Will Your Bank Live To See The Millennium?

The Year 2000 glitch could sink lots of smaller techno-laggards

Business is booming for John McIsaac, a consultant who helps small banks with Year 2000 issues. But his life could get a lot more hectic. Recently, McIsaac, the CEO of Market Partners Inc. in West Chester, Pa., was approached by executives of a midsize regional bank with $20 billion in assets that had not started its program to fix its computer coding. The bank had hired a consulting firm, but the contract fell apart when the firm "found a more attractive financial deal," says McIsaac. "In this industry, there's more work than consulting companies can handle."

McIsaac may take the assignment, but he's not optimistic. "No matter how much money they put on the table, we may find there is nothing anyone can do to help them," he says. "They were too slow to start, and now it may be too late."

The Year 2000 problem--computer systems that will read 1900 instead of 2000 on, Jan. 1, 2000--is bedeviling thousands of businesses. But financial institutions, especially banks, have the most to worry about. They all deal with funds with dates attached. Banks are linked in an intricate financial web so that each bank depends on the accuracy of other banks' computer systems, including the Federal Reserve Bank. If computers can't read the date 2000, the best-case scenario is that computers just won't work. Worst-case, they miscalculate all types of numbers, from mortgage payments to stock prices.

Most major banks are well on their way to fixing their systems. But more than a fair number are lagging behind, especially midsize and small banks. Says George R. Juncker, vice-president of the Federal Reserve Bank of New York: "I think definitely...some just won't be open for business on Jan. 3, 2000."

BROKEN KNEECAPS? For now, banks are being subjected to extraordinary scrutiny by regulators and scrambling to pass stiff audits that started last spring. The Federal Reserve Board already ordered one cease-and-desist last November on three affiliated banks in Georgia for their lack of preparedness. Expect more. "We anticipate to take whatever supervisory action is needed," says Mark L. O'Dell, director of the bank technology division at the Office of the Comptroller of the Currency (OCC). "And if it involves taking formal enforcement action, we will do it." Edward E. Yardeni, chief economist for Deutsche Morgan Grenfell Inc., says, "There have been pretty explicit threats from the Fed they'll break kneecaps to get banks ready for this." Still, Yardeni predicts that from 5% to 20% of banks will fail as a direct result of Year 2000.

Fixing the problem is a costly, labor-intensive task. At San Francisco-based Bank of America, the fifth-largest U.S. bank, a thousand people are working full-time examining 200 million lines of code. Currently, only 35% of the code is fixed. Estimated price tag for the job: $250 million.

While Bank of America's problems are complex, it has an edge over smaller banks in that it has the resources to throw at the project, even if costs rise. Already, some fairly large banks--such as CoreStates, Boatmen's Bancshares, U.S. Bancorp, and Barnett Banks--have put themselves up for sale over the past year-and-a-half, citing as a factor spiraling technology costs. A significant portion of that increase is due to Year 2000. Over the next six months, many more banks are expected to seek partners.

Midsize banks, which range in assets from $5 billion to $35 billion, are particularly vulnerable. "There could be a number of midsize banks [that are] going to have trouble," says Merrill Lynch & Co. analyst Sandra J. Flannigan. "I don't think they are as far along with this as the big guys." For starters, these banks have higher expense-to-revenues ratios than the top 20 banks. While software costs can be similar for both large and midsize banks, big banks can spread the costs over more customers.

Plus, midsize banks don't have the same clout as large banks when it comes to recruiting programmers. "They have the problems of the big banks, with all their customized software," says Joe McIsaac, chief information officer at Market Partners. "But they have many of the same limitations of the smaller banks, with limited budgets and technical capabilities."

Austin A. Adams agrees about the resource problem. He heads up technology for First Union Corp., the sixth-largest bank in the U.S. with $155 billion in assets. Its Year 2000 program is considered one of the industry's most advanced. But recently Adams asked a colleague at a bank with $30 billion in assets what his biggest Year 2000 concerns were. The response: "I think I've got a solid plan...but if I run into problems and need resources, I'm behind the guys like Chase [Manhattan] or NationsBank in getting help from consultants."

"There's no question small banks are further down the food chain," says Hal Schroeder, an analyst at Keefe, Bruyette & Woods Inc. in New York. The problem is code-fixing can entail unforeseen snafus. Even software packages certified as Year 2000 compliant may not be bug-less. At Wachovia Bank in Winston-Salem, N.C., which has $60 billion in assets, every piece of software that was "supposedly compliant had at least some minor date problems," says Betsy Harris, Wachovia's vice-president for the Year 2000 project. "Vendor certification needs to be examined very carefully."

That's a crucial issue for small banks that outsource much of their operations and are at the mercy of service providers to make sure software is sent on time. Software vendors that are late delivering complaint software can put banks at risk. For instance, last summer in a letter sent to BankTec Inc., one of the largest software providers to community banks, a group of banks complained that BancTec Year 2000 compliant software had been delayed. BancTec says its lateness was caused by another computer firm, which had delays in making its own servers compliant. The software still has not been delivered.

CUSTOMER JITTERS. Eugene A. Ludwig, head of the OCC, expressed concern in July that small community banks, with 16% of national bank assets, were behind on their 2000 programs. According to the OCC, 20% were just starting to address the issue.

Then there's the customer perspective: "There may be movement to the high ground as we move closer to 2000. Meaning...if you are heavily reliant upon a [smaller] bank, you might want to have a relationship with a major player," says Steve Sheinheit, a senior vice-president and head of corporate systems and architecture at Chase Manhattan Bank, the nation's largest.

But even large banks may pay a price. In one study, 38% of information-technology professionals surveyed by Gartner Group Inc., a technology consulting firm, said they may withdraw personal assets from banks and investment companies just prior to 2000.

If the pros become sufficiently concerned about banks' ability to operate, ordinary citizens may follow suit, says Schroeder, "It could turn into an It's a Wonderful Life scenario with depositors demanding the withdrawal of large sums of money, whereby banks have to liquidate assets to have sufficient cash." Unfortunately, when it comes to easing customers' concerns, most bankers are no Jimmy Stewart.

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