The continued viability of a bank depends on its ability to earn an appropriate return on its assets and capital. Good earnings performance enables a bank to fund its expansion, remain competitive in the marketable, and replenish and/or increase its capital funds.
From the standpoint of the bank supervisor, the essential purpose of bank earnings, both current and accumulated, is to provide for absorption of losses. The earnings power of a bank is the initial safeguard against the risks of engaging in the business of banking. Earnings, therefore, represent a bank's first line of defense against capital depletion resulting from shrinkage in asset value.
The Examination Modules Handbook contains examination procedures related to the analysis of earnings. Refer to the Earnings Section in the Handbook for additional guidance.
The basic analytical tools available to the examiner are the Uniform Bank Performance Report (UBPR), the Uniform Bank Performance System (UBPS) reports, and the financial statements of the bank. Internally prepared statements and supplementary schedules, if available, augment in-depth review. The information from those schedules may give the examiner considerable insight into the interpretation of the bank's basic financial statements. Internally prepared information is not in itself sufficient to adequately analyze the financial condition of the bank. To properly understand and interpret financial and statistical data, the examiner should be familiar with current national, regional and local economic and industry conditions, and any secular, cyclical or seasonal factors. Current knowledge of such conditions and factors by reviewing appropriate economic and industry information such as that available in newspapers and industrial journals, is important to the examiner in adequately reviewing and analyzing a bank.
In addition, the existence of a bank holding company affiliation cannot be ignored when analyzing bank earnings, due to the impact the parent company may exercise over the subsidiary bank in several important areas. These include the level of management fees, extent of dividends, amount of income tax payments upstreamed to the holding company, and type of earning assets employed by the bank.
In the analysis of bank earnings, the primary focus is placed on income before securities transactions rather than on net income. The difficulty with net income in bank analysis is that it includes realized gains (or losses) on investment securities. These transactions usually occur at the discretion of management in order, for example, to maintain a proper maturity balance, maximize portfolio yield, or effect some degree of control over income tax liability. Therefore, such gains and losses may not be truly reflective of the bank's operating performance during a give accounting period.
By contrast, other forms of income and expenses are (or ought to be) attributed to the accounting periods in which they occur, and thus are deemed to be "operating" as opposed to "nonoperating" transactions. Income before securities transactions, therefore summarizes the results of operations. A synonym for income before securities transactions is net operating income (NO) and is a more reliable guide to a bank's performance during the period than is net income.
An analytical review of a bank's financial statements requires professional judgement, imagination and discrimination. Examiners should avoid details that may superficially relate to their objectives. It is important to maintain a sense of proportion when analyzing the statements and avoid spending excessive time on relatively immaterial amounts. An evaluation of the meaning of the ratios and amounts compared is important and should be the focus of the effort. When comparing data on the bank under examination to peer group data, the examiner should consider whether the bank is typical for its peer group.
Alternative accounting treatments for similar transactions also should be considered because they may produce significantly different results. Accordingly, during an analytical review, the examiner should determine any material inconsistency in the application of accounting principles.
In evaluating and rating earnings it is not enough to review past and present
performance. Future performance is of equal or greater importance. A review for
reasonableness of the bank's profit plan and budget, with particular attention
to the underlying assumptions, is appropriate for this purpose. The bank's
forecast and assumptions should be consistent with what the examiner knows about
the bank, such as the volume of classified assets, nonaccrual and renegotiated
debt levels, the adequacy of the reserve for loan losses and other examination
findings that have an earnings implication. In addition, an obvious
reasonableness check is to compare the bank's forecast to actual past
performance as displayed in the bank's own reports and in the UBPR. Any material
discrepancies should be discussed with management; and, if the explanation is
unreasonable, the examiner may need to adjust the bank's forecast to determine
the effect of more reasonable assumptions. If there is no bank plan, examiners
may need to develop their own forecast to aid in their judgements. In any case,
it will normally be necessary to discuss future prospects with management. Care
should be taken in these discussions not to present the examiner's forecast as
absolute, or to recommend specific strategies or transactions to management
based on an examiner's forecast. Planning is properly the function of
management. Examiner efforts are only an attempt to discover any undue risk and
highlight any factors that may significantly impact future performance in either
a positive or negative manner.
Level And Trend Of Earnings
The first step in the analysis of any bank is to measure the level of
earnings; the second step is to measure the trend of earnings.
