Using Succession Planning to Unlock Compensation Challenges

compensation-9-16-19.pngSuccession planning could be the key solution boards can use to address their biggest compensation challenges.

Succession planning is one of the most critical tasks for a bank’s board of directors, right up there with attracting talented executives and compensating them. But many boards miss the opportunity of allowing succession planning to drive talent retention and compensation. Banks can address two major challenges with one well-crafted plan.

Ideally, succession planning is an ongoing discussion between executive management and board members. Proper planning encourages banks to assess their current talent base for various positions and identify opportunities or shortfalls.

It’s not a static one-and-done project either. Directors should be aware of the problems that succession planning attempts to solve: preparing future leaders, filling any talent voids, attracting and retaining key talent, strategically disbursing training funds and ultimately, improving shareholder value.

About a third of respondents in the Bank Director’s 2019 Compensation Survey reported that “succession planning for the CEO and/or executives” was one of the biggest challenges facing their banks. More popular challenges included “tying compensation to performance,” “managing compensation and benefit costs,” and “recruiting commercial lenders.”

But in our experience, these priorities are out of order. Developing a strategic succession planning process can actually drive solutions to the other three compensation challenges.

There are several approaches boards can use to formulate a successful succession plan. But they should start by assessing the critical roles in the bank, the projected departure dates of those individuals, and information and guidance about the skills needed for each position.

Boards should be mindful that the current leaders’ skill sets may be less relevant or evolve in the future. Susan Rogers, organizational change expert and president of People Pinnacle, said succession planning should consider what skills the role may require in the future, based on a company’s strategic direction and trends in the industry and market.

The skills and experiences that got you where you are today likely won’t get you where you need to go in the future. We need to prepare future leaders for what’s ahead rather than what’s behind,” she said.

Once a board has identified potential successors, it can now design compensation plans that align their roles and training plans with incentives to remain with the organization. Nonqualified benefit plans, such as deferred compensation programs, can be effective tools for attracting and retaining key bank performers.

According to the American Bankers Association 2018 Compensation and Benefits Survey, 64% of respondents offered a nonqualified deferred compensation plan for top management. Their design flexibility means they can focus on both longer-term deferrals to provide retirement income or shorter-term deferrals for interim financial needs.

Plans with provisions that link benefits to the long-term success of the bank can help increase performance and shareholder value. Bank contributions can be at the board’s discretion or follow defined performance goals, and can either be a specific dollar amount or a percentage of an executive’s salary. Succession and training goals can also be incorporated into the plan’s award parameters.

Such plans can be very attractive to key employees, particularly the young and high performing. For example, assume that the bank contributes 8% of a $125,000 salary for a 37-year-old employee annually until age 65. At age 65, the participant could have an account balance equal to $1,470,000 (assuming a crediting rate equal to the bank’s return on assets (8%), with an annual payment of $130,000 per year for 15 years).

This same participant could also use a portion of the benefit to pay for college expenses for two children, paid for with in-service distributions from the nonqualified plan. Assume there are two children, ages three and seven, and the employee wants $25,000 a year to be distributed for each child for four years. These annual $25,000 distributions would be paid out when the employee was between ages 49 and 56. The remaining portion would be available for retirement and provide an annual benefit of $83,000 for 15 years, beginning at age 65.

Boards could use a plan like this in lieu of stock plans that have similar time horizons. This type of arrangement can be more enticing to younger leaders looking at shorter, more mid-term financial needs than a long-term incentive plan.

And many banks already have defined benefit-type supplemental retirement plans to recruit, retain, and reward key executives. These plans are very popular with executives who are 45 and older, because they provide specific monthly distributions at retirement age.

It is important that boards craft meaningful compensation plans that reward older and younger executives, especially when they are vital to the bank’s overall succession planning efforts and future success.

Best Practices for Onboarding New Directors


governance-9-12-19.pngJoining a bank board can be a bewildering experience for some new directors. There’s a lot to learn, including new, confusing abbreviations and financial metrics specific to the banking industry. But with the right approach, bank boards and nominating/governance committees can make the experience easier.

Onboarding new directors and more quickly acclimating them to the world of depository institutions is essential to ensuring banks have a functioning board that is prepared to navigate an increasingly changing and complex environment. It can also reduce potential liability for the bank by ensuring its members are educated and knowledgeable, and that no one personality or viewpoint dominates the boardroom.

