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Those pension funds are being adversely affected by LBO's in a number of ways. The pension benefits of certain employees are being reduced as a result of the LBO-related layoffs of employees.

The Department of Labor study with which you are familiar notes that on the average, such a worker would suffer a reduction of about 23 percent of the pension expectations that he or she might ordinarily have.

The reduced pension benefits are flowing from a reduction, devaluation of bond holdings in the leveraged company or the devaluated equity investments in the event of bankruptcy of the leveraged company.

And there is the prospect and the reality of reduced or discontinued benefits for workers who are still employed by leveraged companies but whose pensions have been terminated, and the excess so-called assets captured by the employer.

There is some data on the extent of pension involvements in LBO financing. I must say most of it obviously is fragmentary at this point.

The Department of Labor, as you have heard this morning, says that less than 2 percent of overall pension fund assets are involved in LBO activity, but I would note that the data is uneven and hardly definitive.

Pension plans we do know accounted for 15 percent of the junk bond market in 1987, and we know that at least 5 percent of the public sector pension funds and some number of corporate funds are investing in LBO equity funds.

There are risks associated with those investments which we think fall into three categories. The risk posed by financing such as the junk bonds and the LBO equity bonds; the risks which flow from the devaluation of the bond holdings in pre-LBO days; and the risks that are posed by the termination and the capture by the corporation of pension funds, the capture of those so-called excess assets.

The extent of pension fund assets in LBO's does not appear to pose a serious risk to a diversified portfolio, but there are a number of factors that could increase those risks for current and future LBO investments.

The junk bond and the equity fund investments are concentrated in a small number of private and public pension funds. In one of the State funds, 7 percent of that pension fund, over $1 billion is invested in junk bonds in one of the State public employees funds. Obviously, a downward cycle in the economy might pose risks for those LBO investments. There are-these LBO investments are a relatively new financial arrangement, and it is my understanding that 95 percent of them, after all, have come about since 1982.

I am not sure that we have any adequate effect of their longterm prospects or effectiveness. The evidence on the relationship between LBO's and plan reversions is scattered, but it is beginning to mount.

The PBGC said in one study that only 7 percent of reversions over $1 million occurred within a year after the LBO. There is an SEC study about to be released which notes that one-third of all the major reversions took place within 1 year of the takeover event.

You have heard testimony this morning from the GAO Office study noting that in 40 percent of the LBO's that it sampled, the pension plan was terminated. We did our our examination. Ms. Miller did an examination of PBGC data on completed reversions over $1 million for the period from 1980 through September 1988. Where the reason for the termination of the plan was given as being due to corporate reorganization, we found that there were 276 such reversions in that 8-year period, 15 percent of the total reversions which related to that corporate reorganization. And those reversions accounted for $1.4 billion and affected over 2 million plan participants.

Think what those figures tell us, Mr. Chairman. While the evidence is fragmentary and not all totally coherent, one study with the other, there is mounting evidence that the LBO operation has resulted in an alarmingly high number of pension plan terminations, and that subject needs the address of your committee.

We have supported and do support, Mr. Chairman, the enactment of legislation that would contain certain worker, job and pension protections in the event of LBO's and have testified in support of legislation that would slow the general range of LBO activity. We have testified in support of your ending the tax deduction on the interest on debt used for merger activity as a principal step for this committee. We have supported legislation to strengthen the excise taxes on green mail and on golden parachutes.

We would support the Employee Pension and Protection Act which is before another committee and which has now been introduced which would affect some of the pension aspects of these LBO transactions.

Beyond that, we would support legislation in other committees, Mr. Chairman, to enhance shareholder rights and to provide ways in which we could ensure a higher degree of corporate accountability through shareholder reform.

In terms of confidential shareholder voting, one share, one vote for all classes of stock and greater access for non-management shareholders to the records of the corporation. We have made certain recommendations on the tender offer process, and we think that it is appropriate that your committee, Mr. Chairman, examine, as you are doing, the tax aspects of these matters.

And we are most anxious to work with you and your committee staff in any way we can to advance the project. I would be happy to try to address any questions you might like to ask, Mr. Chairman. Chairman PICKLE. Thank you, Mr. Donahue. You have given us good testimony, and the committee is glad to have it. We will look it over in detail.

[The statement of Mr. Donahue follows:]






April 27, 1989

Mr. Chairman and members of the Subcommittee, on behalf of the 14 million working men and women who make up the 90 unions of the AFL-CIO, thank you for conducting this hearing. We feel it is vitally important both to union members and to the nation that Congress take a hard look at the threat leveraged buyouts pose for workers' pension benefit security.

LBO activity is still on the rise. Yet nobody has accurately assessed the total damage the LBO craze is doing, not only to the afflicted companies and their employees, but to whole communities. The increasing number of corporations carrying heavy debt threatens America's power to produce and compete in the world economy. The mortgaging of our economy is reflected in the jump of corporate debt from 34 percent in 1983 to 42 percent in 1988.

At least 90,000 members of AFL-CIO unions have been stripped of their jobs because of mergers, takeovers, and leveraged buyouts. In fact, leveraged buyouts are the largest single cause of unemployment among retail workers in America in the past few years. The largest employer of the United Food and Commercial Workers Union is now KKR--Kohlberg, Kravis, and Roberts, an investment firm specializing in leveraged buyout deals and not firms traditionally in the food or retail industry.

Leveraged buyouts also raise questions about how we can make corporate America more productive and accountable. We certainly cannot leave this job to corporate raiders whose actions threaten the long-term health of our economy because they are aimed not at long-term economic growth but solely at short-term profits. As major investors in corporate America, worker pension funds have a great stake in creating a corporate governance system that redirects failed corporate policies in a way that enhances the value and stability of the existing company and its workers.


