Note 17 Employee benefits

The Company operates defined benefit and defined contribution pension plans and termination indemnity plans, in accordance with local regulations and practices. These plans cover a large portion of the Company’s employees and provide benefits to employees in the event of death, disability, retirement, or termination of employment. Certain of these plans are multiemployer plans. The Company also operates other postretirement benefit plans in certain countries.

A number of these plans require employees to make contributions and enable employees to earn matching or other contributions from the Company. The funding policies of the Company’s plans are consistent with the local government and tax requirements. The Company has several pension plans that are not required to be funded pursuant to local government and tax requirements. The Company uses a December 31 measurement date for its plans.

The Company recognizes in its Consolidated Balance Sheets the funded status of its defined benefit pension and postretirement plans, measured as the difference between the fair value of the plan assets and the benefit obligation.

Obligations and funded status of the plans

The following tables set forth the changes in benefit obligations, the changes in plan assets and the funded status recognized in the Consolidated Balance Sheets for the Company’s benefit plans:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

($ in millions)

2011

2010

2011

2010

Benefit obligation at January 1,

9,337

8,914

214

219

Service cost

242

210

2

2

Interest cost

402

389

12

12

Contributions by plan participants

76

58

Benefit payments

(549)

(571)

(16)

(13)

Benefit obligations of businesses disposed and acquired

20

39

Actuarial (gain) loss

472

168

9

(6)

Plan amendments and other

5

16

(1)

Exchange rate differences

(188)

153

1

Benefit obligation at December 31,

9,817

9,337

260

214

 

 

 

 

 

Fair value of plan assets at January 1,

9,010

8,149

Actual return on plan assets

155

636

Contributions by employer

305

567

16

13

Contributions by plan participants

76

58

Benefit payments

(549)

(571)

(16)

(13)

Plan assets of businesses disposed and acquired

18

Plan amendments and other

(6)

(12)

Exchange rate differences

(142)

183

Fair value of plan assets at December 31,

8,867

9,010

Funded status – underfunded

950

327

260

214

The amounts recognized in “Accumulated other comprehensive loss” and “Noncontrolling interests” were:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

December 31, ($ in millions)

2011

2010

2009

2011

2010

2009

(1)

OCI represents “Accumulated other comprehensive loss”.

(2)

NCI represents “Noncontrolling interests”.

(3)

NCI, net of tax, amounted to $(2) million, $(5) million and $(2) million at December 31, 2011, 2010 and 2009, respectively.

Transition liability

(1)

(2)

Net actuarial loss

(1,826)

(1,135)

(1,313)

(71)

(65)

(77)

Prior service cost

(34)

(43)

(40)

42

51

61

Amount recognized in OCI(1) and NCI(2)

(1,860)

(1,178)

(1,353)

(29)

(15)

(18)

Taxes associated with amount recognized in OCI(1) and NCI(2)

415

270

301

Total amount recognized in OCI(1) and NCI(2), net of tax(3)

(1,445)

(908)

(1,052)

(29)

(15)

(18)

In addition, the following amounts were recognized in the Company’s Consolidated Balance Sheets:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

December 31, ($ in millions)

2011

2010

2011

2010

Overfunded plans

(138)

(172)

Underfunded plans – current

25

26

18

16

Underfunded plans – non-current

1,063

473

242

198

Funded status

950

327

260

214

(XLS:)

December 31, ($ in millions)

2011

2010

Non-current assets

 

 

Overfunded pension plans

(138)

(172)

Other employee-related benefits

(1)

(1)

Prepaid pension and other employee benefits

(139)

(173)

(XLS:)

December 31, ($ in millions)

2011

2010

Current liabilities

 

 

Underfunded pension plans

25

26

Underfunded other benefit plans

18

16

Other employee-related benefits

33

26

Pension and other employee benefits (Note 13)

76

68

(XLS:)

December 31, ($ in millions)

2011

2010

Non-current liabilities

 

 

Underfunded pension plans

1,063

473

Underfunded other benefit plans

242

198

Other employee-related benefits

182

160

Pension and other employee benefits

1,487

831

The funded status, calculated by the projected benefit obligation (PBO) and fair value of plan assets, for pension plans with a PBO in excess of fair value of plan assets (underfunded) or fair value of plan assets in excess of PBO (overfunded), respectively, was:

(XLS:)

 

2011

2010

December 31, ($ in millions)

PBO

Assets

Difference

PBO

Assets

Difference

PBO exceeds assets

7,353

6,265

1,088

3,901

3,402

499

Assets exceed PBO

2,464

2,602

(138)

5,436

5,608

(172)

Total

9,817

8,867

950

9,337

9,010

327

The accumulated benefit obligation (ABO) for all defined benefit pension plans was $9,512 million and $9,024 million at December 31, 2011 and 2010, respectively. The funded status, calculated by the ABO and fair value of plan assets for pension plans with ABO in excess of fair value of plan assets (underfunded) or fair value of plan assets in excess of ABO (overfunded), respectively, was:

(XLS:)

 

2011

2010

December 31, ($ in millions)

ABO

Assets

Difference

ABO

Assets

Difference

ABO exceeds assets

5,747

4,839

908

2,080

1,725

355

Assets exceed ABO

3,765

4,028

(263)

6,944

7,285

(341)

Total

9,512

8,867

645

9,024

9,010

14

All of the Company’s other postretirement benefit plans are unfunded.

Components of net periodic benefit cost

Net periodic benefit cost consisted of the following:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

($ in millions)

2011

2010

2009

2011

2010

2009

Service cost

242

210

154

2

2

2

Interest cost

402

389

432

12

12

13

Expected return on plan assets

(507)

(422)

(384)

Amortization of transition liability

1

1

1

Amortization of prior service cost

44

26

13

(9)

(9)

(11)

Amortization of net actuarial loss

52

71

71

3

5

6

Curtailments, settlements and special termination benefits

3

8

2

(8)

Net periodic benefit cost

236

282

288

9

11

3

The net actuarial loss and prior service cost for defined pension benefits estimated to be amortized from “Accumulated other comprehensive loss” into net periodic benefit cost in 2012 is $82 million and $40 million, respectively.

The net actuarial loss and prior service cost for other postretirement benefits estimated to be amortized from “Accumulated other comprehensive loss” into net periodic benefit cost in 2012 is $5 million and $(9) million, respectively.

Assumptions

The following weighted-average assumptions were used to determine benefit obligations:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

December 31, (in %)

2011

2010

2011

2010

Discount rate

3.91

4.29

4.07

5.03

Rate of compensation increase

1.62

2.05

Pension increase assumption

0.97

1.06

The discount rate assumptions reflect the rates at which the benefit obligations could effectively be settled. The principal assumption was that the relevant fixed income securities are AA rated corporate bonds. In those countries with sufficient liquidity in corporate bonds, the Company used the current market long-term corporate bond rates and matched the bond duration with the average duration of the pension liabilities. In those countries where the liquidity of the AA corporate bonds was deemed to be insufficient, the Company determined the discount rate by adding the credit spread derived from an AA corporate bond index in another relevant liquid market, as adjusted for interest rate differentials, to the domestic government bond curve or interest rate swap curve.

The following weighted-average assumptions were used to determine the “Net periodic benefit cost”:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

(in %)

2011

2010

2009

2011

2010

2009

Discount rate

4.29

4.66

5.63

5.03

5.54

6.30

Expected long-term rate of return on plan assets

5.45

5.44

5.47

Rate of compensation increase

2.05

2.13

2.22

The “Expected long-term rate of return on plan assets” is derived from the current and projected asset allocation, the current and projected types of investments in each asset category and the long-term historical returns for each investment type.

The Company maintains other postretirement benefit plans, which are generally contributory with participants’ contributions adjusted annually. The assumptions used were:

(XLS:)

December 31,

2011

2010

Health care cost trend rate assumed for next year

8.84%

7.93%

Rate to which the cost trend rate is assumed to decline (the ultimate trend rate)

5.00%

5.00%

Year that the rate reaches the ultimate trend rate

2028

2017

A one-percentage-point change in assumed health care cost trend rates would have the following effects at December 31, 2011:

(XLS:)

 

1-percentage-point

($ in millions)

increase

decrease

Effect on total of service and interest cost

1

(1)

Effect on postretirement benefit obligation

22

(19)

Plan assets

The Company has pension plans in various countries with the majority of the Company’s pension liabilities deriving from a limited number of these countries. The pension plans’ structures reflect local regulatory environments and market practices.

