Whoops! There Goes Another Pension Plan
Michael Givel
By MARY WILLIAMS WALSH New York Times September 18, 2005
http://www.nytimes.com/2005/09/18/business/18pensions.html?ex=112779
600&en=4ac2304a0b482b9f&ei=5070&emc=eta1
ROBERT S. MILLER is a turnaround artist with a Dickensian twist. He
unlocks hidden value in floundering Rust Belt companies by
jettisoning their pension plans. His approach, copied by executives
at airlines and other troubled companies, can make the people who
rely on him very rich. But it may be creating a multibillion-dollar
mess for taxpayers later.
As chief executive of Bethlehem Steel in 2002, Mr. Miller shut down
the pension plan, leaving a federal program to meet the company's
$3.7 billion in unfunded obligations to retirees. That turned the
moribund company into a prime acquisition target. Wilbur L. Ross, a
so-called vulture investor, snapped it up, combined it with four
other dying steel makers he bought at about the same time, and sold
the resulting company for $4.5 billion - a return of more than 1,000
percent in just three years on the $400 million he paid for all five
companies.
Two years later, as the chief executive of Federal-Mogul, an auto
parts maker in Southfield, Mich., Mr. Miller worked on winding up a
pension plan for some 37,000 employees in England. The British
authorities balked at the idea, fearing that such a move would swamp
the pension insurance fund that Britain was creating; it began
operations only last April. But the investor Carl C. Icahn has placed
a big bet that Federal-Mogul will pay off after the pension plan is
gone; he has bought its bonds at less than 20 cents on the dollar and
is offering money to help the insurance fund. He, too, stands to make
millions.
Now Mr. Miller is at Delphi, the auto parts maker that was spun off
by General Motors in 1999. If past is prologue, one of the most
powerful turnaround tools at his disposal will be his ability to
ditch Delphi's pension fund. He did not return numerous telephone
calls seeking his views for this article, but in the past he has said
that his first priority at Delphi was to "resolve" its "uncompetitive
labor cost structure." That includes the roughly $5.1 billion gap
between the pensions it has promised employees and the amount it has
put aside to pay for them.
If the obligation to make good on Delphi's pensions eventually lands,
in whole or in part, at the door of a governmental guarantor, few
should be surprised. The Pension Benefit Guaranty Corporation has
become an increasingly popular option for private-capital funds and
other investors who are seeking to spin investments in near-bankrupt
industrial companies into gold. The key is to shift the
responsibility for pensions, which weigh as heavily as bank loans on
a company's balance sheet, to the pension corporation.
The same financial alchemy has been performed at Polaroid and US
Airways, at textile companies like Cone Mills and WestPoint Stevens,
and at a host of smaller companies over the last four years. And
bankruptcy specialists say that it is almost certain to keep
happening, because shedding pensions - and pensioners' health care
obligations - is turning into an irresistible way to make a high-risk
investment pay off.
"It's become a kind of system to bail out companies," Thomas Conway,
vice president of the United Steel Workers of America, said of the
pension corporation, which Congress created in 1974 to protect
retirees if their employers went bust. "People have been able to use
it tactically, as a business strategy, and I don't think that's what
Congress meant."
Over the long term, the rate of defaults is clearly rising, said Lynn
M. LoPucki, a professor of law at the University of California, Los
Angeles, who has tracked the large companies that have shed their
pension plans while in bankruptcy since 1980.
Less obvious is precisely how the trend will ultimately affect
retirees, who sometimes have their pensions cut in the process. The
cuts appear to be hitting more and more workers, but the government
has not calculated how many since 1998.
Nor is it certain how the trend will affect taxpayers, who may wind
up on the hook if the rising tide of failed pension obligations
overwhelms the resources of the pension corporation. A year ago, when
the agency last reported its balance sheet, it had $39 billion in
assets and $62.3 billion in liabilities, leaving a shortfall of $23
billion. The Congressional Budget Office on Friday estimated that the
deficit will widen to $86.7 billion by 2015 and $141.9 billion by
2025.
Mr. Ross, the investor who picked up the five dying steel companies,
said he also thought that the current practice of sending failed
pension plans to the federal guarantor "needs some reforming."
But, he added, the private sector was not to blame. "If we're going
to continue defined-benefit pension plans at all," he said, "I really
think we need to look at who enforces the rules, what the rules
should be, and why there isn't a meaningful, risk-based system."
