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Benefits and Pensions MonitorLearning From Enron
Enron, the former energy giant which collapsed four years ago, is back in the news. The Smartest Guys in the Room, the documentary about the company, was up for an Academy Award and the trial in Houston of the former senior management team started in March. Just as the word ‘Enron’ is now synonymous with greed and corruption, the company is also widely identified with penniless former employees who lost their retirement savings in the company’s pension plan. With the advantage of time, let’s separate the fact from the fiction and see what actually happened to Enron’s pension plan, and ask whether this could all happen again. Enron sponsored a Defined Contribution pension plan and made a matching contribution of half what the employee contributed, up to six per cent of their base pay. Enron’s contribution was made entirely in the company’s stock. Its plan had nearly 21,000 participants at the end of 2000 with 63 per cent of the plan’s assets invested in Enron and its subsidiary stock, valued at $1.3 billion. Of note, the average 401(k) plan for large companies has about 32 per cent of its assets in company stock. Employees had 20 investment options to choose from for their own plan contribution, with Enron stock being only one of these choices. The other 19 included various index funds and an assortment of other funds. Stock holdings from the company matching portion of the plan could not be transferred into any other investment options until the employee reached age 50. One Small Problem There was one small problem for the company. Early in 2001, Enron put out an RFP for a new administrator for its plan. The company selected a new plan administrator and notified all of the company employees in a mailing to their homes on October 4 that there would be a transition period lasting 10 trading days, beginning on October 29 during which time employees could not change investments in their accounts. Between the mailing and the transition date, several eMails were also sent to employees reminding them of this temporary freeze. The year 2001 had not been kind to Enron stock. From a high of more than $80, the stock slid almost continuously through the year. From the first day of the freeze during the transition period, the share price went from $13.81 down to $9.98 on November 12, the last day. On half of those 10 trading days, the share price closed below $9.98. After the freeze, the stock eventually went to zero as the firm declared bankruptcy by the end of the year.
So those are the facts. Here are my observations. Nobody practiced any diversification. Though, at most, one-third of the plan’s total assets were in company stock that could not be sold by plan members, later analysis showed that more than 60 per cent of total DC plan assets were held in Enron stock. Many plan members had more than 90 per cent of their own plan’s assets in company stock. Yes, members under age 50 were at a disadvantage. They had their company’s contribution locked up in Enron stock. But they were free to place their own contributions wherever they wished – though many decided to double down on Enron stock. Nobody rebalanced as circumstances changed. Despite the stock slide during 2001, there was almost no rebalancing of portfolios, or indications of plan members bailing out of Enron’s shares. Yes, after the fact, individuals showed up in televised testimony, attributing some nefarious scheme behind the 10-day freeze (when the stock declined by about 28 per cent) when they couldn’t adjust their portfolios. The truth was that almost no plan members budged in the previous period either, when the company’s stock dropped by about 83 per cent ... or after, as the stock went on its way to a 100 per cent loss. Nobody showed the least amount of fiduciary duty. At a company meeting (as reported in the documentary), the head of human resources was on a company podium. One written question from the audience was “Should we invest all of our 401(k) in Enron stock?” The head of HR replied “Absolutely! Don’t you guys (referring to the company president and CEO) agree?” The room laughed and the company’s CEO responded “You’re doing good.” Enough Blame So there is enough blame to go around here. And despite the headlines at the time, at least the first two points are still the case in most DC plans. The few companies that make their DC contributions in company stock have allowed greater freedom for employees to diversify out of the stock, but still use company stock as a default option. None have reported that there has been any major movement by employees out of their company’s stock. DC plan members still don’t use the basic tools of diversification and balance that are made available to them. Yet, they may complain later when their own results are less than satisfactory. Call me a pessimist, but I’m thinking that maybe those old fashioned paternalistic DB plans aren’t so bad after all. Jim Helik is co-author of ‘Energy Markets Risk Management,’a textbook published by the Canadian Securities Institute. He also teaches at the School of Business, Ryerson University in Toronto. |
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By: Jim Helik