Another equally important measure of earnings level is the ratio of adjusted
return on assets, where net charge-offs are substituted for the loan loss
provision in the calculation of earnings. It is important to modify the ROA in
this way because bank managements exercise discretion in their funding of the
loan loss reserve, with the result that net charge-offs may not match the loss
provision. For example, if the loss provision is only 50% of net charge-offs,
current net operating income is overstated relative to the other banks which
take a loss provision equal to the amount of net charge-offs. Conversely,
earnings may be understated if the loss provision is 200% of net charge-offs. In
certain situations, such as during times of increasing loan volume, it would be
normal for the loan loss provision to exceed net charge-offs. Under these
conditions, it is also typical for adjusted return on assets to exceed ROA based
on reported net operating income. When adjusted return on assets falls below ROA
an examiner may suspect earnings overstatement, and vice versa.
An easy analytic substitute for testing whether restatement is necessary does
exist, and involves inspecting the five-year trend of return on assets. If the
trend is unchanged, say 0.90 percent in each of the five previous years, then a
10% earnings growth rate implies a 10% asset growth rate and may be confirmed by
measuring asset growth itself. In this case, a high "reassurance" factor exists
that restatements, if any, would be minor. But if a 10% earning growth rate
exists and the return on assets trend is negative, say from 0.90% in year 1 to
0.50% in year 5, then one or both of two things is true: assets have been
acquired in mergers and are low in profitability, thus pulling down the
aggregate return on assets even while additional dollars of net operating income
have been earned; and/or, with or without mergers, the bank has engaged in rapid
asset expansion as a sacrifice to profitability per asset even while additional
dollars of net operating income have been earned from these much less profitable
assets. In any event, measuring trends in both net operating income growth and
return on assets is essential for the proper evaluation of earnings.
Through use of analysis trails, the causes of bank performance, especially of
bank performance, can be ascertained. In order to make this analysis, examiners
must track down the sources of earnings through "analysis trails" that can give
signals or indicators. The earnings analysis trail passes through five areas
which constitute the five sources of bank earnings: net interest income
(analyzed on a taxable equivalent basis), noninterest income, overhead expense,
provision for loan losses, and income taxes.
An additional sixth area, dividends, focuses on the retention of earnings, an
important step in capital enhancement.
Earnings from interest is clearly the major source of bank operating income,
comprising most of the total income available to cover expenses other than
interest expense. The terms used are as follows: net interest income is what has
been called net earnings from interest while net interest margin is the net
yield which earnings from interest represent on gross earning assets (that is,
all financial assets or all assets earning an interest-type return, including
leases and repurchase agreements). Therefore, net interest income is total
interest income less total interest expense; net interest margin is provided by
dividing net interest income by average gross earning assets.
Total interest income and net interest income should be computed on a taxable
equivalent (TE) basis for analysis purposes. This is necessary because the
before-tax yield on a tax-exempt municipal security does not accurately reflect
its economic value. For example, the value of a tax-exempt obligation to a bank
in a 50% income tax bracket is equal to that of a taxable security with twice as
much of a before-tax yield. In order to place yields for taxable and tax- exempt
securities on a comparable basis for analytical purposes, both total interest
income and net interest income are increased by an amount equal to the income
tax savings generated from investments in tax-exempt securities. This adjustment
is required to compare the performance of the bank under examination with that
of the peer group.
The analysis of interest income may be complicated by the existence of a
diversity of accounting treatment for nonrefundable fees and costs associated
with lending activities. FASB Statement No. 91, which must be applied to all
lending and leasing transactions in fiscal years beginning after December 15,
1987, establishes the accounting for nonrefundable fees and costs associated
with lending, committing to lend, and purchasing a loan or group of loans. In
general, it specifies that:
A more detailed discussion of FASB 91 and loan fees is included in the
Instructions for the Preparation of Reports of Condition and Income. Examiners
should note that the rules apply only to loans originated or acquired by a bank
after it adopts FASB 91 unless the bank chooses retroactive application.
Prior to adopting FASB 91, banks generally could immediately recognize in
income those fees that represented a reimbursement to the bank for actual
origination costs incurred by the bank.
Since a bank's financial statement presentation does not permit analysts to
study the expenses specifically associated with these types of income, there is
no direct way of judging the profitability of fee-related activities of the
bank, nor the impact their profit (or loss) has on overall profitability.