In a risk-based pension insurance system, companies that run
failure-prone pension funds would pay higher premiums than the
companies that manage their pension plans more conservatively. But
instead of charging more, the government has been waiving the pension
rules, he said. "When you start giving people waivers," he said,
"you're creating a time bomb."
Like defaulting on a loan, terminating a pension plan significantly
lightens a company's balance sheet: the business instantly becomes
more valuable because it does not have to use its cash flow to pay
for past mistakes.
But defaulting on a loan affects the lender, who presumably vetted
the borrower and charged interest commensurate with the risk.
Defaulting on a pension, on the other hand, affects the pension
corporation, which is required by law to accept a low premium
unrelated to the risks it takes.
James A. Wooten, a pension-law historian who is a professor at the
University at Buffalo Law School, said that Congress knew it was
creating an imperfect system when it established the pension
corporation in 1974, and that it expected to make improvements later.
The bill was highly contentious, and Congressional leaders struggled
mightily to achieve compromise in the last chaotic months of the
Nixon presidency, with the Watergate scandal roaring around them.
In the beginning, they set pension insurance premiums at a token $1
per employee. Today, the basic premium is up to $19 a head, but
Congress has found it hard to raise the rates even remotely enough to
cover growing claims. Some companies have warned that if they have to
pay more for their pension insurance, they will stop offering
pensions.
"They took cautious steps, and those cautious steps weren't enough to
prevent the abuse of the insurance program," Mr. Wooten said. "Once
there's insurance, you have an incentive to run up liabilities to get
more out of the insurance."
MR. MILLER'S arrival at Delphi in July, and the intense labor
negotiations that have followed, are signals that the auto parts
industry may be in for a long cycle of bankruptcies and
restructurings, like those that reshaped steelmakers and are
beginning to transform airlines.
"Something has to happen to all of these liabilities and cost
structures," said Mr. Ross, who has said that he may invest in
Delphi, the world's largest auto parts supplier, after those changes
are made. "Delphi needs to sort out these complicated relationships
before anybody will buy it. Something has to change."
Delphi isn't the only troubled automotive company to catch Mr. Ross's
eye. He has also expressed an interest in Collins & Aikman, a
manufacturer of automotive interiors that is already in bankruptcy,
and he recently invested $30 million in a French auto parts maker,
Oxford Automotive. But because of Delphi's size and its relationship
with G.M., its former parent, any big cuts in its so-called legacy
costs - mainly pensions and retiree health care - would send
reverberations through the auto industry.
No one says it will be easy for Mr. Miller to cast off Delphi's
pension plan - it never is - but he was dealt a good hand when he
came to the company. Not only would the federal pension guarantor end
up with at least part of Delphi's plan if the company went bankrupt,
but the company could also rely on an unusual promise that G.M. made
to the United Automobile Workers seven years ago - in far better
times - that it would take over any part of the Delphi pension plan
that the pension agency refused. Generally, the agency caps pension
payouts at about $45,000 a year, to workers who are 65 when the plan
fails. For younger workers, the limits are a good deal lower.
G.M.'s involvement means that Delphi workers - unlike many unlucky
employees of Bethlehem, United Airlines and Polaroid - might not lose
any benefits if their plan were taken over by the government.
(G.M. also promised to assume all medical costs for retirees if
Delphi faltered, an obligation estimated at $9.6 billion. Securities
analysts have been parsing the language of the promise, trying to
determine if G.M. must really shoulder this entire amount, and the
extent to which Delphi would have to pay G.M. if it rebounded later.
G.M. has its own heavy obligations to retirees and can ill afford to
take on more.)
Savvy investors know that the existence of these two guarantees gives
Mr. Miller great power - the right, if he needs it, to make someone
else pay Delphi's large and growing debt to its work force. If he
plays his hand skillfully, Delphi could end up shedding billions of
dollars of debt without depriving unionized employees of any promised
benefits.
To unload the pension fund, however, Delphi would have to declare
bankruptcy; a company cannot send an unwanted pension plan to the
government without first persuading a bankruptcy judge that it cannot
otherwise survive. And if Delphi is to file bankruptcy, it may have
to decide quickly. New, stricter bankruptcy laws take effect on Oct.
17, and companies that declare bankruptcy after that date will face a
range of restrictions on how much they can pay in executive bonuses
and on how long they can take to work on their reorganization
plans.
