Employee Benefits Future Strategy 2006 – Sponsor’s comment: Pension costs warrant a good return

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On 2nd November David Blunkett resigned and John Hutton became the latest in a very long line of ministers responsible for pensions. November also saw the publication of Lord Turner’s long-awaited report. The Department for Work and Pensions has commissioned its own report due out in February. Of all the influences on the future landscape of pensions, the current regulatory review could prove to be the most fundamental. Rumours abound about soft compulsion, Swedish models of central collection and the like.

Irrespective of the political background and the possible introduction of compulsion (which Axa opposes) there are a number of distinct trends and requirements in the market which will continue unabated. We believe the two most significant are the search for value by those employers who sponsor schemes, and the evolution of the investment market for pensions.

The biggest one of these is the increasing requirement for scheme sponsors to secure measurable return on their pension and benefits expenditure. The bottom line cost of a benefits programme, including pensions, can be anywhere up to 25% of payroll, and employers need to be sure this is the most effective way to spend their budget in order to drive the business forward and achieve corporate goals.

This search for value, which has begun, will develop further over the next five years. It will manifest itself in different ways.

Most employers run benefit programmes for two reasons. Firstly, it helps them compete in the ‘war for talent’ i.e. to attract and then retain the right people for their business. Secondly, there is still a paternalistic/facilitation element which leads companies to ‘do the right thing’ for their employees.

Increasingly, this has meant the introduction of voluntary and flexible benefits programmes, which offer short-term tangible benefits such as gym membership that employees seem to prefer over long-term non-tangible employee benefits such as pensions.

Put simply, people don’t value what they don’t understand. The challenge is to change the perception that pensions are arcane and hard to penetrate through effective employee engagement. The next manifestation is the increasing communication capacity of the pensions industry. Axa and others have studied and applied behavioural finance research to understand how to better engage with employees.

Improved engagement raises employee awareness and appreciation of the benefits being provided by their employer, and helps employers secure a return on their investment in employee benefits. Increasingly, employers will set aside a portion of their benefit spend solely for communication. For example, rather than spending 20% of payroll on benefits, they may spend 19% on benefits and 1% on communication.

Advances in communication techniques and technology mean it is cost effective for many employers to segment their workforce and run targeted communication campaigns tailored to the requirements of each segment.

Pensions and benefit strategies will continue to converge, and will lead to growth in aggregation tools and combined benefit statements that will effectively promote the value of the employers’ spend on employee benefits to employees.

Our research shows the most effective communication techniques are via the employer, and that staff want help using examples – often best achieved in a face-to-face environment.

Investment options for pensions are being opened up by regulation. Indeed self-invested options fill the pages of the financial press. Open investment architecture is now the norm providing choice for sponsors, trustees and members alike. But too much choice can paralyse decision-making. Over the next few years, we will see the development of investment solutions designed for members of defined contribution schemes and also for trustees of defined benefit arrangements.

Governance of investment choice will vex the minds of providers, trustees and employers as we look to ensure that scheme members understand their responsibilities and have access to the right investment choices at the right time.

We know most members choose default funds with lifestyle options. The role of the default will continue, but we expect there to be far more innovative default solutions in the future.

Politicians will have their day, but for employers securing better value from their benefit strategy while ensuring it delivers their corporate objectives will be paramount.