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Note 11 - Pension Plan and Other Postretirement Benefits

12 Months Ended

Dec. 31, 2019

Pension and Other Postretirement Benefits Disclosure [Text Block]

11. Pension Plan and Other Postretirement Benefits

Pension Plan

The Company's noncontributory funded pension plan covers substantially all corporate employees and OTP nonunion employees hired prior to September 1, 2006, and all union employees of OTP hired prior to November 1, 2013, excluding Coyote Station employees. Coyote Station employees hired before January 1, 2009 are covered under the plan. The plan provides 100% vesting after five vesting years of service and for retirement compensation at age 65, with reduced compensation in cases of retirement prior to age 62. The Company reserves the right to discontinue the plan, but no change or discontinuance may affect the pensions theretofore vested.

The pension plan has a trustee who is responsible for pension payments to retirees and a separate pension fund manager responsible for managing the plan's assets. An independent actuary assists the Company in performing the necessary actuarial valuations for the plan.

The plan assets consist of common stock and bonds of public companies, U.S. government securities, cash and cash equivalents and alternative investments. None of the plan assets are invested in common stock or debt securities of the Company.

The following table lists components of net periodic pension benefit cost for the year ended December 31:

(in thousands)	2019			2018			2017
Service Cost–Benefit Earned During the Period	$	5,491		$	6,459		$	5,629
Interest Cost on Projected Benefit Obligation		14,412			13,452			14,139
Expected Return on Assets		(21,297	)		(21,199	)		(19,229	)
Amortization of Prior Service Cost:
From Regulatory Asset		5			16			120
From Other Comprehensive Income¹		9			-			3
Amortization of Net Actuarial Loss:
From Regulatory Asset		4,642			7,135			5,090
From Other Comprehensive Income¹		114			183			125
Net Periodic Pension Cost²	$	3,376		$	6,046		$	5,877

¹Corporate cost included in nonservice cost components of postretirement benefits.

²Allocation of costs:

2019

2018

2017

Service costs included in OTP capital expenditures

1,365

1,542

1,094

Service costs included in electric operation and maintenance expenses

3,994

4,756

4,400

Service costs included in other nonelectric expenses

132

161

135

Nonservice costs capitalized

(526

)

(99

)

Nonservice costs included in nonservice cost components of postretirement benefits

(1,589

)

(314

)

200

Weighted average assumptions used to determine net periodic pension cost for the year ended December 31:

2019

2018

2017

Discount Rate
4.50 % 3.90 % 4.60 %

Long-Term Rate of Return on Plan Assets
7.25 % 7.50 % 7.50 %

Rate of Increase in Future Compensation Level

See below

See below
3.00 %

Participants to Age 39
4.50 % 4.50 %

Participants Age 40 to Age 49
3.50 % 3.50 %

Participants Age 50 and Older
2.75 % 2.75 %

The following table presents amounts recognized in the consolidated balance sheets as of December 31:

(in thousands)

2019

2018

Regulatory Assets:

Unrecognized Prior Service Cost
$ - $ 5

Unrecognized Actuarial Loss
120,592 104,891

Total Regulatory Assets
$ 120,592 $ 104,896

Accumulated Other Comprehensive Loss:

Unrecognized Prior Service Cost
$ - $ 9

Unrecognized Actuarial (Gain) Loss
(82 ) 137

Total Accumulated Other Comprehensive Loss
$ (82 ) $ 146

Noncurrent Liability
$ 55,004 $ 58,659

Funded status as of December 31:

(in thousands)

2019

2018

Accumulated Benefit Obligation
$ (346,723 ) $ (297,972 )

Projected Benefit Obligation
$ (384,785 ) $ (328,442 )

Fair Value of Plan Assets
329,781 269,783

Funded Status
$ (55,004 ) $ (58,659 )

The following tables provide a reconciliation of the changes in the fair value of plan assets and the plan’s benefit obligations over the two-year period ended December 31, 2019:

(in thousands)

2019

2018

Reconciliation of Fair Value of Plan Assets:

