4. Employee retirement benefits

Retirement benefits, which cover almost all retired employees and their surviving spouses, include pension income and certain health care and life insurance benefits. They are met through funded registered retirement plans and through unfunded supplementary benefits that are paid directly to recipients.

Pension income benefits consist mainly of company-paid defined benefit plans that are based on years of service and final average earnings. The company shares in the cost of health care and life insurance benefits. The company’s benefit obligations are based on the projected benefit method of valuation that includes employee service to date and present compensation levels as well as a projection of salaries to retirement.

The expense and obligations for both funded and unfunded benefits are determined in accordance with accepted actuarial practices and United States generally accepted accounting principles. The process for determining retirement-income expense and related obligations includes making certain long-term assumptions regarding the discount rate, rate of return on plan assets and rate of compensation increases. The obligation and pension expense can vary significantly with changes in the assumptions used to estimate the obligation and the expected return on plan assets. At 2013 year-end, the company adopted mortality assumptions presented in the new Canadian pensioners mortality research report, per guidance provided by the Canadian Institute of Actuaries.

The benefit obligations and plan assets associated with the company’s defined benefit plans are measured on December 31.


	Pension benefits						Other post-retirement benefits
	2013			2012			2013			2012
Assumptions used to determine benefit obligations at December 31 (percent)
Discount rate		4.75			3.75			4.75			3.75
Long-term rate of compensation increase		4.50			4.50			4.50			4.50

millions of dollars
Change in projected benefit obligation
Projected benefit obligation at January 1		7,336			6,646			547			508
Current service cost		181			160			11			8
Interest cost		281			288			21			21
Actuarial loss/(gain)		(504	)		616			(50	)		40
Amendments		-			-			-			-
Benefits paid (a)		(424	)		(374	)		(26	)		(30	)
Projected benefit obligation at December 31		6,870			7,336			503			547

Accumulated benefit obligation at December 31		6,263			6,560

The discount rate for calculating year-end post-retirement liabilities is based on the yield for high quality, long-term Canadian corporate bonds at year-end with an average maturity (or duration) approximately that of the liabilities. The measurement of the accumulated post-retirement benefit obligation assumes a health care cost trend rate of 4.50 percent in 2014 and subsequent years.


	Pension benefits						Other post-retirement benefits
millions of dollars	2013			2012			2013			2012
Change in plan assets
Fair value at January 1		5,114			4,461
Actual return/(loss) on plan assets		491			374
Company contributions		600			594
Benefits paid (b)		(333	)		(315	)
Fair value at December 31		5,872			5,114

Plan assets in excess of/(less than) projected benefit obligation at December 31
Funded plans		(424	)		(1,602	)
Unfunded plans		(574	)		(620	)		(503	)		(547	)
Total (c)		(998	)		(2,222	)		(503	)		(547	)

(a)	Benefit payments for funded and unfunded plans.

(b)	Benefit payments for funded plans only.

(c)	Fair value of assets less projected benefit obligation shown above.

Funding of registered retirement plans complies with federal and provincial pension regulations, and the company makes contributions to the plans based on an independent actuarial valuation. In accordance with authoritative guidance relating to the accounting for defined pension and other post-retirement benefits plans, the underfunded status of the company’s defined benefit post-retirement plans was recorded as a liability in the balance sheet, and the changes in that funded status in the year in which the changes occurred was recognized through other comprehensive income.


	Pension benefits						Other post-retirement benefits
millions of dollars	2013			2012			2013			2012
Amounts recorded in the consolidated balance sheet consist of:
Current liabilities		(25	)		(24	)		(28	)		(28	)
Other long-term obligations		(973	)		(2,198	)		(475	)		(519	)
Total recorded		(998	)		(2,222	)		(503	)		(547	)

Amounts recorded in accumulated other comprehensive income consist of:
Net actuarial loss/(gain)		2,303			3,210			64			124
Prior service cost		62			85			-			-
Total recorded in accumulated other comprehensive income, before tax		2,365			3,295			64			124

The company establishes the long-term expected rate of return on plan assets by developing a forward-looking long-term return assumption for each asset class, taking into account factors such as the expected real return for the specific asset class and inflation. A single, long-term rate of return is then calculated as the weighted average of the target asset allocation percentages and the long-term return assumption for each asset class. The 2013 long-term expected return of 6.25 percent used in the calculations of pension expense compares to an actual rate of return of 6.50 percent and 8.00 percent over the last 10- and 20-year periods ending December 31, 2013.


	Pension benefits									Other post-retirement benefits
	2013			2012			2011			2013			2012			2011
Assumptions used to determine net periodic benefit cost for years ended December 31 (percent)
Discount rate		3.75			4.25			5.50			3.75			4.25			5.50
Long-term rate of return on funded assets		6.25			6.25			7.00			-			-			-
Long-term rate of compensation increase		4.50			4.50			4.50			4.50			4.50			4.50

millions of dollars
Components of net periodic benefit cost
Current service cost		181			160			122			11			8			6
Interest cost		281			288			314			21			21			23
Expected return on plan assets		(331	)		(288	)		(308	)		-			-			-
Amortization of prior service cost		23			23			21			-			-			-
Amortization of actuarial loss/(gain)		243			235			162			10			8			3
Net periodic benefit cost		397			418			311			42			37			32

Changes in amounts recorded in accumulated other comprehensive income
Net actuarial loss/(gain)		(664	)		530			1,112			(50	)		40			81
Amortization of net actuarial (loss)/gain included in net periodic benefit cost		(243	)		(235	)		(162	)		(10	)		(8	)		(3	)
Prior service cost		-			-			86			-			-			-
Amortization of prior service cost included in net periodic benefit cost		(23	)		(23	)		(21	)		-			-			-
Total recorded in other comprehensive income		(930	)		272			1,015			(60	)		32			78

Total recorded in net periodic benefit cost and other comprehensive income, before tax		(533	)		690			1,326			(18	)		69			110

Costs for defined contribution plans, primarily the employee savings plan, were $37 million in 2013 (2012 - $36 million, 2011 - $36 million).

A summary of the change in accumulated other comprehensive income is shown in the table below:


	Total pension and other post-retirement benefits
millions of dollars	2013			2012			2011
(Charge)/credit to other comprehensive income, before tax		990			(304	)		(1,093	)
Deferred income tax (charge)/credit (note 17)		(256	)		87			279
(Charge)/credit to other comprehensive income, after tax		734			(217	)		(814	)

The company’s investment strategy for pension plan assets reflects a long-term view, a careful assessment of the risks inherent in various asset classes and broad diversification to reduce the risk of the portfolio. Consistent with the long-term nature of the liability, the plan assets are primarily invested in global, market-cap-weighted indexed equity and domestic indexed bond funds to diversify risk while minimizing costs. The equity funds hold Imperial Oil stock only to the extent necessary to replicate the relevant equity index. The balance of the plan assets is largely invested in high-quality corporate and government debt securities. Studies are periodically conducted to establish the preferred target asset allocation. The target asset allocation for equity securities is 46 percent. The target allocation for debt securities is 49 percent. Plan assets for the remaining 5 percent are invested in venture capital partnerships that pursue a strategy of investment in U.S. and international early stage ventures.

The 2013 fair value of the pension plan assets, including the level within the fair value hierarchy, is shown in the table below:


			Fair value measurements at December 31, 2013, using:
millions of dollars	Total		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)			Significant unobservable inputs (Level 3)
Asset class
Equity securities
Canadian		932				932	(a)
Non-Canadian		1,911				1,911	(a)
Debt securities - Canadian
Corporate		654				654	(b)
Government		2,161				2,161	(b)
Asset backed		-
Mortgage funds		1							1	(c)
Equities – Venture capital		188							188	(d)
Cash		25		12		13	(e)
Total plan assets at fair value		5,872		12		5,671			189

(a)	For company equity securities held in the form of fund units that are redeemable at the measurement date, the unit value is treated as a Level 2 input. The fair value of the securities owned by the funds is based on observable quoted prices on active exchanges, which are Level 1 inputs.

(b)	For corporate, government and asset-backed debt securities, fair value is based on observable inputs of comparable market transactions.

(c)	For mortgage funds, fair value represents the principal outstanding which is guaranteed by Canada Mortgage and Housing Corporation.

(d)	For venture capital partnership investments, fair value is generally established by using revenue or earnings multiples or other relevant market data including Initial Public Offerings.

(e)	For cash balances that are held in Level 2 funds prior to investment in those fund units, the cash value is treated as a Level 2 input.

The change in the fair value of Level 3 assets, which use significant unobservable inputs to measure fair value, is shown in the table below:


millions of dollars	Mortgage funds		Venture capital
Fair value at January 1, 2013		1		158
Net realized gains/(losses)		-		(17	)
Net unrealized gains/(losses)		-		44
Net purchases/(sales)		-		3
Fair value at December 31, 2013		1		188

The 2012 fair value of the pension plan assets, including the level within the fair value hierarchy, is shown in the table below:


			Fair value measurements at December 31, 2012, using:
millions of dollars	Total		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)			Significant unobservable inputs (Level 3)
Asset class
Equity securities
Canadian		811				811	(a)
Non-Canadian		1,657				1,657	(a)
Debt securities - Canadian
Corporate		473				473	(b)
Government		1,982				1,982	(b)
Asset backed		5				5	(b)
Mortgage funds		1							1	(c)
Equities – Venture capital		158							158	(d)
Cash		27		9		18	(e)
Total plan assets at fair value		5,114		9		4,946			159

(a)	For company equity securities held in the form of fund units that are redeemable at the measurement date, the unit value is treated as a Level 2 input. The fair value of the securities owned by the funds is based on observable quoted prices on active exchanges, which are Level 1 inputs.

(b)	For corporate, government and asset-backed debt securities, fair value is based on observable inputs of comparable market transactions.

(c)	For mortgage funds, fair value represents the principal outstanding which is guaranteed by Canada Mortgage and Housing Corporation.

(d)	For venture capital partnership investments, fair value is generally established by using revenue or earnings multiples or other relevant market data including Initial Public Offerings.

(e)	For cash balances that are held in Level 2 funds prior to investment in those fund units, the cash value is treated as a Level 2 input.

The change in the fair value of Level 3 assets, which use significant unobservable inputs to measure fair value, is shown in the table below:


millions of dollars	Mortgage funds		Venture capital
Fair value at January 1, 2012		1		148
Net realized gains/(losses)		-		(11	)
Net unrealized gains/(losses)		-		8
Net purchases/(sales)		-		13
Fair value at December 31, 2012		1		158

A summary of pension plans with accumulated benefit obligations in excess of plan assets is shown in the table below:


	Pension benefits
millions of dollars	2013		2012
For funded pension plans with accumulated benefit obligations in excess of plan assets:
Projected benefit obligation		-		6,716
Accumulated benefit obligation		-		6,025
Fair value of plan assets		-		5,114
Accumulated benefit obligation less fair value of plan assets		-		911

For unfunded plans covered by book reserves:
Projected benefit obligation		574		620
Accumulated benefit obligation		496		535

Estimated 2014 amortization from accumulated other comprehensive income

millions of dollars	Pension benefits		Other post-retirement benefits
Net actuarial loss/(gain) (a)		169		5
Prior service cost (b)		23		-

(a)	The company amortizes the net balance of actuarial loss/(gain) as a component of net periodic benefit cost over the average remaining service period of active plan participants.

(b)	The company amortizes prior service cost on a straight-line basis.



Cash flows
Benefit payments expected in:

millions of dollars	Pension benefits			Other post-retirement benefits
2014		365			28
2015		375			28
2016		384			28
2017		393			28
2018		401			28
2019 - 2023		2,078			145

In 2014, the company expects to make cash contributions of about $420 million to its pension plans.

Sensitivities
A one percent change in the assumptions at which retirement liabilities could be effectively settled is as follows:

Increase/(decrease) millions of dollars	One percent increase			One percent decrease
Rate of return on plan assets:
Effect on net benefit cost, before tax		(50	)		50

Discount rate:
Effect on net benefit cost, before tax		(80	)		100
Effect on benefit obligation		(850	)		1,050

Rate of pay increases:
Effect on net benefit cost, before tax		50			(45	)
Effect on benefit obligation		170			(150	)

A one percent change in the assumed health-care cost trend rate would have the following effects:


Increase/(decrease) millions of dollars	One percent increase		One percent decrease
Effect on service and interest cost components		4		(3	)
Effect on benefit obligation		45		(35	)