Plansmith Blog

The Importance of Experimentation in Financial Institution Planning

Posted by Sue West on 5/1/23 1:00 PM

For many, the art of planning feels counterintuitive, as its core is not accounting-based as much as it’s a sociological experiment. We use a planning model to simulate the environment and measure the ramifications of change on the balance sheet. However, the real test is anticipating the resulting business hinging upon your customers’ changing needs.

You hear over and over again that the one thing you can always count on is change. Change is what you hope for as a financial intuition. It’s what drives business and profits. Rate change, as we all know, can be one of the most volatile components of your business, and at the same time, the very heart of banking itself.

Interest Rates and Product Pricing: Steer Customers to Support Your Business Plan

You may be thinking that there’s no way to predict what your customers do; you can only react, right? Perhaps predict is too strong of a word. With the use of a planning model, you can experiment with various environments and quantify results for numerous situations. Experimentation gives you the ability to choose a course of action that best aligns with your business goals.

Change, after all, is what makes banking exciting. Ask yourself, which types of products are your customers interested in now and how might that change? Don’t know? Truthfully, no one does. This is where planning models are extremely helpful in experiencing economic change and preparing for customer reactions under those conditions before they happen in real life.

For example, in today’s extremely competitive market, your customers have an abundance of choices regarding both where they conduct business, and which products and services they opt into. On the deposit side, they could: 1) do nothing; 2) move their money between products within your company; or 3) leave and go to a competitor or non-financial institution, such as an insurance company, or invest in the market. On the asset side, you have customer needs/demand. So, how can you stimulate production and funding of loans that aligns with the organization’s financial goals? By the rates you offer!

The way in which you price your offerings directs your customers to the products and services that best support your business plan. It’s much like putting a ‘best value’ tag on a lunch menu option. The products you wish your customers to use are given a more favorable rate. Those products you would rather not support, as they are outside of your business plan, are discouraged in the same way by assigning them less favorable rates.

Dynamic Planning Software: Evaluating Multiple Opportunities

Rates, or pricing of your products, invite new business, while at the same time, migrating existing business to other product lines. For example, if you believe rates will continue to rise this year, with the largest increase in the second half, a strategy may be to offer a better rate today on longer-term CDs. The customer benefits with a better (higher) rate today, while you lock in that money, and its expense, over a period during which you expect rates to be even higher. In effect, you’re expensing more now to protect your future margin.

The next component of your experiment is to predict how much new money you believe will be coming in based on your rate promotions, and how much can be expected to transfer between existing product lines. Your results can then be measured in dollars, as well as changes to ratios, such as NIM and ROA. Your measures should also include your future IRR position as the changes to the balance sheet will not only impact earnings but also EVE.

Embracing Failure: Learning from Experimentation to Define Successful Strategies 

As none of us know exactly what will transpire, planning models give us the ability to easily measure multiple outcomes, preparing us for best-case and worst-case scenarios.

This may sound complicated and time consuming, but it’s not. Dynamic planning software allows you to make a few key changes in your rate forecast and growth models, and in just a few minutes, you can evaluate multiple situations. Most importantly, this exercise lets you filter out the scenarios that simply don’t pan out. The failures of your experiments will almost always be the most significant contribution to defining strategies that will bring about success.

By experimenting, or performing what-ifs, you’ll find the strategy that best fits your business plan, and most importantly, prepares you for what’s ahead. These experiments protect you from having to test strategies in ‘real time’ by using your model as a testing ground for possibilities. 

Documenting Results: Sharing the Action Plan with Your Entire Organization

Last, but certainly not least, it’s important to keep a record of the testing process. Be sure to document the resulting action items identified from your what-if experimentation and share that action plan with your entire organization. This helps to ensure that everyone is on the same page going forward, and understands areas that may require more resources to accomplish the organization’s goals. 

Using tools, such as Plansmith’s Budget Playbook, you can easily present financial targets and the action items needed for their success. A playbook provides transparency and enhanced communication of your plan’s intent to your staff, board, and examiners.

If you're not currently benefitting from a bank/credit union specific budgeting and forecasting model, click here to schedule a discussion.


Sue    Sue West



Topics: budgeting

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