Fair Value of Plan Assets at January 1
$ 269,783 $ 285,319

Actual Return on Plan Assets
52,640 (21,334 )

Discretionary Company Contributions
22,500 20,000

Benefit Payments
(15,142 ) (14,202 )

Fair Value of Plan Assets at December 31
$ 329,781 $ 269,783

Estimated Asset Return
19.3 % (7.3 %)

Reconciliation of Projected Benefit Obligation:

Projected Benefit Obligation at January 1
$ 328,442 $ 352,718

Service Cost
5,491 6,459

Interest Cost
14,412 13,452

Benefit Payments
(15,142 ) (14,202 )

Actuarial Loss (Gain)
51,582 (29,985 )

Projected Benefit Obligation at December 31
$ 384,785 $ 328,442

Weighted average assumptions used to determine benefit obligations at December 31:

2019

2018

Discount Rate
3.47 % 4.50 %

Rate of Increase in Future Compensation Level:

Participants to Age 39
4.50 % 4.50 %

Participants Age 40 to Age 49
3.50 % 3.50 %

Participants Age 50 and Older
2.75 % 2.75 %

The assumed rate of return on pension fund assets used for the determination of 2020 net periodic pension cost is 6.88%. The assumed long-term rate of return on plan assets is based primarily on asset category studies using historical market return and volatility data with forward looking estimates based on existing financial market conditions and forecasts of capital markets. Modest excess return expectations versus some market indices are incorporated into the return projections based on the actively managed structure of the investment programs and their records of achieving such returns historically. The Company reviews its rate of return on plan asset assumptions annually. The assumptions are largely based on the asset category rate-of-return assumptions developed annually with the Company’s pension plan investment advisors, as well as input from actuaries who work with the pension plan and benchmarking to peer companies with similar asset allocation strategies.

Market-related value of plan assets—The Company’s expected return on plan assets is determined based on the expected long-term rate of return on plan assets and the market-related value of plan assets.

The Company bases actuarial determination of pension plan expense or income on a market-related valuation of assets, which reduces year-to-year volatility. This market-related valuation calculation recognizes investment gains or losses over a five-year period from the year in which they occur. Investment gains or losses for this purpose are the difference between the expected return calculated using the market-related value of assets and the actual return based on the fair value of assets. Since the market-related valuation calculation recognizes gains or losses over a five-year period, the future value of the market-related assets will be impacted as previously deferred gains or losses are recognized.

Measurement Dates:

2019

2018

Net Periodic Pension Cost

January 1, 2019

January 1, 2018

End of Year Benefit Obligations

January 1, 2019 projected to December 31, 2019

January 1, 2018 projected to December 31, 2018

Market Value of Assets

December 31, 2019

December 31, 2018

Cash flows—The Company had no minimum funding requirement as of December 31, 2019 but made discretionary plan contributions of $11.2 million in January 2020.

The following benefit payments, which reflect expected future service, as appropriate, are expected to be paid out from plan assets:

(in thousands)

2020

2021

2022

2023

2024

Years

2025-2029

$ 15,908 $ 16,477 $ 17,116 $ 17,768 $ 18,374 $ 98,994

The following objectives guide the investment strategy of the Company’s pension plan (the Plan):

●

The assets of the Plan will be invested in accordance with all applicable laws in a manner consistent with fiduciary standards including Employee Retirement Income Security Act standards (if applicable). Specifically:

o

The safeguards and diversity that a prudent investor would adhere to must be present in the investment program.

o

All transactions undertaken on behalf of the Plan must be in the best interest of plan participants and their beneficiaries.

●

The primary objective of the Plan is to provide a source of retirement income for its participants and beneficiaries.

●

The near-term primary financial objective of the Plan is to improve the funded status of the Plan.

●

A secondary financial objective is to minimize pension funding and expense volatility where possible.

