Audit Committee: Important Questions to Ask Regarding Your Strategic Plan


questions.jpgIt is obvious that the banking industry has undergone some dramatic changes over the past five years. The national and global economic crisis and the ongoing recovery have changed the playing field, making it more difficult for community banks to successfully operate with the same business plan as just a few years ago.

This new reality has made it increasingly important that audit committee members understand their institution’s strategic plan for the next three to five years so they can appropriately conduct their oversight role. This was a focus of my presentation at the Bank Director Audit Committee Conference in Chicago last month. After talking with audit committee members during a peer group exchange and throughout the general sessions, it was clear that some boards and management teams have gone to great lengths to make sure that they have developed a clear vision of the strategic plan and how their organization will adapt to the new environment, while other organizations have not yet turned their focus to the future.

With that in mind, there are a number of questions that audit committee members should be asking themselves, their board colleagues and their management teams:

What is our strategic plan?  It is increasing important that boards of directors and management teams have a clear direction as to the strategic focus and goals of their institution. Directors should determine with management the role that directors play in establishing the plan, measuring the institution’s progress with the plan and modifying the plan, as necessary.

How does our strategic plan affect our risk monitoring?  Different strategic goals may give rise to different risks and different risk management tools may be necessary. For instance, an institution that is focused on growth through acquisitions may have different risk thresholds and considerations than a company that is focused on steady, organic growth. These differences should be taken into account by the audit committee when approving the company’s internal audit plan and reviewing the internal audit reports.  

How is our relationship with the regulators?  It is crucial in today’s environment that your organization has a solid, respectful relationship with its regulators. As a director, you should be comfortable that your management team is responsive to the regulators’ questions and suggestions. Additionally, it is important that the directors can show the regulators that they are engaged in their oversight role and are exercising independent judgment. Directors should consider reviewing the lawsuits recently filed by the Federal Deposit Insurance Corporation against directors to understand some of the practices at other institutions that have led to potential director liability.

What is our current capital structure?  Regulators and investors place a heavy emphasis on capital levels and this will continue into the future. Basel III, the Dodd-Frank Act and the unspecified “regulatory expectation” will shape what future capital requirements will be for all institutions, regardless of size. Not only are there going to be higher capital requirements, but the components of capital will also change, with a clear bias toward more permanent common equity. Capital plays a key role in an institution’s strategic plan, and all directors should have a clear understanding of the following to help ensure that capital issues do not interfere with the company’s plan:

  • their institution’s current overall capital levels;
  • the different capital components and how their institution’s capital is comprised (levels of common capital vs. trust preferred, TARP preferred, subordinated debt, etc.);
  • how much capital will be needed in the future; and
  • how their institution can raise additional capital.

What is occurring with M&A in the industry? Are we going to participate?  Over the past 18 months, industry insiders have been indicating that a wave of consolidation is right around the corner. While the level of merger activity has remained somewhat muted, it is likely that there will be more activity in the near future. Directors should understand their institution’s M&A plan and how it fits within the company’s overall strategic plan. Whether or not the company is planning to be an active acquirer or is contemplating selling, it is important to understand the industry trends, what investors are looking for and what your competitors may be planning.  Additionally, it is important that all institutions have an understanding of what different opportunities exist within their market areas. Having such current knowledge will help ensure that the company can act quickly if the company’s circumstances change and participation in a strategic transaction is in its stockholders’ best interests.

Part 2: Best Practices for Bank Boards


megaphone-full.jpgOver the past several years I have attended dozens of meetings of boards of directors of banks in troubled condition.  The vast majority of these boards were well functioning and had dedicated and hard working directors.  Geographic location has been the predominant factor in determining winners and losers among banks in this challenging economy.  However, there have been several situations in which it appeared to me that the composition of a board, and the interpersonal dynamics among its members, had magnified the impact of the economic downturn.  A bank board is like any other working group in that the direction and decisions of a board can be heavily influenced by members who dominate the conversation, or by members who actively discourage discussion or dissent.

This is the second in a series of articles on best practices for bank boards.  During the past several decades, my partners and I have worked with hundreds of bank boards, for institutions ranging in size from under $100 million in assets to well over $10 billion in assets.  Regardless of the size of the entity, we have noticed a number of common characteristics and practices of the most effective boards of directors.  This series of articles describes ten of those best practices.  In the first article in the series, I focused on two fundamental best practices—selecting good board members and adopting a meaningful agenda for the board meetings.  In this article I will discuss three additional best practices—providing the board with meaningful information, encouraging board member participation and making the committees work.

