The Seventh Day Brings No Rest (Part 2)

History of BankingThe pace of progress is quickening as we begin this, our second in the series of our history of banking as if it occurred in one week.  But, it isn’t until 7:26 on Wednesday morning that the story of American banking starts to unfold. The actual date is 1741 and the problem is tight British control over the number of coins entering the Colonies. Americans are tired of relying on crop notes and barter, and decide to start banks of their own. The predictable response is a legal roadblock. The British prohibit banking and the experience sours many American Colonists on financial institutions.

This Wednesday of our banking week closes with a very significant American event, the end of the Revolutionary War. It is 14 minutes after midnight on Thursday before Alexander Hamilton establishes a federally chartered Bank of the United States over Thomas Jefferson’s strong objections. Yet the charter of the bank runs just 20 years and by Thursday evening it is dead.

In fact, when the U.S. Government needs to borrow $11 million to buy Louisiana – in our time sequence this 1803 event takes place at 9:29 on Thursday morning – no U.S. bank has enough clout to finance the deal. Fortunately, a British institution steps up to the plate. For America, Thursday turns into a very long night filled with the nightmare of the Civil War.  Yet as Friday dawns, the United States enters a promising new day. The country is unified and state banks are flourishing. Though state banks in the South had weakened or disappeared, a rebirth has begun.

It is mid-day on Friday – 11:31 a.m. – when the National Bank Act of 1863 passes. The leaders on this Friday are men of integrity like Israel Lash, who launches the First National Bank of Salem (N.C.) to serve thrift-conscious Moravians, after it becomes clear that The Bank of Cape Fear’s Salem branch (Lash’s former employer) will not be part of the revival. Late this Friday morning, Alfred Austell founds one of the oldest banks in Georgia in his home. Though the Reconstruction Act absolved Austell from any obligation to redeem his former bank’s Confederate money, Austell depleted his personal fortune to exchange this money for gold, an act of faith his former customers clearly remember. As the National Bank Act strengthens federal control over banking and currency, Austell, Lash and fellow bankers are encouraged to make new beginnings.

Over the lunch hour that Friday, it appears American banking has finally gained a stability that has been very elusive during its first two days of life. At long last the nation has a uniform currency, gained primarily by taxing state-chartered bank’s notes, rendering them of insignificant value.

On Friday – the fifth day in our banking week – the nation is charged with great creative energy. Before Friday ends, Thomas Edison produces the first commercially viable electrical lamp and George Eastman markets his first box camera. Yet as Friday – and the first five days of modern banking history – draw to a close, surprisingly little has changed in the way banks operate. The Monday morning customers of Amsterdam Wisselbank would feel comfortable in the Friday evening banks of the United States.

However, there are blips on the radar screen that predict a storm of activity. For example, when transatlantic cable is laid in the 1870s – 3:43 p.m. Friday in our time line – some bankers realize they can take advantage of small price differences in New York and London markets to profit on arbitrage. This begins a much more creative time and one that evidences strategic innovations that will ignite a tremendous leap forward in the pace of change, yet one that also will elevate that risks and develop new challenges for the industry.

We will discuss those changes over the next few weeks.

The Seventh Day Brings No Rest

ClockA few years ago, a well known and well respected bank CEO observed that in today’s world three years of change seem to be compacted into every six months of banking history.  I hardly ever disagreed with him, but in this case I believe that his compression idea is on target but a little too conservative.

After meditating on the observation, I thought it might be interesting to try to condense the history of modern banking into a single week—a mere seven days.  While daunting, I think it will depict just how much has happened in a relatively short span of time.  For the next few months, follow along with me as we review the 7 short days of the week and  the evolution and the rapidity of that change.  In this context, banking as we know it has developed within the last hour.  And, in the next few minutes, banking is almost certain to be changed beyond recognition by profound technological, economic, political and cultural changes buffeting our business.  Today, it is not change, but the pace of change that is unique and creates banking challenges of a new magnitude.  Creative strategy becomes a necessity, but difficult to tackle.

So, to depict how history’s pace has quickened, try to measure banking events in terms of one ordinary Monday-through-Sunday week.  The first day of this week – a Monday – marks the arrival of modern banking, while the latter part of Sunday represents 2009, the 400th anniversary of modern banking.  We will have just gone to bed when the first four years of the next century begins – and what a beginning!  For this exercise, the first minute of Monday – 12:01 a.m. – is the year 1609.  It is when the Amsterdam Wisselbank opens its doors – an excellent beginning for our modern era.

Of course, many aspects of banking predate 1609 and set the stage for our four century banking week.  But the banking week we have defined is more than adequate to demonstrate the accelerating pace of change.  On the Monday modern banking arrived, Shakespeare was busy writing sonnets, trade was flourishing and the merchant class was on the rise.  The Amsterdam Wisselbank opens with a broad charter – to accept deposits and bills of exchange, transfer payments among customer accounts, mint coins and lend money.  This institution thrives for 200 years – about 4 days in our compressed time capsule.

