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Budgeting for Performance

By Bryan Ridgway and Kenneth M. Levey

Managing business and financial performance in today’s challenging and constantly evolving financial environment is critical for any bank to achieve its short-term and long-term goals. The ability to manage business and financial performance is directly dependent upon an institution’s understanding of the drivers of that performance and the ability to effectively quantify projected business strategies. Evolving the planning and budgeting process from a stagnant, annual process to one that enables more timely strategic decision making is essential to accomplish this objective.

This transformation must extend beyond just updated processes and new financial planning tools. To truly attain the value from these improvements, financial institutions must adapt to a new way of thinking and culture that permeates throughout the organization.

One such institution, First Midwest Bank, has taken this approach in evolving its planning and budgeting process to help direct and guide the institution which has led to a more effective financial performance management process, and improved bottom line performance.

An effective performance management process should be a continuous and cyclical practice, starting with the organization’s longer-term vision and goals. It should progress through a plan to identify the best strategies and alternatives to achieve the long-term goals and then push down to an annual budgeting process that provides the specific tactical approaches to carry out the strategies. Finally, a periodic evaluation of the tactics and plans through re-forecasting should occur to determine what adjustments are needed keep the organization on track.

Rich Padula, director of finance at First Midwest Bank, based in the Chicago suburb of Itasca, Ill., has helped the bank evolve into this full cycle enterprise performance management process. He explains, “Our executive team develops a 3-5 year strategic plan that starts with goal-setting and a vision of where we want to be in the future. This is overlaid on a projection of our current momentum and the operating environment we expect to face, so that we can identify and size the gaps and then develop strategic alternatives to address them. We then push this down a level in the organization, communicating our vision, goals and high-level strategy with each of the line of business teams so that they can develop a tactical plan to carry out our strategy and achieve our long-term goals.

Once those tactical plans are developed, an operating budget is created, which acts as our baseline for driving short-term performance accountability as well as monitoring our progress in achieving our long-term goals. We continually re-forecast based on feedback from the business lines to determine what adjustments are needed to not only meet our targets for the year, but more importantly to keep us on track with our longer term goals. The re-forecasting assumptions and results feed right into our planning process for the next year.”

The performance management process needs to start with the strategic plan that provides clear direction, specific business and performance goals and organizational alignment.

Before establishing annual budgets for the institution, it is imperative that the executive and senior management teams work through a sound strategic planning process. This process should include both qualitative and quantitative elements such as a baseline financial forecast, specific strategic goals and the evaluation of multiple initiatives and scenarios that will enable the attainment of those goals. Once agreed upon, the strategic plan, including the key performance and financial metrics, should be communicated across the organization and act as the guiding force for the budgeting process. This enables the organization’s line of business managers to view the budget as a more specific, tactical plan that they develop and own in order to achieve the overall performance goals.

Padula and First Midwest Bank have developed a highly collaborative operation that joins the Finance Department and line of business managers throughout the entire process. Padula explains, “When we rolled out the new process, we started by assigning divisional financial officers, basically mini-chief financial officers, to partner with each line of business. Their function is to provide insight and analysis of operating performance and help drive improvement.

“This partnership forced a discipline that has ultimately provided our managers with an understanding of their key drivers of performance,” Padula continues, “and a view into how their individual lines of business contribute to the overall performance of the organization and execution of its strategy. This broader view has enabled each area to more effectively participate in the planning and budgeting process.”

The combination of the more engaged line of business managers and the DFOs results in more thoughtful, thorough plans and budgets with better buy-in and accountability.

Part of this increased accuracy and accountability comes from utilizing a cash-flow based budgeting approach for the balance sheet and related interest- income forecasting. Padula states that “in the old days, we just looked at last year and saw that we increased our balances by 3 percent in a certain area, so next year we would target something higher like 4 percent growth. Our leaders were hard pressed to accurately forecast as they didn’t have the appropriate information around pay downs, maturities, and the impact of line fluctuations. Now our managers are held to new loan volume targets, runoff and prepayment numbers, specific pricing spreads, etc., providing significantly more accuracy and accountability throughout our business plan.”

A process that links the strategy to the development of business plans and an operating budget, and includes ongoing evaluation and reforecasting of both business and market variables, supports these goals. Paduia says First Midwest Bank continually strives to improve its process by employing consistency throughout the organization; alignment between behaviors and organizational goals; a focus on employees; and establishing a foundation for decision making.

“We look at this as a continuous process,” says Padula. “We have a framework to set organizational vision and goals, assess our operating environment including our own strengths and weaknesses, and then develop strategies, initiatives and finally a tactical operating plan and budget to meet those goals. We then utilize the same tool set and information to track our performance against our plans and make adjustments as needed.”

 

Bryan Ridgway is senior solutions engineer and Kenneth M. Levey is vice president of Financial Institutions for Axiom EPM, which provides financial planning and performance management software for financial institutions. For more information, visit www.axiomepm.com.

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