Post-employment benefits

Employee post-employment plans have been established in many countries in accordance with the legal requirements, customs and the local practice in the countries involved.

The Company sponsors a number of defined-benefit pension plans. The benefits provided by these plans are based on employees’ years of service and compensation levels. The Company also sponsors a limited number of defined-benefit retiree medical plans. The benefits provided by these plans are typically covering a part of the healthcare insurance costs after retirement. Most employees that take part in a Company pension plan however are covered by defined-contribution (DC) pension plans.

The largest defined-benefit pension plans are in:

  • The Netherlands,
  • The United Kingdom (UK) and
  • The United States (US).

Together these plans account for more than 90% of the total defined-benefit obligation and plan assets. Philips is one of the sponsors of Philips Pensionskasse VVaG in Germany, which is a multi-employer plan and is accounted for as a DC plan.

The Netherlands

The pension plan in the Netherlands (the Flexplan) was changed in 2014 following the new funding agreement agreed with the Trustees of the Company Pension Fund. Under the new funding agreement, which became effective January 1, 2014, the Company has no further financial obligation to the Pension Fund other than to pay an agreed fixed contribution for the annual accrual of active members. Executives are in a ‘hybrid plan’ with an accrual rate of 1.25% per service year next to a DC contribution, the level of which depends on the executive grade. Both plans are executed by the Company Pension Fund.

Although the new funding agreement de-risked the plan, the annual premium can be subject to variability after five years due to potential discounts and as a result, the plan continued to be accounted for as a defined-benefit plan. The other 2014 changes in the plan were a new pensionable age of 67 (was 65) and the introduction of an employee contribution. These changes had no material impact on the existing defined-benefit obligation.

As part of the above changes, the Company agreed to transfer a one-off EUR 600 million to the Company Pension Fund of which EUR 433 million has been paid in 2014. The remainder is to be settled before July 2015 and is included in the 2015 cash projection in this note.

In 2014 the Fund adopted the Prognosis mortality table 2014 with new experience rating which resulted in a decrease of the Company’s defined-benefit obligation. This effect is recognized in Other comprehensive income under Remeasurements for pension and other post-employment plans.

New legislation effective January 1, 2015 introduces a mandatory cap of EUR 100 thousand on the pension salary for future pension accrual. The Company has changed the pension plan accordingly at the end of 2014. For employees earning more than this cap the Company has announced certain compensatory measures and the introduction of a voluntary net pension saving scheme for the salary part above the cap. To limit the number of plans the Company further announced to cease the executive pension plan and transfer its members and their accrued defined-benefit rights to the Flexplan. Accrued defined-contribution rights in the executive pension plan are optionally transferred to either the Flexplan or an individual product. The net pension saving scheme and the individual product are with an external provider other than the Company Pension Fund.

The net result of these changes was a EUR 68 million decrease in the Company’s defined-benefit obligation which is recognized in the 2014 income statement as a past service cost gain of which EUR 1 million in discontinued operations.

United Kingdom

The UK plan is executed by a Company Pension Fund. In the UK plan the accrual of new benefits ceased in 2011. A legally mandatory indexation for accrued benefits still applies. The Company does not pay regular contributions, other than an agreed portion of the administration costs.

In 2014 the Trustee of the UK Fund entered into two further bulk insurance contracts - buy-ins - which provide for payment in respect of a part of the Fund’s pensioners. The asset value related to the buy-ins included in the UK plan assets equals the defined-benefit obligation of the related pensioners and is EUR 1,299 million per December 31, 2014 which is some 30% of the total assets.

United States

The US defined-benefit plan covers certain hourly workers and salaried workers hired before January 1, 2005.

The accrual for salaried workers in the US plan will end per December 31, 2015 after which the remaining members become eligible for the existing US DC plan. In 2014 the Company adopted a new Mortality table as published by the US Society of Actuaries which increased the US plan’s defined-benefit obligation with some 6%. This effect is recognized in Other comprehensive income under Remeasurements for pension and other post-employment plans.