Throughout the wee hours of Monday morning, growing numbers of English goldsmiths who safeguard customer deposits discover that owners never demand more than a fraction of their reserves in payment.  So they gain more and more confidence about using promissory notes to lend on deposits.  These goldsmiths’ paper certificates serve as currency, increase the money in circulation and fuel economic expansion.  One might say that their strategic vision was to enable customers to build businesses through providing credit and thereby enhancing profitability.  It is now a short step to a bank check.  The first check is written at about 9:00 Monday night.  This 1659 check evolves from the practices of British institutions that specialize in mortgages and legal services.  Adding additional products and services has already begun.

By the end of the century –2:13 p.m. Tuesday, London has become a major financial center and the Bank of England has begun to serve as a role model for central banks.  Next time we will see what Tuesday evening and part of the rest of the week brings as the pace of progress is beginning to quicken.

Is It Time to Rethink the Annual Merit Salary Increase?

For years, larger companies have routinely budgeted to increase base salaries of employees by a few percent based on what everybody else is doing. Then, the annual increase is usually spread among employees based on where they are paid in their job’s policy salary range and, hopefully, based on a merit performance score. There is a good deal of logic in such a process, but it is worth rethinking given the realities of today’s labor market.

payrollWhy does an annual increase in the guaranteed base salary make sense? The fact that it is routinely done at the same time each year gives employees a sense of security and if your strategy emphasizes low risk, steady growth with retention of a stable staff, then this approach to base salary management makes sense. On the other hand, if your organization’s strategy is for more risky growth where high levels of performance can make a big difference, perhaps a different approach to base pay would make better sense.

Maybe some of the base should be shifted over time to incentive pay. Perhaps base salary reviews should be done less often with bigger increase potentials when salary increases are eventually granted. How you mix pay between the guaranteed portion and the at-risk portion is a matter of strategy and to be effective, your pay strategy must support your business strategy. We hear HR professionals worrying about the annual 2% to 4% increase having become an entitlement. However, management of companies that have had depressed revenues during the recent economic recession have little patience for any entitlement attitude. HR professionals need to think about how their office can better support the organization’s strategy. Rethinking the annual base pay increase entitlement is a good place to start.

Of course, every organization is unique and there is no one-size-fits-all solution to managing base salaries and overall compensation. Having worked with hundreds of organizations, for-profit and not-for-profit, fast growing and declining, risk-averse and risk-tolerant, we understand the need for a custom solution. As the economy slowly improves, this is a good time to step back and question your organization’s compensation management. We would appreciate your thoughts. Please email, call or comment below.

The Daunting Challenges of the Future

At the end of last year we emphasized how strategic planning is critical for the survival of banks in the future, no matter how hazy the road to the future may be currently. Let’s drill down a little further.

Thinking strategically requires creative leadership—the ability to develop, sell and cultivate an idea from inception through implementation. Executives who want to lead their institutions as they build strategic plans must add varied skills to their management repertoire, especially skills as teachers and leaders.

Dynamic change is part of any good strategic plan

Strategic planning is a job that never ends. Because the environment and competition often prompt base assumptions to change, strategies need to be revisited at least every 12 to 18 months. Even if major tenets remain constant, strategic plans still should be reassessed periodically. Questions that bankers should ask themselves touch on internal attitudes as well as the outside world:man-with-questions-200x200

  • What have we done successfully?
  • How has the competition reacted?
  • What is different in our environment?
  • Should we continue on our current path or make changes?
  • Are any failures due to poor strategy or poor execution?

Obstacles to Success

The road from strategic planning to success may not be completely smooth. But, if executives are alert to common roadblocks, they can steer around them with as few serious detours as possible. For strategic planning to succeed, a CEO must view the process as an ongoing commitment and not an exercise to satisfy regulators. Strategic planning is a process, not a sheaf of paper.

Poor communication between an institution’s management and its board can present problems. If these two groups do not have a shared vision and are pulling in different directions, strategic planning has little chance of success. The secret is to engage both groups in the earliest planning sessions. Elitism also represents another common obstacle. In an elitist planning mode, a CEO and one or two top people may complete a strategic plan without involving any of the individuals who will actually execute it. This approach is fraught with peril. First, the planners fail to get input from people who often know far more than they do about operations, customer attitudes or competing products. Second, if middle-level managers do not play a role in developing strategy, they have little personal investment in its outcome.

A putting-out-the-fire management style can create other difficulties. In this case, the institution’s CEO and board may eagerly invest time in developing a strategy, but quickly lose interest when it comes to monitoring progress and overseeing implementation. As soon as the first crisis comes along, interest is diverted and planning is forgotten. A management team does not have to go through many planning-to-oblivion cycles before it loses complete faith in the process.

Strategic planning does not and cannot forecast the future. We have already acknowledged that while the road to the future is hazy, there is hope down the road. Planning cannot predict the exact time a quake might hit your institution, or the size and duration of the tremor. Accept the fact that you will make wrong decisions as well as right ones.

