Navigating Shrinking Budgets in Financial Services

A colleague of mine had a great observation: it’s the turn of the year and, as is often the case, many have identified losing weight as their New Year’s resolution. So, they jump on some crash diet and ultimately lose little more than muscle weight. Worse, once they return to their prior diet they pack on even more pounds! It’s a vicious cycle.

Such is life in financial services, too. Only a few weeks into the new year, there are a wave of planned, if not already executed mass layoffs across the industry. Firms, including Citigroup, Morgan Stanley, UBS, State Street, BNY Mellon, Wells Fargo, Blackrock, and others have announced cuts. Of course, such mass layoffs are not limited to financial institutions. Regardless, these actions have become far too regular and reflect the “feast or famine” organizational oscillations that many institutions now exhibit. This is especially true amongst those that are public companies and are therefore more sensitive to quarterly earnings results, even though such actions rarely move the needle on share price.

To be clear, nobody enjoys firing people. These staffing cuts are mostly attributable to slumping performance in certain business segments and global economic uncertainty amidst a combination of accumulated inflation, high interest rates, and geopolitical conflicts. Still, while the objective is to reduce costs, the near-term impact of such actions typically results in low morale, deteriorating trust, underperformance, and significant restructuring charges for severance and continuing health benefits.

Moreover, rarely are mass layoffs done with any precision. Managers are typically laden with headcount targets, regardless of the trajectory of the specific business units within which they work. Especially in large institutions, executive leadership is rarely close enough to the ground to fully grasp the actual impact of these actions. Simply put, these RIFs are often deployed as a blunt force instrument. In some cases, there are indeed operational inefficiencies that warrant reductions and restructuring. In other cases, you may unintentionally encumber a high-growth business that would otherwise benefit from increased investment.

Innovation and modernization also suffer during these periods, as attention is increasingly focused on lights-on activities and less on discretionary initiatives that typically require upfront investment before generating a positive ROI. The irony is that these are the very same initiatives that are most likely to transform an organization by creating more sustainable (and cost effective) operating models and platforms. Yet, the instinct is to starve such endeavors and batten down the hatches until the storm blows over.

More often than not, however, when the storm finally does pass, hiring sprees return to backfill the very same jobs that were displaced, albeit now with added recruiting, compensation, and training costs. This is especially true for high-demand/high-skill jobs. Any momentum previously attributable to innovation activities has likely been lost and will need to start anew.

The net result throughout this turmoil? The organization has likely remained static at best. Profitability may not have materially improved, and the company may even be worse for the wear. As with the New Year’s diet, it is indeed a vicious cycle.

So, how can companies overcome this cyclical dystopia?

STRATEGY IS CRITICAL

Technology is driving significant transformation throughout the financial services industry, especially for firms that have embraced more data-driven capabilities and tools like AI. In this environment, leaders need to define and communicate a strategic vision. This is the north star by which they will guide their organizations. They need to be willing and active change-agents. Particularly amongst established incumbents, we too often see leaders who operate as custodians, largely maintaining the status quo until the next successor mans the helm. In this case, inaction is still action and likely to be a losing course.

Ultimately, a transformational business strategy seeks to redefine or re-underwrite the central business mission. In support of the mission, an actionable strategy will also challenge and reinvent organizational structures, dynamics, and operating functions in an improved and sustainable way.

Here, the need to drive sustainable change is perhaps one of the most important criteria. A sustainable and operationally efficient organization is not as susceptible to the peaks and valleys of staffing cycles. This is because the organization is more finely tuned and leverages contemporary technologies and automation to drive positive operating leverage that can flex as economic conditions and opportunities dictate. This is in stark contrast to the linear manpower curve that many organizations ride to scale up and down.

Conservatively, we estimate that there is nominally a 15% savings to be mined by refactoring organizations and embracing more digitally native platforms and capabilities. In some instances, the savings are far greater. Pursuing such a strategy, however, requires that organizations reimagine their product offerings, manufacturing capabilities, and product delivery, thereby driving not only greater operational efficiencies and cost savings, but also top-line revenue growth by contributing to a better client experience, enhanced financial performance, scalable solutions, and new go-to-market opportunities.

Leaders must also realize that the biggest obstacles to achieving such a transformation are often cultural impediments, inter-company bureaucracy, and a failure to think “outside the box” by challenging legacy structures and practices. Organizational culture is perhaps the most important ingredient to get right. I wrote a piece about this several years ago, Creating A Culture of Innovation, that I believe remains equally as relevant today.

EVALUATE YOUR PORTFOLIO AND ADOPT ZERO-BASED BUDGETING

In political circles, these days, it’s common to hear partisan debate over the rising national debt, budget deficits, government shutdowns, and the risk of defaults. As our nation continues to kick the can down the road with temporary funding bills and continuing resolutions, the risks to our economy, credit ratings, and strength of the dollar continue to rise. Increasingly, there have been calls to adopt zero-based budgeting, although bipartisan agreement remains elusive.

Whether for government or for private business, the goal of zero-based budgeting is to do a bottoms-up analysis of required spending to support the programs and services under consideration. Rather than rolling budgets forward with an incremental adjustment, this methodology demands fresh justification for allocated expenses. Whereas the details underlying incremental budgets may get stale or lost over time, the benefit of zero-based budgets is recurring and contemporaneous line-of-sight visibility into program efficacy, efficiency, benefits, and cost structure. Because of this, zero-based budgeting is a much more laborious and disciplined process that requires time to adopt.

