22 – Provisions for Pensions and Similar Obligations

Accounting policies

In addition to state pension plans, most employees are granted company pension benefits from either defined contribution or defined benefit plans. Benefits generally depend on years of service, contributions or compensation, and take into consideration the legal framework of labor, tax and social security laws of the countries where the companies are located. To limit the risks of changing financial market conditions as well as demographic developments, employees have, for a number of years now, been almost exclusively offered defined contribution plans for future years of service.

The accounting policies presented in the following relate to defined benefit pension obligations.

Provisions for pensions are calculated on an actuarial basis in accordance with the projected unit credit method using assumptions relating to the following valuation parameters, among others: future developments in compensation, pensions and inflation, employee turnover and the life expectancy of beneficiaries. Obligations are discounted based on the market yields on high-quality corporate fixed-rate bonds.

Similar obligations, especially those arising from commitments by North American Group companies to pay the healthcare costs and life insurance premiums of retired staff and their dependents, are reported under provisions for similar obligations.

Actuarial reports are used to calculate the amount of pension provisions.

Actuarial gains and losses from changes in estimates relating to the actuarial assumptions used to calculate defined benefit obligations, the difference between standardized and actual returns on plan assets, as well as the effects of the asset ceiling are recognized directly in equity as other comprehensive income.

The Group Pension Committee monitors the risks of all pension plans of the Group. In this context, it issues guidelines regarding the governance and risk management of pension plans, particularly with regard to the financing of pension commitments and the portfolio structure of existing plan assets. The organization, responsibilities, strategy, implementation and reporting requirements are documented for the units involved.

Economic and legal environment of the plans

In some countries – especially in Germany, in the United States, in the United Kingdom and in Switzerland – there are pension obligations subject to government supervision or similar legal restrictions. For example, there are minimum funding requirements to cover pension obligations, which are based on actuarial assumptions that differ from those pursuant to IAS 19. Furthermore, there are qualitative and quantitative restrictions on allocating plan assets to certain asset categories. This could result in annual fluctuations in employer contributions, financing measures and the assumption of obligations in favor of the pension funds to comply with regulatory requirements.

The obligations and the plan assets used to fund the obligations are exposed to demographic, legal and economic risks. Economic risks are primarily due to unforeseen developments on commodity and capital markets. They affect, for example, pension adjustments based on the level of inflation in Germany and in the United Kingdom, as well as the impact of discount rates on the amount of the defined benefit obligation. In previous years, measures taken to close plans with defined benefits for future service, especially benefits based on final pay promises and the assumption of healthcare costs for former employees led to a reduction in risk with regard to future benefit levels.

The strategy of the BASF Group with regard to financing pension commitments takes into account country-specific supervisory and tax regulations.

In some countries, pension benefits were granted for which the employer has a subsidiary liability. Pension benefits in a number of countries include minimum interest guarantees to a limited extent. If the pension fund cannot generate the income needed to provide the minimum guarantee, this must be provided by the employer under the subsidiary liability. To the extent that recourse to the employer is unlikely based on the structure and execution of the pension benefits as well as the asset situation of the pension fund, these plans are treated as defined contribution plans.

Description of the defined benefit plans

The following section describes the typical plan structure in the individual countries. Different arrangements may exist, in particular due to the assumption of plans as part of acquisitions; however, these do not have any material impact on the description of plans in the individual countries.

Germany

For BASF SE and German Group companies, a basic level of benefits is provided by BASF Pensionskasse VVaG, a legally independent plan, which is financed by employer and employee contributions as well as the return on plan assets. BASF SE ensures the necessary contributions to adequately finance the benefits promised by BASF Pensionskasse VVaG. Some of the benefits financed via BASF Pensionskasse VVaG are subject to adjustments that must be borne by its member companies to the extent that these cannot be borne by BASF Pensionskasse VVaG due to the regulations imposed by the German supervisory authority. In 2004, the basic benefit plan was closed for newly hired employees at German BASF companies and replaced by a defined contribution plan. At BASF SE, occupational pension promises that exceed the basic level of benefits are financed under a contractual trust arrangement by BASF Pensionstreuhand e.V.; at German Group companies, these benefits are financed primarily via pension provisions. The benefits are largely based on cash balance plans. Furthermore, employees are given the option of participating in various deferred compensation schemes.

United States

Employees are granted benefits based on defined contribution plans.

Effective 2010, the existing defined benefit plans were closed to further increases in benefits based on future years of service, and benefits earned in the past were frozen. There is no entitlement to pension adjustments to compensate for cost-of-living increases.

The legal and regulatory frameworks governing the plans are based on the U.S. Employee Retirement Income Security Act (ERISA), which requires the plan sponsor to ensure a minimum funding level. Any employer contributions necessary to meet the minimum funding level are based on the results of an actuarial valuation. Furthermore, there are unfunded pension plans that are not subject to ERISA requirements.

Additional similar obligations arise from plans that assume the healthcare costs and life insurance premiums of retired employees and their dependents. Such plans have been closed to new entrants since 2007. In addition, the amount of the benefits for such plans has been frozen.

Switzerland

The employees of the BASF Group in Switzerland receive a company pension, which is financed through a pension fund by employer and employee contributions as well as the return on plan assets. The pension plans are accounted for as defined benefit plans, as the obligatory minimum pension guaranteed by law under the Swiss Pension Fund Act (BVG) is included in the scheme. All benefits vest immediately. According to government regulations, the employer is obligated to make contributions, so that the pension funds are able to grant the minimum benefits guaranteed by law. The pension funds are managed by boards, where employer and employees are equally represented, which steer and monitor the benefit plans and asset allocation.

United Kingdom

Employees are granted benefits based on a defined contribution plan.

