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A defined benefit (DB) pension plan can often cause problems for a company trying to find a buyer. In the UK, The Pensions Regulator (TPR) will usually take an interest in any corporate transaction where a DB plan is involved, and TPR is due to be given new powers in this area that may make these transactions more cumbersome.

However, recent developments in the market have provided a new option for dealing with pension plan liabilities – capital-backed consolidation – and this has been a hot topic in the UK for the past couple of years. It is proposed that these vehicles will operate as pension plans (i.e. existing pension plans will transfer into the consolidator’s plan) but with a separate capital buffer that is available to the pension plan if required, but can also be used to return a profit to investors if certain conditions are met.

Crucially, the consolidators sit outside of the insurance regime, allowing them to offer non-insured risk transfer for pension plans at (in theory) less than the cost of buying out benefits with an insurer, which is typically the only other way to settle benefits in this situation. They therefore give firms looking to engage in M&A activity a new and potentially more efficient way of being able to settle the liabilities of a legacy DB arrangement, which may improve the economics of a corporate transaction.

At present, two firms have entered this market and are in the process of obtaining regulatory approval to allow pension plans to transfer into their consolidation vehicles. We believe that the first transfers of pension plans into these consolidation vehicles will be completed later in 2020 (possibly even in the first half of the year), and our briefing note explains the key issues at hand, including how capital-backed consolidation works, what’s in it for the consolidator and what it can mean for M&A activity. We also discuss the potential risks for purchasers and consolidators, and explore how the new vehicles have the potential to facilitate more corporate transactions involving DB plans.