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Many banks do not know how to address expense reduction in a data-driven manner. We advise doing a checkup. It can be accomplished within a few hours using business unit sales and volume histories and staffing breakdown by function.
• Develop a revised volume or revenue scenario, plus a downside scenario, for each business unit.
• Scale business unit operating staffs (sales, service, back-office processing) up or down in line with volume or revenue scenarios, using a recent, high productivity year as a reference point.
• Add 25% to 30% for information technology, overhead, top management and other administrative employees (note that some of these functions may be performed in the business unit and others may be centralized; this estimate is for staffing of these functions across the entire institution).
• Compare resulting staffing levels with your current staff in each business unit (as well as in IT/overhead/management) to estimate a rough head count reduction target.
• Scale back personnel-driven outside spending proportionate with this head count reduction target, for example, FICA and benefits, occupancy, desktop equipment/support and telecom.
• Reduce volume-driven outside spending categories such as outsourced services, professional fees etc. in proportion to staff or volume cuts where appropriate.
• Develop an operating profit projection by comparing the revised cost structure (including noncash expenses like depreciation and amortization) with projected revenue, using long-term provisions for loan losses — 50 to 70 basis points for most banks.
If the resulting return on assets is unacceptably low, repeat the process above and challenge your assumptions and calculations to make sure you have fully identified the potential.
This checkup is purely data-driven, and the result should give a high-level indication of what cost reductions may be available (and may be necessary, given revenue projections).
This information should also provide a good "back of the envelope" assessment of whether enough dollars are at stake to justify mobilizing your management team or even engaging outside experts to help.
In addition to this internal review try to obtain external expense benchmarks by category. Doing the analysis above based on external benchmarks is even more powerful.
Next, work with managers (and potentially outside experts) to develop a more rigorous, fact-based assessment of where the cuts should come from, by function and by level or layer in the organization. Do not merely hand out across-the-board staffing targets.
We find a pronounced tendency — almost without exception — to cut staff in the wrong areas and at the wrong levels.
It is easy to declare victory when large numbers of positions are eliminated, only to find two years later, after having suffered significant sales and service shortfalls, that all the staff must be added back.
Finally, manage the details carefully. Work closely with business unit and overhead leaders to incorporate nuances and unique issues in a tailored plan to address your company's priorities and strategic initiatives. Develop and monitor plans incorporating the essential elements — positions, compensation, responsibilities and implementation dates — to ensure timely execution and to prevent slippage.
Track the results after the fact and reconcile them with the income statement and human resources' head count tallies to ensure there were no offsetting, "back-door" cost increases. Examples include hiring consultants to back-fill staff cuts (sometimes the same people who were laid off!), increasing overtime spending or allowing new hires for departments that are supposed to be shedding staff. The ingenuity of junior managers in circumventing or offsetting cost cuts is remarkable.
We believe that, if banks periodically do this analysis and follow these guidelines to revise their plans and adjust their cost structures, they will be ready to respond operationally to almost all evolving market conditions. Such reviews are especially important now, given the uncertainties facing banks.
The resulting organization will be more nimble at leveraging emerging opportunities and better positioned to deliver accelerated bottom-line growth when revenues eventually recover.
Ken Dubuque, a former chief executive and chairman of Guaranty Bank, and Michael Cleary are senior partners at Cleary & Co., a consulting firm that specializes in financial services profit improvement. Karen Hartnett contributed to this article.
