Magazine article The CPA Journal

Funding OPEB Liabilities: A Proposal for the Automotive Industry

Magazine article The CPA Journal

Funding OPEB Liabilities: A Proposal for the Automotive Industry

Article excerpt

American automobile manufacturing is facing significant challenges: increased competition in the marketplace; macroeconomic challenges related to oil prices and supply; and accounting challenges related to recent standards regarding other postemployment benefits (OPEB). OPEB is a major concern for the private sector, but it is an enormous issue for the automotive industry, with its large obligations for retiree health benefits. It is estimated that for the 337 companies in the Standard & Poor's (S&P) 500 that have OPEB obligations, the funding ratio is around 27% (versus 88% for pensions). For the 282 companies with the most complete financial records, the unfunded OPEB liability in 2005 was estimated at $292 billion versus an unfunded pension liability of $150 billion. The OPEB liability is concentrated in Ford Motor Company and General Motors Corporation; their combined unfunded liability of $94 billion represents 32% of the S&P 500's total.

"The state of OPEB is extremely unsettling," wrote S&P analyst Howard Silverblatt in a December 2005 press release. Unlike pensions, which are regulated, there exists no legal requirement to create a trust entity to fund current or future OPEB costs, S&P pointed out The ratings agency also observed that tax treatments and credits set up specifically to encour- age pension funding do not exist for OPEB costs. S&P further noted that 88% of pension obligations are set aside in Ousts, compared with only 22% for OPEB obligations.

The OPEB debate has so far focused on trying to reduce retiree benefits or increase retiree contributions. Obviously, neither of these options is politically popular. Dealing with the OPEB liability may also force companies to reduce investment in important, but discretionary, programs. The most notable example is investment in alternative-energy vehicles that can be more competitive in a market of rising oil prices and political appeals for energy independence. For the U.S. economy as a whole, one concern is that any reduction in healthcare coverage will place further burdens on the Medicare system. What is clear is that the combination of addressing the OPEB obligation and the need for more competitive automobiles with energy-efficient designs may be the most significant challenge the industry has encountered. It is worth asking if it is a challenge that U.S. automakers cannot solve without help.

One option for funding OPEB liabilities, advanced funding, uses an entity for employers to build an asset base to offset the accrued liabilities and thus provide payment of the benefits as they come due in future years. As the asset base builds up and the funding ratio increases, a larger share of the plan's revenues derives from investment income, while contributions decline. This has been the result of pension trusts in the U.S. over the last century. S&P reports that reasonably well funded defined-benefit pension plans receive 60% to 70% of total revenues from investment income.

How can companies like GM and Ford advance-fund their OPEB liabilities and at the same time continue to invest additional resources into developing new energy-saving automobiles? The authors propose the use of government-guaranteed bonds as a means of stopping the financial hemorrhaging of American automakers that are burdened by OPEB liabilities.

Use of Federal Guarantee Programs

Many national governments, including the United States, support a wide range of activities through credit guarantee programs. Although used sparingly in the private sector, the most notable loan guarantee program to date was the bailout of the Chrysler Corporation in 1980. The U.S. government provided Chrysler with $1.5 billion in government-guaranteed debt (GGD) instruments to help the firm achieve financial stability. By 1983, Chrysler paid off the loan with a return of approximately $350 million to the U.S. government. More recently, GGD instruments have been used to subsidize the airline industry after September 11, 2001. …

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