BHS. The £571 Million That Was in the Accounts All Along.
Autumn Term, Lesson 2. A 23-year plan to fix the BHS pension deficit, and payments that barely covered the interest.
Autumn Term is a weekly series from WrightCFO, a UK fractional CFO practice, on what the numbers were saying in well-known businesses, the ones that went wrong and the ones that got it right.
The short version
- The BHS pension deficit went from a £43 million surplus in 2000 to a £571 million shortfall when the company entered administration in 2016.
- Between 2002 and 2004 BHS made £208 million in profit and paid out £423 million in dividends, while its pension schemes needed more money, not less.
- The recovery plan agreed in 2013 would have taken 23 years, against a typical eight, and the payments barely covered the interest on the deficit.
- The deficit was disclosed in BHS’s own accounts every year. The problem was not that it was hidden but that nobody with authority acted on it.
- Most owner-managed businesses have their own version: liabilities such as dilapidations, holiday pay, earn-outs, HMRC arrangements, personal guarantees and an overdrawn director’s loan account that never appear in the monthly numbers.
When Sir Philip Green bought BHS in 2000, its two pension schemes held £43 million more than they needed to pay everything they had promised.
Sixteen years later the company went into administration with those same schemes £571 million short. Eleven thousand people lost their jobs, and around 20,000 members of the pension schemes were left waiting to find out what their retirement was actually worth.
If you had a Saturday job at BHS, or spent an afternoon in the café while somebody else did the shopping, you’ll remember the shops. What most people never saw was the number, and it was never hidden. The MPs who investigated the collapse noted that BHS’s own accounts included information on the pension deficit each year.
How did the BHS pension deficit reach £571 million?
The surplus wore away through the early 2000s, and the schemes slipped into deficit in 2006. That came straight after the years in which BHS paid its largest dividends. Between 2002 and 2004 the company made profits of £208 million and paid out £423 million, and MPs were told that £307 million of it went to the Green family.
Paying out just over twice what a business earns across three years is a choice, and it can only be funded from reserves built up in other years. Meanwhile the pension schemes needed more money, not less.
In 2005 the chair of the pension trustees wrote to the company asking for a written commitment that it would keep paying what the schemes needed. That commitment never came. Over the following years the trustees asked for higher contributions and for security over company assets, and were turned down.
What was wrong with the 23-year recovery plan?
When a pension scheme is in deficit, the employer and the trustees agree a recovery plan: how much the company will pay in each year, and how long it will take to close the gap.
After the 2012 valuation, BHS offered £10 million a year and would not move from it. At that rate the plan ran to 23 years. The typical recovery plan at the time was around eight. The committee found that the payments barely covered the interest on the deficit, so the hole went on growing while everyone involved could say there was a plan in place.
Twenty-three years is the number in this story. It was written down, agreed and sent to the regulator in 2013, and it told anybody who looked that the problem was being managed rather than fixed.
Sold for £1, in administration thirteen months later
In March 2015 Green sold BHS for £1 to Retail Acquisitions, headed by Dominic Chappell, a former racing driver with no retail experience and a history of bankruptcy. The pension schemes went with the business, by then almost £350 million short. Thirteen months later BHS was in administration.
The joint committee of MPs concluded that the company’s fate had been sealed on the day it was sold. It was scathing about the advisers on both sides, and described the wider group as run as “a personal fiefdom by a single dominant individual”, with directors who provided no real independent oversight or challenge.
In February 2017 Green agreed to pay £363 million to support the schemes. He had promised MPs he would sort the pension out, and he did put in a substantial sum. It was less than the deficit, and it arrived years after the point at which the problem could have been dealt with quietly.
Everybody could see it, and nobody could stop it
The trustees saw it and said so in writing. The regulator had the recovery plan. The advisers were well paid, and the deficit sat in the accounts. What was missing was somebody with the standing to say, in the room where the dividends were decided, that the business was taking out more than it made and leaving the pensioners to make up the difference.
In Lesson 1, at Thomas Cook, the number was an asset that wasn’t worth what the accounts said. At BHS it was a liability that everyone could see and nobody would pay down. They sit on different lines of the balance sheet, and they went wrong for the same reason.
What does BHS have to do with a £2 to £10 million business?
You almost certainly don’t have a defined benefit pension scheme. You may well have something that behaves like one: an obligation that is real and growing, but doesn’t appear in the monthly management accounts, so it never comes up at the meeting where money gets taken out.
