Lucent also used the retiree health plan as a downsizing tool. In 2001, Lucent offered retiree health coverage to a pool of managers who were not yet eligible for the benefit, because they had not worked fifteen years at the company and had reached age fifty-five. Ultimately, more than 23,000 accepted the offer in 2001 and 2002 and left the company. Taken together, Lucent used the pension and the retiree health plans to finance a massive downsizing without paying a cent from its own pocket.
As its workforce shrank, its retiree population grew. By 2004, Lucent had 127,000 U.S. retirees—a fact that Lucent pointed out over and over. But increasing its number of retirees didn’t boost Lucent’s pension burden. Just the opposite: When an employee turns into a retiree, his pension stops growing; as the pension is paid out, the liability declines, dollar for dollar. If the pension is properly funded, as Lucent’s was, it has adequate assets to pay all the pensions owed to current—and future—retirees. This isn’t something unique to Lucent—it applies to all companies with pensions. So it didn’t matter how many Lucent employees retired; the company still wasn’t losing any money.
Nor did the growing number of retirees boost Lucent’s health care burden. The total amount of money Lucent spent on medical benefits didn’t change. The amounts the company paid in medical benefits were essentially transferred from the employee side of the ledger to the retiree side. In 2003, Lucent spent about $1.1 billion in health care costs, roughly the same amount as in 1999. The only difference was that the amounts it spent for employees shrank (because there were fewer of them), while the amounts it spent for retirees grew (because there were more of them). In 1999, it paid $517 million for employees and $539 million for retirees; by 2003 the company was spending about $850 million for retirees and $264 million for employees. Once retirees reach age sixty-five and are eligible for Medicare, the employer’s costs for them fall—to an average of about $1,200 a month.
The downsizing helped Lucent financially in a number of ways. For one thing, it didn’t have to pay for the health benefits of laid-off workers who weren’t eligible for retiree health benefits, a group that included any salaried employee hired after June 1986. That was a cash savings. And for salaried workers hired earlier, the company established a ceiling on what it would pay for their benefits. Adopting the cap in 1999 reduced Lucent’s retiree health liability by $359 million.
But the biggest benefit was that Lucent no longer had to pay for their health care benefits from corporate cash: It could tap the pension plan. By 2003 Lucent had taken out more than $1.2 billion in assets from the pension plan to cover health benefits.
There was a limit on how much pension money Lucent could transfer from the pension plan to pay for retiree health coverage. Companies can do this only when they have a surplus. By 2003, most of the nearly $20 billion surplus it had in 2000 had evaporated. It was consumed by Lucent to pay for severance and medical benefits, and erased by stock market losses and low interest rates. This meant that there wasn’t any more money in the piggy bank for Lucent to take out. Something would have to be done.
TAPPED OUT
Up to this point, Lucent had not spent a penny on the retirees it claimed were so burdensome. Faced with the prospect that it might actually have to spend cash on retiree benefits for the first time, Lucent had a better idea: It chose to cut them—again. Knowing that this would be an unpopular move, Lucent had to put a positive spin on the news. So it called Henry Schacht, a former CEO, out of retirement and sent him on a ten-state road show to deliver the bad news.
One of his stops, in October 2003, was at the Sheraton Hotel in Buckhead, Georgia, where Schacht made a presentation to a group of more than a hundred retirees. Security was tight, and as the retirees tottered in, some propped on walkers and canes, uniformed officers searched their handbags and briefcases, confiscating cameras and recording devices. Only after their photo identification had been checked and their hands stamped were they allowed into the chilly auditorium. No reporters were admitted.
Schacht took the podium, and in his lengthy PowerPoint presentation he explained the burden Lucent faced from spiraling health care costs and rising numbers of retirees. It was a message that has grown commonplace in the media. Lucent just could not afford to sustain the generous level of benefits it had been paying. The company had five retirees for every U.S. worker, Schacht said. “Unfortunately, the numbers just don’t work.”
