532 Making Key Strategic Decisions
Pension Fund Investments
The most conservative practice is to invest the pension fund in annuities or in
bonds whose maturities match the anticipated pension payments. Such a policy
is said to “lock in” the ability to make payments. This works out satisfactorily for
employees who have already retired, but not for employees who are currently
working. If the latter group’s compensation increases at a faster rate than is as-
sumed in the actuarial calculations, or if the plan itself is sweetened, the fixed
return will turn out to be inadequate. Under a defined benefit plan, there is no
sure way to guarantee that the cash will be available when it is needed. In any
event, with such a conservative policy, the company gives up the opportunity to
earn the usually greater return from an investment in equities.
Most companies hire one or more banks or investment firms to manage
their pension funds. Voluminous data are available on the past performance of
these managers. However, an excellent past record is no guarantee of excellent
future performance. A firm is a collection of individuals. Investment perfor-
mance is partly a function of the individuals doing the investing, and the per-
formance record may change when these individuals leave or lose their skills.
For many years, when it was managed by Peter Lynch, the Magellan Fund was
the most successful of all mutual funds. After Mr. Lynch left, the fund’s per-
formance was not so huge (but was still above average). Performance is also
partly a matter of luck.
Some companies divide the pension fund among several managers, peri-
odically compare their performance, and replace the one with the poorest
record. This may spread the risk somewhat, but it does not guarantee optimum
performance. Luck and the individual who manages the fund continue to be
dominant factors. It is a fact that some managers are better than others. The fi-
nance committee watches performance carefully. It is cautious about making
changes based primarily on short-run performance, but it does so promptly
when it is convinced that a better manager has been identified.
The finance committee also decides on asset allocation investment poli-
cies: how much in equities, how much in fixed income securities, how much in
real property, how much in new ventures, how much in overseas securities, and
the maximum percentage in a single company or industry.
Companies must also provide for costs of health-care and other benefits
of employees who have not yet retired. The problems of estimating these costs
are similar to those for pension funds, but with the additional complication that
healthcare costs continue to increase at an unpredictable rate.
SUMMARY
In doing its job, the board accepts certain responsibilities. It should:
- Actively support the CEO, both within the organization and to outside
parties, as long as the individual’s performance is judged to be generally
satisfactory.