The asset allocation strategy developed by the Company’s Retirement Plans Administration Committee (the Committee) is based on the current needs of the Plan and the objectives listed above. An asset/liability review is conducted annually or as often as necessary to assess the impact of various asset allocations on funded status and other financial variables. The current needs of the Plan, the overall investment objectives above, the investment preferences and risk tolerance of the Committee and the desired degree of diversification suggest the need for an investment allocation including multiple asset classes.

The asset allocation in the table below contains guideline percentages, at market value, of the total Plan invested in various asset classes. The Permitted Range is a guide and will at times not reflect the actual asset allocation as this will be dictated by market conditions, the independent actions of the Committee and/or Investment Managers and required cash flows to and from the Plan. The Permitted Range anticipates this fluctuation and provides flexibility for the Investment Managers’ portfolios to vary around the target without the need for immediate rebalancing. The Investment Manager will proactively monitor the asset allocation and will direct the purchases and sales to remain within the stated ranges.

The policy of the Plan is to invest assets in accordance with the allocations shown below:

Permitted Range

Asset Class / PBO Funded Status

< 85% PBO

>=85% PBO

>=90% PBO

>=95% PBO

>=100% PBO

Equity
39% - 59% 34% - 54% 24% - 44% 14% - 34% 0% - 20%

Investment Grade Fixed Income
22% - 42% 30% - 50% 40% - 60% 53% - 73% 70% - 100%

Below Investment Grade Fixed Income*
0% - 15% 0% - 15% 0% - 15% 0% - 10% 0% - 10%

Other**
5% - 20% 5% - 20% 5% - 20% 0% - 15% 0% - 15%

*

Includes (but not limited to) High Yield Bond Fund and Emerging Markets Debt funds.

**

Other category may include cash, alternatives, and/or other investment strategies that may be classified other than equity or fixed income, such as the Dynamic Asset Allocation fund or the SEI Energy Debt Collective Fund.

The Company’s pension plan asset allocations at December 31, 2019 and 2018, by asset category are as follows:

Asset Allocation

2019

2018

Global MGD Volatility Fund (mixed equities fund)
20.4 % -

Large Capitalization Equity Securities
11.3 % 17.5 %

International Equity Securities
9.3 % 17.0 %

Emerging Markets Equity Fund
4.2 % 3.4 %

Small and Mid-Capitalization Equity Securities
4.1 % 6.7 %

SEI Dynamic Asset Allocation Fund
3.1 % 4.0 %

Equity Securities
52.4 % 48.6 %

Fixed-Income Securities and Cash
44.7 % 47.1 %

Other – SEI Energy Debt Collective Fund
2.9 % 4.3 %

100.0 % 100.0 %

The following table presents the Company’s pension fund assets measured at fair value and included in Level 1 of the fair value hierarchy and assets measured using the NAV practical expedient to fair valuation as of December 31:

(in thousands)

2019

2018

Assets in Level 1 of the Fair Value Hierarchy
$ 320,241 $ 258,307

SEI Energy Debt Collective Fund at NAV
9,540 11,476

Total Assets
$ 329,781 $ 269,783

Fair Value Measurements of Pension Fund Assets

ASC 715, Compensation – Retirement Benefits, requires disclosures about pension plan assets identified by the three levels of the fair value hierarchy established by ASC 820-10-35.

The following table presents, the Company’s pension fund assets measured at fair value and included in Level 1 of the fair value hierarchy as of December 31:

(in thousands)