Banking differs from other industries because of its business model, funding base, regulatory oversights and jargon. Directors without existing knowledge of the industry may need one to two years before becoming fully contributing members who can understand the most important issues facing the bank, as well as the common parlance.

Proactive boards leverage the chairperson to create an onboarding process that is comprehensive without being overwhelming, and tailor it to suit their institution’s particular needs, as well as the skill sets of newly recruited board members. The chair can work with members of the nominating/governance committee and executives like the chief financial officer to create a specific onboarding program and identify what pertinent information will best serve their new colleague.

Bank Director has compiled the following checklist to help strengthen your bank’s onboarding program.

1. Help new directors understand their role on the board.
New directors often come in with a background in business or accounting, skills that are useful in a bank boardroom. But business success in one industry may not readily translate to banking, given the unique aspects of its business model, regulations and even vocabulary associated with financial institutions. New directors can access insights on “The Role of the Board” through Bank Director’s Online Training Series.

Banks are uniquely regulated and insured. Directors should be able to appreciate the role they serve in their oversight of the bank, as well as the role regulators have in keeping the bank safe and sound, and ensuring prudent access to credit.

2. Provide an overview of the banking industry.
Directors often aren’t bankers and will need to be acquainted with the business of banking broadly.

With this overview will come the distinctive terms and acronyms that a new director may hear tossed around a boardroom. Boards should either create or provide a glossary with definitions and acronyms of terms, including the principal regulators and common financial metrics.

Click HERE to access Bank Director’s Banking Terms Glossary.

3. Provide an overview of your bank’s business model and strategy.
Directors will need to understand the bank’s products, including how it funds itself, what sort of loans it makes and to whom, as well as other services the bank provides for a fee. They will also need to learn about the bank’s credit culture, capital regime and its approach to risk management, including loan loss reserving.

4. Create a reading list.
There are a number of internal and external resources that new board members can access as they become acclimated to the ins and outs of bank governance. Internally, they should have access to recent examination reports, call reports, and quarterly and annual filings, if they exist. They should also access external resources, like Bank Director’s Online Training Series, the Federal Reserve Bank of Kansas City’s 2016 publication, “Basics for Bank Directors,” and “The Director’s Book,” published by the Officer of the Comptroller of the Currency.

Additionally, they should keep up-to-date with the industry through bank-specific publications, such as Bank Director’s newsletter and magazine.

5. Schedule one-on-one meetings with the management team.
A new board member will need to understand who they are working with and the important roles those individuals play in running a successful bank. Their onboarding should include meetings with the management team, especially the CFO for a discussion about the financial metrics, risk measurement and health of the bank. It may also be prudent to schedule a meeting with other executives who oversee risk management at the bank.

6. Schedule one-on-one meetings with members of the board and key consultants.
New directors should sit down with the heads of board committees to understand the various oversight functions the board fulfills. The bank may also want to reach out to the firms it works with, including its accounting, law and consulting firms, to chat about their roles and relationship with the company.

7. Emphasize continuing education.
Boards should convey to new members that they expect continued education and growth in the role. One way to achieve this is through conference attendance, which can provide intensive and specialized education, as well as a community of directors from banks in other geographic areas that new members can learn from. Direct new board members to events hosted by your state banking association, if available, or sign them up for annual conferences like Bank Director’s Bank Board Training Forum.

Look for conferences that offer information calibrated to a director’s understanding, starting with basic or introductory instruction suited for new directors. The conferences should also facilitate discussion among directors, so that they can learn from each other. As a director grows in the role, the board can seek out more specialized training.

Successful onboarding should help new directors acclimate to the world of banking and become a productive member of the board. Boards should expect their directors to become comfortable enough that they go beyond thoughtful listening and ask intelligent questions that reinforce the bank’s strategy and its risk management.

Six Things To Know About CECL Right Now


CECL-11-13-18.pngMany banks began the transition to CECL in earnest when the final version was issued in 2016. While banks are in various stages, some are already working through more nuanced aspects of the transition.

Many lessons have been learned from actual CECL implementations, and here are some tips to assist bank directors as they guide management through the transition.

