Lufthansa: Senior discounts

The big news in Lufthansa's first-quarter results on Tuesday was not planes, but pensions: the German airline group's pension obligation doubled in the past year, to €10bn. Mismanagement is not the cause, nor is the German airline group alone: pension liabilities are rising across Europe. Obligations at BASF and Ericsson doubled too.

So far, this has not done much to hurt stock prices. Yet the numbers are big - the increase amounts to €5bn at Lufthansa - but pension payments are spread over many years (12 to 25 on average in Europe).

Accountants and actuaries routinely calculate the present value of future pension payments. Changes in the interest rate, mortality expectations and inflation can drastically change the number. The German AA corporate bond rate fell from 2.7 to 1.3 per cent in the past year. Take a £100 payment due in 20 years as a simple example: that rate move would increase the current liability by a third. A 1 per cent fall in rates would, on average, cause a 16 per cent increase in the obligations of the 50 largest European companies, according to Standard & Poor's.

Rates can, of course, reverse. But pension liabilities also affect cash flow. Current pension costs still have to be paid. They amounted to 10 per cent of earnings for Euro Stoxx 600 companies in 2010/11, according to Mercers, a consultancy.

Most companies 'fund' their pension by buying assets (usually equities and bonds) to match future pension liabilities. Big scary pension deficits can force companies to make special contributions - diverting cash from debt reduction, dividends and so on.

The portion of pension liabilities in the US, UK and Germany that are fully funded has decreased since 2013. If rates fall further, the problem will worsen. Pension liabilities are also included in leverage calculations. While corporate credit ratings have not been downgraded to reflect that rising leverage, this could change.

None of this is yet reason for panic at Lufthansa, however. Low rates also make it cheap for companies to cover pension contributions with borrowing. But even cheap money is not free.

Email the Lex team at [email protected]

© The Financial Times Limited 2015. All rights reserved.
FT and Financial Times are trademarks of the Financial Times Ltd.
Not to be redistributed, copied or modified in any way.
Euro2day.gr is solely responsible for providing this translation and the Financial Times Limited does not accept any liability for the accuracy or quality of the translation