However, an indirect method of measuring this revenue is to inspect the sheer
size of the noninterest income as a percentage of adjusted operating income. If
the fraction is small and steady, the potential for significant impact on profit
or loss is undoubtedly small. If the fraction is large, the potential impact is
larger and may necessitate further investigation. This is even more the case
when "other income" shows sharp year-to-year fluctuation.
A useful ratio to measure the appropriateness of overhead is overhead as a
percentage of adjusted operating income. But the range of the ratio is dependent
upon the width of the net interest margin and the profitability of other income.
Another ratio that may prove helpful is the ratio of overhead expense to average
assets. If the extent of overhead expense appears large, further analysis should
be performed to determine the specific cause(s). Excessive salaries and bonuses,
sizable management fees paid to the bank holding company, and high net occupancy
expenses caused by the purchase or construction of a new bank building are
examples of the type of costs which may lead to an inordinately high level of
overhead expenses.
The extent of overhead relating to salaries and net occupancy expense may
also be unduly large if bank personnel, space, and equipment are partially
utilized for nonbanking activities. An example is an insurance agency which
occupies a portion of bank premises and is owned by a party other than the bank,
which party receives all profits from the operation of the agency. In order to
ensure that the bank is adequately compensated, FDIC policy requires the owner
of such an insurance agency to reimburse the bank for the dollar value of bank
space, employee time, and equipment used by the agency. Such reimbursement
reduces the amount of bank overhead expenses to an equitable level, and also
provides for a more appropriate comparison, from the financial analysis
viewpoint, of the level and trend of overhead expenses.
The existence of unwarranted and unjust compensation of bank insiders is of
particular concern, especially when those expenses are likely to result in harm
to the bank or the FDIC fund. While just and equitable employee and directorate
compensation is essential for the acquisition and retention of competent
management, there are instances where bank insiders have profited from
unwarranted direct compensation or other forms of emolument. Unwarranted and
unjust compensation and related expenses to bank insiders should be dealt with
through whatever means are necessary to cease those abuses. This is particularly
critical in lower rated banks and banks receiving FDIC financial assistance. In
such banks the directorate should be reminded of their fiduciary responsibility
for the preservation and conservation of bank funds.
In many instances the transfer taken by the bank as a deductible bad debt
expense on its Federal income tax return will vary from the operating expense
provision utilized for Call Report and book income statement purposes. This
variance results from the significant differences which can exist between the
Report of Income operating expense provision (which is used to offset actual and
potential loan losses) and the method allowed to calculate maximum bad debt
deductions for Federal income tax purposes. While the "provision for loan and
lease losses" operating expense on the Report of Income must be the amount
necessary to restore the "allowance for loan and lease losses" valuation account
to an adequate level, calculations of bad debt tax deductions have generally
been computed by using either the percentage method or the experience method.
Therefore, if a bank's past loan loss experience has been nominal, and if
current estimates reveal no anticipated increase in charge-offs, the amount
reflected as a "provision for loan and lease losses" operating expense in the
Report in Income may very well be less than the bad debt deduction calculated
for Federal Income tax return purposes. The probability that the bad debt tax
deduction would exceed the Report of Income "provision" was especially prevalent
prior to 1982, the time period during which the percentage method allowed much
larger bad debt deductions for Federal income tax return purposes than the
amount that is allowed under the present law.
On the other hand, during a year when a large operating expense "provision"
is reflected on the Report of Income due to deterioration in credit quality of
the loan portfolio, the Call Report "provision for loan and lease losses" may
possibly exceed the maximum transfer allowed as a bad debt deduction on the
Federal income tax return. Beginning with 1983, a Report of Income "provision"
that exceeds the bad debt tax deduction has become a more common occurrence
because many banks must add "provisions" to their valuation account which are
greater than the amount presently allowed as a bad debt deduction for Federal
income tax return purposes under the percentage method.
Whenever the "provision for loan and lease losses" operating expense
reflected in the Report of Income differs from the transfer taken as a tax
deduction for Federal income tax purposes, an income tax effect must be
recognized for this timing difference. These timing differences are of
significance since all banks, regardless of size, are required to report
"applicable income taxes" on an accrual basis for Call Report purposes.
