Rep: OEB Doc: 12WW1 Rev: 0 ONTARIO ENERGY BOARD Volume: 6 14 OCTOBER 2003 BEFORE: P. SOMMERVILLE PRESIDING MEMBER A. BIRCHENOUGH MEMBER 1 RP-2003-0063 2 IN THE MATTER OF the Ontario Energy Board Act, 1998, S.O. 1998, c.15 (Sched. B); AND IN THE MATTER OF an Application by Union Gas Limited for an Order or Orders approving or fixing just and reasonable rates and other charges for the sale, distribution, storage, and transmission of gas for the period commencing January 1, 2004. 3 RP-2003-0063 4 14 OCTOBER 2003 5 HEARING HELD AT TORONTO, ONTARIO 6 APPEARANCES 7 PAT MORAN Board Counsel MARTIN DAVIES Board Staff JAMES WIGHTMAN Board Staff MICHAEL PENNY Union Gas Limited TOM BRETT Ontario Association of School Business Officials SUE LOTT Vulnerable Energy Consumers' Coalition ROBERT WARREN Consumers Association of Canada ALICK RYDER City of Kitchener DWAYNE QUINN City of Kitchener GEORGE VEGH CEED, OESC, Superior Energy Management, Union Energy, TransAlta JAY SHEPHERD Ontario Public School Boards Association MIMI SINGH CME RANDY AIKEN London Property Management Association, Wholesale Gas Service Purchasers Group SCOTT STOLL Northern Cross Energy TIBOR HAYNAL TransCanada PipeLines ROBERT ROWE Enbridge Gas Distribution Inc. PETER THOMPSON Industrial Gas Users Association BRIAN DINGWALL Energy Probe, HVAC Coalition, Distributed Energy Association DERECK FRANCIS Energy Objective VALERIE YOUNG Ontario Association of Physical Plant Administrators PETER SCULLY City of Timmins, City of Sudbury, FNOM JOHN RATTRAY Ontario Power Generation DAVID BROWN Coral Energy 8 TABLE OF CONTENTS 9 PRELIMINARY MATTERS: [17] UNION GAS LIMITED - PANEL 6; BROEDERS, WITTS, BODNAR, NEILLY [23] EXAMINATION BY MR. PENNY: [28] CROSS-EXAMINATION BY MR. WARREN: [129] PRELIMINARY MATTERS: [423] UNION GAS LIMITED - PANEL 6; BROEDERS, WITTS, BODNAR, NEILLY [440] CONTINUED CROSS-EXAMINATION BY MR. WARREN: [445] CROSS-EXAMINATION BY MS. LOTT: [489] CROSS-EXAMINATION BY MR. DINGWALL: [619] PRELIMINARY MATTERS: [795] UNION GAS LIMITED - PANEL 6; BROEDERS, WITTS, BODNAR, NEILLY [800] CONTINUED CROSS-EXAMINATION BY MR. DINGWALL: [805] CROSS-EXAMINATION BY MR. THOMPSON: [918] CROSS-EXAMINATION BY MS. SINGH: [1285] 10 EXHIBITS 11 EXHIBIT NO. M.6.1: TABLE ENTITLED "EFFECT OF ASSET-RELA TED EXPERIENCE GAINS (LOSSES) ON PENSION EXPENSE" [1182] 12 UNDERTAKINGS 13 UNDERTAKING NO. N.6.1: TO PROVIDE A BREAKOUT OF THE OTHER BENEFITS AT LINE 4, COLUMN B, IN EXHIBIT J.3.4 [237] UNDERTAKING NO. N.6.2: TO PRODUCE MR. WITT'S MOST RECENT FINANCIAL RENEWAL REPORT, SUBJECT TO MR. PENNY'S CAVEAT [292] UNDERTAKING NO. N.6.3: TO DETERMINE THE AMOUNT OF THE $19 MILLION, FOR WHICH RECOVERY IS CLAIMED IN 2004, WHICH IS A RESULT OF THE APPLICATION OF THE TWO SMOOTHING METHODS [318] UNDERTAKING NO. N.6.4: TO HAVE MR. WITTS PROVIDE HIS INTERPRETATION OF THE RELEVANT PROVISIONS ON THE LEGISLATION ON THE QUESTION OF WHETHER OR NOT THERE COULD BE AN APPLICATION OR SOME PROCESS THAT WOULD ALLOW SURPLUS TO BE DISTRIBUTED TO THE RATEPAYERS OF A REGULATED ENTITY [418] UNDERTAKING NO. N.6.5: TO FILE UNION GAS'S INCENTIVE POLICY [455] UNDERTAKING NO. N.6.6: TO PROVIDE THE VALUATION REPORT THAT HAS BEEN PROVIDED BY TOWERS PERRIN ON POST-RETIREMENT BENEFITS [599] UNDERTAKING NO. N.6.7: TO PROVIDE A SCHEDULE SETTING OUT THE DATES FOR PREVIOUS REVIEWS OF THE VARIOUS VALUATIONS THAT UNION GAS HAS [630] UNDERTAKING NO. N.6.8: TO PROVIDE THE LAST VALUATIONS BACK TO 1999 FOR THE DEFINED PENSION BENEFIT PLANS [678] UNDERTAKING NO. N.6.9: TO PROVIDE A COPY OF ANY REPORT OR ANY FORECASTING DOCUMENTATION THAT MAY HAVE BEEN PREPARED BY TOWERS PERRIN FOR UNION GAS IN THE FALL OF 1999 WITH RESPECT TO TAKE-UP RATES AND THEIR AFFECTS ON VARIOUS PENSION PLANS RELATING TO THE VOLUNTARY EARLY RETIREMENT PROGRAM [786] UNDERTAKING NO. N.6.10: TO PRODUCE ADVICE RECEIVED FROM INVESTMENT MANAGERS AND DOCUMENTS PRODUCED BY THE PENSION COMMITTEE DURING THE PERIOD OF 2000 TO DATE, TO THE EXTENT THEY ARE AVAILABLE [870] UNDERTAKING NO. N.6.11: TO RECONCILE THE FTE AND HEAD COUNT NUMBERS CONTAINED IN EXHIBIT J.17.37 AND EXHIBIT J.17.1 [968] UNDERTAKING NO. N.6.12: TO RECONCILE M.6.1 WITH ACTUAL FINANCIALS, 1999 TO 2002 [1215] UNDERTAKING NO. N.6.13: TO PROVIDE THE EXPECTED RETURNS FROM THE VARIOUS CLASSES OF ASSETS THAT THEIR MODEL RECOGNIZES - CANADIAN EQUITIES, U.S. EQUITIES, CASH, GOVERNMENT BONDS, FOREIGN EQUITIES - GIVING RISE TO THE 7.5 FORECASTED RATE OF RETURN [1268] UNDERTAKING NO. N.6.14: TO PROVIDE A WRITTEN STATEMENT OF INVESTMENT POLICIES AND GOALS [1338] 14 --- Upon commencing at 9:35 a.m. 15 MR. SOMMERVILLE: Good morning. Please be seated. 16 This is the continuation of the Union Gas Limited 2004 rates proceeding. It's Monday, October the 14th. Are there any preliminary matters? 17 PRELIMINARY MATTERS: 18 MR. PENNY: Yes, Mr. Chairman. Before we turn to the next panel of witnesses, I wanted to advise the Board that there are now available answers to transcript Undertakings N.3.1, N.3.6, and N.4.4, and those have been made available to the Board and to the parties. We've also left with the Board for adding to, I guess, Exhibit A, which is the bundle of CVs, the CVs for Mr. Neilly and Mr. Witts, who are both with Towers Perrin and are here today. 19 MR. SOMMERVILLE: Thank you, Mr. Penny. 20 MR. PENNY: So if there are no other matters, we're prepared to proceed. 21 MR. SOMMERVILLE: Are there any preliminary matters from anyone else? There being none, we'll proceed, Mr. Penny. 22 MR. PENNY: All right. Well, we have with us today Mr. Bodnar, who is the vice-president of human resources, Mr. Broeders, who is with Union, with the financial group, and Mr. Neilly and Mr. Witts from Towers Perrin. Could they come forward and be sworn. 23 UNION GAS LIMITED - PANEL 6; BROEDERS, WITTS, BODNAR, NEILLY 24 M.BROEDERS; Sworn. 25 A.WITTS; Sworn. 26 B.BODNAR; Sworn. 27 D.NEILLY; Sworn. 28 EXAMINATION BY MR. PENNY: 29 MR. PENNY: Mr. Chairman, just by way of introduction, this panel is here to address pension benefits and compensation, and I would just say by overview that a significant portion of the O&M expense for 2004 is comprised of compensation and compensated-related costs. This panel is here to address the factors that affect those particular costs in the market that will be having an impact on Union and to address the general structure of Union's compensation and benefit programs. 30 The subsequent O&M panel will be able to speak to specific dollars, for example, by administrator and historic levels of O&M expenditures, including the impacts of any organizational restructurings at Union since 1999. 31 In terms of third party expertise, Mr. Witts is the consulting actuary for Union's pension plan and he is here to speak to the pension plan and post-retirement benefit matters, and Mr. Neilly is here to speak to other aspects of compensation and where Union sits in relation to other Canadian corporations. 32 So with that overview, let me introduce the witnesses. 33 Mr. Bodnar, you are currently vice-president of operations for Westcoast Energy? 34 MR. BODNAR: That's correct. 35 MR. PENNY: And your responsibilities overall include human resource policies and strategies for Union Gas? 36 MR. BODNAR: That's correct. 37 MR. PENNY: And I understand you've been with Westcoast Energy since 1998? 38 MR. BODNAR: That's true. 39 MR. PENNY: And prior to joining Westcoast, you were the vice-president of human resources for Union Gas. 40 MR. BODNAR: That's correct. 41 MR. PENNY: Commencing in 1994. 42 MR. BODNAR: Yes. 43 MR. PENNY: And you've also been a manager of human resources, a director of human resources, and vice-president of Centra Gas Alberta and Centra Gas B.C. 44 MR. BODNAR: That's true. 45 MR. PENNY: You have, I understand, a Bachelor of Arts from the University of Manitoba? 46 MR. BODNAR: That's correct. 47 MR. PENNY: And you have testified before this Board, or filed evidence before this Board, in several past proceedings, including EBRO 499 and EBRO 493/494. 48 MR. BODNAR: Yes. 49 MR. PENNY: And you're responsible, in part, for the prefiled evidence that was prepared at Exhibit D.1, tab 9, and the interrogatory responses that relate to that evidence? 50 MR. BODNAR: Yes, that's correct. 51 MR. PENNY: And do you adopt that evidence for the purposes of these proceedings? 52 MR. BODNAR: I do. 53 MR. PENNY: Thank you. 54 Mr. Broeders, I understand that you are the manager of reporting and forecasts for Union Gas? 55 MR. BROEDERS: That is correct. 56 MR. PENNY: And you've been with Union Gas since 1996? 57 MR. BROEDERS: That's correct. 58 MR. PENNY: And prior to that, you were an associate with Coopers & Lybrand? 59 MR. BROEDERS: Correct. 60 MR. PENNY: You are a chartered accountant? 61 MR. BROEDERS: Yes, I am. 62 MR. PENNY: And you, I understand, have a Bachelor of Mathematics from the University of Waterloo. 63 MR. BROEDERS: Yes. 64 MR. PENNY: You are a member of the Canadian Institute of Chartered Accountants and the Institute of Chartered Accountants of Ontario? 65 MR. BROEDERS: Correct. 66 MR. PENNY: And you have previously testified before the New York -- on behalf of Empire State Pipeline, before the New York State Public Commission? 67 MR. BROEDERS: Yes. 68 MR. PENNY: And that was in connection with the recovery of deferred taxes and a permanent increase in taxes? 69 MR. BROEDERS: Yes. 70 MR. PENNY: And you work, I understand, with Ms. Brodie, Lumley, and Elliott in the finance group at Union Gas. 71 MR. BROEDERS: Correct. 72 MR. PENNY: And you were involved in the preparation of the evidence at Exhibit D.1, tab 9. 73 MR. BROEDERS: Correct. 74 MR. PENNY: And your involvement is in the accounting treatment and other details of Union's pension and other post-retirement benefits matters. 75 MR. BROEDERS: Yes. 76 MR. PENNY: And do you adopt the evidence filed on those matters in respect to these proceedings. 77 MR. BROEDERS: Yes, I do. 78 MR. PENNY: Thank you. 79 Now, Mr. Neilly, you're currently a senior consultant with Towers Perrin in Toronto? 80 MR. NEILLY: Yes. 81 MR. PENNY: And you've got, I gather, a Bachelor of Engineering Science and a Masters of Business Administration, both from the University of Western Ontario? 82 MR. NEILLY: Yes, that's correct. 83 MR. PENNY: And you've held positions, senior positions on compensation and human resource matters prior to joining Towers Perrin with ATI Technologies? 84 MR. NEILLY: Yes. 85 MR. PENNY: Delano Technologies. 86 MR. NEILLY: Yes. 87 MR. PENNY: Glaxo/Wellcom? 88 MR. NEILLY: Yes 89 MR. PENNY: And Bell Northern Research? 90 MR. NEILLY: Yes. 91 MR. PENNY: And your particular area of specialty is in the area of compensation design and perform -- and compensation-related performance management? 92 MR. NEILLY: Yes. 93 MR. PENNY: And you act as a consultant to Union Gas on compensation matters? 94 MR. NEILLY: Yes. 95 MR. PENNY: And you are here to speak to the human resource market generally and how Union's compensation generally compares to that of other Canadian corporations? 96 MR. NEILLY: That's correct. 97 MR. PENNY: And then finally, Mr. Witts, you, I understand, are currently a consultant and principal with Towers Perrin in Vancouver? 98 MR. WITTS: That's correct. 99 MR. PENNY: And I understand that you are currently the leader of the Vancouver retirement practise. 100 MR. WITTS: Yes. 101 MR. PENNY: You have, sir, a Bachelor of Arts degree and a Master of Arts, both in mathematics, from Cambridge University? 102 MR. WITTS: That's correct. 103 MR. PENNY: And you became -- you first started in an actuarial practice with consulting actuaries in London in 1982? 104 MR. WITTS: That's right. 105 MR. PENNY: And you came to Canada and joined the consulting actuarial firm of Eckler Partners in Toronto in 1988? 106 MR. WITTS: Yes. 107 MR. PENNY: You are a fellow of the Institute of Actuaries of the United Kingdom? 108 MR. WITTS: Yes. 109 MR. PENNY: And you are also a fellow of the Canadian Institute of Actuaries? 110 MR. WITTS: Yes, I am. 111 MR. PENNY: And you, I gather, since 1998, have served as a member of the Canadian Institute of Actuaries Pension Plans financial Reporting Committee? 112 MR. WITTS: I have. 113 MR. PENNY: Now, you, I understand, Mr. Witts, have been qualified as an actuarial expert and testified on pension matters previously before the British Columbia Supreme Court? 114 MR. WITTS: Yes, I have. 115 MR. PENNY: And you prepared a report at Exhibit D.1, tab 9, appendix A, dated May 8, 2003, that relates to Union's pension and post-retirement benefits? 116 MR. WITTS: Yes, I have. 117 MR. PENNY: And do you adopt that report for the purposes of your testimony here today? 118 MR. WITTS: Yes, I do. 119 MR. PENNY: All right. Thank you, gentlemen. 120 Mr. Chairman, I think there being no overview or recent development matters to deal with in examination-in-chief, that would conclude my examination. 121 MR. SHEPHERD: Excuse me, Mr. Chairman, I wonder if I can raise a question. Is my friend qualifying the two Towers Perrin individuals as experts? 122 MR. PENNY: I think the answer to that is yes, although it hasn't generally been my practice or I think the practice of others here to specifically ask. They have the experience that they have but, yes, we believe that Mr. Neilly is an expert in compensation matters and Mr. Witts is an expert in actuarial and pension matters. 123 MR. SHEPHERD: Then, Mr. Chairman, the reason I raise it is because I would ask whether my friend is intending to qualify either of them as an expert in the regulatory treatment of these expenses. 124 MR. PENNY: No, and it's not my intention to tender either of these witnesses or any witness as an expert in regulatory treatment. I think that, frankly, I'm not even sure that would be proper because the regulatory treatment is a matter for this Board to decide, not for an expert to decide, but the answer to my friend's question is no, I'm not seeking to tender them as expert in the regulatory treatment of particular costs. 125 MR. SHEPHERD: Thank you, Mr. Chairman. 126 MR. SOMMERVILLE: Mr. Shepherd. 127 Mr. Warren. 128 MR. WARREN: Thank you, sir. 129 CROSS-EXAMINATION BY MR. WARREN: 130 MR. WARREN: Panel, my name is Robert Warren and I appear in this proceeding for the Consumers' Association of Canada. The interests of my clients are those of the broad spectrum of residential consumers of natural gas, and that is the perspective that informs my cross-examination. 131 Mr. Bodnar, I guess this first tranche of questions are for you, and I just want to get a sense of what's in the human resources envelope and what percentage that is of the overall O&M costs. And in that context, panel, if you could turn up Exhibit J.7.22, which is an interrogatory response to my client's Interrogatory Response No 22. 132 Do you have it in front of you, panel? 133 MR. BODNAR: We do. 134 MR. WARREN: Panel, this is a breakout of O&M expense by cost type and what I'd like to do first, panel, is have you tell me which of the line items are in the broad category of human resources, is it lines 1 and 2 only? 135 Mr. Bodnar: I would suggest that in the broad category of human resources items, it would include lines 1 and 2 and potentially line 4 dealing with employee training. 136 MR. WARREN: Now, looking at line item 1, which is salaries and wages, the total for which you're seeking recovery in this year is some 148,909,000; is that correct? 137 Mr. Bodnar: That's correct. 138 MR. WARREN: And that's in the category of salaries and wages, and what would salaries and wages include? 139 Mr. Bodnar: Salaries and wages would include base wages for employees as well as an amount that would be for incentive plans. 140 MR. WARREN: Okay. Line 2 or benefits, and that's an amount of 52,354,000; is that correct? 141 Mr. Bodnar: That's correct. 142 MR. WARREN: And what does the benefit category include? 143 Mr. Bodnar: The benefits category would include legislated benefits such as Canada Pension Plan, Employment Insurance, Workers' Compensation, it would include insured benefits or other employee benefits such as health and medical, dental, and would include an amount for pensions and would include an amount for employee future benefits costs. 144 MR. WARREN: And the third category, the third line item you've mentioned is employee training that's line item 4 and that's an amount of some $11.7 million; is that correct. 145 Mr. Bodnar: That's correct. 146 MR. WARREN: And that would consist of what? 147 Mr. Bodnar: That would include technical training for our employees, principally our service-related employees. It would also include some employee development costs for senior -- more senior employees or professional development types of costs, but primarily, technical training. 148 MR. WARREN: Is there anything else, panel, that's included in the human resources envelope, if you wish, other than those three line items? 149 Mr. Bodnar: There may be a small amount associated with the consulting costs for some third-party consulting. 150 MR. WARREN: And which line item is that, sir? 151 Mr. Bodnar: It would be at line item number 6. 152 MR. WARREN: That's an amount of some $6.7 million; is that correct? 153 Mr. Bodnar: That's correct. 154 MR. WARREN: And is that all human resources-related or a portion of that only? 155 Mr. Bodnar: No, just a small portion of that. 156 MR. WARREN: Can you give me a rough estimate of what the proportion would be? 157 Mr. Bodnar: I don't have the full details here with me, but I would expect it would be less than a million dollars. 158 MR. WARREN: Okay. Now, in terms of general numbers, panel, I wanted to look at the total for which you are seeking recovery for operating and maintenance expense in this proceeding. Is it line item number 36, a total of some $362 million? 159 Mr. Bodnar: This is something obviously that our O&M panel will be dealing with in more detail, but I see the line item that suggests $362 million total admin operating and maintenance expense. 160 MR. WARREN: I wasn't asking for any particular expertise. What I'm trying to get at, sir, is a sense of the relative importance of human resources costs to the overall operating and maintenance expense. At a high level of generality, it would appear that we're dealing with something like approximately 210 or 212 million out of a total O&M budget of 362; is that fair, sir? 161 Mr. Bodnar: Again, when I look at the details of the numbers, I would suggest you probably would want to look at the final line that's net of expense for compressor fuel which is line 41, but on an order of magnitude, I think that's probably correct. 162 MR. WARREN: Okay. Something in excess of 50 percent, something like between 50 to 60 percent of your overall O&M expense is human resources related; is that fair? 163 Mr. Bodnar: It's fair to say that's roughly the proportion of people related to costs, yes. 164 MR. WARREN: Now, the final general area I wanted to cover in terms of numbers, sir, was the relative importance of human resources-related costs to the total revenue deficiency claim in this case. The updated updated numbers, which are Exhibit F.1, tab 1, page 1, members of the panel, it's the yellow sheets that I'm referring to. 165 I don't think you need to turn it up, sir. The total revenue deficiency is $104 million; is that correct? Can you take that subject to check? It's in the yellow sheets, okay? 166 Mr. Bodnar: I will take that subject to check. 167 MR. WARREN: Thanks. 168 Just by way of check on that, sir, if you could turn up another exhibit, another interrogatory response of my client, Exhibit J.7.1 which is the first of the CAC's... 169 MR. PENNY: We'd just note, Mr. Chairman, that we've indicated, I think a couple of times, that Ms. Elliott is the person in the best position to explain how this particular exhibit fits into the big picture. 170 MR. WARREN: I appreciate that, thanks, Mr. Penny. 171 Mr. Chairman, I simply wanted to give it a kind of an overall picture for the Board before we proceed with the balance of it. 172 That exhibit, panel, do you have it in front of you now? 173 MR. BODNAR: We have it. 174 MR. WARREN: What you can see is it breaks out the major contributors to the overall revenue deficiency, and line item number 4 on that is the increase in pension and benefits costs as rates were set in EBRO 499, and the number there is $26 million. Is that an accurate number, $26 million, in the sense of has it been updated or changed in any material way? 175 MR. BODNAR: The exhibit I have in front of me, J.7.1, line 4, shows me $28 million. 176 MR. WARREN: $28 million. So of the $104 million in revenue deficiency, something like 25 percent of that is represented by human resource costs, which is pension and benefits increases; is that fair, panel? 177 MR. BODNAR: Something just a little less -- just south of 25 percent. 178 MR. WARREN: Thank you, sir. 179 Now, the next item I'd like you to turn up is another interrogatory of my client, and that's J.7.22. 180 MR. PENNY: Is that the one that we were just looking at, Mr. Warren? 181 MR. WARREN: Yes, I'm sorry, it is. It's the one you were first looking at, I'm sorry, panel. 182 And just, panel, to sort of set the stage for an analysis of the human resources, looking at line item number 1, "Salaries and Wages," in the first column, which is column A, the Board-approved EBRO 499 number was roughly $149 million; correct? 183 MR. BODNAR: That's correct. 184 MR. WARREN: And the number for which you are seeking recovery in this case is just a shade below that, 100 -- by about $500,000. It's 148.9 million; correct? 185 MR. BODNAR: That's correct. 186 MR. WARREN: So the number remains the same, but it is -- there is elsewhere in the evidence an indication that the number of employees covered by the salaries and wages has declined by approximately 400; is that fair? 187 MR. BODNAR: Yes, that's correct. 188 MR. WARREN: And then looking at the line item -- skipping down to line item 4, in terms of employee training, the Board-approved number in EBRO 499 was some $13 million; correct? 189 MR. BODNAR: That's correct. 190 MR. WARREN: And that has -- it would appear to have declined by about a million and a half dollars to the test year. The number for which you're seeking recovery is 11.7; is that correct? 191 MR. BODNAR: That's correct. 192 MR. WARREN: Would the decline in the number, panel, be a reflection of the fact that you have 400 fewer employees to train? 193 MR. BODNAR: Not necessarily. The decline in the number can be also attributed to the fact of the degree and level of training that we would be providing. If we haven't been hiring some newer employees, or if the turnover has been relatively small, we would not require the same level of the training. 194 Similarly, there may have been a change into some of the professional development types of programs that we would be doing, using external resources. These days we have an opportunity to use computer-based training modules and so on which are a little more economic as well, and we can purchase these at less cost than they may have been historically. So there are probably a number of reasons why those numbers would have gone down, although, you know, smaller numbers of people perhaps would have caused some smaller training costs as well. 195 MR. WARREN: Of the three items that make up the -- that comprise the lion's shar of the human resources costs - I appreciate that you pointed me to another line further down, line item 6 - but of the three items that make up the lion's share of the human resources costs, the most significant increase, indeed the only area of increase has been in the benefit line; is that correct? 196 MR. BODNAR: That's correct. 197 MR. WARREN: And that's an increase of something in the order of $23 million; is that correct? 198 MR. BODNAR: That's correct. 199 MR. WARREN: Now, my final question, by way of general overview, panel, and it's really an informational one, is if you could turn up an interrogatory that was filed by my friend Mr. Thompson's client, which is Exhibit J.17.37, IGUA Interrogatory No. 37. 200 MR. SOMMERVILLE: Sorry, what was that reference again? 201 MR. WARREN: J.17.37. 202 MR. SOMMERVILLE: Thank you. 203 MR. WARREN: If I look at the breakout on page 2 of 2, the breakout may simply be a function of the way the question was framed for you, but there are separate lines for salaries and wages and incentives. But as I understood your answer to my question a few moments ago -- sorry, salaries and wages on the one hand, and incentives on the other. As I understood your answer a moment ago, incentives are included in the overall salaries and wages; is that correct? 204 MR. PENNY: Sorry, you mean in the other schedule -- 205 MR. WARREN: Yes, in the other schedule. 206 MR. PENNY: -- that is, the other schedule at J.7.22. 207 MR. BODNAR: Yes, I believe in the other schedule they were included. 208 MR. WARREN: So, for example, looking at the most rightward of the columns on page 2 of 2 in Exhibit J.17.37, if I were to add -- this is under the heading "Blue Page 2004," if I were to add line 1, salaries and wages, and line 3, incentives, I'd come up with something like $148 million, which is what you're claiming in salaries and wages for this case; is that correct? 209 MR. BODNAR: Yes, that's correct. 210 MR. WARREN: All right. Can I then turn -- thank you for those answers, panel. 211 Can I then turn to the issue of benefits, including pensions, and you've already described for me what's included in the benefits category. 212 In this context, if you could turn up an interrogatory that was delivered by my friend Ms. Singh's client, the Canadian Manufacturers & Exporters, and this is Exhibit J.3.4, that's the CME Interrogatory No. 4. 213 MR. BODNAR: We have it. 214 MR. WARREN: Thank you. I'd like to deal first with the line item number 3, which is "Legislated Benefits," and you gave me, in an earlier answer, a list of the kind of things that are included in that. I wonder if you could just repeat it briefly. It's things like Workers' Compensation; is that correct? 215 MR. BODNAR: That's correct. 216 MR. WARREN: And would I be correct in assuming that over this category of benefit costs, Union has no control; is that fair? 217 MR. BODNAR: That's fair. 218 MR. WARREN: Okay. The next item I'd like to turn to, or the -- it's line item 4, which are "Other Benefits," and the increase in that category from 2003 to 2004 has been some 9 percent; correct? 219 MR. BODNAR: That's correct. 220 MR. WARREN: And that would include insurable benefits, as you've described them, like health and dental plans; is that correct? 221 MR. BODNAR: That's correct. 222 MR. WARREN: Would I also be correct in assuming that Union has some measure of control over the nature and extent of those increases? 223 MR. BODNAR: We have specific benefits programs that are in place currently. Dependent upon the usage of it and dependent upon the increased costs by providers, that's the area where we find the increases in costs. The control, if any, would be associated with us changing benefit plans to something more or less than what it currently is. 224 MR. WARREN: Now, in the Towers Perrin report on this issue, which, for the record, Mr. Chairman, is Exhibit D.1, tab 9, appendix A, when I turn to the analysis in there of health and welfare benefits which appears on page 5, Mr. Witts, of your letter. 225 MR. PENNY: Sorry, page 5? 226 MR. WARREN: Page 5 of that letter. 227 MR. PENNY: Thank you. 228 MR. WARREN: Now, panel, just so I've got a one-to-one correspondence, if I can compare this page, page 5 of this exhibit, with Ms. Singh's interrogatory, Exhibit J.3.4, under the heading "other benefits," is there a one-to-one correspondence, panel, between the health and welfare benefits which are discussed on page 5 and the other benefits category in Exhibit J.3.4? 229 MR. WITTS: No, there is not a straight one-to-one correspondence, there are other benefits included within other benefits that are not just straight health and welfare benefits. 