2009-06-11_Agenda Packet--Dossier de l'ordre du jourIt.
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City of Saint John
Common Council Meeting
Thursday, June 11, 2009
Committee of the Whole
1. Call to Order
4:00 P.M. Council Chamber Open to the Public
1.1 Morneau Sobeco Presentation: Financial Advisory Services to the Employee
Pension Plan - Meeting 3
City of Saint John
Seance du conseil communal
Le jeudi 11 juin, 2009
Lieu : Salle du conseil communal
Comite plenier
1. Ouverture de la seance
16 h - Salle du conseil communal
1.1 Morneau Sobeco: Regime de retraite des employes des services consultatifs
financiers - reunion numero 3
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> Objectives for Today's Meeting
- Review decisions reached at Meeting #2
- Respond to questions posed at Meeting #2
- Establish "goalposts" for Council's risk tolerance
- Risk mitigation strategies:
• Liabilities & Plan Design - Core versus Target
• Assets & Investment strategy - Equity / fixed income
• Discuss Actuarial Valuation Basis Assumptions
- Benefit and Funding Policy Statements
2
> Recap of Last Meeting + Question Posed in Meeting #2
> Critical Assumption
> Pension Plan Risk and Mitigation
- Establish "Goalposts" for Council's Risk Tolerance
- Pension Plan Design Concepts
- Liabilities & Plan Design
- Cost Sharing
"Core" versus "Target"
> Design of Core and Target Plans
> Actuarial Valuation Basis and Assumptions
> Benefits and Funding Policy Statements
> Next Meeting
> Questions?
3
> Recap of roles in project
finances - "Real Deficit Solution"
> Basic Pension Plan fina of multiple strategies
al solution will require combination
- Fin
• More cash in relative to benefit costs
• partial investment recovery(?)
• Less cash paid out at and decision making to be
> Confirmed maintain current meeting form
based on majority vote dress current crisis and provide
> Endorsed Encompassing policies to adCouncils and Pension Boards
guidance to future
ect of compensation
confirmed pension plan as a key asp
> Re 2004-2006 raised
Questions concerning fund progression
> 4
Why didn't the positive investment returns generated in 2004-
>
2006 serve to reduce the plan's unfunded liability in the annual
reports provided by the Board?
- Short answer is it did improve the plan's net funded position
been difficult to see this in the Annual Reports from
It may have
the Board, but the numbers were in there
chart uses those numbers and were presented in
The following
the Jan 31, 2009 information session
Examples of labeling: "VOO" refers to figures based on
December 31, 2000; "POI" refers to projected values at
December 31, 2001
valuation
5
6
$500--
$400-
$300-
$200-
$100-1
$0
V00 POI P02 V03 P04 P05 P06 V06 P07 P08
❑ Assets 0 Liabilities ❑ Net Position
6
7
> As the previous chart shows, measured on a consistent
basis, the p an's financia'. position did improve in
2004-2006 by going from a $39 mi .ion unfunded
labilty to an $18 Mi .ion sure us position
> The necessity to strengthen the va: uation basis at the
end of 2006 masked what wou .d otherwise have been
an improved financia'. position (net $31 mi .ion U.L.)
> An aggressive va uation basis such as the City Ran
40 40
has traditiona y used provides itt: e to no margi
n in
40 40
the event actua_ experi
ence is worse than assumed
7
8
> We understand that Council has traditionally used current cash
funding requirement to measure the cost of the pension plan
> Accounting expense is the measure used by private sector
(CICA 3461) and various public sector bodies (PS 3250); if
this measure is what Council is most worried about we will
need to address some additional topics in our discussions
during this project
> DECISION: Is the cash funding requirement the appropriate
measure of the cost of the pension plan that is critical for
Council?
s
> As the Pension Board mentioned in its 2007 Annual Report,
only -20% of a pension plan's benefits are funded by cash
contributions; the balance represents investment returns
generated by the plan fund
> As we know, investment returns are volatile and cannot be
predicted with any certainty
> Council has a maximum amount that it can afford to pay that is
not adequate to address very substantial shortfalls
> Council has identified a 50-50 cost sharing objective
> There are various strategies that Council may adopt to address
this mismatch
9
10
> The way the City wit a ocate risk exposure is a
major decision point
> One of the guiderai s stated by Counci-'
at the outset of
the project is 50-50 cost sharing of the pension pan
with emp ogees
> DECISION: Is Counci'-. stilt committed to the
princip e of equa sharing of p: an costs with p: an
members?
10
11
> The most recent actuarial report identified required City
contributions of between 16% and 17% of covered payroll.
