|
Background
The
group offers retirement plans to
its employees. The group’s main scheme, the BT Pension Scheme (BTPS), is
a defined benefit scheme where the benefits are based on employees’ length
of service and final pensionable pay. The BTPS is funded through a legally separate
trustee administered fund. This scheme has been closed to new entrants since
31 March 2001 and replaced by a defined contribution scheme. Under this
defined contribution scheme the income statement charge represents the contribution
payable by the group based upon a fixed percentage of employees’ pay. The
total pension costs of the group, included within the staff costs, in the year
was £603 million (2005: £540 million), of which £552 million
(2005: £507 million) related to the group’s main defined benefit
pension scheme, the BTPS.
The increase in the pension cost in the 2006 financial year principally reflects the introduction part way through the 2005 financial year of Smart Pensions, a salary sacrifice scheme under which employees elect to stop making employee contributions and for the company to make additional contributions
in return for a reduction in gross contractual pay. As a result there has been a switch between wages and salaries and pension costs of £19
million in the year.
The pension cost applicable to the group’s main defined contribution scheme in the year ended 31 March 2006 was £19 million (2005: £11 million) and £2 million (2005: £1 million) of contributions to the scheme were outstanding at 31 March
2006.
The group occupies two properties owned by the BTPS scheme on which an annual rental of £2 million is payable. The BTPS assets are invested in UK and overseas equities, UK and overseas properties, fixed interest and index linked securities, deposits and short-term investments. At 31 March 2006,
the UK equities included 15 million (2005: 17 million) ordinary shares of the company with a market value of £33 million (2005: £36 million).
IAS 19 accounting valuation |
In accordance with the amendments to IAS 19 ‘Employee Benefits’ the disclosures below are provided prospectively from the 2005 financial year onwards. BT has applied the accounting requirements of IAS 19 as follows:
| – |
scheme assets are measured at market value at the balance sheet date; |
| – |
scheme liabilities are measured using a projected unit credit method and discounted at the current rate of return on high quality corporate bonds of equivalent term to the liability; and |
| – |
actuarial gains and losses are recognised in full in the period in which they occur, outside of the income statement, in retained earnings and presented in the statement of recognised income and expense. |
| |
|
The financial assumptions used for the purpose of the actuarial accounting valuations of the BTPS under IAS 19 at 31 March 2006 are:
|
Real
rates (per annum) |
|
Nominal
rates (per annum) |
|
|
|
|
|
|
| |
2006 |
|
2005 |
|
2006 |
|
|
2005 |
|
| |
% |
|
% |
|
% |
|
|
% |
|
|
|
Rate used to discount liabilities |
2.19 |
|
2.63 |
|
5.00 |
|
|
5.40 |
|
Average future increases in wages and salaries |
0.75 |
a |
1.00 |
|
3.52 |
a |
|
3.73 |
|
Average increase in pensions in payment and deferred pensions |
– |
|
– |
|
2.75 |
|
|
2.70 |
|
Inflation – average increase in retail price index |
– |
|
– |
|
2.75 |
|
|
2.70 |
|
|
|
| a |
There is a short term reduction in the real salary growth assumption to 0.5% for the first three years. |
| |
|
The net pension obligation is set out below:
|
|
2006 |
|
2005 |
|
|
|
|
|
|
|
| |
|
|
Assets |
|
|
Present value
of liabilities |
|
|
Deficit |
|
|
Assets |
|
|
Present value
of liabilities |
|
|
Deficit |
|
| |
|
|
£m |
|
|
£m |
|
|
£m |
|
|
£m |
|
|
£m |
|
|
£m |
|
|
|
BTPS |
|
|
35,550 |
|
|
38,005 |
|
|
2,455 |
|
|
29,550 |
|
|
34,270 |
|
|
4,720 |
|
Other schemes |
|
|
90 |
|
|
182 |
|
|
92 |
|
|
78 |
|
|
165 |
|
|
87 |
|
|
|
| |
|
|
35,640 |
|
|
38,187 |
|
|
2,547 |
|
|
29,628 |
|
|
34,435 |
|
|
4,807 |
|
Deferred tax asset at 30% |
|
|
|
|
|
|
|
|
(764 |
) |
|
|
|
|
|
|
|
(1,434 |
) |
|
|
Net pension obligation |
|
|
|
|
|
|
|
|
1,783 |
|
|
|
|
|
|
|
|
3,373 |
|
|
|
Amounts recognised in the income statement on the basis of the above assumptions in respect of pension obligations are as follows:
|
2006 |
|
2005 |
|
| |
£m |
|
£m |
|
|
|
Current service cost |
603 |
|
540 |
|
|
|
Total operating charge |
603 |
|
540 |
|
Expected return on pension scheme assets |
(2,070 |
) |
(1,918 |
) |
Interest on pension scheme liabilities |
1,816 |
|
1,720 |
|
|
|
Net finance income |
(254 |
) |
(198 |
) |
|
|
Total amount charged to the income statement |
349 |
|
342 |
|
|
|
Actuarial gains and losses have been recognised in the statement
of recognised income and expense and the cumulative gain recognised
is £2,416 million at 31 March 2006 (2005: £294
million). The actual return on plan assets was £6,925 million
(2005: £3,582 million).