Indexation of benefits is not mandatory. The Company pays contributions for the annual service costs as well as additional contributions to cover a deficit. The assets of the US plan are in a Trust governed by Trustees.

Risks related to defined-benefit plans

These defined-benefit plans except the Netherlands plan expose the Company to various demographic and economic risks such as longevity risk, investment risks, currency and interest rate risk and in some cases inflation risk. The latter plays a role in the assumed wage increase and in the UK plan where indexation is mandatory. Pension fund Trustees are responsible for and have full discretion over the investment strategy of the plan assets. In general Trustees manage pension fund risks by diversifying the investments of plan assets and by (partially) matching interest rate risk of liabilities.

The Company has an active de-risking strategy in which it constantly looks for opportunities to reduce the risks associated with its defined-benefit plans. Liability driven investment strategies, lump sum cash-out options, buy-ins, buy-outs and the above mentioned 2014 change in the funding agreement of the Dutch plan are examples of that strategy. The larger plans are either governed by independent Boards or by Trustees who have a legal obligation to evenly balance the interests of all stakeholders and operate under the local regulatory framework.

Balance sheet positions

The net balance sheet position presented in this note can be explained as follows:

  • The surpluses in our plans in the Netherlands, UK as well some other countries are not recognized as a net defined-benefit asset because in The Netherlands the current surplus will not bring sufficient future economic benefits to the Company (asset ceiling restrictions) whereas the regulatory framework in the other countries involved explicitly prohibits refunds to the employer.
  • The deficit of the US defined-benefit plan presented under other liabilities and the provisions of the unfunded plans therefore count for the largest part of the net balance sheet position.

The measurement date for all defined-benefit plans is December 31.

Summary of pre-tax costs for post-employment benefits

The below table contains the total of current- and past service costs, administration costs and settlement results as included in Income from operations and the interest cost as included in Financial expenses.

Philips Group
Pre-tax costs for post-employment benefits in millions of EUR
2012 - 2014
 
2012
2013
2014
Defined-benefit plans
290
297
245
included in operating cost
200
220
182
included in financial expense
85
71
59
included in discontinued operations
5
6
4
Defined-contribution plans including multi-employer plans
144
142
148
included in operating cost
134
134
144
included in discontinued operations
10
8
4

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Defined-benefit plans: Pensions

Movements in the net liabilities and assets for defined benefit pension plans:

Philips Group
Defined-benefit obligations in millions of EUR
2013 - 2014
 
2013
2014
 
Netherlands
other
total
Netherlands
other
total
Balance as of January 1
14,433
9,021
23,454
14,294
7,911
22,205
Service cost
183
77
260
174
65
239
Interest cost
467
351
818
478
361
839
Employee contributions
4
4
5
4
9
Actuarial (gains) / losses
 
 
 
 
 
 
  • demographic assumptions
205
17
222
(80)
197
117
  • financial assumptions
(214)
(385)
(599)
3,487
782
4,269
  • experience adjustment
(75)
(32)
(107)
23
25
48
(Negative) past service cost
(1)
(80)
(81)
(68)
(1)
(69)
Acquisitions
12
12
Divestments
(3)
(3)
Settlements
(279)
(279)
(9)
(9)
Benefits paid
(704)
(462)
(1,166)
(699)
(506)
(1,205)
Exchange rate differences
(318)
(318)
624
624
Miscellaneous
2
2
Balance as of December 31
14,294
7,911
22,205
17,616
9,465
27,081
 
 
 
 
 
 
 
Present value of funded obligations at December 31
14,288
7,112
21,400
17,609
8,532
26,141
Present value of unfunded obligations at December 31
6
799
805
7
933
940

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Philips Group
Plan assets in millions of EUR
2013 - 2014
 
