Essar Steel move foreshadows need for pension reform
The pension burden has proven too heavy for steel giant Essar, which has sought relief from payments to its defined benefit program — and eliminated the plan entirely for new-hires.
Essar Steel Algoma, headquartered in Sault Ste. Marie, Ont., has petitioned the provincial government for relief from its mounting pension obligations, citing financial pressures as the leading cause behind the plan’s deficit.
Plan funding obligations have more than tripled in recent years to a level the company can no longer sustain. Should the proposal be approved, Essar will stretch the time it takes to make payments to its defined benefit (DB) plan.
That means the company will make fixed payments over the next three years and amoritize the remaining deficit over a seven-year period.
As the steel heavyweight awaits approval from Ontario’s Ministry of Finance, the company has had to make major changes to stay out of the red.
"Prolonged, historically low interest rates led to the pension plan’s deficit, as measured on a solvency basis, to more than quadruple over a five-year period," said Brenda Stenta, manager of corporate communications at Essar. "This occurred despite continued contributions to the plan and relatively strong returns on plan assets — 6.5 per cent on average — over that same period of time."
So the reason for the gap, Stenta went on to say, was due to a drop in interest rates, which declined about two per cent from 2007 to 2012. Because plan assets are valued at market rates and liabilities valued at long bond interest rates, the company has not been able to sustain the program.
Even the slightest difference in those numbers can have a huge impact. For instance, in September 2013, the plan’s unfunded position had improved $164 million since August 2012, due to an increase of less than one per cent in discount rates combined with continued favourable returns on plan assets.
But the situation is rough all over. Perhaps surprisingly, that is why the union backed the steel manufacturer in its bid for pension reprieve.
Marty Warren, director of the Ontario chapter of the United Steelworkers (USW), explained employees were caught between a rock and a hard place — but siding with Essar Steel will buffer the alternative: potential plant closure.
"The steel sector remains in the can. In my opinion, we got a very good deal. We believe they are serious about staying in the steel business, they have long term plans. We found it as a way, to be quite frank, to help secure our members’ futures," Warren said. "It made sense to us to help them, due to the money markets especially, not only the steel sector. A lot of our DB plans are taking a pounding due to the financial crisis. So to send them into bankruptcy or to not work with them didn’t make sense."
In order to curb rising pension costs, Essar Steel eliminated its DB plan for new hires, who are currently enrolled in a defined contribution scheme.
"Many defined benefit plans across the province find themselves in similar situations where their pension payments are far outpacing their annual capital expenditures and their ability to pay," Stenta said.
And the company is not alone. Another Northern Ontario-based steel giant, Vale, did the same in 2010, with many private sector employers following suit.
But could this signal the swan song of the defined benefit pension plan?
Sharing is caring
And as the playground goes, so goes the bargaining table — with sharing being the key to a happy pension relationship.
Still dealing with the pitfalls of an aging workforce and economic downturn, traditional pensions are a thing of the past. For instance, though he deemed it the better pension plan to have, Warren said negotiating for a defined benefit style is now extremely difficult.
Until both unions and employers throw the traditional pension out the door, the struggle will rage on, according to Tyler Meredith, research director at the Institute for Research on Public Policy, specializing in pension reform and labour market policies.
The Essar Steel case is a unique one for Ontario, Meredith said. Because many pension plans are jointly-governed, compared to say, Quebec, there is more cushion and companies are less likely to seek solvency relief. To avoid just that, businesses need to look forward.
"For single employer plans I think there is a need to examine solvency relief, and to look at whether or not the commitments are being made," he said. "What’s the right balance between economic realities the company is facing and can commit to, and the assumptions that are built into the long term performance of the plan?"
Ultimately, companies need to get to a place where — even if bankruptcy is not an immediate threat — wiping the pension completely off the balance sheet is a final resort, rather than the knee-jerk reaction. In times of economic struggle, a unilateral shift from DB to DC plans can have a terrible impact on the employees, Meredith added.
Unions are also recognizing the need for that to happen.
"Where do we go from here? Obviously we always try to negotiate DB plans — but I think the next step might be multi-employer plans," Warren said. "The advantage of multi-employer plans is you’ve got a big group of people in it, and if one sector takes a shit-kicking, it’s still — if it’s hopefully not a once-in-a-lifetime meltdown — a multi-employer DB plan. There’s less volatility in the market place, there’s a little less earnings for our people because they’re not taking the risk they are."
While not particularly surprising to Meredith, the Essar Steel case is indicative of a volatile future for retirement. If nothing else, the case signifies a growing need for unions to banish the traditional negotiating style and adapt to survive.
"I really don’t think it’s in the best interest for workers that essentially you try to impose standing obligations that may have been economically feasible 20 years ago, but may not be realistic today, without coming to the table with a plan of how to address the things going forward."
