Corporate Financial Management For Superannuation Contributions

Superannuation Contributions

Discuss about thr Corporate Financial Management for Superannuation Contributions.

The concept of superannuation contributions has evolved as a motivational benefit for every individual so that the habit of savings can be encouraged within them and effective investment of funds can be done for a better future. Moreover, in relation to tertiary sector employees, various factors must be taken into account for deciding whether to invest such superannuation contributions in Investment Choice or Defined Benefit Plan. Furthermore, the role of the time value of money is very significant in this case, as it facilitates in effective decision-making processes. In addition, an efficient market hypothesis also assists an investor in knowing about the price of assets or stocks in order to make significant investment decisions. Such efficient market hypothesis sheds light on the role of fund managers in deciding a portfolio.

The focus on superannuation contributions and encouraging individuals to invest and save for their future, especially for their retirement years have significantly enhanced over the years. The governments of most countries have also been pro-active in this regard by mandating a minimum amount of contributions that must be made to adhere with the superannuation funds by employers on behalf of employees. Due to such mandated superannuation contributions and an enhancing realization by individuals of the relevance of savings for their future, there are huge amounts of superannuation contributions towards the fund every year, and it is the role of financial institutions to invest such contributions to offer adequate income to fund the non-working aspects of the lives of individuals (Merchant, 2012).

In relation to tertiary sector, it forms part of the three relevant economic sectors (Primary, Secondary, and Tertiary). Besides, the main work of tertiary employees is to offer advice, share their experiences, and implement their wisdom towards the productivity of both primary and secondary sector. Moreover, in relation to superannuation contribution, it was necessary for employers to contribute three percent of their salaries, and this requirement has now been enhanced to nine percent since the year 2005. Such employers are also required to allocate a percentage of their earnings to superannuation investment. It is to be noted that the requirement for implementing such policies is to curb the burden of social security systems for the provision of payment of pensions to assist individuals during their retirement phase. One of the biggest individual industry-based superannuation funds is Unisuper Ltd that manages and services the superannuation funds of employees in the tertiary sector (Deegan, 2011). Moreover, the other revolution in the management of superannuation funds in the recent years has been a relevant enhancement in the kinds of superannuation fund products and retirement and investment plan options, with employees now having enhanced flexibility in deciding what kinds of funds and assets their superannuation contributions are invested in. The two main kinds of superannuation plans are Defined Benefit Plan and Investment Choice Plan (Choi & Meek, 2011)

Relevant Factors to be taken into Account

Based on its name, the Defined Benefit Plan is one wherein the benefits paid to the employees at the time of retirement is ascertained from a formula that considers determinants like age, final average salary, etc. Furthermore, for the tertiary employees who adhere to such plan are allowed to pool and invest their superannuation contributions in a selection of various assets designed by the trustees of Unisuper Ltd. Moreover, as their final benefit payout is ascertained, the investment performance of their portfolio of assets becomes insignificant and does not influence their final retirement payout. This implies that the tertiary employees do not benefit from the gains procured by their portfolio of assets and it is the duty of the trustees of Unisuper Ltd to be fully capable of funding such defined benefits. For employees who opt for Investment Choice Plan, they retain an investment account accommodating employer-sponsored and private superannuation funds, the annual allocation of benefits procured on invested contributions, minus management and administrative expenses. Under this plan, such tertiary employees can nominate the kinds of assets that their superannuation contributions are being invested in Secure Fund, Shares Fund, Trustees Selection Fund, and Stable Fund. These strategies can be easily differentiated on their attributes of return and risk. For the employees who opt for this plan, their final payout of retirement relies on the returns that are generated by their selected strategy of investment, and they encounter the risk of investment related to their superannuation contribution.

In relation to the factors that must be considered by tertiary employees to decide whether to opt for Investment Choice Plan or Defined Choice Plan, evaluation of risk factors is very relevant. For the tertiary employees who fear of taking any kind of risk and at the same time desire for higher returns can select the Defined Choice Plan. Similarly, employees who do not fear of risk and can anticipate higher returns at the same time can opt for an effective investment strategy based on their risk appetite. In addition, several other factors must be considered in relation to this scenario of whether to select Investment Choice Plan or Defined Choice Plan. First, the capability of employees to select and manage their portfolios is very relevant because individuals having immense knowledge and experience can easily manage their portfolios and other investments, thereby establishing a chance wherein they can easily diminish the likelihoods of potential losses. Similarly, on the other hand, inability to manage the portfolios can enhance the likelihoods of potential losses in the future and therefore, such employees must not undertake the responsibility of managing them (Graham & Smart, 2012). Instead, they must transfer such burden onto their employers so that in the case of losses, the employers are the ones who will be liable to compensate to the employees.

The Concept of Time Value of Money

Similarly, such tertiary employees can consider Investment Choice Plan when there are additional sources of income for them. This is because having other sources of income apart from superannuation fund interests can make such employees less terrified of risk, as they already have other income sources and selecting a risky step can make their expected returns enhance to a higher level (Libby et. al, 2011). In the opposite scenario wherein such employees do not have any other sources of income, they can opt for Defined Benefit Plan because it does not demand high risks from the employees and provides a uniform return after their retirement. Hence, within such decision-making, return profiles and investment risks are of paramount importance together with the previously mentioned factors that must be duly considered by tertiary employees.

