S&P - Public Finance Criteria (2007). - The Global Clearinghouse

Public Pension Fundscompensation agreements with employees and planstructure obligations. Among these are:■ Monthly stipends based on plan formula;■ Disability entitlements; and■ Death benefits.An important focus of this area will be on theprocess of how benefits are revised and whetherthere are built-in factors that could cause futurepension benefits to increase substantially. Examplesare pension benefit increases or accelerations thatcould increase or accelerate payments of pensionbenefits, such as early retirement legislation, orchanges in the method of calculation of eligiblecompensation as the basis for pension payments. Inaddition, Standard & Poor’s will need to assess thehistory of retiree benefit enhancements or otherchanges, and how any modifications were compensatedfor in terms of funding.Other areas to be reviewed are the vesting rightsof employees, as well as obligations for terminationpayments by the plan when an employee withdrawsfrom the plan or government employment.Pension Fund Unfunded Actuarial AccruedLiability And Funded RatioA pension fund’s unfunded actuarial accrued liability (UAAL) and funded ratio aretied to the fund’s actuarial value of assets (AVA) and actuarial accrued liability(AAL). The UAAL is established by subtracting the fund’s AVA from the fund’s AAL.When the difference is a positive number, it means that the AVA is not sufficient tocover the AAL. Conversely, when the difference is a negative number, it means thatthe AVA exceeds the AAL. The funded ratio is derived by dividing the fund’s AVAby the AAL, and is important in quantifying the adequacy of the pension fund’saccumulated assets.Assessing Pension Fund Operating And Financial PerformanceIn addition to the UAAL and funded ratio, Standard & Poor’s employs a variety ofquantifiable metrics in order to gauge a pension fund’s operating and financialperformance. These metrics include:■ Actuarial discount rate assumptions.■ Return on investments, return on assets (change in net assets divided bytotal assets), and return on net assets (change in net assets divided bynet assets).■ Total margin (change in net assets divided by total revenue).■ Pension benefit expense service delivery efficiency■ Annual pension expense (employer contributions) as a percentage of thesponsor’s budget.■ UAAL as a percentage of the sponsor’s budget.■ UAAL per capita (for the sponsor’s population).■ UAAL as a percentage of the sponsor’s per capita income.■ Historical pension fund balance sheet and liquidity trends.■ Historical pension fund income statement trends.Furthermore, Standard & Poor’s will closely examinethe pension fund’s actuarial assumptions,including funding method, asset valuation smoothingassumptions, mortality, and inflation. Analyticalquestions include:■ Is participation optional, allowing for competingplans and possible withdrawal of participants’and sponsors’ contributions and shares of assetsinto other pension plans?■ Under what conditions can employee terminationwithdrawals occur and what has been the historicalexperience?■ If non-vested, do employees have rights to theircontributions alone, or are they also entitled tobenefits with respect of employer contributionsmade on their behalf?■ If termination payments are made to the employees,do sponsor contributions remain in the planor revert to the sponsor?■ Has there been a change in actuaries and/or haveany significant actuarial assumptions been altered?Operating and financial performance measurementsStandard & Poor’s employs trend analysis to assesspublic pension fund operating and financial performance.Depending on the metric, the trendanalysis timeframe can range from three to tenyears, and the analysis will determine the underlyingfactors behind positive or negative changes.Standard & Poor’s will conduct its trend analysis inthe context of the pension fund’s various managementfactors, which include funding objectives andfinancial risk acceptance.Standard & Poor’s begins its operating and financialperformance trend assessment by analyzing thepension fund’s funding ratios. Specifically,Standard & Poor’s will look at the pension fund’sunfunded actuarial accrued liability (UAAL) andthe funded ratio.Overall, the higher the funded ratio, the morelikely that accumulated assets will be able to supportannual benefit obligations. Generally,Standard & Poor’s will favorably view a pensionfund with a funded ratio trend that is stable orincreasing. Although funded ratios that are 100%or higher are viewed most favorably, Standard &Poor’s understands that keeping a pension system ator near full funding is a very difficult balancing actand may not be desirable.For example, very strong funding levels can resultin greater pressure to increase benefit levels.Further, in actuarially funded pension systems, fullfunding results in downward pressure on the contributionrate and, in some cases, outright contributionholidays. Benefit enhancements and/or contributionholidays have the potential to pressure thewww.standardandpoors.com333