Note 19: Post-retirement benefit provisions

Post-retirement benefit provisions relate to defined benefit pension and other post-retirement benefit plans, including healthcare or welfare plans. The largest defined benefit pension plans are the ICI Pension Fund (ICIPF) and the Akzo Nobel (CPS) Pension Scheme (CPS) in the UK which together account for 86% of defined benefit obligations (DBO) and 90% of plan assets. Other pension plans include among others the largely unfunded plans in Germany, the plans in the US and certain other smaller plans in the UK. The benefits of these pension plans are based primarily on years of service and employees’ compensation. The funding policy for the plans is consistent with local requirements in the countries of establishment. We also provide certain healthcare and life insurance benefits to retired employees, mainly in the US and the Netherlands.

Valuations of the obligations under the plans are carried out regularly by independent qualified actuaries. We accrue for the expected costs of providing such post-retirement benefits during the service years of the employees. Governance of the benefit plans is the responsibility of the Executive Committee Pensions. This committee provides oversight of the costs and risks of the plans including oversight of the impact of the plans on the company in terms of cash flow, pension expenses and the balance sheet. The committee develops and maintains policies on benefit design, funding, asset allocation and assumption setting.

Pension plans

Almost all of the defined benefit plans have been closed to new members since the early to mid-2000s, although in many plans long-serving employees continue to accrue benefits. For plans in the US, benefit accrual is frozen and employees participate in defined contribution plans for future service. In countries where plans are closed, new employees are eligible to join a defined contribution arrangement. In countries in high growth markets, pension schemes currently are not material. Unless mandated by law, it is our policy that any new plans are established as defined contribution plans.

The most significant risks that we run in relation to defined benefit plans are investment returns falling short of expectations, low discount rates, inflation exceeding expectations, retirees living longer than expected and legislation changes. The assets and liabilities of each of the funded plans are held outside of the company in a trust or a foundation, which is governed by a board of fiduciaries or trustees, depending on the legal arrangements in the country concerned. The primary objective with regards to the investment of pension plan assets is to ensure that each individual plan has sufficient funds available to satisfy future benefit obligations in accordance with local legal and legislative requirements. For this purpose, we work closely with plan trustees or fiduciaries to develop investment strategies. Studies are carried out periodically to analyze and understand the trade-off between expected investment returns, volatility of outcomes and the impact on cash contributions. We aim to strike a cautious balance between these factors in order to agree affordable contribution schedules with plan fiduciaries.

Plan assets principally consist of insurance (annuity) policies, long-term interest-earning investments and (investment funds with holdings primarily in) quoted equity securities. Our largest plans use derivatives (such as index futures, currency forward contracts and swaps) to reduce volatility of underlying variables, for efficient portfolio management and to improve the liability matching characteristics of the assets. Limits have been set on the use of derivatives which are periodically subject to review for compliance with the pension fund’s investment strategy.

In line with our proactive pension risk management strategy, we seek to reduce risk in our pension plans over time. We evaluate potential de-risking opportunities on an ongoing basis. Future de-risking transactions may have both cash flow and balance sheet impacts which may be substantial, as had some of the de-risking actions already taken. The cost of fully removing risk would exceed estimated funding deficits.

Between 2014 and 2022, ICIPF and a smaller UK plan, the ICI Specialty Chemicals Pension Fund (ISCPF), have invested in annuity buy-in contracts that aim to hedge all key risks related to their pensioner populations.

In October 2022, the Trustee of the ICIPF entered into a further annuity buy-in agreement with Legal and General Assurance Society Limited. It covers, in aggregate, £54 million (€62 million) of pensioner liabilities (insurer valuation). The buy-in involved the purchase of a bulk annuity policy under which the insurer will pay to ICIPF amounts equivalent to the benefits payable to members who have recently become pensioners. The pension liabilities remain with, and the matching annuity policies are held within, ICIPF. The accounting impact of the transaction is a lower valuation of the plan assets giving a reduction in other comprehensive income of £12 million (€14 million).

In November 2022, the Trustee of the CPS entered into its first annuity buy-in agreement with Phoenix Life Limited. It covers, in aggregate, £640 million (€724 million) of pensioner liabilities (insurer valuation). The buy-in involved the purchase of a bulk annuity policy under which the insurer will pay to CPS amounts equivalent to the benefits payable to a section of its pensioners. The pension liabilities remain with, and the matching annuity policies are held within, CPS. The accounting impact of the transaction is a lower valuation of the plan assets giving a reduction in other comprehensive income of £54 million (€62 million).

By purchasing bulk annuities, the ICIPF, CPS and ISCPF Trustees have taken significant steps in actively de-risking liabilities and reducing the risk that AkzoNobel will be required to contribute additional cash in the future.

CPS also has an insurance contract to hedge longevity risk in respect of a portion of its pensioners not impacted by the recent buy-in transaction.

On November 25, 2020, correspondence between the Chancellor of the Exchequer and the UK Statistics Authority (UKSA) was published regarding the future of the Retail Price Index (RPI) measurement of inflation. With effect from February 2030 onwards, increases in the RPI will be aligned with those under the Consumer Prices Index (CPI) with owner occupiers’ housing costs (CPIH). Broadly this is expected to result in RPI inflation being 1% lower in the longer term than under the existing methodology. The inflation assumption continues to be calculated using a market breakeven inflation rate and the CPI inflation assumption, on which the benefits of some plans are based, is set with reference to RPI. Until 2030, the CPI inflation assumption is calculated as 1% below RPI and from 2030 onwards as 0.1% below RPI.