Best Practice No. 3 – Provide the Board with Information, Not Data

Change the monthly financial report to something meaningful.  Most boards need to know only about 20 to 30 key data points and ratios and how those numbers compare to budget, peer banks and prior year results to have a good handle on the condition of the bank.  By contrast, the typical financial report at a bank board meeting is encompassed in a 25 to 30 page document that blurs into a very detailed, and often meaningless, recitation of data that is difficult to follow.

Providing meaningful information in an understandable format is essential for the board members to identify and manage risk.  Less is often more in effective board presentations. 

Best Practice No. 4 – Encourage Board Participation

No board should be burdened with a devil’s advocate who has to speak in opposition to everything, but there should be an atmosphere in the board room which allows for dissenting views and occasional no votes.  Far too many meaningful questions go unasked in the board room.  Board members need to feel empowered to ask challenging questions, and also to say that they don’t understand a proposal or a presentation.

In my experience, a very powerful question is the question: Why?  A sense of momentum and inevitability can develop during the discussion of a proposal in a board room, particularly when the discussion is dominated by one or more directors who are persuasive or who feel strongly about a position. 

I know several bank boards that greatly benefitted from a few independent thinking directors in the years running up to the current economic downturn.  Those directors had the insight and the courage to question generally held beliefs in a boom real estate market.  More importantly, the culture of the boards on which they served allowed for real discussion of concerns expressed by directors.

Best Practice No. 5 – Make the Committees Work

The best functioning bank boards almost always have an active and involved committee system.  There is effective leadership of their committees, and the committee members take the time to read and analyze management reports and related materials in advance of meetings.  If you ever need to provide motivation for committee members to be more focused and attentive, give them a copy of one of the complaints filed in litigation by the FDIC against directors of a failed institution.  Almost all of the FDIC lawsuits assert a lack of adequate attention and focus by directors, and particularly by loan committees.

Directors should not become micro-managers, but management of the bank should feel that board members are holding them to a certain level of performance and accountability.  “Noses in and fingers out” is a good maxim for directors to follow, whether in the committee setting or on the board as a whole.

A strong committee system also helps build real expertise on the board, which can help support management.  Future board leaders can be identified through their work on committees.  We recommend that committee chair positions, particularly among the two or three most active committees of the board, be rotated every few years.  This allows for broader exposure of directors to leadership positions, and can heighten their overall understanding of the bank’s business.  It also brings a fresh perspective and approach to the committees.  Leadership ability and the commitment of time and energy should be the main criteria for selecting committee chairs.

Succession Planning Without Three Envelopes


three-envelopes.pngAccording 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. 

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.

Questions to ask about mobile banking and marketing


google-wallet.jpgRecently, Google generated a fair amount of buzz with its Google Wallet app.  Have you seen it?  It allows a consumer to load debit or credit card information into their Android-powered mobile device and pay on the go with a simple tap at “at hundreds of thousands of MasterCard PayPass merchant locations.”  Clever, right?   It should be, considering it was “designed for an open commerce ecosystem.” So is this a competitor to your bank —or a simple reinforcement that for those of you not in the mobile field, it really is time to sit up and take notice?  How might your board start down this path?  Glad you asked…

When I got my start with Bank Director in 1999, I innocently asked when a decision made it to the board’s level.  The answer came in the form of a drawing: a three-legged stool to be exact. Twelve years ago, our CEO depicted each leg with a word: Strategic, expensive, and risky.

Well, that picture remains firmly planted in my mind.  For a while, the marriage of all three applied nicely to issues like mergers and acquisitions, directors and officers liability and executive compensation. Since coming back in September, I’ve started to hear the same standards applied in terms of mobile banking strategy. Let me explain.

In April, at our annual Chairman/CEO peer exchange conference, a handful of CEOs from public banks with more than $1 billion in assets talked with me about growing their business in a recovering economy.  With a beer in hand, I consider those conversations off-the-record.  Let me just say, given our growing love affairs with mobile devices of all shapes, sizes and underlying technologies, the fact we were talking about their desire to provide a mobile banking experience to help transform the way people manage their finances through their institutions was not surprising.  In fact, one CEO offered that, with PNC “just across the street,” a strategy that challenged the status quo would be of interest to him, his chairman and his board.

