How to prevent a repeat of the Carillion catastrophe

Whenever a rather technical public policy question pokes its nose out into the wide world of mass public interest a vacuum is created, a vacuum quickly filled with a gamut on nonsense and conspiracy theory.
 
The collapse of the Carillion has prompted just such fits of hysteria, but while I don’t particularly care that a private company has gone out of business, the issue of the pension fund liabilities is one that will recur many more times for policy makers in the UK as a direct consequence of economic policies pursued since 2007.
 
Firstly, let’s debunk a couple of myths about pension fund deficits. They are not the result of people being dishonest and illegally extracting money from the pension fund, and secondly, the cash amounts quoted for pension fund deficits are as meaningless as a Tory election manifesto.
 
The reason many companies’ pension funds have these deficits is low bond yields. Because the priority for pension fund managers is to not lose money, they primarily invest in the lowest volatility income paying asset, that is, UK and US government bonds.
 
The policy of quantitative easing has pushed the interest rates on all bonds, including government bonds, to record low levels. The pension deficit is the result of a decade of the income going into the pension fund not being as high as was forecast.
 
And the numbers quoted for pension fund deficits are projections, looking decades into the future based on today’s bond price. But the bond price will definitely move from today’s level over the next decade, and the direction is likely to be upwards, so the number quoted today is not the real size of the deficit.
 
So what’s the solution?
 
Well the hysterics have proposed that companies with pension deficits be forbidden from paying dividends to shareholders until the deficit is cleared.
 
The problem with this argument is that all of the biggest investors on the stock market are pension funds, in addition to buying bonds they buy some equities. So the recipients of the dividends are often other pension funds, cancelling the dividends of a company because it has a notional pension deficit simply creates a contagion effect, with pension funds throughout the system drifting into deficit, and, typical of what happens when policy is made in a fog of hysteria, it would achieve the opposite of what is intended.
 
A better idea, but more technical, is to change how pension funds must be treated by the government. At present, if a company goes bust, the first entity to be paid is the administrator, then the taxman, then the secured creditors, often banks, then the unsecured creditors, which includes the pension fund, and finally, the shareholders.
In this corporate structure, the power is in practice with the secured creditors(the taxman only becomes involved when they dont get paid, the banks can be engaged regularly with the company), so policy makers should act to ensure that all existing pension funds of UK-listed companies are treated as secured creditors, with at least the same seniority as the banks, this would give the trustees of the pension funds far more influence over how the capital generated by the company is distributed before there is a major problem, and put the hard working pensioners much nearer the front of the queue if the company in question turns into another Carillion.  

* David Thorpe was the Liberal Democrat Prospective Parliamentary Candidate for East Ham in the 2015 General Election

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40 Comments

  • Laurence Cox 24th Jan '18 - 10:54am

    Bond yields rising is not the answer, because a rising bond yield means a reduction in the value of the bond, so bond holders are then faced with losses of capital that they have to make up. The real problem is that company pension funds are over-invested in bonds and under-invested in equities, and that I think is a result of government pressure back in the first decade of this century when they brought in the Pension Protection Fund in 2004.

    I agree that making the company pension fund a secured creditor would be an improvement; perhaps you should run this past Vince.

  • David Thorpe you say, ” but while I don’t particularly care that a private company has gone out of business,”

    If you were one of the many thousand of Carillion employees or sub contractors and their employees you most certainly would !!

    Would you like to re-phrase that sentence ?

  • Graham Evans 24th Jan '18 - 2:21pm

    Buying bonds is essentially intended to freeze the existing balance between assets and liabilities. Undoubtedly it was originally driven by rising bond prices increasing liabilities at a time when most assets were equities whose price movements were not so strongly correlated with liabilities. Companies and pension trustees were then faced with the dilemma as to whether the pension fund should continue to see liabilities rise without a corresponding increase in assets, or cut their losses and switch out of equities into bonds. This is what most of them have done. However it is now very difficult to reverse this strategy unless you are dealing with companies which are financially outstandingly secure. Few fit into this category. Changing the priority in the event of liquidation might have some marginal impact on the situation, and would probably make the banks more supportive of struggling companies with pension scheme deficits, but it won’t fundamentally change the fact that most private sector pension schemes will remain in deficit simply because few companies are so financially strong to enable their pension schemes to break out of the current situation. As long as companies continue to make reasonable profits this situation can continue indefinitely with pensioners continuing to receive the benefits they expected. However once a company sustains huge ongoing losses the whole edifice collapses.