During my first year as Chief Information Officer of Investment Management at BNY Mellon, I introduced zero-based budgeting. This was not attributable to any corporate mandate or target reduction, per se, but more because I wanted to better understand the state of the various projects I had inherited and the efficacy of the delivery teams. This was especially important since over 80% of my inherited budget was allocated to business-as-usual (BAU) activities, and my instinct was to redeploy funds to more strategic initiatives without necessitating supplemental budget requests.

Ultimately, this approach allowed us to selectively reduce headcount, restructure the organization to be more closely aligned with a progressive business agenda, up-skill staff, and bank or redeploy savings. In the process, we delivered greater business value, more innovative projects, markedly improved client satisfaction, and didn’t miss a beat on our BAU portfolio…all for nearly 30% less cost. I refer to this as “commercial viability.”

You see, sometimes people become complacent with the status quo and fail to question whether the allocation of funds is still justified across various activities. After all, why rock the boat? This is especially true in more mature organizations with a greater number of legacy systems and operations.

As with leaders who favor more custodial roles, managers and organizations further down the bureaucracy may also eschew change. Incremental budgeting is largely opaque, devoid of any transparency needed to drive sustainable change and often consumes considerable wasted funding that would otherwise be better deployed to more strategic activities. So, while staff may understandably decry budget cuts, there’s often plenty of money that’s simply poorly spent.

VARIABILIZE LABOR

In the midst of the pandemic, I wrote about The Lasting Impact of COVID-19 on the Workplace and Workforce, even after companies reopened their doors. Some of my predictions included a further shift from fixed to variable costs and a continued expansion in the gig economy. I believe these still hold true.

Many firms increasingly rely on managed services, whether that be for cloud infrastructure, applications, fund administration, or other services. One of the benefits of leveraging such facilities and services is in the ability to transition expenses to an OpEx model, so that utilization and costs are more closely aligned with organizational demand and performance. This allows firms to more readily scale up and down as needs dictate, without incurring heavy restructuring charges.

For firms with significant CapEx and fixed costs, however, one of the few remaining variable costs is labor. Hence, when times get tough, mass layoffs are on the table. As most managers will attest, however, staffing cuts aren’t always tied to a comparable reduction in priorities and deliverables, so the message is to do more with less…which is certainly more difficult with an internal organization that is now dispirited by layoffs.

Most larger organizations are also big consumers of contract labor. Sometimes this is to fill niche skills; sometimes this is to shore up in-house expertise or interim leadership; sometimes this is to provide an objective, third-party perspective; and sometimes this is to partake in global labor arbitrage. Some of these costs are truly variable, allowing the organization to flex as necessary, whereas others like managed services may have more rigid contractual parameters that are more difficult to exit on short notice.

Even amidst staffing cuts, however, the instinct to trim contractors first may not always be the right business decision, despite the flexibility afforded by contractors and the stronger implicit commitment to full-time employees. The decisions ultimately depend on the skills and functions provided by contractors, along with the desire of an organization to maintain heightened flexibility during uncertain times.

Of course, it is generally true that onshore contract rates may be higher than salaries for comparable internal staff, but it’s also important to remember that companies do not cover the costs of benefits, paid time off, employment taxes, incentive compensation, insurance, and severance for contractors. When considering the fully loaded cost of an employee, therefore, the contractor premium may not be as significant as it first appears and may even be less expensive, especially given the increased flexibility and access to talent that may otherwise be difficult to hire and retain. Global labor arbitrage also allows access to skilled, yet cheaper talent in nearshore and offshore locations. Still, you need the right partners, project management, and oversight to be effective, particularly when operating across distant time zones.

And while consulting generalists may be able to provide technical talent, ensuring access to business domain expertise is equally important and far more difficult to find. During my long career on the other side of the desk, I’ve often been on the receiving end of far too many consulting shops – both big and small – pitching high-priced engagements staffed by junior consultants with limited, if any meaningful domain expertise. This often manifests as runaway costs, extensive project delays, and buyer’s remorse: it should be avoided. Where applicable, work with contractors who understand your business and who you can rely on to provide objective and informed guidance.

CONCLUSION

Navigating a period of budget reductions, sometimes accompanied by mass layoffs, is difficult. Foregoing the very same strategic initiatives that may ultimately result in a better, more sustainable operating model, however, can be penny wise, pound foolish, and often limits an organization’s ability to emerge unscathed from such cuts.

There are several actions that can still allow an organization to thrive, despite more challenging conditions:

• First, strategy is critical, and leaders must be able to define and articulate a north star. There will be rough seas ahead, but the north star should remain omnipresent, and the mission should remain clear. Everyone wants a purpose and something to latch onto during tough times, and a compelling strategy can provide this unifying force. Culture is also an important enabler, and one that leaders may need to adapt to drive transformational change.
• Evaluate your portfolio and adopt zero-based budgeting. This will provide greater operating discipline, and will ensure better visibility into project efficacy, costs, and results. Especially if you operate in a larger, more mature organization, you will most certainly identify wasted funds that can be redeployed to other, more strategic activities.
• Look to further variabilize labor to provide maximum flexibility and access to high-demand skills, but don’t dilute business domain expertise in the process. Develop partnerships with those who understand your business and the business climate in which you’re operating, and who can deliver objective, trusted, and qualified guidance.

Finally, change is difficult, especially during stressful times. Lead with empathy. Support not only those who remain, but also those who’ve been displaced. Sometimes, difficult decisions are required in business, yet we must still demonstrate the compassion, assistance, and resilience that reflects the best of our humanity.