> Council has indicated that contributions in the 40% range
would be devastating.
> What level of contributions to the pension fund should be
targeted as a "normal" situation and what level is maximum?
> We suggest that -20% of pay is a number that Council may
have to live with (we suspect that it will be very difficult to
address the current crisis with less City funding than this - see
following slides)
11
12
> Starting with a plan deficit of -$150M (the December 31, 2008 projected
value), amortizing 50% of this ($75M) would require 12% of payroll for 15
years or 8.5% of payroll for 25 years (exception to the PBA needed here)
> The balance between the City's maximum contribution and the amount
needed to fund the deficit would be available to pay the cost of current
benefits accruing, presently this is -20% of pay
> Assuming a 50-50 cost sharing requirement, total City contributions would
be approximately 22% of pay, slightly above the 20% of possible pay
tolerance as outlined in the previous slide (15 year amortization)
> Note that actual funding required at next valuation may be greater
> DECISION: What is the maximum level of contributions, as a % of pay,
that Council feels the City's budget can withstand for an extended and
indeterminable period of time?
12
13
> The City contributes to the pension plan by its cash deposits
and its 50% share is easy to measure
> How do we allocate the 50% share to plan members?
> Recalling the "Real Deficit Solution", this means either more
cash into the plan or less benefits paid out
> More cash in solution:
- Increased contribution rates for active plan members
- No contribution from or impact on retirees
> Less benefits paid out
- Can be designed to share impact among both active and retirees
13
14
> Relevant factors to keep in mind:
- Over 50% of current pension liability relates to retirees and this
will continue to grow as the plan matures further
- If retiree benefits are considered completely inviolate in all
aspects, this means that active members will bear full exposure
to financial risk; is this equitable?
- In order to fund equal cost sharing with the City, active member
contributions would be -20% of pay and / or equivalent benefit
reductions, a level that we believe may not be reasonable relative
to the value of the benefits earned
- Propose proportionate sharing of risk among all plan members
> DECISION: Should the cost sharing of risk include retirees?
14
15
> Assuming primary too'- for sharing increased costs of
p .an with members wi:., be "_ess money out'
- Need to design approach that is easily adaptable from
year to year without substantial special intervention
- Must not create benefit "cliffs" to preserve equity
among groups of plan members (avoid "have" / "have
not" groups) or incenting actions that would create
experience losses for plan (early retirement)
- Must be transparent and fair allocation among plan
members and maintain 50-50 sharing with City
15
16
> Need to define plan benefits that can adapt to changes in the
plan's funded situation without creating a crisis
> Propose to define following:
- "Target Plan" representing the level of benefits supportable
during normal times at the target funding level (Target for
service to date based on current design; future benefits differ?)
- "Core Plan" that represents a lower level of benefits that could
be guaranteed by funding at a level no greater than the maximum
amount that the City is prepared to pay
> To the extent benefits paid fall short of the Target Plan, this
would be considered a "contribution" made by plan members
> Upgrades from the "Core" to the "Target" level would be
contingent on the plan's ability to support them
16
17
> All stakeholders agree that the obj ective is to provide the
Target Plan but that this is subject to fiscal prudence as
measured by the plan's funded position
> When shortfalls occur, the City puts more in through additional
cash contributions while members "contribute" more by
receiving benefits less than the Target level
> By appropriately managing the contributions from the City and
members, this approach would be consistent with the 50-50
cost sharing guiderail established by Council
> When plan shortfall is
return to Target level ~
contributions made in
of significant surplus)
eliminated, contributions and benefits
in a go forward basis (recapture of extra
prior years contingent on development
17
18
> In terms of 50-50 cost sharing, a mechanism needs to
be deve'-oped which ensures that the princip: e is
maintained t lroughout investment cyc, es as markets
move up and down
> P_an design needs to incorporate these princip-es and
be managed in a transparent, understandab e manner
so a:. parties can appreciate what the imp-ications of
positive and negative investment returns are for them
18
19
> In our examples in the upcoming sides, we have
assumed t Zat retired members wou. d share the risk
rough-y proportionate to the re. ative share of
-iabi_ities in the p. an
> In addition, we have assumed that any p. an design
changes wou-d avoid creating any c_iffs in benefits
> In other words, we want to fair,.y a. ocate financia'..
exposure without creating a -arge exposure to
experience _osses
19
20
> How to reasonably allocate impact of plan changes among
employee groups, maintain equity and avoid benefits cliffs?