Time value of money is a concept that identifies the significant worth of future cash flows emerging because of financial decisions by taking into account the opportunity cost of funds. In other words, it forms a relevant aspect of investment. Since money loses its value over time, it is more desirable for investors to have money in the present instead of having it in the future. Another reason is that investment of a dollar in the current scenario can make investors earn interest and enhance their financial assets that can be used according to their requirements (Melville, 2013). Hence, the present value of money is more relevant because investors live in the present time. This distinction in money’s value in the present time and future is called the time value of money. Moreover, the issues relating to this concept are also relevant in decision-making processes or selecting the kind of funds to be invested by employees through their superannuation contributions.

Employees contribute a significant portion of their earnings towards superannuation funds throughout their work life. In addition, the receipt of earnings from such funds is further invested in order to build more value. However, such build up of value cannot be attained in just an hour; it takes an immense time to grow over time. Therefore, such employees through the concept of time value must make the computation of the future value of invested money in the present. Besides, according to studies, more time can result in more returns (Libby et. al, 2011). Hence, if an individual is not well accustomed to the investment concept of time value of money, he or she may encounter bad returns because of such bad decisions. Thus, employees must take into account an effective portfolio for investment so that various kinds of benefits in the form of returns can be procured. Another factor is that there can be risk of losses because of the time value of money concept, as it aims for higher returns but there can be bad years too. Therefore, in relation to this, employees must make an effective approach to ascertain the portfolio for investment and the quantum of time they can spare for such investment (Kaplan & Schoar, 2005). The risk appetite of employees is also significant in relation to the decision-making process because immense patience is needed to procure the benefits desired by them. Hence, this issue is also related to the time value of money that is crucial for decision-making.

Efficient market hypothesis or EMH is an investment theory in financial economics that describes that the prices of assets completely depict all available information. According to this theory, it is impossible to overcome the market because the efficiency of stock market can result in current prices of shares to always accommodate and reflect all significant information. In addition, based on this theory, hypothesis stock always trade at their fair values on their respective stock exchanges (Fama, 1998). Thus, this makes it problematic for the investors to either sell stocks at an exaggerated price or purchase undervalued stocks. As such, it must be surely problematic to surpass the aggregate market through the timing of market or expert selection of stocks, and the only key way an investor can procure greater returns is by buying riskier investments. However, if there is any kind of efficacy within such EMH, it is not necessary for the pension fund managers to select a portfolio with a pin. This is because pin risk incurs when there does not exist any certainty in the minds of a seller whether exercisability of option prevails or not (Goyal & Wahal, 2008). Hence, the seller cannot facilitate hedging and there occurs a situation of either gain or loss.

Moreover, in relation to pension funds, the managers must select investments that have an effective return. In addition, diversification of portfolios is also necessary in order to procure better returns (Hand, 1990). It must be notable for the pension fund managers that throwing a pin at the stock sheets can allow him to attain diversified portfolios, but there is an uncertainty of the greater amount of risk of losses or profits that can mitigate the involved risks or expected returns (Brealey et. al, 2011). If an individual pension holder, whose investment the pension fund manager makes, has furnished extra resources, risk appetite, and additional sources of income, then such complication of throwing pin cannot incur. However, in most of the cases, the pension holders’ portfolio often does not allow high risk for investment. The prevalence of taxes also play a key role in such a scenario and must be taken into due consideration by the pension fund managers (Brigham & Daves, 2012). This is because the tax position of an individual investor is very relevant for investing decisions and the pension fund manager must be able to select the portfolio that has the advantage of special laws of tax whose advantage can only be obtained in pension funds (Ball, 1995). Besides, such laws make it effective for the managers to enhance the expected return of the portfolio. 

Conclusion

On a whole, the concept of superannuation funds not only motivates habit of savings amongst people but also makes way for factors that can be taken into consideration by employees to decide between Investment Choice Plan and Defined Choice Plan. Furthermore, the concept of time value of money also plays a vital role in allowing the employees to make appropriate decisions regarding their portfolio investment because patience is crucial to acquire the desired benefits. Secondly, in relation to the efficient market hypothesis, it is not compulsory for the pension fund managers to select a portfolio with a pin because the risk of pin only occurs in the case of uncertainties on matters regarding exercisability of options.

References

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Choi, R.D. & Meek, G.K 2011, International accounting,  Pearson .

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Fama, E.F 1998, ‘Market Efficiency, Long-term Returns, and Behavioral Finance’, Journal of Financial Economics, vol. 49, pp. 283-306

Goyal, A &  Wahal, S 2008, ‘The Selection and Termination of Investment Management Firms by Plan Sponsors’, Journal of Finance , vol. 63, pp. 1802?1827.

Graham, J. & Smart, S 2012, Introduction to corporate finance, Australia: South-Western Cengage Learning.

Hand. J.R 1990, ‘A Test of the Extended Functional Fixation Hypothesis’, Accounting Review, vol. 65, pp. 740?753

Kalpan , S.N & Schoar, A 2005, ‘Private Equity Performance: Returns, Persistence, and Capital Flows’,  Journal of Finance vol. 60, pp. 1795?1823.

Libby, R, Libby, P & Short, D 2011, Financial accounting, New York: McGraw-Hill/Irwin.

Melville, A 2013, International Financial Reporting – A Practical Guide, 4th edition, Pearson, Education Limited, UK

Merchant, K. A 2012, ‘Making Management Accounting Research More Useful’, Pacific Accounting  Review, vol. 24, no.3, pp. 1-34.