Companies with high levels of their own stock in their retirement plans often fail to scale back their exposure even when they're heading into financial straits, according to a new study.
The result, the study said, can lead to significant losses to participants' retirement savings, suggesting a need for limits on how much such stock should be held by a company plan.
The research, by academics at Boston College, the University of California, Riverside and the University of Alberta, found that large stakes in company stock see little variation in the years before struggling companies fall into default or even bankruptcy.
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What's more, both employer and participant contributions tend to remain steady in those years, meaning the tendency is to not only to not reduce risk from company stock, but to add it.
And that has happened even as stock prices have swooned and large institutional investors have off-loaded their exposure, meaning that the decline of these distressed companies is "publicly observable," the study said.
The researchers, Edith Hotchkiss, Yawen Jiao and Ying Duan, pulled data on 726 companies covering the period from 1992 to 2012. They used Moody's Default Risk Service, which tracks debt defaults, bankruptcies and acquisitions of distressed companies.
Most of the companies – 408 – had only a defined contribution plan. Another 297 had a combination of a defined contribution and defined benefit retirement plan.
On average, the value of the company stock held in DC plans three years prior to default was $33.2 million. By the time default rolled around for the sampled companies, the average value had dropped to $3.8 million.
Five years before default, over 26 percent of DC plan assets were held in company stock, on average. In the case of the worst culprit in the study, Riviera Holdings Corp., a Nevada-based casino operator that filed for Chapter 11 protection in 2010, 99.8 percent of plan assets were invested in company stock.
Company stock accounted for more than 60 percent of Enron's 401(k) plan assets in 2000, a year or so before it filed for bankruptcy, notes the study.
The study said that, as sponsors of defined contribution plans moved closer to default, they showed no signs of slowing their pace of matching participant deferrals.
"Despite the deteriorating stock performance of firms approaching financial distress, DC plan participants continue to contribute a fixed fraction of income to the plans with large exposures to company stock," write the authors.
That was different with sponsors of defined benefit plans, whose contributions to plans invariably decline, along with the plans' funding status, as the companies inched closer to default.
Not included in the study is the experience of RadioShack 401(k) participants, though their travails confirm the study's thesis.
Last week, the Dallas-based electronics retailer filed for bankruptcy in a Delaware court. A few months earlier, three participant lawsuits were filed in U.S. District Court for the Northern District of Texas, alleging RadioShack's fiduciaries should have know that matching 401(k) contributions in company stock was bound to eviscerate employee savings, given the "sea-change in the central risk-profile and business prospects of the company," according to claims in Singh v. RadioShack, one of the suits.
On June 30, 2011, one of RadioShack's plans held 2.9 million shares of company stock valued at $39.5 million. By June of 2013, the plan had increased its shares to 3.5 million, but their total value had crashed to $11.25 million.
There is data showing sponsors are moving out of the company-stock game.
Last year, Vanguard said the share of plans offering company stock fell by 18 percent between 2005 and 2011, dropping to 9 percent of plan sponsors from 11 percent.
In their study, the university researchers cite data showing that, as of 2010, 51 percent of Coca-Cola Co.'s 401(k) plan was comprised of company stock. It was 44.3 percent for Caterpillar Inc.; and 42 percent for General Electric Co. and Target Corp.
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Nick Thornton
Nick Thornton is a financial writer covering retirement and health care issues for BenefitsPRO and ALM Media. He greatly enjoys learning from the vast minds in the legal, academic, advisory and money management communities when covering the retirement space. He's also written on international marketing trends, financial institution risk management, defense and energy issues, the restaurant industry in New York City, surfing, cigars, rum, travel, and fishing. When not writing, he's pushing into some land or water.
