Noel Zoeller is the newly hired assistant controller of Kemp Industries, a regional supplier of hardwood derivative products. The company sponsors a defined benefit pension plan that covers its 420 employees. On reviewing last year's financial statements, Zoeller was concerned about some items reported in the disclosure notes relating to the pension plan. Portions of the relevant note follow:
Note 8: Pensions
The company has a defined benefit pension plan covering substantially all of its employees. Pension benefits are based on employee service years and the employee's compensation during the last two years of employment. The company contributes annually the maximum amount permitted by the federal tax code. Plan contributions provide for benefits expected to be earned in the future as well as those earned to date. The following reconciles the plan's funded status and amount recognized in the balance sheet at December 31, 2011 ($ in 000s).
Kemp's comparative income statements reported net periodic pension expense of $108,000 in 2011 and $86,520 in 2010. Since employment has remained fairly constant in recent years, Zoeller expressed concern over the increase in the pension expense. He expressed his concern to you, a three-year senior accountant at Kemp. “I'm also interested in the differences in these liability measurements,” he mentioned.
Write a memo to Zoeller. In the memo:
1. Explain to Zoeller how the composition of the net periodic pension expense can create the situation he sees. Briefly describe the components of pension expense.
2. Briefly explain how pension gains and losses are recognized in earnings.
3. Describe for him the differences and similarities between the accumulated benefit obligation and the projected benefit obligation.
4. Explain how the “Projected benefit obligation in excess of plan assets” is reported in the financial statements.