Determinants of Capital Adequacy Ratio for Pension Funds: A Case Study in Indonesia

The study aims to identify factors that influence adequacy ratio of fund (RKD) of the Defined Benefit Pension Plan (PPMP) Pension Fund for 2009-2018 period such as Return on Asset (ROA), Cash Conversion Rate (CCR), Central Board Revenue (CBR), Operating Expense Ratio (OER), Investment Expense Ratio (IER), and investment. The data analysis was common effect panel data regression method and the samples were twenty pension funds. The results showed that ROA, CCR, and investment have a significant and positive influence towards RKD, CBR and OER have a significant and negative influence towards RKD. IER did not have significant influence towards RKD.


Introduction
Every worker dreams of having a stable income both while working and after retirement. Business institution should pay attention to this aspect because income is closely associated to working motivation. Type of welfare a worker earns after retirement is called pension or retirement fund. Yusof & Sabri (2017) stated that need for pension fund is determined by several factors including economic, socio-economic and non-economic (psychological and demographical aspects, such as age, level of education, gender and race). Study of Nzioka & Hazel (2013) described organizational policy, resource, communication, and public policy on pension funds in Sacco Industry in Kenya. Chatterjee (2010) in his study mentioned that number of private and public employees participating in retirement saving is increasing along with age, income, and level of education.
To develop retirement program for their workers, companies (employers) can establish their own pension fund called Employer Pension Fund (DPPK) that consists of two options, namely Defined Benefit Plan (PPMP) or Defined Contribution Plan (PPIP) or register their workers to Financial Institution Pension Fund (DPLK). The 1992 Decree number 11 on Pension Funds stated that Pension Fund is a legal entity authorized to manage and run program that provides retirement benefit. As the entity responsible for managing customer's fund, Pension Fund with PPMP must maintain its adequacy ratio of funds (RKD) to the minimum of 100%. RKD represents number of assets Pension Fund must fulfill its responsibility to its customers, in the form of retirement fund, at present and in the future. Table 1 showed the adequacy ratio of fund of Pension Funds with Defined Benefit Plan obtained from the Financial Services Authority. Table 1

. Adequacy Ratio of Fund (RKD) of PPMP in Indonesia between 2009 and 2018
Year Table 1 indicated that within the last ten years RKD is fluctuating sharply, and in 2013, 2015 and 2018 the percentages of RKD are lower than 100%. RKD refers to ratio between assets and actuarial obligations. Antolin & Stewart (2009), explained that asset is determined by initial fund, fees, staff contribution, development proceeds and Past Service Liability, while actuarial obligations are determined by increase of salary, retirement benefit, and actuarial assumptions. Zamri & Eliza (2015), also stated that Pension Fund's asset depends upon development proceeds or return on investment (ROI). ROI is the major revenue of Pension Fund obtained from investment. Sources of the investment are contributions from both Pension Fund's customers and founders. Table 2 showed the Pension Fund's investment from 2009 to 2018.   Table 3 showed that ROI between 2009 and 2013 plummeted, but it increases from 2014 to 2018. ROI fluctuation is not directly proportional to the increase of investment fund shown in Table 2, which means the percentages of ROI are plunging too. Discussing relationship between the Pension Fund ROI and RKD, ROI fluctuation in the last ten years is in line with the RKD fluctuation, but development of the investment fund is not directly proportional to RKD. The Pension Fund allocated the investment fund (Table 2) into portfolio as shown in Table 4. Source: Financial Services Authority Table 4 indicated that in the last ten years the Pension Fund make the most investment on stock market, followed by money market, and building, and the real sector. The investment results in ROI in the form of: (1) interest/ profit sharing, (2) dividends, (3) lease, (4) investment release/ acquisition gain (loss), and (5) income from other types of Previous research on pension funds focused on the size, governance, and design of pension plans and outsourcing decisions related to cost efficiency, for example study of Bikker & Dreu (2009). Antolin et al. (2011) showed that market interest rates are associated with pension fund balances. Study of Davis & Haan (2012) explained small companies were unprofitable and contributed less to their pension funds than large and profitable companies.
Simbabrashe & Lilian (2014) conducted a study discussing relationship between asset size and profitability. Cremers et al. (2016) discussed total assets and profitability associated with funded (Pension Fund funding capabilities). Thomas et al. (2013) conducted a study on association between stock market volatility and Pension Fund assets.
Türegün & Kaya (2014) evaluated performance of Pension Funds. Very few studies discussing relationship between liquidity, operating and investment costs, cash flow and investment funds with RKD of Pension Funds. Therefore, this study aims to examine the relationship between the factors and RKD.

Adequacy Ratio of Funds (RKD)
RKD is a financial ratio that shows financial ability or quality of Pension Fund to provide services or pay pension benefits of both retired participants and participants who are still working. Therefore, RKD is a pivotal indicator since the purpose of Pension Fund is to pay the right amount of pension benefit on time and to the right participants. Orlando & Politano (2010) stated that the funding ratio at time t, denoted by FR (t), is defined as the ratio of the assets to the liabilities at that time, that is, FR (t) = A (t)/L(t). Morris et al. (2018) also described that the funded ratio is defined as the market value of a fund's assets over the value of its liabilities. Based on those experts, it can be concluded that adequacy ratio of fund is basically a comparison or ratio between assets and actuarial obligations.
Alaudina et al. (2017) (2014) argued that some factors that determine sufficiency of retirement plan are sufficient income, long-term planning, plan to retire at the age of 65 years old or above, investment (assets), level of education, good health, marital status and occupation (profession).

Profitability
Type of analysis used to measure success rate of Pension Funds in making investment is profitability ratio.  and Brigham & Houston (2011) argued that profitability is the result of series policies and decisions made by companies in terms of showing a combination of effects of liquidity, asset management, and debt on operating results. Profitability ratios include profit margin on sales, basic ability to generate profits, Return on Investment (ROI) and Return on Equity (Endri & Fathony, 2020). Endri (2018) argued that profitability is part of performance measure that describes how effective management is based on return on sales and investment. Nuriyah et al. (2013) classified profitability ratio into two, namely profitability related to sales and one related to investment. Together, both types demonstrate company's efficiency. Ang et al. (2014) stated that performance appraisal is a means for management to find out the extent to which company's goals have been achieved. Using the financial perspective, commonly used indicator to measure efficiency is Return on Investment (ROI) as ROI is a single comprehensive indicator that can explain the trade-offs between income, costs, and investment. Pension Fund profitability is measured using the following formula:

Liquidity
Broeders (2010) defined liquidity as issues related to ability of a company to meet its financial obligation. Driessen & De Jong (2012) noted that liquidity is related to ability of company to meet its due obligations. As an addition, Zamri & Eliza (2015) stated that liquidity refers to ability of company to meet its short-term obligation (within one year). Liquidity is ability to transform assets into cash or ability to generate cash. It is related to normal operation cycle of Pension Funds which includes the investment cycle at stock market, money market, and other types of investment based on cash outflow perspective, and then cash inflow perspective in the form of disbursement of investment fund and result on investment for liquidity. Liquidity is one of the factors that determines success or failure of Pension Fund. In Pension Fund, the indicator of liquidity ratio is Cash Coverage Ratio (CCR) ) that can be obtained using the following ratio: In the context of Pension Fund, the ratio is emphasized from cash flow that illustrates ability of Pension Fund to pay retirement benefits to customers. Source of this retirement benefit is Pension Fund customer's contribution.
Contribution is a monthly deposit of funds from participants/ customers and employers, and then Pension Fund uses it for both investment and payment of retirement benefits. The higher contributions to benefit ratio is, the higher the ability of contributions to cover payments, and the more opportunity for Pension Funds to make investment.
There are two reasons why contribution benefit ratio is declining; the first is an increase in number of retired participants increasing amount of retirement benefit Pension Funds should pay, and the second is fewer number of new participants resulting in less amount of contributions and higher amount of retirement benefit.

Operating Expenses and Investment Expenses
Andonov et al. (2017) stated that an indicator to measure efficiency of operation activity is management expenses risk, which is to measure how each type of cost is managed.
Bikker & Dreu (2009) explained the concept of "operating costs of pension funds. The operating costs of pension funds consist of administrative costs and investment costs. Administrative costs relate to all operational tasks excluding asset management, such as record keeping, communication with participants, policy development and compliance with regulatory and supervisory requirements. These costs include salaries, rents and fees charged by third parties such as actuaries, accountants and lawyers. Investment costs arise from investment analysis, risk management and trading, and include salaries of analysts and portfolio managers, brokerage fees and charges for the use of electronic trading facilities." In the context of Pension Funds, two indicators used to determine cost efficiency ratio are Investment Expenses Ratio and Operational Expenses Ratio, and their formulas are as follows: Investment Expenses Ratio and Operational Expenses Ratio are two relevant concepts to apply in Pension Funds since Pension Fund is dominated by activities that aim to manage contribution from both participants and employers in order to pay its obligations (payment of retirement benefits).
Investment and Operating Expenses Ratio represents burden Pension Funds should bear compared to income/ investment return. The higher these ratios are, the higher burden Pension Fund has and the less efficient it is.

Investment Fund
Pension Fund is financial institution responsible for management of participant's income once they are retired. Thus, the major goal of Pension Fund is to pay sufficient amount of retirement fund at the right time to the correct retiree Investment fund allocation above is part of allocating Pension Fund's assets to obtain return. Stoughton & Zechner (2011) defined investment as making long-term investment for one or more assets an individual/ an entity owns in order to gain profit in the future. Ang et al. (2014) argue that investment is commitment to invest certain amount of fund in the present in order to gain some profits in the future. In other words, investment is commitment to make sacrifice and spent less at present in order to be able to spend more in the future. On the other hand, Dyck & Pomorski (2011) stated that asset management and investment are indicators of operating efficiency shown in investment decision company makes and how company uses its resources. Gorter & Jacob (2013) at least, such matters as the investment risk measurement methods, the risk-management processes implemented and the strategic asset allocation with respect to the nature and duration of pension liabilities.

Pension Fund investment from members of IOPS (International Organization of Pension Supervisors) according to
Li et al. (2014) stated that factors that determine whether retirement benefit is enough or not are asset or investment in the form of Home, Business equity, Other real estate, Checking or savings account, Savings bonds, Stocks, bonds or mutual funds, and Personal loans to others.

Profitability Towards RKD (Adequacy Ratio of Fund)
Endri (2019) stated that profitability is outcome of a series of policy and decision-making companies make showing combining effect of liquidity, asset management, and debt due to operating activities. Profitability ratio includes profit margin on income, the basic ability to generate profits, the rate of return on total assets/ investments (Return on Investment/ ROI). The higher profit Pension Fund generates, the more assets and the higher RKD the Pension Fund has. The first hypothesis in this study is as follows :  ISSN 1923-4023 E-ISSN 1923-4031

Liquidity Towards (Adequacy Ratio of Fund)
Driessen & De Jong (2012) defined liquidity as issues related to company's ability to meet its financial obligations. Liquidity is an issue Pension Fund encountered in relation to retirement benefit and operating cost payments. Paklina (2017) argue that in order to overcome liquidity issue, resulting from increase of retirement benefit payment and decreasing contributions, Pension Fund should allocate some parts of its investment portfolio into short-term investments. Franzoni et al. (2012) noted that return (interest rate) of short-term investment is generally lower. Therefore, when Pension Fund allocated too much money on short-term investment, its probability will be decreasing. However, when it allocated to little on short-term investment, it will pose a high liquidity risk which may result in complaints from customers (retirees) and disruption of operating activities. Based on the description, it can be concluded that excessively high liquidity decreases Pension Fund's profitability, assets, and eventually its RKD. Hence, the second hypothesis is as follows: H2: There is a negative relationship between liquidity and RKD.

Cashflow Towards RKD (Adequacy Ratio of Fund)
Cashflow illustrates ability of both customer's and employer's contribution to cover retirement benefit payments. Cashflow of the contribution and retirement benefit is measured using fund design, comparison between contributions and retirement benefit (Ai et al. 2015). Ratio of Contribution to Retirement Benefit is a ratio used to measure ability of the cashflow of contribution and retirement benefits. The contribution refers to assets Pension Fund has spent for investment and payment of retirement benefit. Higher contribution to retirement benefit ratio means that Pension Fund allocates lower percentage of the contribution for payment of retirement benefits, and higher percentage of the fund for investment. This condition will increase both profitability due to increase of investment return and RKD because of increase of assets. This is in accordance to Cremers et al. (2016) that the funding ratio or adequacy ratio of funds (RKD) is the result of changes in the actual assets in investment portfolio and contribution of investment returns. Ai et al. (2015) conducted a study investigating Pension Fund found out that fund design (the ratio between contributions and retirement benefits) has positive influence towards investment return. Li et al. (2014) revealed that that sufficient income has positive influence towards financial adequacy of Pension Fund. The third hypothesis is as follows: H3: There is a positive relationship between cashflow and RKD.

Operating Expenses Towards RKD (Adequacy Ratio of Fund)
Jackwerth & Slavutskaya (2016) stated that a ratio used to measure operating efficiency is cost management ratio, a ratio that measures each type of expense to control. Pension Fund spends its assets for operating activities which include salary (employees, Board of Management and Trustees), Office Expenses, Maintenance, Depreciation Expenses, Third Party Service Expenses, and other Operating Expenses. Pension Fund will spend higher amount on these expenses when it is unable to run its activities in an efficient manner. Inefficient Pension Fund has decreasing RKD. The fourth hypothesis is as follows: H4: There is a negative relationship between operating expenses and RKD.

Investment Expenses Towards RKD (Adequacy Ratio of Fund)
According to Bikker & Dreu (2009), funding ratio or adequacy ratio of fund (RKD) changes because of expenses for administrative affairs including investment expenses. Investment expenses consist of transaction cost, land and building maintenance fee, building depreciation fee, investment manager cost, and other types of investment cost. The less efficient Pension Fund in its investment management cost is, the fewer assets and lower RKD it has. Therefore, the fifth hypothesis is as follows: H5: There is a negative relationship between investment expenses and RKD.

Investment Fund Towards RKD (Adequacy Ratio of Fund)
Paklina (2017) previously mentioned that RKD is asset to actuarial obligation ratio, in which investment becomes one part of Pension Fund's assets. They further explained that composition of investment should at least be 70% of total assets and as the result, investment, as part of assets, plays significant role towards development of Pension Fund as well as increases RKD. The more assets are allocated for investment, the higher return of investment Pension Funds will obtain. Growth of investment expenses illustrates growth of investment expenses in the past, which represents profitability in the future. Assets are spent for funding operating activities of companies (Nuriyah et al. 2018).
Companies that aim to generate more assets will spend more on operating activities. Bhutta & Hasan (2013) explained that "Better growing firms increase their profitability. If there is an increase in total assets it means it has high growth and it tends to be more profitable. We measure growth as a percentage increase in total assets Thus we expect positive relationship between growth rate and profitability of firm." As an addition, Davis & Haan (2012) investigating Pension Fund revealed that fund size has a significant and positive influence towards investment return. Li et al. (2014) revealed that asset investment has a positive influence towards adequacy ratio of Pension Fund.
Thus, the sixth hypothesis is as follows: H6: There is a positive relationship between investment fund and RKD.

Method
Objective of the study was to test the influence of probability, liquidity, operating expenses, investment expenses, cash flow and investment funds towards RKD of Pension Funds with Defined Benefit Pension Program in Indonesia between 2009 and 2018. Profitability was measured with ROA (return on asset), liquidity was measured with Cash Coverage Ratio, cashflow was measured with contribution to retirement benefit ratio, operating expenses were measured using comparison between operating expenses and investment return, investment expenses were measured using comparison between investment expenses and investment return, and investment fund was measured using growth of investment fund.
The The data analysis method was common effect panel regression data model. Its formula is as follows: RKD it = β 0 + β 1 ROA it + β 2 CCR it + β 3 CBR it + β 4 OER it + β 5 IER it + β  Table 5 showed result of panel data regression analysis conducted using the common effect method   INVEST) or lower than α = 0.05. On the other hand, IER did not have significant influence towards RKD with the probability score of 0.4711 or higher than α = 0.05.

Discussion
Profitability, measured using ROA, has a positive and significant influence towards RKD ratio. The empirical finding is in accordance to the hypothesis. Finding of this study showed that increase of ROA results in increase of RKD. Pension Fund profitability represents ability of Pension Fund to generate higher income compared to burden from assets it should manage. Increase of ROA will increase assets Pension Funds have and with assumption that actuarial obligation remains the same, increase of ROA will also increase. RKD is obtained from dividing assets with actuarial obligations.
Liquidity, measured using cash coverage ratio (CCR), has a positive and significant influence towards RKD. The empirical finding did not support the hypothesis. The positive analysis results mean that Pension Fund's RKD will increase when there is an increase of liquidity. Excessively high liquidity Pension Funds provide for payments of both retirement benefit and operating activities decreases some amount of money allocated for investment and return of investment, which eventually will cause decline of profitability (ROA) and RKD. Theoretically, liquidity has negative influence towards RKD, but the analysis result showed that liquidity (CCR) had positive influence towards RKD. It means that, as their liquidity kept increasing, the Pension Funds were able to increase their return of investment.
Cash flow, measured using CBR (Contribution Benefit Ratio) has a negative and significant influence towards RKD. This empirical finding did not support the hypothesis. The negative analysis results mean that the Pension Fund's RKD will decrease when their cashflow increases. Cashflow reflects ability of the contribution to cover retirement benefit payments or how much contributions left after the retirement benefit payments have been paid. Therefore, the more money left after the retirement benefits payments, the higher the RKD is. Theoretically, cashflow has a positive influence towards RKD, but findings of the study showed that cashflow (CBR) had a negative influence on RKD. It is in line with Li et al. (2014) that sufficient income from participants had a positive influence on adequacy ratio of Pension Funds. Sufficient income from these participants will encourage an increase in contributions, which will have a positive impact on the financial adequacy of pension funds. In this study CBR is decreasing due to increasing number of retirees and decreasing number of new participants/ customers; these cause decline in amount of funding for investment and reduce investment returns. However, this condition can still increase the profitability of the Pension Funds. It illustrates the ability of the Pension Fund management to invest, as well as increase their assets and RKD.
Operating expenses, measured with Operational Expenses Ratio (OER), has negative and significant influence towards RKD. The empirical finding is in line with the hypothesis. The negative test result means that Pension Fund RKD will increase when their operating expenses are declining. The finding proves that increase of OER results in decrease of RKD. The more efficient the Pension Funds are in managing their operational costs, the more assets and the higher RKD they will have.
Investment expenses, measured with Investment Expenses Ratio (IER), have a negative and significant influence towards RKD. The empirical finding did not support the hypothesis. It indicates that IER volatility does not affect RKD ratio as the Pension Funds allocated only small percentage of their assets for investment in stock market, money market or other types of investment.
Investment funds, measured by investment growth, have a positive and significant influence towards RKD. The empirical finding supports the hypothesis. It proves that increase in investment results in increase in RKD. Investment funds are Pension Fund's assets that will contribute to investment returns. Sources of investment funds