Therefore, the income tax effect associated with the timing differences should
be considered when calculating the "applicable income taxes" expense reflected
in the Report of Income.
Although timing differences associated with the bad debt reserve may reverse,
an increase in the valuation account cannot be accomplished by directly
transferring the amount of deferred income tax liability to the valuation
account. In this respect, such a direct transfer method cannot be used to turn
around the cumulative timing differences between bad debt tax transfer and Call
Report operating expense provisions.
In determining the appropriateness of income taxes, several tax ratios are
provided within the UBPR. These ratios generally compare the amount of
applicable taxes to net operating income. In order to ensure that only taxable
income is compared to ensure that only taxable income is compared to applicable
income taxes, certain adjustments are necessary for income received on municipal
securities and other investments which are tax-exempt in nature. If the tax
ratios provided on the UBPR differ significantly from the rate of taxes that
should have been paid, based upon bank's tax bracket, further analysis is
necessary to determine the reasons for such a discrepancy. For example, a bank
with high ratio may have invested too heavily in tax-exempt assets, with the
result that the potential tax savings were unable to be fully realized. In
addition, certain tax incentives, such as investment tax credits received in
connection with the acquisition of bank equipment, may have the effect of
lowering the tax rate. The ability or inability to carry back or carry forward
operating losses for tax purposes will also impact the bank's effective tax
rate. An unusually low tax ratio may be indicative of a bank which prepares its
books on an accrual basis of accounting and files taxes on a cash basis, but
which has not made an adequate provision for income taxes of a deferred nature.
Tax ratios may also appear abnormal due to management's failure to adequately
accrue for income tax expense on a current basis. Appropriate tax accruals
should be made on a regular basis, and at least with enough frequency to allow
for the preparation of accurate Reports of Income, from which many of the UBPR
earnings figures are obtained.
A higher than normal ratio of applicable income taxes to NOI may also result
from upstreaming income tax payments to a bank holding company. The FDIC has
issued a policy statement (refer to the Prentice-Hall volumes) which covers such
income tax remittances by banks to holding company affiliates. In general, the
statement requires that cash transfers paid by the bank to the holding company
shall not exceed the amount of tax the bank would have paid had a tax return
been filed on a separate return basis. In addition any payments made to the
holding company shall not be required to be remitted until such time as those
payments would have been due to the taxing authority. Thus, deferred income
taxes on bank's books should not be upstreamed to the holding company until such
time as those taxes would be otherwise payable to the Internal Revenue Service.
Establishment of a formal tax allocation policy between the bank and the holding
company is considered to be consistent with the responsibilities of the bank's
board of directors.
The policy statement was not intended to limit any tax elections under the
Internal Revenue Code, and the term "separate return basis" recognizes that
certain adjustments due to particular tax elections may, in certain periods,
result in larger payments by the affiliated bank to the parent than would have
been made by an unaffiliated bank to the taxing authority. This is due to the
fact that a bank holding company and its related subsidiaries generally are
limited, as a group, to one surtax exemption. The surtax exemption refers to the
lower rates of income tax payable on taxable income of less than $100,000. If
the tax ratio remains high, even after taking this surtax exemption limitation
into account, the possibility of excessive upstreaming of income tax payments to
the holding company exists and will therefore require further analysis of bank
records.
Earnings retention becomes an even more important area of bank analysis when
outside capital is scarce. Furthermore, the analysis of dividend policy, from
the perspective of capital enhancement, allows the analyst to make a natural
transition from income to condition analysis, in which the first step will be to
measure capital adequacy. If growth is low, profits high, and capital strong in
relation to assets, a relatively high dividend payout ratio may be acceptable.
On the other hand, if growth is rapid, profits are low, and capital is weak, a
high dividend payout stands in the way of retaining needed capital. Under such
circumstances, a lower payout ratio would clearly be appropriate.
In undercapitalized banks, steps should be taken to strongly discourage the
continuation of cash dividends. If necessary, additional steps should be taken
to administratively prohibit such dividends where the bank is undercapitalized
and has a high risk profile, or is substantially undercapitalized, no matter
what the degree of perceived risk. There may be isolated instances where the
continuation of cash dividends is warranted even under fairly severe
circumstances. In such cases, the continuation of these payments without
supervisory action should be fully supported.