230 MR. WARREN: Could you, Mr. Witts, describe for the Board at a reasonably high level of generality what those other factors would be? 231 MR. WITTS: The principal other benefit that would be included there would be the employee savings plan. 232 MR. WARREN: And as a percentage of the overall other benefits category, which, for fiscal 2004, Mr. Witts, is some $14.1 million, I'm looking again at Ms. Singh's interrogatory, can you give me a breakout for other benefits, the 14 million, health and welfare benefits would comprise approximately how much? 233 MR. WITTS: I'm afraid we don't have that detail here. 234 MR. WARREN: Could I get an undertaking from you, panel, to provide me with a breakout of the category "other benefits," as seen in column B of Exhibit J.3.4 of its major constituent elements including health and welfare benefits, employee savings plan and any other components that are material? 235 MR. WITTS: Yes, we'll make that undertaking. 236 MR. MORAN: Mr. Chair, that would become Undertaking N.6.1, an undertaking to provide a breakout of the other benefits at line 4, column B, in Exhibit J.3.4. 237 UNDERTAKING NO. N.6.1: TO PROVIDE A BREAKOUT OF THE OTHER BENEFITS AT LINE 4, COLUMN B, IN EXHIBIT J.3.4 238 MR. WARREN: I appreciate that having just asked for the detail of the information, you can't probably answer this question, but I'll try anyway, panel. 239 When I look at page 5 of the letter, Mr. Witts, I see in the second full paragraph under the heading "Health and Welfare Benefits" the following, for 2003 and 2004: 240 "We estimate that Union Gas health and dental costs will continue to increase in a range from 10 to 15 percent per year." 241 Now, are health and welfare benefits the largest proportion of the "other benefits" category? 242 MR. WITTS: We don't have that detail available. 243 MR. WARREN: What I'm trying to get at, Mr. Witts, and you may not have information sufficient to answer the question, you've indicated in the paragraph I've just read into the record from your letter that the increase in health and dental costs are 10 to 15 percent per year, but the overall increase looking at Exhibit J.3.4 in the other benefits category is below that, 9 percent. I'm wondering if there are offsetting decreases in other areas of benefits that would allow you to arrive at the 9 percent increase? 244 MR. WITTS: The 9 percent is, if you will, an overall average related to the underlying benefits. Whereas, we're seeing increases of 10 to 15 percent in the health and welfare benefits, there are other benefits included within other benefits that are more closely related to levels of increasing compensation, so therefore would be running more at the level of 3 to 4 percent per year which would bring down the weighted average from the 10 to 15 to the 9 percent that we're showing. 245 MR. WARREN: I wonder if I could ask you to add to gloss to the undertaking that you've just given to me, and if you could indicate for the major categories whether the amount is increasing or decreasing as between 2003/2004. Will you do that for me? 246 MR. BODNAR: Could you repeat that question in a different way so that we can understand it better? 247 MR. WARREN: It's Tuesday morning at 10:15, you're taxing my capacity, panel, I'm sorry. 248 What I wanted to do, panel, for the undertaking I asked for a moment ago, when I asked for a breakout of the major components of the other benefits, what I want to do is try to get a sense from you for each of the components whether the costs are increasing from 2003 to 2004, and if so, by what percentage. 249 Can that be done, panel? 250 MR. BODNAR: We can so undertake. 251 MR. WARREN: Thank you, sir. 252 MR. SOMMERVILLE: My only concern with the undertaking is that it uses the word "significant", and I'm not sure what that means and I don't want to have a document that becomes contentious because there's ambiguity. 253 Can we understand that word or provide some further guidance? 254 MR. WARREN: The concept I'm trying to get at, panel, is material, what are material components of health and welfare. And perhaps I could ask you, Mr. Witts, what would be a working standard for what's a material component in the categories of health and welfare benefits? 255 MR. WITTS: Probably an annual cost of a million dollars. 256 MR. WARREN: Okay. 257 MR. SOMMERVILLE: Thank you. 258 MR. WARREN: Thank you, sir. 259 My final question in this category, panel, is: Can you describe for the Board the measures that you've taken from fiscal 2003 to 2004 to control, including reduce, the expenses in the other benefit categories? 260 MR. BODNAR: There are several steps that we've taken over time to review our benefits and it's something that certainly is on our minds as we see, frankly, the downloading that has been occurring from changes in provincial government coverages in medical plans, the ever-increasing cost of prescription drugs. It really started with the approach we took to flexible benefits, which prescribed that when we, as an example, provide drug benefits to employees, we ask that people pay for them directly rather than to have a card so that there's an initial administration that's associated with it. We have people pay a dentist directly so that, again, the additional administrative costs with a carrier isn't provided for to have them pay the dentist directly and then follow up if a payment isn't made. The employee makes a claim directly with the carrier. 261 We look to provide replacement types of drugs as opposed to just the prescription that was written. If there is an alternative that's available, we ask that employees use that. 262 We coordinate drug and -- actually extended health care benefits. If an employee has a spouse that's employed at a workplace that has a benefits plan, we will coordinate with the other plans. 263 Indeed, by moving to flexible benefits, we've eliminated certain costs and continue looking at it where an employee, frankly, had certain benefits in the old plans which were a template format, where they no longer need those kinds of coverages yet we were paying premiums on behalf of that individual. 264 Similarly, if we do periodic, virtually annual discussions with our carriers to really focus, shall we say, sharpen their pencil in terms of the costs associated with the benefits plans, and in fact, have changed carriers historically when we found we can get a better deal somewhere else. 265 So we try to look at the whole gamut of what's associated with benefits plans when we do annual reviews, and, indeed, we'll focus on those areas where we see prices rising or where, in fact, benefits aren't used to see if there is another way we can provide the same value for the dollars. I think we've done a reasonable job in controlling the level of the increases. 266 MR. WARREN: Have you, for example, in the course of the PBR period over the last three years, have you changed carriers? 267 MR. PENNY: Just so we're clear in terms of the time frame, you're talking about 2001 to 2003? 268 MR. WARREN: Yes, that's correct. 269 MR. BODNAR: No we haven't changed a carrier in that time frame. 270 MR. WARREN: Finally, in this category, Mr. Witts, if I could turn to you and ask you to turn up page 5 of your letter, which, again, for the record, is Exhibit D.1, tab 9, appendix A. I'd ask you to go to page 5 of that letter, Mr. Witts. 271 You indicate on page -- sorry, in the third full paragraph under the category "Health and Welfare Benefits": 272 "These increases are consistent with the Towers Perrin's benchmark data of mental and dental experience in Canada across all industries for all types of group health and welfare benefit plans." 273 Does your retainer, Mr. Witts, include an audit function, for example, to determine whether or not Union is doing better than other similarly situated companies? 274 MR. WITTS: Yes, it does. As part of the annual review that we do on behalf of the company, which includes reviewing the proposed renewal rates that the carrier comes forward with, we compare that to our benchmark data to ensure that the levels of increases that are being put forward are appropriate. We look at the experience that has been exhibited over the prior financial year, and, indeed, we assist the company in negotiating with the carrier and using the benchmark data that we have in order to arrive at a competitive agreement with the carrier. 275 MR. WARREN: And did you perform that between 2003-2004? 276 MR. WITTS: The most recent financial renewal was completed in July of this year and is effective for January 1, 2004. 277 MR. WARREN: And is there a written report that's provided to Union which reflects your analysis of their circumstances? 278 MR. WITTS: Yes, there is. 279 MR. WARREN: Can that be provided to the Board? Will you undertake to provide that written report? 280 MR. PENNY: Well, Mr. Chairman, I haven't seen this document. Can we leave it on the basis that we'll find it, and if there's any concerns, we'll bring it to Mr. Warren's attention and the Board's? 281 MR. SOMMERVILLE: With the purpose of redacting some portion or treating it as a confidential document? 282 MR. PENNY: In case there's some issue there. I just don't know. 283 MR. WARREN: I don't have any difficulty with that, sir That seems reasonable enough. Could we get an undertaking, subject to that caveat? 284 MR. MORAN: That would be Undertaking 6.2, an undertaking to produce the report by Mr. Witts, reviewing, I'm sorry. 285 MR. WARREN: Can I describe it, Mr. Witts, as your report for your analysis of the health and welfare benefits? Is it just that or is it all of their benefit programs that you do this report on? 286 MR. WITTS: It's specifically for the health and welfare benefits, and it's -- we refer to it as the financial renewal. 287 MR. WARREN: Is it called a financial renewal report; is that what it's called? 288 MR. WITTS: Yes, it is. 289 MR. WARREN: Okay. What I'm asking you for is an undertaking to deliver, subject to the caveat that Mr. Penny has entered, a copy of your report for -- the most recent report that you've prepared. 290 MR. WITTS: Yes. 291 MR. MORAN: Mr. Chair, the undertaking then is 6.2, an undertaking to produce Mr. Witt's most recent financial renewal report, subject to Mr. Penny's caveat. 292 UNDERTAKING NO. N.6.2: TO PRODUCE MR. WITT'S MOST RECENT FINANCIAL RENEWAL REPORT, SUBJECT TO MR. PENNY'S CAVEAT 293 MR. SOMMERVILLE: Thank you, Mr. Moran. 294 MR. WARREN: I wanted, panel, then, to turn to the issue of pensions, and my first line of questions, panel, is to try to sort out, at least for my benefit, the numbers and how the numbers work together. And the starting point for me is in Ms. Singh's obviously very helpful interrogatory response J.3.4. 295 Now, looking at that, panel, I see that the pension component for the claim in 2004 is $19 million; is that correct? 296 MR. BODNAR: That's correct. 297 MR. WARREN: And that represents approximately a 44 percent increase over 2003; is that correct? 298 MR. BODNAR: Yes, that's correct. 299 MR. WARREN: Now, I'd ask you, Mr. Witts, if you would return to your letter which we've lately been referring to, which, for the record, is Exhibit D.1, tab 9, appendix A, and I'd ask you to turn, please, to page 2 of that letter. 300 Looking at the very top of page 2, where it says: 301 "Union Gas anticipates a substantial increase in its expense for pensions in 2003 and 2004 compared to 2002. In particular, the expense for 2003 is expected to be $8 million higher than the expense for 2002, and the expense for 2004 is expected to be approximately $6 million higher than the expense for 2003." 302 Now, can you tell me, panel, what the $19 million is comprised of, what goes into it? 303 MR. BROEDERS: That would include the expense for the defined benefit plans and the defined contribution plans. 304 MR. WARREN: I apologize. 305 MR. BROEDERS: The defined benefit plans. 306 MR. WARREN: Defined benefit plans? 307 MR. BROEDERS: Yes, and defined contribution plans. 308 MR. WARREN: Now, for my next question, it might be helpful if you would turn up a Board Staff interrogatory. This is Exhibit J.1.88, Board Staff Interrogatory No. 88. Do you have it, panel? 309 MR. BODNAR: We have it. 310 MR. WARREN: Now, in that interrogatory response, and this tracks information which is in Mr. Witts' letter, but you indicate that there are two smoothing methods that have been employed; one is a three-year phase-in period and the second is the so-called 10 percent corridor; is that correct? 311 MR. WITTS: That's correct. 312 MR. WARREN: What I want to determine, if I can, panel, is of the $19 million for which recovery is claimed in fiscal 2004, how much of that is contributed by or is the effect of the employment of these two smoothing methods? 313 MR. BROEDERS: I don't think we have that detail in front of us. We have the pension expense in total, which is a combination of the interest costs. 314 MR. WARREN: Panel and Board Members, there's nothing particularly tricky about what I'm trying to get at. I'm just trying to get some apples-to-apples comparisons here. Would it be possible for you to undertake to determine for me the amount of the $19 million for which recovery is claimed in 2004 which is a result of the application of the two smoothing methods; is that possible? 315 MR. WITTS: Yes, that's possible. 316 MR. WARREN: Can I get an undertaking to do that, please? 317 MR. MORAN: Mr. Chair, that would be Undertaking N.6.3. 318 UNDERTAKING NO. N.6.3: TO DETERMINE THE AMOUNT OF THE $19 MILLION, FOR WHICH RECOVERY IS CLAIMED IN 2004, WHICH IS A RESULT OF THE APPLICATION OF THE TWO SMOOTHING METHODS 319 MR. SOMMERVILLE: Mr. Moran. 320 MR. WARREN: Now, would I be correct, panel, this is an answer which doesn't require numbers, would I be correct that the application of the smoothing methods, two smoothing mechanisms, would have the result that 2004 would reflect increases that occurred or were, more accurately, attributable to changes in 2003 and 2002; is that fair? 321 MR. WITTS: The smoothing methods that the company employs in determining pension accounting expense were adopted in conjunction with the introduction of the section 3461 of the Canadian Institute of Chartered Accountants Handbook which provides and specifies the methodology to be adopted. 322 The company has applied that methodology consistently since January 1, 2000, and the impact of that, particularly the smoothing of the assets, the three-year averaging, and the application of the 10 percent corridor means that certain increases in expense are deferred into the future. 323 In particular, the combination of the two smoothing methods means that the declines in the capital markets that most people attribute to having occurred in 2001, but in fact continued throughout 2002, didn't begin to get recognized in pension expense until 2003, 2004 and later years. 324 MR. WARREN: So declines that occurred in 2002 would be reflected as a result of the application of the smoothing, the two smoothing techniques in 2002 and 2003, 2004 and presumably beyond; is that fair? 325 MR. WITTS: That's correct. 326 MR. WARREN: Now, staying with the Board's Interrogatory No. 88, that's Exhibit J.1.88, the second to last line, panel, the second to last paragraph says, and I quote: 327 "Even neither of the smoothing methods were employed, the 2003 expense would increase by approximately $10 million." 328 Correct? 329 MR. WITTS: That's correct. 330 MR. WARREN: And panel, would I be correct that under the PBR regime that applied at the time, that $10 million would have had to have been paid by the shareholder of Union; correct? 331 MR. BODNAR: I would suggest that as a result of the prescribed methodology with the CICA Handbook, the costs associated with -- or the methodology associated with smoothing and so on, prescribes as to the years in which the costs must be taken. The approach as based on the methodology in the CICA Handbook tells us how to attribute these costs throughout the life of the pension plan. 332 MR. WARREN: Panel, I'd like to get back to the question I asked. 333 Under the PBR regime, had the smoothing techniques not been used, the $10 million increase in 2003 would have been the responsibility of the shareholder; is that not fair? 334 MR. BROEDERS: I guess the question becomes what would the rules be for accounting or what changes you're making to the accounting rules, what would happen to those losses? 335 So the accounting rules are mandating how we treat it and now you're asking, well, if you didn't pay attention to the accounting rules, what would happen to it? 336 MR. WARREN: And the answer is, it would have been the responsibility of the shareholders? 337 MR. BROEDERS: I don't know. I'm not that far into the accounting theory or developed the 3461 section. 338 MR. WARREN: Mr. Bodnar. 339 MR. BODNAR: Similarly, I think your question is saying if we were to ignore the accounting rules, what would we do with the costs? I'm not sure what other rules there would have been. 340 MR. WARREN: Let's then move on, then, to the effect of these rules, and let's take a look at Mr. Witts' letter, Exhibit D.1, tab 9, page 3, in which Mr. Witts talks about these two rules. 341 Dealing, Mr. Witts, with the third full paragraph in your letter, do you have it in front of you? 342 MR. WITTS: Yes. 343 MR. WARREN: The one that begins "As an additional measure..." And I wanted to discuss the first so-called 10-percent corridor. 344 And in the second line of the first sentence, you use the word "elected." It says: "The company has elected as permitted under accounting rules to apply a 10-percent corridor." 345 Now, as a layperson, and a not particularly well-informed layperson, I see the word "elected," and it suggests to me that there is a discretion in the company whether to apply that particular smoothing technique; is that fair? 346 MR. WITTS: Yes, that's correct. When the new accounting standard came into effect, January 1, 2000, section 3461 of the CICA Handbook, there were two or three items that the company was required to make a decision on but it is a one-time decision to apply the corridor and it's been applied consistently from 2000 forward. It would not be possible, based on my understanding of the rules, to change that decision. It was a one-time decision to adopt that accounting policy. 347 MR. WARREN: So when your colleagues on the panel say that these rules are "prescribed," there was a point at which they were not prescribed but the company elected to apply them; is that not fair? 348 Sorry, the 10-percent corridor, we're dealing with that first. There was a time when it was not prescribed but they elected to apply it and having elected to apply it, it then becomes prescribed; is that fair, because they can't change it? 349 MR. BROEDERS: When the company decided to use that election, my understanding of the rules is that we did not have the choice, and though Towers Perrin may have mentioned that this was an election or not, we interpreted the rules that we had to use the 10-percent corridor per paragraph 88 in the section 3461 of the handbook. 350 MR. WARREN: But as your expert who is sitting immediately to your right, has now told you, in fact, the correct interpretation of the CICA rules is you had the option at one point whether to choose the 10-percent corridor. 351 MR. WITTS: There was an option, a one-time option at the time the standard was adopted by the company and the company chose to use the 10-percent corridor as do the majority of companies that sponsor defined benefit plans in Canada, and it's applied that corridor consistently since the adoption of the standard as required by the standard. 352 MR. WARREN: When you refer to CICA rule 3461 -- have I got that correctly? 353 MR. WITTS: That's correct. 354 MR. WARREN: And does 3461 encompass both of these smoothing mechanisms, the three-year averaging and the 10-percent corridor? 355 MR. WITTS: Yes, it does. 356 MR. WARREN: And in like fashion, is the three-year averaging, was that discretionary as well? You could choose to apply to it or not apply it? 357 MR. WITTS: Yes, that was discretionary as well. The rules allow you to select a market-related value. Standard practice in Canada is to use an averaging period, typically three or five years. In my experience, the majority of companies use a three-year average as Union has done here. 358 MR. WARREN: Was 3461 adopted because of the -- how can I put this euphemistically -- downward trend in the capital markets? Was that the reason it was adopted? 359 MR. WITTS: No, absolutely not. 3461 was adopted because it replaced 3460, and it became effective January 1, 2000. There were some differences between 3461 and 3460, but the general principles were continued. 360 MR. WARREN: Panel, I then want to turn to the causes for the $19 million -- sorry, for the increase in the pension amounts and in this context, if you could turn up Exhibit J.1.85, which is the answer to a Board Staff Interrogatory No. 85. 361 MR. BROEDERS: We have it. 362 MR. WARREN: When I look at the answer portion of it, the second sentence reads, and I quote: 363 "The increase in Union's expense in 2003 and 2004 is primarily the result of declines in capital markets and bond yields and revisions to expected future long-term investment returns." 364 Correct? 365 MR. WITTS: That's correct. 366 MR. WARREN: And if I then turn in this context, if you just hold your finger on that exhibit and turn to a second Board Staff interrogatory, which is Exhibit J.1.87, and in this interrogatory, Board Staff asked you to compare the experience of Union's performance related to that of other large corporations, and the answer reads, and I quote: 367 "Based on information provided by RBC Global Services, a pension investment performance measurement service, the actual rate of return on the Union pension funds for the two-year period ending September 30th, 2002, was minus 18 percent. The median rate of return over the same period for Canadian pension plans with pension fund assets of greater than 250 million was minus 11 percent. The relative underperformance of approximately 7 percent compared to the median fund was primarily the result of relatively poor returns on international equities and a relatively greater allocation of assets to international equities at a time when this asset class underperformed in general." 368 Have I read that accurately, panel? 369 MR. BROEDERS: Yes, you have. 370 MR. WARREN: Now, let me step back for a moment. Who is responsible for the -- for investing the Union pension funds? Is it Union? 371 MR. BODNAR: We have a pension investment committee that comprises of senior individuals under the umbrella of the pension plans, which includes Union, and it has, in fact, members of it who are from Union Gas, from Westcoast, and as well from Duke. 372 MR. WARREN: Now, would I be wrong, Mr. Bodnar, in -- this is my gloss on J.1.87, and correct me if I am wrong, that in 2001, for the two-year period ending September 30th, 2002, you invested relatively heavily in international equities and they underperformed. It was your choice to invest in those equities; correct? 373 MR. BODNAR: We have a balanced fund and an investment approach that certainly includes, to the extent it's allowed under legislation, to invest in a broad mix of both equities and bonds; and that, of course, included equities that were both -- foreign equities, related to Europe, Asia, as well as the United States. 374 MR. WARREN: I'm not suggesting, Mr. Bodnar, that you've breached any rules in investing in international equities. What I am suggesting is that it was your choice to invest heavily in international equities; fair? 375 MR. BODNAR: We go through a process, again, with advice from third-party consulting as well as a look at what other companies are doing, and develop a mandate. So to the extent that we, as pension fund managers, or as people who are in an investment committee and plan for the long term, we make a long-term decision at times that, frankly, take us to certain mixes of investments. 376 It's true, it is our choice, but it is a long-term choice that we make because we look for longer term returns. And we do see shorter term fluctuations in the market, and as it happened during that period, the mix that we had found that the foreign equities were not performing as well as at other times; but, again, we make a long-term decision for -- in anticipation of the longer term results. 377 MR. WARREN: Would I be incorrect, sir, in my understanding that what you're asking the Board to do in this hearing is to hold Union harmless from the effect of investment decisions which you freely made? 378 MR. BODNAR: We make investments on the advice of -- as I say, with a look at the overall market, look at what other companies have done. We have an investment mix that we consider is both foreign -- foreign equities as well as domestic equities, a balanced and long-term -- long-term expected returns. We do -- we, in fact, saw changes in the capital markets generally and we saw -- and notwithstanding the specific results that you were talking about, we saw overall results that dropped considerably. You know, we saw certain companies that decided to invest in Nortel during a period of time when it made up a higher percentage of the marketplace. 379 When we invest in a large fund like we have, we look for a broad mix that, over time, we expect will provide returns that are better than average, but there are short periods of time when there is a fluctuation. 380 We are certainly -- we certainly see that results fluctuate, but over time, we expect to have at least median if not better returns. 381 MR. WARREN: Mr. Bodnar, could I get back to the question I asked, and I would like a answer to it, if you wouldn't mind. 382 Am I correct, Mr. Bodnar, that what you're asking the Board to do is hold you harmless in the effect of your voluntary investment decisions; yes or no? 383 MR. BODNAR: We expect that when we make a decision, over time, that we will do reasonably well. But it is true that we are looking for certain cost recoveries associated with costs associated with our clients. These decisions that we make were not made in 2002 or 2003. These are longer term decisions that are made in terms of an investment approach, and we hold to that. You know, we tend not to sell low and buy high by chasing the marketplace. When one is dealing with a pension plan, one looks for a mix that we expect, and on advice from our investment advisors, will, over time, be a reasonable mix for a large pension plan. 384 MR. WARREN: Mr. Witts, can I ask you this question, from your perspective as an expert in this area, and it relates to this policy 3461. If I'm a -- I am Joe Schmo residential consumer who has a modest investment in the stock market, and over the last couple of years I've seen my expectation of having to work now into my ninth or tenth decade, if my stocks have gone downhill, do I get the tax benefits of one of these smoothing mechanisms, or does it just apply to pension funds? 385 MR. WITTS: It very much depends on what kind of pension plan you are in. If you are an employee of Union Gas, you would be in a defined benefit or a defined contribution plan. 386 MR. WARREN: I'm sorry, I should have been clearer. I'm talking about someone who's not on a pension plan, just an average residential consumer who takes a little bit of money and buys, you know, Nortel or somebody like that. Does that -- does he or she get the benefit of either the smoothing or the 10 percent quarter? 387 MR. PENNY: Well, Mr. Warren, is it in an RRSP or not in an RRSP? It is in some other form of vehicle? I mean, there are many, many possibilities. 388 MR. WARREN: Do I or do I not get the benefit of the smoothing? 