First Executive Casts a Shadow Over Pensions : Insurance: Retirees who get monthly checks from the firm’s annuities worry about its junk bond holdings. Company and state officials offer reassurances.
The pensions of thousands of retirees scattered across the United States are precariously dependent on the financial health of First Executive Corp., a Los Angeles insurance holding company with nearly half its investments in junk bonds.
Former workers at Pacific Lumber in Northern California, Cannon Mills in North Carolina, Revlon in New York and Standard Gravure in Kentucky receive their monthly benefit checks through annuity contracts with First Executive’s California subsidiary, Executive Life Insurance Co.
The federal government, which guarantees retirement plans for 40 million workers, says flatly that it has no responsibility for protecting pensions after companies cancel their traditional pension programs and switch to insurance annuities. This makes increasing numbers of retirees dependent on 44 separate state guarantee funds, which pledge to tap other companies to pay off policyholders of failed life insurance firms.
Californians, however, lack even the basic protection of a state fund. If a life insurance company collapses, there is no financial safety net for the retirees getting annuity checks. The other states without guarantee funds are Alaska, Colorado, Louisiana, New Jersey and Wyoming; the District of Columbia also lacks such a fund. (California does operate a guarantee fund for the customers of property-casualty companies, which insure homes, businesses and autos.)
State and company officials, eager to reassure retirees and other policyholders, are quick to point out that First Executive and Executive Life are operating normally.
“The company is in very robust financial health,” said Allan L. Chapman, senior vice president of Executive Life. “Even suggesting we won’t perform on obligations is far-fetched.”
The California Department of Insurance has an examiner on site at Executive Life. “It’s pretty much business as usual,” said department spokeswoman Carey Fletcher. “It’s extremely premature and not even appropriate to discuss liquidation.”
However, the collapse of Drexel Burnham Lambert, the premier firm in the junk bond field, and the persistent turmoil in the junk bond market have focused new attention on First Executive, which has 45% of its total assets in the high-yield bonds. This is an extraordinary concentration for the normally staid insurance business, which had just 3.6% of its assets in junk bonds at the end of 1988.
First Executive announced in January that it will take a $515-million charge against fourth-quarter earnings to account for the declining value of its junk bond portfolio. And the company, which has acknowledged that junk bond market conditions “may get worse before they get better,” is expected to post a $300-million loss for the year.
Some big names in the insurance business--Cigna, Equitable, John Hancock, Prudential and Aetna--have large holdings of junk bonds. (Junk bonds are high-risk, high-yield debt securities that are rated below “investment grade” by services such as Standard & Poor’s and Moody’s.) But these represent a relatively small share of the companies’ total assets. First Executive has by far the biggest exposure.
All of the pension checks from First Executive have arrived on time. But there is an unmistakable sense of nervousness, especially among workers aware that the certainty of federal guarantees has been swapped for the clouded future of an individual private firm.
Lester Reynolds, a 34-year veteran at Pacific Lumber, told a Senate hearing recently: “I have a brother-in-law in Montana who lost part of his pension due to a buyout two years before he retired. I have a second cousin in Virginia who lost his pension due to a buyout and had to work until he was 65 and then live off Social Security. I don’t want this to happen to me or anyone at the Pacific Lumber Co. or any other working person in this country.”
Executive Life annuities have replaced pension plans at Pacific Lumber, Revlon, McCrory Corp., Bulova Watch, Grove Manufacturing, Cannon Holding Corp., Walter Kidde, Jade Corp., National Forge, H. H. Robertson, Standard Gravure, Strachan Shipping and Peralta Hospital in Oakland, according to reports gathered by the Senate Labor Committee. More than 50,000 people participate in the plans, according to preliminary estimates.
The U.S. Senate Labor Committee and the California Assembly’s Finance and Insurance Committee have asked First Executive for a complete list of its annuity customers.
Since 1981, employers have canceled more than 2,000 pension plans, removed $20 billion in surplus assets and replaced the plans with annuities covering 2.3 million people, both retirees and active workers. The cancellation and selection of an insurance carrier was considered a routine matter, with the government asking only that the insurance company be licensed in at least one state.
No one paid much attention until the current crisis in junk bonds. In fact, officials at the federal Pension Benefit Guaranty Corp. say they have no way of knowing which companies bought First Executive annuities without checking through the files of thousands of individual firms.
For pension recipients, an insurance company failure in California would be “like a bankruptcy; they become creditors like anyone else,” said Jana Lee Pruitt, senior counsel for the American Council of Life Insurance.