2019

2018

Global MGD Volatility Fund (mixed equities fund)
$ 67,184 $ -

Large Capitalization Equity Securities Mutual Fund
37,357 47,198

International Equity Securities Mutual Funds
30,653 45,912

Small and Mid-Capitalization Equity Securities Mutual Fund
13,447 17,971

SEI Dynamic Asset Allocation Mutual Fund
10,168 10,929

Emerging Markets Equity Fund
13,792 9,197

Fixed Income Securities Mutual Funds
147,639 127,098

Cash Management – Money Market Fund
1 2

Total Assets
$ 320,241 $ 258,307

The investments held by the SEI Energy Debt Collective Fund on December 31, 2019 and 2018 consist mainly of below investment grade high yielding bonds and loans of U.S. energy companies which trade at a discount to fair value. Redemptions are allowed semi-annually with a 95-day notice period, subject to fund director consent and certain gate, holdback and suspension restrictions. Subscriptions are allowed monthly with a three-year lock up on subscriptions. The Company invested $10.0 million in the SEI Energy Debt Fund in July 2015. The fund’s assets are valued in accordance with valuations reported by the fund’s sub-advisor or the fund’s underlying investments or other independent third-party sources, although SEI in its discretion may use other valuation methods, subject to compliance with ERISA (as applicable). The fund’s assets are valued as of the close of business on the last business day of each calendar month and are available 30 days after the end of a calendar quarter. On an annual basis, as determined by the investment manager in its sole discretion, an independent valuation agent is retained to provide a valuation of the illiquid assets of the fund and of any other asset of the fund, as determined by the investment manager in its sole discretion. The Company reviews and verifies the reasonableness of the year-end valuations.

Executive Survivor and Supplemental Retirement Plan (ESSRP)

The ESSRP is an unfunded nonqualified benefit plan for executive officers and certain key management employees that provides for defined benefit payments to these employees on their retirement for life or to their beneficiaries on their death. In addition, the ESSRP provides for survivor benefit payments to beneficiaries of executive officers. On December 26, 2019, the Company’s Board of Directors amended and restated the ESSRP to provide for (i) the freezing of participation in the restoration retirement benefit component of the ESSRP and (ii) the freezing of benefit accruals under the restoration retirement benefit component of the ESSRP for all participants, except those designated as a grandfathered participant, effective December 31, 2019.

In connection with amending and restating the ESSRP, the Board of Directors also approved the making of special employer contributions to named participants in the Otter Tail Corporation Executive Restoration Plus Plan (the ERPP) who will be affected by the ESSRP freeze in order to offset the impact of the freeze for those participants.

The following table lists components of net periodic pension benefit cost for the year ended December 31:

(in thousands)

2019

2018

2017

Service Cost–Benefit Earned During the Period
$ 418 $ 408 $ 290

Interest Cost on Projected Benefit Obligation
1,735 1,589 1,686

Amortization of Prior Service Cost:

From Regulatory Asset
5 20 16

From Other Comprehensive Income¹
17 34 38

Amortization of Net Actuarial Loss:

From Regulatory Asset
124 206 285

From Other Comprehensive Income¹
348 722 440

Net Periodic Pension Cost²
$ 2,647 $ 2,979 $ 2,755

¹Amortization of prior service costs and net actuarial losses from other comprehensive income are included in nonservice cost components of postretirement benefits on the face of the Company’s consolidated statements of income.

²Allocation of costs:

2019

2018

2017

Service costs included in electric operation and maintenance expenses
$ 104 $ 99 $ 94

Service costs included in other nonelectric expenses
314 309 196

Nonservice costs included in nonservice cost components of postretirement benefits
2,229 2,571 2,465

Weighted average assumptions used to determine net periodic pension cost for the year ended December 31:

2019

2018

2017

Discount Rate
4.46 % 3.85 % 4.60 %

Rate of Increase in Future Compensation Level
3.40 % 2.92 % 3.00 %

The following table presents amounts recognized in the consolidated balance sheets as of December 31:

(in thousands)

2019

2018

Regulatory Assets:

Unrecognized Prior Service Cost
$ - $ 20

Unrecognized Actuarial Loss
2,170 1,768

Total Regulatory Assets
$ 2,170 $ 1,788

Projected Benefit Obligation Liability – Net Amount Recognized
$ (43,966 ) $ (39,699 )

Accumulated Other Comprehensive Loss:

Unrecognized Prior Service Cost
$ 1 $ 64

Unrecognized Actuarial Loss
9,170 6,455

Total Accumulated Other Comprehensive Loss
$ 9,171 $ 6,519

The following tables provide a reconciliation of the changes in the fair value of plan assets and the plan’s projected benefit obligations over the two-year period ended December 31, 2019 and a statement of the funded status as of December 31 of both years:

(in thousands)

2019

2018

Reconciliation of Fair Value of Plan Assets:

Fair Value of Plan Assets at January 1
$ - $ -

Actual Return on Plan Assets
- -

Employer Contributions
1,475 1,505

Benefit Payments
(1,475 ) (1,505 )

Fair Value of Plan Assets at December 31
$ - $ -

Reconciliation of Projected Benefit Obligation:

Projected Benefit Obligation at January 1
$ 39,699 $ 42,308

Service Cost
418 408

Interest Cost
1,735 1,589

Benefit Payments
(1,475 ) (1,505 )

Curtailments
(1,671 ) -

Actuarial Loss (Gain)
5,260 (3,101 )

Projected Benefit Obligation at December 31
$ 43,966 $ 39,699

Weighted average assumptions used to determine benefit obligations at December 31:

2019

2018

Discount Rate
3.36 % 4.46 %

Rate of Increase in Future Compensation Level:
3.50 % 3.40 %

Cash flows—The ESSRP is unfunded and has no assets; contributions are equal to the benefits paid to plan participants. The following benefit payments, which reflect future service, as appropriate, are expected to be paid:

Years

(in thousands)

2020

2021

2022

2023

2024
2025-2029

$ 1,571 $ 1,681 $ 2,279 $ 2,680 $ 2,627 $ 13,976

Other Postretirement Benefits

The Company provides a portion of health insurance benefits for retired OTP and corporate employees. The retiree health insurance benefits will be available for all corporate employees and OTP nonunion employees hired prior to September 1, 2006, and all union employees of OTP hired prior to November 1, 2010, excluding Coyote Station employees. Coyote Station employees hired before January 1, 2009 are covered under the plan. To be eligible for retiree health insurance benefits the employee must be 55 years of age with a minimum of 10 years of service. There are no plan assets.

In 2019, the Company elected to obtain post-65 prescription drug subsidies for its non-union plan participants from a provider under the provider’s employer group waiver plan. As a result, the Company will no longer apply for prescription drug subsidies for these participants. Based on the provider’s projected costs, the post-65 starting claim cost assumption for non-union retirees was lowered by 27% and the Medicare Part D reimbursement assumption was eliminated for these participants. A portion of the cost savings were shared with retirees through lower 2020 premiums. The net effect of these plan amendments reduced the Company’s projected benefit obligation for this plan by $20.9 million in 2019. Beginning in 2020, the net savings from the changes will be recognized as a reduction to expense over 4.3 years, the expected remaining service period to retirement-age eligibility for active participants.

The following table lists components of net periodic postretirement benefit cost for the year ended December 31:

(in thousands)

2019

2018

2017

Service Cost–Benefit Earned During the Period
$ 1,286 $ 1,526 $ 1,425

Interest Cost on Projected Benefit Obligation
3,083 2,583 2,712

Amortization of Prior Service Cost

From Regulatory Asset
- - (4 )

From Other Comprehensive Income¹
- - 4

Amortization of Net Actuarial Loss

From Regulatory Asset
1,571 1,648 936

From Other Comprehensive Income¹
38 42 19

Net Periodic Postretirement Benefit Cost²
$ 5,978 $ 5,799 $ 5,092

Effect of Medicare Part D Subsidy
$ (179 ) $ (470 ) $ (561 )

¹Corporate cost included in nonservice cost components of postretirement benefits.

