Pensions reform will lead to transparency

Pensions are back under the spotlight. The new pension regime, which comes into force on 6 April 2006, is causing companies and individuals to look carefully at pension policy and provision and they are likely to face some tough decisions.

Until now, pensions had been the missing link in executive remuneration. They are difficult to value, and comparisons of values are particularly problematic. Typically, they have not really been considered as a fully integrated ‘part of the package’. But this is changing.

Most elements of an executive remuneration package are benchmarked against a defined peer group, and remuneration committees are very conscious of the need to be able to justify to shareholders that the package offered to executives is not only in line with the peer group, but also with corporate objectives. This has led to many of the elements of executive reward being linked to corporate or individual performance.

However, this is not the case for pensions. There is a surprising inequality in pension provision for executive directors across FTSE 350 companies, and sometimes within the same organisation. Executive pensions are typically worth between 20% and 70% of salary, and sometimes more, with additional diversity in the type of arrangement on offer. This has led to the current position, where pensions have become the missing link in executive reward strategy.

For many years, executive directors participated in the wider company-defined contribution benefit plans, typically on more generous terms than most staff, and these plans tended to operate in very similar ways across companies. The introduction of the earnings cap in 1989 and the closure of many defined benefit plans have introduced greater diversity. When executive directors are appointed, the pension provision is likely to be a key part of the negotiation on remuneration. As a result, in many organisations, individual negotiations on pensions have displaced any attempt to develop and maintain a coherent strategy on the subject.

Until now, this lack of coherence has largely been ignored, due in part to a general lack of disclosure relating to pension provision. Given the substantial values involved, and an increased focus from shareholders and individuals, this cannot continue.

By combining the need to review executive pensions – in light of the potential impact of the new tax regime – with a benchmarked analysis of current executive pensions practice, the prospect of integrating executive pensions into overall executive remuneration becomes much more realistic. It allows remuneration committees to address the concerns of shareholders, and will lead to greater transparency on the composition of the overall executive reward package.

By John Connolly, UK chief executive and partner, Deloitte

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