1. The quantitative impact of CECL adoption may be less straightforward than initially expected. Even before the final CECL standard was issued, industry observers tried to predict just how much the allowance would increase upon adoption. In truth, it will be almost impossible to estimate the impact of the transition for an individual institution. The actual impact will depend upon many bank-specific factors, the estimation method, the length of the reasonable supportable forecast, the size of today’s qualitative adjustment, and management’s outlook, to name a few. Additionally, some banks with short-term portfolios have been surprised to discover the CECL estimate may be lower than the current allowance due to a shift from an estimate based on a loss emergence period to one that considers the next contractual maturity date.

2. CECL may result in a requirement to manage model risk for unsuspecting institutions. Similar to reserving practices today, banks are employing a variety of approaches. General trends include the largest institutions employing statistical software to build custom in-house models, while the smallest institutions favor a less complex approach that relies on adjusting historical averages. Many institutions who are not using models are relying on “correlations” to support their adjustments. However, this practice needs to be managed carefully, as per regulatory definition, any method that applies a statistical approach, economic, financial, or mathematical theory to derive a quantitative estimate is considered a “model.” Therefore, using a correlation – regardless of whether it is identified in a spreadsheet, vendor solution, or anywhere else – to quantify the impact of a factor is by definition a model, and subject to model risk management. Institutions taking this approach to CECL should carefully consider the scope of model risk management, and avoid accidentally creating or misusing models.

3. Qualitative adjustments will still be necessary. Regardless of the method used to estimate the impact of forecasted conditions, there will still be a need to apply expert judgment for factors not considered in the quantitative (modeled) estimate. Even the most sophisticated models used by the largest banks will not consider every factor. Further, many banks prefer the flexibility to exercise judgment in their reserving process. While it’s not yet clear which factors the industry will use or how to quantify the lifetime impact, as it relates to regulatory and auditor oversight, the level of scrutiny around qualitative adjustments will not decrease from existing practice. Again, accidentally creating models is particularly important given the scrutiny on management judgment and the overall impetus to quantify it.

4. Think beyond compliance. One of the overarching goals of CECL is to better align credit loss measurement with underwriting and risk management practices. The transition to CECL presents banks with an opportunity to have unprecedented insight into the credit portfolio. For example, a comparison between the CECL estimate and the interest margin can provide insight into underwriting practices. But this can only happen if banks take a holistic approach to the transition and make the necessary investment in systems and reporting.

5. Reporting and analytics will be more important than ever. Bank directors will be responsible for answering shareholder questions related to the CECL reserve, which will be sensitive to changes in forecasted conditions. As a key constituent of the disclosures and internal management reports, bank directors have a responsibility to ensure a proper reporting framework is in place – one that integrates the data inputs and quantifies the change in expected credit losses at the instrument level. Attribution reports, for example, will be especially helpful in explaining why the allowance changed because they isolate and quantify the impact of individual variables affecting the reserve.

6. Be prepared for an iterative process, even after adoption. Translating the conceptual to operational can reveal unintended consequences and further questions. The industry has continued to work through implementation concerns since the final version was issued in 2016, including several meetings of the CECL Transition Resource Group. Industry best practices will evolve well after initial adoption.

Maximizing the Power of Predictive Analytics



Data analytics affects all areas of the bank, from better understanding the customer to addressing regulatory issues like stress testing. However, organizations face several barriers that prevent unlocking the power of predictive analytics. John Sjaastad, a senior director at SAS, outlines these barriers, and shares how bank management teams and boards can address these issues in this video.

  • The Importance of Predictive Analytics
  • Barriers to Using Predictive Analytics
  • Considerations for Bank Leaders

Human Capital: An Underestimated Element of Successful Change


capital-2-26-18.pngFinancial services companies of all sizes are modifying their business models to stay competitive. But managing organizational change is a major business challenge, as evidenced by the fact that 70 percent of critical change initiatives fail to meet management expectations. One reason for the high failure rate is that leadership often underestimates the effort necessary to properly handle the human capital element—that is, the employee awareness, understanding and commitment required to achieve success.

When a change initiative is a bank consolidation, acquisition, turnaround or the implementation of a new competitive business model, there is little margin for error. Directors typically focus on the financial or operational risks associated with the resulting organization, but they would be wise to expand their oversight to the potential effects on people and culture, which in turn affect how well the organization can serve customers, its perception in the community and its sustainability.