> Note that benefits for both active members and retirees include
provision for increasing the current dollars of pension
promised based on future events (salary increases for active
members and indexing of pensions for retirees)
> Propose to consider temporarily suspending these future
increases while plan has an unfunded liability
> Value of benefits foregone represents members' "contribution"
to amortizing unfunded liability (see following slide)
20
21
Based on current valuation assumptions and plan provisions, the
following graph shows sample potential "contributions"
Core Plan versus Target Plan -Age 25
80 85
21
22
Based on current valuation assumptions and plan provisions, the
following graph shows sample potential "contributions"
Core Plan versus Target Plan - Age 46
- ` _ -
65
70
75
23
80 85
22
45 50 55 60
Based on current valuation assumptions and plan provisions, the
following graph shows sample potential "contributions"
Core Plan versus Target Plan - Retired Age 66
65
70
75
24
80
85
23
> Indexing: Suspending guaranteed indexing is the only way for
retired members to contribution to amortizing the unfunded
liability (other than direct reduction in pensions currently paid
which is not advised) and provides a mechanism whereby
active members contribute without creating benefit "cliffs
> May be subject to discontent, legal challenges
> Example Calculation:
- Estimated liabilities at end of 2008 of -$214M for retirees and
-$200M for active plan members
- 2006 actuarial valuation assumed retiree benefits indexed at
1.0% 12.0% and active benefits at ~3.0% (salary scale)
- If no indexing given in a year additional member "contribution"
made towards improving plan's funded position is -$9M
24
25
> If members make additiona= contribution to unfunded
iability by temporary suspension of indexing of
benefits earned to date this wi-- generate - $9M /year
> Members' $75M share of estimated unfunded _iabi. ity
(50% of $150M) wou. d be paid off in - 10 years
(assuming no gains or _osses occur in the interim)
> Indexing of benefits for p'-an members (active and
retirees) wou d recommence on a go forward basis
> Mechanism to trac 50-50 cost sharing discussed'-ater
25
26
- Is Council comfortable
with the basic
- Does Council
making additional
unfunded liability
indexing
the
Target and a Core plan
design.
"contributions" to amortizing
the
than the Target level (i.e. temporarily suspending
of benefits) and crediting the value of this in
calculation of 50-50 cost sharing?
concepts of a
endorse the concept of m
embers
plan has by pa in bene
has Nu 111 ucnerit
y g fit
any
s less
26
27
BALANCING MECHANISM
> As evident in the example cited previously, in 50-50 Cost
Sharing, there may be occasion wherein one party may be
making greater current contributions than the other in any
given year or even over a period of years
> Tracking mechanism required to account for these differences
and ensure that long term 50-50 cost sharing is achieved
> Propose that this be done by tracking an Accumulated Net City
Contributions Owed as defined on following slide
27
28
- Total cash contributions mduc' vy uers (active and retiree) due to
"contributed" by plan memb i , less
- V alue of benefits in the current Year;
suspension of indexing Total cash contributions made by the City
-
Accumulated Net City Contributions Owed
wed plus
>
- Sum of individual year's Net City Contributions owed
interest calculated at valuation rate
fit indexing, the Accumulated Plan's funded position is assessed Net
When the Pe to
>
consider resumption of bene hide0 plan
city Contrib assets
utions Owed would e inc
28
29
BALANCING MECHANISM
> The Accumulated Net City Contributions Owed keeps track of
any variation from 50-50 cost sharing
> When a positive balance, plan members have contributed more
than the City to the plan and greater than matching funding
from the City is due to restore the balance
> When a negative balance, the City has contributed more than
plan members and can make less than matching contributions
> DECISION: Does Council endorse this type of concept to
track and balance the 50-50 cost sharing?