While strategic planning is not infallible, it will help you learn your institution’s strengths and weaknesses and how your resources can be marshaled to survive and thrive. Strategic planning strips change of its power to frighten and immobilize management. It offers executives the power and the skills to harness the energy of change as an engine of creativity.

Citigroup, Inc.’s New CEO Compensation Plan

Citi is finally getting CEO pay plans right! After losing their shareholder “say-on-pay” vote at the 2012 Annual Meeting of Shareholders, new Chairman Michael E. O’Neill, who just took over as Chairman last April, interviewed a large number of important shareholders. He was told that paying their CEO a $6 Million Incentive based on a two-year (2011 and 2012) cumulative pre-tax profit of $12 Billion, may sound like a good deal for the shareholders, but it was fraught with problems.

carrots

Incentive Pay Must Be Carefully Designed

To begin, the Company had 2010 pre-tax profit of approximately $12 Billion. So, the hurdle for earning the $6 Million was half of the actual earnings in 2010. Yes, the economy has made earnings difficult to produce, and yes, Citi is trying to overcome internal problems, but shareholders were unwilling to allow a hurdle rate that low. There were other problems with the design of the Plan.

Cumulative two-year pre-tax earnings ignores the fact that the bank could grow assets at a decreasing return on each dollar and meet the earnings hurdle while increasing their capital requirements significantly. Using volume of profit as a management performance measurement always has this inherent problem. In fact, increasing volume of profit can and often does result in lower returns on equity in banking. For that reason, shareholders can lose as management earns more, and a lose-win plan is never good.

Finally, building on the last point, there is no clear link between shareholder returns and management pay in the Plan Citi was using. A common objective of executive compensation plans is to align the interests of management with those of the shareholders. The old Citigroup, Inc. Plan did the opposite to some degree. The Board of Citigroup consists of intelligent and successful people, but they got some bad advice along the way. After Chairman O’Neill spoke with shareholders, he tasked the Board’s Compensation Committee to redesign the CEO’s Compensation Plan to address the shareholders’ concerns. He was not about to get a negative “say-on-pay” vote after his first year as Chairman.

Now, in my many years of studying and designing executive compensation plans, I have yet to see the perfect plan. It just does not exist. Business is too complex to allow for such a thing, and the need to keep the plan as simple as possible is an important constraint.  Yet, the new Citigroup, Inc. Management Compensation Plan addresses shareholder concerns with an elegantly simple design.

Executives will be granted units worth a certain amount in three years if certain performance is achieved.  Citigroup stock must perform in the top three-quarters of a carefully selected peer group of stocks of similar companies, and Citigroup’s Return on Average Assets over the three years must beat a hurdle equal to the previous year’s actual or there will be no units rewarded.  Furthermore, if the Return on Average Assets over the three years is better than the previous year by a significant percentage, then a target number of additional units will be awarded.

This design is superior to the old design because it clearly:

  1. aligns management’s interests with those of the shareholders and
  2. it is tied to relative performance compared with peers as well as the Company’s strategic goals.

There are some potential draw backs to such a plan, but the new plan is so much better than the old plan, I will not spend words on the risks in this particular blog.  Perhaps in the future, we can look at some of the potential flaws.  In the meantime, I say congratulations to Mr. O’Neill.  I may go buy some Citigroup stock!

Stages of Effective Succession

It is never too soon to start developing a succession plan for the top executive positions in an organization. Such plans take time to develop and come to fruition. Here is a brief outline of the steps:

Planning

This step should be in process continuously. It involves determining which positions need successors and what knowledge, skills and abilities will be needed for those positions in the future to have a successful enterprise.

company-organization-chart

Development, when affordable, should start early.

Development

This, too, is ongoing. It is the training and development of the inside candidates and the search for and recruitment of outside candidates that fit the ideal candidate profiles. This step takes time to implement…maybe years if you hope to develop talent internally.

Selection

Here you are screening, selecting and negotiating terms with the successor. Often, you will need to circle back and revisit plans and development steps if strategies change. Eventually, though, a successor must be chosen.

Transition

This is the handing off of the baton from a retiring executive to his or her successor. It is fraught with risk and should be carefully planned and

monitored. Most new employment relationships that are going to go bad will do so during the first six months while a transition is occurring.

There is a lot to do to make succession planning work. We will be happy to present an overview of the process to your executive team and/or Board at no cost

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Click here and request a contact, or call me at 919-732-2716.

STRATEGIC PLANNING AND THE LONG JOURNEY AHEAD

Last month we discussed the alarmingly similar events and reactions that occurred in the periods of 1988-1992 and 2008-2012.  Yes, strategic planning is perhaps needed more today than at any time since the 1980’s; however, the challenges are daunting, and the road ahead has gotten hazier each day.

foggy road ahead

The road has gotten hazier

The good news is that for the banks and bankers who stick it out and survive over the next five years, the future does look bright because the very pressures bankers feel today will eventually and inevitably squeeze out lower performing banks enabling a return to rational pricing.   It is going to take some time for this to occur, but the path appears set.