The retirees were resigned: Unless the company cut benefits, it might just go bankrupt, and they’d end up with nothing. Lucent couldn’t cut the retirees’ pensions—pension law didn’t allow that—but it would be legal to cut the other benefits: health care, dental coverage, death benefits, coverage for spouses, Medicare Part B premiums, even telephone discounts. Lucent went after them all.
Even the oldest retirees were hit hard. Lucent eliminated dental coverage and Medicare Part B payments, which retirees used to pay for their Medicare premiums. For Howard O’Neil, who was ninety at the time, losing the premium coverage for himself and his wife, Mabel, cut his $970 monthly pension almost in half. (Premiums are deducted from the pension.) He’d earned the benefits working at Western Electric from 1939 until he retired forty years later. He thought this was pretty rough treatment, akin to getting a pay cut in retirement. That, in fact, was accurate: Retiree benefits are a form of deferred compensation, so cutting them is the equivalent of a retroactive pay cut.
Lucent couldn’t unilaterally reduce benefits for the union retirees, because their benefits were protected by negotiated contracts. The retired managers and salaried employees were another matter, however. This dynamic is endemic: Companies go after salaried retirees’ benefits first, since they have fewer legal protections. Among those who suddenly had their benefits cut were managers who had been induced to retire two years before, with the promise of subsidized health coverage. Lucent told them this was a shame but pointed out that the fine print gave the company the right to change their coverage. Most companies have these “reservation of rights” clauses in their benefits documents, so even if the retirees had been promised the benefits—orally, by the human resources managers, or in writing—the plan documents would override them. Lawsuits were futile. The odds of winning this type of benefits case are about on a par with the Chicago Cubs winning the World Series. The cases are heard in federal court. Retirees rarely bring them and rarely prevail. And even when cases make it to court, they take years to resolve.
Joseph Parano, a retired engineer and manager for the Bell System with Stage IV colon cancer, knew he didn’t have time to make a federal case out of it. So he tried something creative. Shortly after Schacht’s road show, Parano went to superior court in San Mateo, California, paid his $30 filing fee, and sued Lucent in small claims court. Normally the battleground for neighborhood spats and debt collectors, small claims courts are not a venue for federal benefits cases. But Parano had successfully sued both a moving company that lost his sister’s belongings and a bank for not paying interest on a dead relative’s passbook savings account, so he thought it was worth a shot. In his complaint, Parano sought $5,000 (the maximum amount recoverable under a small claims action) “for loss of spousal death benefits” and also had a claim for $2,300 in medical bills he said should have been paid from Lucent’s retiree health plan.
Lucent’s big-league lawyers were flummoxed, and in February 2004 they settled the claim for an undisclosed amount. “But it was a lot more than $10,000,” Parano said afterward, with a certain amount of satisfaction. He also got his digs in one last time, in his self-published obituary, which ran in the San Francisco Chronicle in February 2006:
He retired from AT&T after 32 years of service with a secure benefit package. After retirement he was reassigned against his wishes to Lucent Tech. Inc. who reduced his health benefits and eliminated his spousal death policy that was promised. He is survived by his loving wife of 24 years, Susie Cronin Parano.
The notice provided the time of the funeral mass and said that in l
ieu of flowers, donations could be made in Joe’s name to: PETA, 501 Front St., Norfolk VA 23510. Joe was sixty-nine.
OLD WIVES’ TALES
Most retirees and their spouses, however, didn’t have a chance. Connie Sharpe, a widow in Las Cruces, New Mexico, had been a classic corporate spouse, moving many times as her husband, George, set up missile programs in Cape Canaveral, Florida, Vandenberg Air Force Base in California, and White Sands, New Mexico.
When George retired in 1975 after working for Bell Laboratories for thirty-four years, he had a pension, retiree health coverage, and a death benefit. The couple hadn’t taken out life insurance, because they were relying on the death benefit of $34,080, which was what George had been earning when he retired.