By virtue of their large holdings in American corporations and their tempting sources of collateral for repayments of debt, pension assets play a varied and significant role in leveraged transactions. As the largest single group of institutional investors, pension funds account for approximately 43.5 percent of total institutional holdings, 24 percent of the equity market and 15 percent of the bond market.1

Still these numbers do not begin to suggest the harmful impact that leveraged buyouts may have on workers' pensions. Workers' benefits may be adversely affected in the following ways:

1Testimony of Dr. Carolyn Kay Brancato before the Committee on Education and Labor, Subcommittee on Labor-Management Relations, U.S. House of Representatives, February 9, 1989, p.8.


1. Pension benefits may be reduced because of leveraged buyout related layoffs. The Department of Labor estimated that workers who change jobs experience on average a 23 percent reduction in the benefit they would have had they maintained one single job. This pension benefit reduction translates into a savings for the leveraged company. These companies may also have terminated the pensions covering laid-off workers and increased their savings by recapturing so-called excess assets from overfunded pensions.

2. Pension benefits may be reduced because of devalued bondholdings in targeted companies and/or devalued equity investments in the event of bankruptcy of highly-leveraged companies or the bankruptcy of limited equity partnerships known as leveraged buyout funds.


Pension benefits may reduce or discontinue pensions for workers still employed by the targeted company as a result of the termination and reversion of pension fund assets to the employer to repay debt.

No study to date has estimated the total exposure of worker pension fund assets in LBOS.



Studies have shown, however, that even though the overall amount of pension fund assets invested in leveraged buyouts appear small less than 2 percent of total assets according to the Department of Labor - pension funds accounted for 15 percent of junk bond financing in 1987 or $18 billion. Pension funds also indirectly invest in junk bonds through mutual funds and insurance companies, each of which held 30 percent in junk bonds in 1988.3

No definitive study exists on the amount of pension fund assets that are invested in leveraged buyout funds. These funds pool equity that provide the seed capital for LBOs. One survey of the top 200 pension funds reports that, in 1987, 22 funds invested $3.7 billion in LBO equity funds. This figure is expected to increase to $7 billion in 1988. It is also reported that 5 percent of public pension funds are invested in LBO funds.



While these investments may appear not to pose a significant threat to diversified portfolios, there are a number of factors that heighten the risk factor for leveraged buyout investments.

1. Both junk bond holdings and LBO fund investments
are concentrated in a small number of private and

2Pension and Welfare Administration, U.S. Department of Labor, Washington, D.C., The Effect of Job Mobility on Pension Benefits, July 1988.

3Testimony of David Walker, CPA, Assistant Secretary for Pension and Welfare Benefits, U.S. Department of Labor, before the House Committee on Ways and Means, February 2, 1989. For junk bond statistics, see Congressional Research Service, The Library of Congress, Pensions and Leveraged Buyouts, prepared at the request of the Subcommittee on Labor-Management Relations, Committee on Education and Labor, U.S. House of Representatives, February 7, 1989, Serial No. 101-B.

4Congressional Research Service, Pensions and Leveraged Buyouts, op. cit.


public funds, thereby increasing the risk for plan
participants in those funds. Junk bond holdings are
concentrated in 16 percent of Fortune 100 companies and
15 percent of state fund holdings. Only 6 percent of
private funds and 5 percent of public funds invest in
LBO funds.


Many experts have warned that a downward cycle in the economy could intensify the risks associated with leveraged buyout investments. Higher interest rates could jeopardize the financial ability of leveraged companies to repay debt used to finance the LBO. То date there are few reported LBO bankruptcies. However, we must consider that 95 percent of all junk bonds have been issued since 1982.6

Some commentators have raised concerns about the larger impact that collectively, these debt-laden companies could have on the economy if interest rates rose precipitously.7 No study to date has shown that survivor LBO companies are more efficient and more profitable and hence able to meet their pension obligations. In fact, some economists argue the difficulties in drawing such conclusions because the LBO market has changed so much over the past few years and because operational data once the company goes private, is rarely accessible.


According to the United States General Accounting
Office, LBO fund investments also pose a liquidity risk
because "plan assets are committed to a limited
partnership for as long as 10 or 12 years, and the
partnership interest cannot be traded on the open
market like stocks or bonds."9

4. In testimony before the Senate Finance Committee,
Dr. Kathleen Utgoff, Executive Director of the Pension
Benefit Guaranty Corporation (PBGC), expressed concerns

5Testimony of Dr. Carolyn Kay Brancato, op. cit.

6Testimony of Ed. Durkin, United Brotherhood of Carpenters and Joiners of America, before the Senate Committee on Labor, Oregon State Legislature, April 1989.

7See, Max Holland, "How to Kill a Company: The Anatomy of a Leveraged Buyout," The Washington Post, April 23, 1989, pg. Cl-2. This article profiles one of KKR's first leveraged buyouts of the Houdaille Company, and shows the company's eventual bankruptcy when rising interest rates combined with foreign competition. However, not mentioned in the article is the fact that Houdaille Company terminated its pension plan in 1983 and took a $40 million reversion.

8Testimony of Dr. Carolyn Kay Brancato, op. cit. In addition, KKR recently released a study suggesting that, on average, their leveraged buyouts enhanced profitability and employment of the leveraged companies. The KKR study has been criticized for its questionable methodology because it excluded data on job growth and research and development in subsidiaries and divisions that were sold after the buyout. Criticism of the KKR study can be found in both The Washington Post article mentioned in footnote 9 as well as in testimony of Ed Durkin, op.


Testimony of Joseph F. Delfico, Director of Income Security Issues, Human Resources Division, United States General Accounting Offices, before the Subcommittee on Labor-Management Relations, Committee on Education and Labor, U.S. House of Representatives, February 7, 1989.

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