389 MR. WITTS: If you had a personal registered retirement savings plan, or RRSP, no, you would not because that type of vehicle does not require to have that kind of accounting applied to it. 390 MR. WARREN: Now, my next question, panel, is if you wish to reverse the historical circumstances and ask what happens in good times, I presume, Mr. Bodnar, there are times, and they may have occurred certainly within the last decade, when the pension fund investments do better than you would have anticipated; is that fair? 391 MR. BODNAR: That is fair. 392 MR. WARREN: And there would, as a result, be circumstances where there might be a surplus in the pension fund; is that fair. 393 MR. BODNAR: That's fair. 394 MR. WARREN: Now, in those circumstances, is the surplus distributed, in any way, to ratepayers of Union Gas. 395 MR. BODNAR: The pension is held in a trust on behalf of the employees, so any of these surpluses are held within the plans, once again, because there are fluctuations from time to time both upwards and downwards in the marketplace, and we look for a long-term result for our employees who will be retiring. We hold these surpluses and can be used in a number of ways. Obviously, for longer term results for our employees. Secondly, they can provide for ad hoc increases to existing retirees, because our pension plan is not indexed, so we do from time to time provide modest increases to retirees on an ad hoc basis, assuming that there is a surplus available to the plan, and it can also be used, as I said, for longer term results within the plan to ensure that we have sufficient funds at later periods when people retire. 396 MR. WARREN: Mr. Witts, this question will reflect my profound ignorance of pension law in this country, but is there any circumstance in which a surplus in a pension fund can be distributed to the shareholders of the company? 397 MR. WITTS: Yes, there are circumstances in which that can occur but it has to be done under the auspices of the relevant pension legislation in Ontario. That would be the Ontario Pension Benefits Act as administered by the Financial Services Commission of Ontario, and there are very strict rules around how that can be done. 398 Basically, it's almost impractical to have surplus distributed, except perhaps in the situation where the plan sponsor has become insolvent and the pension plan is being wound up. 399 MR. WARREN: Given that this is a regulated entity, Mr. Witts, would that legislation allow, for example, for an application to distribute some portion of the surplus to the ratepayers of a regulated entity? 400 MR. WITTS: I don't know the answer to that question. 401 MR. WARREN: Can I get an undertaking from you, Mr. Witts, to give me an answer to that question? 402 MR. PENNY: That's surely a legal question, Mr. Chairman. Mr. Warren can go and read the Pension Benefits Act and regulations, as can we. 403 MR. WARREN: With the greatest of respect, Mr. Chairman, this man is tendered as an expert in pensions, he's testifying to you as an expert on pension policy and law. He's given me answers, uninterrupted by my friend, on the interpretation of 3461, or whatever it is. Surely the witness can give me an answer to that question. 404 MR. PENNY: Well, with respect, Mr. Chairman, he was not tendered as an expert in pension law, as Mr. Warren said, and the answers that he's been giving -- he is a trained actuary and the answers he's been giving about 3461 are the interpretation of actuarial and accounting rules, so there's nothing inconsistent about that. 405 The issue is, as I understood the question, as a matter of law, is there a circumstance under which the surplus could ever be distributed to ratepayers under some circumstance, and that, I say, is a question of law with great respect. 406 MR. WARREN: Mr. Chairman, may I just respond to that? Mr. Penny didn't object when I asked the question of whether or not it could be distributed to the shareholder, he gave that answer. And I'm not asking for a lawyer's interpretation, I'm asking for this particular person to give his interpretation of the relevant sections. 407 MR. SOMMERVILLE: I think that qualification is telling and I will permit the question and ask you to answer that question, Mr. Witts. 408 I guess by way of undertaking you're seeking or -- 409 MR. WARREN: I'm seeking an undertaking, Mr. Chairman, to have Mr. Witts provide his interpretation, not a lawyer's interpretation of the relevant provisions on the legislation on the question of whether or not there could be an application or some process that would allow surplus to be distributed to the ratepayers of a regulated entity. 410 MR. SOMMERVILLE: If you can't answer that question now, Mr. Witts, what Mr. Warren is seeking is for you to prepare an answer to that question within a reasonable time frame. Are you comfortable with either of those alternatives or would you rather wait and prepare your answer, or do you want to answer it now? 411 MR. WITTS: In my experience, I have never seen such a situation arise where a surplus has been distributed to ratepayers as Mr. Warren is suggesting. I feel that Mr. Penny is correct in that it really is a legal interpretation of the Ontario Pension Benefits Act and regulations, rather than an actuarial question. 412 MR. SOMMERVILLE: If I can just provide you with a little more guidance. I don't think anyone is seeking your legal opinion about that statute, but rather, your opinion, as a pension expert, as to the opportunities that you have seen or that you regard as being present in the Ontario context dealing with pension surpluses in the manner that Mr. Warren is suggesting. 413 So we're really not seeking a legal opinion but rather an opinion as you are an expert in pension management as to what those opportunities or options are in cases of surplus. Is that a fair summary? 414 MR. WARREN: That's a fair summary. 415 MR. SOMMERVILLE: Are you comfortable with that, Mr. Penny? 416 MR. WITTS: Yes, we'll make that undertaking. 417 MR. MORAN: Mr. Chair, that will become Undertaking N.6.4. 418 UNDERTAKING NO. N.6.4: TO HAVE MR. WITTS PROVIDE HIS INTERPRETATION OF THE RELEVANT PROVISIONS ON THE LEGISLATION ON THE QUESTION OF WHETHER OR NOT THERE COULD BE AN APPLICATION OR SOME PROCESS THAT WOULD ALLOW SURPLUS TO BE DISTRIBUTED TO THE RATEPAYERS OF A REGULATED ENTITY 419 MR. WARREN: Mr. Chairman, I'm so far over my terrible time estimate that I might as well go whole hog. I've got about another 20 minutes left but I'm embarking on another area now so I'm in your hands as to whether you want to break now or when I'm finished? 420 MR. SOMMERVILLE: We'll break now until 10 minutes after 11:00. Thank you. 421 --- Recess taken at 10:52 a.m. 422 --- On resuming at 11:16 a.m. 423 PRELIMINARY MATTERS: 424 MR. SOMMERVILLE: Please be seated. 425 MR. WARREN: Mr. Chairman, by preliminary observation and where cross-examining counsel can save the panel time on undertaking number 1 this morning, I asked Mr. Witts for a breakout of components by amount in the benefits category, that was the one where you asked about the materiality question, I have found in an interrogatory delivered by my friend, Mr. Shepherd, J.26.56, that the answer is already there and we've checked that with Mr. Witts and he says, yes, that's the answer. So I asked Mr. Penny if my labour-saving contribution would allow me more time in cross-examination and his answer, predictably, was no. 426 MR. PENNY: What I asked Mr. Chairman is that he wouldn't be as reviled for exceeding the estimate that he had. 427 MR. SOMMERVILLE: That was your word, I take it, Mr. Penny. 428 MR. PENNY: May I also say this, two preliminary matters, Mr. Chairman. First of all, we've now completed one further answer to an undertaking from day 3, 3.4, which had to do with the Chow test and this answer indicates that we passed the Chow test. 429 The second issue I wanted to alert the Board and parties to has to do with scheduling. Given we haven't even finished with the first cross-examiner on this panel yet, it would appear that we're getting behind and the problem -- we were hoping to bring the gas supply panel next, but we have an issue with scheduling on Thursday for a member of the gas supply panel as a result of a conflict. 430 So it currently looks as if the best way to proceed would be to bump the gas supply back again, one more, and to proceed directly once we're done with this panel, to proceed directly with the O&M panel. Unless we were to gain some time today and could be assured that the four and a half hours that was estimated for gas supply could be started and finished on Wednesday. But if that is not possible then I think -- and we'll probably know better by lunch or early afternoon -- but if that's not possible, then what our plan would be would be to proceed directly with the O&M panel, hope to finish them Thursday and then proceed with gas supply on Friday. 431 MR. SOMMERVILLE: That would seem to be an appropriate line-up. Are there any submissions or comments with respect to that order of proceeding? 432 So we'll next have the O&M panel followed by the gas supply panel. 433 We would like to finish this panel today. I know that the estimates would seem to indicate that that's a fond hope, but we'd like to -- we'd like to finish it today, if we can; and if we can't, then we'll -- some of tomorrow morning will be spent with this panel as well as the O&M panel. 434 MR. PENNY: And that would be our preferred lineup as well, Mr. Chairman. In fact, if that were true, if we did finish this panel today, then we actually could proceed with the gas supply panel because then we'd be assured that they'd be done on Wednesday, because the estimate is only for four and a half hours. 435 MR. SOMMERVILLE: Let's see where we're at at the break and we'll have a realistic assessment. Maybe the parties can take a look at their estimates, going forward, and if that fits, then that -- we'll build that into our plan. 436 MR. PENNY: That would be of great assistance, if the parties have revised estimates, to let us know. 437 MR. SOMMERVILLE: Thank you. 438 Is there anything else from a preliminary point of view? 439 Mr. Warren. 440 UNION GAS LIMITED - PANEL 6; BROEDERS, WITTS, BODNAR, NEILLY 441 M.BROEDERS; Previously sworn. 442 A.WITTS; Previously sworn. 443 B.BODNAR; Previously sworn. 444 D.NEILLY; Previously sworn. 445 CONTINUED CROSS-EXAMINATION BY MR. WARREN: 446 MR. WARREN: Panel, I have only two further areas that I want to canvass with you and both of them are, from your perspective, mercifully brief. I want to deal secondly with the issue of incentives. 447 First of all, panel, can you tell me, is there a written incentive policy for Union Gas? 448 MR. BODNAR: We have a policy that generally provides for -- a global policy, shall we say, that provides for the fact that we do incentive programs, bonus programs for employees of the company, and these are considered in terms of the nature of them on an annual basis, in terms of what targets would be set, and so on. 449 MR. WARREN: Is that general policy in written form? 450 MR. BODNAR: I believe it is, yes. Yes. 451 MR. WARREN: Can that be filed? I don't believe it's anywhere in the record. Can it be filed? 452 MR. BODNAR: Sure it can. 453 MR. WARREN: Can I get an undertaking, please, to file that. 454 MR. MORAN: Mr. Chair, this will be become Undertaking N.6.5, an undertaking to file Union's incentive policy. 455 UNDERTAKING NO. N.6.5: TO FILE UNION GAS'S INCENTIVE POLICY 456 MR. WARREN: Now, panel, can I ask you to turn up an interrogatory delivered by my friend, Mr. Thompson, which is Exhibit J.13.7. Do you have it, panel? 457 MR. BODNAR: We have it. 458 MR. WARREN: Looking at the second heading, which is "Actuals" and, under line item number 8, "Incentives," you have the actual incentives paid for each of 1999, 2000, 2001, 2002. 459 Mr. Bodnar, can you explain for me why, in 1999 and 2002, you were at roughly $7 million in incentives, and in the other two years, you were slightly in excess of 9 million. What is the reason? 460 MR. BODNAR: Incentive plans are based on certain performance criteria, and they're based on a balanced score card. It really is dependent upon the achievement of those objectives that are within the bonus program. So in some years, objectives may have been achieved; in others, they wouldn't have. 461 I think the second reason, if I am correct, I believe in -- I just need to confer with -- and in -- yes, in 2000, we also negotiated with our union an incentive plan as a part of their compensation rather than just simply based wage increases. We, in fact, had an incentive plan that was introduced with the union, so that would have been some increase there as well. 462 MR. WARREN: To what extent, Mr. Bodnar, are the incentives tied to the overall performance of the company; or, to put it simply, to what extent are the incentives tied to shareholder value? 463 MR. BODNAR: As I mentioned, we have a balanced score card type of program and it does vary from year to year. We do have components of it that are based on EPS, earnings per share, or earnings before interest and taxes. We also have components that are associated with things like safety and reliability and environmental issues, diversity, and so on. So it is a mix and it's a different mix within different categories of employees. So we would have employees with greater/lesser amount of those financial objectives, if you will, in certain categories, and then other employees that are closer to the customers that would have larger components of the customer -- we'll call it customer-related incentive plans. 464 MR. WARREN: For the senior management component of the organization, would it be fair for me to assume that for senior managers, the incentive is tied to earnings and shareholder benefit? 465 MR. BODNAR: It is true that there is a larger component of it for those individuals, but all of the -- all of the members of the senior managers or executives within the organization would have at least 25 percent of individual components, you know, many of which have targets that are related to things other than financial components. 466 MR. WARREN: Okay. Could you -- I don't know that this is in the record. I'm trying to speed things along here, Mr. Bodnar. Would it be possible for you, taking Exhibit J.17.37, line 8, to do a comparison for each of 1999, 2000, 2001, 2002, to just add to that line what the company's return was, ROE was, in each of those years? 467 MR. PENNY: That is on the record elsewhere. If Mr. Warren wants to argue the point, then he can take those two pieces of information, but, in my submission, there's no need for these witnesses to go off and generate work that's already clearly on the record. 468 MR. WARREN: That's fine, sir. If Mr. Penny wants me to go and work with it, I'll do that. 469 The final point I wanted to ask you about, final two points, to what extent, if at all, is the achievement of the incentive levels tied to the weather in any given year? In other words, if you have a warmer-than-normal winter and your income is therefore down, is it less likely that the incentives are going to be paid out; and conversely, in a colder-than-normal winter, with the revenue up, is it more likely that the incentives are going to be paid? 470 MR. BODNAR: I think it's -- to the extent that many of the incentives may be tied to earnings, of course, there would be an impact where weather may be related, but it's -- aside from those, it would be more of an indirect component. And, indeed, there would be circumstances, I think, where there might be, to some extent, even the reverse relationship, where certain employees would have had targets related to customer service, you know, in colder-than-normal years, where there may be more activity or something else that's going on. So it's not certainly always a direct relationship, except, of course, where there are financial components that would be related to it. 471 MR. WARREN: The level of incentive for which you're seeking recovery in rates for 2004 is what, Mr. Bodnar? 472 MR. BODNAR: $9.5 million, approximately. 473 MR. WARREN: Do you see, panel, and I think in fairness I should put this to you, do you see any contradiction between your asking the Board, on the one hand, to recover $9.5 million in incentive payments this year at the same time that you're asking the Board to hold you harmless from the effect of your investment decisions and your pension plan; do you see any contradiction in that? 474 MR. BODNAR: No, I don't see any contradiction in that at all. Our incentive plan programs are created and are a part of the total compensation for the employees. Many of these targets -- and they go very deeply into the organization. As I mentioned earlier, we have unionized employees, clerical people, admin people, as well as supervisors and managers that participate in the programs, and it's a very useful tool to target work within our workplace, and certainly is something that our advisors tell us companies need to use in order to target performance within a company or to target certain objectives within a company. So it's both a useful tool and a necessary one, we believe, so I don't see a contradiction. 475 MR. WARREN: My final category of questions, and I have only a couple, is in the category of salary and wages. In this context, if you could turn up an interrogatory answer to an interrogatory delivered by my friend, Ms. Singh, it's Exhibit J.3.11, Interrogatory No. 11 delivered by the Canadian Manufacturers & Exporters. 476 MR. BODNAR: We have it. 477 MR. WARREN: That interrogatory response indicates, panel, that the average salary growth between 2003 and 2004 is 4 percent. That is, as I recollect the information in the record, higher than the percentage increase in each of the years under the PBR period; is that correct? 478 MR. BODNAR: I think it's correct, subject to check. 479 MR. WARREN: Subject to check, okay. And as I understand the evidence, the rationale for that is in substantial part a Towers Perrin analysis which is, in fact, attached to that interrogatory response. It's a letter from a Mr. Hatch which says that the salary increases are required in order to allow Union to remain competitive; is that a fair summary of the position? 480 MR. BODNAR: That's a fair summary. 481 MR. WARREN: And my question to you panel is, why would you not have increased the salaries in order to achieve that goal during the PBR period, rather than leave the largest portion of the increase to the end of the PEB period under a cost of service regime? 482 MR. BODNAR: We consider salaries on an annual basis at Union Gas. We have several components that we look at. We look at what the marketplace is doing, we talk to our advisors and consultants and look at the marketplace to see what is happening in salaries. We look generally into the overall community in terms of salaries and look at other surveys potentially. We also consider what happens during our labour negotiations, in fact, and what increases are associated with that. Then as well, we also have to give consideration to general increases that occur as a result of progression within the organization where a person may have started at a particular level and there's a regular progression that takes place. 483 So it is, in fact, as a result of what we're seeing in the marketplace that we see the kinds of increases that we're being advise are necessary to budget for in the coming years. I think we attempted throughout the process, whether it's PBR or otherwise, to budget the appropriate amounts based on the market to remain competitive to retain employees. 484 MR. WARREN: It just so happens that the largest increase is in the period when you're coming out of PBR; is that fair? 485 MR. BODNAR: It is true, of course, we have a 4 percent increase we also had periods of time in earlier times when we had, you know, 6 and 7 percent increases based on the market consideration. If you're asking me whether this is larger than the one in the last couple of years, that is true, because that's what the market is telling us we need to do. 486 MR. WARREN: Those are my questions and my apologies for exceeding my time prediction. 487 MR. SOMMERVILLE: Ms. Lott. 488 MS. LOTT: Thank you very much. 489 CROSS-EXAMINATION BY MS. LOTT: 490 MS. LOTT: My name is Sue Lott. I'm actually the counsel for the Vulnerable Energy Consumers Coalition and we represent the interests of low and fixed income residential ratepayers. So I'm going to start with Exhibit D.1, tab 9, page 2. If I could just take you to your evidence. 491 Actually, if you don't mind, before I do that, I would like to pull up the interrogatory by the CAC, J.7.27. I just want to get into something before we get into Exhibit D.1, tab 9. 492 MR. BODNAR: Yes, we have it. 493 MS. LOTT: If I could just start with J.7.27, the interrogatory by the CAC, I just want to clarify what the pension expense is actually projected to be in 2004. If we look at that line under budget, the pension expense for 2003, am I correct that that's 13,120,000? And then according to the blue-page update, the projected expense for 2004, am I correct that that's 21,350,000, as opposed to what I thought I had heard during Mr. Warren's questioning, that it might be 19 million? 494 MR. BROEDERS: The discrepancy is the 19 million was the defined benefit, the defined contribution is an additional 2.2. 495 MS. LOTT: So the pension expense projected for 2004 is in fact 21,350,000 in total. 496 MR. BROEDERS: That's correct. 497 MS. LOTT: Okay. Sorry. Now back to Exhibit D.1, tab 9, page 2, I just want to take you to that bottom paragraph. 498 MR. PENNY: Is this the update or the original? 499 MS. LOTT: This is May 2003. 500 MR. BROEDERS: Appendix A? 501 MS. LOTT: It's the original. 502 MR. BROEDERS: But in the appendix. 503 MS. LOTT: Sorry, no, it's not the appendix, it's D.1, tab 9, page 2 of 7. 504 MR. BROEDERS: We have that. 505 MS. LOTT: You've got that? 506 So if we can just read off that last paragraph, it just says that: 507 "The pension fund assets in Union's pension plans have suffered material declines in market value, particularly in 2001 and 2002. In addition, long-term bond yields have declined over the same period resulting in a reduced discount rate for calculating the present value of the future benefit payments, which in turn results in the significant increase in the liabilities of the pension plans." 508 Now, am I correct from that statement that clearly the health of the pension fund has been declining over a number of years and as you point out in your evidence that it's suffered significant declines in the 2001-2002 period. 509 MR. BROEDERS: That's correct. 510 MS. LOTT: That's correct. And we know that in the 2001-2002 we've already established that Union was operating under a PBR? 511 MR. BROEDERS: That is correct. 512 MS. LOTT: So if I could then take you - this is all part of the same question - to your annual report of 2002, which is Exhibit A, tab 12, and I'm interested in page 28. 513 MR. BROEDERS: We have that. 514 MS. LOTT: I'm looking at that very bottom paragraph underneath the graph where it says: 515 "For 2002, all of the defined benefit pension plans have accrued benefit obligations that exceed the fair value of plan assets. For 2001, certain defined benefit pension plans have accrued obligations of 342 million that exceed the fair value of the plan assets of 300 million." 516 Now, my understanding of that statement, if you could correct me, in layman's language does it essentially mean that the benefit obligations are exceeding what is in the plan assets; is that correct? 517 MR. BROEDERS: That is correct. 518 MS. LOTT: And the plan assets on that table are the value that Union is generating from the asset plan; is that correct? 519 MR. WITTS: The fair value of the pension fund assets is the $300 million. 520 MS. LOTT: Right, and the obligations are exceeding it, they're 342 million? 521 MR. WITTS: That's correct. 522 MS. LOTT: So the obligations are greater than what is being generated by the plan assets. 523 MR. WITTS: That's correct. 524 MS. LOTT: So I guess my question would be that knowing what you knew about the declining health of the pension fund and the fact that you knew in 2002 that you had a deficit, my question would be why didn't you make a planned injection into the pension fund at that point? 525 MR. WITTS: I think that -- 526 MR. PENNY: Sorry, just for clarification this is the 2002 annual report which is based on 2002 audited financial statements, so I think the company knew in 2003 that the plan was in a deficit. I'm not sure it's correct to say that the company knew in 2002 that the pension plan was in a deficit. 527 MS. LOTT: But if I could just clarify, I understand from looking at that table that you also know that for 2001 that you had accrued obligations that were greater than the fair value of the plan assets as well. 528 MR. WITTS: That's right. I think, however, if I may, I'd like to draw a distinction between the company's cash-funding obligations under the pension plan and the pension accounting for those obligations. 529 What is included in the application is pension expense that's calculated in accordance with generally accepted accounting principles. The cash contributions to the pension plans are determined in accordance with the requirements of the Ontario Pension Benefits Act and the requirement there is to perform an actuarial valuation at least once every three years. 530 So the actual cash contributions to the plans, although there may have been declines in capital markets, they may not yet have been reflected in the actuarial valuations. In fact, most of the plans were revalued as of January 1, 2003, and it's now, commencing in 2003, that the company has started to increase its cash contributions into those plans. 531 On the other hand, the pension accounting for those deficits, as we discussed earlier, has been deferred through the smoothing mechanisms that apply under the accounting handbook. 532 I would also add that this is -- the deferral has applied in prior periods, too, particularly when the company has been under performance-based regulation when, in fact, the expense that's been included in rates has been lower, because in the late '90s we, in fact, were in a healthy financial position where the obligations were less than the plan's assets, and, in fact, the company has reported greater expense during those years than was actually included in rate base. 533 MS. LOTT: But the actual effect here is that you end up deferring your obligation; is that not correct? 534 MR. WITTS: Under the pension accounting, the deferral is somewhat greater than it is under the cash-funding requirements. 535 MS. LOTT: Right. So you're deferring them from the time in which you were under PBR into future test years; for example, 2004, when we know that you will be under a cost of service. 536 MR. WITTS: We are reporting the pension accounting expense in accordance with section 3461 of the handbook, and it just so happens that that does effectively defer the costs out, when we're applying the handbook, as we have applied the handbook in every year, in accordance with generally-accepted accounting principles. 537 MS. LOTT: So what happens if the pension expenses aren't increased in 2004 as you have requested in this rates proceeding? 538 MR. BROEDERS: If the rates are not affected by the increased expense, it will have no impact on the amount that Union Gas expenses in accordance with GAAP, unless there's a Board order to change the way that we do the accounting expense. So if there's another basis that's determined, we would need a Board order to depart from GAAP; otherwise, we'd have a qualification in our financial statements which would affect our funding possibilities, our financing possibilities. 539 MS. LOTT: And how would ratepayers be effected? 