On April 22, 2021, a court ruling resulted in a £20 million (€23 million) past service credit in one of the UK’s pension plans, the J.P. McDougall & Co Limited Staff Pension & Life Assurance Scheme, booked as an identified item. The court ruling rectified a deed change with respect to the retirement ages from which members will receive benefits.

The remaining pension plans primarily represent plans accounted for as defined contribution plans. This includes, among others, the Pension Fund APF in the Netherlands and the 401k Plan in the US.

The ITP2 plan in Sweden is financed through insurance with the Alecta Tjänstepension Ömsesidigt (i.e. Alecta pension insurance, mutual) insurance company (Alecta) and is classified as a multi-employer defined benefit plan. As AkzoNobel does not have access to sufficient information from Alecta to enable defined benefit accounting treatment, it is accounted for as a defined contribution plan. Contributions in 2022 were €2 million (2021: €2 million). Alecta’s funding ratio is normally allowed to vary between 125% and 175%. The most recently quoted ratio at December 2022 stood at 172%.

The expenses of all plans accounted for as defined contribution plans in AkzoNobel totaled €89 million in 2022 (2021: €83 million).

Other post-retirement benefit plans

AkzoNobel provides certain healthcare and life insurance benefits to retired employees, mainly in the US and the Netherlands. The risks to which the US healthcare plans expose AkzoNobel include the risk of future increases in the cost of healthcare which would increase the cost of maintaining the plans. The benefit payments to retirees under the Dutch plan are frozen. Both plans expose AkzoNobel to the risk of a decline in discount rates, which increases the plan obligations, and longevity risk as the plans generally pay lifetime benefits.

Reconciliation balance sheet

The closing net balance sheet position of €602 million (2021: €1,017 million) includes the pension plans (€709 million net asset; 2021: €1,143 million net asset) and other post-retirement plans (€107 million liability; 2021: €126 million liability).

Administrative expenses

In addition to the expenses borne by the funds themselves, some expenses are borne directly by AkzoNobel. Administrative expenses, especially for the UK pension funds, of €26 million are included in 2022 operating income (2021: €22 million). In addition, we directly incurred asset management expenses of €2 million (2021: €3 million), which have been included in other comprehensive income.

Interest costs

Interest costs on the DBO for both pensions and other post-retirement benefits, together with the interest income on plan assets, comprise the financing income related to post-retirement benefits of €18 million (2021: €13 million), refer to Note 8.

Pension plans in asset position

Pension balances recorded under Financial non-current assets totaled €1,029 million (2021: €1,638 million). The decrease in 2022 is due to €556 million of net actuarial losses and €89 million of exchange rate translation losses, partially offset by €21 million of employer contributions and net income of €15 million, in the relevant plans.

These assets could be recognized under IFRIC 14 because economic benefits are available in the form of future refunds from the plan or reductions in future contributions to the plan, either during the life of the plan or on the (final) settlement of the plan liabilities.

Plan assets

The equities and government bond debt assets have quoted prices in active markets, although most are held through funds comprised of such instruments which are not actively traded themselves. The total value of plan assets not quoted in active markets is €6,666 million (2021: €8,420 million), including the UK buy-in annuity policies totaling €6,078 million (2021: €7,698 million), investments in real estate totaling €343 million (2021: €469 million) and other investments in infrastructure and insurance policies. The UK buy-in annuity policies have a value that is equal to the DBO of the pensioners covered by the policies.

Plan assets did not directly include any of AkzoNobel’s own transferable financial instruments, nor any property occupied by or assets used by the company.

Cash flows

In 2023, we expect to contribute €49 million (2022: €56 million) to our defined benefit pension plans. We expect to pay a further €11 million (2022: €11 million) to our other post-retirement benefit plans. No allowance is made for any special one-off contributions that may arise in relation to new de-risking opportunities.

Sensitivity of DBO

The actuarially calculated sensitivity effects on DBO shown allow for an alternative value for each assumption while the other actuarial assumptions remain unchanged. This table illustrates the overall impact on DBO for the changes shown, which management assessed could be reasonably possible over a longer term from a sensitivity test perspective. It should be noted, however, that this analysis does not indicate and probability of such changes occurring, not does it preclude larger changes in any given period or longer term. In addition, the significance of the impact and the range of reasonably possible alternative assumptions may differ between the different plans that comprise the total DBO. In particular, the plans differ in benefit design, currency and average term, meaning that different assumptions have different levels of significance for each plan.

The sensitivity analysis is intended to illustrate the inherent uncertainty in the valuation of the DBO under market conditions at the measurement date. Its results, in principle, cannot be extrapolated due to increasing non-linear effects that changes in the key actuarial assumptions, when deviating further from the assumptions presented, may have on the total DBO. Any management actions that may be taken to mitigate the inherent risks in the post-retirement defined benefit plans are not reflected in this analysis, as they would normally be reflected in plan asset changes rather than DBO changes.

The sensitivities in the table only apply to the DBO and not to the net amounts recognized in the balance sheet. Movements in the fair value of plan assets (which include the de-risking instruments) would, to a significant extent, be expected to offset movements in the DBO resulting from changes in the given assumptions.

At ICIPF, the annuity buy-in contracts cover 99% of pensioner liabilities (2021: 99%) and 88% of total liabilities (2021: 84%).

At CPS, the annuity buy-in contract covers 42% of pensioner liabilities (2021: 0%) and 28% of total liabilities (2021: 0%). Also at CPS, the longevity hedge contract covers 48% of pensioner liabilities (2021: 48%) and 30% of total liabilities (2021: 30%)

Future benefit payments

The figures in the table below are the estimated future benefit payments to be paid from the plans to beneficiaries over the next ten years.