Will accounting reform be bad for sponsors? The effects of pending pension and other postemployment benefit accounting reform on corporate plan sponsors will be numerous and complex, and require analysis instead of a gut reaction. Indeed, a thorough analysis may yield a very different picture than expected.

• Author: Friedman, Eric
• Position: Pensions

Many believe the pending accounting reform of pensions and other postemployment benefits (OPEB) will be bad for all corporate plan sponsors, will contribute to a decline in the stock price of sponsors with substantial liabilities and will ultimately increase the number of plans that freeze and terminate. This isn't the whole story. It may not even be half the story.

The first phase of the Financial Accounting Standards Board's (FASB) two-part comprehensive review of pension and OPEB accounting will dramatically change corporate balance sheets. On March 31, FASB released an Exposure Draft (ED) with a comment period through May 31, and an effective date of fiscal years ending after Dec. 15, 2006 for the most substantial changes. FASB plans to host a public roundtable on the proposal on June 27.

A study by Watson Wyatt indicates that 10 percent of the aggregate shareholders' equity in the Fortune 1000 will be wiped out, with even greater changes in some industries, such as manufacturing.

Changes of this magnitude are not something that corporate finance executives take lightly, but how should they be taken? How should this situation be viewed--where the theoretical economics of the plans does not change, but the reported accounting measurement of that economics changes substantially? To what extent does changing the way FASB mandates how to measure postretirement plan economics affect the economics itself? How do all of these things affect the thinking process that plan sponsors should use to make decisions?

These questions have no simple answers. To address them requires a step back from the mechanics of how FASB requires calculating items for financial statements and a review of how the financial community uses those statements.

Financial statement users look at the reported financials with a critical eye, and make many adjustments to those financials before incorporating them into their models. They do this for several reasons, one of the key reasons being that many people believe that the reported financials do not always paint the best picture of economic reality. The practice of adjusting financial statements is extremely common among equity analysts and credit rating agencies, and postretirement benefits are one of the key areas with which they make these adjustments.

Consequently, while an analysis of postretirement benefit finances should include the reported financials, it should also address the question of how markets view and treat those financials. For this, we can analyze the effects of postretirement benefit accounting reform by looking at how the financial market's view of plans will change--that is, we will ask how accounting reform will affect the share prices of plan sponsors.

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