2013
2014
 
Netherlands
other
total
Netherlands
other
total
Balance as of January 1
15,203
7,588
22,791
14,843
6,728
21,571
Interest income on plan assets
496
317
813
508
330
838
Admin expenses paid
(9)
(5)
(14)
(9)
(6)
(15)
Return on plan assets excluding interest income
(426)
(338)
(764)
2,534
674
3,208
Employee contributions
4
4
5
4
9
Employer contributions
283
187
470
665
199
864
Divestments
(1)
(1)
Settlements
(311)
(311)
(8)
(8)
Benefits paid
(704)
(407)
(1,111)
(699)
(445)
(1,144)
Exchange rate differences
(306)
(306)
540
540
Balance as of December 31
14,843
6,728
21,571
17,847
8,016
25,863
 
 
 
 
 
 
 
Funded status
549
(1,183)
(634)
231
(1,449)
(1,218)
Unrecognized net assets
(555)
(428)
(983)
(238)
(554)
(792)
Net balance sheet position
(6)
(1,611)
(1,617)
(7)
(2,003)
(2,010)

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The classification of the net balance is as follows:

Philips Group
Net balance of defined-benefit pension plans in millions of EUR
2013 - 2014
 
2013
2014
 
Netherlands
other
total
Netherlands
other
total
Prepaid pension costs under other non-current assets
5
5
2
2
Accrued pension costs under other liabilities
(817)
(817)
(1,072)
(1,072)
Provision for pensions under provisions
(6)
(799)
(805)
(7)
(926)
(933)
Provision in assets held for sale
 
 
 
(7)
(7)
Net balance of defined-benefit plans
(6)
(1,611)
(1,617)
(7)
(2,003)
(2,010)

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Philips Group
Changes in the effect of the asset ceiling in millions of EUR
2013 - 2014
 
2013
2014
 
Netherlands
other
total
Netherlands
other
total
Balance as of January 1
777
586
1,363
555
428
983
Interest on unrecognized assets
25
31
56
19
28
47
Remeasurements
(247)
(155)
(402)
(336)
73
(263)
Exchange rate differences
(34)
(34)
25
25
Balance as of December 31
555
428
983
238
554
792

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Plan assets allocation

The asset allocation in the Company’s pension plans at December 31 was as follows:

Philips Group
Plan assets allocation in millions of EUR
2013 - 2014
 
2013
2014
 
Netherlands
other
Netherlands
other
Matching portfolio:
 
 
 
 
  • Debt securities
11,238
4,282
10,663
5,051
  • Other
508
1,299
Return portfolio:
 
 
 
 
  • Equity securities
2,524
910
5,088
388
  • Real estate
790
9
1,784
13
  • Other
291
1,019
312
1,265
Total assets
14,843
6,728
17,847
8,016

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Asset values related to buy-in contracts are now included in the Matching portfolio under Other.

The assets in 2014 contain 17% (2013: 14%) unquoted assets, the increase compared to 2013 mainly related to the new buy-in value in the UK plan. Plan assets in 2014 do not include property occupied by or financial instruments issued by the Company.

Assumptions

The mortality tables used for the Company’s major schemes are:

  • Netherlands: Prognosis table 2014 including experience rating TW2014.
  • UK: SAPS 2002- Core CMI 2011 projection
  • US: RP2014 HA/EE Fully Generational scaled with MP2014

The weighted averages of the assumptions used to calculate the defined-benefit obligations as of December 31 were as follows:

Philips Group
Assumptions used for defined-benefit obligations in %
2013 - 2014
 
2013
2014
 
Netherlands
other
Netherlands
other
Discount rate
3.4%
4.5%
2.1%
3.7%
Rate of compensation increase1)
2.0%
3.2%
2.0%
3.0%
1)
The rate of compensation increase for the Netherlands consists of a general 2% compensation increase and an individual salary increase based on merit, seniority and promotion. The Company regularly determines new turnover and disability rates and individual salary rates for all active participants. Current figures are based on the period 2010-2012. The individual increase at the average age of 45 is 1.75% (2013: 1.75%). The indexation assumption used to calculate the defined-benefit obligations for the Netherlands is 1.0% (2013: 1.0%).
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Due to the nature of the pension plan in the Netherlands an assumption is required for the future pension accrual rate. If the fixed premium does not cover the cost of the target accrual of 1,85% per annum a lower percentage must be applied for which the cost will be covered by the fixed premium. The Fund in the Netherlands has set aside part of the EUR 600 million received for active members accrual or indexation. The accrual rate for the next 5 years starting 2015 is expected to be 1,85%. Per 31 December 2014 the average future accrual rate used to calculate the defined-benefit obligation and service cost is fixed at 1,74% (2013: 1,85%) as after the five year period a lower percentage will apply assuming the current fixed premium level.

