Hole in BAE pension fund grows by £1.2bn

Tens of thousands of workers at BAE Systems face the prospect of having to make still higher pension contributions after the company disclosed yesterday that the deficit in its scheme soared by £1.2bn last year.

Tens of thousands of workers at BAE Systems face the prospect of having to make still higher pension contributions after the company disclosed yesterday that the deficit in its scheme soared by £1.2bn last year.

The surge in the pension deficit to £4.26bn was attributed to people living longer and lower long-term interest rates, meaning that the gap between assets and liabilities is widening.

Last year, the liabilities across the company's four main funds rose by £1.5bn, dwarfing the £264m improvement in investment returns on their assets. BAE said new mortality assumptions made by its actuaries following a 10-yearly review had increased liabilities by £800m. The other main factor behind the worsening in the deficit was a reduction in the discount rate applied from 2.9 per cent to 2.6 per cent.

Under previous actuarial calculations, an employee retiring at 65 was assumed to have a life expectancy of 16 years. That has now increased to 19 years.

George Rose, BAE's finance director, said an increase in contributions could not be ruled out, only two years after scheme members agreed to more than double contributions to 9.5 per cent of salary to cover a shortfall. The company's contributions rose at the same time from 12.5 per cent to 18.5 per cent.

Negotiations with the company's unions are yet to begin but Mike Turner, BAE's chief executive, stressed that any agreement would have to be one that had the support of all parties - employees, shareholders and pension trustees.

The surprise increase in the pension deficit overshadowed a strong set of operating results with profits before interest, goodwill amortisation and impairment up from £980m to £1.013bn in 2004 and an increase in the order book to £50bn. At the pre-tax level, BAE reported a £232m loss, compared with a £233m profit a year earlier, after a £420m impairment charge for the avionics business the group has sold to Finmeccanica of Italy.

It also emerged that the Serious Fraud Office has interviewed one of BAE's directors, Steve Mogford, over allegations of fraud concerning an alleged slush fund used to pay bribes in connection with the £20bn Al Yamamah arms-for-oil deal between the UK and Saudi Arabia. Mr Mogford, chief operating officer, was named last year as the senior BAE director who decided not to act on a report alleging widespread fraud by two external companies employed by BAE to provide accommodation and travel services.

Mr Mogford is one of several BAE employees interviewed by the SFO since it confirmed it was investigating the group. BAE maintains that it was the victim of any fraud that took place, not the perpetrator.

Mr Turner ruled out a sale of BAE's 20 per cent stake in the aircraft manufacturer Airbus which is worth an estimated £2bn to £3bn. "Unless you can see a better use of the funds, why would you sell it?" he asked.

But he said the British government would need to come up with a competitive offer of refundable launch aid for the new A350 jet, which Airbus is developing, or it could harm the UK's prospects of work when the next major aircraft was developed.

Mr Turner also raised doubts about whether a new company owning all the UK's surface warship yards would see the light of day. He said the chances of creating a unified company combining the shipyards of BAE, VT Group, Babcock and Swan Hunter, were 50:50.

The main stumbling block appears to be the indifference of the Defence Procurement Agency towards the deal. Another hurdle is for the industrial participants to agree on the valuation of their assets. Mr Turner said this would become easier once it was decided which yards would get which parts of the Royal Navy's £3bn order for two new aircraft carriers.