks are managed. By adopting a pension-management model aimed more at mitigating pension risk, plan sponsors may be able to control volatility, manage rising pension expenses, assign clear accountability, meet corporate strategies and maintain a healthy pension plan that they control. Based on the emerging issues facing plan sponsors in today's pension environment, four critical considerations can help plan sponsors better align pension strategy with corporate strategy throughout a plan's lifecycle.

Managing Volatility

  • Plan volatility can cripple a business if left unchecked. Under the traditional model, plan sponsors are held captive by market fluctuations and inconsistent investment returns. The new approach aligns pension finances with organizational goals, analyzing current and potential market scenarios and the impact these will have on pension plans and financial statements.
  • For example, coordination of asset and liability analyses with a focus on funding requirements will lead a cash-flow focused plan sponsor to an asset allocation decision that supports the sponsor's cash-flow view. While other impacts (e.g., accounting expense) should be considered, the sponsor first should focus on the metrics that are most important, without equal weighting to other metrics. This analysis must be conducted on a modified stochastic basis, allowing the user to perform stress testing and "what if" scenarios-a different approach from the traditional "asset/liability study." By making more informed and strategic financial and pension decisions, organizations benefit from increased predictability.

Outsourcing Pension Management

  • In the traditional model, plan sponsors remain accountable for all aspects of the pension plan, including full fiduciary responsibility for the selection and oversight of every manager, meeting all compliance standards, and timely and accurate administration. However, because responsibilities vary across a number of different providers, accountability is unbalanced.
  • The new approach seeks to