In case you need another reason why banks are not lending, please consider the following email from a Senior Vice President at a small California Bank.

“A California Banker” writes …

Hello Mish

After our phone conversation last week, I thought of one more important banking tidbit you might want to share with your readers.

If you’re a bank with a relatively healthy balance sheet with adequate capital, (like us)you want to maintain surplus capital in order to stay on the FDIC’s list of banks they can transfer the loans and deposits from a failed institution into.

This is a home run for the acquiring bank and far more of an instant benefit than any new lending.

Bankruptcy Lotto

Here's how the process works: On “bank failure Friday”, the FDIC matches banks with sufficient capital to failing banks, taking into consideration size, location, and assets.

By spreading out the number of bank failures over many months, the FDIC gives that small percentage of well capitalized banks a further reason not to lend for as long as the weekly lotto continues. Remember, the reason these banks are not in trouble in the first place is because they had prudent lending standards.

In Fictional Reserve Lending I mentioned the two primary reasons banks are not lending:

• Banks are capital constrained not reserve constrained.
• Banks aren't lending because there are few credit worthy borrowers worth the risk.

Now we have yet another reason: Why make loans when you might win a hell of a lot more in the Friday lotto by doing nothing?

Mike “Mish” Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

The world normally watches the Davos World Economic Forum with significant interest, but I get the feeling that this week the event is facing lackluster performance. I even know of some of my banker friends who are regular participants in the Forum that have chosen not to attend this year.

Do you get the feeling that real leadership and concrete direction is missing from these global forums? The recent failure of 'Hopenhagen' to make any real headway on global climate change is an example of the ineffectiveness that we are coming to expect from these global talk fests. Given that Davos is an Economic Forum, we would rightly expect that global leaders should be tackling the issues of restructuring the global financial system. The focus will likely be on the role of regulators, the flow of capital, interconnectedness of global capital markets and trade, and the way banks should work responsibly to free up capital and encourage liquidity.

Figure 1 – DAVOS, 25JAN10 – Last preparations on the podium of the World Economic Forum Annual Meeting 2010 in the congress center of Davos/Switzerland. Credit: World Economic Forum Annual Meeting 2010

Looking through the World Economic Forum Programme for this week there are some incredible speakers and topics. James Cameron will be there to talk about directing Avatar. Reid Hoffman (Linkedin), Evan Williams (Twitter) and Owen Van Natta (MySpace) will be there to discuss the growing influence of social networks. Tim Brown (IDEO) and Gary Hamel (Author, MLab) will be there to discuss management innovation. Brian Moynihan, CEO of Bank of America, and others will be there to discuss redesigning capital markets. Bill and Melinda Gates will be there to discuss their foundation, and Melinda Gates will be discussing education for girls and how it effects economics in the developing world. This is just a small snapshot of the amazing depth to the forum, but something is missing.

The issue of customer advocacy and how input from customers is integrated into the strategy of an organization is completely absent from the forum. While management innovation, risk mitigation and big picture regulation and reform are being discussed, the voice of the customer is likely not to be heard this year at Davos. Why is that significant?

When it comes to the financial crisis perhaps the most significant voices namely, the consumers who have been affected by the global financial crisis with job losses, foreclosures or mortgage repossessions and general economic challenges, are silent due to their absence. Interestingly while seeking to 'fix the system' the forum doesn't actually appear to have any mechanism or sessions dedicated to these issues which need to be the primary outcome of the financial crisis. In addition, we don't see any pressure on the banks to focus on social responsibility programs that would enable them put more back into the global community where it is needed.

Real bank reform is not just about regulation. It's about ethical governance. It's about fair compensation that reflects an understanding of the mood of shareholders, customers and the general public. It's about giving back to the community not just when banks are under the PR microscope. But most of all banks need to remember they are service organizations here to serve the needs of their customers.