A wise banker said recently, “there is a long way to go, and the journey has just begun.”  Well, just how long is that journey and just what is the future?  The regulators have given us a peak into their minds.  Here is some of their thinking:

  • The core deposit franchise will need to be nurtured and managed
  • An efficient, lean operation will be critical
  • Capital management will be essential
  • Sound strategies will be critical
  • Good financial skills and in-market knowledge will be required of Boards
  • Credit and Operational risks will be equally challenging

There are a litany of challenges and issues that will need attention for the future.  But, any way you slice it, making money in a prolonged low-interest rate environment, providing a decent return to your shareholders, dealing with over reactive regulations and returning to good old-fashioned fundamentals are the underpinnings of success in the future.

Strategic planning is not a panacea, but it is critical to survival.  As we stated before, good planning establishes objectives to achieve desired future results.  Though it cannot forecast the future, strategic planning does attempt to look at future possibilities so decision makers can rationally choose between courses of action that involve risk.  Strategic managers are proactive managers.  They tackle questions of structure and focus so they are prepared long before seismic activity is sensed.

Effective Strategic Planning in a Challenging Environment

Change?  No change is necessary.

That is what some bankers thought when their institutions began to suffer the first shocks of a quake that started rattling the financial industry in the mid-1980s.  These bankers figured that if they just hunkered down and minded their own business the tremors would subside.

Bank Strategic Planning

Bank Failures Since 1979, Source: SNL Financial and FDIC
Number of Failed Banks in 2012 is annualized based on 23 failures as of 5/1/12

Instead, many banks – and bankers – vanished.  From 1988 to 1992, the U.S. banking industry witnessed more bank failures than ever before, especially in any comparable five year period.

The reasons were complex.  Massive change hammered the industry.  New banking laws and regulations altered how financial institutions could do business and increased base-line costs.  For banks that were already on shaky financial footing, new capital requirements dictated cutbacks and/or injections of hard-to-find investment dollars.  The debut of interstate banking intensified price-cutting campaigns to win market share, and margins began to shrink.

Sound familiar?  It’s de ja vu all over again!  “Same events, different time.”  The earthquakes returned in 2008, and the financial world began to come undone once again.

For survivors of repeated quakes, reality has arrived.  If we hope to retain our jobs and help our institutions withstand external pressures, we had better prepare for life in an earthquake zone.  Strategic Planning is needed today more than any time since the 1980’s.  Through strategic efforts, banks can intelligently re-engineer their institutions to gain the resilience and strength needed to absorb shocks – and even expand – in our unstable economy.

Strategic Planning is extremely challenging in this environment, since it requires looking at the future and making assumptions.  Today, about the only given is that more massive change lies ahead.  Yet, an outline is emerging of the future that banks will face.  Over the next four or five months, we will comment on dealing with specific trends.

Five Requirements for Successful Strategic Planning

The plan is never finished.  Strategic Planning is a process that never ends.  Banks should revisit their strategies every 12 to 18 months.  Bankers should ask these questions to reassess internal attitudes and the outside world:

  • What have we done successfully?
  • How has the competition reacted?
  • What is different in our environment?
  • Should we continue on current path or make changes?
  • Are any failures due to poor strategies or poor execution?

For strategic planning to succeed, management and the Board must view the process as an ongoing commitment—not an exercise to satisfy regulators.

Management and Board must reach consensus.  Poor communication between a bank’s management and its board can present hurdles.  If these two groups do not have a shared vision, strategic planning has little chance to succeed.  Therefore, it is crucial to engage both groups in the planning sessions.

Many voices must speak.  A CEO and one or two people may complete a strategic plan without involving any of those who execute it.  The plan will be impractical, and managers will have no personal investment in its success.  Banks should search for ways to let employees share in the rewards and risks inherent in the development of strategic plans.  This may mean rewarding performance using bonuses or incentives, stock plans and other alternatives to pure salary.

Strategic Planning

Strategic Planning Cannot Predict the Future

Follow-through is essential.  A frenetic management style can create difficulties.  The CEO and board may eagerly develop a strategy, but lose interest when it comes to monitoring progress and overseeing implementation.  As soon as the first crisis comes along, they forget about the planning.

Power to harness change creatively.  Strategic planning cannot predict the future.  You cannot predict exactly when a quake might hit your institution—or its size and duration.  With strategic planning, you can make wrong decisions as well as right ones.  But strategic planning will help you learn your institution’s strengths and weaknesses and discover how your resources can be marshaled to help your bank survive and thrive.  Strategic planning strips change of its power to frighten and immobilize bankers.  It offers executives the power to harness change creatively.

The Future of Bank Branching

Two of the current challenges in banking are 1) Gaining Efficiencies, and 2) Utilizing Technology to improve delivery channels.  Some strategies are more complicated than others in terms of how to address these two challenges.  However, some are more straightforward than you might think.

