Monday 22 August 2011

Irrelevant Fact Of The Day

From Investments & Pensions Europe:

UK banks are reporting pension liabilities that in some cases exceed the institutions' total market capitalisation, with three of Britain's largest banks significantly worse off than mainland European rivals, a study by Citibank has found.

Examining FTSE 100 companies at the end of last December, the study noted that former public companies reported the highest pension liabilities when viewed as a percentage of the market cap, with British Airways and telecommunications provider BT cited as examples.


So what?

These businesses have a large positive value. From this value we deduct the amount of their liabilities to arrive at their market capitalisation (plus/minus the usual fluctuations in share prices). There is no need to compare this net value of the shares in a business with any specific category of liabilities, such as pension fund liablities, because those liabilities are already taken into account when working out the value of the shares.

To use a crude analogy: husband has take-home pay of £1,000 and his wife makes him hand over £600 of it for housekeeping. It would be misleading to say that her income exceeds his and hence that it is impossible for him to pay her £600 out of his £400 take home pay - they have a joint income of £1,000 and how they split it is up to them.

So instead of saying that BT has a market cap of £1 and net pension liabilities of £2, it is more accurate to say that BT has an 'enterprise value' of £3; £1 of which belongs to shareholders and £2 of which belongs to its pension funds.

6 comments:

john b said...

Absolutely. And, as seen with GM, if the company does go under, then it ends up owned by the pension fund, because they have precedence over shareholders. This concentrates unions' minds on restructuring programmes...

Onus Probandy said...

The one thing I know about accountancy is the key equation:

Assets = Liabilities + Equity

Therefore

Equity = Assets - Liabilities

There is therefore no justification at all for subtracting liabilities from share value as that would be:

Equity - Liabilities = Assets - 2*Liabilities

Which tells us diddly-squat.

Mark Wadsworth said...

JB, exactly. If the employees of British Airways realised that they are effectively a worker-owned-cooperative, perhaps they'd be a bit more realistic about wage/pension demands, going on strike etc.

OP, yup, it's as simple as that.

dearieme said...

Oh don't you worry about the BT pension fund: it turns out to have a Crown guarantee, which seems to have been in large part accidental. Wot larks!

Mark Wadsworth said...

D, I think the same applies to many privatised utilities. As a little Golden Goodbye, Thatcher promised that future taxpayers would always bail them out. Which is what worries me.

dearieme said...

As I understand the BT business (but open to correction) the original Crown guarantee was to memebers at the time. The courts have recently interpreted the guarantee as extending to everyone who's joined since thus increasing the potential costs umpty-um-fold.