GLOBAL - There is a fundamental flaw in the US pension accounting system identified by Bob Bunicich, an actuary and principal of William M. Mercer in the Netherlands, which can inflate company figures.
The flaw is that if there is a pension surplus (prepaid pension cost), the company is not required to ask itself first whether the entire surplus may flow back to the company and be regarded as an asset of the company.
Bunicich said: “Foreign multinationals listed on the American stock exchanges are also required to comply with the FAS 87 rules. They too can flaunt their superb pension surpluses on their companies' balance sheets, while in their home countries it is difficult or even impossible to allow pension surpluses to flow back to the company.”
He continued: “The second flaw in America's FAS 87 pension system is that certain extraordinary items of expenditure or income may be deferred to the distant future. This allows companies to delay considerably the announcement of good or bad news on the pension front to those who make use of annual reports.”
As of 1 January 2005, listed companies in all the Member States of the European Community must comply with International Accounting Standards (IAS). The IAS for defined benefit pension schemes (IAS 19) is similar to FAS 87 although there are differences in the details.
Both IAS 19 and FAS 87 implicitly assume that the company has ultimate financial responsibility for the costs and benefits of the pension scheme and that any surplus (or deficit) of pension investments over pension liabilities should consequently be reported on the balance sheet of the company.
Bunicich has analysed a group of 13 Dutch multinationals which already report in accordance with FAS and are listed on American stock exchanges.
At year-end 2001, these multinationals had invested a total amount of E117bn worldwide for pensions. The total FAS 87 pension benefit obligations of these multinationals amounted to E112bn at the year-end 2001. At year-end 2001, the total FAS 87 pension surplus of all 13 multinationals was therefore E5bn. This surplus has decreased dramatically in the past two years from E35bn at year-end 1999 because of worldwide stock market falls.
This surplus of E5bn does not actually appear on the collective balance sheets of the multinationals although it can be seen in the pension disclosures. FAS 87 allows smoothing on a defined basis. However, for 2001, a surplus of E7bn was reported on the balance sheets.
Bunicich said: “It is remarkable that the US accounting regulations resulted in a situation where the companies showed increasing surpluses on their balance sheets, with a positive effect on the companies' financial results, while the actual surpluses were plummeting.”
The International Accounting Standards Board (IASB) has recently announced that IAS 19 is to be reviewed. Sir David Tweedie, chairman of the IASB, has stated that he wishes to put an end to smoothing.
Canadian Securities Administrators have proposed for public comment that certain foreign listed companies in Canada be able to use the IASB's standards without reconciliation to Canadian generally accepted accounting principles, beginning in 2005.
Keith Douglas, general manager of the Pension Investment Association of Canada, said pension funds would not be directly affected but the companies in which they invest are affected.
He explained: “Generally, I do not see this as a major issue for pension plans. Money managers, on the other hand will need to understand that the requirements for foreign issuers may not be the same as domestic issuers, and therefore comparability of financial statements may be an issue in investment decision-making.”,
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