The Role of Human Capital in Change Initiatives
It’s understandable that bank directors and management tend to concentrate on the risks that can be expressed in spreadsheets and financial statements, but ultimately, it is the people of the organization that create—or impede—success.

An organization’s staff should be well prepared to use the new business processes and systems going forward, for example. Employees also should be prepared for changes to job roles and responsibilities that frequently occur due to business process improvements and new technology integration. Importantly, staff must understand not just the “how” but also the “why” behind the change if they are going to buy in.

The extent of the risk associated with a change initiative is generally driven by the extent of the impact on employees, and their readiness and ability to change. This risk increases when changes:

  • Affect more employees;
  • Affect more aspects of work;
  • Affect more locations;
  • Represent a large departure from the status quo;
  • Or represent a disruptive change, as opposed to an incremental change.

Common changes may include changes in employee roles, culture, staffing, relationships, competencies, authority, information, training, expectations and facilities. The changes that have a greater potential impact will require more active change management, while those that are less likely to cause significant waves simply can be monitored.

Once a bank’s leaders understand the change risk associated with an initiative, they can devise a plan for managing the change and communicating with employees about it.

Four Critical Transitions
An effective plan for managing business change accounts for several essential staff and culture transitions, each of which comes with its own change risks. Fortunately, each transition can be managed if leaders analyze and address the relevant issues in advance.

  1. Organizational transition: Leadership must determine the strategies, structures, processes, employee reward systems and people tactics (for example, hiring, development and retention) that will be affected or that must change.
  2. Employee transition: What changes will be required of individual employees and departments, and are they ready and able to do so? Changes may involve job roles, responsibilities, workflows and expectations. In times of change, employees naturally wonder, “what’s in it for me, and what’s needed from me?” Leadership must be able to clearly answer these questions.
  3. Cultural transition: Bank leaders need to determine how the current culture (in the case of consolidations, turnarounds or realignments) or the new culture (in a merger or acquisition) will accelerate or delay achievement of the organization’s goals. They also should analyze whether current behaviors in the organization are the optimal behaviors and how the culture will need to change (for example, leadership style, decision making or authority).
  4. Infrastructure transition: Leadership must understand if desired business changes will require changes to the processes and systems that support employees, such as performance reporting or payroll and benefits systems and, if so, the cost, timing and resource implications.

Bank leaders must act as influencers and role models during the execution of change, but their effect on results, and employees’ levels of commitment and performance, will vary depending on a few factors. Do the bank’s leaders possess the necessary skills, knowledge and abilities to perform the requisite responsibilities? Do bank leaders have the required level of commitment to perform the necessary roles and responsibilities? And finally, is their management style a cultural fit for their organization?

The ability to accomplish successful change depends on a range of factors, including some that might not traditionally be considered. Bank leaders must identify and manage their people and culture risks to maximize the odds of obtaining the desired results.

Do You Really Need a Bank Holding Company?


holding-company-2-23-18.pngThe boards of directors at three, multibillion-dollar, publicly traded banks recently chose to get rid of their holding companies. Bank of the Ozarks, BancorpSouth and Zions Bank, N.A. are now or soon will be stand-alone, publicly traded banks. For years, Republic Bank and Signature Bank have also operated as publicly traded banks without a holding company.

According to the public filings of Ozarks and BancorpSouth, the boards of those two organizations decided that having a holding company on top of their bank was way more trouble than it was worth in terms of dollars and time. The Zions board concluded that subject to regulatory approval, the bank would no longer be “systemically important” if it did not have a financial holding company structure. In the process, all three banks eliminated at least two regulators—the Federal Reserve, which oversees bank holding companies, and the Securities and Exchange Commission (SEC). None of the former holding companies were engaged in any significant nonbanking activities that couldn’t be conducted by the bank, either directly or through a subsidiary. For banks, the federal securities laws are administered by the bank’s primary federal banking regulator, rather than the SEC.