The (average) duration of the defined-benefit obligation of the pension plans is 17 years for the Netherlands (2013: 15 years) and 12 years for other countries (2013: 11 years).

Defined-benefit plans: retiree medical plans

Movements in the net liability for retiree medical plans:

Philips Group
Liability for retiree medical plans in millions of EUR
2013 - 2014
 
2013
2014
Balance as of January 1
250
213
Service cost
1
2
Interest cost
10
11
Actuarial (gains) or losses arising from:
 
 
  • Demographic assumptions
3
  • Financial assumptions
(17)
9
  • Experience adjustment
(3)
Past service cost
Benefits paid
(15)
(15)
Exchange rate differences
(16)
21
Balance as of December 31
213
241
 
 
 
Present value of funded obligations as of December 31
Present value of unfunded obligations as of December 31
213
241
Funded status
(213)
(241)
Net balances
(213)
(241)
 
 
 
Classification of the net balance is as follows:
 
 
Provision for other postretirement benefits
(213)
(241)

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The weighted average assumptions used to calculate the defined-benefit obligations for retiree medical plans as of December 31 were as follows:

Philips Group
Weighted average assumptions for retiree medical plans in %
2013 - 2014
 
2013
2014
Discount rate
4.8%
5.0%
Compensation increase (where applicable)
0.0%
0.0%

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Assumed healthcare cost trend rates at December 31:

Philips Group
Assumed healthcare cost trend rates in %
2013 - 2014
 
2013
2014
Healthcare cost trend rate assumed for next year
7.5%
7.0%
Rate that the cost trend rate will gradually reach
5.2%
5.3%
Year of reaching the rate at which it is assumed to remain
2019
2024

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The average duration of the define-benefit obligation of the retiree medical plans is 8 years (2013: 9 years).

Investment policy in our largest pension plans

It must be acknowledged that trustees of the Philips pension plans are responsible for and have full discretion over the investment strategy of the plan assets.

The objective of the investment strategy of the Philips pension Plan in the Netherlands, is to achieve its agreed ambition, i.e. an indexed retirement income for all participants. The fund’s indexation policy is dependent on the funding ratio and requires a sustainable (regulatory required) basis before allowing any indexation. To meet its ambitions, the fund has strategically allocated 60% of its assets to fixed income and 40% to return assets. Within fixed income circa 90% is invested in so called liability-driven assets (euro and global government bonds, investment grade credits, interest rate and inflation swaps and mortgages) and the remaining part in high yield bonds and emerging market debt. The return assets mainly consist of global equities and real estate.
­
The Philips pension plan in the UK operates a fixed income portfolio that aims to fully hedge the interest rate and inflation rate sensitivities of the fair value of the plan’s pension liabilities. Some 30% of the portfolio is now invested in a buy-in policy, in which an insurance company guarantees all future benefit payments to the plan, thereby matching the investment and longevity risks of the pension liabilities covered in the buy-in policy.
­
The plan assets of the Philips pension plan in the US are invested in a well diversified portfolio. The interest rate sensitivity of the fixed income portfolio is closely aligned to that of the plan’s pension liabilities. Any contributions from the sponsoring company are used to further increase the fixed income part of the assets. As part of the investment strategy, any additional investment returns of the return portfolio are used to further decrease the interest rate mismatch between the plan assets and the pension liabilities. 

