NEW YORK | Thu Jan 26, 2012 11:59am EST (Reuters) - With worries about the debt crisis in Europe and high unemployment in the United States drawing the public's attention, the sliding value of corporate pension funds has largely gone unnoticed.
The problem came into stark relief last week, when Boeing joined a raft of U.S. companies that have announced hefty cash injections into underfunded pension plans, including General Electric Co, DuPont, Alcoa Inc, Honeywell International Inc and Raytheon Co.
Boeing said it would add $1.5 billion in cash to its pension plan in 2012, nearly triple the amount it injected in 2011. The huge jump caused the aircraft maker's full-year earnings forecast to miss Wall Street estimates.
Analysts say pension top-ups will take a big bite out of corporate earnings this year, due to more rigorous funding requirements and an erosion of investment returns caused by weak stock markets and low interest rates.
Of the 341 companies in the S&P 500 index with defined benefit pension plans, 97% are underfunded, according to a Credit Suisse analysis. Despite generous contributions last year, Credit Suisse estimated the plans' liabilities at $458 billion at the end of 2011, an 86% increase from a year earlier.
"This level of underfunding is something, at least in the time that we've been following the issue, that we haven't seen," said Credit Suisse analyst David Zion, noting that the 2011 estimate is nearly three times larger than underfunding in 2002, after another U.S. recession.
Large pension contributions are an immediate hit on cash flow, diverting money from shareholder dividends, stock buybacks and capital investments.
The brunt of the pain will be felt by manufacturers and other large industrial companies, which have legacy pension obligations and older workforces, analysts say. Many companies have done away with pension funds in recent years, moving to 401(k) retirement plans, which are funded by employee contributions and in many cases a company match.
Impact on employees
The Pension Protection Act requires a company to notify its employees when their pension fund's asset value dips below 80% of obligations. When that happens, companies can only make lump sum distributions equal to half the benefit owed to workers. The other half has to be in the form of an annuity.
Plans that are less than 60% funded are frozen and prevented from making any lump sum payouts. They can only provide annuities, and workers no longer continue to accrue benefits until the funding status climbs higher.
While the Pension Protection Act was passed in 2006, corporate America persuaded lawmakers to delay implementing major aspects of the law during the recession. These kick in this year.
Many companies try to decrease the volatility of their pension plans by changing asset allocation or culling headcount through offering a lump sum payment.
More than half of plans are likely to offer lump sum distributions over the next two years, according to a recent survey of senior-level financial executives by Mercer and CFO Research Services.
"We're likely to continue to see corporations attempting in one form or another to essentially buy out some employees from these defined benefit plans," said Robert Strong, a business professor at the University of Maine.
(Reporting By Ernest Scheyder and Jilian Mincer; Editing by Tiffany Wu and Steve Orlofsky)
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