    Incidentally, one way out of the situation would be for the Government to follow the example of what happened when the Post Office, and earlier the Coal Board, were privatised and for the Government to take over the liabilities in return for receiving the assets. Governments who have control of their currency cannot in theory go bust. However what they can do is renege on promises previously made, as has happened time and time again when it comes to state pensions.

  • Would you like to re-phrase that sentence ?

    I don’t see why. Private companies go out of business all the time: it’s a natural part of the economy. No company lasts forever, and nor should they; if a company is badly run, or inefficient (and Carillion seems to have been both), then its going out of business is a good thing and allows better-run, more -efficient rivals to take its place.

    You can’t care about every private company that goes out of business any more than you can care about every prey animal that is killed and eaten by a predator in an ecosystem.

  • David Evans 24th Jan '18 - 4:45pm

    Dav, if you can answer David Raw’s question by reference to the other part of his comment i.e. the many thousand of Carillion employees or sub contractors and their employees, you might just change your emphasis.

    On the other hand, if you also come out with an “I don’t particularly care …” we will understand better your philosophy.

  • if you can answer David Raw’s question by reference to the other part of his comment i.e. the many thousand of Carillion employees or sub contractors and their employees, you might just change your emphasis

    I’m not sure of the relevance? Private companies go out of business all the time; they all have employees or sub contractors; what is so special about the ones employed by or sub-contracted to Carillion that they should be more special than any of the thousands of other employees and sub-contractors of the many other private companies that go bust every day, but whose companies don’t make the national news?

  • David Evans 24th Jan '18 - 5:27pm

    Thanks Dav. If you are not sure of the relevance and just return to “It’s what happens to companies” and “what is so special about people?” I think it tells us all we need to know.

    David Raw and other long standing Liberals like me will continue to have concern and sympathy and try to help those people affected by things like collapse of a business, because to us all people are special, and particularly need our care and help when they are adversely affected by matters outside their control.

    You know, when people in Kendal got flooded I didn’t say “Floods happen”, or “What is so special about floods in Kendal?” I got stuck in and helped them. And so did lots of people from places all over the country.

  • @ David Evans, Many thanks, David, for trying to explain ‘People Matter’ and ‘People Count’ used to be Liberal Party slogans back in the pre-Thatcher days.

    @ Dav I’m really sorry you don’t care about the victims, their families and the social consequences to them and to the public purse. Presumably your liberalism (if you are a liberal ?) is a some form of Darwinian selection of the fittest.

    I’m afraid I can’t compete, or even comprehend, with such a sophisticated utilitarian philosophy. I thought it had died out with Jeremy Bentham in 1832.

  • Jonathan Hunt 24th Jan '18 - 6:01pm

    Whether pension funds invest other people’s money in equities, gilts, bonds or antique buttons, it is the amount of realisable money in the fund that matters. Let me state again that pensions are merely deferred wages.

    They belong to the workers, not the bosses.

    It is up to the employers, through the main board directors, to ensure that the fund is close to the sum that its professional actuaries say is required. If they fail to do so, and fall below, say, 90 or 85 per cent of that sum, then they must make up the difference.

    If not, all directors are responsible and could be prosecuted under the Theft Act. the sight of a few top NEDs in prison gear should encourage the others to take their jobs seriously, check the levels of their pension funds and pay up if necessary.

    And be aware that such get-out excuses as the wrong kind of investments on the line won’t wash.

  • PS. Have watched the Carillion debate on the Parliament Channel for the last couple of hours.

    I noticed the worthy Jamie Stone sitting alone on the Liberal Democrat bench – no sign of the former Business Secretary, our Leader, though. Has he nothing to say ? The Leader of the Opposition was there for most of the debate, so come on, Vincent, shake a Leg !!.

