1 Pensions and Corporate Performance: Effects of the Shift from Defined Benefit to Defined Contribution Pension Plans James Brander and Seán Finucane (Presenter)

2 Outline Background Previous literature Theoretical model Data Results

3 Background Over $10 trillion currently in US pension plans Long slow shift from Defined Benefit to Defined Contribution What effect does this have on corporate performance?

4 Previous Literature Incentive effects (Lazear (1983)) Kotlikoff and Wise (1984) Shift from Defined Benefit to Defined Contribution (Friedberg and Webb, 2003) Relationships between pensions and productivity (Cornwell and Dorsey, 1997,2000)

5 Pension accruals – DB vs. DC Friedberg and Webb (2003)

6 Why change from DB to DC? DC plans shift market risk to employee DC plans are perceived as less expensive DC plans are perceived as less risky DC plans are more portable DC plans have smooth contributions through the lifetime compared to DB plans So why doesn’t everyone go DC?

7 Why would this affect corporate performance? We presume a correlation between the desire to work longer (i.e. retire later) and worker productivity Compensation may differ from the value of the marginal product Those who want to work longer are more likely to choose firms with DC plans Those who are unhappy can leave more easily with a DC plan

8 Theoretical model V t ( 0) = u(w t,e t,α) + γE(V t+1 ) V t (1) = u(P t ) NV t = V t (1) – V t (0) π t = s t (w t,e t,β) + γE(π t+1 )

9 Data – P&I Pensions and Investments magazine survey of top 1000 pension funds Survey augmented by P&I research staff Contains total assets, fine breakdown of asset allocations Our study only uses publicly traded companies for the sample Firm data from Compustat

10 Alternative Data Source – Form 5500 Must be submitted by all firms in the US with over 100 employees to the Department of Labor (every 3 years for smaller firms) Electronic data available from 1993 to present Includes broad asset allocation data, actuarial assumptions and total liabilities

11 Pension assets

12 Largest corporate sponsors

13 Shift to DC plans

14 Panel Structure YearFirms# of years in data# of firms Total Observations 2879Total Firms616

15 Initial Results – Simple OLS (ROA=ß*DCShare) Year aggregate DC share3.24** (2.5) 3.08** (2.1) 8.2*** (5.8) 4.77*** (3.5) 6.27*** (3.8) 8.52*** (5.6) 6.34*** (4.9) 5.42*** (9.9) constant4.0*** (6.0) 3.3*** (4.2) 1.6** (2.2) 2.4 *** (3.3) -.6 (.6) -1.5* (1.7).1 (0.2) 1.5*** (5.1) adjusted R observations

16 OLS with controls

17 Panel Results

18 Balanced Panel Dependent Variable average roa Change in roa: roa 1997 DC share6.60*** (4.80) 5.50*** (3.81) 6.24** (2.47) change in DC share 7.53** (2.28) 1997 return on assets.32*** (3.81) -.81*** (7.0).22* (1.7) industry fixed effectsF(16,219) = 92 *** F(17,218) = 1458 *** F(16,218) = 199*** F(17,218) = 2393*** constant0.58 (0.3) -1.5 (1.0) (0.4) 2.1 (0.9) robust errorsYesyes R2R observations238

19 Conclusions Increased use of defined contribution plans seems to be related to increased corporate performance (ROA, OROA, ROE) We interpret this to be caused by improved worker mobility and retirement decisions

20 Comments? Suggestions?