The preceding discussions have centered on the level and trend of bank
earnings and on key areas affecting profitability. As important as these factors
are, an analysis of bank earnings would not be complete without a determination
as to the quality of the institution's earnings, that is, the ability of a bank
to continue to realize strong earnings performance.
It is quite possible for a bank to register impressive profitability ratios
and high dollar volumes of income by assuming an unacceptable degree of risk. An
inordinately high return on assets is often an indicator the bank has assumed
too high a degree of risk. Bank management may have taken on loans or other
investments which provide the highest return possible, but are not of a quality
to assure either continued debt servicing or principal repayment. By seeking
higher rates on earning assets to underwrite an increased credit risk associated
with that asset, short-term earnings will be boosted. Eventually, however,
earnings may suffer if losses in these higher-risk assets are recognized. In
addition, certain of the bank's adversely classified and nonperforming assets,
especially those upon which future interest payments are not anticipated, may
need to be reflected on a nonaccrual basis for income statement purposes. If
such assets are not placed on a nonaccrual status, earnings will be overstated.
Similarly, material amounts of assets which have been restructured in accordance
with troubled debt restructuring may have an adverse impact on earnings. Thus,
the analysis of the institution's asset quality, a major function performed in
the safety and soundness examination, has a close relationship to the analysis
of earnings quality. The adequacy of transfers to valuation reserves in light of
this asset quality must be reviewed for its impact on earnings quality.
Additionally, short-term earnings performance can be enhanced by
contributions made to net income by extraordinary items and tax considerations.
For example, a bank may dispose of high-yielding assets to record gains in
current periods, but be able to reinvest the funds only at a lower rate of
return. Levels and trends in earnings performance would be quite positive,
although future income potential is sacrificed. Again, this is another reason
why the examiner should primarily base the evaluation of earnings on net
operating income rather than net income. Conversely, a bank might dispose of
assets at a loss to take advantage of tax loss carryback provisions and enhance
future earnings potential. Current earnings levels and trends would be poor in
such a case, but funds recaptured through this strategy may greatly improve
future earnings capacity. The point is that no analysis of earnings is complete
without a consideration of earnings quality and a complete investigation and
understanding of the strategies employed by bank management.
In addition to an analysis of the bank's past earnings, the examiner needs to
determine whether there is a profit plan or budget for the current and/or next
operating year. A profit plan is an overall forecast of the income statement for
the period based on management's decisions, intentions and their estimation of
economic conditions. It addresses such things as the anticipated level and
volatility of interest rates, local economic conditions, funding strategies,
asset mix, pricing, growth objectives, interest rate and maturity mismatches,
etc. The accuracy of any such plan is susceptible to the attainability of the
aforementioned assumptions.
Within the profit plan is a budget. The budget is essentially an expense
control technique where management decides how much is intended to be spent
during the period on individual overhead expense items. The budget should be
consistent with the overall business or profit plan. All banks, regardless of
size, should be encouraged to prepare a profit plan and budget.
Part 364, Appendix A, of the FDIC Rules and Regulations outlines standard
procedures that banks should employ periodically to evaluate and monitor
earnings, thereby ensuring that earnings are sufficient to maintain adequate
capital and reserves. At a minimum, management's analysis of earnings should:
The degree of sophistication or comprehensiveness of a budget and profit plan
may vary considerably based on the size of the institution and the complexity of
its assets and other income sources. The adequacy of management=s budget and
other earnings analysis reports should be evaluated at each examination.
Deficiencies in the profit plan or budget should be documented in the
appropriate section of the examination report.
Consistent with the Uniform Financial Institutions Rating System, earnings
performance will be rated "1" through "5" upon consideration of:
Earnings rated "1" are strong. Earnings are more than sufficient to support
operations and maintain adequate capital and allowance levels after
consideration is given to asset quality, growth, and other factors affecting the
quality, quantity and trend of earnings. Generally, banks rated "1" will have
earnings well above peer group averages.
Earnings rated "2" would be satisfactory and sufficient to support operations
and maintain adequate capital and allowance levels after consideration is given
to asset quality, growth, and other factors affecting the quality, quantity and
trend of earnings. Earnings that are relatively static, or even experiencing a
slight decline, may receive a 2 rating provided the institution's level of
earnings is adequate in view of the assessment factors listed above.