Life is a series of trade-offs, and none us can predict the future, but the increase in efficiencies for these organizations seems to have been worth giving up the flexibility afforded by operating in a bank holding company structure. For most banks that aren’t actively using their holding companies to engage in those non-bank activities that may only be performed under a holding company structure, the cost of eliminating the holding company is quickly recovered. If it turns out that eliminating the holding company was a bad idea, the Federal Reserve seems receptive to accepting and approving applications to form bank holding companies from many organizations, including those that had previously eliminated them.

Ozarks and BancorpSouth, like Signature and Republic before them, file their periodic reports under the Securities and Exchange Act of 1934 with the Federal Deposit Insurance Corp. Zions, which operates under a national charter, will make those filings with the Office of the Comptroller of the Currency. The shares of the banks are still listed on Nasdaq or the New York Stock Exchange.

Shareholders and analysts don’t seem to care that the banks’ filings are no longer available on EDGAR, an electronic filing system maintained by the SEC that investors can access. One can argue that bank holding companies that have over $1 billion in consolidated assets and thus are not eligible for the Fed’s Small One Bank Holding Company Policy Statement should consider whether their enterprise is getting its money’s worth from having a holding company—some are, and some aren’t. But remaining in a holding company structure simply because that is the way you’ve always done it is not sufficient analysis to withstand even polite questions from your shareholders.

The process of becoming a stand-alone bank is not intimidating for folks who know their way around the corporate and regulatory world in which banking organizations operate, but there are a number of important questions that bank boards need to consider, including: “Can we execute our business plan without a holding company?” Also, “Are the corporate laws applicable to banks chartered in our state as flexible as the laws applicable to our holding company?”

Three prominent banking organizations making a move like this in a six-month span might not signal a new trend, but it should cause directors at other banks to ask whether they really need a bank holding company.

How Poor Communication Practices by Directors Increase Cyber Risk


cyberrisk-10-9-17.pngThe role of a corporate director is continuously expanding, particularly in the banking space. Beyond growing profits, today’s directors are also responsible for ensuring corporate ethics, social responsibility, cybersecurity and more. Unfortunately, many directors are still using their old communication tools. A recent report from the New York Stock Exchange and Diligent found that the communication practices of directors and executives are potentially increasing their company’s level of cyber risk for the sake of personal convenience.

These findings are particularly alarming in the context of recent regulatory pressures on boards to be held accountable for data privacy and cyber breaches—including a recent ruling by the New York State Department of Financial Services applicable to all financial services firms conducting business in New York, and the impending impact of the European Union’s General Data Protection Regulation for every company that serves EU customers. (For further details about the New York regulations, see “New Rules for Financial Firms in New York Put New Onus on Boards.”)

The NYSE/Diligent report noted that while directors and executives have access to sensitive data, they operate with little-to-no direct oversight by the company’s IT/data security teams, and are therefore not restricted to using only secure communication channels when discussing board business. In fact, of the 381 corporate directors of publically traded companies surveyed for the report:

  • Ninety-two percent use personal email accounts (outside corporate firewalls) at least occasionally to conduct board business.
  • Fifty percent regularly download confidential company documents onto personal devices or computers.
  • Sixty-two percent are not required to undergo cybersecurity training.
  • Forty percent “didn’t know” if the board had ever conducted a security audit.

So what what are some best practices for secure board communication that banks and financial institutions can employ to mitigate cyber risk and prepare their directors and executives to meet the challenge?

Training and Assessments
Cyber threats can change at a moment’s notice, and regulatory requirements in the cybersecurity space continue to evolve. Regular training is imperative for board members, especially experienced directors who need refreshers or may not be aware of the latest risks. Customize the training to include a review of the practices your company expects from directors to ensure they are handling sensitive information appropriately, and continue to revisit these on an annual basis.

Bring the data security team into the boardroom to conduct an audit of directors’ communication practices. By ensuring that directors are handling documents only through secured and encrypted channels, your company can minimize exposure to some of the worst penalties of the new regulations.

Also, leverage the annual board evaluation by making cybersecurity a key component of board success. Query directors on their level of readiness to handle a material data breach or leak, and their understanding of the board’s responsibility versus the roles of IT and the management team. From there, the company can identify areas where further education and training are needed.

Keep Business and Personal Separate
Free email service provider use has been the center of too many corporate cyber incidents in recent years—yet directors continue to use personal email as a primary communications method rather than adopting more secure technology. Why? While internal emails and servers typically have heightened security and stronger encryption, many directors reject company-issued email accounts because they serve on multiple boards, which could lead to a single director having to check multiple inboxes and multiple calendars to conduct board work.