Changes in the present value of the defined benefit pension obligation are as follows:
|
2006 |
|
2005 |
|
| |
£m |
|
£m |
|
|
|
Opening defined benefit pension obligation |
(34,435 |
) |
(32,125 |
) |
Service cost |
(568 |
) |
(507 |
) |
Interest cost |
(1,816 |
) |
(1,720 |
) |
Contributions by employees |
(21 |
) |
(50 |
) |
Actuarial losses |
(2,733 |
) |
(1,370 |
) |
Obligation on acquisition of subsidiaries |
– |
|
(25 |
) |
Benefits paid |
1,385 |
|
1,364 |
|
Exchange differences |
1 |
|
(2 |
) |
|
|
Closing defined benefit pension obligation |
(38,187 |
) |
(34,435 |
) |
|
|
The present value of the obligation is derived from long term cash flow projections and is thus inherently uncertain.
Changes in the fair value of plan assets are as follows:
| |
2006 |
|
2005 |
|
| |
£m |
|
£m |
|
|
|
Opening fair value of plan assets |
29,628 |
|
26,963 |
|
Expected return |
2,070 |
|
1,918 |
|
Actuarial gains |
4,855 |
|
1,664 |
|
Contributions by employer |
452 |
|
382 |
|
Contributions by employees |
21 |
|
50 |
|
Assets on acquisition of subsidiaries |
– |
|
15 |
|
Benefits paid |
(1,385 |
) |
(1,364 |
) |
Exchange differences |
(1 |
) |
– |
|
|
|
Closing fair value of plan assets |
35,640 |
|
29,628 |
|
|
|
The expected long term rate of return and fair values of the assets of the BTPS at 31 March were:
|
2006 |
|
2005 |
|
|
|
|
|
|
| |
|
Expected
long- |
|
|
|
|
|
|
Expected
long- |
|
|
|
|
|
| |
|
term
rate of |
|
|
|
|
|
|
term
rate of |
|
|
|
|
|
| |
|
return |
|
|
|
|
|
|
return |
|
|
|
|
|
| |
|
(per
annum) |
|
Asset
fair value |
|
|
(per
annum) |
|
Asset
fair value |
|
| |
|
% |
|
£bn |
|
% |
|
|
% |
|
£bn |
|
% |
|
|
|
UK equities |
|
7.4 |
|
9.9 |
|
28 |
|
|
8.0 |
|
9.6 |
|
32 |
|
Non-UK equities |
|
7.4 |
|
12.5 |
|
35 |
|
|
8.0 |
|
9.0 |
|
30 |
|
Fixed-interest securities |
|
4.9 |
|
5.6 |
|
16 |
|
|
5.4 |
|
4.6 |
|
16 |
|
Index-linked securities |
|
4.1 |
|
3.2 |
|
9 |
|
|
4.4 |
|
2.8 |
|
10 |
|
Property |
|
5.8 |
|
4.4 |
|
12 |
|
|
6.8 |
|
3.6 |
|
12 |
|
Cash and other |
|
4.0 |
|
– |
|
– |
|
|
4.0 |
|
– |
|
– |
|
|
|
| |
|
6.5 |
|
35.6 |
|
100 |
|
|
7.1 |
|
29.6 |
|
100 |
|
|
|
The assumption for the expected return in scheme assets is a weighted average based on the assumed expected return for each asset class and the proportions held of each asset class at the beginning of the year. The expected returns on fixed interest and interest linked securities are based on the gross
redemption yields at the start of the year. Expected returns on equities and property are based on a combination of an estimate of the risk premium above, yields on government bonds and consensus economic forecasts of future returns. The long-term expected rate of return on investments does not affect
the level of the obligation but does affect the expected return on pension scheme assets within the net finance income.
The history of experience gains and losses are as follows:
| |
2006 |
|
|
2005 |
|
| |
£m |
|
|
£m |
|
|
|
Present value of defined benefit obligation |
38,187 |
|
|
34,435 |
|
Less: Fair value of plan assets |
35,640 |
|
|
29,628 |
|
|
|
Net pension obligation |
2,547 |
|
|
4,807 |
|
Experience adjustment on defined benefit obligation |
(527 |
) |
|
(437 |
) |
Percentage of the present value of the defined benefit obligation |
1.4% |
|
|
1.3% |
|
Experience adjustment on plan assets |
4,855 |
|
|
1,664 |
|
Percentage of the plan assets |
13.6% |
|
|
5.6% |
|
|
|
The group expects to contribute approximately £630 million to the BTPS, including £232 million of deficiency contributions, in the 2007 financial year.
