Northrop Grumman 2010 Annual Report Download - page 46

actuaries. In the event that we determine that plan amendments or changes in the assumptions are warranted,
future pension and post-retirement benefit expenses could increase or decrease.
Assumptions – The principal assumptions that have a significant effect on our consolidated financial position and
results of operations are the discount rate, the expected long-term rate of return on plan assets, the health care
cost trend rate and the estimated fair market value of plan assets. For certain plan assets where the fair market
value is not readily determinable, such as real estate, private equity, and hedge funds, estimates of fair value are
determined using the best information available.
Discount Rate – The discount rate represents the interest rate that is used to determine the present value of future
cash flows currently expected to be required to settle the pension and post-retirement benefit obligations. The
discount rate is generally based on the yield of high-quality corporate fixed-income investments. At the end of
each year, the discount rate is primarily determined using the results of bond yield curve models based on a
portfolio of high quality bonds matching the notional cash inflows with the expected benefit payments for each
significant benefit plan. Taking into consideration the factors noted above, our weighted-average pension
composite discount rate was 5.76 percent at December 31, 2010, and 6.03 percent at December 31, 2009.
Holding all other assumptions constant, and since net actuarial gains and losses were in excess of the 10 percent
accounting corridor in 2010, an increase or decrease of 25 basis points in the discount rate assumption for 2010
would have decreased or increased pension and post- retirement benefit expense for 2010 by approximately
$80 million, of which $3 million relates to post-retirement benefits, and decreased or increased the amount of
the benefit obligation recorded at December 31, 2010, by approximately $850 million, of which $70 million
relates to post-retirement benefits. The effects of hypothetical changes in the discount rate for a single year may
not be representative and may be asymmetrical or nonlinear for future years because of the application of the
accounting corridor. The accounting corridor is a defined range within which amortization of net gains and
losses is not required. Due to adverse capital market conditions in 2008 our pension plan assets experienced a
negative return of approximately 16 percent in 2008. As a result, substantially all of our plans experienced net
actuarial losses outside the 10 percent accounting corridor at the end of 2008, thus requiring accumulated gains
and losses to be amortized to expense. As a result of this condition, sensitivity of net periodic pension costs to
changes in the discount rate were much higher in 2009 and 2010 than was the case in 2008 and prior. This
condition is expected to continue into the near future.
Expected Long-Term Rate of Return – The expected long-term rate of return on plan assets represents the average
rate of earnings expected on the funds invested in a specified target asset allocation to provide for anticipated
future benefit payment obligations. For 2010 and 2009, we assumed an expected long-term rate of return on
plan assets of 8.5 percent. An increase or decrease of 25 basis points in the expected long-term rate of return
assumption for 2010, holding all other assumptions constant, would increase or decrease our pension and post-
retirement benefit expense for 2010 by approximately $54 million, of which $2 million relates to post-retirement
benefits.
Health Care Cost Trend Rates – The health care cost trend rates represent the annual rates of change in the cost of
health care benefits based on external estimates of health care inflation, changes in health care utilization or
delivery patterns, technological advances, and changes in the health status of the plan participants. Using a
combination of market expectations and economic projections including the effect of health care reform, we
selected an expected initial health care cost trend rate of 8 percent for 2011 and an ultimate health care cost
trend rate of 5 percent reached in 2017. In 2009, we assumed an expected initial health care cost trend rate of
7 percent for 2010 and an ultimate health care cost trend rate of 5 percent reached in 2014. Although our actual
cost experience is much lower at this time, market conditions and the potential effects of health care reform are
expected to increase medical cost trends in the next one to three years thus our past experience may not reflect
future conditions.
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NORTHROP GRUMMAN CORPORATION