    Another interesting point to emerge is that 13 of the Carillion sub-contractors are based in off shore tax havens – meaning they take from the public purse but don’t contribute to it. What a state the country has got into.

  • @ Jonathan Hunt Pensions,emerged from the debate , apparently Carillion paid out over £ 500 million in dividends when they were failing to maintain their pension funding levels.

  • Steve Trevethan 24th Jan '18 - 6:18pm

    Are Pension fund deficits other than debts?
    “All debts have to be paid?”
    Greece?

  • david thorpe 24th Jan '18 - 10:15pm

    yes my choice of sentence was clumsy but then current lib dem policy regaridng uber is to out 20,000 workers out of a job so perhaps the lib dems should rephrase that.

  • Graham Evans 24th Jan '18 - 10:55pm

    @ Jonathan Hunt: In a final salary pension scheme there are several different ways to access the liabilities. Moreover to describe these as simply deferred wages is too simplistic. (This terminology could be used to describe the benefits arising from a money purchase scheme, but these are much less of a problem when companies go bust.) Usually the liabilities as published in the pension scheme accounts are lower than shown in the company accounts. (It is the latter figure which is usually quoted in the national press even though the company contributions made to cover the deficit are based on the figure in the trustees accounts.) Moreover even the pension scheme accounts will show two different figures depending on whether the scheme is still open or closed. Finally there is a valuation based on the assumption that the liabilities are discharged by buying an insurance policy. This figure is often considerably higher than any of the other figures. The level of company contributions to cover the deficit is the result of a negotiation between the trustees, acting on behalf of the members, and the company. There is a legal requirement for the company to make contributions to cover the deficit in full, based on the trustees’ valuation report. The negotiation therefore mainly revolves around the period of time over which the deficit will be eliminated. Too short and the level of contributions may put the company out of business, if only because of cash flow problems. Too long and there is a greater risk that at some time in the future the company may still go under leaving the pension scheme still in deficit.

  • Graham Evans 24th Jan '18 - 10:57pm

    Moreover any plan negotiated by the company and the trustees still has to be agreed by the Pensions Regulator, which is a body totally independent of both parties. However even the regulator has to make a judgement. This will include taking the impact that a suspension of dividend payments will have on the reputation of a company. Bonus payments to directors, while undoubtedly having the potential to damage the image of the company, rarely are large enough to have a material impact on closing the pension scheme deficit. There is no simple right or wrong answer to the question of what is the appropriate level of company contributions and what is the time period over which the deficit should be closed. Moreover, all parties are faced with a moving target as valuations are normally undertaken every three years, whereas targets for eliminating the deficit often involve a time period of a decade or more. If the directors act in accordance with the plan agreed by the Pensions Regulator then they will have done nothing illegal and talk of the use of the Theft. Act is totally irrelevant. The only basis for taking action against them in respect of the pension deficit is if they have deliberately overstated the financial strength of the company, as this does have an impact on the Regulator approving any contribution scheme.

  • Oliver Craven 24th Jan '18 - 11:44pm

    I think what Dav is suggesting is that we shouldn’t do anything extra for these specific workers over others in similar positions, yet should still support those who are left out of work into new jobs as we do with everyone who is made redundant.

  • David Evans 25th Jan '18 - 1:01am

    Oliver, that is most clearly not what Dav said or suggested. If he wishes to retract his comments, it is up to him. Otherwise, they are there for all to see.

  • I might have some sympathy with Dav’s comment if there was an adequate safety net and a functioning government policy to help the suddenly unemployed, but there isn’t and I don’t.

  • Perhaps I can help on this one. I was a Hants County Councillor for 24years, four of them as part of the Lib Lab administration. I headed the Buildings Panel. Hampshire have en excellent Architects department and it builds its own schools. over the years its operations have expanded to build schools for Surrey and it funds its CAD systems from building the odd college in London. During my time we implemented the change in the age of transfer in a large part of the County which required an expansion of 30 secondary schools with average project costs of £250k we did it on cost on time.
    Hampshire avoided PFI under all political administrations. I also served on the business panel which oversees the in house catering business unit amongst others. The in house business unit provides meals for Hampshire kids and has expanded into Berkshire.
    Competent Local Government is one solution.