²Allocation of cost:

2019

2018

2017

Service costs included in OTP capital expenditures
$ 320 $ 364 $ 277

Service costs included in electric operation and maintenance expenses
935 1,124 1,114

Service costs included in other nonelectric expenses
31 38 34

Nonservice costs capitalized
1,167 1,020 712

Nonservice costs included in nonservice cost components of postretirement benefits
3,525 3,253 2,955

Weighted average assumptions used to determine net periodic postretirement benefit cost for the year ended December 31:

2019

2018

2017

Discount Rate
4.44 % 3.81 % 4.46 %

The following table presents amounts recognized in the consolidated balance sheets as of December 31:

(in thousands)

2019

2018

Regulatory Asset:

Unrecognized Prior Service Credit
$ (20,363 ) -

Unrecognized Net Actuarial Loss (Gain)
35,322 $ 18,094

Net Regulatory Asset
$ 14,959 $ 18,094

Projected Benefit Obligation Liability – Net Amount Recognized
$ (71,437 ) $ (71,561 )

Accumulated Other Comprehensive (Income) Loss:

Unrecognized Prior Service Credit
$ (501 ) -

Unrecognized Net Actuarial Loss (Gain)
184 $ (107 )

Accumulated Other Comprehensive (Income) Loss:
$ (317 ) $ (107 )

The following tables provide a reconciliation of the changes in the fair value of plan assets and the plan’s projected benefit obligations and accrued postretirement benefit cost over the two-year period ended December 31, 2019:

(in thousands)

2019

2018

Reconciliation of Fair Value of Plan Assets:

Fair Value of Plan Assets at January 1
$ - $ -

Actual Return on Plan Assets
- -

Company Contributions
2,757 3,183

Benefit Payments (Net of Medicare Part D Subsidy)
(7,164 ) (6,684 )

Participant Premium Payments
4,407 3,501

Fair Value of Plan Assets at December 31
$ - $ -

Reconciliation of Projected Benefit Obligation:

Projected Benefit Obligation at January 1
$ 71,561 $ 69,774

Service Cost (Net of Medicare Part D Subsidy)
1,286 1,526

Interest Cost (Net of Medicare Part D Subsidy)
3,083 2,583

Benefit Payments (Net of Medicare Part D Subsidy)
(7,164 ) (6,684 )

Participant Premium Payments
4,407 3,501

Plan Amendments
(20,864 ) -

Actuarial Loss
19,128 861

Projected Benefit Obligation at December 31
$ 71,437 $ 71,561

Reconciliation of Accrued Postretirement Cost:

Accrued Postretirement Cost at January 1
$ (53,574 ) $ (50,958 )

Expense
(5,978 ) (5,799 )

Net Company Contribution
2,757 3,183

Accrued Postretirement Cost at December 31
$ (56,795 ) $ (53,574 )

Weighted average assumptions used to determine benefit obligations at December 31:

2019

2018

Discount Rate
3.43 % 4.44 %

Assumed healthcare cost-trend rates as of December 31:

2019

2018

Healthcare Cost-Trend Rate Assumed for Next Year
6.72 % 7.00 %

Rate to Which the Cost-Trend Rate is Assumed to Decline
4.50 % 4.50 %

Year the Rate Reaches the Ultimate Trend Rate

2038

2038

Measurement Dates:

2019

2018

Net Periodic Postretirement Benefit Cost

January 1, 2019

January 1, 2018

End of Year Benefit Obligations

January 1, 2019 projected to December 31, 2019

January 1, 2018 projected to December 31, 2018

Cash flows—The Company expects to contribute $3.3 million net of expected employee contributions for the payment of retiree medical benefits and Medicare Part D subsidy receipts in 2020. The Company expects to receive a Medicare Part D subsidy from the Federal government of approximately $0.1 million in 2020. The following benefit payments, which reflect expected future service, as appropriate, net of expected Medicare Part D subsidy receipts and participant premium payments, are expected to be paid:

Years

(in thousands)

2020

2021

2022

2023

2024
2025-2029

$ 3,323 $ 3,470 $ 3,653 $ 3,720 $ 3,778 $ 19,852

401K Plan

The Company sponsors a 401K plan for the benefit of all corporate and subsidiary company employees. Contributions made to these plans by the Company and its subsidiary companies totaled $5,265,000 for 2019, $4,532,000 for 2018 and $4,211,000 for 2017.

Employee Stock Ownership Plan

The Company has a stock ownership plan for the benefit of all its electric utility employees. Contributions made by the Company were $374,000 for 2019, $398,000 for 2018 and $612,000 for 2017.