The pension plans are typically funded by regular contributions from employees and the Company. These plans are typically administered by boards of trustees (which include Company representatives) whose primary responsibility is to ensure that the plans meet their liabilities through contributions and investment returns. The boards of trustees have the responsibility for key investment strategy decisions.

The accumulated contributions are invested in a diversified range of assets that are managed by third-party asset managers, in accordance with local statutory regulations, pension plan rules and the respective plans’ investment guidelines, as approved by the boards of trustees.

Plan assets are generally segregated from those of the Company and invested with the aim of meeting the respective plans’ projected future pension liabilities. Plan assets are measured at fair value at the balance sheet date.

The boards of trustees manage the assets of the pension plans in a risk-controlled manner and assess the risks embedded in the pension plans through asset/liability modeling. The projected future development of pension liabilities is assessed relative to various alternative asset allocations in order to determine a strategic asset allocation for each plan, based on a given risk budget. Asset/liability management studies typically take place every three years. However, the risks of the plans are monitored on an ongoing basis. The assets of the major plans are reviewed at least quarterly, while the plans’ liabilities are reviewed in detail at least annually.

The board of trustees’ investment goal is to maximize the long-term returns of plan assets within the risk budget, while considering the future liabilities and liquidity needs of the individual plans. Risk parameters taken into account include:

  • the funding ratio of the plan,
  • the likelihood of extraordinary cash contributions being required, and
  • the risk embedded in each individual asset class, and the plan asset portfolio as a whole.

The Company’s investment policy is to achieve an optimal balance between risk and return on the plans’ investments through the diversification of asset classes, the use of various external asset managers and the use of differing investment styles. This has resulted in a diversified portfolio with a mix of actively and passively managed investments.

The plans are mainly invested in equity securities and bonds, with smaller allocations to real estate, private equity and hedge funds.

The Company’s global pension asset allocation is the result of the asset allocations of the individual plans. The target asset allocation of the Company’s plans on a weighted-average basis is as follows:

(XLS:)

Asset Class

Target percentage

Cash and equivalents

5

Global equities

20

Emerging markets equities

3

Global fixed income

54

Emerging markets fixed income

4

Insurance contracts

1

Private equity

2

Hedge funds

1

Real estate

9

Commodities

1

 

100

The actual asset allocations of the plans are in line with the target asset allocations, which are set on an individual plan basis by the boards of trustees. They are the result of individual plans’ risk assessments.

Global and emerging markets fixed income securities include corporate bonds of companies from diversified industries and government bonds mainly from mature market issuers. Global and emerging markets equity securities primarily include investments in large-cap and mid-cap listed companies. Global equity securities represent equities listed in mature markets (mainly in the United States, Europe and Japan). Real estate investments consist largely of domestic real estate in Switzerland held in the Swiss plans. The investments in private equity, hedge funds, and commodities reflect a variety of investment strategies.

Based on the above global asset allocation, the expected long-term return on assets is 5.45 percent. The Company and the local boards of trustees regularly review the investment performance of the asset classes and individual asset managers. Due to the diversified nature of the investments, the Company is of the opinion that no significant concentration of risks exists in its pension fund assets.

The Company does not expect any plan assets to be returned to the employer during 2012.

At December 31, 2011, plan assets include ABB Ltd’s shares (as well as an insignificant amount of the Company’s debt instruments) with a total value of $14 million. At December 31, 2010, plan assets include ABB Ltd’s shares with a total value of $17 million.

The fair values of the Company’s pension plan assets by asset class are presented below. For further information on the fair value hierarchy and an overview of the Company’s valuation techniques applied see the “Fair value measures” section of Note 2.

