There are increasing calls to review the process for regulated apportionment arrangements, which are still rare. Stephanie Baxter explores the rationale for a more flexible framework.
Regulated apportionment arrangements (RAAs), which allow a company to split from a pension scheme to avoid insolvency, are extremely rare. Only 29 deals have ever been approved by The Pensions Regulator (TPR) since it first began to exercise this power in 2009, and just three have been agreed since 2015.
However, following recent high profile RAAs, such as that reached for the £13bn British Steel Pension Scheme (BSPS) during the summer, there has been speculation they could become more commonplace when there are high concerns about the financial health of some sponsoring employers. Also, that perhaps it is time to assess whether the framework is still suitable or if it is too restrictive.
Has anything changed?
Dalriada Trustees representative Richard Favier, who previously led the PPF's insolvency and restructuring unit until 2013, says the approach to RAAs has not changed one iota.
"TPR and the PPF would resist anyone who tried to pull a fast one. If anything, the message coming out from TPR is they're getting a bit more proactive and harder. Everyone is getting excited and thinking they can get rid of difficult issues and pass them onto the PPF, but the reality is that nothing has changed."
RAAs only apply where the sponsor is likely to become insolvent in the next 12 months and the trustees, employer, the regulator, and the PPF all agree that a better outcome can be reached by splitting the scheme from the employer before insolvency occurs. The company and trustee have to agree all the required principles are likely to be satisfied, and then there is a very stringent process to convince TPR and PPF.
Slaughter & May pensions and employment group partner Charles Cameron, whose firm advised Tata Steel on BSPS, quashes hopes that RAAs could become more commonplace.
"Because BSPS is so high profile, maybe more people think of it as an option, but I don't think this will make an RAA any easier for anyone else. TPR is extremely diligent at policing its requirements, and it won't agree to one unless you satisfy all its principles. My sense is TPR and PPF don't like to waste their time, and they won't put in resources until the parties passed the first hurdle of showing they've got a case."
RAAs are rare and restrictive for a very good reason - to avoid companies trying to shirk their pension liabilities.
Under a pure RAA, the members are in exactly the same position as if the company had gone bust, except for the deals agreed for Kodak, Halcrow and BSPS that involved setting up a second scheme. The RAA is about preserving the company's business and its employment, and not sacrificing the business for the sake of the pension fund without benefiting members.
"With BSPS, TPR and the PPF would have come to the conclusion that without a deal, BSPS would have gone bust, and the levy-payers would have footed the bill," says Favier.
"TPR is supposed to ensure members will get full benefits - while also looking after the interests of the levy-payers - and if can't get that then it's got to be the next best thing. But they must avoid taking schemes off companies and placing that burden on other schemes through the levy and letting people off."
While TPR still maintains these deals are rare, clearly the more employers that get into a muddle, the more applications there are likely to be.
As Favier says: "The only thing that would result in more RAAs is if there was an increase in the number of companies getting into a financial muddle because of their pension schemes, and therefore the question arises ‘do you let them go bust or try to save them and get more money for the PPF?'"
Yet, there is a new energy to look at the RAA provisions to see if there are ways to refine them to open them up to deserving cases, which would likely require legislative changes.
There is controversy over the requirement for insolvency to occur within the next 12 months, which the previous Work and Pensions Committee said should be amended.
Then, the government's DB green paper in February said one option could be widening the RAA criteria so it is available to more sponsors, observing that "waiting until the 12 months rule is met may in some cases be too late to rescue value", but acknowledged it "raises many fundamental issues."
Cardano UK chief executive officer Kerrin Rosenberg thinks the 12-month rule is too arbitrary. "You can't even think about scenario A unless the pension fund faces imminent and certain death. It's a bit like taking a very ill patient to the hospital and the doctor says ‘we're not convinced you really will die in the next 12 months, so come back when you really are terminal'. That seems restrictive to me."
Although the scheme is not at risk right now, it likely will be at some point in the near future, which is very unsatisfactory for the members.
"For many, many years BSPS was an obvious stressed candidate; perhaps the BSPS discussion should have happened five years ago and there could have been more options on the table and more freedom for flexibility," he adds.
"There are large schemes now in the same boat; do we wait or try to pre-empt something? It's not just about being fair to smaller funds; it's also about being a bit more proactive to the larger funds which are really in a difficult place and try to deal with the problem in advance, which hopefully gives more freedom and flexibility."
The case for flexibility
Penfida founding partner Paul Jameson agrees, saying the rules are "somewhat convoluted and inflexible", and the circumstances where RAAs can be used are "very restrictive" and should be broadened to deal with a larger number of the difficult cases that remain.
There is a lot to be learned from the world of corporate administration and restructuring, he argues.
"We already have a system in the corporate sector where failures can be recognised, and best efforts can be made to mitigate those circumstances in the best interests of creditors. We could adapt it to deal with a range of situations in the pensions sector.
"There should be a framework to allow a stressed situation to be alleviated, at least temporarily, so schemes aren't forced to take unreasonable risks, while allowing sponsors to trade their way out of the immediate problem."
It also may not be necessary in all situations to fully separate the sponsor from the scheme.
Jameson explains: "It doesn't necessarily mean letting sponsors off the hook with a full separation from the scheme; it may be about creating some breathing space to promote a recovery but against a very high hurdle where no status quo alternative exists."
It could also be a better outcome for members if the new scheme offered slightly lower benefits than the original scheme but not as low as PPF levels. However, only three known schemes have achieved that through the RAA process: Kodak, Halcrow and BSPS.
The problem is that when one part of the system is relaxed, this can have consequences for other parts.
Cameron says: "If you relaxed the RAA requirements so ‘zombie' schemes could go into the PPF, depending on what the price was for that relaxation, companies would jump at the chance. I'm sure the PPF would not like the requirements to be relaxed unless it was paid for it, otherwise they would be potentially inheriting a bunch of underfunded schemes that would increase everyone's levy."
The other concern is healthy companies rushing to the door to dump liabilities which they can still afford.
However, Rosenberg says there would be some objective criteria to measure the amount of stress before a scheme potentially qualifies, and points out it is difficult to put a precise number on potential insolvency anyway.
"If you had slightly more rules and parameters, but with regulatory oversight, it could be a much smoother and cheaper process. The regulator should still have some final say or veto power."
There still has to be a high bar that insolvency is inevitable and RAAs should be restricted to schemes where the arrangement is it would end up in the PPF, according to Capital Cranfield client director Christopher Clayton.
However, beyond RAAs, the industry, TPR and government could be more imaginative about potential solutions that give an outcome other than going into the PPF.
"I would encourage government, the regulator and PPF to think about solutions that may be slightly more flexible, perhaps called something other than RAA, where members' benefits would be better than would get under the PPF and therefore the employer would have to put in enough money to achieve that," he says.
"There may be flexibilities around members benefit and scheme design. For example, the Hoover outcome is just PPF benefits while BSPS gets PPF-plus benefits. I would have two different processes for those two different outcomes."
There is rationale for assessing the RAA framework at a time when a number of schemes are running more risk than their sponsor's covenant would justify, if it can deliver a better solution for all parties than by later falling into the PPF. The 12-month insolvency requirement could be reviewed, but any changes must be considered with extremely high caution.
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