29
30
employees provisions that
> Note that current plan design may include do not fit well into longer term needs (see following
slides)
30
31
~~1 1 y r►1..J w71 - - i •
o « " rovides retirement income
- Annual 21o stack benefit p
o come in many cases (see
equal to X90/o of working in
following slides)
31
32
Income Replacement Ratio
Age of Hiring: 25, Earnings Level: $40,000
Early CPP
i
=
100.00%
O
~
M
80.00%
=
60.00%
40.00%
20 00°/
a 0.00%
55 60 65 60 65 65
Retire at 85 Points Retire at 60 Retire
at 65
Age
® Employee Pension ❑ CPP ❑ OAS O Earnings Before Retirement
32
33
N
o ~
~w
a~
ca ~
as
c E
as
i
as
Income Replacement Ratio
Age of Hiring: 25, Earnings Level: $60,000
Early CPP
100.00%
80.00%
60.00%
40.00%
20.00%
0.00%
55 60 65 60 65 65
Retire at 85 Points Retire at 60 Retire
at 65
Age
® Employee Pension ❑ CPP ❑ OAS o Earnings Before Retirement
33
34
Income Replacement Ratio
Age of Hiring: 35, Earnings Level: $40,000
Early CPP
N
m 100.00%
80.00%
0 U' 60.00%
40.00% -
.i 20.00%
a 0.00% -
60 65 65
Retire at 60 Retire at 65
Age
® Employee Pension ❑ CPP ❑ OAS o Earnings Before Retirement
34
35
Income Replacement Ratio
Age of Hiring: 35, Earnings Level: $60,000
Early CPP
N
d ~
a E
O
mw
c
m
c E
m
i .i
d ~
100.00%
o
80.00 /o
60.00%
40.00%
20.00% -
0.00%
60 65
Retire at 60
65
Retire at 65
Age
® Employee Pension ❑ CPP ❑ OAS Earnings Before Retirement
35
36
> Once we have pre_iminary sense from Counci- of
what a Core P_an and a Target Ran cou: d . ook : ike,
we can cost such reductions accordingly with more
accuracy and present at next meeting
> Fair: y soon after that, other Stake-lo'ders shou-d be
invited to provide feedback (but in t ze end, this
remains Counci'-'s decision)
> DECISION: How wou_d Counci'- wish to proceed
with the detai'-ed design of the Target and Core p-ans?
36
37
> Asset and Investment Strategy is an important issue that will
need to be addressed in terms of Council's risk tolerance
> Further information on the current investment strategy has very
recently been received by us and we will have more detailed
comments at our next meeting
> We note that there has been a significant shift in investment
policy over the past few years as the allocation to fixed income
assets has been reduced from 45% of the portfolio to 25% and
three new asset classes have been introduced (10% Real Estate
10% Hedge Funds and 5% Private Debt)
37
38
> Actuarial valuations do not determine what a plan's actual
costs are, they simply serve as a yardstick to measure if the
plan is on track to prudently provide for promised benefits to
plan members when they retire
> Most recent valuation incorporated significant strengthening of
valuation basis to more accurately reflect current realities
> Most critical assumption was 4.15% real rate of investment
return after fees (2007 Investment Policy Goal was 3.85% after
fees which would be consistent with a 3.40% net assumption)
> City Plan has consistently utilized an aggressive valuation
basis producing relatively modest estimates of current costs
versus benefits promised
38
39
> Given the size of the pension plan compared to payroll and the
ris s this implies, we suggest that a margin should be built in to
allow for mitigating the impact of volatility
> This could involve both asset strategies (to be discussed at a
later meeting) and increased conservatism in assumptions
> Conservatism in assumptions would help the City and plan
members to help reduce the risk of future adverse situations
diminishing the health of the plan
> IMPORTANT: Future economic downturns will most likely
occur
need to be prepared for this
39
- both the liability and asset side of the balance sheet
40
> Benefit and Funding Po-icy wou_d out-ine funding
and benefit'eve-s that wou_d depend on the financia'-
strength of the Ran
> Benefit and Funding Po-icy wou: d out-ine what
contributions /benefit changes may be required
depending on whether t ze P-an is in ba.ance or not
and how t Zese shou_d be imp-emented
40
41
> Cash vs. Accounting: Is the cash funding requirement the
appropriate measure of the cost of the pension plan that is
critical for Council?
> 50-50 Cost Sharing: Is Council still committed to the
principle of equal sharing of plan costs with plan members?
> Maximum City Contribution: What is the maximum level of
contributions, as a % of pay, that Council feels the City's
budget can withstand for an extended and indeterminable
> Retiree Cost Sharing: Should the cost sharing of risk include
retirees?
41
period of time?
42
> Target/Core Plan Design: Is Council comfortable with the
basic concepts of a Target and a Core plan design?
> Member Contributions via Foregone Indexing: Does
Council endorse the concept of members' making additional
"contributions" to amortizing any unfunded liability the plan
has by paying benefits less than the Target level (i.e.
temporarily suspending indexing of benefits) and crediting the
value of this in the calculation of 50-50 cost sharing?
> Balancing Mechanism: Does Council endorse a "Balancing
Mechanism" type of concept to track and balance the 50-50
cost sharing?
> Target/Core Plan Design: How would Council wish to
proceed with the detailed design of the Target and Core plans?
42
43
> At our next meeting, Counci'- wi__ need to provide
furt--ier direction on:
- Target Plan provisions
- Core Plan provisions
- Methodology for Managing Benefit Levels
- Asset & Investment Strategy
- Actuarial Valuation Basis
- Benefit & Funding Policy
- Future feedback from Stakeholders
43
44
> Any questions?
44
45