The mortality assumption has been updated to reflect experience and expected future improvements in life expectancy. The average life expectancy assumptions, after retirement at 60 years of age, are as follows:
| |
2006 |
|
2005 |
|
|
Number of
years |
|
Number of years |
|
|
|
Male |
23.8 |
|
23.3 |
|
Female |
25.4 |
|
25.0 |
|
Future improvement every 10 years |
1.0 |
|
0.5 |
|
|
|
The assumed discount rate, salary increases and mortality all have a significant effect on the IAS 19 accounting valuation. The following table shows the sensitivity of the valuation to changes in these assumptions.
|
Impact on deficit
|
|
|
|
|
| |
Increase/(Decrease) |
|
|
£bn |
|
|
|
0.25 percentage point increase to: |
|
|
– discount rate |
(1.4 |
) |
– salary increases |
0.3 |
|
Additional 1.0 year increase to life expectancy |
1.5 |
|
|
|
A triennial valuation is carried out for the independent scheme trustees by a professionally qualified independent actuary, using the projected unit credit method. The purpose of the valuation is to design a funding plan to ensure that present and future contributions should be sufficient to meet future
liabilities. The triennial valuation as at 31 December 2005, is currently being performed and reviewed in the context of recent regulatory developments and the impact of the Crown Guarantee granted on privatisation in 1984. Until that concludes contributions will continue to be paid in accordance with the
2002 funding plan. The contributions for the 2005 and 2006 financial years were based on the 31 December 2002 valuation. The funding valuation is performed at 31 December because this is the financial year end of the BTPS.
The valuation basis for funding purposes is broadly as follows:
| |
– |
scheme assets are valued at market value at the valuation date; and, |
| |
– |
scheme liabilities
are measured using a projected unit credit method and discounted at the
estimated rate of return reflecting the assets of the scheme. |
The
last three triennial valuations were determined using the following long-term
assumptions:
| |
Real
rates (per annum) |
|
Nominal
rates (per annum) |
|
|
|
|
|
|
| |
2002 |
|
|
1999 |
|
1996 |
|
2002 |
|
1999 |
|
1996 |
|
| |
valuation |
|
|
valuation |
|
valuation |
|
valuation |
|
valuation |
|
valuation |
|
| |
% |
|
|
% |
|
% |
|
% |
|
% |
|
% |
|
|
|
Return on existing assets, relative to market values |
4.52 |
|
|
2.38 |
|
3.80 |
|
7.13 |
|
5.45 |
|
7.95 |
|
(after allowing for an annual increase in dividends of) |
1.00 |
|
|
1.00 |
|
0.75 |
|
3.53 |
|
4.03 |
|
4.78 |
|
Return on future investments |
4.00 |
|
|
4.00 |
|
4.25 |
|
6.60 |
|
7.12 |
|
8.42 |
|
Average increase in retail price index |
– |
|
|
– |
|
– |
|
2.50 |
|
3.00 |
|
4.00 |
|
Average future increases in wages and salaries |
1.5 |
a |
|
1.75 |
|
1.75 |
|
4.04 |
a |
4.80 |
|
5.82 |
|
Average increase in pensions |
– |
|
|
– |
|
– |
|
2.50 |
|
3.00 |
|
3.75-4.00 |
|
|
|
a There
is a short term reduction in the real salary growth assumption
to 1.25% for the first three years.
At 31 December
2002, the assets of the BTPS had a market value of £22.8 billion
(1999: £29.7 billion) and were sufficient to cover 91.6%
(1999: 96.8%) of the benefits accrued by that date, after allowing
for expected future increases in wages and salaries but not taking
into account the costs of providing incremental pension benefits
for employees leaving under release schemes since that date. This
represents a funding deficit of £2.1 billion compared
to £1.0 billion at 31 December 1999. The funding
valuation uses conservative assumptions whereas, had the valuation
been based on the actuary’s view of the median estimate basis,
the funding deficit would have been reduced to £0.4 billion.
Although the market value of equity investments had increased
and the investment income and contributions received by the scheme
exceeded the benefits paid by £0.3 billion in the three
years ended 31 December 2002, the deficit has not improved
by the same amount as the liabilities have been calculated on
a more prudent basis. As a result of the triennial funding valuation
the group agreed to make employer’s contributions at a rate
of 12.2% of pensionable pay from April 2006 and annual deficiency
payments of £232 million. This compared to the employer’s
contribution rate of 11.6% and annual deficiency payments of £200 million
that were determined under the 1999 funding valuation.
In
the year ended 31 March 2006, the group made regular contributions
of £396 million (2005: £376 million). Additional
special contributions were paid for enhanced pension benefits
to leavers in the year ended 31 December 2004 of £nil
(2005: £6 million). Deficiency contributions of £54 million
were also made (2005: £nil) as a result of the early payment
of £380 million made in the 2004 financial year that
was scheduled for payment in subsequent years.
Under
the terms of the trust deed that governs the BTPS, the group is
required to have a funding plan that should address the deficit
over a maximum period of 20 years. The agreed funding plan addresses
the deficit over a period of 15 years. The group will continue
to make deficiency payments until the deficit is made good. The
BTPS was closed to new entrants on 31 March 2001 and the
age profile of active members will consequently increase. Under
the projected unit credit method, the current service cost, as
a proportion of the active members’ pensionable salaries,
is expected to increase as the members of the scheme approach
retirement. Despite the scheme being closed to new entrants, the
projected payment profile extends over more than 60 years.
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