Everyone is dealing with significant health, financial, personal, and business challenges due to the COVID-19 outbreak. These are disruptive and unprecedented times. First and foremost, our thoughts are with all of you as you make difficult decisions about how to continue providing critical services, protecting employees and customers, and adhering to recommendations from public health experts.
As a trusted partner in the financial institution space for over ten years, we want to help your organization navigate these turbulent times by offering thoughts, ideas, and best practices from a Financial Planning and Analysis (FP&A) perspective. These are based on our own collective experience (our team has over 600 years’ experience in the financial services industry), as well as direct feedback from some of our clients and what they are doing at this time.
Current events have created the “Perfect Storm” for the banking industry. A Perfect Storm is defined as “a critical or disastrous situation created by a powerful concurrence of unpredictable and negative factors.”
This Perfect Storm for banks, credit unions and lending organizations has been created by several recent, unpredictable, and negative factors, including the:
- Coronavirus outbreak
- Inversion of the yield curve from February thru early March
- Recent emergency rate cuts of 150bp by the Fed
- Concern about the possibility of negative rates in the U.S.
- Growing economic uncertainty and expected economic downturn
The outlook in both the short term and long term is uncertain at best. It has resulted in a challenging rate environment, an expected economic downturn or recession, and limits on your ability to interact with your clients on a personal level for an unknown period. So how can your finance and accounting team help your organization weather the storm? Here are some ideas and best practices:
At this point the budget that you put together just a few short months ago is shot! It might be better used to help address the toilet tissue shortage than your plan going forward. What does that mean? It means you need to re-forecast your plan with an entirely new set of assumptions, based on the new market conditions and resulting changed drivers for:
- Interest rates
- Growth plans for loans (some may increase, others may decrease)
- Growth plans for deposits (thinking about liquidity, impact of market sell-off, etc.)
- Pricing on new business (on both loans and deposits)
- Balance sheet mix and asset allocations
- Expected mix between margin income and fee-based income
- Credit quality (potential increase in non-performing assets)
- Non-interest income and expense (any changes in expected fees, salary expense, costs, etc.)
This doesn’t need to be done at a department level (you are not re-budgeting), but rather should be done quickly at an institution, line of business, and perhaps regional level depending on the structure of your organization.
Once you get your arms around what the new economic environment means for these assumptions, re-forecast your plan to understand the expected impact. Your executive team should then use this to adjust the plans even further — what changes are needed operationally, procedurally, etc. to optimize performance in this new world?
Once you have your new plan (re-forecast) in place based on your short- and long-term assumptions and plans, evaluate what will happen under a different set of conditions. What will happen if the impact isn’t as big as you think? What will happen if it is much worse than you think?
As a best practice you should be running those scenarios, not just to understand the potential impact and risks, but to also evaluate what your plans will be if those scenarios start to take shape. You cannot afford to react after the fact; you need to understand and prepare for what your institution will do when one of those scenarios begins to happen.
As part of this planning and scenario analysis, but also as a separate and specific process, your organization needs to address the various risk aspects of this new and changing environment.
- Expected Credit Losses: look at new expectations regarding GDP and unemployment. What is the impact via your current expected credit losses (CECL) models? If you don’t have a CECL model yet, how are you assessing this?
- Is your institution planning to or willing to take on additional credit risk to drive more loan growth and higher yields?
- If so, what is the impact on expected income, charge-offs, provision for loan loss amounts, etc.?
- If not, what is the impact on loan growth and yields, and resulting income?
- What are your teams doing to manage these risks?
- Do you have enough liquidity? How quickly are you adjusting deposit rates?
- Do you have too much liquidity? What impact do you forecast with investment returns expected to plummet?
Interest Rate Risk (IRR)
- How is your IRR profile changing with the recent movement and shift in rates?
- Will your IRR profile change based on any of the plans mentioned above (e.g., balance sheet restructure, asset allocation, loan growth, etc.)
Now more than ever, your institution needs to understand the sources of profit.
- What is the impact if your most profitable, large customers leave, or if their business is severely impacted?
- What happens if demand for your most profitable products dries up?
- Should you consider permanently or temporarily closing branches, if so, which ones?
- What channels should you be investing in and promoting?
- Should you modify your pricing strategy? What is the impact on profitability, on liquidity, on loan growth?
Assuming the coronavirus will have either a short-term impact, or potentially push the economy into a full recession, your institution should analyze costs to determine what opportunities exist to soften the impact through reduced costs. While you can’t save your way to profits in the long term, a detailed analysis of costs can help your institution minimize the impact in the short-term and create a foundation for sustained profitability going forward.
- Where can your organization reduce costs, without impacting ability to grow revenue?
- Where might you need to invest in technology to improve efficiencies and reduce costs?
- Do you need to accelerate plans for a digital strategy?
Put yourself in your customers' shoes. What would you hope to see your financial institution do to help and assist? Is your organization thinking about how you can be that trusted business partner and advisor to your customers and members in this unsettling time?
Many of your customers are stressed; they are worried and even panicked about what the future will hold in terms of health and finances. Many of them live paycheck to paycheck and will need advice, understanding, and assistance. Perhaps now is the time to think about creative and unique ways that you can be there for them.
- Develop and offer short-term personal loan offerings (if you don’t already)
- Offer short-term emergency small business loans
- Provide a skip-a-payment service
- Allow for auto loan refinancing with a cash out option
- Temporarily lower credit card interest rates, and raise credit limits
- Revisit your fee waiver strategy across all products and services
- Consider 24/7 call center support (reallocate some of your branch resources to other areas)
- Ensure full up-time for digital and mobile banking services (reallocate resources as needed)
- Evaluate the possibility of offering your branch location as a potential emergency treatment center
These are unusual and trying times. As your bank, credit union, or lending association works through the evolving crisis, we at Kaufman Hall certainly wish you, your families and your colleagues the best.
We hope the information above gives you some actionable ideas to help right the ship and guide your teams as they develop plans to navigate these troubled waters for the rest of your organization. As always, the team at Kaufman Hall is here for you. If your financial organization is in need of help, please don't hesitate to reach out to Bryan Ridgway.