The Pensions Regulator has recently responded to high profile corporate failures by introducing a "clearer, quicker and tougher" approach, but schemes and their covenant advisers also need to adapt to a more difficult pensions environment.
Aidan O’Mahony, partner and head of covenant advice at Aon, said: “The high profile corporate failures of the last few years have clearly highlighted the issues pension trustees face when their sponsor hits the rocks. For covenant advisors, it’s clear that more in-depth sector and financial analysis is required - especially when reviewing employers' financial forecasts which are often very rosy.
“While it was never acceptable to take company forecasts at face value, there is now an even greater need for stress testing, including downside scenario analysis, to ensure that trustees come away with a deeper understanding of an employer's future prospects if things don't work out as planned.
Once this stress testing has been completed, trustees also need robust recommendations and support from their covenant advisors to help them negotiate deficit repair and contingency plans with employers. For example, recommendations could specify a minimum level of deficit repair payments linked to an appropriate length of recovery plan. Similarly, putting in place a contingency plan would bring more clarity around coping with unexpected downside events.
Aidan O’Mahony continued: “A better understanding of an employer's downside risks and more pointed covenant advice should lead to better pension outcomes for members. We also believe that covenant advice is most effective when fully incorporated into an Integrated Risk Management framework, in order that all parties fully understand how the covenant, investment and funding risks interact.”
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