Earnings rated "3" may need to improve. Earnings may not fully support
operations and provide for the accretion of capital and allowance levels in
relation to the institution's overall condition, growth, and other factors
affecting the quality, quantity, and trend of earnings.
A rating of "4" indicates earnings that are deficient. Earnings are
insufficient to support operations and maintain appropriate capital and
allowance levels. Institutions so rated may be characterized by erratic
fluctuations in net income or net interest margin, the development of
significant negative trends, nominal or unsustainable earnings, intermittent
losses, or a substantive drop in earnings from the previous years.
A rating of "5" indicates earnings that are critically deficient. A financial
institution with earnings rated 5 is experiencing losses that represent a
distinct threat to its viability through the erosion of capital.
Level
The best and probably most widely used single indicator of the
level of bank earnings is the ratio, return on average assets (ROA), or net
operating income as a percent of average assets. The value of the ratio is that
it permits an instantaneous inspection of the level of earnings. Norms for ROA
are different, depending on the sized location and type of bank. For example, a
"community" bank with a few branches may regularly achieve an ROA ratio which
exceeds those realized by large wholesale banks.
Trend
The trend of earnings is measured in two ways: net operating
income growth and return on assets history. Earnings growth should be inspected
for year-to-year changes and for a five-year annual compound growth rate; and
average annual growth rate may be substituted for the latter. The return on
assets history is simply the tabulation of five consecutive return on asset
ratios. By utilizing both measures of earnings trends, a comprehensive
determination can be made as to the technical validity of the data itself. To
illustrate, the Report of Income form is changed form time to time, bank
accounting practices change, mergers occur, yet no restatements of prior years
are available in any Report of Income. Thus, the possibility always exists that
an apparent compound (or average) earnings growth of, say plus 10% is misleading
and might actually be minus 10% if proper restatement were made. These
restatements, however, are time consuming and far from necessary except in
problem cases where the extra analytic effort may be fully justified.
Analysis Trails
Net Interest Income
Earnings from interest is the difference between
total interest income and total interest expense. In a sense, interest expense
is considered to be the equivalent of the "cost of goods sold" which
nonfinancial businesses incur.
Noninterest Income
The second major type of bank income is largely of a
fee nature; service charges on deposits, trust department income, mortgage
servicing fees, commitment fees, and certain types of loan fees. Also included
are the results of trading operations and a variety of miscellaneous
transactions, usually insignificant.
Overhead Expense
Another method for judging the profitability of
noninterest income is to inspect the overhead ratio of a bank. Overhead is the
sum of all bank operating expenses except interest expense and loan loss
provision. The notable exception is the cost and losses associated with
foreclosed property (other real estate owned, or ORE). If the bank has a
significant amount of ORE, the expenses associated with ORE will flow through
"other expenses" and are thus included in overhead. Therefore, any sharp rise in
the overhead ratio may be caused by the result of write-offs of former real
estate loans.
Allowance for Loan and Lease Losses
The adequacy of a bank's allowance
for loan and lease losses continues to be one of the principal factors examiners
must consider when evaluating the quality of a bank's earnings performance.
Examiners should therefore ensure that bank management reviews the adequacy of
its "allowance" on at least a quarterly basis. Furthermore, management must
maintain reasonable records in support of their evaluations and entries. Refer
to the Loans Section for further discussion.
Income Taxes
The fifth major earnings component in any bank is income
taxes. It is important in the analysis of earnings to judge whether income
taxes, that is, the provision for taxes in the income statement, seem
appropriate and whether a shift in the effective rate has occurred.
Dividends
The rate of earnings retention is directly related to
increasing capital. High retention obviously increases capital more rapidly but
may or may not be appropriate or necessary for the bank. The retention rate must
be analyzed relative to the potential growth rate of the bank. A bank in a
developing trade area may forecast substantial growth which cannot be supported
by existing capital even if no cash dividends are paid. Since most bank equities
are viewed by the investor as income rather than growth stocks, a low dividend
history may hamper the bank's ability to market a new stock offering. The bank's
flexibility to reduce its dividend payments should also be considered when
analyzing the impact of dividends upon earnings. For example, a bank that must
upstream dividend payments to a highly leveraged holding company which needs
those dividends to meet its debt service requirements may not have the
flexibility, given the current structure of its liabilities, to significantly
lower its dividend level. Of course, it is desirable from a supervisory
standpoint to prevent this type of situation from developing in the first place.