Buyer risk tolerance for pension liabilities increasing

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In the past, corporations were unwilling to purchase businesses that had pension liability on the books, but that is slowly changing as the M&A market becomes more competitive.

In its People Risks in M&A Transactions study, Mercer found that nearly 50% of buyers are willing to consider taking on pension and post-retiree medical obligations, in large part because they are realizing that people are the most important asset in any transaction so managing pensions and the liability that comes with them is just part of the bigger picture of keeping talented individuals within the company.

“We’re seeing an uptick in it. It correlates with the fact that auctions are competitive and have been competitive in the period we did our research,” says Doug Johnson, partner, M&A transaction services at Mercer. “The other piece of the story may be there are also a lot of organizations that are already on a path to de-risking their pensions and have frozen pensions so that liability is not growing to some degree.”

The U.S. had a $968 billion shortfall in 2013 — up $54 billion from the prior year — between the pension benefits that were promised to employees and what was actually saved to make those payments, according to a recent report by Pew Charitable Trusts. Here are the states with the best-funded pension programs.
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He added that because there are solutions in the marketplace to the problem of pension risk and liability, “organizations are feeling more comfortable with how they can manage these things.”

Twenty-three percent of the M&A transactions Mercer analyzed over the past 12 months included single or multi-employer pension plans.

The M&A market has become very competitive and because of that, 41% of buyers said they had less time to complete due diligence on a company before making a binding bid, compared to the prior three years. Thirty-three percent said that sellers are providing less information about the asset for sale.

It is a seller’s market, Johnson says, so buyers are willing to take on more risk. Talent retention is also a key element of HR due diligence.

Keeping in mind that the survey found that people are the most important part of any merger or acquisition, it was surprising to find that only two-thirds of companies surveyed conduct formal leadership assessments as part of their due diligence, says Bruce Lee, a spokesman for Mercer.

“That leaves people like our M&A consultants scratching their heads,” he says. They all talk about how critically important human capital is but “they don’t run the systems or rigor or processes around what they claim is the most important thing as they would around ‘will we buy this factory and take on these clients.’ What we are trying to show with the numbers is that this is every bit as important.”

He points out that most people would not buy a factory without inspecting it first so they should apply the same standards to the leadership team that runs the factory they are considering purchasing.

“Pensions are what you would call a red flag issue. You want to assess it and understand it,” Johnson says. “There are a lot of organizations where you can leave them behind or try to leave them behind and there are a number of transactions where they are being acquired and are coming over.”

The key is to figure out how to assess the pension risk before you take it on. “How do you understand what the risks are and make sure you are able to properly measure and mitigate the risks to the best of your ability and get comfortable around doing the transaction,” Johnson says.

“As the marketplace comes up with new solutions to help manage the risk and take the risk off the table it creates an environment where more buyers can get comfortable with being able to manage it. It won’t be a hindrance on the business,” he adds.

If a company does end up taking on pension liability through M&A activity, it is paramount that it determine the extent of the pension obligation and the risk associated with it. If they then want to exit the pension plan as soon as possible, they need to find out how much it will cost them to do that, Johnson says.

“There’s value in removing risk compared to the cost. It is a pretty dynamic marketplace right now,” he says.

There was a record breaking volume of M&A deals in the past few years and Mercer doesn’t see that slowing down any time soon.

The low interest rate environment has encouraged many businesses to cross international borders when considering a merger or acquisition and many countries have different rules when it comes to pensions and pension risk transfer.

“Buyers are facing new complexities as they enter unfamiliar geographies and industries, often enticed by the promise of reduced costs in emerging markets,” the Mercer report found.

Mercer found that nearly one-quarter of buyers are more inclined to consider multi-country transactions than they were prior to 2014.

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