The Telefonica final salary scheme will receive £425m with the aim of reaching self-sufficiency by 2022, seven years earlier than planned, as the scheme sponsor is entering a joint venture. As corporate activity is expected to intensify post-Covid, what are the tools that can help trustee boards in negotiations? 

 

A joint venture combining the Telefonica UK and Virgin Media UK businesses completed on 1 June this year, following publication of the Competition and Markets Authority's decision to approve the JV. 

 

As the sponsor’s structure is changing, potentially altering the covenant strength, the trustees have not been idle: the agreement they reached means the company will pay a total of £425m into the plan by the end of 2022, an amount agreed with the aim of funding it to its self-sufficiency target by 2022, seven years earlier than previously planned. The deal addresses the joint venture and at the same time concludes the scheme’s triennial valuation as at 30 September 2020. 

 

“We believe that this is a positive step in protecting the interests of the members of the Plan," the trustees said in a statement. 

 

 

Before trustees can leverage their power in sponsor and buyer negotiations, they need to understand it – knowing what the scheme rules say about contribution powers among others, and what current and incoming regulations are saying about the matter. 

 

And there is currently a lot happening in terms of new regulations, thanks to the Pension Schemes Act 2021 – perhaps most prominently the Act for the first time introduces a criminal offence. 

 

“Criminal sanctions are having a chilling effect on actions which sponsors may otherwise be comfortable with,” said Daniel Barlow, a director at LawDeb Pension Trustees. This is not least because they apply to the individual rather than the corporation, though he admitted that the effect could wear off depending on how the Pensions Regulator – and other bodies that can prosecute for the new offence – use their powers. 

 

Another development that is currently working in trustees’ favour is the introduction of a mandatory long-term objective, typically buyout or low dependency. In the Telefonica deal, the schemes’ LTO appeared to have been used as a measure around which the negotiations can revolve in terms of timescales. 

 

“It’s helpful to be clear what the long-term objective is. If you don’t have one it makes it harder to ask for funding for it,” said Barlow. 

 

As well as educating buyers, vendors and management about these stricter rules, he advised trustees to prepare as much as they can beforehand, so they don’t wake up to a news article informing them that their sponsor is being bought.  

 

Preparations should include covenant monitoring and an information sharing protocol between the sponsor and trustees. There will also be new rules around notifiable events that are set to strengthen trustees’ position, with sponsors having to inform them of corporate activity sooner. 

 

Scenario analysis before the event would also be helpful where corporate activity is seen as likely but risky for the scheme, Barlow noted. 

 

 

The negotiations themselves are often tricky and involve multiple parties, each with their own undisclosed interests – trustees need to try to guess whose interests align with the scheme’s and whose don’t in order to play their cards well. 

 

This is even more important as the counterparties to the trustees have commercial backgrounds; successful negotiations therefore require trustees to think similarly, and to be “clear what your walk-away is”, said Barlow.  

 

A negotiation could start by measuring any potential detriment from a transaction, for example by looking at the scheme’s position in the event of sponsor insolvency pre and post deal, and then adjusting the discount rate by increasing prudence if appropriate. This would push up the scheme deficit, allowing trustees to demand cash or potentially contingent assets, going into the negotiation higher than the ‘walk-away’ position – allowing trustees to make concessions if necessary. 

 

 

Negotiations like these can mean that trustee boards need to rethink governance as well. A big trustee board “can be unwieldy”, said Barlow, so having a subcommittee might be necessary. Where there is one, trustees also need to be clear about what decisions the committee can take without referring back to the whole board. 

 

The Telefonica scheme is receiving £425m - not an insubstantial sum, and before any deal is struck, trustees will therefore need to consider what they want to do with the money once they receive it.  

 

“Will you use it to derisk, or perhaps leave some risk on and do a combination of derisking or shortening the time to your long-term objective?” said Barlow, saying that these decisions will depend on the strength of the covenant and how good covenant visibility is. 

 

Daniel Barlow

Richard Farr

Richard Butcher