Cash flows and costs in 2015

The Company expects considerable cash outflows in relation to post-employment benefits which are estimated to amount to EUR 1,032 million in 2015, consisting of:

  • EUR 819 million employer contributions to defined benefit pension plans
  • EUR 140 million employer contributions to defined contribution pension plans
  • EUR 54 million expected cash outflows in relation to unfunded pension plans and
  • EUR 19 million in relation to unfunded retiree medical plans.

The employer contributions to defined benefit pension plans are expected to amount to EUR 196 million for the Netherlands and EUR 623 million for other countries. The Company continues to fund a part of the existing deficit in the US pension plan in 2015. For the funding of the deficit in the US plan the Group adheres to the minimum funding requirements of the US Pension Protection Act and in 2015 plans to contribute an additional EUR 300 million which amount is included in the amounts aforementioned. The UK plan is currently in a surplus on a regulatory basis and does not require any funding in 2015 other than the agreed administration cost. A new regulatory valuation is scheduled to be performed for the UK Fund during 2015.

The funding of the pension fund in the Netherlands for 2015 consists of a fixed percentage of payroll which applies for a period of 5 years i.e. 2014-2018. The remaining part of the EUR 600 million additional contribution to the pension fund for the Netherlands for 2015 is not included in the above figures and is estimated at EUR 167 million excluding interest.

The service and administration cost for 2015 is expected to amount to EUR 332 million, consisting of EUR 331 million for defined-benefit pension plans and EUR 1 million for defined-benefit retiree medical plans. The net interest expense for 2015 is expected to amount to EUR 59 million, consisting of EUR 48 million for defined-benefit pension plans and EUR 11 million for defined-benefit retiree medical plans. The cost for defined-contribution pension plans in 2015 is expected to amount to EUR 140 million.

Sensitivity analysis

The table below illustrates the approximate impact on the defined-benefit obligation (DBO) if the Company were to change key assumptions. The DBO was recalculated using a change in the assumptions of 1% which overall is considered a reasonably possible change. The impact on the DBO because of changes in discount rate is normally accompanied by offsetting movements in plan assets, especially when using matching strategies.

Philips Group
Key assumptions in millions of EUR
2014
 
Defined benefit obligation
 
Pension Netherlands
Pension other
Retiree medical
Increase
 
 
 
Discount rate (1% movement)
(2,309)
(1,056)
(18)
Wage change (1% movement)
107
31
Inflation (1% movement)
1,341
555
Longevity (see explanation)
492
267
7
Medical benefit level (1% price increase)
14
Decrease
 
 
 
Discount rate (1% movement)
2,998
1,250
19
Wage change (1% movement)
(132)
(28)
Inflation (1% movement)
(1,185)
(486)

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Philips Group
Key assumptions in millions of EUR
2013
 
Defined benefit obligation
 
Pension Netherlands
Pension other
Retiree medical
Increase
 
 
 
Discount rate (1% movement)
(1,708)
(822)
(12)
Wage change (1% movement)
165
28
Inflation (1% movement)
979
461
Longevity (see explanation)
355
232
7
Medical benefit level (1% price increase)
12
Decrease
 
 
 
Discount rate (1% movement)
2,158
962
16
Wage change (1% movement)
(147)
(26)
Inflation (1% movement)
(876)
(418)

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Longevity also impacts post-employment defined-benefit obligation. The above sensitivity table illustrates the impact on the defined-benefit obligation of a further 10% decrease in the assumed rates of mortality for the Company’s major schemes. A 10% decrease in assumed mortality rates equals improvement of life expectancy by 0.5 - 1 year.

Changes in assumed health care cost trend rates can have a significant effect on the amounts reported for the retiree medical plans. A 1%-point increase in medical benefit level is therefore included in the above table as a likely scenario.

(0)
(0)

SF6 (Sulfur hexafluoride) is used in the electrical industry as a gaseous dielectric medium.

CO2-equivalent or carbon dioxide equivalent is a quantity that describes, for a given mixture and amount of greenhouse gas, the amount of CO2 that would have the same global warming potential (GWP), when measured over a specified timescale (generally 100 years).