Just weeks after COVID-19 first took hold, many DB pension funds suffered reduced asset prices, potentially increased liabilities, and severely weakened sponsors.
Central to many scheme challenges was the impact of the pandemic on the employer covenant - and trustees who had robust employer covenant monitoring protocols in place were better able to respond than others who needed to ‘catch up’ and quickly take stock of the rapidly-unfolding series of events around them.
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We were able to mobilise rapidly – helping clients get sighted on developments at sponsors; the potential impacts on schemes; and think through funding and protective mechanisms to support schemes and sponsors through high degrees of uncertainty and, in a number of cases, financial stress.
Once the pandemic gained momentum, scheme trustees and sponsors rapidly needed to take stock and develop – or execute – contingency plans. The Pensions Regulator (TPR) was quick to issue, and to update, helpful guidance.
We found that the impact of COVID-19 on sponsors and schemes strongly depended on sectors – with some experiencing limited impact; and others – notably hospitality and transportation – needing to respond rapidly to a massive downshift in activity.
While a number of sponsors considered requesting deferrals of scheme contributions to help create liquidity headroom, we understand, anecdotally, that the number of deferral arrangements actually agreed, by total percentage of schemes, was quite modest.
Scheme trustees did, however, place particular emphasis on seeking to mitigate any ‘covenant leakage’ from dividends, asset sales or increased lender security. At the same time, they also sought to ensure that schemes were treated equitably compared to other stakeholders, such as lenders.
From a funding perspective, two key features which have emerged – and which may be enduring for some time included:
We remain involved in advising on a range of creative funding structures that seek to reconcile sponsor financial uncertainty with the need to fund schemes appropriately. These may be supported by contingent assets and other contractual protective mechanisms to protect schemes’ interests whilst facilitating the recovery of sponsors’ covenants
Trustees are actively ensuring that they put in place information protocols and monitoring arrangements to keep on top of sponsor financial and commercial developments.
In February 2021, the Pension Schemes Act received royal assent.
This legislation introduced a number of new provisions relevant to DB scheme funding generally, but also specifically relevant to restructurings - including enhanced corporate action notification provisions and regulatory powers.
The legislation also introduced both new and substantial fines, including the potential for criminal sanction, for certain types of behaviour in relation to pension schemes. These measures are yet to be tested, but they are broad-ranging and may be applied to third party stakeholders, including lenders.
'Endgame' options
We continue to monitor developments in the pension scheme ‘consolidator’ market.
We perceive that schemes and sponsors will ultimately have a range of funding and ‘endgame’ solutions to choose from. A key differentiator will be whether arrangements allow for sponsor separation or not.
We anticipate that the increasing range of market options, coupled with relevant provisions in the Pension Schemes Act around funding and investment strategies and the forthcoming DB Funding Code, will lead to in-depth consideration by trustees and sponsors of scheme ‘endgame’ planning options over the year ahead and beyond - finding a secure and reliable funding solution for schemes in the long term interests of their members.
Our client was the trustee of a substantial DB pension scheme sponsored by a group of companies with a diverse lender base. The sponsor group needed to renegotiate its lending arrangements in the face of challenging market conditions so as to create further liquidity headroom.
We advised the trustees, in conjunction with their actuarial and legal advisers, on a broad range of measures to support the scheme, including a contribution plan with a contingent element linked to future business performance together with various protective measures and information protocols. This enabled the group to achieve successful negotiations with its lenders while at the same time helping the trustees to protect the scheme’s interests.
We continue to provide a broad range of covenant, actuarial, IRM and other specialist advice to DB scheme sponsors and trustees.
Specific areas where we have assisted clients over 2020 and into 2021 include:
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