Mr. Ross said that he was not privy to the negotiations at Delphi but
that he thought it likely that Mr. Miller would declare bankruptcy
before the law tightened. "Delphi's a big company," Mr. Ross said. "I
think he'd be very concerned about his ability to retain a whole
management team there" if he could not pay bonuses. And controlling
the schedule for reorganization is an important tool for debtors
negotiating with creditors. "I would be shocked if he would give up
the leverage that that tool gives him," Mr. Ross said.
But other analysts speculated that Mr. Miller might well delay a
bankruptcy filing past Oct. 17 because he could win wage concessions
from the union if he kept the pension plan going. "The carrot that he
has to offer is, 'If you keep working for an extra year, you get more
benefits, and those benefits are more valuable to you because those
benefits are guaranteed not by us, but by G.M. and the P.B.G.C.,' "
said Jeremy I. Bulow, a economics professor at Stanford. "That's
something Delphi can use as a negotiating tool."
While that may be good news for Delphi, its workers and its
shareholders, it could be very bad news for G.M., the pension agency
- and perhaps, ultimately, taxpayers. "The policy problem is that we
let companies get this deeply in hock to the federal government,"
Professor Bulow said. "It's kind of a rolling the dice, a
heads-I-win-tails-you-lose kind of thing."
COMPARED with Delphi, Bethlehem Steel looked grim when Mr. Miller
arrived in September 2001. Like other big integrated steel makers in
the United States, Bethlehem had been fighting a losing 20-year
battle with foreign competition and low-cost domestic mini-mills. "I
came here to find a way not to file for Chapter 11," Mr. Miller said
upon his arrival. But by mid-October, Bethlehem was in bankruptcy.
The company was being killed by its legacy costs - the accumulated
promises to retirees it had been making for decades. Bethlehem had
whittled down its work force over the years in an effort to cut
costs, but by doing so it simply created more retirees to whom it
owed pensions and health benefits.
By the time Mr. Miller took over, the company had some 95,000
retirees and just 12,000 active workers to generate enough revenue to
pay their benefits - a hopeless proposition. Retiree health care
alone was costing Bethlehem about $125 million a year. In the 1990's,
the stock market boom made its pension fund look healthy, but when
the boom ended and the pension funds' assets fell, the company had to
make up the difference. By November 2002, Bethlehem faced
liquidation.
That is when Mr. Ross stepped in. A big concern then - as it is now
at Delphi, the airlines and elsewhere - was the pension plan. When
the time came to turn it over to the pension agency, officials there
realized that Mr. Ross was poised to set off as much as $550 million
in extra "shutdown" benefits - available only to workers idled by a
plant closing - by briefly shutting some operations before taking
over. The government would have to pay the workers' basic pensions in
any case; federal officials thought that if the workers were to get
any additional money, it should come from Mr. Ross. (Shutdown
benefits are an option that is also available to Delphi.)
Steelworkers applauded these arrangements, but the pension
corporation seized Bethlehem's pension plan before Mr. Miller had the
chance to shut down operations and activate the extra benefits. The
union, Mr. Miller and Mr. Ross all complained, but Mr. Ross
nonetheless found enough additional money to offer retiring employees
$50,000 buyouts and to set up a trust fund to pay for LTV and
Bethlehem retirees' health insurance. "We felt a moral obligation to
those workers, even though we had no legal obligation," Mr. Ross
said.
In the end, what bothered Mr. Conway, the union leader, was not so
much Mr. Ross's inability to wring more money out of the pension
system or his remarkable profit on the deal. What troubled him, he
said, was that the country seemed unable to take any lessons away
from the demise of the steel companies and how it affected so many
working people. "It just staggers us that America's not caught on to
what's happening to it," he said.
"Here's Ford and General Motors, now competing against a lot of
U.S.-based transplant companies that have no obligations to any work
force," Mr. Conway added, referring to the nonunion factories that
Toyota, BMW and other foreign-owned car companies have built in the
United States. "That's a tremendous advantage. How does a mature
American industry that has obligations to its work force compete with
that?"
Because global competition is driving the trend, Mr. Ross said the
country should look for a new way - maybe a value-added tax on
imports - to bolster the pension-insurance program or to provide
health care to retirees. He said he had suggested this approach to
some members of Congress, but in vain. "So far, they've really seemed
more interested in lashing out at China," he said.
For now, people approaching retirement are left to hang on and
hope.
"What happens is, typically, you've got a boat that holds 40 and you
need seats for 50 and people are all trying to hold on till the end
of their career and get their promise," Mr. Conway said. "We frankly
don't know how to do it, if there's no other assistance out there to
help you do it. The P.B.G.C. isn't the solution."