Figure 2 – Banking reform is about much more than reforming capital markets and toughening up regulatory language

While I agree that the core capital markets system is broken, new thinking is required on how to ensure that the changes protect customers and not just reduce institutional risk and government exposure. There is no apparent discussion on innovation and compensation for financial institutions so that the massive profits that have been yielded, despite the financial crisis, can be injected back into the system in a more constructive way than through the bonus checks of bank senior executives.

We should be seeing sessions that tie the financial system to economic improvement through corporate social responsibility and better initiatives for the disadvantaged, and sessions that motivate global financial brands to do more to support microfinance and give the unbanked more accessibility to finance in the developing world. These are all problems of which there are reasonably simple solutions if there is the will.

Working Capital Management

Companies fail to effectively communicate and execute their performance management plans because the necessary management or communications systems are not in place. Beyond having a sound strategy, there are three other requirements for company success: having a management process that emphasizes accountability and control; taking advantage of available assets (employees and the information technology (IT) systems, especially enterprise resource planning (ERP) systems); and promoting a culture dedicated to continual improvement. Fundamentals for successfully implementing strategy include a sound strategy, strong management, and appropriate measurement systems. True corporate advantages come when these three areas are integrated to maximize performance. Tying measurement to management delivers accountability across the company, while linking measurements back to strategy ensures that objectives are measurable.

To specifically address business performance, a special class of analytical solution-called enterprise performance management (EPM) has emerged. EPM solutions provide the ability to measure, analyze, and optimize business results, enabling companies to align strategy and objectives with the overall performance of the business. They can integrate easily with other enterprise applications, such as ERP systems, to complement and extend their capabilities with analytical functionality. EPM solutions emphasize communication and the sharing of information across the company as well as providing the explanations behind key performance data. They can link performance back to strategic objectives, deliver feedback, and enable effective strategy management and optimization.

Companies are typically at different starting points when they set out to measure, manage, and optimize their overall enterprise performance. Key underlying factors impacting this include (1) management culture, (2) competitive climate, and (3) overall information technology (IT) investment strategy. For this reason, enterprise performance management (EPM) needs can and do vary. However, needs can be characterized to be in one or more of these three categories. Companies need strategy management solutions that link objectives throughout the enterprise, emphasize company- and individual-driven assessments (versus data-driven assessments that typically are found in performance measurement solutions) that show cause and effect across key performance measures, monitor and track initiatives, and communicate strategy to all.

By measuring key performance indicators across the enterprise, performance measurement solutions usually provide access to objective weighting, traffic lighting, and trending and charting. And they enable people to communicate and provide feedback on performance against objectives. The analysis of operations anticipates changes in conditions and trends, develops actionable information, and assists in optimizing business processes. Operational analysis typically requires access to enterprise data. These data are stored and summarized in a multidimensional data source for slicing and dicing, charting and graphing, and what-if analyses. These analytical applications provide executives and knowledge workers with the information to capitalize on opportunities, resolve challenges, and improve return-on-technology investments.

EPM solutions follow three critical processes to continuously improve business performance with closed-loop decisions systems: They measure, analyze, and optimize. They continuously monitor operational data in the context of key performance indicators incorporating enterprise-wide data acquisition that includes interfaces to business applications and data warehouses. They employ comprehensive analysis capabilities, including online analytical processing (OLAP) and relational analysis, data mining, ad-hoc analysis, and smart agents. EPM solutions should be capable of being deployed enterprise-wide-across thousands of users in distributed computing and geographical environments-and should be able to handle and process large volumes of heterogeneous data. Strategy management is by definition enterprise-wide, but performance measurement and operational analysis solutions, while deployable at the departmental level, eventually might have to be deployed to hundreds or thousands of users across a company.