But when George died in 2003, his wife’s health coverage ended six months later, and his pension ended, too. Lucent maintained that Connie Sharpe had waived her right to a survivor’s pension; she didn’t remember doing so and asked to see the paperwork. Lucent told her she would have to subpoena the records. With just $950 a month in Social Security, hiring a lawyer was out of the question. “If I don’t live too long,” she said, “I won’t have to go on welfare. I sure do feel sorry for the big executives who make millions when they retire.”
Margaret Jelly, Bill Jelly’s wife, also found herself in a fix she never expected to be in. She had been a classic stay-at-home spouse in the golden age of benefits. If anyone was likely to have a secure retirement, it was this postwar cohort, whose paths followed a common trajectory.
Bill had begun working as an electrician’s apprentice for Western Electric when he was seventeen. After serving in the Air Force in Italy during the Second World War, he returned to New Jersey, and to Western Electric, as a full-fledged electrician. There were millions like him: ex-servicemen and others, swelling the postwar workforce. Companies were growing rapidly and competing for workers. In lieu of higher salaries, employers offered deferred compensation in the form of pensions and health care in retirement. This mutually beneficial arrangement enabled companies to have more cash to plow into growth and ensured that workers would have a stream of income in their old age. The young electrician met Margaret in 1949, and in 1954, when the first of their three children was born, Bill was still making only $64 a week, but he was also building up retirement benefits.
When Bill got Lucent’s letter in early 2003, he knew that if he didn’t die before February 3—a mere three weeks later—that death benefit would vanish. He figured the odds were good that he’d beat Lucent to the punch. “I have a deadline,” he told his wife when he went back into the hospital on January 14 for what they both knew would be the last time. He didn’t make his deadline. Bill celebrated his eightieth birthday in the hospital on February 14, 2003, which was also his fiftieth Valentine’s Day with Margaret. The nurses had a small party for him. He died on February 24, 2003. Lucent saved $39,000.
SLIDE SHOW
In its January 2003 letter to retirees, Lucent said it felt terrible about the move. “Eliminating the death benefit was one of the very difficult decisions we had to make over the past few years,” it told retirees. But the more than $464 million savings were crucial for the company’s survival, it claimed.
Lucent’s letter to the retirees didn’t mention that the savings it would get by killing a benefit earned by 100,000 retirees over three decades would help it pay a new retiree obligation—one that was only a little more than five years old: the special supplemental pensions and retirement benefits for its executives. In a few short years, the obligation had grown to $422 million.
Lucent enjoyed another perverse benefit from cutting retiree benefits: Even though it had never spent a cent for its retirees’ benefits, cutting them generated instant profit. The cuts announced in 2003 reduced Lucent’s liability for its “postretirement benefit plans” by $1.1 billion—a 13.5 percent reduction that year. This generated more than $1 billion in accounting gains, which the company added to income in subsequent quarters.
Lucent used $280 million in such gains in its 2003 income calculations; these gains enabled the company to report its first profits in three years. Lucent executives achieved their performance goals and were awarded handsomely. In 2004, chief executive Patricia Russo was awarded a $1.95 million bonus on top of her $1.2 million salary, $4.6 million in restricted stock, plus $4.8 million in options. Though Russo had been at the helm of the company for only two years, she had already received compensation worth $44 million.
While Schacht was lobbying the retirees, Lucent was lobbying Congress, which was about to enact the Medicare Prescription Drug Plan, which would provide government-paid drug benefits to retirees. Lucent and other companies said that unless the government gave them a subsidy to continue providing prescription drug coverage, they would likely cancel their plans altogether, which would put more of a strain on the government budget. This was largely a bluff, given that the companies had already been cutting health coverage for salaried retirees and would have loved to do the same for its union retirees, if they hadn’t had those pesky collectively bargained contracts.
