New PCAOB Report Finds Pension Valuation Numbers Wanting

According to a new report just published by the Public Company Accounting Oversight Board ("PCAOB"), valuation of pension plan assets was one of the audit areas with "deficiencies attributable to failures to identify and test controls." Given the importance of having proper pension valuations carried out by knowledgeable and experienced persons, it is no surprise that this oversight organization devoted an entire section of its findings to the topic of valuation of pension plans assets. The problems they found include the following:

  • Insufficient testing of controls over how pension plan assets are valued;
  • Testing of controls that were imprecise and therefore did not allow for an assessment of the risk of material misstatement by plan auditors;
  • Failure to properly test the valuation of pension plan assets; and/or
  • Relying on management or the person(s) who performed the reviews without seeking an independent assessment as to why "variances from other evidential matter" were occurring.

In response to these findings, a prominent ERISA attorney commented that the cited deficiencies were not surprising and that valuation problems will continue to grow for those retirement plans that are allocating more money to "hard to value" funds.

In his 2011 speech before the AICPA National Conference, Jason K. Plourde with the Office of the Chief Accountant, U.S. Securities and Exchange Commission ("SEC"), talked at length about the role of pricing services and how securities that are not actively traded should be valued. He suggested that management "may need to perform different procedures and controls when considering the information from pricing services regarding the fair value of financial instruments..."

Concerns about how best to value pension plan assets and regularly test methodologies and controls related to said valuations took center stage in 2008 when the ERISA Advisory Council working group on "Hard to Value Assets" met to discuss how best to improve things. This blogger - Dr. Susan Mangiero - testified on the topic of "hard to value assets," emphasizing that poor valuations lead to a cascade of problems. For one thing, inflated valuations translate into higher fees paid by ERISA pension plans. Second, incorrect valuations make it difficult to properly review and revise any of the items listed below, each of which are critical to proper fund management such as:

  • Asset allocation;
  • Exposure to a particular sector or fund manager;
  • Fee benchmarking for appropriateness of compensation paid to a manager;
  • Type and size of hedges;
  • Hiring and termination of an asset manager(s);
  • Regulatory funding ratio and related cash financing; and
  • Cost of pension plan de-risking for some or all of current defined benefit plan participants.

If you missed reading Dr. Susan Mangiero's September 11, 2008 testimony before the ERISA Advisory Council Working Group, click to read about "hard to value" assets in the context of ERISA fiduciary duties and pension risk management.

With more pension plans reporting large scale deficits, don't be shocked if further questions are asked about the integrity of asset and liability valuation numbers.

Hedge Funds, Private Equity Funds and ERISA Pension Plans

Alternative fund managers and regulators will convene in Washington, D.C. from July 19 through 21, 2011 to talk about pension investing in hedge funds and private equity funds. Over several days, those who present before the ERISA Advisory Council will be asked to address questions such as those listed below:

  • What differentiates a hedge fund from other types of investments?
  • What differentiates a private equity fund from other types of investments?
  • How are hedge funds and private equity funds, respectively, correlated with the returns of traditional equity and fixed income investments?
  • How can defined benefit and defined contribution plan sponsors mitigate "the lack of liquidity that is characteristic of these investments?"
  • How can fee transparency be enhanced?
  • "Are there any unique diversification benefits offered by hedge funds and private equity investments as opposed to a fund of funds?"
  • What is the view of target date fund managers with respect to including hedge funds and/or private equity strategies within their funds?

According to U.S. Department of Labor documents, the aim is to create best practices guidance in areas such as leverage, liquidity, transparency. valuation, operational due diligence, client and asset concentration and offering documents. Click to download "2011 ERISA Advisory Council: Hedge Funds and Private Equity Investments." Click to read the June 22, 2011 U.S. Department of Labor news release about the forthcoming meetings to address hedge funds and private equity investments by ERISA plans.

Interested readers may want to check out the following of many items that are available for further research: