The Development of Actuarial-Based Pension Accounting at The Bell System, 1913-40

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Accounting History
The development of
actuarial-based pension
accounting at the Bell
System, 1913–40
Nandini Chandar
Drexel University
Paul J. Miranti, Jr
Rutgers, The State University of New Jersey
Abstract
This article evaluates the process of firm-specific learning relating to the
development of actuarially based pension accounting at the Bell System in
the USA from 1913 to 1940. Drawing on Alfred D. Chandler’s notion of
an “integrated learning base”, it analyzes the steps taken by the firm in
learning how to order the multiple forms of specialized knowledge neces-
sary for effective pension liability management. The study also explains
how this change moderated relationships between such stakeholder
groups as employees, investors, regulators, professional advisors and tax
authorities. The pension plan was a key economic benefit that sought to
increase employee retention and morale through the promise of retire-
ment compensation for diligent, long-term service. It also sought to
address humanely the economic problems of old age in a rising urban-
industrial society, which had scant resources dedicated to social welfare.
Although originally a pay-as-you-go system, the escalating costs associ-
ated with a rapidly expanding workforce forced its abandonment in favor
of an actuarially based system in 1927. The article analyzes this evolution
in management practice through the New Deal era and the emergence of
a national social security system in 1935.
Keywords: Bell System; corporate learning; organizational capabilities;

pension accounting; probability theory
Copyright © 2007 SAGE Publications 205
(Los Angeles, London, New Delhi and Singapore) and AFAANZ
Vol 12(2): 205–234. DOI: 10.1177/1032373207076036
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Accounting History Vol 12, No 2 – 2007
1. Introduction
The initial development of pension funding and accounting practices at the Bell
System from 1913,1 was an outgrowth of President Theodore N. Vail’s “universal sys-
tem” program that was designed to strengthen the firm’s managerial and techno-
logical capacities (Garnet, 1985, Ch.9, pp. 128–154). Following the company’s near
financial collapse in 1907, the House of Morgan recruited Vail to revitalize the firm.
The new president (whose incumbency lasted to 1919) successfully overcame long-
standing weaknesses in operational control by promoting a greater standardization of
network technology and management practice. Vail also modified the early strategy
of horizontal growth dating back to the firm’s founding in 1877, which involved the
granting of exclusive franchise territories and the leasing of firm equipment. Instead,
the parent company began to absorb semi-autonomous local entities and linked
them together nationally through the creation of a comprehensive long-distance net-
work (Garnet, 1985, Ch. 5, pp. 55–73). The organizational challenges had become
more complex with the acquisition in 1882 of Western Electric, a major producer of
telephone equipment (Smith, 1985, Ch.5; Adams & Butler, 1992, Ch.2, pp. 45–70). By
1915,Vail’s rationalization drive had achieved great success (Garnet, 1985, Ch.9).The
firm dominated its industry with total assets in excess of US$1bn, with 6.2 million
telephones (plus another 3.0 million largely connecting from independent companies
to its national network) and 156,000 employees (AT&T, 1916, pp.53–4).
Pensions became an attractive perquisite at AT&T and other giant enterprises
early in the twentieth century because they seemed responsive to the new circum-
stances brought about by the rapid expansion of the nation’s urban-industrial econ-
omy. When American society had been predominantly rural and agricultural, the
satisfaction of the economic wants of the elderly frequently came from support ren-
dered by extended family units or from the self-sufficiency inherent in farming life.
With industrialization, however, urban workers could neither rely on such sources of
assistance; nor did contemporary private and local governmental welfare agencies
have the resources necessary to assist large numbers of unemployed elderly. Thus, a
corporate promise of income to provide a buffer against the vicissitudes of old age,
doubtless, seemed highly attractive to prospective employees (Sass, 1997, pp.4–13).
AT&T was not the first to introduce an employee pension plan.The Canadian Grand
Trunk Railroad’s plan of 1874 was the first corporate pension scheme in North
America (Sass, 1997, pp.16, 19). The American Express Company formed the first cor-
porate pension in the USA in 1875. By 1900, a few progressive businesses such as
Sherwin-Williams, Proctor and Gamble, Solvay Process and John Wanamaker also
instituted similar programs (Stone, 1993, pp.253–4; Sass, 1997, pp.16, 19). The federal
government maintained the largest pension plan with about one million claimants,
primarily veterans of the Civil War (Sass, 1997, p.12). By the first decade of the twen-
tieth century AT&T joined the ranks of large companies providing such benefits.
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Chandar & Miranti: Actuarial-based pension accounting
In 1907, AT&T’s new president, Theodore Vail set up a special committee to design
the company’s comprehensive welfare program. Walter S. Gifford, the company’s
statistician and future president, assisted the committee by conducting the first cen-
sus of the company workforce (Miranti, 2002).
One purpose of pensions involved the stabilization of management and the re-
duction of the high costs of employee turnover. Labor historians have tended to
attribute such forms of “corporate liberalism” as paternalism intended to dilute
worker enthusiasm for forming assertive unions (Lustig, 1982; Ernst, 1995). What this
historical school has overlooked is the importance of these benefits in the reten-
tion of a rising but crucial class of professional labor that rarely formed unions.
AT&T relied heavily on a growing body of specialists for the successful implementa-
tion of its high technology operations. As Moses Abromowitz and Paul David have
explained, the early twentieth century witnessed the beginning of a shift in the drivers
of productivity in the US economy from investment in capital assets to the invest-
ment in skills and knowledge (Abromowitz & David, 2000, pp.40–60). The effective
operation of a complex organization increasingly depended on the services of a
workforce with high levels of literacy and numeracy. AT&T was a beneficiary of the
upgrading of human capital that derived from the great expansion of public sec-
ondary education beginning in the 1880s. It also benefited from the growth of col-
legiate and graduate education especially in such intellectually challenging fields
critical to telephone operations as electrical engineering, physics and mathematics
(Abromowitz & David, 2000, pp.54–60).
The investment in knowledge necessary to develop a comprehensive pension
plan also helped to reduce the risk of the firm by providing more precise and reliable
information about the magnitude and timing of liabilities and future payouts. This
was vital for effective financial planning. It also involved the need for organizational
modification to assure the effective integration of special knowledge in such diverse
fields as accounting, actuarial science, law, taxation, finance and management.
Pensions helped to create a positive image of large business enterprises that
frequently had come under attack by contemporary Progressive reformers. For
example, each of the candidates for president in 1912 – Theodore Roosevelt,
William Howard Taft and Woodrow Wilson – incorporated strong planks in their
platforms for stronger government action against the rising power of big business
(Chandler & Tedlow, 1985, Ch.21, pp. 551–580). The contemporaneous corporate
sponsorship of pension programs, however, tended to offset this negative percep-
tion. It seemed to reflect the ability of giant enterprise to contribute to progress by
materially improving worker welfare. It also augmented the public image of big
business because such programs promised to resolve a serious social problem that
government had hitherto not been able to address adequately (Marchand, 1998).
Pension development modified the relationship between major enterprise
stakeholder groups by establishing new contracts and channels of communication.
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First, authoritative guidance for reporting pension liabilities remained obscure during
this era. The chief regulatory agency, the Interstate Commerce Commission (ICC),
which had responsibility for prescribing uniform accounting reports for the telephone
industry under the Mann Elkins Act of 1911, encouraged disclosure but did not detail
measurement methodologies. Most state oversight authorities followed the federal
example. Moreover, the problem of pension accounting was not addressed by any
professional accounting body until the Committee on Accounting Procedure at the
American Institute of Accountants (forerunner of the American Institute of Certified
Public Accountants) issued Accounting Research Bulletin 47 in 1956. Second, the firm
was compelled to draw on the expertise of external actuarial consultants to define the
provisions of the pension plan and to implement actuarial methods. Third, the evolu-
tion of the plan affected the relationship between the firm and governmental officials
who decided which costs could be deducted for tax purposes and which could be
included in the rate base. Fourth it led to the development of new relationships with
financial institutions, who took on the responsibility of maintaining custody over pen-
sion resources. Fifth, the new contracts modified the claims on the division of corpor-
ate cash flows between investors, management and employees.
In evaluating the Bell system’s experience with pension accounting we draw
upon an analytical construct, the “integrated learning base”, put forth by Alfred D.
Chandler in The Electronic Century. This line of inquiry focuses on the ways that
firm-specific learning for such new activities as pension management functioned as
a driver of organizational change. This knowledge building becomes embedded
within businesses by shaping the development of managerial procedures and
organization. In the Chandlerian model, a firm’s ‘‘integrated learning base’’ may be
broken down into three major components. The first, ‘‘technical capacities’’, relates
to the ability of the firm to foster growth through the exploitation of technology
and the creation of new products, processes or services. The second, ‘‘functional
knowledge’’, involves a broad array of supporting activities necessary to commer-
cialize innovation such as manufacturing, marketing, distribution. The third, ‘‘organ-
izational capacities’’, include such high level staff activities as defining strategies,
allocating resources, coordinating operations and evaluating performance (Chandler,
2001, Ch.1, pp. 1–12).The drive to extend learning about pension liabilities in the Bell
System primarily affected the development of functional knowledge and organiza-
tional capabilities while having virtually no impact on technical capacities. Moreover,
the principal factors that limited the scope of this initiative were, as we shall see, the
sufficiency of internal funds to finance change and the policies defined by both tax
and regulatory authorities for the treatment of such expense items.
The following sections of this study evaluate these and other questions about
the Bell System pension experience. The second section analyzes the cash-basis
system that was launched in 1913. The third considers the factors that impelled the
firm to establish an actuarial-based system of pension accounting in 1927. The
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fourth section reviews the actuarial methods used by AT&T to compute its pension
liability. The fifth section discusses some of the problems encountered in liability
estimation and how this influenced managerial effectiveness and regulatory com-
pliance. The last section discusses what this experience tells us about the nature of
the learning at the Bell System and its role in shaping the development of organ-
izational capacities.
2. The pay-as-you-go system, 1913–27

On 1 January 1913, AT&T established its first system-wide pension plan. It was
financed through an employee benefit fund, which also provided compensation for
sickness, disability and death liabilities. The new arrangement sought to promote
the broader goal of the universal system program for enhancing managerial effect-
iveness by making the economic interests of employees and the corporation more
concentric (Marchand, 1998, p.117). President Theodore Vail stressed these mutual
benefits in announcing the approval of the plan:
The intent and purpose of the employer in establishing a plan of benefits is to

give tangible expression to the reciprocity which means faithful and loyal service
on the part of the employee, with protection from all the ordinary misfortunes to
which he is liable; reciprocity which means mutual regard for another’s interest
and welfare. (House of Representatives, 1939, p.455)
The firm’s labor force was classified into three functional groupings. Group 1, span-
ning job classifications 100 to 600 that included the managerial, professional and
technical labor, were the primary beneficiaries of the plan. This highly educated and
skilled cadre consisted of “general officers and their assistants; operating officials
and assistants; attorneys and right-of-way agents; engineers, draftsmen, surveyors and
student engineers; and accountants”. Category 2 consisted of clerical employees
and Group 3 represented all other workers (Federal Communications Commission
[FCC], Exhibit 136, 1937, p.5).
The pension program helped to satisfy regulatory imperatives for efficient
service by addressing the problem of “superannuation”. By 1915, 40 states had estab-
lished oversight commissions who in evaluating rate increase requests considered
the firm’s record in satisfying two mandates (AT&T, 1916, p.28). These were: econ-
omy, which related to the reasonableness of the cost of service; and efficiency, which
related to the quality, reliability and promptness of service (Miranti, 2005, p.47).
Pensions softened the economic adjustment caused by mandatory retirement at
70 for employees whose work efficiency may have declined because of the onset of
old age. Such a policy was further deemed beneficial because it created opportunity
for advancement for younger employees who, because of rising national educational
standards, may have possessed a more desirable range of skills than typically found in
the older generation of employees. Personnel shortages, however, during World War I
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led to the abandonment of this rule in 1917. It was not reinstituted until 1930 when it
was set at 65 (FCC, Exhibit 581b, 1936, p.2). The revised age rule led to a sharp jump
in retirements between 1930 and 1934. During that period, 4,332 employees retired
(3,347 males and 985 females), representing 72 percent of the total pensioned
retirees since the plan’s inception (FCC, Exhibit 581b, 1936, p.1).
The pension plan employed three vesting classifications. The first, Class A,
had a guarantee of a pension if they reached age 60 for men and 55 for women and
had 20 years service. There was no vesting period specified, but effectively, the
vesting period was 20 years. The pension benefit amounted to one percent for each
year of service times the employee’s last 10 years’ average income. Although the
other two alternatives used the same benefit base, they were not guaranteed but
depended on the discretion of an employee benefits board made up of senior cor-
porate executives. Class B pensions required 25 or more years of service for male
employees aged 55–9 and for female employees aged 50–4. Class C pensions
required 30 years of service and age of less than 55 for men or 50 for women (FCC,
Exhibit 583, 1937, pp.23–38).
It is clear that pension benefits vastly favored the high ranking employees, due
to longer terms of service, steeper salary trends and a more generous pension plan
that did not provide a ceiling on pension payments. For comparable years of service,
higher salaried employees like Executives and Vice-Presidents received a pension
that was a much larger percentage of average salary than lower salaried employees
like janitors and clerks. In the New York Telephone Company, for instance, a select
group of retired executives received pensions amounting to US$1,050 per month,
which was about 15 times the average pension paid to other pensioners in the com-
pany. For the Bell Telephone System as a whole, as of 31 December 1934, 33 former
executives (0.7% of the total pensioners) received average monthly pensions of
US$903 each, while 2,300 low-salaried employees (46.4% of pensioners) received
average monthly payments of only US$36 each. There was also a strong gender dis-
parity in employment and pensioners.The number of male pensioners was more than
three times the number of females in 1934. Figure 1 shows the trend in the number of
pensioners by gender added to the service pension rolls in the period 1913–34. By and
large the male–female ratio held steady during the entire period. Further, female pen-
sioners received much lower pension amounts relative to male pensioners, as most of
them were low-level employees. The pensioners at the lowest end of the benefit spec-
trum were predominantly female (FCC Exhibit 136, 1936, Special Docket No.1).
From 1913 to 1927 the fund had no specific assets and simply represented an
appropriation of the earned surplus on the books of the parent and each of the par-
ticipating operating subsidiaries. Although each of the 59 active corporations with-
in the system had separate pension contracts, their details were in broad conformity
with one another. AT&T the parent company served as the custodian. Payments of
benefits reduced the appropriation and were charged off against operating expenses.
The initial appropriations amounted to US$8.9m. The fund accrued interest at four
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Figure 1: Number of pensioners by gender added to service pension

rolls at Bell System 1913–34
1800
1600
1400
1200
1000 Total
Male
800 Female
600
400
200
0
0
1
2
3
4
5
6
7
8
9
0
1
2
3
4
13
8
9
14
7
15
191
191
191
191
192
192
192
192
192
192
192
192
192
192
193
193
193
193
193
19
19
19
Year
Source: Data contained in FCC Accounting Department – Telephone Investigation, Special Investigation
Docket No. 1: Report on Bell Telephone System Pension Plan, 6 April 1936.
percent on its outstanding balance. Payments from the fund, however, were restricted
to a maximum of US$500,000 annually for the operating subsidiaries and up to 0.2
percent of payroll for AT&T, the parent. It increased from 1 January 1913 to 1 July
1928 by US$26.5m because of additional appropriations and by US$50.5m because
of accrued benefit expenses. The fund paid out benefits amounting US$51.3m dur-
ing this period of which only US$4.2m represented pension payments. By the end
of the first stage the benefit appropriation amounted to US$34.8m (FCC, Exhibit
583, 1937, p.75).
With the inception of the federal income tax in 1913, pension plans provided
tax deductions to the sponsoring company. They could deduct pension benefit pay-
ments and deferred annuity premiums as business expenses. In 1918, these deduc-
tions were expanded to include contributions to pension funds organized separately
from the sponsoring company. In 1921, pension trusts were also exempt from paying
taxes on investment income. Further, employees were taxed only when they received
pension income.2 The 1928 Revenue Act provided tax deductions to pension plan
sponsors who shifted assets to trusts or insurance companies to fund pension liabil-
ities. For funding that represented previously accrued liabilities, the deduction had
to be spread over a 10-year period (Sass, 1997, pp.102–9).
The pension fund’s accounting structure also benefited a capital-hungry firm
like AT&T with many internal investment opportunities to finance. The benefit
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appropriations reduced the amount of earned surplus that could qualify for pay-
ment as dividends to shareholders. This was advantageous as the firm became
deeply committed to the development of automatic switching capabilities for a
rapidly growing telecommunications market (Gherardi & Jewett, 1930, pp.21–2).
Unlike death, disability and sickness payments, which remained relatively con-
stant as a percentage of payroll, pension payments increased at a faster pace. The
firm paid out over US$47m in non-pension benefits in 546,112 cases during its first
15 years – costs that would have been incurred even if there had been no benefit
plan. Pensions payments, on the other hand, grew from US$20,000 or 0.02 percent of
payroll in 1913 to US$633,701 or 0.15 percent of payroll in 1927 (FCC Exhibit 583b,
1937, Appendix 15, Sheet 1). The accelerating trend worried management especially
in light of the failure of the Morris Meatpacking Company’s pension plan in 1923
(Sass, 1997, pp.56–7). Moreover, the annual cost at some subsidiaries began to
exceed the upper boundaries specified earlier with respect to absolute dollars and
percentages of overall payroll. As we shall see in the next section, these new pres-
sures relating to pension finance soon motivated the firm to explore the utilization
of an actuarially-based system in order to better control costs.
3. The transition to actuarial-based pension costing

AT&T switched to actuarial-based pension accounting in 1927. It was also possibly
the first major uninsured corporate sponsor to employ an in-house actuary to
determine its funding obligations based on future projections during the employ-
ees’ active working years (Sass, 1997, p.83). AT&T’s receptivity to the use of proba-
bility theory and actuarial methods for enhancing control over the uncertainties
and risks in pension management was partially rooted in its pioneering use of this
knowledge for solving engineering problems. Beginning in 1905 the firm began to
apply probability theory to the problems of message queuing and later in the design
of automatic switching stations (Miranti, 2002). In 1912, it had applied probability
theory to plan the disposition of magnetic loading coils for enhancing the power
and range of its telephone signals in building its first coast-to-coast long distance
line (Crisson, 1925). By the 1920s, Bell engineers had created the intellectual foun-
dations of statistical quality control, which used probability theory to bolster the
effectiveness of product inspection activities (Miranti, 2005). During this same era
the firm also applied this special knowledge for estimating the useful lives and
depreciation rates for its enormous investment in fixed assets (FCC, 1937; AT&T,
1957, Chs.5–6).
As part of Theodore Vail’s reforms, AT&T began to build up its accounting and
statistical capacities by forming in 1909 a statistical division under the direction of
Malcolm C. Rorty. This unit included the accounting department, which among other
duties, subsequently had responsibility for pension liability reporting. It also included
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a special telephone statistics group, which monitored the performance of both Bell
associated companies and competing independent telephone enterprises. In 1912,
the division created a public utility section to analyze rate regulatory data nationwide
and the efforts of some advocacy groups to promote telephone nationalization. After
World War I, Walter S. Gifford became division chief and expanded its scope by
launching departments for financial and economic statistics, special statistical analy-
sis, statistical methods and mathematical studies (Miranti, 2002, pp.743–4).
The accounting department began studying the feasibility of shifting to an actu-
arially based system in August 1924. The comptroller, Charles A. Heiss, assigned his
assistant P.W. Saxton to determine what the firm’s actual liability was assuming a six
percent interest on fund balances. Saxton estimated that the balance would amount
to US$94m at the end of 1925. Its funding would require a US$74m appropriation of
surplus. This represented about a third of AT&T’s surplus (less capital stock pre-
miums). Moreover, the allocation of this burden to the operating subsidiaries would
drastically reduce their combined equities from about US$82m to US$12m. Some
subsidiaries such as Pacific Bell, Illinois Bell and New England Telephone did not
have sufficient equity to offset their proportional burdens. Saxton also pointed out
that the payments to cover the interest on fund balances might not qualify as operat-
ing expenses and, thus, might not be considered as part of the recoverable costs in rate
cases before commissions or courts (FCC, Exhibit 583g, 1937, Appendix 21).
Based partly on this report, Heiss recommended on 10 August 1926 the meas-
urement of pension liabilities on a full accrual basis and the use of actuarial-based
estimation. In his view the prevailing pay-as-you-go system materially understated
the firm’s true pension liability and also the amounts that might ultimately be re-
covered through charges to the firm’s rate base. He identified three alternatives for
measuring these costs. The first involved spreading pension costs over the estimated
lives of all retired employees. The second spread the costs over the lives of active
employees after their fifteenth year of service. The last allocated such costs over an
employee’s entire working life (FCC, Exhibit 583a, 1937, Appendix 10).
In 1927, the firm initially embraced actuarially based pension accounting and
selected the 15-year service option in calculating pension costs. Corporate attorney
Roscoe T. Holt researched precedents in the law to better define the firm’s commit-
ments to employees; corporate general counsels, R.T. Guernsey and C.M. Bracelen,
considered the organization of the new arrangements and their impacts on the
regional subsidiaries (FCC, Exhibit 583d, 1937,Appendix 17; FCC, Exhibit 583e, 1937,
Appendix 18).A key change involved the abandonment of the surplus appropriation
in favor of the establishment of an irrevocable trust fund for maintaining pension
assets at Bankers Trust Company, which served as custodian (FCC, Exhibit 583, 1937,
pp.36–40). AT&T, however, retained the power to manage the fund. Payments for
sickness, disability and death continued on a pay-as-you-go basis. The new contract
abandoned the old limits of two percent of payroll or US$500,000. Under the new
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plan and subsequent revisions, interest accrued on the total pension liability obliga-
tion at four percent per annum. The Interstate Commerce Commission and most
state authorities accepted the arguments that pension payments were part of em-
ployee compensation and, thus, a valid operating expense that impliedly could be
included in the rate base (FCC, Exhibit 583, 1937, pp.15–16). In 1928, the reserve in
the corporation’s equity held for the employee benefit fund was discontinued and
its balance of US$34.8m was paid into the trust fund at Bankers Trust (House of
Representatives, 1939, p.463).
The move to accrual accounting resulted in a sharp increase in the amount of
pension expense recognized. As seen in Figure 2, pension expense as a percentage
of net income shows a steep jump in 1927. The year 1927 also saw a steep increase
in revenues of the parent company, largely as a result of increased dividend rev-
enues from the subsidiaries. The increased revenues were able to more than absorb
the increased pension accruals, allowing for a sharp increase in net income as well
(Figure 3).
Another committee composed of Heiss, corporate attorney, John H. Ray and
statisticians, Harry J. Brandt and S.L. Andrew, recognized that the transition to an
actuarial based pension system would place stress on the finances of some associ-
ated companies and required a significant investment in new corporate learning
about how best to compile, analyze and report data for about a quarter of a mil-
lion employees. They believed that it would take several years for the firm to
develop such internal capabilities. For these and other reasons, they believed that
Figure 2: Pension expense as a percentage of net income (1919–34)

0.1000
0.0800
0.0600
0.0400
0.0200
0.0000
19 3 25 27 29 31 33
1
2
2
19 19 19 19 19 19 19
19
Source: Derived from data and schedules contained in FCC Report on American Telephone and Telegraph
Company Corporate and Financial History, 1937.
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Figure 3: Revenues and net income 1919–34

$350,000
300,000
250,000
200,000 Revenue
Net income
150,000
100,000
50,000
0
1
3
19
3
19
19
19
19
19
19
19
19
Source: Derived from data and schedules contained in FCC Report on American Telephone and Telegraph
Company Corporate and Financial History, 1937.
a 10-year transition period was necessary to place the firm’s system on a full actuarial
basis (FCC, Exhibit 583d, 1937, Appendix 16). While the record is not clear, it seems
that such considerations may have influenced their recommendation that employee
pension costs be calculated beginning with the fifteenth year of service. The size of
the workforce had increased almost tenfold from 37,067 in 1900 to 364,045 in 1929.
Consequently, the selection of the 15-year measurement alternative significantly
reduced the size of the employee population and the corporate resources neces-
sary to support the analysis of pension costs. Moreover, the total payment of pen-
sion benefits (as opposed to accrued expenses) projected for 1927 was 0.17 percent
of payroll, an amount that was within the acceptable range under the old contract
(FCC, Exhibit 581, 1936, pp.11–14).
The new arrangement lasted only one year before the firm decided to
modify the plan by spreading pension costs over an employees’ entire working
life. In January 1928 a committee composed of President Walter P. Gifford, Vice
President David F. Houston and two board members, Charles Francis Adams and
J.S. Alexander, guided by the findings of two consulting actuaries, recommended a
change to full service costing, that is, spreading pension costs over the all of the
years of an employee’s service. The committee had engaged Joseph H. Woodward
of the firm of Woodward, Fondiller and Ryan of New York to test the validity of the
original actuarial-based pension costs. They also engaged consulting actuary
George H. Buck, who had helped to design the pension plan for the government of
New York City, to evaluate the current system and to propose changes for more
effective operation. Buck’s most influential suggestion involved beginning the cal-
culation of pension costs at the time of hiring rather than after the fifteenth year of
service. The main advantage of full service costing resided in the fact that it reduced
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the variability in annual pension service costs. Under Buck’s full service estimate
the normal pension cost would stabilize each year at about 2.7 percent of payroll
(not including any previous deficits for past service dating back to the plan’s incep-
tion in 1913). This was at a variance from the alternative 15-year calculation, which
was estimated to drive the annual pension cost percentage from 1.9 percent in 1929
to 5 percent during the 1930s (FCC Exhibit 583c, 1937, Appendix 15).
The choice of full service costing offered several advantages for both rate
hearings and corporate finance. First, in rate cases it seemed less likely that the
steady accrual rate of 2.7 percent under full service costing would be challenged as
unreasonable as compared to the rising rates under the 15-year alternative. Second,
the methodologies applied and the average cost percentages projected using the
full service method were expected to be acceptable to rate boards because they
closely approximated the experience and practice of several state pension funds.
Third, several of the financially weaker associated companies would find it less
onerous to bear a constant 2.7 percent projected annual normal pension charge
rather than the rising rates implicit under the 15-year rule alternative (FCC,
Exhibit 581, 1936, pp.124–9). Further, having a steady rate would make pension
accruals less uncertain and easier to account for.
More problematic, however, was the treatment of what AT&T accountants
called the “accrued liability”, or what modern accountants term “past service cost”,
for employee pension credits earned from the initiation of the original plan in 1913
to the adoption of the accrual system in 1927.At the end of 1926 this liability was esti-
mated to amount to US$177.8m. It was also not clear whether the past service cost
could be charged off against the rate base or would be required to be written off
against earned surplus by state regulators. George Buck persuaded the firm to meas-
ure these costs separately on the assumption that they would be amortized over a
30-year period. This would have raised the total pension cost accrual to 4.0 percent.
While Buck could not anticipate the outcome of future regulatory cases with respect
to past service costs, he believed it was imperative that the firm accurately measure
these balances to support future planning as to their eventual disposition. He also
believed that the firm should seek permission to increase its normal cost by an
amount necessary to cover the four percent annual charge assessed by the firm on
its total pension obligation. This would stop any further compounding of the prior
service liability. As we shall see later, however, the firm’s slowness in implementing
Buck’s recommendation concerning the funding of interest charges created regula-
tory difficulties during the 1930s (FCC, Exhibit 583b, 1937, Appendix 15).
Tax policy also influenced pension planning. The Revenue Act of 1928 facili-
tated the adoption of actuarially based systems. This law required the firm to file
both a copy of its pension plan and the actuarial calculations on which it is based
with the Internal Revenue Service. Qualifying plans could deduct both current pay-
ments to the pension fund and pension expense accruals. Pre-existing accumulated
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reserves such as those that existed on AT&T’s balance sheet since 1913 could also
be deducted for tax purposes over a 10-year period (Latimer, 1932, pp.660–4; Sass,
1997, pp.102–9).
The financial management of the fund sought both to stabilize its interest rate
and, thus, facilitate the calculation of the accrual and to subsidize the firm’s busi-
ness activities. Under the agreements with Bankers Trust, AT&T and its associated
companies retained the right to structure their individual corporate portfolios.
AT&T fully funded its pension liability by depositing its own demand notes in the
trust fund maintained at Bankers Trust. These notes initially paid annual interest of
5.5 percent. Later, during the Great Depression in 1932 the firm reduced the inter-
est on these notes to four percent. This practice helped to simplify the projection of
future pension liability. It was also close to the long-term rates that the firm paid on
its debentures and provided an implicit subsidy to the firm whose long-term returns
on net book value of fixed assets averaged 6.67 percent during the period 1913–35
(FCC Exhibit 582, 1936, pp.65–74). The funded pension balance increased from
US$6.6m in 1927 to US$151m in 1935 (FCC, 1936, Exhibit 582, p.16).
During the Great Depression, AT&T began to diversify the assets in its pen-
sion fund by beginning to purchase its own debentures and those of its subsidiaries
and US Treasury securities. The firm began to acquire its debentures partly as an
effort to maintain a market for these securities during a period of severe financial
stress. Since 1920, AT&T had made a strong effort through the formation of its
financing subsidiary, the Bell Securities Company, to broaden public holding of its
securities, particularly bonds (AT&T, Annual Report 1922, p.16; FCC Exhibit 250,
1936, pp.1–16). Ownership had been heavily concentrated in New York and
Massachusetts. The sale of debentures for the regional subsidiaries would broaden
support for the companies and its policies nationwide and in that way also help to
smooth its relationships with state regulatory authorities in the South and the West
whose members may have harbored fears about the dominance of “Eastern” busi-
ness and financial interests. Without the market support efforts of the firm, such
relationships may have been jeopardized because of the capital losses experienced
by bondholders in otherwise illiquid markets. The shift to debentures in pension
finance also better enabled the firm to deflect criticism of using securities whose
values were set administratively rather than through the operation of market
forces. Moreover, the firm’s trading activities held out the promise of capital gains
that would contribute to lower pension costs. Later, the Illinois subsidiary began
to acquire US Treasury securities (FCC, Exhibit 582a, 1936, Appendix 6). This lat-
ter choice may have reflected a growing concern about investment risk and liquid-
ity with the long continuation of the Great Depression. It may have also reflected
the diminishment of opportunities to purchase corporate securities with the eco-
nomic slowdown and the inter-corporate financing restrictions imposed by the
Public Utilities Holding Company Act of 1935.
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4. Computational methodology: normal pension cost

The data employed in calculating the pension obligation derived largely from an
annual census that the firm had originally started to compile in 1920 under the
direction of Walter P. Gifford. Donald T. Belcher, the assistant statistician in charge
of pension measurement, decided that firm-wide averages derived from the census
represented a more efficient way of developing statistically relevant information
rather than undertaking individual calculations for each subsidiary entity. In add-
ition, differences in employment patterns apparent in the census induced Belcher
and his cohorts to stratify the analysis of data on the bases of gender and age at
time of employment. They discovered a reasonable degree of homogeneity when
they disaggregated the data between men and women and between six employ-
ment age strata: 15–20, 20–5, 25–30, 30–5, 35–40 and 40–5. The specific factors from
whence the annual accrual rate for normal pension cost derived included estimates
of: (1) the future separation from employment for all causes; (2) future wage pay-
ments; (3) the amount of the pension; and, (4) the present value of future pension
payments. For these and other calculations the comptroller’s department used five
year moving averages in order to smooth any unusual fluctuations.The firm regressed
this data through a process of “graphical gradation” for projecting to future periods
what was termed the “observed rates” of change for total costs or any of its compon-
ent elements.The estimates of the mortality of retired employees derived from a stan-
dard insurance industry reference, The American Annuitant. In addition, the estimate
also incorporated an annual interest rate assumption that amounted to four percent
on fund balances beginning in 1932 (FCC, Exhibit 583g, 1937, Appendix 31).
In estimating probable service periods, Belcher’s department employed a
methodology similar to that used by insurance companies to create mortality tables
from a record of insured lives. Table 1 projects a hypothetical separation rate for
each year for a class of male employees of 10,000 entering service at age 25. The
annual separation rate for each year derives from the smoothing using graphical
gradation of five years of data. Implicit in this analysis is an exceptionally high rate
of turnover during the first five years of service (over 65 percent), the period under
current Employee Retirement Income Security Act (ERISA) regulations required
to vest fully in a pension plan. The example also indicates that only 14.6 percent of
the employees beginning careers at age 25 were expected to receive a pension
(FCC, Exhibit 581a, 1936, Appendix 1).
A similar pattern was also followed in projecting lifetime wages for the
group. Table 2 reports total employees who joined at age 25 and their expected
average wages over the course of their careers. Like the separation rates, the wage
data resulted from a projection based on a graphical regression of five years’ data.
Each year’s total wage is the year’s average wage times the number of employed
workers (FCC, Exhibit 581a, 1936, Appendix 1).
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Table 1: Development of probable service history*

(1) (2) (3) (4) (5) (6)
Year Age at Number 1/2 to t

Separation from service during term t 1/2
of beginning in service
service of year at middle Service Withdrawals, Total
t x of year pension deaths, and (4) (5)
retirements disability
retirements
1 25 10,000 – 4,288 4,288

2 26 5,712 – 1,089 1,089
3 27 4,623 – 536 536
4 28 4,087 – 360 360
5 29 3,727 – 264 264
6 30 3,463 – 203 203
7 31 3,260 – 162 162
8 32 3,098 – 132 132
9 33 2,966 – 110 110
10 34 2,856 – 93 93
11 35 2,763 – 80 80
12 36 2,683 – 69 69
13 37 2,614 – 60 60
14 38 2,554 – 53 53
15 39 2,501 – 48 48
16 40 2,453 – 43 43
17 41 2,410 – 39 39
18 42 2,371 – 37 37
19 43 2,334 – 34 34
20 44 2,300 – 32 32
21 45 2,268 – 31 31
22 46 2,237 – 29 29
23 47 2,208 – 28 28
24 48 2,180 – 29 29
25 49 2,151 – 30 30
26 50 2,121 – 32 32
27 51 2,089 – 35 35
28 52 2,054 – 38 38
29 53 2,016 – 41 41
30 54 1,975 16 36 52
31 55 1,923 33 39 72
32 56 1,851 33 43 76
33 57 1,775 34 45 79
34 58 1,696 36 48 84
35 59 1,612 84 50 134
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Table 1: (continued)
Year Age at Number 1/2 to t

Separation from service during term t 1/2
of beginning in service
service of year at middle Service Withdrawals, Total
t x of year pension deaths, and (4) (5)
retirements disability
retirements
36 60 1,478 62 52 114
37 61 1,364 48 54 102
38 62 1,262 38 56 94
39 63 1,168 32 59 91
40 64 1,077 1,047 30 1,077
TOTAL 1,463 8,537 10,000
*Male employees entering service at age 25.
Table 2: Determination of total wage payments*
(1) (2) (3) (4) (5)
Year Age at Number Average Total wage

of beginning in service yearly payments during
service of year at middle wage year (3) (4)
t x of year ($) ($)
l 25 10,000 1,377 13,770,000

2 26 5,712 1,604 9,162,048
3 27 4,623 1,779 8,224,317
4 28 4,087 1,902 7,773,474
5 29 3,727 1,998 7,446,546
6 30 3,463 2,081 7,206,503
7 31 3,260 2,155 7,025,300
8 32 3,098 2,225 6,893,050
9 33 2,966 2,292 6,793,072
10 34 2,856 2,356 6,728,736
11 35 2,763 2,420 6,636,460
12 36 2,683 2,484 6,664,572
13 37 2,614 2,547 6,657,858
14 38 2,554 2,611 6,668,494
15 39 2,501 2,674 6,687,674
16 40 2,453 2,738 6,716,314
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Year Age at Number Average Total wage

of beginning in service yearly payments during
service of year at middle wage year (3) (4)
t x of year ($) ($)
17 41 2,410 2,800 6,748,000

18 42 2,371 2,861 6,783,431
19 43 2,334 2,921 6,817,614
20 44 2,300 2,980 6,854,000
21 45 2,268 3,038 6,890,184
22 46 2,237 3,095 6,923,515
23 47 2,208 3,150 6,955,200
24 43 2,180 3,205 6,986,900
25 49 2,151 3,258 7,007,958
26 50 2,121 3,309 7,018,389
27 51 2,089 3,358 7,014,862
28 52 2,054 3,405 6,993,870
29 53 2,016 3,450 6,955,200
30 54 1,975 3,493 6,898,675
31 55 1,923 3,533 6,793,959
32 56 1,851 3,570 6,608,070
33 57 1,775 3,605 6,398,375
34 58 1,696 3,637 6,168,352
35 59 1,612 3,667 5,911,204
36 60 1,478 3,694 5,459,732
37 61 1,364 3,717 5,069,988
38 62 1,262 3,738 4,717,356
39 63 1,163 3,755 4,385,840
40 64 1,077 3,769 4,059,213
The determination of the amount of pension payments for each class can be
assessed by multiplying the number of employees retiring each year (Table 1,
Column 4) by their last 10 years’ average wage (derivable from Table 2, Column 4)
times a percentage equal to the total number of years of company service (FCC,
Exhibit 581a, 1936, Appendix 1).
The present value of the pension at the grant date depends on the amount of
the pension, the duration of the pensioner’s life and the interest rate used to dis-
count the annuity (see Table 3). The Bell System used life expectancies derived from
the American Annuitant, a standard reference used in the insurance industry. The
discount factor was four percent, which besides being a standard in the insurance
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Table 3: Determinations of present worth of pensions at time of granting*

(1) (2) (3) (4) (5) (6) (7)
Year Age Service Average Total amount Annuity Present worth

of at end pensions yearly of pensions factor of pensions
service of year retirements pension granted for age at granting
t x at age ($) (3) (4) x (5) (6)
x ($) ($)
30 55 16 983 15,728 12.22729 192,311

31 56 33 1,031 34,023 11.92476 405,716
32 57 33 1,080 35,640 11.62003 414,138
33 58 34 1,128 38,352 11.31353 433,897
34 59 36 1,177 42,372 11.00546 466,323
35 60 84 1,226 102,984 10.69618 1,101,535
36 61 62 1,275 79,050 10.38641 821,046
37 62 48 1,324 63,552 10.07614 640,359
38 63 38 1,372 52,136 9.76591 509,155
39 64 32 1,420 45,440 9.45609 429,685
40 65 1,047 1,467 1,535,949 9.14729 14,049,771
Table 4: Determination of rate of accrual*
(1) (2) (3) (4) (5) (6) (7) (8)
Year Age Wage payments Pension payments

of at be- Total Discount Present Present Discount Present
service ginning during factor worth worth factor worth
t of year year (1.04)-t 1/2 at entry at granting (1.04)-t at entry
x ($) (3) (4) ($) (6) (7)
($) ($)
1 25 13,770,000 .98058063 13,502,596 – – –

2 26 9,162,048 .94236604 8,638,584 – – –
3 27 8,224,317 .90660196 7,456,182 – – –
4 28 7,773,474 .87173266 6,776,391 – – –
5 29 7,446,546 .83820447 6,241,728 – – –
6 30 7,206,503 .80596584 5,808,195 – – –
7 31 7,025,300 .77496716 5,444,377 – – –
8 32 6,893,050 .74516072 5,136,430 – – –
9 33 6,798,072 .71650070 4,870,823 – – –
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Year Age Wage payments Pension payments

of at be- Total Discount Present Present Discount Present
service ginning during factor worth worth factor worth
t of year year (1.04)-t 1/2 at entry at granting (1.04)-t at entry
x ($) (3) (4) ($) (6) (7)
($) ($)
10 34 6,728,736 .68894298 4,635,715 – – –

11 35 6,686,460 .66244517 4,429,413 – – –
12 36 6,664,572 .63696651 4,245,109 – – –
13 37 6,657,858 .61246780 4,077,724 – – –
14 38 6,668,494 .58891135 3,927,152 – – –
15 39 6,687,674 .56626091 3,786,968 – – –
16 40 6,716,314 .54448164 3,656,910 – – –
17 41 6,748,000 .52354005 3,532,848 – – –
18 42 6,783,431 .50340389 3,414,806 – – –
19 43 6,817,614 .48404220 3,300,013 – – –
20 44 6,854,000 .46542519 3,190,024 – – –
21 45 6,890,184 .44752423 3,083,524 – – –
22 46 6,923,515 .43031175 2,979,270 – – –
23 47 6,955,200 .41376130 2,877,793 – – –
24 48 6,986,900 .39784740 2,779,720 – – –
25 49 7,007,958 .38254558 2,680,863 – – –
26 50 7,018,389 .36783229 2,581,590 – – –
27 51 7,014,862 .35368489 2,481,051 – – –
28 52 6,993,870 .34008163 2,378,487 – – –
29 53 6,955,200 .32700156 2,274,361 – – –
30 54 6,898,675 .31442458 2,169,113 192,311 .30831367 59,293
31 55 6,793,959 .30233133 2,054,027 405,716 .29646026 120,279
32 56 6,608,070 .29070320 1,920,987 414,138 .28505794 118,053
33 57 6,398,875 .27952231 1,788,628 433,897 .27409417 118,929
34 58 6,168,352 .26877145 1,657,877 466,323 .26355209 122,900
35 59 5,911,204 .25843409 1,527,657 1,101,535 .25341547 279,146
36 60 5,459,732 .24849431 1,356,712 821,046 .24366872 200,063
37 61 5,069,988 .23893684 1,211,407 640,359 .23429685 150,034
38 62 4,717,356 .22974696 1,083,798 509,155 .22528543 114,705
39 63 4,385,840 .22091054 968,878 429,685 .21662061 93,079
40 64 4,059,213 .21241399 862,234 14,049,771 .20828904 2,926,413
TOTAL 146,789,965 4,302,894
4,302,894
Accrual rate .029313271
146,789,965
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industry, also was equivalent to the rate used by AT&T to accrue interest annually
on its pension obligation. The present value of the pension income at date of grant
is equivalent to the total projected pension payment times a four percent annuity
factor (FCC, Exhibit 581a, 1936, Appendix 1).
The determination of the annual accrual rate for pension cost is derived from
dividing the present value of all wage payments by the present value at the date of
entry of the projected pension benefit discounted at four percent (see Table 4).
The resultant rate when applied to each year’s wages should accumulate a balance
sufficient to fund the entire pension costs for the class of employees at their
retirement (FCC, Exhibit 581a, 1936, Appendix 1).
5. Computational problems and their effect on management and

regulatory compliance
While the creation of the actuarial-based system represented a great achievement
for the Bell System, the data and methodologies that it employed to measure pen-
sion liabilities in some cases complicated management and regulatory relationships.
Problems of data quality adversely affected liability estimation. The firm had
rejected as too costly a recommendation made by Woodward, Fondiller and Ryan
that all 350,000 Bell System employees be required to submit annual information
cards to support the pension accrual. Instead, it relied on a general annual census
that later was discovered to be fraught with many compilation errors. One such
problem was that of “negative separation”. This involved the subsequent discovery
that previous years’ separation data was misstated. Some of these errors resulted
from employee carelessness and inattentiveness. In other cases the discrepancies
arose because of the inability of the census documents to track accurately special
employment circumstances. One such condition was the transfer of personnel
between various corporate entities within the Bell System. Another called “service
breaks bridged” related to the inability of the census reporting system to account
adequately for credit earned from previous company service for employees that
were subsequently rehired (FCC, Exhibit 581, 1936, pp.47–57).
The system-wide averages used to determine pension costs for the parent
and its associated companies also at times deviated significantly from the experi-
ence of individual operating subsidiaries. The resultant accrual rates, derived from
averaging the experience of many different subsidiaries, often seemed at a vari-
ance with experience in particular operating units. Moreover, questions about the
reliability of such rates also could weaken a subsidiary’s claim in rate hearings as
to the reasonableness of such charges for inclusion in the allowable rate base.
Because of this and other factors, top management contemplated centralizing the
pension function at AT&T and charging back to the subsidiaries their allocable
costs through the annual management fee (FCC, Exhibit 581, 1936, pp.66–8).
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Radical changes in market circumstances also undermined pension accrual

estimation. The projection of trends developed from regressing base period data
implied the continuance of past trends into the future. The turning point was the
Great Crash and Depression, which was not adequately adjusted for in the firm’s
development of separation and wage rates. During the early years of the 1930s the
firm continued to base these projections in part on pre-crash data. This probably
reflected a belief that the economic downturn would not be as deep and as long
lasting as it turned out to be. Consistent with that perception was the corporation’s
promise to restore all laid-off workers to full pension benefits if rehired within two
years. Because of the slowness of the recovery, regulators came to believe that the
firm’s methodologies contributed to an over accrual of pension costs through 1934
(FCC, Exhibit 581, 1936, pp.63–6).
The culmination of the process of extending functional capabilities at AT&T
for accruing pension costs experienced an ironic twist when it surfaced as a public
issue during what some historians have termed the “Second New Deal”. In contrast
to the first New Deal where the policy emphasis had been on the stabilization of
prices and markets, the focus of the second New Deal shifted about 1935 to concerns
about monopoly, social welfare, workers’ rights and income stabilization. This latter
era witnessed the passage of the Social Security Act of 1935, which funded old age
benefits for retirees, the Wagner Act, which strengthened the bargaining position of
labor, the formation of Temporary Economic Commission, which focused on the
problems of industrial concentration and tax rules that created penalties for corpor-
ations that failed to recirculate their profits by making either internal investments
or payments to shareholders (Leuchtenberg, 1963, pp.132–3, 150–2, 257–9).
The Social Security Act helped to alleviate the pension burden. Like many
other corporations with such plans, the Bell System decided to reduce pensions
paid to employees beginning in 1942 by an amount equivalent to the company’s
contribution to Social Security. That year the IRS implemented Commissioner
Beardsley Ruml’s recommendation of collecting taxes at the source. This mandated
employers to withhold taxes and social security payments on behalf of the federal
government. From that point the pension benefit received by retirees would be
reduced by that half of the social security payout that had been financed by the
company’s contribution.
Concerns about a broad range of policies at the Bell System were also high
on the agenda of the Federal Communications Commission formed in 1935 to take
over among other duties national responsibility for regulating the telephone
industry from the ICC. The FCC’s investigation, which was financed by a special
appropriation from the House of Representatives beginning in 1935, was con-
tentious and led to the issuance of two reports. The first entitled Proposed Report:
Telephone Investigation appeared in 1938 and was followed the next year by a final
version entitled, Report on the Investigation of the Telephone Industry. In addition,
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a staff expert, Nestor R. Danielian (1939), also published a book critical of the Bell
System based on the findings of this investigation entitled, A.T. & T.: The Story of
Industrial Conquest. The main criticisms that emanated from these sources princi-
pally related to the adverse impact that portfolio financing policies and the prob-
lems of future expense estimation had on the amounts of recoverable cost that the
firm could add to its rate base. In addition, these critics also called for a strength-
ening of employee rights in pension contracts and noted the uneven distribution
of benefits between executive cadres and other lower ranks within the corporation
(FCC, Exhibit 136, 1936, pp.11–39, 40–65).
The failure of the firm to implement on a more timely basis George Buck’s
1926 recommendation of funding the interest on the past service obligation con-
tributed to another controversy with the new federal regulatory agency. Several
Bell System subsidiaries elected to fund these balances in 1936, which by then
amounted to about US$11m annually, by charging them to operating expenses. The
delay in initiating this practice meant that its propriety for regulatory purposes
would not be decided by business-friendly bureaucrats of the Hoover administra-
tion but, instead, by the more critical staff of the New Deal’s FCC.
In Docket 5188 that was finally adjudicated in December 1942, the FCC dis-
allowed AT&T’s inclusion of interest payments on the unfunded liability carried
over from the 1913–27 period. This essentially disqualified these items for reim-
bursement through the rate structure. The FCC ruled that for regulatory purposes
these charges had to be applied directly to surplus and, thus, borne exclusively by
shareholders. The FCC was suspicious of any retroactive adjustments that would
materially affect the rate base, especially in this case where the firm had waited nine
years after it had originally been advised to make this change. The federal agency
also objected that the firm’s assessment of a four percent interest charge seemed
arbitrary and believed that the justification for any such changes should be incor-
porated formally within the context of its actuarial plan (FCC, 1942, Docket 5188).
The outbreak of World War II disrupted the momentum of further reform.
The resolution of many of the problems confronting the Bell System and the rest
of US industry experienced a long hiatus. The comprehensive reform of employee
pension rights had to await the passage of the Employee Retirement Income
Security Act of 1974 (Sass, 1997, Ch.8). The promulgation of accounting standards
for actuarially based pension systems, which resolved the question about the
treatment of past service costs and myriad other factors affecting pension liabil-
ities did not emerge until 1966 with the issuance of Accounting Principles Board
Opinion 8. Yet in spite of the slowness in institutional development, the Bell
System had played an important role not only in developing its own internal man-
agement system for pension costs but also in identifying the many technical issues
that would have to be addressed in the promulgation of formal financial accounting
standards.
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6. Conclusion
This experience relating to the development of the pension accounting and man-
agement system provides insight into two aspects about the nature of corporate
learning at AT&T. The first was concerned with the ways that the activities relating
to the implementation of several new forms of specialized knowledge gradually
became integrated within the firm’s organizational structure to facilitate operational
efficiency. The second involved the manner in which corporate actions pertaining
to pension matters shaped the relationship between the firm and the broader soci-
etal context in which it operated.
The primary focus of firm-specific learning relating to pension administra-
tion centered in the comptroller’s department in the statistics division. This unit
initially functioned at a disadvantage because of its lack of competency in actuar-
ial science, a shortcoming that directly contributed to the short-sighted decision to
operate the pension system on a pay-as-you-go basis. Initially, the firm tried to
manage these activities by relying on accounting information, a type of knowledge
that the comptroller’s department had deep experience with, in preparing financial
reports and undertaking cost analyses. But the historical perspective that perme-
ated accounting measurement practices proved to be inadequate in anticipating
rapidly changing future cost patterns associated with rising employment levels and
the need to attract and retain qualified employees. The reduction of risk in trying
to control contingent outcomes required a measurement system that could provide
reliable measures of prospective trends. Although the firm’s engineering depart-
ment had long used probability theory to confront operational uncertainties, the
comptroller’s department did not acquire such capabilities until after World War I
with the expansion of the statistics division under the leadership of Walter Gifford.
This led to the extension of the learning base through the recruitment of seasoned
statisticians and mathematicians that made possible the type of projective analysis
necessary to support an actuarially based system.
While such learning that relied heavily on the application of probability the-
ory helped to reduce the risk that the firm would be unable to anticipate and to
fund future liabilities, it had some shortcomings. The problems of inaccurate data
compilation marred pension calculus. A more serious difficulty derived from the
way that regression analysis was used to project future conditions. The utility of the
regression line slopes used for projective purposes depended on the continuance of
the past patterns from whence they were derived. The usefulness of such estimates,
however, declined markedly when the firm confronted the great economic discon-
tinuity that began with the Crash of 1929. Lacking an effective stochastic mech-
anism that could accommodate extreme variability and uncertainty, the corporate
estimating process only gradually was able to capture in its calculations the pro-
found economic changes that emerged in the 1930s. Fortunately, the phenomenon
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being measured extended over a very broad time horizon, thus making possible peri-
odic adjustments until the discovery of new trend lines that better reflected con-
temporary circumstances.
The learning and information costs associated with the development of the
actuarially based pension system were doubtless lower at the Bell System than simi-
larly situated unregulated firms because of the operation of the rate base. The costs
incurred in acquiring knowledge of measurement practices and associated organiza-
tional changes could generally be applied to the rate base and charged back to con-
sumers through the amounts they paid for telephone service. The ability to defray
such expenses, doubtless, made the Bell System management more inclined to experi-
ment in the development of new modes of management as well as technology.
AT&T’s receptivity to the development of mathematical solutions to com-
plex management challenges such as those inherent in pension administration was
reflective of its more general tendency to compensate for the lack of competitive
pricing information in the markets it monopolized (Miranti, 2002, 2005). The com-
pany had sought to overcome the lack of useful market pricing data by placing
greater reliance on very detailed statistical and accounting analyses of many busi-
ness functions. In this way the enterprise resembled a command economy that,
lacking the information benefits provided by competitive markets, relied on quan-
titative models in making resource allocation decisions. Probability theory repre-
sented a key tool in this analytical regime, which had been successfully applied by
the firm in confronting the uncertainties and risks encountered in earlier initia-
tives both in network planning and manufacturing quality control. The successful
application of probability theory to enhance operational efficiency and reduce risk
encouraged the later adaptation in the firm of probabilistic methods that had been
used in actuarial management since the eighteenth century.
During this era the Bell System had also learned much about the limitations
of pension plans as a means for stabilizing business by building employee loyalty
and reducing turnover. While the promise of deferred compensation benefits had
strong appeal to workers in an urban-industrial economy who otherwise might be
destitute in old age, the plan was imperfect to the extent that only a relative few
benefited from its provisions. About a quarter of million employees who qualified
for inclusion in the plan during this era did not receive pensions. Part of this was
due to the adverse effects of the Great Depression on employment levels. Part of
this also had to do with circumstances that bred alienation and dissatisfaction in
the work environment. The latter factor eventually motivated new learning in the
form of firm-sponsored labor studies such as the one conducted by Professor Elton
Mayo and his colleagues from the Harvard Business School at the Hawthorne plant
in the 1920s and 1930s.
The process of institutional discovery eventually revealed that the awarding
of retirement benefits over the long term became strongly skewed in favor of top
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and middle management echelons. Ultimately the pension plan at AT&T benefited
relatively few potentially qualifying workers, amounting to only about 15 percent
of total plan members. Moreover, as the FCC’s investigation revealed, the lion’s
share of benefits was allocated to Group 1 employees – the managers and super-
visors who had the skills and knowledge that the firm relied on to maintain its
complex network and to facilitate the transition to a new knowledge economy. In
this context the incipiency of the federal social security system proved beneficial
to the firm because of its indirect subsidization of the company’s plan. It also proved
to be better suited for providing old-age benefits for the many who would never
qualify for corporate pensions that required a 20-year vesting period.
Implicit in the evolution of the pension system was a significant shift involv-
ing the transformation of employees, particularly those in the firm’s managerial
cadre, into financial stakeholders through their collective claim on pension assets.
This transition had two aspects. First, under the plan’s original conception in 1913,
the accrual of employee benefits took the form of an appropriation of the after tax
profits of the firm retained in its earned surplus account. Shareholders became
compelled to surrender part of their wealth as reflected in the growing reserve for
employee benefits in the earned surplus account. But such an innovation had limits.
Rapid increase in the potential size of the appropriation because of workforce ex-
pansion could not be sustained without creating a crisis among investor groups,
particularly shareholders. The second transition emanated from the conversion to
an actuarially based system in 1927. In this latter case employees indirectly became
major creditors of the firm through the investment of most of the pension trust
funds assets in the debt obligations of AT&T and its associated companies.
With each transition in the evolution of a new pension system, the choice of
financial assets to fund pension obligations increased employee risk to the firm. It
was not until the 1930s that subsidiaries in Illinois demanded investments in US
Treasury securities. This may have resulted from the increasing perception of eco-
nomic risk deriving from a deepening depression. It may have also responded to
the increase in the transparency of fund financing practices through regulatory
investigations and concerns about how the public subsidization of these payments
through the rate base was being applied. It may also have reflected concerns about
the liquidity of the market for the firm’s debt instruments as the supply of new
debentures began to wane because of the general business decline.
The pension learning process at AT&T also suggests that management financ-
ing choices were conditioned less by the changes that they wrought on employee
risk to the firm and more on the overall level of business risk and range of invest-
ment opportunities open to the firm. During periods of rapid growth and increas-
ing investment opportunity, pension funding decisions increased retirees’ exposure
to the risk of the firm. From 1913 through 1929 the firm indirectly financed its ex-
panding operations in such key activities as automatic switching and long-distance
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service through the pension system by funding the obligation using corporate
equity, demand notes and debentures. This pattern, however, began to reverse with
the onset of the Great Depression. Part of this latter change reflected a decrease
in internal investment opportunities to fund because of the general recession.
Moreover, growing concerns about fiduciary responsibilities in an environment of
increasing economic uncertainty encouraged a shift toward low-risk US govern-
mental obligations.
The long-term learning associated with pension management also revealed a
growing primacy of the priorities of managerial capitalism over financial capital-
ism in firm governance. Control of the modern firm remained firmly in the hands
of professional managers. They defined the agenda for the advancement of the pen-
sion contract and successfully pushed for its implementation. Although their actions
were somewhat constrained by consumers through regulatory boards and by invest-
ors through the board of directors, the logic of pension creation proved irresistible.
Professional managers had two great advantages in this corporate policy debate.
They had better knowledge of the firm than outsiders. They also exercised great dis-
cretion in controlling the businesses daily operations. In the following decades the
pension system increasingly shifted firm resources from consumers and investors
to those employees fortunate enough to enjoy its benefits.
Finally, the experience of AT&T and other contemporary firms provided an
important lesson in the inherent limitations of private pension plans as vehicles for
overcoming the broad societal problems associated with old-age poverty. From the
perspective of prospective beneficiaries the probability of enjoying such benefits
eventually were revealed as being low. The uncertainty that the actuarially-based
pension scheme could not measure at the Bell System was the pattern of exogen-
ous economic change that directly impacted employment levels. This shortcoming
diminished the public image of the firm. The bright promise made during the
Progressive era of lifetime economic security for loyal service proved unattainable
for most because of the onset of the Depression. The social security programs of
the New Deal helped to overcome some of the shortcomings of private pension
plans. The federal system did so by making its benefits portable between employers.
The federal alternative was also less vulnerable financially because it did not depend
on the economic performance of any particular employer organization. Moreover,
the public system helped to shore up private plans when the latter reduced their
overall contribution to pension fund trusts by the amounts they were required to
contribute to social security on behalf of their employees.
Notes
1. American Telephone and Telegraph Company (AT&T) during the period covered
in the article was a holding company that dominated US telecommunications. Its
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primary constituents included:AT&T, the parent, which also operated the firm’s long-
distance business; Western Electric, a captive manufacturing arm; the Bell Telephone
Laboratories (formed in 1925); and several state and regional operating companies
that concentrated on providing local and toll service. In 1984, in compliance with an
anti-trust settlement with the US Justice Department, the Bell System was divided
into several separate businesses.Western Electric and the Bell Laboratories were spun
off as Lucent Technologies. The local operating companies were restructured as seven
independent regional operating systems. This left AT&T essentially with its long-
distance business. In 2005, SBC, one of the regional operating companies, acquired its
former parent and elected to continue its operations using the AT&T name.
2. In 1913, the top income tax rate was only seven percent. By the end of the First
World War, tax rates dramatically increased, with the top marginal rate at 77 per-
cent. The Revenue Acts of 1921, 1924, and 1926 sharply reduced income tax rates
in steps to about 25 percent from 1925 onwards.
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205-234 ACH-076036.

qxd 3/30/2007 11:34 AM Page 205

Keywords: Bell System; corporate learning; organizational capabilities;

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

2. The pay-as-you-go system, 1913–27

The intent and purpose of the employer in establishing a plan of benefits is to

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

Figure 1: Number of pensioners by gender added to service pension

Accounting History Vol 12, No 2 – 2007

3. The transition to actuarial-based pension costing

Chandar & Miranti: Actuarial-based pension accounting

Accounting History Vol 12, No 2 – 2007

Figure 2: Pension expense as a percentage of net income (1919–34)

Chandar & Miranti: Actuarial-based pension accounting

Figure 3: Revenues and net income 1919–34

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

Accounting History Vol 12, No 2 – 2007

4. Computational methodology: normal pension cost

Chandar & Miranti: Actuarial-based pension accounting

Table 1: Development of probable service history*

Year Age at Number 1/2 to t

1 25 10,000 – 4,288 4,288

Accounting History Vol 12, No 2 – 2007

Year Age at Number 1/2 to t

*Male employees entering service at age 25.

Table 2: Determination of total wage payments*

(1) (2) (3) (4) (5)

Year Age at Number Average Total wage

l 25 10,000 1,377 13,770,000

Chandar & Miranti: Actuarial-based pension accounting

Year Age at Number Average Total wage

17 41 2,410 2,800 6,748,000

*Male employees entering service at age 25.

Accounting History Vol 12, No 2 – 2007

Table 3: Determinations of present worth of pensions at time of granting*

Year Age Service Average Total amount Annuity Present worth

30 55 16 983 15,728 12.22729 192,311

*Male employees entering service at age 25.

Table 4: Determination of rate of accrual*

(1) (2) (3) (4) (5) (6) (7) (8)

Year Age Wage payments Pension payments

1 25 13,770,000 .98058063 13,502,596 – – –

Chandar & Miranti: Actuarial-based pension accounting

Year Age Wage payments Pension payments

10 34 6,728,736 .68894298 4,635,715 – – –

*Male employees entering service at age 25.

Accounting History Vol 12, No 2 – 2007

5. Computational problems and their effect on management and

Chandar & Miranti: Actuarial-based pension accounting

Radical changes in market circumstances also undermined pension accrual

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

Accounting History Vol 12, No 2 – 2007

Chandar & Miranti: Actuarial-based pension accounting

Abromowitz, M. and David, P. (2000), “American Macroeconomic Growth in the Era of

Accounting History Vol 12, No 2 – 2007