  • I’m really sorry you don’t care about the victims, their families and the social consequences to them and to the public purse

    According to gov.uk statistics, about 4,000 companies go bust every quarter. So that’s about 16,000 a year, or about 40 every day.

    Do you ‘particularly care’ about every single one of them? Or only the ones you hear about on the news?

  • The competitive tendering system is a huge part of the problem. Companies are forced to undercut each other to survive and even without the mis management become at risk due to the tiny margins this sometimes leaves. They then attempt to improve the situation by cutting cost – often via wage levels.

    I have completed dozens of tenders, often for local government. Generally it is all about cost, even where the marking scheme puts a higher weighting on quality. As an employer you have to decide between laying people off or risking cutting too far.

    Some Councils now add a requirement to pay the living wage. This Just forces the contractor to squeeze the middle earners. The top professionals usually have a rate set by the market and can easily find employment elsewhere.

    Then larger contracts pre-select using framework agreements that create monopolies. I have seen this lead to poor service delivery and close SME’s who find themselves unable to re-tender for contracts they have serviced professionally and with high satisfaction for many years.

    Over the last 20 years I have seen quality drop lower and lower in the pecking order.

    The whole system needs shaking up.

  • The whole system does indeed need shaking up. And the party needs a policy on what to do about it. I have to declare an interest in that I was a teacher for 30 years and when I left teaching my pension was enhanced by 10 years. All this is paid by a fund which is notional. The enhancement is paid by my former employing authority. I was a member of the committee of a local authority pension fund for a number of years. For local authorities employee contributions are decided nationally. The employers’ contributions have to be decided locally to try to balance the fund. The growth of academies and the popularity in some schools of agency teachers means that increasing numbers of teachers do not have regular access to the teachers’ pension fund. Another way in which things are getting worse. Time for the party to wake up?

  • Dav, I think you will find that liberals care about everyone who finds themselves in that sort of situation, with a particular emphasis on those not responsible for the problem and those least able to help themselves, which is why we oppose arbitrary cuts to benefits, sanctions and so on.

    We are not just a party attracted to those who make it onto the news.

  • This article and some subsequent comments seem straight out of the IDS book of survival of the fittest…In the statement that, “The collapse of the Carillion has prompted just such fits of hysteria, but while I don’t particularly care that a private company has gone out of business” Liberal values/compassion seem, sadly, missing…

    The reason Carillion is high profile is the numbers affected; a Grenfell Tower disaster as opposed to a single house fire…To call concern “hysteria” is indefensible…

  • @ expats Agree with you.

    It is a problem not knowing for definite who is a supporter of the Liberal Democrats and who is just trying to be a right wing provocateur. Certainly the “don’t care” Brigade are far from what I have understood to be liberal values. If they are ‘Thatcher’s Children’ with a hint of Cleggism then that is not the sort of Liberal party I could support.

    On a more positive note, heard Jamie Stone’s speech in the Commons debate yesterday. Impressed by his forcefulness and his conclusion that a move towards more in house works was necessary. Let’s hear more from Mr. Stone.

  • @ expats It seems the author of, ” I don’t particularly care that a private company has gone out of business,” was indeed a Lib Dem supporter – but clearly 98.4% of the electorate in East Ham chose not to agree with him. Much for him to reflect on there.

  • Geoffrey Payne 25th Jan '18 - 1:02pm

    I would have thought the big point on this issue is Vince Cable’s point that Carrilion is “too big to fail”. If a company like this goes out of business then how do we carry out the contractoral arrangements already made? Is this a hidden inefficiency of contracting out too the private sector?