Tom Brown has made an interesting appraisal of the need for a big branch network in today’s banking world: “Did you see earlier this month that, to cut costs, a couple of banks in the Midwest announced they’re shutting down some of their under-performing branches? Good for them. I’m just surprised more banks aren’t doing the same thing.One of the more pressing—and least-talked-about—issues facing the banking industry is the question of what the heck banks are going to do to contain the costs of their sprawling distribution systems, particularly their branches. Even before the passage of Dodd-Frank added new financial burdens to the industry, branch networks were set to become a serious money pit. First, alternative delivery channels, from ATMs to on-line banking, are cheaper and more convenient for customers. (The newest innovation set to go mainstream, remote deposit capture, will dispose of the final rationale for many more bank customers to ever visit their branches at all.) As it is, in-branch transactions have been declining for years. By many measures, the numbers are truly tiny. For example, the typical branch generates just 20 new demand deposit accounts per month. Yet the industry remains wildly overbuilt, thanks to the branch-building boom that took place during the middle of the last decade. Many of these newer branches (along with marginal legacy branches) are burning cash. This can’t go on forever.

The economics of bank branches vary broadly and can change depending in the level of interest rates, but a good rule of thumb is that a branch needs to have $40 million in deposits to be profitable. If that’s so, a huge number of the country’s bank branches are money losers as it is—and many more will be once interest rates start to rise from their ultra-low levels and savers pull their deposits to seek higher yields elsewhere. Some banks have done what they could to bring branch costs down—by cutting staff, for instance. But in many cases, that won’t be enough. Managements who think they can magically make their most marginal branches profitable are kidding themselves.

Yet despite the challenges branches face, the bankers I talk to seem to be dealing with the problem by basically not thinking about it. Too many apparently believe it will go away by itself. Which is why I think it’s great that Independent Bank Corp. and Old National are proactively recognizing that they have a problem, and are doing something about it.  For further discussion about this issue, click here and give me your contact information on the form that pops up.

New technology (and poor prior branch-opening decisions) are making branch banking in its current form untenable. The sooner banks tackle the problem, the better.”

Succession Planning or Picking Names Out of a Hat?

According to new research at Rock Center for Corporate Governance at Stanford University, more than half of companies today cannot immediately name a successor for their CEO, should the need arise. Boards spend, on average, only two hours a year to discuss this topic, and less than 50% have a written document detailing the skills required for the next CEO. There are large planning and communication gaps, but we have found some helpful suggestions for boards.

If a succession plan exists, but it is intangible, companies can feel a false sense of security. Boards should draft a succession plan one to three years prior to needing one. This is so candidates can be groomed to acquire the knowledge and skills necessary to handle the responsibilities of the role if and when it falls upon them. It is also important to create open and direct lines of communication between the board and potential internal candidates, while keeping the “runners up” happy, just in case.

Small companies may think they lack the time to do such planning and development, but a good process only requires a few hours up front and a steady focus over time.  A little advanced planning and organizational development, when combined with an effective external search process, will offer your company the most viable pool of candidates. It’s much better than picking names out of a hat.

The Risk of Becoming Risk Averse in a Post Financial Crisis World

Some Federal officials and others from sectors that are removed from day-to-day commerce want to blame risk takers, represented by Wall Street investment bankers, for high unemployment and frozen financial markets, and certainly risk exploded during the decade leading up to 2008.  While Wall Street firms need to bear their share of the responsibility for participating in risk-run-wild, there is plenty of blame to go around, including government policies before and since the liquidity and credit crisis hit in late 2008.

It is important now to fully diagnose the reasons for our recent economic woes and pass regulation that helps identify the size and nature of systemic risk in the future.  It needs to start with governmental policies, federal, state and local, that interfere with the normal market-driven risk and reward mechanisms that have controlled free enterprise from its inception.  Risk rating agencies need to be truly independent in the future.  Corporations must do a much better job of assessing the risks they create or support in the marketplace.  In addition, American consumers need to be better educated in economics and free enterprise so that they can detect risk in offers that are too good to be true.

FDR is often quoted as saying in his first inaugural address, “The only thing we have to fear is fear itself.”  We need to remind ourselves of this wisdom in these times of frozen job markets and banks.  One of the primary tenets of capitalism is “no risk, no return.”  Fear of risk has things frozen.  It is time to take measured risks again, not the senseless risks we saw in the mortgage funding government policies or mortgage-backed securities that could never have produced a lasting return, but reasonable risks that produce reasonable, long-term returns.

Sharp Edges

Misguided Warning

One of our greatest risks at this point in the history of our great nation and its great economy is, as FDR put it, the “nameless, unreasoning, unjustified terror which paralyzes needed efforts to convert retreat into advance.”  We risk becoming so risk averse that we will never move ahead.  Government needs to stop punishing and get out of the way of growth.  Banks need to make loans in support of reasonable new ventures.  The unemployable must learn new skills.  Corporations need to expand and hire people to grow their businesses.  The global market will make a comeback if we don’t let our fears of risk prevent it.

Ideal Community Bank CEO Candidate

Needle in a Haystack

The Community Bank CEO of the future may be hard to find

Today’s “American Banker” had an editorial called “Chief Factor in Small-Bank Survival? It’s the Chief.”  No question about it!  Leadership matters and while the banking industry has always been about people, the quality of the leadership has never been as critical.