540 MR. BROEDERS: Interest costs would likely go up because we would no longer be in a BBB plus credit rating. If financial statements are not in accordance with GAAP, the financial community will try to stay away from that. So interest costs would go up and that would be the impact there. There's probably further ramifications that I'm not familiar with on the investing side. 541 MS. LOTT: So there could be an impact on rates and therefore on a residential ratepayer class as well. 542 MR. BROEDERS: Ultimately, yes. 543 MS. LOTT: Okay. Many of VECC's ratepayers, the residential class, the coalition that we represent, are people who themselves have no pension plans; many of them just don't have incomes that would allow them to have pension plans. Do you think it's appropriate that ratepayers such as those would be responsible for losses in Union's pension plan, given that these losses are the result of capital market weaknesses? 544 MR. BROEDERS: I don't think I'm qualified to answer the actual rate-making. I can speak to the expense. I can also -- sorry, to the extent that the pension plans overearn as they did, I think, in earlier '90s, when our pension expense became lower, they benefited then. Unfortunately, pension expense is something that's volatile. The smoothing methods have been done to mitigate or minimize the volatility of those. 545 MS. LOTT: I'm sorry, I'm having trouble hearing you. 546 MR. BROEDERS: Now I lost my spot. 547 I can't really speak to how the rates are designed or different rate classes, whether it's residential, commercial/industrial. The pension expense is what it is, unfortunately. We have smoothing methods that try to minimize volatility in the expense. Earlier, prior to 1999, when the pension funds were healthier, pension expense was minimized due to the health of the plans, and that expense was lower so that all ratepayers benefited at that time. Unfortunately, now we've discovered, or we've experienced very poor capital market performance and that pension expense, as a result, has increased. 548 MS. LOTT: But did that come back to ratepayers? 549 MR. BROEDERS: Did the lower expense? 550 MS. LOTT: Yeah. 551 MR. BROEDERS: The lower -- the $5 million was -- sorry, pension and post-employment benefits was $6.3 million, I believe, in the 499, which was increased to 7.9 in the PBR period, so that was a low level. During 2001 to 2003, Union Gas expensed approximately $12 million in total above the approved rates. So ratepayers have benefited from the lower expense, while the shareholder had to find ways to offset the increase. 552 MS. LOTT: Okay. Has Union -- I'm not sure who would answer this question. Has Union sought approval from this Board about the appropriateness of Union's pension fund portfolio? 553 MR. PENNY: Could you state the question again. I'm sorry, I missed it. 554 MS. LOTT: Yes. Has Union sought approval from this Board on the appropriateness of its pension fund portfolio? 555 MR. PENNY: Can I just ask for clarification through you, Mr. Chairman. Is that historically or in this case? 556 MS. LOTT: Well, I guess I would ask specifically, have you reviewed it for 2001 and 2002? 557 MR. BODNAR: If you're asking the question, have we come to this tribunal for 2001 and 2002 to approve the investment policy for pensions, that is not my understanding. We have obviously come to this tribunal with the details of performance under the plans and discussed rates of return. But our investment policy is not something we've specifically come to this tribunal with. 558 We do, however, file our investment policy with the governing body in Ontario, I think it's -- I believe that's FSCO, Financial Services Commission of Ontario, so we do provide financial information associated with that in the public record. 559 MS. LOTT: Okay. If I could just take you to Exhibit J.1.87. This is the Board Staff interrogatory that I think Mr. Warren had brought up. 560 MR. BODNAR: We have it. 561 MS. LOTT: And what was established, from looking at that, the response to that interrogatory, is that the pension -- Union's pension fund performance has been approximately 7 percent below the median level; is that correct? 562 MR. BODNAR: For that period, that is correct. 563 MS. LOTT: Yes, in 2001-2002. 564 MR. BODNAR: For that period. 565 MS. LOTT: Okay. My question would be: Had the pension fund been performing at that median rate of return, could you undertake to provide me with the additional funds that Union would have generated over 2001 and 2002? 566 MR. PENNY: Sorry, is the question, you want to monetize that 7 percent? 567 MS. LOTT: That's correct. 568 MR. PENNY: Is that possible? I don't know. 569 MR. BROEDERS: It's about $20 million. 570 MS. LOTT: Sorry, what was that? 571 MR. BROEDERS: 20 million. 572 MS. LOTT: 20 million, thank you. 573 MR. BROEDERS: In assets, not expense. 574 MS. LOTT: Okay. I wanted to ask a question about the post-retirement. 575 MR. PENNY: Sorry for interrupting, I just wanted to make sure that the record is clear. Mr. Broeders -- 576 MR. BROEDERS: The assets as recorded on the 2002 financial statements for the pension fund would have been $20 million greater. 577 MR. PENNY: All right. 578 MS. LOTT: Okay. Thank you. 579 Now I wanted to ask a question about the post-retirement benefit and I'm going to ask you to turn up Exhibit J.1.89, that's a Board Staff interrogatory. 580 MR. BODNAR: Yes, we have that. 581 MS. LOTT: Have you got that, okay. 582 The response to that interrogatory looks at the medical expenses for 2003, and you've got them at 10 percent and then you mention that in 2004, it would assume to be 9 percent, and in fact, grading down by a percentage to 5 percent by 2008; is that correct? 583 MR. BODNAR: That's the methodology we use, yes. 584 MS. LOTT: Just to go back to Exhibit D.1, tab 9 the appendix, and I'm looking at page 4 and the third full paragraph of that page, and in that paragraph I'm looking at the second sentence, if you have that in front of you. 585 MR. BODNAR: We have it. 586 MS. LOTT: Where it states that: 587 "In determining the 2002 expense it was assumed that the cost of medical services would increase by 5 percent per year. While the company continues to believe that this is a reasonable long-term assumption, based on recent experience, it is likely that these costs will increase by a greater rate in the short-term and accordingly the assumed rate of increase is going to rise to 10 percent" as you put in your interrogatory response, "grading down to an ultimate rate of 5 percent per year by 2008." 588 So my question has to do with the fact that you're not using the long-term assumption of 5 percent even though, as you stated in your own evidence, for medical expense costs that that would be a reasonable assumption. My question to you would be: Why have you chosen not to do that? 589 MR. WITTS: The use of the actuarial term for using assumptions that begin at a higher rate and grade to a lower rate is referred to as using select and ultimate assumptions, and the use of select and ultimate assumptions for the valuation of post-retirement medical and dental liabilities has become a standard actuarial practice in North America. 590 The current high levels of medical inflation that we are seeing will continue in the short term based on all the economic forecasts that we've seen; however, in the longer term, we believe that they will have to ameliorate because eventually health care cannot assume more than 100 percent of GDP. 591 MS. LOTT: You've also noted in your response to J.1.89, you make mention of new retirees claims data giving information about medical inflation running at a higher rate than expected levels, is that a justification for reinstating that 10 percent rate? 592 MR. WITTS: Yes, it is. The standard practice is to do a full actuarial valuation of the post-retirement benefits once every three years and at that triennial valuation, we do a thorough analysis of the claims experience in the interevaluation period to determine what types of claims experience we've been seeing, and then that experience is then used to help frame the assumptions going forward. 593 MS. LOTT: And is that claims data or that study, has that been provided in your evidence? 594 MR. BODNAR: As far as I know, it has not. 595 MS. LOTT: I wonder if you could undertake to provide that study. 596 MR. BODNAR: If I understand your question, you're looking for the valuation report that has been provided by Towers Perrin to us on post-retirement benefits, we could provide that if that's the document that you're looking for. 597 MS. LOTT: Yeah. That would be great. 598 MR. MORAN: Mr. Chair, that would be Undertaking N.6.6. 599 UNDERTAKING NO. N.6.6: TO PROVIDE THE VALUATION REPORT THAT HAS BEEN PROVIDED BY TOWERS PERRIN ON POST-RETIREMENT BENEFITS 600 MS. LOTT: My last question has to do with Exhibit J.34.8, and that was an interrogatory posed by VECC. 601 MR. SOMMERVILLE: That was 34. -- 602 MS. LOTT: 34.8. 603 MR. BODNAR: We have it. 604 MS. LOTT: What I'm looking at here is the summary table that was provided in response to the interrogatory of economic forecast, and I'm looking at line 8, the last line, which is the five-year mortgage rate. As we can see for 2003 and projected for 2004 is 7.5 and 7.9 percent respectively. Would you agree that pension funds rely on fairly conservative type investments? 605 MR. BODNAR: Pension plans rely on long-term investments in both equities and in bonds and our intent in doing that is to look at longer term investments. 606 The conservatism that's imbedded in that is to have a reasonable balance in the marketplace of both value and growth stocks on the equity side as well as a particular level of bond that's reasonably secure. So that's the level of conservatism that one would apply, a balance based on longer term growth in the fund. 607 MS. LOTT: And would you agree that a mortgage fund is also in that sense a similar type of conservative... 608 MR. BODNAR: Well, frankly, I'm not sure that I'm qualified to talk about mortgage funds, and we don't use a mortgage fund as a form of investment in the pension plan. Frankly, I'm not sure it's secure enough. 609 MS. LOTT: That's what I'm just getting at is, you've used a 7 percent discount rate for the 2004 pension fund and I'm wondering if that maybe is too conservative an estimate given the estimates under the five-year mortgage rates in there. 610 MR. BROEDERS: To clarify, we're using 6 percent for the discount rate for the 2004 pension plan. 7 percent is the rate of return that's in the blue-page update of the rate of return. 611 MS. LOTT: Okay. Those are my questions. Thank you. 612 MR. SOMMERVILLE: Ms. Lott. 613 Ms. Singh. 614 MS. SINGH: I'm going to follow Mr. Dingwall if that's all right, Mr. Chairman. 615 MR. SOMMERVILLE: Mr. Dingwall, are you ready to proceed? 616 MR. DINGWALL: Well, I don't think anyone's actually discussed the order post-VECC, so I'm happy to go now or happy to permit someone else to take the lead. 617 MR. SOMMERVILLE: How much do you estimate? 618 MR. DINGWALL: I'm estimating, using a different form of estimating than Mr. Warren. One hour. 619 CROSS-EXAMINATION BY MR. DINGWALL: 620 MR. DINGWALL: I'm wondering if the individuals from Towers Perrin can indicate how long they've had a working relationship with Union Gas? 621 MR. WITTS: I have been a consultant to the Westcoast Energy Group of companies since 1990 and have advised with respect to Union Gas since it was acquired by Westcoast Energy at that time in 1994. 622 MR. DINGWALL: So did your firm, in fact, do the previous actuarial valuation on the Union Gas pensions? 623 MR. WITTS: Yes, we have provided actuarial advice for -- to Union Gas for a number years. 624 MR. DINGWALL: Now, what we've discussed mostly this morning is a letter that you've written and filed as evidence relating to a review in 2003 of the Union Gas pensions. When was the previous actuarial review of the Union Gas pensions? 625 MR. WITTS: The review date varies. There are a number of different pension plans and the actuarial valuation date for those plans varies. I could undertake to provide you with a schedule, but I don't have the exact dates before me. 626 MR. DINGWALL: If you could, sir, that would be greatly appreciated. 627 MR. MORAN: Mr. Chair, that's Undertaking N.6.7, an undertaking to provide a schedule setting out the dates for previous reviews of the various plans that Union has. 628 MR. PENNY: It's valuations. 629 MR. MORAN: Sorry, valuations. 630 UNDERTAKING NO. N.6.7: TO PROVIDE A SCHEDULE SETTING OUT THE DATES FOR PREVIOUS REVIEWS OF THE VARIOUS VALUATIONS THAT UNION GAS HAS 631 MR. WITTS: I would add that the timing of the actuarial valuations is not at Union Gas's discretion. It is in accordance with the Ontario Pension Benefits Act and regulations. 632 MR. DINGWALL: And from your earlier evidence, sir, my understanding is that these valuations need to take place at least once every three years; is that correct? 633 MR. WITTS: That's correct. In certain circumstances, you are required to undertake annual valuations if the financial position of the plan indicates that the solvency is less than 80 percent. And two of Union's plans are on -- currently on an annual valuation cycle. 634 MR. DINGWALL: When did these plans become required to have an annual valuation? 635 MR. WITTS: When the solvency ratio falls below 80 percent. The solvency ratio is the ratio of the liabilities of the plan if it were to terminate to the market value of the plan's assets. Again, that's prescribed under the Ontario Pension Benefits Act. 636 MR. DINGWALL: Okay. And unless I misheard you, you mentioned a moment ago that two of Union Gas's pension plans are now subject to that requirement; is that correct? 637 MR. WITTS: That's correct. 638 MR. DINGWALL: And when did these plans become subject to that requirement? I'm thinking actually instead of the definition, more in thinking of time, so a date would be helpful. 639 MR. WITTS: I'd have to look at my records to get the specific dates. But certainly one of the plans has been on an annual cycle since 1998, and the other, I believe, was 2001. 640 MR. DINGWALL: Do you know what the global size of these two particular plans would be in terms of assets? 641 MR. WITTS: Yes. They're actually two of the smaller plans. They are specifically for bargaining unit employees, two different unions, and the total market value of the assets for the two plans is approximately $20 million. 642 MR. DINGWALL: Out of the existing deficiency, what portion of that deficiency would these two plans substantiate? 643 MR. PENNY: Could I just ask for clarification, Mr. Chairman, of what deficiency Mr. Dingwall is talking about. 644 MR. DINGWALL: As I understand it from the Towers Perrin letter, there is currently a deficiency in total pension plan assets of approximately 100 million. I'm asking the witnesses what portion of that $100 million deficiency would be comprised from the two plans that Mr. Witts has been referring to that are subject to an annual filing requirement. 645 MR. WITTS: It would be approximately 5 or 6 million of the total. 646 MR. DINGWALL: How many other plans are we dealing with? Is it three? 647 MR. WITTS: There are six defined benefit pension plans, and one of those plans has a defined contribution component which constitutes the defined contribution option that some employees participate in. 648 MR. DINGWALL: Now, in addition to the letter that you provided and that's been filed as evidence, did you also perform an actuarial valuation of these pensions? 649 MR. WITTS: Yes, in accordance with the schedule that I just mentioned. 650 MR. DINGWALL: And has that been filed in evidence here? 651 MR. BROEDERS: I do not believe the valuations are in evidence. 652 MR. DINGWALL: I beg your pardon? 653 MR. BROEDERS: The valuations are not in evidence. 654 MR. DINGWALL: Would there be any -- 655 MR. BODNAR: Just to be clear, I think perhaps the question was, in addition to the letter that was provided, did we concurrently provide an -- did Towers concurrently do an actuarial valuation. I do not believe that there was a concurrent actuarial valuation that was done. The actuarial valuations that were done on the plans were done in accordance with the schedule that we're required to provide by the pension law as opposed to a special actuarial valuation being done specific to this hearing. 656 MR. DINGWALL: Well, when would the actuarial valuations have been done most recently? 657 MR. BROEDERS: At the latest, January 1st, 2002. 658 MR. DINGWALL: Does the company have any -- 659 MR. BROEDERS: Sorry, that's a poor way to say it. The valuations were performed in either January 1st, 2002, or January 1st, 2003. I just can't remember if all of them were 2003 or if some of them were 2002, if that helps. 660 MR. DINGWALL: And I believe we already have on the record an undertaking to provide the previous dates upon which valuations were done. 661 MR. BROEDERS: To firm up those dates, yes. 662 MR. DINGWALL: Does the company have any objection to producing the actual valuations? 663 MR. BODNAR: No, we have no objection. I believe they're filed as well with the pension authorities in the province of Ontario, so they are part of the public record already. 664 MR. PENNY: With respect to this hearing, however, I guess I would -- I'm not sure this is an objection yet, but I would like some indication, I suppose, from the questioner as to why they are relevant to any issue. 665 MR. DINGWALL: Well, we've been spending a number of hours talking about them. 666 MR. BROEDERS: The financial state of the plans are already in the financial statements, so I think we'd just like to know what further use, I guess, you would like of them. 667 MR. DINGWALL: I guess what would be helpful in this hearing, as we seem to be talking consistently about the period going back to EBRO 499, would be to see what information the company had about the state of its plans from that date forward. So I guess understanding and seeing the actual valuations from either 2002 or 2003 and, in addition to that, seeing the valuations which took place before that time, going back, I guess, to 1999, would be extremely helpful to put all of this in context and to gain some understanding of what the company knew about its pensions. 668 Does that clarify things, Mr. Penny? 669 MR. PENNY: Well, I mean I'm in your hands, Mr. Chairman. 670 MR. SOMMERVILLE: The Board would be interested in that evidence, and if it's not an overly-taxing exercise, we'd like to see those valuations. 671 MR. DINGWALL: Thank you, sir. 672 MR. MORAN: Mr. Chair, this would become Undertaking 6.8. As I understand it, it's an undertaking to provide the last two valuations for each of the pension plans. 673 MR. BROEDERS: We'll undertake that. 674 MR. DINGWALL: Or however many valuations, I guess, would take us back to 1999, Mr. Moran. And I think what we're only talking about are defined benefit plans, not the defined contribution plans. 675 MR. SOMMERVILLE: I think the record is sufficiently clear to define that undertaking; is that sufficient, Mr. Moran? 676 MR. MORAN: Yes. 677 MR. DINGWALL: Thank you, sir. 678 UNDERTAKING NO. N.6.8: TO PROVIDE THE LAST VALUATIONS BACK TO 1999 FOR THE DEFINED PENSION BENEFIT PLANS 679 MR. DINGWALL: Mr. Witts, does Towers Perrin advise Union Gas on when it should undertake a review of its pensions? 680 MR. WITTS: Are you asking specifically with respect to the timing of actuarial valuations? 681 MR. DINGWALL: Yes, I am, sir. 682 MR. WITTS: No, as I think I mentioned earlier, the timing of undertaking actuarial valuations is prescribed by law in the Ontario Pension Benefits Act and regulations. 683 MR. DINGWALL: Would you agree with me, sir, that the prescription by law is based around having a maximum time that pensions can go without an actuarial valuation; would you agree with that? 684 MR. WITTS: Yes, the legislation in effect is minimum standards and therefore, provided the plan is in a reasonable financial condition, under the law, you can have an inter- valuation period of up to three years. 685 MR. DINGWALL: And we've already discussed a circumstance where two of the plans that we're dealing with are under a more frequent reporting obligation. 686 As an actuarial consultant, do you have any view of what a best practices timing would be for the review of pension plans? 687 MR. WITTS: Likely best practice would be to undertake annual valuations, particularly with the emphasis that's being placed on the accounting for pensions these days. Typically, however, what happens is that to keep costs down, one will use three-year actuarial valuations and then using extrapolations during the inter-valuation period to determine the accounting period. 688 Quite often, however, something occurs during the inter-valuation period, the normal inter-valuation period that means that a valuation is required to be undertaken. For example, if the benefit rate is changed or a division sold or an early retirement program takes place. So quite frequently, the periodicity of the valuations is less than three years. 689 MR. DINGWALL: Now, Union Gas was part of a set of assets sold to a company called Duke Energy a number of years ago. Did Towers Perrin undertake any actuarial reviews of the pensions on the occasion of that sale? 690 MR. WITTS: The acquisition of the Westcoast group by Duke occurred in 2001, late 2001. We didn't undertake any special actuarial valuations at that time, we simply disclosed to the purchaser all of the most recent actuarial valuations of the pension plans that had occurred. 691 MR. DINGWALL: That's the magic year 2001, where from Union Gas's annual report there begins to be the appearance of a deficiency. Do you recall what your actuarial reports -- when, more specifically, your actuarial reports would have been done prior to 2001? 692 MR. PENNY: That was the undertaking that was given a few minutes ago, Mr. Chairman. 693 MR. DINGWALL: And to avoid having the panel come back subsequent to receiving the response, I'm just asking if the witness can improve his memory in the meantime. Do you recall, sir? 694 If you don't recall, then we'll deal with the undertaking. 695 MR. WITTS: I believe that most of the plans, the plurality of them would have been valued as of January 1, 2001. 696 MR. DINGWALL: And do you recall what the result of that valuation in a global sense would have been? 697 MR. WITTS: January 1, 2001, likely, in fact, most of the plans would have been in a healthy financial position with assets in excess of liabilities. You will recall that December 2000 was really the peak of the tech bubble. 698 MR. DINGWALL: Maybe the Union Gas witnesses can help me with this. On the 2002 annual report, there's references to there being a deficiency in the pensions of approximately 42 million. When would that have hit the company's radar screen? 699 MR. BROEDERS: The $42 million figure that you referred to, I believe, was on the 2002 annual report in reference to 2001 financial status. So we would have known in the preparation of the 2001 financial statements, which would have been very early Q1 of 2002. At that time, our pension expense was already increasing, so we were starting to take measures to take care of that deficit. 700 MR. DINGWALL: Could I ask the panel to please turn to Exhibit J.26.56 an interrogatory from the Ontario Public School Boards, and specifically page 2 of that. 701 On line 10 of that -- I'll wait until you have it in front of you. 702 MR. BODNAR: We have it. 703 MR. DINGWALL: Am I correct in understanding that line 10 reflects the contributions the company was making at the time? 704 MR. BROEDERS: There's a difference between contributions and expense. This would reflect the expense. 705 MR. DINGWALL: So where would we find the contributions period? 706 MR. BROEDERS: The contributions are not in evidence, I believe. 707 MR. DINGWALL: I beg your pardon. 708 MR. BROEDERS: Contributions are not in evidence, I believe. 709 MR. DINGWALL: So where would we find them? 710 MR. BROEDERS: You won't find them here is what I'm saying, they're not in evidence. 711 MR. DINGWALL: Let me try that again. 712 MR. BROEDERS: Okay. 713 MR. DINGWALL: So where are they reflected? Can you point me to a piece that has them or can you recall where they were over this period? 714 MR. BROEDERS: I cannot point you to a piece. The way the pension accounting works is to expense the amounts as per the actuaries that would go into our income statements, I'm going to speak accounting-ese here, the credits would go into the balance sheet, the funding that we would perform would come out of cash and debit to the balance sheet, so it's in the balance sheet, and the difference between funding and the expense is captured in the Union Gas's balance sheet. 715 MR. DINGWALL: So turning back to 26.56, line 10 would be the expense meaning the money is coming out of pension; is that correct? 716 MR. WITTS: No, the expense is the amount that's reported in the company's income statement as the cost of pensions in that year. 717 MR. DINGWALL: Is the human resources department at Union Gas responsible for staff forecasting? 718 MR. BROEDERS: For, sorry, what forecasting? 719 MR. DINGWALL: For forecasting the number of employees the company will have. 720 MR. BODNAR: The human resources department at Union Gas will assist departments as they prepare forecasts, but forecasts for staffing are really the responsibility of individual departments within the organization in terms of forecasting their requirements, and then these would be consolidated, if you will, on a company basis. 721 MR. DINGWALL: Subsequent to Duke Energy's purchase of Westcoast, would it be correct to say that there was a mandate to significantly reduce numbers? 722 MR. BODNAR: I think it would be fair to say that Union Gas has, over its time, always looked at what the prudent levels for staffing would be. Certainly on the Duke acquisition, there was a view that there were certain corporate roles at Westcoast that, perhaps, were no longer necessary as the corporate headquarters was elsewhere. But when I look at, for example, operations, I'd suggest to you not at all, it wouldn't have been. 723 MR. DINGWALL: Well, between then and now, there's 400 less of you; right? 724 MR. PENNY: That's incorrect, Mr. Chairman. That number goes back to 1999. It has nothing to do with -- well, I shouldn't say it has nothing to do with it. It includes but is not limited to the Duke acquisition. 725 MR. SOMMERVILLE: You may want to clarify the foundation of your question, Mr. Dingwall. 726 MR. DINGWALL: Certainly, sir. 727 Taking Mr. Penny's comment into context, since 1999, the company has had, would it be correct to say, a mandate to significantly reduce its employment-related costs and number of employees? Is that correct? 728 MR. BODNAR: Since 1999, did you say? 729 MR. DINGWALL: Yes. 730 MR. BODNAR: Since 1999, we have certainly looked at what the appropriate levels for head count would be, and where it was advisable, where we saw there was a need to change, we've either -- we've adjusted departments. In some cases we've had certainly reductions, there's no doubt; in others we've had some modest increases as well. So it is fair to say that we have -- we have reviewed our staffing levels, as we always historically have had a look at them, and seen if we could do business a little differently. 731 MR. DINGWALL: And were a number of the bodies that were taken off the payroll bodies that would have been under these defined benefit plans? 732 MR. BODNAR: There would have been a number of individuals that would have left the company that certainly would have been within the defined benefit programs, since the vast majority of employees at Union Gas are members of the defined benefit plan. 733 MR. DINGWALL: So would it then be fair to say that the company had, in its planning, some view of how many people would be moving from employment to pension status? 