  • John Marriott 25th Jan '18 - 1:24pm

    When it was first introduced in the 1990s (might even have been earlier) we called it on the District Council I was serving “CCT”, which I kept confusing with “CTC”, which some cyclists might recognise and probably denotes an element of dyslexia in yours truly.
    Well, I remember the contract to refurbish a council estate we ran was put out to tender and was awarded, as was then the norm, to the lowest bid. Some of us checked the small print and we found that the firm would charge us only £1 per unit if a domestic boiler needed replacing. We often wondered what would have happened to the firm’s finances if ALL of the boilers had needed replacing.

  • David Raw 25th Jan ’18 – 11:58am………….On a more positive note, heard Jamie Stone’s speech in the Commons debate yesterday. Impressed by his forcefulness and his conclusion that a move towards more in house works was necessary. Let’s hear more from Mr. Stone………….

    Hear, hear…Corbyn’s initial speech about “Taking back control”, and his promise to end PFI, resonated with me as few speeches have over the last 40 years…If that is Marxism then bring it on!

    Today’s report on “Seven in 10 UK workers are ‘chronically broke'”…Shows how close so many are to the ‘services’ offered by you and I…That is the reason for my my despair when I read articles like this; No safety net means eviction, food banks and rough sleepers…

    Still, why get ‘hysterical’,: after all, “I’m all right, Jack”…

  • Jonathan Hunt 25th Jan '18 - 3:37pm

    Thank you Simon Evans for sharing your knowledge about different forms of pension funds with us all. Some I distantly recall member from days when I had to write about such things. Others I have totally forgotten, or never knew.

    But what decides whether pensioners get what’s owing to them comes down to whether there’s enough dosh left after preferential creditors have put their hot little stickies in the till.

    That is a disgrace as members of pension funds should be first among preferential creditors. Most schemes today are ones where employees contribute their own money, and employers contribute what they would otherwise have paid in wages.

    So failing to contribute that money to the fund is theft and it should be mandatory for all pension funds to maintain a fixed proportion, which I would put at more than 85 per cent, of what actuaries decide is required.

    The fact that doing so could bring the company down should irrelevant if the amounts have been kept up to date. Why should paying pensions be optional when paying most other bills, such as suppliers or rents are not?

    The Pensions Regulator is weak because his powers are weak. They should be beefed up. And main board directors should be forced to make up the difference out of their own pockets, or spend time in clink.

    On the main topic of privatised contractors, it is all too obvious that many of the larger ones are either Incompetent or dishonest. Or both. As to the answer, it seems that far stricter contracts need to be drawn up and greater regulation applied.

    Our economy depends on efficient and conscientious private enterprise. Many of these pension thieves are denting the image of the good ones.

  • Peter Hirst 25th Jan '18 - 4:57pm

    Companies will fail; that is what business is about. The issue is the size of the company and its dominance in its sector. We should be arguing for independent parts of conglomerates so only part goes bust. It will need much transparency.

  • Graham Evans 25th Jan '18 - 10:45pm

    @ Jonathan Hunt: Most private sector pension schemes offered to new employees are money purchase schemes. Many existing employees have also had to accept that future accrued benefits will be based on money purchase arrangements. Actuaries normally have no role to play in such schemes, nor has the Pensions Regulator, because both employee and employer contributions are regularly paid into in a special vehicle, often an insurance company, which is not reliant on the solvency of the employer. Your reference to 85% funding is therefore irrelevant to his type of scheme. The problem faced by the Carillion scheme, as for many private sector pension schemes, arises from liabilities built up in the past when these companies offered final salary schemes and the regulations were different, arguably laxer, than they are today. Moreover the deficits today are at least in part caused by changes outside companies’ control. The priority today for trustees, companies, and the Regulator is to address to the situation as it is today, not argue about how things might be different today had a different course of action been taken in the past. Forcing companies into bankruptcy, which your proposal seems to imply, amounts to little more than cutting one’s nose to spite one’s face.

  • Graham Evans 25th Jan '18 - 10:59pm

    @ Jonathan Hunt: I would also dispute your implied claim that the pension liabilities would be met in full were it not for the claims of preferential creditors. Carillion seems to have had few assets so changing the priority status of the pension scheme would in this case, and indeed in many other cases, have probably brought no more benefit to pensioners and deferred pensioners than they will in any case get from the statutory Pensions Protection Fund. Even when there are substantial assets these may well be dwarfed by the size of the pension deficit.