Even in states with life insurance guarantee funds, retirees receive only partial protection. The fund can make assessments of up to 2% of the premiums collected in the state. For example, a company with premium income of $100 million would pay $2 million to help reimburse the clients of a failed firm.
However, for most state guarantee funds, the maximum payment for an annuity holder is limited to $100,000. For a retiree getting a $1,200-a-month pension, the money will run out in a scant seven years.
Patrick Johnston (D-Stockton), chairman of the Assembly Finance and Insurance Committee, said he’s unsure whether California should create a fund.
“I’m very sympathetic to working people and retirees who have absolutely no control over their pensions and find out that corporate raiders looted the funds and bought annuities from a high-risk company,” Johnston said. “On the other hand, individual people who choose to make investments by purchasing annuities are doing so presumably with the knowledge that their investment is at risk if the company fails.”
Johnston said California insurance companies have indicated that they would support a fund if their assessments could be deducted against their state taxes. “This makes the state’s general fund the guarantor,” Johnston said. “That means the state has less revenue for other purposes because the insurance companies can pay off their fallen brethren.”
California retirees are likely to be protected even if First Executive fails, according to Earl Pomeroy, president of the National Assn. of Insurance Commissioners.
“In the unlikely event it would go under, given its size and prominence, there would be participation by the life insurance industry generally to prevent a catastrophe for policyholders,” said Pomeroy, who is the North Dakota insurance commissioner.
Pomeroy’s organization, which drafts model laws for the states, is preparing recommendations for restrictions on junk bond investments. The standard may follow regulations in Illinois and other states that bar companies from placing more than 20% of their assets in junk bonds, he said.
There is precedent for an industry-organized bailout for one of its own members. When Baldwin United, an insurance holding company, failed in 1985, other companies intervened to protect policyholders, Pomeroy noted. Some people who had annuity contracts with variable interest rates lost money because they received the minimum interest rate available under the contracts.
Meanwhile, Pomeroy is advising both management and workers to cast a skeptical eye on the shutdown of pension plans.
Employes should “aggressively question” the company management if it appears that pensions will be “placed in any way at risk,” he said.
If a firm “has the money in the bank (to pay for pensions), what could be more secure than that?” he observed.
The Pension Benefit Guaranty Corp. is taking a tough new line on the substitution of insurance annuities for pension funds. Previously, the agency simply accepted an after-the-fact letter stating that an insurance company had been selected to provide the annuity. Now, the PBGC will insist on advance notification.
The agency will investigate the insurance company, and if there are financial problems, the Labor Department will refuse to approve the transaction, James B. Lockhart III, PBGC executive director, said in an interview.
However, Lockhart can offer no reassurance for retirees whose companies have already swapped pension plans for annuities. “In this climate, it would be crazy for us to volunteer for insurance that Congress did not want us to undertake,” Lockhart said.
The PBGC collects premiums from corporations for its pension guarantee funds. Since the agency doesn’t regulate insurance companies or collect premiums from them, it cannot provide any federal guarantees for the pension annuities, Lockhart said.
Sen. Howard M. Metzenbaum (D-Ohio) is hoping that concerns surrounding First Executive’s junk bond holdings will help in his long-running campaign to stop companies from removing surplus cash from pension funds.
Employers have been using “their workers’ pension plans as corporate piggy banks,” Metzenbaum said.
The senator held a hearing last month on “junk pensions,” featuring testimony by Reynolds, the Pacific Lumber employee, who is participating in a lawsuit seeking to cancel the adoption of an Executive Life annuity.
“No one has lost any money yet, but obviously people are worried,” said Jeffrey Lewis, the attorney for the Pacific Lumber employees and retirees.
Maxxam Group took control of Pacific Lumber in 1986, using a $55-million surplus in Pacific’s pension fund to help pay for the takeover. The pension plan was terminated and replaced by an Executive Life annuity.
First Executive, meanwhile, had purchased more than $300 million in Pacific Lumber junk bonds used to pay for the takeover.
Despite Metzenbaum’s complaints, the Labor Department has ruled consistently that any surplus in a corporation’s pension fund belongs to the business, not the workers and retirees.
The Senate Labor Committee gave him a preliminary victory last week, approving a bill setting tougher standards for pension plan terminations. However, prospects are highly uncertain for passage of the bill by the full Senate or by the House. And it is strongly opposed by the Bush Administration and by business.