With these CEOs thoughts rattling around in my mind, I thought to reach out to a few folks in the business to get their take. While most shared the standard stuff (you can attract new market segments! Increase customer satisfaction and loyalty!! Generate new revenue!!!), let me pass along a few tidbits c/o Intuit Financial Services‘ John Flora. John is the Mobile Solutions Group Product Manager—and counts banks with tens of billions in assets as customers. While we talked about a few roll-out opportunities, I think he has it right in terms of the questions that a CEO needs to ask in terms of mobile banking (no particular order):

  • How can we best grow our business using mobile as a complementary (not restrictive) asset to what we offer now?
  • How quickly can we make this happen?
  • What does the initial integration cost look like?
  • How does mobile fit into our core banking strategy?

We laughed because 12 to 18 months ago, thoughts about going mobile centered on cost reductions, retention of customers, building impressions, and more regular engagement. He said while those are still on the table, the last six months have seen most institutions realize that they cannot afford NOT to have a mobile strategy.

John also made the very good point that mobile banking requires the bank to back it up with marketing awareness. (This is where some banks fall down). In his experience, adoption rates are very high in the first month; but to sustain that momentum, leadership needs its employees to promote mobile apps and opportunities to better connect with clients on-the-go. So while putting a consistent marketing strategy into play on day one isn’t the job of the board, setting the strategy and expectations certainly is consistent with what I’m hearing today.

It’s time for Plan B for the banking industry, following failure of Durbin delay


Plan-b.jpgWith Congress voting down last week for the second time a delay in implementation of the Durbin amendment to Dodd-Frank, it’s time for the banking industry to move on.

Brian Gardner, an analyst with Keefe, Bruyette & Woods in Washington, D.C. wrote in a note to clients Thursday that Congressional action on the Durbin amendment is now “a dead issue.”

Karen Thomas, senior executive vice president for government relations and public policy at the Independent Community Bankers Association, said: “I think it’s going to have to rest for awhile.”

The Durbin amendment is estimated to wipe out $15.2 billion in annual debit card fee income by capping the fee banks can charge retailers for debit card transactions, according to R.K. Hammer Investment Bankers, a bank card advisory firm.

Although the regulation states only banks with more than $10 billion in assets will be impacted, many believe the impact will be felt even at much smaller banks, which Bank Director Editor Jack Milligan explained here.

Gardner expects the Fed to release its final rule on debit interchange fees within weeks (the rule takes effect July 21). Like other analysts, he expects the 12 basis point cap on fees to be the floor and that “the final rule will provide some relief to card issuers.”

Thomas said the Fed will have to consider the cost of fraud protection on debit cards, and she’s hopeful it will consider other costs as well.

So the focus has moved to influencing the final Fed rule, although at this late stage, that might be hard to do.

The bigger picture is that banks already have been making changes and will have a lot of work to do on their business models going forward: With slow economic growth, higher capital requirements and reduced fee income from products such as debit cards, how will some of them, especially the smaller banks, make money going forward?

Robert Hammer, chairman and CEO of R.K. Hammer in Los Angeles, argues that banks will now look for new sources of fee income.

“Fees will rise as an unintended consequence of the legislation, no matter how well intentioned the Durbin bill may have been,’’ he writes.

Among them, potential fees for customers who don’t use their debit cards very much. Already, banks have been scaling back rewards programs for debit card users.

But the fee issue is just one piece of the puzzle for banks that are looking now at the big picture of how to grow and make a profit in a slow economy.

Board members have become more engaged in these questions than in prior years, says Will Callender, a consultant for First Manhattan Consulting Group in New York.

“We are seeing more rigor around the strategic process,’’ he says. “In prior years, it was ‘we do (strategic planning) because we do this every year.’ Now, everybody is more involved and asking more questions. ‘What lines of business are critical? What’s our plan for growth or profitability?’”

What Today’s Bank Boards Are Worried About


Unknown regulatory impact, slow economic recovery and increased risk of liability have created a tough environment for even the most skilled director of a financial institution to navigate. This year’s Bank Chairman/CEO Peer Exchange hosted by Bank Director in Chicago this past week provided an opportunity for today’s banking leaders to gather for candid discussions on topics ranging from risk oversight to managing the CEO-board relationship.

Over the course of a day and a half attendees representing banks of all asset sizes from across the country met in small peer groups to challenge and support each other on the top issues keeping them up at night. The results of those sessions formulated a theme throughout the event that reflected the need for more skilled management, risk management processes, and a solid strategic plan.

Strong Management & Stronger Boards
During his industry overview presentation, John Duffy, Chairman & CEO of Keefe, Bruyette & Woods Inc., reminded the audience that the cause of many bank failures could be traced back to a dominant CEO and a compliant board, a correlation not lost on the majority of attendees as they shared their desires to cultivate a strong leadership team and board of directors.