734 MR. BODNAR: When people leave the company, not all of them retire. Unfortunately, what happens, some of these folks are not of retirement age, although it is true that we have had certain individuals who have retired during that period and are probably captured within that number that you've discussed. There would be other individuals that would have earned pension to the point in time and would be -- would benefit from a deferred pension at some future date when they reach retirement age, of course, subject to actuarial reductions that would have occurred. So there is an obligation to provide some level of pension based on the pension plan rules to individuals that leave the company, assuming that they are members of the plan. 735 MR. DINGWALL: The company would also have the option, under the rules, to top up an individual's pension as part of a termination package, would it not? 736 MR. BODNAR: Any top-up that would occur for any pension plan, and I speak in theory now only, would not be done from the pension plan itself, it would, in all likelihood, be done from general revenues. The pension plan has some very specific rules in terms of what value of pension can be provided to an individual based on years of service and the plan that they're in. There is no specific topping up that one does within the plan, that I'm aware of. It is all done on a -- if it were to be done, and I'm not aware of these, but if it were to be done, it would be done outside of the plan. 737 MR. DINGWALL: Well, between 1999 and 2001, do you know how many people who were employees of Union Gas began drawing on their defined benefits pension as a result of your staff cuts? 738 MR. BODNAR: I certainly don't have that detail of information in front of me, and certainly as well, during that period of time, there would have been individuals that would have normally retired at that time because they chose to retire. They may have been 55 years of age or older. There may have -- in addition to that, there would have been individuals, as I said, that would have left the company and would not have started collecting pension because they were in a deferred plan, and others that went out on, perhaps, a voluntary early retirement plan, and my estimate of that probably would have been, and this is -- I'm working from memory now, but would have been somewhere in the neighbourhood of 100 to 125 people, perhaps. 739 MR. DINGWALL: Mr. Witts, would you agree with me that if a significant number of people cease having payments made on their behalf into a pension plan and begin to actually draw on that pension plan, that that's a fairly significant trigger on the value of the plan or has a significant change on the value of the plan? 740 MR. WITTS: The actuarial valuation of the obligation does allow for or anticipates that people will retire at certain ages in the future. If people, a number -- a large number of people retire early, then the impact on the pension plan could be to increase the liability; however, typically in a final pay-type plan, it's not a significant increase in the liability because, one, if you will, the obligation that's being held allows for salary increases into the future and those salary increases don't happen because the individual is retiring sooner rather than rate later. So although it can have some impact, depending on the terms of the plan, typically the actual early retirement is not a really material impact on the obligation. 741 MR. DINGWALL: Well, sir, are you referring to that in a theoretical capacity or with respect to the actual Union Gas plans? 742 MR. WITTS: With respect to the Union Gas plans, and in the absence of any incentives that might be provided to encourage folks to retire early. 743 MR. DINGWALL: I'm trying to understand, sir. Have you reviewed the Union Gas plans and the staff cuts over the past four-year period to make that comment, or is this a theoretical comment? 744 MR. WITTS: I have provided Union Gas with estimates of the impact of various programs that they have undertaken, specifically the voluntary early retirement program that was undertaken in the fall of 1999. And obviously subsequently, as we have done actuarial valuations of the plans, we have taken into account the impact of retirements that have occurred over the last three- or four-year period. 745 MR. DINGWALL: How many people were involved in this voluntary retirement program? 746 MR. WITTS: 100 to 125 elected to take the program. 747 MR. DINGWALL: And this was a program that you advised on in the fall of 1999, I believe you said, sir? 748 MR. WITTS: Yes, it was implemented October 1 of 1999, and provided employees with a three-month window to take advantage of a special retirement offer. 749 MR. DINGWALL: What was the nature of that offer? 750 MR. WITTS: The employees were provided with enhancements to their pensions. 751 MR. DINGWALL: How were these enhancements financed? 752 MR. WITTS: They were financed in part by actuarial surplus that existed at that point in time and also through additional cash contributions from the company. 753 MR. DINGWALL: Do you recall what the amounts of the actuarial surplus and the company's contributions were, sir? 754 MR. WITTS: The question was answered in response to J.3.18, page 3 of 3, under H. Maybe I can read it. It states that: 755 "The voluntary early retirement program increased the liabilities of the pension plans by approximately 24 million which is an increase in the total liabilities of approximately 7 percent. Approximately $21 million of this increase in liabilities was funded through actuarial surplus." 756 MR. DINGWALL: So from that, the amount that would have been funded by cash from the company would be approximately 3 million. 757 MR. WITTS: That's correct. 758 MR. DINGWALL: Now, this is the fall of 1999. Do you recall when the next actuarial valuations of these pensions took place, and yes, I realize we've got the undertaking to confirm it, but I'm trying to understand while we're here what the sequence of paper would have been. 759 MR. WITTS: The actuarial valuations were done as of January 1, 2000. The voluntary early retirement program that the company implemented is known as an approved downsizing program for which special permission has to be granted by Canada Customs and Revenue Agency, and they approved the program. And then part of the approval process requires us to file actuarial valuations of the plans to determine the additional contributions that would be required to be made by the company as a result of the program. 760 MR. DINGWALL: Now, I believe the previous undertaking involves actuarial reports going back to 1999 so I'm presuming that we'll be getting copies of what you've just referred to in that previous undertaking? 761 MR. WITTS: Yes, that's right. 762 MR. DINGWALL: Now, with respect to your advice to the company on the financial impacts of this voluntary early retirement program, that was reduced to writing, was it not, sir? Was it a written report that you provided the company? 763 MR. WITTS: I don't believe that there was a formal written report per se. There were various pieces of advice provided to the company but not a formal written report. 764 MR. DINGWALL: But you did, I believe you mentioned, provide some analysis to the company of what the financial implications of various rates of take-up under the plan would be? 765 MR. WITTS: We made estimates of what the impact would be assuming different take-up rates, but the formal formalization of that, if you will is through the actuarial valuations that were done as of January 1, 2000, to measure the actual impact of the program. 766 MR. DINGWALL: What I'm trying to understand is what might have been contemplated before the program was put in place. Do you think you'd still have copies of those various estimates? 767 MR. WITTS: I'm sure I would have copies of correspondence on any material aspect with the company on that matter. 768 MR. PENNY: Mr. Chairman, we're going back in history here and Mr. Dingwall may not have been involved in RP-1999-0017, but was, and this issue of the restructuring in 1999 and the costs and the benefits was canvassed very extensively in that case and in my submission, we're very, very far afield from any relevant inquiry in this hearing, which is to set rates for 2004. 769 MR. DINGWALL: Can I disagree with Mr. Penny? 770 The boundary of relevance here is trying to understand what information or knowledge was in the company's collective head going into 2000 and 2001, at which point the plans began to have significant deficiencies. And I believe that there's a significant relevance in understanding the parameters and the financial scope associated with the downsizing plan that effectively creates a more significant obligation on the pensions going into those periods. 771 MR. PENNY: And we now know that it was financed to the tune of $20 million by surplus and $3 million by cash contribution and that, it seems to me, is the end of it. 772 MR. DINGWALL: That's only part of it, Mr. Penny. What also would be of some help is to understand what the forecasted impacts on the plan of a retirement program would be, which is what I've asked Mr. Witts to provide. Because that would give us an understanding of what was in the company's mind in terms of what the obligations on these plans would be going into the questionable years. 773 MR. SOMMERVILLE: I think the question of the transition from the 499 to the PBR plan which was described in Board decision 0017, and now the re-emergence to the cost of service, I think that is a relevant interest. I am concerned about burdening the witnesses, we have had an extensive interrogatory process, and the idea of sort of burdening the witnesses with very onerous requirements to go back and review some of this material. 774 Now, in this case, Mr. Dingwall, I don't think your requirement is an overtaxing of the witnesses and I'm prepared to require them to answer your question, but I do want you to be mindful. We don't have the witnesses here so that they can go back and churn information. 775 MR. DINGWALL: I certainly appreciate that, sir. 776 MR. SOMMERVILLE: It does not get us directly to the point of relevance. 777 So we will ask you to answer your question. Are we clear about exactly what it is? Perhaps you could restate it for us so there's no confusion or ambiguity surrounding it. 778 MR. DINGWALL: Certainly, sir. 779 I'm looking for a copy of any report or any forecasting documentation that may have been prepared by Towers Perrin for Union Gas in the fall of 1999, with respect to take-up rates and their affects on various pension plans relating to the voluntary early retirement program. 780 MR. MORAN: That would become -- 781 MR. SOMMERVILLE: Are you clear about that, Mr. Witts? 782 MR. WITTS: Yes, we can provide that information. 783 MR. SOMMERVILLE: Thank you kindly. And with respect to this undertaking as with respect to most others, it's a reasonable efforts undertaking. 784 MR. MORAN: That would become Undertaking N.6.9, Mr. Chair. 785 MR. SOMMERVILLE: Thank you, Mr. Moran. 786 UNDERTAKING NO. N.6.9: TO PROVIDE A COPY OF ANY REPORT OR ANY FORECASTING DOCUMENTATION THAT MAY HAVE BEEN PREPARED BY TOWERS PERRIN FOR UNION GAS IN THE FALL OF 1999 WITH RESPECT TO TAKE-UP RATES AND THEIR AFFECTS ON VARIOUS PENSION PLANS RELATING TO THE VOLUNTARY EARLY RETIREMENT PROGRAM 787 MR. DINGWALL: I'm not sure what the Board had in mind with respect to scheduling a lunch break, but I'm estimating I'll probably be another 25 minutes or so, but I could probably benefit with a couple of moments with my client to reduce that if the Board saw fit to take the break now. 788 MR. SOMMERVILLE: We'll break now unless you have a comment, Mr. Penny, we'll break now until -- or Mr. Shepherd. 789 MR. SHEPHERD: Mr. Chairman, just before you break, I'd like to note on the record that we have cross-examination materials that have been delivered and I'll distribute them at the break. 790 MR. SOMMERVILLE: We'll break now until 1:45. 791 --- Luncheon recess taken at 12:40 p.m. 792 --- On resuming at 1:55 p.m. 793 MR. SOMMERVILLE: Please be seated. Thank you. 794 Are there any preliminary matters before we -- 795 PRELIMINARY MATTERS: 796 MR. PENNY: Yes, Mr. Chairman. In order to keep the process moving, I think we decided at the lunch break that probably the best thing to do would be to move directly to the O&M panel since we are uncertain of what the next couple of days might bring. So the plan would be that when this panel is done - it looks like it would probably be tomorrow morning - that we would then start with the O&M panel, deal with them until they're done, and then the next panel would be the gas supply panel after that. 797 MR. SOMMERVILLE: Thank you very much. 798 Mr. Dingwall. 799 MR. DINGWALL: Thank you, sir. 800 UNION GAS LIMITED - PANEL 6; BROEDERS, WITTS, BODNAR, NEILLY 801 M.BROEDERS; Previously sworn. 802 A.WITTS; Previously sworn. 803 B.BODNAR; Previously sworn. 804 D.NEILLY; Previously sworn. 805 CONTINUED CROSS-EXAMINATION BY MR. DINGWALL: 806 MR. DINGWALL: I understand that one of the requirements of having a pension plan is that the company establish or have a pension council. Does Union Gas have a pension council? 807 MR. BODNAR: We have a pension investment committee that has responsibility for looking at the pension, and in addition to that, we have an individual group within the -- I've forgotten the exact name of it, I believe it's called the executive council, that has a group of senior people that looks at specific policy issues as well. 808 MR. DINGWALL: And do you sit on any of these committees? 809 MR. BODNAR: I sit on the pension investment committee. 810 MR. DINGWALL: With what frequency does that committee meet? 811 MR. BODNAR: We meet at least quarterly, as I recall. 812 MR. DINGWALL: And what information is put before that committee on those occasions? 813 MR. BODNAR: We review information that's provided by our consultants with respect to the performance of the plan. We meet with the investment managers of the various funds that we utilize and review their performance. We review, generally, some of the pension governance issues that take place in Canada. 814 MR. DINGWALL: Did the growing deficiencies in the pension plans become a topic of discussion at any of these committee meetings? 815 MR. BODNAR: We pay attention, of course, to the nature of the performance of the plan throughout the time that we are working with the pension funds. Obviously, when we see a movement to lower returns, we consider what's happening in the marketplace, we seek advice from others to see how our performance is with respect to the various classes of investment we have compared to similar investment managers that do similar kind of work in those classes. So, for example, if we have an interest in a value equity type of fund, we see how our manager performs with respect to other managers, and if their performance is better or worse than the median. 816 Unfortunately, we don't have the benefit of hindsight that we have today. We were not able to predict September 11th and the impact it would have on pension funds or equities in capital markets, so we didn't predict Enron and what it did to the marketplace. 817 We were concerned, for example, with the tech bubble and attempted to make sure that we had proven investments that didn't overly rely on what we thought were considerable growth in that side of the market that we didn't think was sustainable. But the reality is as we -- you know, whether it's a large fund or a small fund, we've seen -- and in comparison to other companies that have similar investments to what we have, we've seen similar types of returns. And our objective is to have a long-term investment that's done amongst various classes so that the overall return is done in a reasonable way to the plan. 818 MR. DINGWALL: So can you identify a point in time when the deficiencies in the pension plans were discussed with this committee? 819 MR. BODNAR: We would certainly have considered any deficiencies in the plan. As we had received valuation reports, we would have considered in -- during that period of time, what our investment managers are doing and comparing that to others. I can't pick a point in time, because some parts of our plan would be doing better than others, and it was all a relative performance to others within the same types of groups of performance. 820 So as I mentioned earlier, it's a question of looking at the overall long-term performance and how the various funds compare to other funds within the plan, and whether we need to put an investment manager on watch to see if there's somebody else that we need to go to. 821 I have to say, we shouldn't be finding ourselves in a situation where we, I think I said it earlier, where we invest high and sell low. We are in the long term when we invest for pension plans, and, you know, when value is out of favour and growth is in favour, we try to have that balance there. 822 I'm not sure there's a specific time that we would have said, Yes, it was on this date that suddenly it was a great uh-huh. We were seeing the markets change and we were trying to ensure we had a reasonable balance. 823 MR. DINGWALL: So I understand, this committee, which I believe you mentioned meets at least quarterly, would have some form of valuation report in front of it when it met; correct? 824 MR. BODNAR: We would have information on the results of certain investment managers for that previous period, is what we would see. We would have valuation reports that would be done on a periodic basis that our actuary would provide to us, and they might be annual or might be every three years. It just depends upon the individual plans. 825 MR. DINGWALL: So the financial information would be from the asset manager, effectively; is that correct? 826 MR. BODNAR: We would receive reports from the various managers, investment managers that we have that outlined the performance to the targets and to the marketplace where they are performing, where other similar investment -- and how they are doing compared to other similar managers. 827 MR. DINGWALL: So when this committee would meet, what would be the age of the information that it would have in front it have with respect to the performance of the investments? How current would that be when the committee meets? 828 MR. BODNAR: It would likely be performance for the -- roughly the previous quarter. They may be -- you know, if we were to meet in April, it would include the -- if it was late in April, it would include the January, February, March numbers. 829 MR. DINGWALL: So the information might be as current as within the last 30 days, or something like that; is that correct? 830 MR. BODNAR: It could very well be in terms of the performance of each of the managers of the plans that we were reviewing. 831 MR. DINGWALL: Now, does this pension committee meet in respect of each pension individually, or is it a meeting in respect of all the plans together? 832 MR. BODNAR: We meet and consider all of the plans that are under the various company plans. It's not segregated by individual companies. 833 MR. DINGWALL: And are there minutes kept of these meetings? 834 MR. BODNAR: No, we don't keep minutes of these meetings. 835 MR. DINGWALL: What work product comes out of these meetings? 836 MR. BODNAR: We receive the pension investment manager reports on a periodic basis, and we receive reports from the -- I believe it's now -- they're called RBC, they've changed names a couple of times, but RBC, that generally provides a report on the previous quarter. 837 MR. DINGWALL: Now, you mentioned what you receive and review for these meetings, but is there any form of document produced from these meetings? Recommendations? 838 MR. BODNAR: Certainly there is -- if there were -- there are not formal, I would suggest, minutes that are kept on a verbatim basis as to what takes place in the meeting. If there were suggestions or recommendations, for example, if we are putting an investment manager on watch, that will appear in a section of minutes that says "Action Items," if you will. 839 MR. DINGWALL: Now, I asked you earlier whether or not you recalled at what point the deficiencies began being discussed and you weren't able to answer. Would it be fair to assume that whatever action notes or meeting notes from these meetings might reflect that? 840 MR. BODNAR: I think if I were to look at those action notes, it is likely we would have a reflection of things like a discussion concerning how large a component that Nortel, as an example, may be of the marketplace, and that it is likely that we needed to place a cap on our investment managers as to the amount of Nortel shares that should be owned within the various investment managers within the plan. 841 I think that it's likely we would see some notes with respect to -- as I mentioned earlier, if we were concerned with a relative performance of a particular manager and we thought that on a relative basis they were performing poorer than similar investment managers in that asset class, that we would be putting them on watch, and indeed, maybe even looking to find a new investment manager, and indeed, we may have a report that would include details of who some other managers might be. 842 MR. DINGWALL: I'm trying to figure out, sir, whether or not -- well, let me ask you another question, sir. 843 This pension committee that you sit on, you've been on that committee for the last several years, have you? 844 MR. BODNAR: I have. 845 MR. DINGWALL: Going back to 1999? 846 MR. BODNAR: I think that's correct, yes. 847 MR. DINGWALL: And do you recall this committee ever coming up with a concern about the deficiency in the group of pensions that Union Gas was holding? 848 MR. BODNAR: I think it's fair to say that the type of concern that would have been raised would have been around the total capital markets and what it's been doing to pension plans generally in Canada, and for that matter around the world. We would have also had some concerns about perhaps certain asset classes where, as I mentioned earlier, value may be going out of favour with the market and growth. We would have perhaps raised as well some concerns generally about the impact of some unusual items, like September 11th or Enron, that it was having on the capital markets. 849 So we would have more globally been looking at the performance of the plan as it relates to similar asset -- similar assets under management by other companies or other asset managers and we would have been concerned about where the capital markets were going and talking about whether, you know, what was causing that and was there something -- how that compared to what our asset mix was. 850 MR. DINGWALL: Before the letter from Towers Perrin, which is filed in evidence here, did the company not have any concern about the deficiencies in its pensions? 851 MR. BODNAR: I think it's fair to say that we're always concerned when we see capital markets doing things to pension plans where there is, you know, a necessary additional contribution that would have to be made. We're mindful, however, of the fact that we are dealing with a long-term investment and we do see sways in the marketplace in the short run and that there's a requirement to ensure that the performance is a reasonable performance for a long-term plan. 852 MR. DINGWALL: So would it be your evidence, then, sir, that the reports from these meetings would give an accurate reflection of what concerns, global or otherwise, the pension committee would have had in respect of its investments? 853 MR. BODNAR: I'm not sure that the report would talk about -- as I mentioned, it's not minutes of a meeting that talks about Jane Smith raised a concern about this, it would be a reflection of the detail of information that we received and as well, information that we would have had as action items in terms of reviewing pension advisers, reviewing asset classes, putting managers on watch or not, that sort of thing. 854 MR. DINGWALL: So if anything, these reports would give an indication of what efforts the company was making to understand what concerns there might be and address them; is that correct? 855 MR. BODNAR: I think it would be fair to say that these reports would have been a reflection of, firstly, the performance of the plans relative to other companies, other plans. And in particular, within the various equity mixes and bond mixes that we might have. I think secondly it would have been a reflection of where we had a concern with a particular manager of a plan, if we felt that that performance wasn't a reasonable one. I think that's what you would see in these documents. 856 MR. DINGWALL: Gentlemen, I wonder if you'd be in a position to produce, firstly, the information from the investment managers that would have been provided to the members of the pension committees before their meetings and also the reports or other documents which would emanate from those meetings? 857 MR. PENNY: Mr. Chairman, could we have clarification of what period of time Mr. Dingwall is asking about? 858 MR. DINGWALL: Certainly, Mr. Penny. 859 I would think from the beginning of the year 2000 to the end of 2003, such as there might be. 860 MR. BODNAR: I can certainly provide the information associated with the minutes. I am not absolutely certain that we would have retained each of the quarterly reports from each of the investment managers because as you can appreciate, they provide quarterly reports so we wouldn't necessarily accumulate one after the other, we would probably keep the most recent ones. 861 I can certainly do my best. 862 MR. DINGWALL: Thank you. 863 MR. SOMMERVILLE: Are there references in these documents to individual, private persons, that sort of thing that we need to be mindful of in producing those notes? 864 MR. BODNAR: Probably the only references to private individuals would be anything that may have been raised by one of the members of the pension investment committee. 865 MR. SOMMERVILLE: I don't want something to be in one of these minutes, a frank discussion about an individual or something that is really not related to what Mr. Dingwall is interested in, and so I wonder if will, Mr. Penny, if you could take a look at these documents before they are produced to ensure there is no such embarrassment. 866 MR. PENNY: Yes, quite so, Mr. Chairman, we'll review those, and if there is an issue we'll bring that to the attention of the parties. 867 MR. SOMMERVILLE: Thank you, with that qualification. 868 MR. DINGWALL: Thank you, Mr. Chair. 869 MR. MORAN: Yes, Mr. Chair, that would become N.6.10, an undertaking to produce advice received from investment managers and documents produced by the pension committee during the period of 2000 to date, to the extent they are available. 870 UNDERTAKING NO. N.6.10: TO PRODUCE ADVICE RECEIVED FROM INVESTMENT MANAGERS AND DOCUMENTS PRODUCED BY THE PENSION COMMITTEE DURING THE PERIOD OF 2000 TO DATE, TO THE EXTENT THEY ARE AVAILABLE 871 MR. SOMMERVILLE: Thank you, Mr. Moran. 872 MR. DINGWALL: Mr. Witts, this morning we were talking about the early retirement program. Now, this was completed prior to January 1 of 2000; is that correct? 873 MR. WITTS: The latest date that someone could retire under the program was January 1, 2000. 874 MR. DINGWALL: And January 1, 2000 is also the date on which the accounting change occurred with respect to pensions, is it not? 875 MR. WITTS: It was the date that the new section 3461 became effective. 876 MR. DINGWALL: Would Union Gas have been able to enter into the voluntary employment reduction plan after January 1 of 2000, given the changes that were made? 877 MR. WITTS: Yes, they would have. I don't believe there was any change in the accounting treatment under 3461 versus the prior standard 3460 as it relates to curtailments and settlements, which is the technical term for voluntary early retirement programs. 878 MR. DINGWALL: One more question for you, Mr. Witts: Are there other smoothing methods that the company could make use of in addressing the deficiencies? 879 MR. WITTS: No. I believe the only two -- effectively, the only two smoothing methods are the use of the market-related value of assets and the use of the 10 percent corridor. 880 MR. DINGWALL: And I'm going to ask the witnesses to refer to Exhibit J.26, number 56, page 2, please. 881 MR. SOMMERVILLE: 26 point...? 882 MR. DINGWALL: 26.56, page 2. 