Federal Express 2011 Annual Report Download - page 57

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The estimated average rate of return on plan assets is a long–term,
forward–looking assumption that also materially affects our pen-
sion cost. It is required to be the expected future long–term rate of
earnings on plan assets. Establishing the expected future rate of
investment return on our pension assets is a judgmental matter. We
review the expected long–term rate of return on an annual basis and
revise it as appropriate. Management considers the following factors
in determining this assumption:
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the duration of our pension plan liabilities, which drives the invest-
ment strategy we can employ with our pension plan assets;
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the types of investment classes in which we invest our pension plan
assets and the expected compound geometric return we can reason-
ably expect those investment classes to earn over time; and
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the investment returns we can reasonably expect our investment
management program to achieve in excess of the returns we could
expect if investments were made strictly in indexed funds.
Our estimated long–term rate of return on plan assets remains at 8%
for 2012, consistent with our expected rate of return in 2011 and 2010.
For the 15–year period ended May 31, 2011, our actual returns
were 7.8%.
Pension expense is also affected by the accounting policy used to
determine the value of plan assets at the measurement date. We
use a calculated–value method to determine the value of plan assets,
which helps mitigate short–term volatility in market performance
(both increases and decreases) by amortizing certain actuarial gains or
losses over a period no longer than four years. Another method used
in practice applies the market value of plan assets at the measure-
ment date. For purposes of valuing plan assets for determining
2012 pension expense, we used the calculated–value method, as
our actual returns on plan assets significantly exceeded our assump-
tions. However, as previously indicated, our pension costs in 2012 are
expected to remain flat. The calculated–value method resulted in the
same value as the market value in 2011. The calculated–value method
significantly mitigated the impact of asset value declines in the deter-
mination of our 2010 pension expense, reducing our 2010 expense by
approximately $135 million.
The investment strategy for pension plan assets is to utilize a diversi-
fied mix of global public and private equity portfolios, together with
fixed–income portfolios, to earn a long–term investment return that
meets our pension plan obligations. Our pension plan assets are
invested primarily in listed securities, and our pension plans hold
only a minimal investment in FedEx common stock that is entirely at
the discretion of third–party pension fund investment managers. Our
largest holding classes are U.S. Large Cap Equities, which is indexed
to an S&P 500 fund, and Corporate and U.S. Government Fixed Income
Securities. Accordingly, we do not have any significant concentrations
of risk. Active management strategies are utilized within the plan in
an effort to realize investment returns in excess of market indices. As
part of our strategy to manage future pension costs and net funded
status volatility, we have transitioned to a liability–driven investment
strategy with a greater concentration of fixed–income securities to
better align plan assets with liabilities. Our investment strategy also
includes the limited use of derivative financial instruments on a discre-
tionary basis to improve investment returns and manage exposure to
market risk. In all cases, our investment managers are prohibited from
using derivatives for speculative purposes and are not permitted to use
derivatives to leverage a portfolio.
Following is a description of the valuation methodologies used for
investments measured at fair value:
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Cash and cash equivalents. These Level 1 investments include
cash, cash equivalents and foreign currency valued using exchange
rates. The Level 2 investments include commingled funds valued
using the net asset value.
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Domestic and international equities. These Level 1 investments
are valued at the closing price or last trade reported on the major
market on which the individual securities are traded. The Level 2
investments are commingled funds valued using the net asset value.
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Private equity. The valuation of these Level 3 investments requires
significant judgment due to the absence of quoted market prices,
the inherent lack of liquidity and the long–term nature of such
assets. Investments are valued based upon recommendations of our
investment managers incorporating factors such as contributions and
distributions, market transactions, market comparables and perfor-
mance multiples.
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Fixed income. We determine the fair value of these Level 2
corporate bonds, U.S. government securities and other fixed income
securities by using bid evaluation pricing models or quoted prices of
securities with similar characteristics.