There is a natural synergy among the three classes of EPM solutions because they complement each other in terms of functionality. For example, companies can implement a strategy management application and integrate it with departmental key performance indicator reporting systems. Likewise, companies might want to extend these applications with operational analysis capabilities by integrating them with customer retention, logistics, management, and activity-based costing systems. This has led to a natural progression, or continuum, that companies often follow as they refine their IT systems to support strategy implementation and business performance optimization. The EPM continuum allows for different starting points in optimizing business performance. For example, a company might recognize that today it only needs: a financial analysis application for a particular business unit, or an enterprise-wide balanced scorecard with a strategic plan in place to move to more sophisticated and integrated EPM solutions in the future.

Because companies have a wide variety of analysis needs that can change over time, the EPM continuum provides a growth architecture to meet management needs. For this reason, EPM solutions should not work in isolation but should be integrated with other business systems as well as with each other. They also should provide support for any necessary customization to meet the company's unique requirements. EPM solutions can improve productivity and significantly improve bottom-line results by helping companies maximize their existing technology investments-extending the technology with analytical capabilities. By linking operational data to strategy and business performance, EPM solutions help companies leverage enterprise performance management and analysis against all their corporate and industry data. Most important, EPM solutions enable companies to implement and manage a successful strategy at the core to optimize business performance. In highly competitive markets, this functionality can provide the advantage a company needs to survive and to thrive.

Successful execution of just a single high-performance program is beneficial. Companies can start by developing a human resources strategic plan that will help achieve the outcomes identified in the corporate strategic plan. High-performance practices should: (1) Enable individual employees to see how their performance influences company profitability; (2) Establish the criteria for measuring success and goal achievement through the definition of mutually agreed upon standards of performance; and (3) Provide a feedback system that measures employee performance, allows employees to track their progress toward goals, and maintains high performance on an ongoing basis.

Researchers have gathered a strong body of evidence showing that employees care a great deal about the justice of company human resource (HR) systems, including compensation, performance management, and staffing. This work generally has found that the more just or fair employees consider such systems to be, the more satisfied and accepting they are of the resultant outcomes, even when those outcomes are less than desirable. The strength of these findings indicates that the provision of fair procedures is a more powerful foundation for the management of employees than is the provision of valued rewards.

Negative attitudes and reactions from managers are potential obstacles to the successful implementation of procedurally fair HR systems. Without managers' support and cooperation, it is unlikely that employees can experience fairness in company HR systems. Procedural justice principles require that HR decisions be governed by a set of procedures that safeguard accuracy, consistency, correctability, freedom from bias, and employees' input. Because managers play such a major role in administering HR systems to their employees, their reactions become paramount. The time and effort required of managers are much greater for more procedurally just systems than for more traditional (and less procedurally fair) systems, which have fewer opportunities for employee voice and fewer safeguards against bias.

Managers have frequently used the decision latitude available to them under more traditional performance management systems to bias and distort employee evaluations, both inflating and deflating them, in order to further their own interests. Given that procedurally just performance management systems make such distortions more difficult, it seems doubtful that managers will react favorably to restrictions on their ability to act unilaterally. There is some evidence that managers will react unfavorably to procedurally just performance management systems, both because managers place a higher priority on efficiency in HR procedures than on fairness and because they prefer to avoid constraints on their decision latitude.

Managers benefit more in the long run from administering more procedurally just systems because the former are more likely than less just systems to prevent and quickly resolve work problems and interpersonal conflicts, thereby increasing the productivity and morale of the work units for which managers are ultimately held accountable. Adoption of procedurally just performance management systems also protects managers' interests as such systems apply to them as well. Thus, it may be that managers will react favorably to the implementation of procedurally just systems because they serve managers' own best interests in the long run and do not diminish their power.

Procedurally just performance management systems make more stringent record- keeping and time demands on managers while constraining some of their power to act unilaterally in evaluating their employees. Companies may gain a great deal by providing vivid examples of system unfairness and its results both during training and afterward, through interoffice communications. Research in social psychology indicates that individuals who have recently witnessed discrimination become far more sensitive to its occurrence in subsequent interactions. Providing information about past system unfairness may be similarly effective in enhancing managers' sensitivity to the value of implementing procedures that protect employees from such unfairness, thereby enhancing the favorability of their reactions to procedurally just performance management systems.

