Pandemic throws wrench into banks' budgeting

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How do you budget in a time of great uncertainty?

That question will dominate executive meetings and board sessions — many of which will be conducted remotely — as banks attempt to set funding priorities for 2021.

Revenue is expected to decline because of the coronavirus pandemic and its attendant economic slowdown, but by how much? Interest rates are under pressure, but for how much longer? Credit quality is deteriorating, but how bad will it really be?

For most banks, the response will involve buckling down and bracing for worst-case scenarios as they prepare 2021 strategic plans and budgets.

Allocation of resources will be top of mind as bankers and directors decide which customers to focus on. Also expect more discussions around cost-cutting rather than ramping up investment.

“I've told our team that the current normal is not the new normal,” John Asbury, president and CEO of Atlantic Union Bankshares in Richmond, Va., said during the $19.7 billion-asset company’s earnings call. “However, we think the next normal — post-COVID-19 — will be different still, and we must adjust now for that coming reality.”

The budgeting process must account for a rise in charge-offs as deferments end, said Billy Weber, CEO of the bank adviser Checkpoint Capital. Given a lack of clarity, Weber said, 2021 budgets will need to plan conservatively for larger loan-loss provisions.

“We will almost certainly have to budget more for the loan-loss reserve,” even though credit quality has so far held up, said Todd Nagel, president and CEO of the $1.6 billion-asset IncredibleBank in Wausau, Wis. “Not everybody is going to emerge from this thing unscathed.”

Mounting reserves would be a painful expense to absorb when revenue is already under intense pressure. Banks are already tightening underwriting standards at a time when unemployment is hovering around 10% and the U.S. economy is still trying to rebound from a severe setback in the second quarter.

“Banks will also budget for revenue shortfalls,” Weber said.

Savings rates are rising as consumers and businesses conserve cash, providing huge amounts of liquidity at a time when banks have few places to put it to work. Bankers, as a result, will need to plan for more margin pressure.

Bankers, in many cases, will need to take a hard look at expenses. Expect more announcements about branch closings and layoffs as the new year approaches, industry experts said.

“It’s going be really tough,” Weber said.

Atlantic Union, as part of its preparation for the new normal, plans to close a tenth of its branches and cut about 125 jobs next month. The company has had a hiring freeze in place since March.

HarborOne Bancorp in Brockton, Mass., said earlier this month that it would cut more than 40 jobs to account for changing customer habits. The $4.5 billion-asset company said most of the cuts will be in its retail banking operations.

Continuing uncertainty will present added challenges to banks looking to complete or integrate acquisitions, industry observers said. There will be trade-offs — some tasks could be more daunting, while others could be handled more efficiently if remote structures are effectively executed.

Loan demand remains a wild card. The Federal Reserve’s latest senior loan officer survey found there was a steep double-digit decline in demand among small-business owners between April and July.

The Conference Board’s latest CEO survey, released earlier this month, produced an index reading of 45 — anything below 50 reflects a negative bias. Over the next 12 months, 38% of respondents said they expect to lay off employees and 37% said they would will trim their capital spending budgets by 10% or more.

Many of those CEOs had already made substantial cuts in the second quarter.

Absent an end to the pandemic, “widespread uncertainty will continue being the dominant cloud” hanging over the economy and business decisions, said Bart van Ark, chief economist of the Conference Board.

To be sure, banks can make money in the midst of the pandemic, but it will take hard work and significant planning. That is why this year’s budgeting process is so critical.

Though it is harder to identify creditworthy borrowers, Nagel said there will be opportunities to lend and to emerge from the downturn with a broader customer base.

IncredibleBank, for instance, has a growing mortgage business that has benefited from refinancing activity. To sustain the momentum the bank may need to look past customers with stellar credit ratings and engage potential subprime clients.

“Done right, you can get a higher rate and get paid for the added risk,” Nagle said.

“The tough part, of course, is picking the right customers to bet on,” he added. “We still need to lend, to stay with people and help them get through this. Will you have a higher risk profile coming out of this? Of course. It would be foolish to say otherwise. But we think there will be good risk-adjusted opportunities.”

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Revenue and expenses Community banks Consumer lending Coronavirus Credit quality Budgets