Lucent, in fact, had never paid a cent for its retirees’ prescription drugs: It had used money from the trusts it acquired in the spin-offs or had tapped the pension plan to pay for them. Nonetheless, with the passage of the Medicare drug plan, Lucent received a tax-free subsidy that enabled it to whack $500 million off its liabilities. Another way to look at it: Lucent killed the death benefit to be able to hang on to $400 million in the pension plan, even as it won a subsidy of $500 million.
One retiree who didn’t buy Schacht’s plea of poverty was Walt Ehmer. He had been the chief executive of Lucent Technologies Denmark, and he scoffed at the notion that the company needed to throw the retirees overboard to survive. For one thing, he pointed out, the company was sitting on $4.3 billion in cash. Couldn’t it use some of that to pay for retiree benefits? Not possible, Schacht said. Lucent needed to commit its cash to “securing its future.”
It also needed it to pay the executives who helped engineer the retiree cuts. The year of the Schacht road show, Lucent’s cash payments to its top five executives totaled $12.5 million. That was roughly the amount of benefits paid for health care for 3,396 retirees and their dependents that year.
The following year—for the very first time—Lucent actually had to shell out something for the benefits of its 129,000 retirees: It paid $159 million. To put this figure in perspective, it also paid $300 million in executive bonuses. Schacht later defended the bonuses, saying it was necessary to pay competitive compensation to executives, “because that’s what it’s going to take to continue to attract and retain the talent required to build this company back to where we want to go.”
The spin job didn’t stop. In a financial filing discussing its pending merger with French telecom giant Alcatel SA in 2005, Lucent referred to its “costly” retiree plans and said that the combined company might have to take steps to reduce those costs.
It didn’t mention that the pension plan, which by then covered 230,000 retirees and employees, was again so flush that it pumped $973 million of noncash income into Lucent’s earnings in fiscal 2005—about 82 percent of the company’s pretax profit for the year. The only U.S. pension creating a drag on earnings was the supplemental pension for its 2,500 executives—its liability had grown to $422 million.
In 2005, Russo was awarded $3.6 million on top of her base salary of $1.2 million, and was granted an additional $8.7 million in restricted stock and options, a total of $13.5 million in 2005, a year the company would have been unprofitable were it not for the gains from its pension.
Lucent continued to benefit from the retiree plans. It used another $2 billion in pension assets to pay for retiree health care, and when it merged with Alcatel in 2006 to become Alcatel-Lucent, it still had a dowry of $5 billion in surplus pension assets.
The new French owners of the portfolio of American retirees continued to benefit from their investment: Alcatel-Lucent
continued to pick away at the benefits. Thanks to gains from benefits cuts, plus pension income, the pension plan generated $1.7 billion in income in 2007, without which the company would have reported a loss of $1 billion. Alcatel-Lucent executives achieved their performance targets and were awarded their bonuses.
In 2008, Lucent eliminated its prescription drug plan for salaried retirees altogether, which generated $358 million in income. Russo stepped down at the end of the year, taking with her $8 million in severance.
In October 2009, the company froze the pensions of its 11,500 management employees. Their loss was Alcatel-Lucent’s gain: a $531 million boost to profits.
Chapter 6
WEALTH TRANSFER
The Hidden Burden of Spiraling Executive Pensions and Pay
WHEN HENRY SCHACHT was delivering the bad news to Lucent retirees, there was one retiree in the room who wasn’t going to feel the pain. That was Schacht himself. As a former CEO, Schacht had accrued a small fortune, joining the club of executives with enough retirement wealth not only to retire to an island but to buy it.
While Lucent and other companies were cutting benefits for hundreds of thousands of retirees to the bone, they were lavishing increasingly enormous sums on top management. This isn’t simply an issue of disparity; it’s a transfer of wealth. Billions of dollars earmarked to pay pensions and health care benefits to retirees were consumed, one way or another, by management teams who profited from the short-term income lift these maneuvers generated.
Retirement Heist Page 10