Act fast to secure schemes when sponsors see distress

The economic road ahead looks bumpy. Mike Birch, TPR’s Director of Supervision, tells defined benefit trustees how they can prepare and what to expect from the regulator

You face a challenging journey. Rain lashes down. The road is slippery. You worry your precious cargo won’t survive the trip.

You don’t call road recovery services before setting off. You use the tools you have to prepare. From checking the route for accidents to packing a first-aid kit. Preparation makes it more likely you will reach your destination without needing help.

Last month, the International Monetary Fund warned the world economy faces a long, slow recovery from COVID-19. It seems likely some UK employers will start to struggle. Employers in many sectors will also need to ensure they are properly prepared to minimise any adverse impacts from the changes arising from Brexit.

We’ve published guidance, on how trustees can protect schemes from corporate distress so trustees know what to look for and the options they have available. It empowers trustees to be aware of risks and tackle challenges themselves, allowing TPR to concentrate resources where they are needed most.

Early warning signs

In the same way we’d check the weather before leaving, there are early signs of potential distress trustees must be vigilant of. These include:

  • impending debt maturities
  • debt covenant breaches or waivers
  • high leverage
  • requests for deficit repair contribution deferrals
  • key management changes
  • credit rating downgrades

Information gathering

Trustees need robust financial information from an employer. If this is not forthcoming, they must be clear in their expectations and the employer’s responsibilities to the scheme, as a major creditor. It may feel difficult or awkward to probe a struggling employer. But trustees’ most important role is protecting members. They should not support an employer blindly.

Employers must understand trustees can’t offer support without securing protections in return. This means they must have as complete a financial picture as possible.

In restructuring negotiations, other creditors will seek protections which are often detrimental to the employer’s ability to support the scheme. Trustees must have a seat at the table during restructuring conversations. They must be treated on an equal footing as any other financial stakeholders.

Good governance

To prepare for a potentially difficult ride, trustees should consider a governance MoT, filling up on quality financial information and upping their skills before setting out. This will give schemes the best chance of being able to offer reasonable, justifiable support to an employer while still protecting their members.

Financial distress isn’t unique to today’s uncertain economic situation. Our supervision teams have long supported trustees grappling with such issues. Usually, it’s those schemes with good governance that are best prepared to face the challenges caused by a distressed employer.

Now’s the right time to ensure the right standards are followed and that trustees are confident they have the knowledge, skills and understanding to manage the challenges – even if that means paying for professional advice.

Conflicts of interest are a familiar area of concern for TPR’s supervision teams. In a downturn, significant conflicts are more likely. Trustees may be unwilling to challenge an employer who pays their wages. Some may worry about being a “problem” when redundancies are possible. Conflicts can stop trustees focusing on their chief role as members’ first line of defence. Trustees should explore whether they need extra training and advice so that emerging conflicts can be dealt with effectively.

Restructuring and insolvency are complicated areas. Both may lead to a weakening of covenant. Trustees should explore whether they feel more training or advice in assessing covenant strength would be helpful.

Clear expectations

TPR can’t get involved with every scheme. Where we do get involved we’ll be clear about our expectations, consistent in our risk-based approach and work to support the trustee in ensuring the scheme is treated equitably. Being ready now will mean trustees will be less likely to need help in the first place.

Trustees must understand that the sooner they act in the face of a distressed sponsor the more options they’ll have to protect members and the more time they’ll have to do it. They will also be able to ensure employers can take account of their concerns before all other stakeholders have finalised their positions. Do not wait until the warning signs appear – use our guidance to get effective risk management processes in place now.

Mike Birch
By Mike Birch
Director of Supervision