The model for success in the future for community banks is changing radically.  Margins will be thinner on the traditional business of gathering funds and lending them out.  Costs for doing business are rising, if for no other reason than increasing regulation.  Customers are shifting banking habits requiring banks to invest more in technology-based solutions.  The challenges to success will be sizable.  So, what does the ideal candidate profile for the future community bank CEO look like?

I am sure we don’t yet have all of the answers to this major question, but many of the features can be seen in other industries that have gone through massive change.  Retail distribution went through similar change over a couple of decades leading to the development of big-box and chain retailers taking the place of the local hardware store and clothier.  Some leaders saw the change coming and innovated.  Some changed the channel of distribution.  Some narrowed the definition of their niche.  In every case, survival depended on strategic vision, detailed knowledge of their communities and customers and the leadership abilities to take their people through the wrenching change without destroying their loyalty.

The ideal community bank CEO of the future will need to have a wide array of skills and abilities.  They will need a mix of technical skills and interpersonal abilities that may be difficult to find.  Technical skills to recognize and analyze risk and understand the opportunities and the limitations of technology will be key.  In addition, the leadership traits of visionary strategists and change agents will be essential.  The CEO of the future will also need to be able to drive a sales culture and hold people accountable for results.  They will need to be a community leader and a master politician to help the local community understand why he or she demands performance and is willing to turn over staff members that may be their neighbors.

We build “Ideal Candidate Profiles” for Boards who ask us to find executives, and while every organization has its unique needs, there are certain traits that are usually needed based on the executive position.  We are exploring the changes needed for the future and the community bank CEO profile is one that will change dramatically.  Click the button below and register for a free presentation to your Board about the CEO of the future, or call 919-644-6962 and ask for Tim.

Request your Free Board Presentation

Succession Planning Without Three Envelopes

According to a recent WorldatWork survey of large companies, over 30% have no succession plans in place and 50% of executives say they do not have a successor for their current role.  Why?  They cited a number of reasons:

  • Not enough opportunities for employees to learn beyond their own roles (39%)
  • Process isn’t formalized (38%)
  • Not enough investment in training and development (33%)
  • Not actively involving employees or seeking their input (31%)
  • It only focuses on top executives (29%).

A lack of succession planning can lead to a lack of strategic direction and weakened financial performance, but it is hard work and Boards tend to make it a task instead of a strategy.  We will be happy to share an outline of succession planning as a strategy.  Just go here and request it:  http://matthewsyoung.com/contact.htm

The three envelopes for succession planning

The three envelopes for succession planning

Or, you could use the three envelope approach.  I learned this approach from a fellow who had just been hired as the new CEO of a large, publicly held company.  The CEO who was stepping down met with him privately and  presented him with three numbered envelopes. “Open these if you run up  against a problem you don’t think you can solve,” he said.

Well, things went along pretty smoothly, but six months later, the net interest margin  took a downturn and he was really catching a lot of heat. About at his  wits’ end, he remembered the envelopes.  He went to his drawer and took  out the first envelope.  The message read, “Blame your predecessor.”  The new CEO called a press conference and tactfully laid the blame at  the feet of the previous CEO.  Satisfied with his comments, the press – and Wall Street – responded positively, the stock price began to pick up and the  problem was soon behind him.

About a year later, the company was again experiencing a slight dip in  margins, combined with serious balance sheet problems. Having learned from his  previous experience, the CEO quickly opened the second envelope.  The  message read, “Reorganize.”  This he did, and the stock price quickly rebounded.

After several consecutive profitable quarters, the company once again fell on difficult times.  The CEO went to his office, closed the door and opened the third envelope.  The message said, “Prepare three envelopes……….”

You don’t need three envelopes if you use succession planning as a strategy.  http://matthewsyoung.com/contact.htm

Strategic Planning for New Skill Sets at Community Banks

All of the prognosticators (including us…see The Future Community Bank Model – Greater Diversity of Revenues and Reduced Risk) are talking about the need for community banks to diversify their product mix, rely less on concentrations of commercial real estate loans and develop new fee-based services.  The problem is that the current staff of most community banks has a set of knowledge, skills and abilities that do not apply in this new world community banking environment.

Commercial and Industrial Lending (aka C&I Lending) is a very different process than Real Estate lending.  Will the banks retrain real estate lenders or recruit C&I lenders from other banks?  Where can they find trained lenders?  Large banks have relatively few credit trained C&I lenders because these banks shifted years ago to a “hunter/gatherer” strategy that deployed many relationship developers (hunters), with limited credit training, who would bring the loan request to a few credit underwriters who made the deal work for the bank.  When this shift occurred, the large banks no longer developed the trained staff that community bank recruiters needed.

Banking gurus are also pushing the point that fee-based businesses need to be developed in the community banks to offset some of the continuing pressure on traditional net interest margins upon which community banks have historically depended.  There has been much written about understanding your local communities’ needs and the share of wallet your bank is getting.  This is how you determine what additional services are needed in your communities.  All true, but where do you get the talent to develop and then manage these new businesses?  Banks have not traditionally had strong sales teams, so once the new businesses are developed, will banks be able to build the businesses.

