Is the pre-need industry in need?

After the recent Legacy Rural Banks and Rural Bank of Subangdaku fiasco that left a lot of investors dry, what we don’t need right now is another financial industry in trouble that will sap the savings of the middle class. So it was not exactly a pleasant surprise when the troubles of the pre-need industry made the news. A number of them, especially those with the open-ended educational plans have been in trouble years ago, like CAP, PRYCE, Pacific and a few others; but for the pre-need association president to say that more of them will be in trouble in the coming years is unnerving and does not add to reviving the confidence in the financial sector.

Recent data showed that there are some 4 million planholders of pre-need plans, which is about 5 percent of the Philippine population. On the other hand, The Total Assets of the Industry, as of year end 2008 was P160 billion, so that the per capita share of the planholders of the industry’s assets is P40,000 per planholder as of the end of 2008. This is of course assuming that all of the industry’s assets are in the Trust Fund and easily liquefiable. This is a quantitative exercise to get one number to grasp the status of the industry, and may not apply to specific companies in the industry, and the fact that in reality the plans do not mature at the same time but over a period of time. It, however, confirms the statement of the association president, that over time, if the Trust Fund earnings and values do not improve, and there is no capital infusion from the stockholders of the pre-need companies, a lot of the companies will not be able to fulfill their commitments to the planholders.

In the early 2000, I distinctly remember that we discussed at the Financial Executive Association (FINEX) that a good project was to determine the actuarial soundness of a number of pre-need companies. Then, there were some apprehensions that the yield assumptions of the Trust Funds of the companies were too optimistic, even for a developing country like the Philippines. Coming out of the 1997 Asian economic crisis when the yields were in double digit, somehow appeased most of the doubters, so I don’t think the project was pursued. Then the debacle caused by the deregulation of the tuition fees happened, hitting all the companies that had open ended educational plans. The inability of these companies to service their educational plans, led to a further examination of where they were putting their other investments. As it turns out some of the companies were investing the funds in subsidiaries which were not earning and had no cash flows. And indeed the actual earnings of their Trust Funds were far below the assumed yields. The interest earnings on government securities, on prime loans, and the dividends from the blue chip stocks were much lower than the projected earnings. This is now the situation, and it seems the pre-need companies are in need of help.

What to do now? That is the question.

 An industry wide bailout is out of the question. It is not only impractical, but expensive and potentially wasteful. The pre-need companies are in a variety of different financial situations and there is no one solution for all. There are a number of types of plans that are offered, and the fund reserve and liability for each plan are different. There is also the issue of the overhang of the open ended plans that are of different magnitudes for each company, so each company’s problems have to be addressed individually. This has to be addressed like the Retirement Fund problem of a regular company for its employees. When the retirement funds of  a Company is found to be actuarially deficient during the regular two year valuation requirement, the company have to add to the Fund by allocating portions from its revenues or the shareholders have to put in additional contribution over a period of time. This can be done without the government putting in taxpayers money into the industry. The individual pre-need companies have to face up to their trust fund deficiency problems and propose to the SEC or the Insurance Commission a Trust Fund build up program. Those companies that cannot come up with a viable build up program will have to be merged or sold to other parties who can comply with the build up program, and the shareholders have to take the writedowns on their equity.

On the other hand, there has to be concessions on the side of the open ended planholders. A lot of them have actually received a 100 percent or more return on their investment, when the pre-need companies paid the skyrocketing tuition of the schools. A reasonable return on their remaining investments/plan have to be negotiated, so that the burden on the Trust Fund will be lessened and be more reasonable, and the company be made viable again.  While the pre-need companies could be faulted for too optimistic assumptions on the yields of their Trust Funds and for investing their funds in affiliate companies which were illiquid investments, this is now water under the bridge. To move forward such violations should not be repeated and should be sanctioned, but undue enrichment at the expense of the other planholders should not be allowed, so a negotiated return on investment on the open ended plans should be agreed and implemented.