The usual ones are the dilapidations clause on a lease, holiday pay that has never been properly accrued, an earn-out agreed on an acquisition in a more optimistic year, a time-to-pay arrangement with HMRC, and the personal guarantees you signed for the lease or the invoice finance facility. HMRC, it’s worth remembering, now ranks ahead of most other creditors for VAT and PAYE if things go wrong.
Then there is BHS in miniature, which is simply taking out more than the business made. Owner-managers usually do it for sensible reasons. Dividends get set on last year’s profit, a slower year follows, and the director’s loan account drifts. Once, that’s a decision. Three years running, with something else quietly growing in the background, it’s the same pattern at a smaller scale. (Profit and cash are not the same thing either, as Wilko showed in Summer School.)
There’s a quieter version I have seen more than once. The director takes little or no salary and no dividends, and draws what they need from the company as they go, sometimes for years, believing that’s simply how it’s done. Every withdrawal lands on the director’s loan account, and the balance grows without ever showing up as a cost. If it isn’t cleared within nine months of the year end, it can also bring a separate tax charge on the company.
In one business we worked with, it had been building for years before anybody put a figure on it. We agreed a repayment plan, put the CEO on a proper salary, and started paying the loan back. It worked, but it was a far bigger job than it would have been if someone had raised it in the first year.
Five things to look at this week
- Add up everything you’ve taken out over the last three years, including dividends, drawings and any movement on your director’s loan account, and put it next to post-tax profit for the same three years.
- List what the business owes that isn’t in the monthly numbers: dilapidations, holiday pay, deferred consideration, HMRC arrangements and any guarantees you’ve signed personally. Put a figure and a date next to each one.
- For anything you’re paying off in instalments, check the balance is actually going down. If the payments are only keeping pace with interest and penalties, you have your own 23-year plan.
- Check whether next year’s budget has room for the items on that list, or whether it quietly assumes they won’t arrive.
- Ask who in your business would tell you if the first four answers were bad, and whether anyone would listen. (If the honest answer is “nobody”, Patisserie Valerie is worth a read.)
If the first two of those five were harder to answer than you expected, that’s usually because nobody has ever asked. We can put a figure and a date against everything your business owes that isn’t in the monthly numbers, including whatever has built up on the director’s loan account, and agree how to deal with each one while it’s still your decision rather than somebody else’s demand.
Thirty minutes, and nothing for you to send me beforehand. You can book a slot directly with me here.
Sophie
Frequently asked questions
How big was the BHS pension deficit?
When BHS went into administration in April 2016, its two defined benefit pension schemes were £571 million short of what they needed to pay members. When Sir Philip Green bought the business in 2000, the same schemes had been £43 million in surplus. Around 20,000 scheme members were affected.
Did Sir Philip Green pay the BHS pension deficit?
Not in full. In February 2017 he reached a settlement with The Pensions Regulator worth up to £363 million, which funded a new scheme for members. That was less than the £571 million deficit, but enough to give most members a better outcome than the Pension Protection Fund would have provided.
What is a pension recovery plan?
When a defined benefit scheme does not have enough assets to meet its promises, the trustees and the employer must agree a recovery plan setting out how much the employer will pay in, and over how long, to close the gap. The plan is sent to The Pensions Regulator. BHS’s plan ran to 23 years, roughly three times the typical length at the time.
What hidden liabilities should owner-managed businesses check?
The most common are lease dilapidations, unaccrued holiday pay, earn-outs or deferred consideration on acquisitions, HMRC time-to-pay arrangements, personal guarantees on leases and finance facilities, and an overdrawn director’s loan account. None of them usually appears in monthly management accounts, which is why they get missed when dividends or drawings are decided.
What happens if a director’s loan account is overdrawn at the year end?
If a director owes the company money and the loan is not repaid within nine months and one day of the end of the accounting period, the company pays an additional corporation tax charge under section 455, which can be reclaimed once the loan is repaid. Loans above £10,000 can also create a benefit-in-kind charge. GOV.UK sets out the current rules.
Sophie Wright is the founder of WrightCFO, a fractional CFO practice of eleven Chartered Accountants founded in 2014. We work with founder-led and private equity-backed businesses across the UK, mostly between £1 million and £10 million in revenue, on budgets and forecasting, board reporting, exit readiness and post-acquisition integration.
Sources: House of Commons Work and Pensions and Business, Innovation and Skills Committees, joint report on BHS (July 2016); The Pensions Regulator, BHS pension settlement (February 2017), as reported by Reuters/CNBC; The Pensions Regulator, guidance on recovery plans; HMRC, Protecting your taxes in insolvency; GOV.UK, Director’s loans.
Photo by Ian O’Donnell on Unsplash.