883 MR. BODNAR: We have it. 884 MR. DINGWALL: Thank you. 885 With respect to line 10, can you tell me what that indicates? 886 MR. WITTS: Yes, line 10 is the annual cost of pensions as measured in accordance with section 3461 of the Canadian Institute of Chartered Accountants Handbook. 887 MR. DINGWALL: When you say "annual costs," is that the amount that the company is paying out each year? 888 MR. WITTS: No. The amount that the company pays into the pension funds, the cash cost is determined by reference to the periodic actuarial valuations. 889 MR. DINGWALL: Now, as part of these actuarial valuations, there is some interdependency with an expected rate of return, is there not? 890 MR. WITTS: The rate of return may have the same foundation but may not necessarily be the same. 891 MR. DINGWALL: Where does the expected rate of return number originate? 892 MR. WITTS: The expected rate of return is developed using a building block approach, and the foundation of this approach relies on an estimate of what we expect future consumer price inflation to be. We then look at what we might expect by way of a real rate of return, and in doing so -- under each of the various asset classes, the pension fund is invested in, so bonds, Canadian equities, international equities, and using those real rates of return and the policy asset allocation, we develop a total expected return on assets. 893 MR. DINGWALL: When you say "we develop," is that a calculation that Towers Perrin, in its actuarial role, would develop? 894 MR. WITTS: We develop the model and we make a recommendation to the company; however, it should be recognized that, for purposes of accounting, the assumptions that are adopted are management's best estimates, but they do rely upon the advice of the actuary in deciding upon those -- their best estimates. 895 MR. DINGWALL: Now, would these numbers then be reflected in the actuarial reports we were speaking of earlier this morning? 896 MR. WITTS: The expected return on assets that's used in the actuarial reports that we're talking about this morning are for the purposes of developing the cash-funding recommendations for the pension plans. 897 I'm obliged, by my reason of my professional requirements, to include what's called a provision for adverse deviations in setting those assumptions, and therefore those assumptions, generally, are more conservative - and by "more conservative" I mean higher cost - relative to management's best estimate assumptions, where there is no provision for adverse deviation. 898 MR. DINGWALL: Over the period that we've been discussing, from 1999 to 2003, where we sit today, have your rates of expected return varied throughout that time? 899 MR. WITTS: Yes, they have. They've varied in the sense that, at certain points in time, our capital markets model was suggesting higher rates of return, and more recently they have been suggesting lower rates of return. 900 The other, if you will, measure that we use is to compare against what other companies are doing relative to their measurement of their pension obligations, and we try to position ourselves around the median of what is accepted, the accepted range of assumptions that have been adopted by similarly situated large companies, like Union Gas in Canada. 901 MR. DINGWALL: I believe you stated a moment ago, sir, that Union provides you with a number which you then adjust depending on some degree of variability which becomes your expected rate; is that correct? 902 MR. WITTS: No, I don't believe I said that. 903 MR. DINGWALL: Part -- does any form of number originate with Union Gas that becomes, through derivation or application to your models, the expected rate? 904 MR. WITTS: Certain elements, yes; for example, we have discussions around compensation increases. But the other elements -- and also we discuss claims experience. So elements that are peculiar to Union Gas, certainly we have discussion and take advice from the company. But with respect to general economic outlook, and as to what we could expect in terms of earnings on the pension fund, we develop the model for that. And then the other main assumption which is adopted for accounting purposes is the discount rate assumption, which is set relative to yields available on Canadian AA corporate bonds. We provide the company with a -- we develop the yield curve and provide a recommendation as to the appropriate discount rate to be used. 905 MR. DINGWALL: Now, I take it that the rate that you produce only comes up in the context of an actuarial report. It's not an ongoing reporting arrangement that you have with the company; is that correct? 906 MR. WITTS: Sorry, are you referring to the expected return on assets? 907 MR. DINGWALL: Yes. 908 MR. WITTS: The expected return on assets typically comes up for discussion in the fall each year as to what the appropriate assumption should be for the following year, and in order to allow the company to prepare budgets. 909 MR. DINGWALL: And in any of the documents that we've requested that you've produced today, will your expected rate of return be reflected in those for the past few years? 910 MR. WITTS: The actuarial valuation reports show all of the assumptions that we use for that purpose of determining the company's cash contributions, and all of the assumptions that are adopted for pension and post-retirement benefits for accounting purposes are disclosed in the company's financial statements. 911 MR. DINGWALL: Sorry, sir, I was just conferring with my client for a moment. 912 For the years 2001 and 2002, did you prepare any form of document, or otherwise, for the company which would reflect, for those years, expected rates of return? 913 MR. WITTS: There certainly would be documentation with respect to the development of the actual pension and benefits expense numbers. There may not be documentation for the underlying rationale for the level of return. 914 MR. DINGWALL: Okay. Subject to the undertaking, gentlemen, those are my questions. Thank you. 915 MR. SOMMERVILLE: Mr. Shepherd. 916 MR. SHEPHERD: I believe Mr. Thompson is going to proceed. 917 MR. SOMMERVILLE: That's the meaning of your getting up, Mr. Thompson. 918 CROSS-EXAMINATION BY MR. THOMPSON: 919 MR. THOMPSON: Thank you, Mr. Chairman. 920 Panel, I represent the The Industrial Gas Users' Association. I have a number of questions. 921 I'd like to start, if I might, by just getting the numbers reconciled in the record so we'll appreciate what some of these line items include and exclude. I'd like you to start with, if you wouldn't mind, Exhibit J.7.22, which was the one that Mr. Warren referred you to this morning, and in addition, J.17.37, which was another one he discussed with you. If you'd just have the second page of each of those documents in front of you, that's where I'd like to start. 922 MR. BROEDERS: We have these. 923 MR. THOMPSON: And I assume these questions are for this panel but if I'm mistaken, please direct me to the correct panel. 924 In Exhibit J.17.37, you'll see at the top there for the periods 1999 through to 2004, the budget for four line items: Salaries and wages, fits, incentives TIFS and other compensation, and below that you'll see the actuals for the period 1999 to 2002 and I'm trying to reconcile those numbers with the numbers that appear in lines 1 and 2 of Exhibit J.7.22. And I think I understand it, but I would like to have you confirm that in line 1 in J.17.22 of salaries and wages, we have salaries and wages including incentives; is that right? 925 MR. BODNAR: I believe that's correct, yes. 926 MR. THOMPSON: Okay. And so when we look at the actuals -- and so this break down then that we have in J.17.37 segregates, in line 1, the salaries and wages component from the incentives component in lines 1 and 3 and in lines 6 and 8; would you take that -- have I got that straight? 927 MR. BODNAR: I think you have that straight. 928 MR. THOMPSON: All right, thanks. 929 So in the disaggregation that we see in J.17.37, we can look at salaries and wages and incentives separately, but they're bundled up in line 1 of J.7.22. 930 MR. BODNAR: That's correct. 931 MR. THOMPSON: Okay. Now, within the salaries and wages line in J.17.37, it appears to me that we also have severance dollars, and for that you'll need to take a look at J.1.17 where the severance dollars are shown for the period 1999 through to 2003 and the amounts are shown there in line 2. But are we correct that severance dollars find their way into line 1 of J.17.22? 932 MR. BODNAR: This may be the point that I should suggest to you that it's probably the O&M panel that have better details for that, but it would appear to be appropriate, but it would be subject to check, shall we say. 933 MR. THOMPSON: Yes, I'm quite content to have you check that. And the reason that I want to know that is to develop some sort of average salary and wages per employee or salary and wages per FTE in the years, for example, 2002 through to 2004. I would suggest, and would ask you whether you would agree that we need to exclude the severance dollars from the calculation. 934 MR. BODNAR: It's a little more difficult question to answer in that FTE is something that we don't track within our system directly. Similarly, if one were to consider average salaries, you have to consider what the deviser is going to be. Are these people that are working shift or not working shift? Are these people on an eight-hour day or a seven-hour day? Are these people that work in our inspection groups that work seven days and others that work five days? 935 I would suspect that there's an element of severance that one has to consider, but there are many other elements as well. 936 MR. THOMPSON: Well, I'm not so sure that -- well, let me come it at it this way: If you go back to J.17.37, you'll see that we asked the company to provide for each of the years -- well, at line 11, the company provided total number of employees, 1999 to 2003. And then we also asked that we be given the FTEs for each of those years and at line 12, we got a number for 1999 and we got a number for 2003, but we got nothing in between and my question is: How can that be? 937 MR. BODNAR: Again, I should repeat that I think our O&M panel is probably better prepared to answer this question and I believe there are some estimates that perhaps have been made for these two periods. But I should note that in order for us to consider something called FTEs, does one include overtime, does one not include overtime, does one include shift differential or not, what hours of work is one using, what period of time? We have certain seasonal people that are in for certain parts of the year and not others. It is not an easy question to ask, very, very difficult to come up with when one has so many different parameters of working conditions within the company like Union Gas. Quite different than, say, a plant environment where a person may be working a fixed schedule and it's easier to determine. 938 We have so many different parameters that I'm not sure that, by taking the number of people and dividing by the dollars, you're getting the FTEs. 939 MR. THOMPSON: All right. Well, it was my understanding that most sophisticated organizations manage their human resources costs by reference to an FTE-type of benchmark. Stopping there, is that right, Mr. Witts? Are you familiar with managing human resource costs on a full-time establishment or full-time employee parameter? 940 MR. WITTS: No, that's not within my area of expertise. 941 MR. THOMPSON: In anybody's area from the Mercer organization? 942 MR. PENNY: Towers Perrin. 943 MR. THOMPSON: Sorry? 944 MR. PENNY: Towers Perrin? 945 MR. THOMPSON: Towers Perrin. 946 MR. NEILLY: No, not my area. 947 MR. THOMPSON: Does Union not use this benchmark for managing human resources costs? 948 MR. BODNAR: No, we don't. We have a good system, a people-sell system that's well-recognized within the community as a good system for managing human resources. We manage on the basis of positions that are within the organization. We can tell, at any given time, how many people we have and we can talk to how many dollars are spent with respect to a department or a group of employees. 949 But no, the concept of so-called FTE is not something that human resources practitioners as late have been utilizing because it is not a comparison of apples to oranges. Often it was used, in fact, to compare yourself to other companies; but where these companies had different criteria for how they worked - hours of work that may have been different if union agreements differed, overtime rates, all of these things - it was found not to be a reasonable or a useful tool. 950 So, really, costs associated with payroll became important in comparing oneself, on a benchmark basis, to those costs that were more important. 951 MR. THOMPSON: Well, could I ask you to turn up two further exhibits, then, please. You're shown as being responsible on one of them, Mr. Bodnar, but not on the other. It's Exhibit J.17.1. And the other one is J.7.54. 952 MR. SOMMERVILLE: Those references, Mr. Thompson, again. 953 MR. THOMPSON: Yes. J.7.54, which is the CAC interrogatory, and then the second one was an IGUA J.17.1. 954 Does the panel have those documents? 955 MR. BODNAR: We have them. 956 MR. THOMPSON: All right. And if we could start with J.7.54, this is one where you're shown as having shared responsibility, Mr. Bodnar. This document, as I understand it, attaches evidence which Union prefiled in 499, showing forecast full-time establishment by administrator. So this concept didn't come from me, it's in evidence filed by Union in prior cases, I believe. Is that correct? 957 MR. BODNAR: Yes, I believe that's correct. 958 MR. THOMPSON: All right. So when you said Union doesn't use this mechanism, I'm a little puzzled if it appears to be filing evidence in prior cases reflecting the concept. 959 MR. BODNAR: Yes. As I said, historically, that was something that would have been used in the past. It's not something that we rely on today for the work that we do surrounding human resources, but it is something that, at a given point in time, at a particular time, we can make some estimates of. 960 MR. THOMPSON: Okay. So do I understand, then, that the concept, in terms of its application within Union Gas Limited, was discontinued sometime after EBRO 499? 961 MR. BODNAR: I couldn't tell you about the specific timing of that, I'm afraid; I just don't know. It is, as I said, something that our system doesn't naturally generate, but it is something that we can work towards having some estimates made. 962 MR. THOMPSON: Okay. And that, then, brings me to the next document, which is Exhibit J.17.1, and you may or may not be able to help me with this, but this document provides both head count and FTE numbers for the years 1999, 2002, 2003, and 2004. And the numbers that appear here are, in some cases, different than the numbers that appear on J.17.37 and I was wondering if you could help me with that. 963 For example, in 1999, at line 11 of J.17.37, the total number of employees is shown at 2,615, whereas in J.17.1, the number appears to be 2,891. Similarly, for 2002, the number in J.17.37 appears to be 2,589 but 2,671 in the J.17.1. And we also appear to have a slightly different head count number for 2003, although the FTE numbers for 2003 and 2004 are the same. Can you reconcile these for me? 964 MR. BODNAR: I'm afraid I can't. 965 MR. THOMPSON: Could I either have an undertaking to reconcile them or have Ms. Elliott reconcile them when she attends. I don't know, whatever is easiest. 966 MR. PENNY: Let's take the undertaking now and we'll see how it's best dealt with. 967 MR. MORAN: Mr. Chair, this is Undertaking N.6.11, an undertaking to reconcile the FTE numbers contained in Exhibit J.17.37 and J.17.1. 968 UNDERTAKING NO. N.6.11: TO RECONCILE THE FTE AND HEAD COUNT NUMBERS CONTAINED IN EXHIBIT J.17.37 AND EXHIBIT J.17.1 969 MR. THOMPSON: Yes, FTE and head count numbers. Thank you. 970 Okay, thanks. Now, just before I leave this, we have here, though, an estimate, I gather, for 2002 FTEs of 2,401 which was not carried forward to J.17.37; would you agree, Mr. Bodnar? In other words, in J.17.37 we have "N/A" written there, whereas in this earlier exhibit, we have a number, 2,401, which, the footnote tells us, is an estimate. 971 MR. BODNAR: I'm just checking 17.37. Yes, that's correct. It would appear that this estimate that was prepared for J.17.1 was not carried forward into J.17.37. 972 MR. THOMPSON: Now, I'm going to come back to that in one second, but I just want to turn to the Towers Perrin people for a moment. 973 And to clarify in my own mind the role that Towers Perrin had to play in the establishment of salary and wages increases during the term of the PBR, that would be for 2000, 2001 -- sorry, 2001, 2002, and 2003. Can you help me there? 974 MR. NEILLY: Sure. We would provide Union Gas with estimated or projected salary and wage movements each year, so we would provide them with -- for example, in 2002, we would provide them with an estimate or projection for 2003, and that comes from surveys that we conduct across Canada with several hundred employers that give us their estimates in terms of how they're going to be moving their salaries and wages in the next year. 975 MR. THOMPSON: All right. And what they do with that is their business; is that right? 976 MR. NEILLY: Yes. 977 MR. THOMPSON: So your source of information for Union, were you, in fact, consulting them as to the type of increases that they ought to provide or ought not to provide? 978 MR. NEILLY: No. 979 MR. THOMPSON: So this was not a consultative mandate during the term of the PBR, it was just providing the ongoing reporting? 980 MR. NEILLY: Yes, we have provided, for example, in the year 2000, a more extensive analysis of their competitive position and the implications of structuring their compensation plans in certain ways, but ultimately, we leave them with a decision in terms of how they want to manage their business. 981 MR. THOMPSON: All right. Now, there is a document in the record here, it's attached to Exhibit J.3.11 and this is a letter that a Christopher Hatch wrote to a Lisa Mearusic of Union on August 1, 2003. 982 MR. BODNAR: Yes, we have it. 983 MR. THOMPSON: And this letter, according to its first paragraph, was prepared in support of the 2004 rate application, that's what is says. So this is not the document that you're talking about that would be the survey results on which Union would act in establishing its targets for 2004 compensation. 984 MR. NEILLY: Sorry, can you repeat the question? I'm trying to -- 985 MR. THOMPSON: I understood you to say that your company provides Union on an ongoing basis with survey information that they then use in determining or assisting them to determine their salary packages on a go-forward basis. 986 MR. NEILLY: Right. 987 MR. THOMPSON: So at some point, you would provide them, in 2003, with the results of a survey that they would use to establish some 2004 targets or guidelines. 988 MR. NEILLY: Correct. 989 MR. THOMPSON: And when was that document provided in 2003? 990 MR. NEILLY: Union Gas, by virtue of their participation in our survey and their membership, they have access to this data on an ongoing basis. So they can, at any time, using their own resources, they can benchmark their positions against the marketplace and determine their competitive position and they also, as part of that membership, get access to the forward-looking projections in terms of salary and wage movements. So it's not that they call us or they ask us particularly for something, they just have access to it on an ongoing basis. 991 MR. THOMPSON: Okay, I accept that. 992 MR. NEILLY: This was separate from that, this document. 993 MR. THOMPSON: I understand that. I'm trying to get straight when that information became available to Union, the information which would give them the basis on which to set targets for 2004. 994 MR. PENNY: Sorry for which year? 995 MR. THOMPSON: 2004. 996 MR. NEILLY: In the salary surveys that we do in 2002, there's actually two years of projections so they can actually start looking at how the marketplace is viewing 2004 as early as August/September of 2002. The more recent or the more current data just became available, like, a month and a half ago. 997 MR. THOMPSON: Okay. 998 MR. NEILLY: Like late August. 999 MR. THOMPSON: Late August. 1000 MR. NEILLY: Yes. 1001 MR. THOMPSON: All right, thanks. 1002 Now, this letter is sort of written as though Union was a little bit behind your sample group, I don't know if that's what the phrase that you use, but -- comparator group. 1003 MR. NEILLY: Yes. 1004 MR. THOMPSON: What's in the comparator group, just out of curiosity? 1005 MR. NEILLY: The comparator group is Canadian-based companies with a billion dollars or more of revenue. And that would be in sort of the neighbourhood of 100 to 125 companies. 1006 MR. THOMPSON: Now, the percentages given here, there's certain percentages given for different classes of staff, executives, for example, in a four-year period, the total increase, as I read the document at page 2, is about 15.2 percent, and then Union you say was lower, managers, for a four-year period, 14.4 percent. 1007 MR. NEILLY: Mm-hm. 1008 MR. THOMPSON: You also then quote a five-year period of 14.6 percent for that -- sorry, 18.2 percent for that category, but the numbers appear to me to be running between 3 and 4 percent, perhaps a little under in some cases, on average. 1009 MR. NEILLY: In terms of the gap, in terms of the gap between Union Gas and the marketplace over that period? Or do you mean on an annual -- 1010 MR. THOMPSON: No, no. The comparator group if, over four years, the increases total 14.4 percent, I make that to be, on average, a 3.6 percent per year increase, some idea of range. 1011 MR. NEILLY: Yeah, but it's cumulative so it actually builds, it grows exponentially. So you've got 1.03 times 1.03 times 1.03, so you don't add them together, it actually accumulates, but yeah, order of magnitude, that's correct. 1012 MR. THOMPSON: Okay. And for 2002 to 2003, well, let me just get one more statistic on the record and you can see that in J.34.8, what I was going to put on the record is the CPI percentage change year over year for the 2000 to 2004 time frame. And it's shown in a company response to VECC J.34.8, so maybe we should just take a look at it. 1013 MR. NEILLY: Yes, we've got it. 1014 MR. THOMPSON: Okay. And 2000 over 1999, 2.9 percent; 2001 or 2000, 3.1 percent; 2002 over 2001, 1.9 percent. And then these are forecasted numbers as I understand it, 2 percent for 2003 over 2002, and then 1.8 percent, 2004 over 2003; do those numbers strike you as being in the ballpark? 1015 MR. NEILLY: Oh, yeah. 1016 MR. THOMPSON: Okay. And one other document just to take a peak at is J.3.12. 1017 MR. NEILLY: Yes, we have it. 1018 MR. THOMPSON: And this is showing Union's annual percentage increase in the various categories of employee group, and then at the bottom you'll see the CPI change which is consistent with J.34.8. But just eyeballing those numbers, it looks like Union's salary increases were a little under inflation in 2000, a little under in 2001, and maybe on average about at the rate of inflation in 2002; is that the conclusion you would draw from just eyeballing these numbers? 1019 MR. NEILLY: Yes. 1020 MR. THOMPSON: Okay. And so for 2003 over 2002, is it reasonable to expect that the salaries and wages component of compensation, on average, should be close to the rate of inflation? 1021 MR. NEILLY: No. 1022 MR. THOMPSON: All right. What do you say it should be, about? Three percent? 1023 MR. NEILLY: Well, we're actually looking at three different kinds of data. We're sort of looking at apples and oranges and pears here. Exhibit J.3.12 shows the year-over-year change in end-to-end differences in the average salaries by employee group, so that doesn't compare, sort of, the average of an individual at the beginning of the year with that same individual at the end of the year. It's taking all of the employee group. 1024 So J.3.12 incorporates not only the annual review increases that are giving -- that are given to individuals to keep pace with the market and with their performance, but it also gets washed out by people coming and going, leaving the organization, joining the organization, people getting promotions, et cetera. 1025 And so the annual salary increase budget, which is what we started out with, tends to get diluted by the comings and goings of people through the year, and that's why they are different. And the reason why you don't -- you don't benchmark your review budget to the rate of inflation is because, as an employer, your focus is on the marketplace, not necessarily on inflation. So what you want to do is occupy a certain position in the marketplace in order to attract and retain the kind of talent that you want in the organization. 1026 MR. THOMPSON: Okay, I take -- that's a valid point. 1027 What does your data indicate that the average salary increase budget was for the comparator group 2003 over 2002, expressed in percentage terms? 1028 MR. NEILLY: 3 point -- sorry, for which employee category? 1029 MR. THOMPSON: Do you have a global one? 1030 MR. NEILLY: Well -- 1031 MR. THOMPSON: Give it to me for each of them, then. 1032 MR. NEILLY: Well, for executives, it's 3.3; management, 3.3; and salary, 3.4. 1033 MR. THOMPSON: Okay, that's good enough. 1034 And what does your data currently show the average salary increase budget should be for the comparator group 2004 over 2003? 1035 MR. NEILLY: For the purpose of this analysis that we conducted for them, and that was at a time when we didn't have access to the -- if you recall, it's the end of August when it was available to us, and we didn't have it at that time -- we simply extended those numbers by another year, so we made the same assumptions, 3.3, 3.3, and 3.4, respectively. 1036 MR. THOMPSON: So is this August data that's out there now, or is that August data changed those numbers? 1037 MR. NEILLY: Not significantly. It might be a percentage point or two, but not materially. 1038 MR. THOMPSON: So that's ballpark. 1039 MR. NEILLY: Yeah, ballpark, it's correct, yes. 1040 MR. THOMPSON: Now, what does that cover? Does that just cover wages and salaries, or does that cover wages, salaries, and incentives? 1041 MR. NEILLY: Just salaries. 1042 MR. THOMPSON: Just salaries. Do you have a separate database, then, for incentives? 1043 MR. NEILLY: We do track incentive -- two things. The structure of incentive plans, in other words, the average, for example, bonus opportunity for a certain level of employee, and then the actual pay-out that was made. But there's not really, per se, there's not, if you like, a trend that goes along with that because it depends on how the market performs and how the company performs. 1044 MR. THOMPSON: So when you said it meant salaries, I think you're probably focussing on the benefits, is the other -- benefits is not covered by this 3.3, 3.3, and 3.4? 1045 MR. NEILLY: No, it isn't. Although salaries have an affect on it, there's obviously other things that - actually other members have talked about it - affect it more dramatically. 1046 MR. THOMPSON: Yes. Okay. So I just want to, then, take a Union witness, if I could, to one example here, and again this may not be -- I'm not getting the numbers straight. But if you go back to the exhibits that we were discussing earlier, and in particular, J.17.37, and also then we would need J.1.17. 1047 What I'm trying to develop here is the -- what appears to us to be the salary and wages increase on average per employee or per FTE, 2002 to 2003, because the numbers we get are showing that Union's salaries went up by about 8 percent; in other words, well above these numbers that Towers Perrin have provided. 1048 So let me just take you through this calculation. And I would have had it on a sheet, but I wasn't aware of the fact that salaries and wages was part of this panel, I thought it was the following panel. So I'll just try to do it quickly, gentlemen, if you would bear with me. 1049 You'll see that the 2002 actual -- this is from Exhibit J.17.37. The 2002 actual salary and wages is 143,927,000. Are you with me so far? 1050 MR. NEILLY: Yes. 1051 MR. THOMPSON: Okay. And then on J.1.17, you'll see that actual severances in 2002 were 12,484,000. So we make the salaries and wages, net of severances, to be $131,443,000. Would you take that, subject to check? 1052 MR. NEILLY: Yes. 1053 MR. BODNAR: I have them in front of me here, so just give me one moment. 1054 I understand the math that you're doing. 1055 MR. THOMPSON: Okay. As I said, I appreciate that this is calculating on the fly and it's not easy to do. But would you take, then, subject to check, based on the 2,401 FTEs that appeared in Exhibit J.17.1 - that appeared at line 12 in J.17.37 where you wrote it in, under 2002 - that the average per FTE is $54,745. Again, that's just salaries and wages. Would you take that, subject to check? 1056 MR. BODNAR: I understand what you're saying. 1057 MR. THOMPSON: All right. Then if we move forward to 2003, the salaries and wages is 133,970,000. There are no severances in the 2003 numbers, according to J.1.17. So if we divide that by the total FTEs of 2,265, I get $59,147. Would you take that, subject to check? 1058 MR. BODNAR: Again, I understand the math that you're doing, although I must say that I do have a bit of a concern on -- in two parts. One is there is another panel, the O&M panel, that understands the FTE estimates that were made much better than I do and, similarly, can answer to the detail to the numbers behind the numbers here. But, again, I understand the mathematics that you are doing. 1059 MR. THOMPSON: Fine. And we can do the math on the employee numbers that you've given us, but I take -- my calculations indicate that on an FTE basis, the 2003 increase over the 2002 is about 8 percent, which just doesn't seem to reconcile with the Towers Perrin comparator group data; and it appears that Union was jacking up the numbers in 2003 to have a better jumping-off point for 2004. Could you comment on that, please. 1060 MR. BODNAR: Well, I would disagree with that. I don't think we are in the business of jacking up numbers. But I would like to say as well that part of the reason that we fall into, perhaps, a debate - and again the other panel is better equipped to discuss this - is in a difficulty one has with estimating on the basis of the FTE numbers, while granted it is an estimate, there's a difference in mix that we're dealing with in all likelihood, and there's a difference in the type of rolls as well as things like progression and so on that might take place. But having said that, I really would suggest the O&M panel is likely better to answer that question than I am in terms of reconciling the answers. 1061 MR. THOMPSON: Well, then, they know what our concerns are and I imagine they will address it when they get here to try and delude them. Let's turn to the other topics -- 1062 MR. PENNY: Respond to them, Mr. Chair. Respond to them. 1063 MR. THOMPSON: I'd like to turn to the topics that are addressed in this testimony D.1, tab 9, and there are really three of them. The benefits excluding pension and post-retirement benefits, then pensions, then post-retirement benefits, and again, just to get the numbers straight, could you turn up an exhibit that's been discussed earlier today, Exhibit J.26.56. 1064 MR. BODNAR: Yes, we have it. 1065 MR. THOMPSON: Okay. And do I understand correctly that the subject matter of the evidence, D.1, tab 9 and D.1, tab 9 updated that appears under the heading "Benefits," which excludes pension and post-retirement benefits would be all items on this exhibit except lines 9 and 10? 1066 MR. BODNAR: What was that other reference that you made, J.9 -- sorry? 1067 MR. THOMPSON: This is just the prefiled evidence, D.1, tab 9, the white sheets and the blue sheets. 1068 My understanding is that what's described under the term benefits in this prefiled testimony is everything, other than lines 9 and 10, what's described under the topic post-retirement benefits is everything that's at line 9, and what's described under pension is everything at line 10. 1069 MR. BODNAR: Yes, I understand. 1070 MR. THOMPSON: Is that right? 1071 MR. BODNAR: We do segregate in the prefiled evidence sections that deal with benefits, post-retirement benefits and pension, so if you're asking -- and it's similarly segregated in Exhibit J.26.56 in terms of the line items. 1072 MR. THOMPSON: All right. I think we're on the same page, all right. Well, let's just deal firstly then with something that describes benefits which excludes pension and post-retirement benefits. And these items, I believe, would be lines 1 to 13, excluding lines 9 and 10, on Exhibit J.26.56. And you've described them to Mr. Warren and others earlier today, but are they, in large measure, the medical, dental, drugs, life insurance, disability-type of benefits that all employees have? 1073 MR. BODNAR: Yes, that's correct. 1074 MR. THOMPSON: And am I correct that these benefits are not funded? They're not supported by any accumulation that the company is setting aside? 1075 MR. WITTS: That's right. There are no funds set aside in advance. In fact, most of these benefits are provided through an independent insurance company. Some of the benefits will be insured, others are just provided on an administrative-services-only basis. 1076 MR. THOMPSON: And we can see how these numbers have been progressing over the years from this Exhibit J.26.56. But what this exhibit doesn't show is the extent to which -- the number of people that Union has declined, and so if these numbers were expressed again on a FTE basis or employee basis, they might present a somewhat different picture in terms of percentage change; is that fair? 1077 MR. BODNAR: Yes, that's correct. 1078 MR. THOMPSON: All right. And can you just help me with line 8, savings share plan, that's one that appears to have grown considerably since the 2000 actuals to the blue-page update. What is that benefit? 1079 MR. BODNAR: Oh, yes, okay. Because of the redesign in the plan, we've included within the flex plan an option to use flex credits for purposes of employee savings plan or otherwise use it for benefits, so it's a matter of the mix. I should say that our flexible benefits plan provides certain credits to employees for which they essentially purchase benefits within the organization. And as a part of that, there's an employee savings plan match that goes with the plan. 1080 There is an opportunity for employees to use that match to purchase benefits rather than to purchase shares within the savings plan so it's a question of predicting what that mix will be. 1081 MR. THOMPSON: Well, you've kind of lost me a bit but try and give me an example. Was there a savings share plan, a stand-alone benefit of some sort available to employees? 1082 MR. BODNAR: Yes. 1083 MR. THOMPSON: And is that that they can invest in shares in something? 1084 MR. BODNAR: Yes. There's an employee savings plan for which an employee can, depending on their length of service within the organization, where they can provide a contribution into the plan, and it's now limited to a 5 percent contribution, to which the company may match up to 100 percent. And again, it's dependent on the years of service that they may have with the company. 1085 There are a number of options that the employee now has within the plan to invest within the plan. They can take those this shares of Duke exchangeable shares or other investment vehicles that are available within the plan, and it's a form of long-term savings within the plan. 1086 MR. THOMPSON: So I'm an employee of Union and I have a benefit, if I put a dollar in the savings account -- is it, if I put a dollar in, you put a dollar in, is that what it is? 1087 MR. BODNAR: That's correct. 1088 MR. THOMPSON: But do I have to buy Duke exchangeables or can I put it there in my GIC, if I want? 1089 MR. BODNAR: You have several options, one of the options is Duke exchangeable shares, but it could be an interest-bearing account, it could be other investment vehicles. 1090 MR. THOMPSON: Now, why that is that grown substantially when employees have been going in the other direction? 1091 MR. BODNAR: As one of the changes, as I mentioned, within our flexible benefits plan, we introduced a flexible benefits plan that allows the purchase of or the use of these credits for purchasing either benefits, or indeed, to continue within a savings plan. One of the changes within our plans had a contribution allowed up to 10 percent with a match of 33 percent essentially within the plan to one that was reduced to 5 percent but up to a one-to-one match for longer service employees and something lower than that for shorter term employees. 1092 So this, in part, is an estimate of if everybody participated within the plan, in the share plan, the cost that would be associated with it. 1093 MR. THOMPSON: So this is blue-page update assumes about 100 percent participation; is that what you're saying? 1094 MR. BODNAR: And you will notice that there was a drop in the blue-page amendment from the original estimate to 5.8 on the flex benefits account. 1095 MR. THOMPSON: Yeah, it was originally 4.8 and then it jumped to 6.2 in the update. 2004 -- 1096 MR. BODNAR: Yes, okay. 1097 MR. THOMPSON: So that's quite a substantial swing in dollars there. 1098 MR. BODNAR: There is an increase there, but the flex benefit account dropped from 7 million to 5.8 which was attributable to some component of that. 1099 MR. THOMPSON: So you are envisaging it as a shift of dollars. 1100 MR. BODNAR: That's right. It's the best estimate that we can make as to where employees may be using that credit in terms of their contribution. 1101 MR. THOMPSON: And the flex benefit, am I right, it's something like if I only want coverage for 80 percent or 75 percent or 50 percent of my dental, I get a certain premium. It's lower than some other amount and so that would be a "saving" which I could shift into the savings plan. Is that the, sort of, idea? 1102 MR. BODNAR: That's part of it. It also allows people to choose certain coverages and coordinate them with, for example, their spouses, and it allows them to make choices within the plan that more appropriately fit their needs. 1103 MR. THOMPSON: Now, do the employees pay anything for benefits? Well, I guess they do if they elect under the flex -- 1104 MR. BODNAR: Yes, indeed. If they elect under the flex, obviously, there's the credit there associated. That's theirs to use. If they select higher levels of benefits, they make a direct contribution to that. And, in fact, part of the savings to the company in terms of managing the costs is if they decollect, in other words, they prefer to be covered under their spouse's plan for whatever reason and choose not to be a part of the plan, frankly, they don't get 100 cents to the dollar in terms of the cost of the plan versus the credits that they receive. They get a lesser amount back. 1105 MR. THOMPSON: But does every employee have the option of 100 percent coverage from Union Gas, or is there some required contribution from the employees? 1106 MR. BODNAR: I'm not sure that there is such a thing, when one deals with a flexible benefit plan, to provide 100 percent coverage. Because there is a basket of choices that they can make, depending upon what they choose, they may make a significant contribution to the plan; or, indeed, if they select a very small level of benefits coverage, they, in fact, would receive a credit back. 1107 MR. THOMPSON: I guess what I'm really driving at, and maybe Mr. Witts can help me with this, is this a gold-plated plan or is it run of the mill or somewhere in between? And I'm talking about benefits, excluding pension and post-retirement benefits. 1108 MR. WITTS: It's a good plan. Is it a Cadillac, gold-plated plan? No, by no means. In fact, the plan, as it will be applied in 2004, is a redesigned plan that introduces some cost-sharing elements, a greater level of cost-sharing with employees, and it was benchmarked in the median of the Union Gas's comparator group of companies. 1109 MR. THOMPSON: Okay. Quickly, then, to post-retirement benefits, and then I'll come back to pensions. 1110 Post-retirement benefits, as I understand them, are the medical, the health, the insurance, that kind of thing, that continues for retirees until a certain point in time; is that right? 1111 MR. BODNAR: Yes, that's correct. 1112 MR. THOMPSON: And how long are they eligible, to what age? 1113 MR. BODNAR: Within certain limits, they are eligible for their remaining lifetime, but there are caps associated with the coverages. 1114 MR. THOMPSON: So they get lifetime coverage for life insurance, for example? 1115 MR. BODNAR: They would have lifetime coverage for life insurance, but it reduces to a pretty small level. 1116 MR. THOMPSON: Okay. So the policy amount goes down. Because the premiums for life insurance after 65 become a bit of a choker. I can tell you because I'm closing in on it. 1117 MR. BODNAR: That is true, and that is one of our concerns. Of course, as I say, it is for that reason that the life insurance component actually reduces to quite a small number. I think it's $10,000. 1118 MR. THOMPSON: It will just pay for the party, the wake. 1119 MR. SOMMERVILLE: Mr. Thompson, we're getting at -- are you close to completing? 1120 MR. THOMPSON: Probably 15 minutes, sir. 1121 MR. SOMMERVILLE: We'll carry on. 1122 MR. THOMPSON: All right. Now, these post-retirement benefits, they are unfunded as well; am I correct? 1123 MR. WITTS: That's correct. 1124 MR. BROEDERS: That's correct. 1125 MR. THOMPSON: And the drivers -- but they have to be accounted for, if I understand your evidence, they were accounted for on a pay-as-you-go basis until recently; and then the CICA guidelines call for them to be accounted for on an accrual basis, and that has caused an increase in the amount that needs to be expensed? 1126 MR. WITTS: Yes. March 2000, they were accounted for on a pay-as-you-go basis. Beginning in 2000, when the new accounting standard we talked -- that was discussed relative to pensions, that included provisions to account for these other post-retirement benefits in pretty much the same way as we account for pensions. 1127 MR. THOMPSON: All right. 1128 MR. PENNY: This was an issue, Mr. Chairman, that was actively litigated in the RP-1999-0017 case, and the Board approved that change, as it did for all other Ontario utilities. 1129 MR. THOMPSON: Well, just before I leave that item, then, if we go to appendix A, to Exhibit D.1, tab 9. 1130 MR. BODNAR: We have it. 1131 MR. THOMPSON: We see at the bottom of page 4 a summary here of the expense for post-retirement benefits, and the letter says: 1132 "In summary, the expense for post-retirement benefits is expected to increase by approximately 1.5 million from 2002 to 2003, comprised of 0.5 million due to the reduction in the discount rate and 1 million due to the change in the expected future rate of increase in the cost of medical services." 1133 The discount rate will impact the calculation of the accrual amount; is that right? 1134 MR. WITTS: It impacts the calculation of the liability and therefore the allocation of -- that portion of that liability to the current year's expense. 1135 MR. THOMPSON: That's an unfunded liability, we're talking about. 1136 MR. WITTS: That's right. So there's no expected return on assets because there are none. 1137 MR. THOMPSON: So this wasn't necessarily referring to the expense line, it was referring to the liabilities. 1138 MR. WITTS: To both. 1139 MR. THOMPSON: That's where I was confused. Thanks. 1140 Now, the last topic I want to discuss with you is the pension cost issue, and you've been having discussions with others about that. 1141 The first question that I want to get in the record is this: If we go to Exhibit D.1, tab 9, page 5 of 7. 1142 MR. PENNY: Is that a white page? 1143 MR. THOMPSON: White pages. You talk there about the increase in expense. This is pension expense, and this is comparing 2004 to 2002; do you see that? 1144 MR. BODNAR: Yes, we have it. 1145 MR. THOMPSON: And there's a figure there at the bottom of the page, "Adverse Changes in Economic Conditions," and the number given is 13.7 million. Then we go over and it talks about the change in discount rate, the change in the expected rate of return, and those changes have a dollar impact. And then "Experienced Losses on Pension Fund Assets," 11 million. Then there's a credit for the corridor. If we total all that up, it comes to a number that's -- it's a little bit shy, I think, of $30 million. 1146 Is that the change from 2002 to 2004, the sum of all those numbers? 1147 MR. BROEDERS: Are you including the 13.7 from page 5 in your total, along with the numbers on page 6? 1148 MR. THOMPSON: Yeah, I was and then maybe the subbullet points add up to 13.7. 1149 MR. PENNY: I think that's right. 1150 MR. BROEDERS: Yes. 1151 MR. THOMPSON: All right. Well then, let's come forward then to the blue sheets, then, where you tell us at page 2 that Union's pension costs have increased to 21.4 million from the 19.0 million previously estimated. Do you see that? That's at lines 14 and 15. 1152 And if you go to Exhibit J.26.56, this is this break-up, you'll see that the 2004 budget for pension was 19 million and now it's gone up to 21.350 million and that is what is described, I believe, in Exhibit D.1, tab 9, page 2 at lines 14 and 15. Have I got that straight? 1153 MR. WITTS: Could you repeat the last sentence? 1154 MR. THOMPSON: Have I got it straight that the two numbers that are being referred to on D.1, tab 9, page 2, line 14 of 21.4 million and 19 million are the same 21.350 and 19 million shown on J.26.56, columns E and F, line 10? 1155 MR. BROEDERS: That is correct. 1156 MR. THOMPSON: And the change from 19 million to 21.4 million, approximately, are stated to have been due to revised assumptions from Towers Perrin. Now, could you just tell me what the assumptions are originally and what they have been changed to? 1157 MR. WITTS: The original assumption with respect to the discount rate was 6.5 percent, which was then revised down to 6 percent. And the expected return on assets was originally 7.75 percent and that was revised down to 7 percent. 1158 MR. THOMPSON: Okay. And those original numbers are referred to in the letter appendix A, am I correct, to this prefiled evidence? We find the description of the discount rate at page 2 and then the expected rate of return at page 2 as well. 1159 MR. WITTS: That's correct. 1160 MR. THOMPSON: All right. I'll come back to those in just two seconds. 1161 But the question I'd like to get an answer to on the record is this: If the components of the increase in pension expense that are attributable to the experienced losses on pension fund assets is excluded from the revenue deficiency, what is that number? Is it the 11 million shown on Exhibit D.1, tab 9, page 6, plus another 2. -- well, what is the number? Can anybody help me with that? 1162 MR. PENNY: Can you just restate what it is that you wanted to exclude so we have it clearly? 1163 MR. THOMPSON: The experienced losses on pension fund assets. And maybe this document will help us, that's Exhibit J.17.35. 1164 MR. BROEDERS: We believe it's 11.8 million. 1165 MR. THOMPSON: You believe the number is 11.8 million? 1166 MR. BROEDERS: That's correct. 1167 MR. THOMPSON: And how did you get that number? 1168 MR. BROEDERS: I'm going to have to pass you to Ashley for that. 1169 MR. WITTS: In responding to some of the interrogatories, we did a little bit of background analysis to actually determine how the asset-related losses would flow through into expense and have developed a table which shows the application of the accounting rules to the recognition of those asset losses and it provides a fuller explanation of the deferral process in accordance with the accounting standard. 1170 MR. THOMPSON: Mr. Chairman, I haven't seen that document but -- 1171 MR. SOMMERVILLE: I think it's being offered to you. 1172 MR. PENNY: I haven't either. 1173 MR. THOMPSON: What I was going to suggest if we could perhaps take our break now and then I could take a look at it and I could hopefully expedite this and be finished in 10 minutes or so. 1174 MR. SOMMERVILLE: We'll break until quarter to 4:00. 1175 --- Recess taken at 3:30 p.m. 1176 --- On resuming at 3:54 p.m. 1177 MR. SOMMERVILLE: Thank you, please be seated. 1178 MR. PENNY: So Mr. Chairman, over the break, I had the opportunity to look at the document that Mr. Witts was referring to and we have copied it and I made a copy available to Mr. Thompson right away. 1179 MR. SOMMERVILLE: It's the "Effect of Asset-Related Experience Gains (Losses) on Pension Expense." 1180 MR. PENNY: That's correct. I think it would be appropriate to give that an exhibit number. 1181 MR. MORAN: Mr. Chair, this would become Exhibit M.6.1. A table entitled "Effect of Asset-Related Experience Gains (Losses) on Pension Expense." 1182 EXHIBIT NO. M.6.1: TABLE ENTITLED "EFFECT OF ASSET-RELATED EXPERIENCE GAINS (LOSSES) ON PENSION EXPENSE" 1183 MR. THOMPSON: Mr. Witts, just before you take us through this document, could I just ask you to turn up, or have the company turn up Exhibit J.17.35. 1184 MR. WITTS: Yes, we have it. 1185 MR. THOMPSON: And the thrust of this question is to ascertain what the decreased O&M would be if the accounting changes triggered by the experienced losses were disallowed from recovery from ratepayers. It's not to suggest that it wouldn't be expensed in accordance with CICA, but it would not be recoverable in rates. And this question was based on the expenses for 2004 then being $19.0 million, do you see that in line 2, column G? 1186 MR. WITTS: Yes. 1187 MR. THOMPSON: And the answer there, as I understood it, was under that scenario, the O&M would decrease by $11.3 million and my question is: Is the exhibit that you're going to take us through, Exhibit M.6.1, going to show us how that number changes under the assumption that the -- well, under the budget of now $21.4 million? 1188 MR. WITTS: The response to J.17.35 takes the total expense and breaks it down into effectively two components: The current service cost and all other elements. The other elements comprise interest on the expected rate of return on the assets less the interest rate on the obligation, plus amortization of all prior experience. So it includes not just asset-related experience but also experience related to the obligation, fine amendments that may have occurred in the past. 1189 The table which we distributed at the break looks only at the impact on expense associated with changes in the market value, the fair market value of assets. 1190 MR. THOMPSON: Okay. So that if -- but M.6.1 is based on the $21.4 million of pension expense, not the 19 million; have I got that straight? 1191 MR. WITTS: The M.6.1 actually goes further and is our latest update based on the September 30th measurement date. So there are, in fact, changes in the assumptions under that -- under M.6.1. 1192 MR. THOMPSON: So is the 21.4 million now a different number, based on current circumstances? 1193 MR. BROEDERS: With the new figure, it's expected to be 19.7. 1194 MR. THOMPSON: Well, we're headed in the right direction. Okay, thanks. 1195 Just before you started into M.6.1, what I took your answer to be, Mr. Witts, with respect to J.17.35 was this: That had you responded to that question in the same manner that you responded to M -- well, in the same manner you prepared M.6.1, the number wouldn't have been 11.3, it would have been something somewhat lower. 1196 MR. WITTS: That's correct. 1197 MR. THOMPSON: Okay. With that, could you just take us through M.6.1? 1198 MR. WITTS: What the table in M.6.1 does is to summarize the actual asset-related experience compared with what was expected. So, for example, the first line under A shows the actual rate of return on assets achieved in each year and compares that to the expected return in that year. 1199 We then show the asset-related experience, whether that be a gain or a loss. As you can see, there were big losses in 2001 and 2002, and for the year just finished, we actually recorded a gain, which is a pleasant turnaround. 1200 The last line under the section A shows the cumulative asset-related experience. Under B, we show the impact on the calculation of expense, and there are two aspects to the impact of the change in the asset value. First, if the assets are less, then the expected return on those assets will be less; and then secondly, the decline in the assets is amortized into future years' expense over the expected average remaining service life of the employee group. 1201 What we've done is to apply the section 3461 rules, and effectively what this shows is that, although there was poor asset experience in 2001, it wasn't sufficiently poor that it exceeded the corridor. So in the early -- in 2001 and 2002, we were only recognizing a very small portion of the asset-related loss. 1202 Later in 2002, I think most commentators will agree that the market bottomed in October of 2002, we had, by that point, exceeded the 10 percent corridor and therefore we were recognizing more of the losses beginning in 2003 and again in 2004. 1203 This is simply the application of the methodology that is prescribed under section 3461 of the handbook, which prescribes the timing and method of recognition of these losses. 1204 MR. THOMPSON: Okay. I think I follow that, and this is a very helpful document. But the bottom line is, based on the calculations that you now have done, the pension expense for 2004 has declined, or the estimated pension expense has declined from 20.4 million to 19.7 million; and of that, 11.8 million is related to experienced losses. 1205 MR. WITTS: That's correct. 1206 MR. THOMPSON: Okay. Now, suppose the gain -- now, you said the gain in 2003, which isn't over yet, is -- I think you're showing here is $10 million. What happens -- now, is that an estimated gain or has that got some factual aspects to it? 1207 MR. WITTS: Well, for our purposes, 2003 is over, because we used an early measurement date of September 30th; therefore, that gain is now locked in and will be captured in future years' expense. 1208 MR. THOMPSON: Okay. So -- okay. Well, let me just ask this: In the financial statement -- you don't need to turn these up, but they are all captured in J.17.6. These are the financials of Union, 1999 through to 2002 inclusive, and they're showing fair value of pension plan assets and liabilities at year end, as I understand them, in each of those years. Perhaps you could take, subject to check, that the plan value in '99 was 375 million, the liabilities were 313, producing a surplus of about 62; in 2000, the plan value was 389 million, liabilities, 354, producing a surplus of 35; and then the situation turned south in 2001 and 2002, where the deficit for the period ending December 31, 2002 is shown in the financials at $94 million. 1209 Did those numbers reconcile with the numbers that we have in M.6.1, or are we working off the September 30th date here compared to a December 31 date? 1210 MR. WITTS: Subject to check, we can certainly provide the reconciliation between the two, and, in fact, they should be the same. 1211 MR. THOMPSON: All right. Well, if you wouldn't mind providing that reconciliation, that would help me and my client understand this. 1212 MR. PENNY: So that would be a reconciliation of M.6.1 to the 2000 -- what was it, 2001 and 2002 financial statements? 1213 MR. THOMPSON: Yes. I actually said 1999 to 2002 inclusive, but reconcile them with the historic financial statements, I guess is the way I would put it. 1214 MR. MORAN: Undertaking N.6.12, an undertaking to reconcile M.6.1 with actual financials 1999 to 2002. 1215 UNDERTAKING NO. N.6.12: TO RECONCILE M.6.1 WITH ACTUAL FINANCIALS, 1999 TO 2002 1216 MR. THOMPSON: Thank you very much. 1217 Perhaps you could help me with this, Mr. Witts: If the gain, the experienced gain in 2003 is $100 million - pie in the sky, but who knows, Nortel may come back - would that, in effect, wipe out the pension expense claim increase? 1218 MR. WITTS: Certainly a favorable investment experience that produces asset-related gains will get reflected in pension expense, but again, because of the deferral mechanisms, it wouldn't be an immediate recognition. It would work its way into 2004 expense and then in greater magnitude in 2005. 1219 MR. THOMPSON: All right. Now, what do unregulated industries do when they're faced with -- I assume they follow the same accounting techniques, but their obligation is to record these expenses in your financials, is it, at year-end? 1220 MR. WITTS: Yes. 1221 MR. THOMPSON: Or do you have it do it quarterly as well? 1222 MR. WITTS: Currently the only requirement is to report annually, but there are new disclosure requirements out there that likely will mean that we will move to quarterly reporting, perhaps as early as 2004. 1223 MR. THOMPSON: Are these the requirements that were publicized last week? I saw something in The Globe and Mail about some new accounting requirements for pensions; is this what you are referring to? 1224 MR. WITTS: Yes, the Accounting Standards Board of the Canadian Institute of Chartered Accountants. 1225 MR. THOMPSON: All right. So if we got to the end of 2003, Union's fiscal 2003, and this Board has not rendered a decision in Union's -- well, whatever the situation is for 2003 will need to be reported in Union's financials at the end of 2003, regardless of what this Board does with respect to rate-making; is that right? 1226 MR. WITTS: If Union is going to continue as it has in adhering to generally-accepted accounting in Canada? 1227 MR. THOMPSON: Thanks. Now, the last area I wanted to touch on was your letter which was appendix A to your evidence and it's with respect to both the discount rate and the expected return on assets that we mentioned, we were discussing a little bit earlier, and this is found on page 2 of your letter. Starting first with the discount rate you say in the middle paragraph: 1228 "The discount rate is used to determine the present value of expected future benefit payments. Accounting standards require that the discount rate be based on long-term Canadian AA corporate bond yields which continually change in line with the market interest rates. 1229 Then you tell us, "In determining the rate to be used, Union Gas relies upon bond-yield data provided by Towers Perrin." And in turn, you rely on an external independent investment manager to assist with developing a yield curve applicable to Canadian AA corporate bonds. 1230 Who is that manager? 1231 MR. WITTS: Yield Management Group. 1232 MR. THOMPSON: And in 25 words or less, can you tell us who they are and what their expertise is? 1233 MR. WITTS: They are a specialist fixed income investment manager. I believe that they're expertise is in matching portfolios of bonds to liabilities. 1234 MR. THOMPSON: Okay. And does this mean you give Union a discount rate and they either accept it or take that into account in developing one of their own or do they follow your rate? 1235 MR. WITTS: We develop the yield curve. I communicate that yield curve to the company. I then also provide them with information on the maturity of the pension plans because the maturity changes over time, which indicates approximately where on the yield curve Union Gas should be. And yes -- I then make a recommendation and really, there is no leeway for the company to do anything because the section 3461 is so prescriptive in this regard. 1236 MR. THOMPSON: All right. So your recommendation was 7.25 percent for 2002, according to this letter, and reduced to 6.5 percent for 2003; is that right? 1237 MR. WITTS: We adopted 6.5 in 2003, yes. 1238 MR. THOMPSON: And you're now down to 6? 1239 MR. WITTS: Yes. 1240 MR. THOMPSON: For 2004. 1241 MR. WITTS: Yes. The interest rates have declined generally, but also we have seen the gap between corporate bonds and Canadian government bonds narrow so that, in fact, the yield on corporate bonds has come down more dramatically than perhaps the yield on Government of Canada bonds. 1242 MR. THOMPSON: So that 6 percent for 2004 is representative in your view of Canadian AA corporate bonds. 1243 MR. WITTS: With a duration that matches the expected timing and cash flows for pension plans. 1244 MR. THOMPSON: What duration is that, approximately? 1245 MR. WITTS: Approximately, a discounted duration would be 8. 1246 MR. THOMPSON: Eight what? 1247 MR. WITTS: Years, sorry. 1248 MR. THOMPSON: Thank you. 1249 Then we go on to the expected rate of return on assets you say is used to determine the expected investment income and that was, I think you told me, 7.75 percent in 2003, it was down from 8.5 percent in 2002; is that right? 1250 MR. WITTS: That's correct. 1251 MR. THOMPSON: And for 2004, you're down to 7.5 percent. 1252 MR. WITTS: That's correct. 1253 MR. THOMPSON: And once again, do you use external independent advisors to develop that rate? 1254 MR. WITTS: No -- yes and no. Towers Perrin has a capital markets economic model that was developed in conjunction with external academics, most notably from Princeton University, and what that model does is to provide us estimates of expected real yields on different asset classes which, as I mentioned earlier, when we added to our outlook for price inflation gives us a range for the nominal yields that we might expect for a portfolio of pension fund investments. 1255 MR. THOMPSON: Are the asset classes equities, bonds? What are the asset classes? 1256 MR. WITTS: The asset classes are primarily are cash, government bonds, Canadian equities, U.S. equities and foreign equities which would include basically EAFE, Europe Australia and Far East. 1257 MR. THOMPSON: And do you have available the data, the yields for each of those that produce your 7.5 percent recommendation for 2004, and if not, could you get them for us by way of undertaking? 1258 MR. WITTS: Yes, we can undertake to provide that information. 1259 MR. THOMPSON: Thank you very much. 1260 MR. PENNY: Let's get the number for that first. 1261 MR. THOMPSON: I'm sorry, get a number. 1262 MR. MORAN: Undertaking N.6.13. I wonder if Mr. Thompson might state the specific undertaking. 1263 MR. THOMPSON: Yes. Towers Perrin has undertaken to provide the expected returns from the various classes of assets that their model recognizes, which I understand, are Canadian equities, U.S. equities, cash. There was one other -- 1264 MR. PENNY: Government bonds. 1265 MR. THOMPSON: Government bonds. 1266 MR. PENNY: Foreign equities. 1267 MR. MORAN: Giving rise to the 7.5 forecasted rate of return. 1268 UNDERTAKING NO. N.6.13: TO PROVIDE THE EXPECTED RETURNS FROM THE VARIOUS CLASSES OF ASSETS THAT THEIR MODEL RECOGNIZES - CANADIAN EQUITIES, U.S. EQUITIES, CASH, GOVERNMENT BONDS, FOREIGN EQUITIES - GIVING RISE TO THE 7.5 FORECASTED RATE OF RETURN 1269 MR. THOMPSON: And does Union give you any input on this calculation? 1270 MR. WITTS: Yes. I provide them with a range of what would be regarded as reasonable assumptions. I make a recommendation. But in the ultimate -- in the end, they are management's best estimate assumptions and therefore management selects the assumption to use. I'm glad to say, however, that Union accepts -- has accepted my recommendations. 1271 MR. THOMPSON: All right. Thank you very much. Those are my questions. 1272 Thank you, Mr. Chairman. 1273 MR. SOMMERVILLE: Mr. Thompson. 1274 Mr. Shepherd, Ms. Singh, and Mr. Aiken are the remaining intervenors. I think that's -- Mr. Scully, will you have questions? 1275 MR. SCULLY: No. 1276 MR. SOMMERVILLE: Mr. Rowe. 1277 MR. ROWE: No, thank you. 1278 MR. SOMMERVILLE: Do we have anybody who's particularly short for the rest of today? 1279 MR. PENNY: I think there's two -- two were down as being about 15 minutes each, Mr. Chairman. I think that's CME and LPMA? 1280 MR. AIKEN: I can advise the Board that all of my questions have been answered and so my 15 minutes will be carried forward to another panel. 1281 MR. PENNY: Not permitted. 1282 MR. SOMMERVILLE: We don't permit the seeding of time to others, Mr. Aiken, but thanks for the thought. 1283 Ms. Singh, would you like to proceed? 1284 MS. SINGH: Yes, Mr. Chairman. 1285 CROSS-EXAMINATION BY MS. SINGH: 1286 MS. SINGH: Good afternoon, panel. I'm here representing the Canadian Manufacturers & Exporters. I just have a brief number of questions, given that my colleagues have preempted me in many of them, thankfully. 1287 First of all, with respect to the pension plans, I was wondering, just going back, if you could advise, how many pension plans does Union Gas have? I believe I heard six. 1288 MR. BROEDERS: That's correct. 1289 MS. SINGH: And how many of these would be defined benefit plans and how many would be defined contribution plans? 1290 MR. BROEDERS: The six figures all define benefit plans. Within one of those is a defined contribution plan. 1291 MS. SINGH: Thank you. In terms of pension regulation, I was wondering if you could advise whether any of Union's pension plans are presently not in compliance with the funding requirements of the Financial Services Commission of Ontario? 1292 MR. BROEDERS: I lost track of the question. Are we in compliance with all potential legislation as far as funding requirements? 1293 MS. SINGH: That's right. 1294 MR. BROEDERS: Yes, we are. 1295 MS. SINGH: Thank you. 1296 Now, with respect to the valuation reports, I have a couple of questions here. I was wondering if we could go back to the smoothing methodology. We heard some evidence this morning about that smoothing methodology. I was wondering if you could advise, when you were estimating the pension accounting expense for 2004, what period would constitute the three-year experience for purposes of smoothing; do we start in 2000 or in 2001? 1297 MR. BROEDERS: It would be 2001, 2002, 2003. 1298 MS. SINGH: And going back to Exhibit J.3.12, which was an interrogatory by CME. 1299 MR. BODNAR: I believe we have that. 1300 MS. SINGH: I'm wondering if you could explain, when you were calculating the required pension expenses for each year since 1999, including 2004, what the average salary growth rate you relied upon would have been. 1301 MR. BROEDERS: The percentage in our assumptions is three and a quarter. 1302 MS. SINGH: And was there anything that changed that that accounts for the change to 4 percent for 2004? 1303 MR. BODNAR: I think what we're seeing is the assumption that we're using for purposes of calculating the salaries or, I think, for purposes of calculating the pension, that is, we take the basic wage changes that we're expecting in the long-term, on average. 1304 Now the 4 percent adjustment includes both the general wage adjustments, but also takes into account other compensation, such as progression within a range as an example, promotions, and that sort of thing. So that assumption is not something we, in turn, use in our pension calculations. We look at a long-term adjustment into -- in the salaries. 1305 MS. SINGH: Okay. And may I direct you now to Exhibit D.1, tab 9, page 2, at line 19. And also, if you want to turn up Exhibit J.3.17, again an interrogatory of CME's. 1306 MR. BODNAR: Just to be clear, that's Exhibit D.1, tab 9, page 2 of 7? 1307 MS. SINGH: That's correct, line 19, and then again, Exhibit J.3.17, where you state that: 1308 "Union adopted the uninsured pensioner 1994, commencing in the year 2000." 1309 I was wondering if you could please explain why, if Union changed its assumption with respect to life expectancies in 2000, why this would have an effect on the liability calculation for 2004. 1310 MR. WITTS: The response to the interrogatory was comparing the level of expense relative to 1999, and the table was changed in 2000. Therefore, one of the reasons that expense increased was because of the change in mortality. But it impacts expense on a go-forward basis as well and therefore also impacts the 2004 expense. 1311 MS. SINGH: If you could just look at the bottom of the page, page 2 of Exhibit D.1, tab 9, where you say that: 1312 "The liabilities have also increased due to increased life expectancies of retirees. These changes combined have resulted in Union's pension expense increasing from the 499 Board-approved level of 5.1 million in 1999 to an estimated expense of 19 million in 2004." 1313 And I was just wondering if you could explain that, given what -- 1314 MR. BODNAR: I think in part, the explanation is, if you will, the entire paragraph that deals with long-term bond yields declining over the period discount rate -- calculating present value, et cetera, as well as the increased life expectancy for retirees which has changed. Although the change was made in 2000, it has no impact for '01, '02, '03 and '04, and as well there are those other factors that in total have made that. 1315 MS. SINGH: Okay. Fair enough. Now a couple of questions with respect to the discount rates, and I think Mr. Thompson did cover this very well. 1316 First of all, could you please describe the factors that Towers Perrin considers before you recommend a change to discount rates; what would be those factors? 1317 MR. WITTS: The factors that really come into that determination are very much market-based. Our measurement date is September 30th, so we develop a yield curve based on the market yields on bonds as of that date, and then based on that information, we come forth with the recommendation. 1318 But given, as I mentioned earlier, the very prescriptive nature of the CICA Handbook in this regard, there's very little room for disagreement with respect to what the discount rate should be. 1319 MS. SINGH: Okay, and we'll see that, I suppose, in the undertaking that you just gave to Mr. Thompson in terms of the breakout in terms of the 7 percent. 1320 MR. WITTS: Well, the discount rate is determined separately from the return on assets. 1321 MS. SINGH: Sorry, the 6 percent, right, right. 1322 And will we see -- or perhaps you can explain what caused the change to 6 percent and 7 percent in your updated evidence from your original? 1323 MR. WITTS: Those original estimates were prepared in June, and at that point in time, the bond market was suggesting that 6 percent would be the discount rate and has proved to be correct. The expected return on assets was an initial expectation based on a first look at our capital markets model, which was then subsequently refined, and also taking into account the results of some preliminary benchmarking results, we did further work on that during the summer, and on that basis, in conjunction with our updated capital markets model, we believe or I recommended that 7.5 was now more appropriate than the 7. 1324 MS. SINGH: Okay. What influence then would expected high or immediate future interest rates and/or equity prices have on Union's forecast of pension accounting expense? So for example, I understand that in the past 52 weeks, the Dow Jones Industrial Average has increased by over 34 percent and the expectation is for higher equity prices. 1325 MR. WITTS: As I mentioned earlier, Union adopts an early measurement date of September 30th and the pension fund investments have done relatively well in the year ended to September 30th. And in Exhibit M.6.1 we show that the actual return on the fund was approximately 11 percent compared with an expectation of 7.75. So that has had a favorable impact or will have a favorable impact on 2004 and subsequent years' expense. 1326 If we continue to see equity markets deliver these kinds of returns, then it will have an impact on Union's expense going forward, a favorable impact that would decrease it. By the same token, if we move into an environment where we see increases in long-term bond yields, that will have an impact on the discount rate, and just as with a bond if the discount rate increases, the price or the value decreases, and therefore, that would also have a favorable impact on Union's expense going forward. 1327 MS. SINGH: Okay. Now, I'm wondering if we can refer to D.1, tab 9, page 3 of 3 in the blue-book update. And I'm wondering if you could, please, explain why the defined benefit pension plan costs have increased between the original filing and the blue-page update, while the defined contribution pension costs have decreased? 1328 MR. BROEDERS: The defined benefit plan has increased due to the change in assumptions; because the assumptions have decreased, the expense is going to increase. The change in the DC pension plan was more of a change in the tracking of our DC-related expense. We found that we have overstated that number, it's a classification problem between our flex benefits and our DC expense program -- our DC defined contribution program. This is just an update for the 2004 expectation so it has nothing to do with assumptions, it's a correction that we've made. 1329 MS. SINGH: Okay. Thank you. 1330 MR. BROEDERS: Sorry, just as an addendum, this was strictly a reclass, so the benefits, I believe on the flex side, have increased by a like amount. 1331 MS. SINGH: Does Union Gas have a written pension funding policy with respect to contributions? Is that part of the evidence anywhere? 1332 MR. WITTS: The company has a written statement for investment policies and goals. There is, within that, a statement with respect to funding policy which basically gives the company -- obviously says the company will fund the pension plan in accordance with the Ontario Pension Benefits Act and regulations and may choose, at its discretion, to fund to a higher standard. 1333 MS. SINGH: Could we get an undertaking to produce that? Would that not be too much work? 1334 MR. BODNAR: We can undertake to do that. 1335 MS. SINGH: Thank you. 1336 MR. BODNAR: Just to confirm, that's the statement investment plan -- sorry, statement of investment plans and goals. Sorry, statement of investment policy and goals, pardon me. 1337 MR. MORAN: Mr. Chair, that would be Undertaking N.6.14, an undertaking to provide a written statement of investment policies and goals. 1338 UNDERTAKING NO. N.6.14: TO PROVIDE A WRITTEN STATEMENT OF INVESTMENT POLICIES AND GOALS 1339 MS. SINGH: Can you please indicate how Union proposes to allocate, I think it's the additional 21.4 million in pension costs amongst the six different pension plans, how would that be allocated? 1340 MR. WITTS: The expense is calculated for each plan separately based on the membership in that plan, so we will value the benefits for the employee groups that belong to each of the plans and develop the expense separately for each plan. So rather than it being an allocation top down, it's actually a bottom-up process calculating it for each plan individually. 1341 MS. SINGH: Is it a mechanical process? 1342 MR. WITTS: Relatively mechanical, requiring a mainframe computer with some heavy lifting. 1343 MS. SINGH: And how would that be related to the deficit, would that go into the calculation? 1344 MR. WITTS: Sorry, I don't think I understand your question. 1345 MS. SINGH: The pension expense deficits, is that factored into the calculation for -- 1346 MR. WITTS: For each plan? 1347 MS. SINGH: -- for each plan? 1348 MR. WITTS: Yes, it is, sorry. 1349 MS. SINGH: Could you explain that? 1350 MR. WITTS: Well, each plan will have a pension expense number, and also will have a funded status. At various different times, some plans could be an actuarial service; some plans could be in deficit. Currently they're all in deficit. 1351 MS. SINGH: Thank you. 1352 With respect to the rate of return, Exhibit J.3.18 states that: 1353 "For purposes of determining the expected rate of return on assets --" 1354 MR. BROEDERS: Sorry` which subpart are you on? 1355 MS. SINGH: D, on page 2. 1356 MR. BROEDERS: Thanks. 1357 MS. SINGH: "...Used an expected rate of return of assets of 7.5 percent in 2000, 8 percent in 2001, 8.5 percent in 2002, and 7.75 in 2003." 1358 And 7 percent, I guess, in 2004. I'm wondering if you could advise, first, who advised Union that these were reasonable rates of return in all of those years? 1359 MR. WITTS: Towers Perrin provided advice with respect to what would be a reasonable range of assumptions to adopt. 1360 MS. SINGH: And in light of the stock market and interest rate declines in 2000, on what evidence did Union rely to increase the expected rate of return in 2001 to 8 percent; in 2002, to 8.5 percent? 1361 MR. WITTS: The expected rate of return on the assets is developed relative to the early measurement date, and the early measurement date is September 30th. So at the time the rate was developed for 2001, it was prior to any real significant declines in the stock market and, in particular, was prior to the events that occurred in September 2001. 1362 MS. SINGH: And again, in 2002, it would have been September in 2002 as well for the 8.5 percent? 1363 MR. WITTS: That's correct. 1364 MS. SINGH: As is 7 percent for 2004, in September of this year. 1365 MR. WITTS: We've now revised that to 7.5. 1366 MS. SINGH: And with respect to the surplus, have any of Union Gas's pension plans been in a surplus position? 1367 MR. WITTS: Yes, they have, at various times in the past, been in a situation where there has been actuarial surplus. The response to J.3.18, under E, provides a history of the use of actuarial surplus in the period 1999 through 2002. 1368 MS. SINGH: Could you advise which plans had a surplus, which of those plans? And in addition, how much was the surplus in each plan in 1999? 1369 MR. BODNAR: We don't have the specific detail of the surpluses that we have, but certainly that will appear in the actuarial valuations that you will be receiving and we will be providing. Certainly it will be visible there under that undertaking. 1370 MS. SINGH: Okay, fair enough. 1371 Does Union have a policy with respect to the use of pension plan surpluses? 1372 MR. PENNY: The use of pension plan surpluses is determined by the language of the pension plan itself, so it's a matter of contract, not a matter of policy. 1373 MS. SINGH: Are those contracts in the evidence, Mr. Penny? 1374 MR. PENNY: Well, the pension plans are not. 1375 MS. SINGH: Could you advise whether it was in the contract that these surpluses be used for the voluntary early retirement packages that were offered? 1376 MR. WITTS: The voluntary early retirement programs were undertaken, as I mentioned this morning, as an approved downsizing program. That required a formal amendment to be made to each of the six plans, and those amendments were adopted by the board of directors of Union Gas and have been filed both with the Financial Services Commission of Ontario and also with Canada Customs and Revenue Agency. 1377 MS. SINGH: Has Union ever considered using a pension surplus to reduce its contributions to these plans? 1378 MR. WITTS: The response to J.3.18, item E, shows how the company has utilized actuarial surplus to meet its contribution requirements that would otherwise be required. That is provided for in each of the plan documents and is in accordance with standard practice in Canada. 1379 MS. SINGH: Could you explain what that means, the use of actuarial surplus to offset the normal actuarial cost if the plan is in a surplus position? That's under paragraph E, again. 1380 MR. WITTS: If I take you through line 1, the total normal cost under column A, 7.4 million, that's the actual cost of pension benefits attributable to services rendered by the employees in that year. The special payments under B of 1.7 million represent past service -- additional contributions that the company must make in respect of prior periods. That gives a total of 9.1 million. 1381 Some of the plans had actuarial surplus and we applied 5.1 million against the 9.1, sum of A and B, to give you the minimum net contribution under B of 4 million. 1382 MS. SINGH: And the 20 for the early retirement, where would that figure show up in those columns? Does it show up at all? 1383 MR. WITTS: It shows up in B and C, but it's a net item. You can't identify the 24 million because that's a lump-sum increase in the obligation. 1384 MS. SINGH: I'm not sure I understand, I'm sorry. Perhaps you could... 1385 MR. WITTS: Well, the increase in the obligation as a result of the voluntary retirement program, I believe we said was 24 million, of which 21 million was funded from actuarial surplus. That doesn't appear in this line as a contribution, but it does appear in the additional funding requirement of -- the 3 million is included in the 5.1. It's a question of how the increase in the liability compared to the existing assets, how that appears on, if you will, the valuation balance sheet, and then the reflection of costs in the ensuing year. 1386 MS. SINGH: If I could just have your indulgence for one minute. 1387 So would it be fair then, or imI correct to understand that we wouldn't have needed the minimum $4 million contribution that's seen in line 1 for 1999 if the money had not been spent on the early retirement portion or incentive? 1388 MR. PENNY: Just so we're clear when you say we wouldn't have required the minimum required contribution, what do you mean by "we"? 1389 MS. SINGH: Well, not we, but the ratepayers. 1390 MR. PENNY: This is the contribution, not the expense, so we dealt with this earlier, this isn't necessarily what was requested in rates; in fact, it's not. 1391 MS. SINGH: But would that $4 million contribution be non-existent if the money had not been put into the early retirement program. 1392 MR. WITTS: No, that contribution would have been required in 1999 irrespective of the voluntary retirement program. The voluntary retirement program occurred in the fall of 1999, and the increase was measured as of the end of the year impacting upon the ensuing year's contribution requirement, 2004. 1393 MS. SINGH: So it was amortized over the other years in terms of bringing down the contribution required for those plans? 1394 MR. WITTS: In terms of increasing -- 1395 MS. SINGH: Increasing, pardon me, yes. 1396 MR. WITTS: And the amortization period varied depending on the plan between 5 and 15 years. 1397 MS. SINGH: What is Union's policy with respect to a surplus in its defined benefit pension funds? For example, if the stock market performance and interest rate levels improve and the pension expense increase is not needed, what opportunity is there for ratepayers to receive this money back? 1398 MR. BODNAR: I think my colleague testified to the fact earlier today that there was, in fact, an approved level of contribution to the plan that was subsequently, as a result of surplus, reduced in a particular year. 1399 Let me just suggest this, that as there's an improved performance within the plan, so goes some of the level of contribution or expense that is associated with the plan. If there is improved performance that could in turn reduce the amount of expense in a particular year. And that has happened in the past. 1400 MS. SINGH: Has it happened? 1401 Does Union have any views or would they be prepared to commit that any surpluses arising out of the changed market conditions from 2004 onwards could be applied to decrease Union's pension expense liabilities for future years? 1402 MR. BROEDERS: If markets improved, pension expense would be reduced. 1403 MS. SINGH: For future years? 1404 MR. BROEDERS: For future years, yes. 1405 MS. SINGH: Thank you, those are my questions. 1406 MR. SOMMERVILLE: Ms. Singh. 1407 Is there anything before we adjourn for the day? 1408 MR. PENNY: No, Mr. Chairman. Just to reiterate for the record for those who weren't here, that immediately upon commencement of Mr. Shepherd's cross-examination tomorrow, we'll be proceeding with the operations and maintenance panel. 1409 MR. SOMMERVILLE: We stand adjourned until tomorrow morning at 9:30. 1410 --- Whereupon the hearing was adjourned at 4:53 p.m.