  • “How to prevent a repeat of the Carillion catastrophe”…

    Perhaps by keeping Vince Cable as far away as possible? If memory serves, in his sell off of Royal Mail, private investors have pocketed a 65% return and the taxpayer has got the pre-privatisation pension millstone…

  • Neil Sandison 26th Jan '18 - 12:08pm

    Brian D interesting contribution based on your experience and your councils decision to retain in-house staff .Sadly Many councils have had to let go skilled technical staff ,many are reliant upon seconded staff from the private sector to support not just contracts but day to day service delivery and have a “tilt ” towards further very long term and expensive contracts .tying that council up to 15, 20 and 25 year contracts significantly reducing competition and best value .stopping social enterprises and not for profit charities being able to tender for those contracts .How do you see best value competition for public contracts with high levels of technical competence being developed without turning public monopolies into private monopolies as we have seen with Carrillion and other utility services.

  • There is an article in the FT headlined

    Carillion ran up debts and sold assets to fill £217m dividend gap

    https://www.ft.com/content/f5bbf3a2-01e0-11e8-9650-9c0ad2d7c5b5

    It would appear shareholder dividends took priority over pension funds and their debtors. Illegal probably not, immoral, well that is a different question.

  • David Evans 27th Jan '18 - 1:00pm

    You are right frankie. Of course it should be illegal, but neither Labour or Conservative regarded this as a matter of great concern. It was always so much easier to dump the problem on the taxpayer (and the employees) through the Pension Protection Fund and not worry about the problem of moral hazard. Philip Green should have a lot to answer for.

  • I struggle to believe that it is legal for firms to divert money that is definitely owed to employees through pension schemes towards generous share-holder dividends. Allocating money towards pensions should be thought of as a fundamental business cost that is allocated before talk of profit, bonuses and share-holder payouts.

    I’m not nearly expert enough to know how to fix it, but I do think there is public appetite for better employee protection off of the back of this and the BHS debacle.

    I’d like to think it goes without saying that everyone who finds themselves redundant deserves support to find new work, and access to the safety net, but I also think it’s fair to say that sometimes there is a case for additional government intervention. In practical terms, if a building company in Manchester goes out of business and 50 people lose their jobs, then there is a decent chance of there being similar businesses within the area that could take them on, and this is something that the local job centre should be able to help with, and the local authority will often make a few phone-calls to similar businesses to ease the process. On the other hand, if a mine or steel works closes in a medium sized town, then you have a sudden increase of unemployed people with particular skills and it goes beyond the resources of the job centre to speedily match the newly unemployed staff with suitable vacancies. That’s before you consider the impact on the local economy, so the availability of temporary jobs will be scant.

    In the case of Carrilion, there are thousands of people all over the country with similar skills who could all be looking for new work, but we know that many of these projects still need to go ahead, so there is an awful lot to be gained from helping to get the right people speaking to each other so that as many of those projects as possible can proceed with minimal delay. Help writing up new contracts, so staff can keep working, confident they will be paid, and that someone is still responsible for health and safety etc. Who actually owns the Heras fencing and bricks and sand and cranes that are still on site? A bit of extra government support (national or local) can speed these things up, and allow the local job centre to keep on helping those it normally helps.

  • @ Fiona “I struggle to believe that it is legal for firms to divert money that is definitely owed to employees through pension schemes towards generous share-holder dividends.”

    Don’t you remember ‘Sir’ Philip Green doing this from BHS into his wife’s off shore Monaco accounts.

  • @David, yes I do, which is why I mentioned it in the very next paragraph as another ‘unbelievable’ example from recent history.

    When I say I ‘struggle to believe’, it’s a turn of phrase to mean that I find it hard to believe it isn’t already illegal, and that IMO there should be laws against it, rather than that I think that it is already is illegal, and why has no-one mentioned it yet. But as I also said, I’m not sure of the practicalities of creating and applying such legislation, but that I do think there is the public will for there to be attention given to a thorough review and tightening of the regulations to make this sort of thing harder.

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