It has been estimated that half or more of the staff currently in most community banks will need to be replaced with people with new knowledge, skills and abilities needed in the new model of community banking.  In some cases, the change needs to begin at the top of the organization.  We hear from capital market players that investors often want a new team to deploy the new capital.  CEOs would be well advised to aggressively rethink their strategies for their banks and include strategies for attracting and retaining the new talent that will be needed in the new world of community banking.

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SEC Rules on Executive Compensation, Committee Governance and Advisor Independence

The Dodd-Frank Act, signed into law in July 2010 by President Obama, shines a bright light on many issues related to Executive Compensation and Corporate Governance.  Specifically, one section (952) requires the SEC to adopt rules  regarding Compensation Committee members’ independence and suggests a specific list of factors to be identified that will govern the Committee’s advisors.  To quote chapter and verse, Section 952 – The Commission is directed to establish competitively neutral independence factors for all who are retained to advise compensation committees

First, a couple of definitions according to Webster’s dictionary:

Independentnot subject to control by others, not requiring or relying on something else, not looki ng to others for one’s opinions or fo r guidance in conduct

Neutral – having no personal preference, not supporting or favoring either side…

Personally, I don’t know how “independence” can be anything other than “neutral”…this seems a little redundant, but I digress.

The SEC is required to adopt the new rules by July of 2011 (within one year of the law being signed).   The rules will require that public companies disclose in their proxy when they hire an outside compensation consultant, whether potential conflicts of interest exist (in other words – if the consultant has a personal preference or is potentially subject to control by others) and what the Committee has done to address the potential conflict.  This will obviously influence Committee behavior in hiring such advisors by encouraging them to avoid any potential conflicts or breaches of neutrality and independence.    In only the most extreme cases, could a Committee justify hiring an advisor that violates the independence test without public scrutiny and shareholder unrest.

Much like Sarbanes-Oxley’s requirements of independence and neutrality with regard to Audit Committee advisors, these new rules on corporate governance seem to fall into the category of “doing the right thing”.  Some consulting activities that seem to contradict this characteristic would be selling products to companies whom you advise, simultaneously working for management on other projects without full disclosure and prior approval of the Committee or an engagement advising companies for fees where the consulting principals have a significant ownership position (i.e. shareholder).

At Matthews-Young, we have always subscribed to the higher ideal of “doing the right thing”.  We require that we be hired and report directly to the Compensation Committee when we are engaged for Executive Compensation work.  We have no sources of revenue other than being paid for our  time and knowledgeable, expert advice without “supporting or favoring either side”.

If we can assist you with improving your company’s governance and committee effectiveness please give us a call at 919-644-6962 or ask us to contact you at http://matthewsyoung.com/contact.htm.

Will Small Community Financial Institutions Need to Share Costs?

Margins in the financial services business “stink” right now.  (Stink is a technical term meaning “what margins?”.)  Rates are so low, and liquidity needs are so great, community banks and credit unions have little to no margins to help rebuild capital following serious loan losses over the last three years.  Margins are likely to improve in the short run, but in the long run competitive pressures will continue to keep margins tight.  Community financial institutions need to be more efficient in the future, but increasing regulation will require new staff and management time.  Cooperating in cost sharing pools or merging to get bigger will be needed in order to compete.

Teamwork

Cooperating to Win

Cost sharing makes a lot of sense.  Compliance and certain Audit functions could be outsourced.  Many Human Resources and some Marketing functions can be outsourced as well.  With the right sources, financial institutions can get access to more senior talent at lower costs because they share the resources.  The keys to making this work have to do with reliable service providers working with peer groups of financial institutions that are not competitors.  I expect the remaining bankers’ banks to offer such services and consultants will provide services as well.  We have been approached by small institutions looking for such services and asking us to organize peer groups for sharing costs.

There is little doubt that small community banks and little credit unions are under a great deal of pressure.  Will the growing weight of new regulations and other requirements do them in or will new technologies and cooperative efforts save them?  Let us hear your ideas with comments below, and if you want to know more about our offerings, call me at 919-644-6962 or ask us to contact you at http://matthewsyoung.com/contact.htm.

Director Succession

Director Succession

With the “Boomers” reaching retirement age, executives are beginning to retire in large numbers, but will the new CEOs walk into empty Boardrooms? Let’s face it, becoming a Board Member is not as glorious as it once was. The liability one takes on in the current litigious environment and the work necessary to do the job well is rarely offset by the rewards, financial or otherwise.

We worry about attracting and retaining qualified directors to represent shareholder interests in the future. Recruiting and grooming future directors needs to be an ongoing process of a Nominating Committee. We have been on the lookout for practical solutions to this dilemma, and recently found a case study in the “ABA Banking Journal.” A number of years ago, First United eliminated its three Advisory Boards. In their place, an Advisory Council was created. Care was used in terming it a “council” and not a “board.” This made it clear that the role was advisory, and it did not bear the legal responsibilities of the Board.