The BASF Group also maintains defined benefit plans in the United Kingdom, which have been closed for further increases based on future years of service. Adjustments to compensate for increases in the cost of living until the beginning of retirement are legally required for beneficiaries of defined benefit plans.

The financing of the pension plans is determined by the provisions of the regulatory authority for pensions and the relevant social and labor law requirements. The defined benefit plans are administered by a trust company, whose Board of Trustees, according to the trustee agreement and law, represents the interests of the beneficiaries and ensures that the benefits can be paid in the future. The required funding is determined using technical valuations according to local regulations every three years.

Other countries

For subsidiaries in other countries, defined benefits are covered in some cases by pension provisions, but mainly by external insurance companies or pension funds.

Actuarial assumptions

The valuation of the defined benefit obligation is based on the following key assumptions:

The assumptions used to ascertain the defined benefit obligation as of December 31 are used in the following year to determine the expenses for pension plans.

A Group-wide, uniform procedure is used to determine the discount rates applied for valuation of material pension obligations of the BASF Group. Accordingly, the discount rates were derived from the yields on corporate bonds in the respective currency zones with an issue volume of more than 100 million units of the respective currency with a minimum rating of AA– to AA+ from at least one of the following three rating agencies: Fitch, Moody’s, or Standard & Poor’s.

The valuation of the defined benefit obligation is generally performed using the most recent actuarial mortality tables as of December 31 of the respective business year, which in Germany and the United States are derived from the BASF Group population and were last updated in 2019 for the pension obligations in Germany and in 2018 for the pension obligations in the United States.

Sensitivity analysis

A change in the material actuarial assumptions would have the following effects on the defined benefit obligation:

An alternative valuation of the defined benefit obligation was performed to determine how changes in the underlying assumptions influence the amount of the defined benefit obligation. A linear extrapolation of these amounts based on alternative changes in the assumptions as well as an addition of combined changes in the individual assumptions is not possible.

Explanation of the amounts in the statement of income and balance sheet

The interest on the net defined benefit liability at the beginning of the year is recognized in the financial result. This is the difference between the interest cost of the defined benefit obligation and the standardized return on plan assets as well as the interest cost for the asset ceiling. The expected contribution payments and benefits paid over the course of the fiscal year are taken into account when determining net interest.

Net interest expense of the respective fiscal year is based on the discount rate and the defined benefit obligation at the beginning of the year.

As of December 31, 2019, the weighted average duration of the defined benefit obligation amounted to 16.7 years (previous year: 15.4 years).

The standardized return on plan assets is calculated by multiplying plan assets at the beginning of the year with the discount rate used for existing defined benefit obligations at the beginning of the year, taking into account benefit and contribution payments to be made during the year.

Effects from plan settlements resulted in 2019 primarily from the transfer of small benefit entitlements and the corresponding assets from the pension plan in the United States to an external insurer.

BASF’s employer contributions in 2019 totaled €463 million, including a special contribution to BASF Pensionstreuhand e.V. in the amount of €300 million. Through continuous monitoring of financing requirements of its pension plans, BASF always strives to achieve the necessary yields to fill financing gaps over the course of time. Company contributions for 2020 are currently expected to be around €250 million.

Explanations regarding plan assets

The target asset allocation has been defined by using asset liability studies and is reviewed regularly. Accordingly, plan assets are aligned with the long-term development of the obligations, taking into consideration the risks associated with the specific asset classes and the regulations relating to the investment of plan assets. The existing portfolio structure is based on the target asset allocation. In addition, current market assessments are taken into consideration. In order to mitigate risks and maximize returns, a widely spread global portfolio of individual assets is held.

Liability-driven investment (LDI) techniques, such as hedging the risk of changes in interest rates and inflation, are used in some pension plans, especially for U.K. and U.S. plans.

The asset class debt instruments comprises promissory notes and debentures (Pfandbriefe) as well as corporate and government bonds. Government bonds primarily relate to bonds from countries with the highest credit ratings, such as the United States, the United Kingdom, Germany and Switzerland. Corporate bonds mainly comprise bonds from creditworthy debtors, although particular high-yield bonds are also held to a limited extent. In connection with the continuous monitoring of default risk based on a given risk budget and on the observation of the development of the creditworthiness of issuers, the plan asset allocation may be adjusted in the case of a revised market assessment. Alternative investments largely comprise investments in private equity, absolute return funds and senior secured loans.

Almost all of the equities are priced on active markets. The category debt instruments includes promissory notes and debentures (Pfandbriefe) acquired through private placements with a market value in the amount of €193 million as of December 31, 2019, and €394 million as of December 31, 2018. For such securities, especially those held by domestic pension plans, there is no active market. The capital market compensates for this lack of fungibility with yield premiums depending on the maturity. With only a few exceptions, there is no active market for plan assets in real estate and alternative investments.

Plan assets as of the balance sheet date contained securities issued by BASF Group companies with a market value of €2 million in 2019 and €9 million in 2018. The market value of the properties of legally independent pension funds rented to BASF Group companies amounted to €112 million on December 31, 2019 and €112 million on December 31, 2018.

Since 2010, there has been an agreement between BASF SE and BASF Pensionskasse VVaG on the granting of profit participation capital with a nominal value of €80 million, which is used to strengthen the financing of the BASF Pensionskasse VVaG. Beyond this, there were no material transactions between the legally independent pension funds and BASF Group companies in 2019 or 2018.

The funding of the plans was as follows:

Defined contribution plans and government pensions

The contributions to defined contribution plans recognized in income from operations amounted to €332 million in 2019 and €314 million in 2018.

Contributions to government pension plans were €627 million in 2019 and €634 million in 2018.