Pension Return Assumptions and Shareholder-Employee Risk-Shifting

Posted: 11 Aug 2021

See all articles by Shingo Goto

Shingo Goto

University of Rhode Island - College of Business Administration

Noriyoshi Yanase

Keio University - Faculty of Business and Commerce

Date Written: July 22, 2021

Abstract

Firm managers of defined-benefit (DB) pension plan sponsors reveal their primary motives — risk-shifting or risk-management — through their assumed expected rates of return (ERRs) on the plan assets. Managers with risk-shifting motives choose high ERRs to exploit flexible internal financing from employees via pension underfunding. Those with risk-management motives choose low ERRs to reduce future cash-flow uncertainty by improving the pension funding status. We examine if ERRs predict the firms’ future cash-flow allocation between pension funding and corporate investments, in a Japanese sample that mitigates the selection bias concern for US DB plan sponsors. Using dynamic panel regressions that control for lagged dependent variables, firms’ business prospects, and unobserved fixed effects, we show that higher ERRs precede higher capital investments, R&D expenses, and net pension obligations while revealing managerial aggression, especially among firms with high external financing costs. Higher ERRs predict higher market-to-book ratios for the firms with larger R&Ds and/or underfunding, suggesting that the risk-shifting channel of internal financing with high ERRs can help alleviate underinvestment problems.

Keywords: Defined-benefit (DB) plans,Corporate pensions, Internal financing, Risk shifting, Risk management, Underinvestment, Employees, Shareholders, Pension assumptions, Pension funding, Underfunding, Dynamic panel data analysis

JEL Classification: G14 G22 G32 J22 M41

Suggested Citation

Goto, Shingo and Yanase, Noriyoshi, Pension Return Assumptions and Shareholder-Employee Risk-Shifting (July 22, 2021). Journal of Corporate Finance, Vol. 70, Available at SSRN: https://ssrn.com/abstract=3900982

Shingo Goto (Contact Author)

University of Rhode Island - College of Business Administration ( email )

Kingston, RI 02881
United States
4018744318 (Phone)
4018744312 (Fax)

Noriyoshi Yanase

Keio University - Faculty of Business and Commerce ( email )

2-15-45 Mita
Minato-ku
Tokyo 108-8345
Japan
1088345 (Fax)

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