(XLS:)

December 31, 2011 ($ in millions)

Level 1

Level 2

Level 3

Total fair value

Asset Class

 

 

 

 

Cash and equivalents

56

365

421

Global equities

1,717

76

1,793

Emerging markets equities

311

311

Global fixed income

1,921

2,838

4,759

Emerging markets fixed income

398

398

Insurance contracts

37

37

Private equity

177

177

Hedge funds

113

113

Real estate

73

741

814

Commodities

44

44

Total

4,122

3,714

1,031

8,867

(XLS:)

December 31, 2010 ($ in millions)

Level 1

Level 2

Level 3

Total fair value

Asset Class

 

 

 

 

Cash and equivalents

39

372

411

Global equities

2,301

77

2,378

Emerging markets equities

350

350

Global fixed income

1,790

2,643

4,433

Emerging markets fixed income

290

290

Insurance contracts

23

23

Private equity

1

26

156

183

Hedge funds

2

136

138

Real estate

79

696

775

Commodities

29

29

Total

4,591

3,431

988

9,010

The following table represents the movements of those asset categories whose fair values use significant unobservable inputs (Level 3):

(XLS:)

($ in millions)

Private
equity

Hedge
funds

Real
estate

Total
Level 3

Balance at January 1, 2010

149

127

621

897

Return on plan assets:

 

 

 

 

Assets still held at December 31, 2010

21

4

9

34

Assets sold during the year

(5)

(4)

(9)

Purchases (sales)

(12)

5

(7)

Transfers into Level 3

Exchange rate differences

3

9

61

73

Balance at December 31, 2010

156

136

696

988

Return on plan assets:

 

 

 

 

Assets still held at December 31, 2011

(3)

(4)

12

5

Assets sold during the year

22

(6)

7

23

Purchases (sales)

(27)

(14)

32

(9)

Transfers into Level 3

29

2

31

Exchange rate differences

1

(8)

(7)

Balance at December 31, 2011

177

113

741

1,031

Real estate properties are valued under the income approach using the discounted cash flow method, by which the market value of a property is determined as the total of all projected future earnings discounted to the valuation date. The discount rates are determined for each property individually according to the property’s location and specific use, and by considering initial yields of comparable market transactions.

Private equity investments include investments in partnerships and related funds. Such investments consist of both publicly-traded and privately-held securities. Publicly-traded securities that are not quoted in active markets are valued using available quotes and adjusted for liquidity restrictions. Privately-held securities are valued taking into account various factors, such as the most recent financing involving unrelated new investors, earnings multiple analyses using comparable companies and discounted cash flow analyses.

Hedge funds are normally not exchange-traded and the shares of the funds are not redeemed daily. Depending on the fund structure, the fair values are derived through modeling techniques based on the values of the underlying assets adjusted to reflect liquidity and transferability restrictions.

Contributions

Employer contributions were as follows:

(XLS:)

 

Defined pension benefits

Other postretirement benefits

($ in millions)

2011

2010

2011

2010

Total contributions to defined benefit pension and other postretirement benefit plans

305

567

16

13

Of which, discretionary contributions to defined benefit pension plans

36

331

In 2010, the discretionary contributions included a non-cash contribution of $213 million of available-for-sale securities to one of the Company’s pension plans in Germany.

The Company expects to contribute approximately $297 million to its defined benefit pension plans and $18 million to its other postretirement benefit plans in 2012.

The Company also maintains a number of defined contribution plans. The expense for these plans was $144 million, $97 million and $91 million in 2011, 2010 and 2009, respectively. The acquisition of Baldor resulted in a $32 million increase in expense in 2011 compared to 2010.

The Company also contributed $5 million, $30 million and $18 million to multiemployer plans in 2011, 2010 and 2009, respectively. In Japan, a withdrawal from a multiemployer plan scheduled for 2012 resulted in a $5 million provision in 2011.

Estimated future benefit payments

The expected future cash flows to be paid by the Company’s plans in respect of pension and other postretirement benefit plans at December 31, 2011, are as follows:

(XLS:)

 

Pension benefits

Other postretirement benefits

($ in millions)

 

Benefit
payments

Medicare
subsidies

2012

609

19

(1)

2013

614

20

(1)

2014

594

20

(1)

2015

586

20

(1)

2016

593

20

(1)

Years 2017–2021

2,892

100

(7)

Medicare subsidies represent payments estimated to be received from the United States government as part of the Medicare Prescription Drug, Improvement and Modernization Act of 2003. The United States government began making the subsidy payments for employers in 2006.

Financial review

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