According to William Grant, chairman and CEO, the Council meets six times per year, in a dinner meeting following our Board meetings. This affords our Board members the opportunity of attending and observing. The Council’s agenda is to kept abreast of the bank’s activities, and to solicit their input on a number of market‐related issues. The majority of the Council members are community oriented businesspeople, and able to bring this perspective to the meeting.

This arrangement provides the following advantages to the Bank:

  • It serves as a valued “blue sky” advisory group to help the bank establish and execute strategies
  • It provides a “farm system” for future directors by affording members the opportunity of learning about the bank, its mission, and its culture. The bank gets to know them. If  there is a fit, then that person may eventually become a director. In fact, the last several directors at First United have come to the board by this route. If there is not a fit, then that becomes known before a member is placed on the board, and one side or the other comes to this realization.
  • It facilitates an environment where the Council member and various directors come to know each other, making the selection and nomination of future directors an easier chore.

This approach seems to address the issue nicely.  We would love to hear other ways that have worked for you.  Please comment below.  Thank you.  To discuss your Board’s succession planning process, call me at 919-644-6962 or complete a contact request at http://matthewsyoung.com/contact.htm.

Berry on Banking

Since September of 2008, we have been in the most challenging economic environment since the great depression. During this period, we have seen unprecedented government intervention with programs like TARP, and with the most recent passage of the Dodd-Frank Act, the regulatory burden is going to dominate the time of each management team and their board of directors. Risk Management practices have continued to improve, but it is the unforeseen risk, whether it is a double dip recession, continued declines in real estate values, deflation or a host of other things, that has to challenge the critical thinking of each bank’s leadership.

In this challenging environment, strong leadership is a must. Each CEO must be proactive and not reactive. Communication with regulators, the board of directors and the management team, as well as with all employees in the organization, is vital in order to maintain a healthy and well run financial institution. It also goes without saying that keeping shareholders informed of the strategy, vision and health of the bank is a must in order to build confidence in the marketplace. Capital is king, and investor confidence is vital especially in this economic environment and the access to new capital is paramount.

With respect to lending, there is an old saying that “you can fix bad loan underwriting but you cannot fix a bad market.” In light of the economic issues and the increased regulatory burden, Management needs to constantly monitor asset quality, ensure a diverse loan portfolio and be acutely aware of trends in the markets that the bank serves. Constant independent loan review in order to maintain a strong performing loan portfolio is now a best practice.

On the funding side, deposit composition is critical, as Jumbo CD’s and Brokered Deposits are not considered as part of a strong core deposit base. The true value of a bank is based on its loyal core deposit base. At the same time, management must make the tough calls and close branches where the economic risks are too great in a market that has been challenged by this prolonged economic downturn.

The banking business is still a people-driven business. Long-term, the key to success is having strong leadership that continually adds talented people to the organization.

To close, I’ll leave you with the idea that tough times do not last but tough-minded people and organizations do!

The Future Community Bank Model – Greater Diversity of Revenues and Reduced Risk

We wonder about the future of community banking.  Times are tough right now in community banking, but we are thinking about the business model for the long-term future of community banks.  Does anybody care?  We think so.

It seems every time there is a major wave of consolidation in banking, there follows a wave of new local bank charter applications.  There is always a strong desire among local business owners, developers and city fathers to have a locally owned bank that understands the local market and its needs for financing.  When the dust settles on the current banking crisis, and the coming wave of consolidation begins to wane, it is predictable that there will be another wave of interest in starting new local banks.  The necessary capital should be available as long as a business model can be found that will produce a reasonable return on what is sure to be a higher capital requirement.  We will take up the question of how much capital is needed in a future blog.

So, if you were starting a new bank, what business model would you want to use?  One lesson we relearn every 15 or so years is that concentration of loans in any one industry or type of lending is always risky.  There is just not enough margin in many types of lending to warrant risking more than a relatively safe level of concentration.  Some community banks have found some success in the insurance business or the investment brokerage business.  One thing seems clear, diversity of assets and revenue sources will be a key part of the future model.

It has also become clear that most, not all but most, of the small banks that got into trouble after the 2008 credit and liquidity crunch had little to no local franchise.  A local franchise is a brand that your local community understands and sees as a valuable part of the community.  While money was cheap and plentiful during the nineties and the beginning of the current decade, many banks started and leveraged their capital with brokered and wholesale deposits instead of local consumer and business deposits.  The demand for loans, especially for funding local real estate projects was strong during those boom days and a small marginal spread could be made with that model.  As we know though, when the easy money dried up, that model of banking did too.

The new community banking model will require more capital and greater control of risk.  We may not know everything about a new model for community banking but we can be sure it will require a strategy of building a local franchise for deposit growth and loan diversity.  I would love to hear your thoughts, so please comment below.  Also, to discuss your bank’s future, call me at 919-644-6962 or complete a contact request at http://matthewsyoung.com/contact.htm.

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