There is a change taking place in the senior ranks of the Fortune 500 and other innovative companies: more of their senior executives are exalting the virtues of adding value to shareholders and customers, and more CFOs are seeking better ways to measure corporate performance and improve business decisions that increase shareholder returns. As a result, we all are hearing more about value-based performance metrics, such as EVA (economic value add) or CFROI (cash-flow return-on investment) that take the place of earnings per share, return on-equity, and return-on- investment. The latter reflects reported earnings, and the former reflects to what extent earnings exceed the cost of capital to create shareholder value. We see growing evidence that suggests more companies are turning to consulting firms for help with strategic planning and performance management, as well as a shift from early adopters to more mainstream companies.

There is another change taking place in the form of strategic and tactical performance management software systems that link together advanced analytical tools, enabling technologies, and business application systems. Just this past year or so, a number of companies have introduced or announced automated performance management systems that can be used by mainstream executives and practitioners. At the heart of these systems is the balanced scorecard, a framework that translates strategy into long- term, measurable performance objectives and balances financial and nonfinancial metrics. A number of companies have used this approach to develop multiple scorecard levels that identify value-based performance objectives at the strategic, tactical, operational, and individual levels.

The other tool is perhaps more familiar to those who work in operations. Activity-based management (ABM), which had Robert Kaplan and Robin Cooper as its early proponents, encompasses, activity-based budgeting, activity-based costing and business-process activity analysis. While ABM has been primarily used for cost reductions, profitability analysis, target costing, and continuous improvement programs-all of which support value- driven strategies-it is perhaps even more powerful when used for value- based financial planning and resources budgeting as part of a balanced scorecard initiative. When tied to the balanced scorecard methodology, a number of the nonfinancial performance measures can be ABM metrics. The key enabling technologies include data warehousing, analytical simulation processing, graphical and interactive displays, Internet access, and real- time intelligent agents for detection and notification of changing conditions. Altogether, you get a sophisticated and powerful resource company.

Systems approach to performance management usually requires a culture change, and this takes time. It can be complicated by competing company priorities. Senior leadership might think a new and improved performance management system is an important and valuable endeavor, but if they do not make a significant time commitment to the project, the rest of the company will not consider it a priority. The system cannot become the work of the company. Rather, it needs to support the work of the company.

Managers using a procedurally just performance management system will report greater satisfaction with the system, improved working relationships with employees, and less distortion of appraisals than those using a less just system. Initiating a total performance management system –providing explanations of corporate initiatives, developing goals and standards that support them and measurement toward achievement of these goals will enhance the company's bottom line by inspiring long-term staff commitment to its company, rather than short-term compliance with policies. Performance standards facilitate measurement and eliminate confusion over expectations. For example, it is not enough to your employees to become more sales- oriented. They must define and communicate specific behaviors and activities associated with effective selling. The most meaningful standards are developed with input from employees. This collaboration will help identify goals and standards that are tailored to employee roles and representative of company or departmental priorities. Standards should be specific and should differentiate between good and poor performance.

Measuring employee performance and providing feedback are integral elements of the performance management process. The magic formula of performance management has not been discovered. But through continuous quality improvement, some effective approaches have been found that will strengthen relationships and position the company for future success.

REFERENCES

Becker, B.E. et al.(2001). The HR scorecard : linking people, strategy, and performance. Boston : Harvard Business School Press.

Berger, L.A. and D. R. Berger, eds. (2000). The compensation handbook: a state-of-the-art guide to compensation strategy and design. 4th ed. New York : McGraw-Hill.

Daley, D. (2002). Strategic human resource management: people and performance management in the public sector.Upper Saddle River, NJ : Prentice Hall.

Kaplan, R. S. (2001). The strategy-focused company : how balanced scorecard companies thrive in the new business environment. Boston : Harvard Business School Press.