With so many new regulations, directors fear that their management team doesn’t have the right skills, talent or vision to take their institutions through the fire. Where there is a lack of strong leadership, board members are struggling to find the discipline to ask the tough questions. As a fundamental role of the board, attendees expressed the need for processes and shared best practices for dealing with these sensitive personnel issues.

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The Risks of Risk Management
In a peer exchange summary session, Paul Aguggia, partner of Kilpatrick Townsend & Stockton LLP, noted that many bank leaders are not insensitive to the importance of risk management. They have embraced the need to implement processes and procedures to better manage their institutions’ risks; however several have expressed frustration with the lack of industry standard ERM best practices and instead have found themselves slaves to ratios and quantitative driven requirements. Boards are looking for direction from the government and finding none that emphasize process rather than a list of common risks.

In addition, bank executives are trying to determine the role of a risk manager, what qualities they should look for in a candidate and whom that person reports to in the organization. With the regulatory and fraud risk top of mind for today’s directors, many community bankers are still worried that they won’t be able to compete in a marketplace impacted from this latest round of rigorous regulations.

Prove You Planned It
Financial institutions are not going to be as profitable as they once were, and as a result, their approach to business is going to have to change, noted Jim McAlpin, partner for Bryan Cave. A solid strategic plan is not only something today’s bank boards are reevaluating; regulators are, too. Today’s examiners are spending more time looking at strategic planning to determine what that institution will be doing over the next five years. Bert Otto, deputy comptroller, central district for the Office of the Comptroller of the Currency asked the group to look at their strengths, focus on what they do best, perform the proper due diligence, and document that plan thoroughly.

Growing through Relationships


Our annual M&A conference, Acquire or Be Acquired was off to a good start this past Sunday in sunny Scottsdale Arizona with close to 700 attendees representing 265 financial institutions from around the country. After an early morning round of interactive workshops, several hundred banking professionals and industry experts gathered in the large Arizona ballroom to hear from two bank CEOs who have had success growing their institutions despite the challenging economy and it’s impact on the financial services industry.

As DeVan Ard, President and CEO of Reliant Bank a $400-million asset institution out of Nashville Tennessee, and Andrew Samuel, Chairman and CEO of Tower Bancorp Inc., a $2.7-billion asset holding company out of Enola, Pennsylvania described their markets, cultures and growth strategies, a pattern began to emerge between the two institutions despite the differences in their location, size and business lines.

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Both focused on their strengths
During Ard’s presentation, he encouraged the audience to stay focused on building value to the franchise through bank relationships, rather than becoming solely credit driven. He attributed the success of Reliant Bank on its ability to remain focused on what made it profitable.

Tower Bancorp’s approach was quite similar in that Samuel recommended that his fellow bankers recognize what they do well, know their markets inside and out, and resist the temptation to look at other opportunities that don’t fit your core business model.

Both embraced relationship banking
It was clear that both institutions valued the relationships that they had built with their customers, employees, shareholders and other strategic partners. Reliant Bank was able to grow their post-recession deposits by 5-6 percent by leveraging existing relationships with customers and asking for referrals.

By knowing their market, Tower Bancorp was able to design fee-based products specifically for local not-for-profit groups whose boards were filled with the who’s who of their community, thus providing an intangible value to the bank. As a result, the bank created an advisory board to focus solely on this niche market.

Both overly communicate with everyone, including their regulators
It was certainly a common discussion throughout this year’s conference whether the regulatory challenges would take away from the ability to focus strategically on growth. Ard and Samuel both recognized that this was indeed a challenge, however by being proactive and keeping the lines of communication open with the regulators, they have little chance to be surprised.

In addition, Ard felt it was equally important to over communicate with employees, shareholders, media, and the community. By sharing with the employees the financial position of the institution, Reliant Bank was able to get the employees to buy into the plan to slow down growth as they weathered the economic downturn.

Both always look for acquisitions opportunities
Reliant Bank and Tower Bancorp are always on the lookout for potential acquisition opportunities with each having acquired branches and/or other banks within the past few years, however they never lost sight of growing organically. With over 800 banks still on the troubled list and many bankers simply suffering from fatigue, acquisitions are still a viable growth option for both institutions.

At Tower Bancorp, the acquisition strategy is simple, Samuel is responsible for creating strategic partnerships with larger banks in the area as well as actively calling on banks in the surrounding markets to negotiate potential acquisition deals. By building relationships with these potential future sellers, those banks are more open to working with Tower Bancorp, once their board makes the decision to sell.

