Online Case Studies accompanying Business Finance, 8th Edition Chapter 3 Unisuper Limited (The Time Value of Money:

: An Introduction to Financial Mathematics) The focus on superannuation and encouraging individuals to save and invest for their future, and particularly their retirement years, has been increasingly emphasised in the past two decades in Australia. The Australian Government has been especially pro-active in this regard, mandating minimum contributions that must be made to complying superannuation or retirement funds by employers on behalf of their employees. This minimum level of employer contribution to superannuation was introduced at 36 per cent of employees salaries and is legislated to increase to a minimum contribution of 9 per cent by 2005. Employees will also be required to compulsorily allocate a percentage of their income to superannuation investment by this date. The impetus for introducing these superannuation policy initiatives is to remove the burden from the social security system for the provision of pension payments to support individuals during the retirement stage of their lives. Due to these mandated superannuation requirements and an increasing realisation by individuals of the importance of saving for their future, there are currently billions of dollars of superannuation contributions flowing to superannuation funds and financial institutions every year, whose role it is to profitably invest these contributions to provide sufficient income to fund the non-working component of individuals lives. As such, superannuation and mutual funds are one of the largest investors in Australian financial markets, and particularly in equity securities of companies listed on domestic and overseas sharemarkets. One of the largest individual industry-based superannuation funds is Unisuper Limited, which services and manages thesuperannuation for activities ofemployees in the tertiary education sector in Australia, including alluniversities, TAFE colleges and other higher education institutions. The other revolution in superannuation funds management and service provision in recent years has been a significant increase in the variety of superannuation fund products and investment and retirement plan options, with members now having much greater flexibility in deciding what types of funds and assets their superannuation contributions are invested in. In line with this increasing investment choice, Unisuper Limited offers its members two forms of superannuation plans: a Defined Benefit Plan; and an Investment Choice Plan As the name suggests, the Defined Benefit Plan is one involves a superannuation policywhere the benefit paid to employees at retirement is determined based on a formula which factors in determinants such as employees yourfinal average salary, yourage and the number of years that they youhave been employed. Under the Defined Benefit Plan, employees retirement benefit is calculated as: Retirement Benefit = Benefit salary Length of membership Lump-sum factor Average service fraction

Online Case Studies t/a Business Finance 8e by Peirson et al.

For tertiary education employees who elect to follow the Defined Benefit Plan, their superannuation contributions are pooled and invested in a selection of assets determined by the Unisuper Limited trustees. As their final benefit pay-out is determined solely by the above formula, the investment performance of their asset portfolio is effectively irrelevant and does not affect their final retirement pay-out: the investment risk is borne solely by Unisuper Limited. This implies that employees do not benefit from gains earned by their asset portfolio (above the minimum requirement to meet their defined benefits) and it is the responsibility of the Unisuper Limited trustees to be able to fully fund these defined benefits. The trustees of the Defined Benefit Plan do have the discretion to pay an additional accumulation benefit on an annual-adjusted basis, although this is not guaranteed and will form a small proportion of overall superannuation benefits under this plan. For those employees who choose the Investment Choice Plan, they retain an individual investment account comprised of employer-sponsored and personal theirsuperannuation contributions, an annual distribution of gains earned on their invested contributions, less any administration and management charges. Under the Investment Choice Plan, employees can nominate the types of assets or portfolios that their superannuation contributions are invested in, among the following four investment strategies: Secure Fund Australian fixed interest securities and cash. Stable Fund Primarily fixed interest and bond securities, with a small exposure of domestic and overseas shares and property. Trustees Selection Fund Balanced fund of domestic and overseas shares, property assets and infrastructure and private equity investments. Shares Fund Investment solely in domestic and overseas shares.

These differentstrategies can be basicallydifferentiated on their risk and return characteristics, with the Secure Fund being the least risky and likely to provide the lowest average return, compared with the Shares Fund, which carries the highest risk but is expected to provide the highest overall average return. For employees who choose the Investment Choice Fund, their final retirement pay-out is dependent on the returns generated by their chosen investment strategy and they bear the investment risk associated with their superannuation contributions. At the time of retirement, Unisuper Limited provides a range of investment products for both Defined Benefit Plan and Investment Choice Plan subscribers to manage and distribute their retirement benefits. These include the following pension or other investment options:

Indexed Pensions provide a regular income that is indexed to inflation and is payable as long as you live and is transferred to a spouse or dependent upon your fordeath.

Online Case Studies t/a Business Finance 8e by Peirson et al.

Single Life Indexed Pension provides a higher regular income compared to the standard indexed pension outline above, but is not transferred to a dependent at the time of your death. Allocated Pensions provide a regular income (at a level of your choosing) and access to your capital if desired, and four available investment strategies in which your capital can be placed. If you die, the balance of the pension is eitherdistributed to your dependents. or they can choose to continue the allocated pension on the same terms. Roll-over Options you can choose to transfer (roll-over) your retirement fund balance to an approved personal or industry superannuation or investment fund, an approved deposit fund or a retirement savings account. Part-Cash Distribution a certain percentage of your retirement fund (subject to regulatory and tax approvals) can be taken as a cash lump-sum to be used for investment or personal consumption purposes.

Participants can also elect to undertake a combination of these alternatives, with the decision-making very much dependent on their income and lifestyle requirements in retirement. Within this decision-making, consideration of investment risk and return profiles are paramount, as well as the effects of inflation and the time value of money.

Questions: 1) Outline what you think are the important factors that should be considered by tertiary sector employees when they are deciding whether to place their superannuation contributions in the Defined Benefit Plan or the Investment Choice Plan. What issues relating to the concept of the time value of money may be important to this decisionmaking?
2)

Explain how the time value of money has an impacts on the potential investment returns and retirement savings of participants in both the Defined Benefit Plan and the Investment Choice Plan. Are you correct in saying that participants who opt for the Defined Benefit Plan are forgoing potential gains in investment earnings and returns generated in association with the time value of money? Consider the retirement investment products that are offered to members by Unisuper Limited. In terms of time value of money concepts and ideas, which of the available alternatives do you think would be most attractive? to you?Explain your reasoning for this choice, using examples of present or future values calculations, if required.

3)

Online Case Studies t/a Business Finance 8e by Peirson et al.