But what directors gain in convenience by using personal email, they lose in increased risk. The better solution? Give up on email altogether and opt for a secure messaging tool.

Secure and Convenient Technology
Select a secure messaging tool that is designed specifically for director communication and can be integrated into your existing governance software. There are a number of considerations to keep in mind. Do your directors prefer to use mobile? Do they want to make digital edits while reviewing board docs? What level of protection and encryption do you need?

These platforms can alert directors’ mobile phones when messages arrive and allow them to login with biometrics—while still enabling the data security team and corporate secretary to control record retention and data encryption. It not only facilitates convenient board communication, but can also be a last line of defense in case devices are stolen in transit, lost on planes or impacted by viruses/malware while connected to unsecure Wi-Fi.

Is Your Bank Ready for the CEO Pay Ratio Disclosure?


ceo-pay-ratio-1-4-17.pngStarting with the 2018 proxy statement (covering fiscal year 2017), most public companies will be required to start reporting their CEO pay ratio, that is, the ratio of the CEO’s pay to the median of all other employees’ pay. While it is questionable whether the CEO pay ratio disclosure will be a truly meaningful or useful figure to aid shareholders understanding of a company’s compensation practices, the new disclosure is likely to be a focus of both the media and shareholder activists. Directors and management should be aware of how their CEO pay ratio compares to peers and how it may change from year to year. The good news is that banks are expected to produce lower CEO pay ratios compared to companies in other industries. However, as with any new process, this will require time and planning.

Here are some questions to ask to see if your bank is ready.

1. Do you know how your CEO pay ratio will compare to the market?
To avoid surprises, know where your CEO pay ratio fits in with similar sized banks. McLagan’s research shows that the estimated CEO pay ratio ranges from 10 to 67, depending on asset size for banks under $30 billion in assets. Business focus also matters. Retail-focused banks tend to have a higher ratio as compared to non-retail focused banks as a result of lower median employee compensation (about 20 percent lower on average). Start planning your communications strategy to proactively consider employee concerns and press coverage. You’ll also need to evaluate the need for supplemental disclosure in the proxy statement if your CEO pay ratio is outside the norm.

Bank CEO Pay Ratio Information
CEO Pay Ratio Chart.PNG

2. Does the CEO pay ratio apply to my bank?
If you are a smaller reporting or an emerging growth company, you do not need to report the CEO pay ratio. However, even if you are not required to disclose the ratio publicly, your board may want to know how your CEO compares to the market.

3. How do I determine who is included in my employee population?
Employees are identified based upon any date within the last three months of the year. It must include all full-time, part-time, seasonal and temporary employees (including subsidiary employees and potentially, independent contractors). While the date flexibility is less of a benefit for banks, this may simplify the process for some companies, such as those in the retail industry who have significant seasonal employees.

4. Is there flexibility in the methodology used to calculate the median employee?
Yes, W2 data, cash compensation, or some other consistently applied compensation measure can be used. In addition, the time period for measuring compensation does not have to include the date on which the employee population is determined. Keep in mind that decisions regarding specific methodologies may affect the resulting median and may require additional disclosure.

5. Can I use estimates?
Yes, reasonable estimates and sampling can be used; however, the methodology and assumptions must be disclosed. Regardless of the method used, ensure that your process is reliable, repeatable and able to be explained in the proxy. This is not likely a benefit for wholly owned U.S.-based banks with centralized human resource information or payroll systems.

6. How often is the disclosure required?
Annually; however, the median employee may be updated every three years, provided the employee population has not changed significantly. Banks on an acquisition path may need to update the median employee each year.

7. Can all my data providers supply the information I will need and on time?
Do your due diligence now to determine your data requests from payroll vendors, stock reporting systems, benefits providers, actuaries for retirement plan accruals, etc. The time and resources to comply could be substantial and working through the various decisions and establishing a methodology ahead of time will make for a smoother process in 2018.

In summary, don’t assume your CEO pay ratio calculation will be quick and easy. Getting started now will allow time to provide education and manage expectations. Be proactive to ensure your methodology is well tested to be ready for implementation in your 2018 proxy statement.