Samuel still believes that Tower Bancorp can achieve a loan growth figure in the double-digits this year but remains steadfastly focused on organic growth. His acquisition process ensures that not every executive member of institution is involved throughout the entire process. By sharing the responsibilities across the board and senior management, the team has less opportunities to neglect their first priority of organic growth.

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Both work diligently with their board
Involving the board throughout the entire process is key to both institutions success. At Reliant Bank, their three year strategic planning started with management, who then shared and received feedback from the board which was ultimately executed by the senior management team. Each quarter they meet to review the tactical plan to make sure it’s in alignment with the overall strategy.

Samuel indicated that Tower Bancorp followed a similar approach with a three-year strategic plan that is reviewed nine times a year. The board is always aware and proactively engaged with the executive team.

Two stories of success from two types of banks — one privately-held, one publicly-traded — one in the south, one located in the north, yet both remained focused on what they were good at while leveraging key relationships to ensure the growth of their organizations during the financial crisis.

Do Strategic Plans Still Make Sense?


chess.jpgIn his 1980 song “Beautiful Boy (Darling Boy),” the late John Lennon wrote a line that captures the challenge common to strategic planners (and the rest of the human race) everywhere: “Life is what happens to you while you’re busy making other plans.”

It was relatively easy for community bank CEOs and their boards to make a strategic plan five years ago when the economy was booming and it wasn’t hard for lenders to put their institution’s money to work. Then “life happened” in 2008 when the U.S. economy tanked and the fuel that drove bank earnings through the middle part of the previous decade – commercial real estate – became too dangerous and unstable for banks to use.

While the U.S. economy has posted five consecutive quarters of GDP growth through the third quarter of 2010, it seems that many business borrowers lack faith in the recovery because loan demand remains slack. The commercial real estate market is still pretty toxic, and bank regulators have been putting pressure on a lot of banks to downsize their CRE portfolios anyway.

So what’s the plan when no one wants your biggest product?

One could argue that the regulators have been driving the planning process at many banks. “They have told banks to reduce [their] CRE [exposure] by ‘X’ percent,” says Michelle Gula, president and CEO at mrae associates inc., a consulting firm that works exclusively with community banks. “They’ll come down on you if you’re not in the zone where they want you to be.”

Gula makes the fair point that for many troubled institutions today, the “strategic plan” ends up focusing on an immediate problem that has come under regulatory scrutiny and must be fixed. “Now the strategic plan needs to be very targeted,” says Gula.  “You have to identify exactly how you’re going to get it done.”

And yet banks still must find a way to grow, and if they have been too reliant on CRE lending, that could require a change in their business model. How should they do that?

Back in the late 1980s I left magazine journalism to work as a speech writer at insurance broker Marsh & McLennan Inc. One of my duties was to write the annual business plan. (It sounds more impressive than it actually was. I was just the writer. Others were the thinkers.) Marsh’s strategic plan came together in what I would describe as a bottom-up process.  Every significant Marsh business unit throughout the country had to submit its own plan for the coming year and present it to senior management. Eventually this deliberate process yielded a company-wide plan that was a distillation of the best opportunities – and best ideas – from throughout the firm. In other words, Marsh’s local markets and individual business units drove its strategy. There were top-down initiatives as well. But Marsh never strayed too far away from its markets and the people who knew them best.

In this context, the only difference between Marsh and a community bank is that Marsh had many markets and a local bank just one. But this is exactly where Geri Forehand, the national director of strategic services at Sheshunoff Consulting + Solutions, says banks should be looking for new growth ideas.

As they moved away from CRE, several of Forehand’s bank clients have developed new industry or business niches based on opportunities in their markets. One bank has concentrated on property management companies, another has zeroed in on local governments and non-profit organizations, while others have placed more emphasis on trust and investment management as their customers shift from spending to saving. Often, it’s necessary for the bank to hire experienced lenders and relationship managers who understand the new business sector, although Forehand says this is a good time to hire talented people from other banks.

“You have to evaluate the market and what it’s going to give you,” says Forehand. “And you have to evaluate people and determine whether you have the right ones. Managing the human capital side is as important as anything right now.”

I would argue that given the many challenges banks face today, including the decline of the CRE market, strategic planning is more important than ever. Find a niche or specialty in your market that is underserved, develop a strategy for attacking that market, hire the necessary talent and go for it.

Life happens, but that’s no reason to stop making plans.