LIHUE, Kauai—That there has been an “urge to merge” among credit unions over the past decade is no secret, as the numbers make clear.
What is often a secret, until a merger goes sour, are the steps that should be taken ahead of time, according to two attorneys who specialize in working with credit unions considering or going through mergers and other charter changes, who shared some insights on those processes with attendees at the Volunteer Leadership Institute hired by the Paragon Group here.
Francois Henriquez, left, with Richard Garabedian.
Francois Henriquez, with the Miami-based firm Shutts and Bowen, noted that there have been approximately 600 CU mergers over the past two years, and that those CUs that are proactive in looking at margins seek to be the acquirer by a three-to-one margin.
And why are credit unions merging? For many reasons, noted, Henriquez, but for one that is over-arching: “It’s very, very competitive out there.”
But competition is hardly the only reason, said Henriquez, pointing to economic environment and earnings pressure, inability to compete, increased regulatory burden, the explosion in member usage and expectations regarding products, access and technology, shrinking net interest margins, and pressure from NCUA.
“If you cannot compete, look for a merger partner,” said Henriquez.
When it comes to regulation, Henriquez observed that “We’re very used to being treated as unique because we’re credit unions. But the CFPB does not regulate according to what your charter is; they regulate according to what the product is.”
Other Future Challenges
Other future challenges facing CUs, he added, include future capital requirements, difficulty in attracting talented board and management, management succession concerns, lack of experienced personnel in areas targeted for growth, and expansion, including MBLs; a decline in CU member loyalty, and non-bank competitors.
“We like to think that our members love us and they understand what we are. But thee really is there is a decline in loyalty,” said Henriquez. “I went into a Citibank and I was treated like I was royalty. We think we have that member service thing locked up, but we don’t. We’ve really go to up our game here.”
While the upside to mergers, most especially scale, are well-known, Henriquez cautioned board members to recognize that there are downsides, as well. Those downsides include:
- “Social Issues” in terms of compatibility of officers and board. “There can be a real clash and sometimes it’s real difficult and painful.”
- Different corporate cultures.
- Poor asset quality of the partner, “which happens if you don’t do your due-diligence very well.”
- Possible regulatory issues.
- Integration of member markets. “There can be times when different FOMs really become a disaster; people have their way of being together, and wonder why are these others in their FOM?”
- Loss of autonomy and control. “Everybody is concerned about this,” he said. “I know of a $10-million CU that wants to merge with a $100 million CU and the $10 million CU wants to be the surviving, controlling credit union.”
- Rarely a merger of equals.
- Free transfer of capital.
- Employee dislocations.
Smoothing Out the Process
Joining Henriquez in the presentation was Richard Garabedian, a partner in the Washington, D.C. law firm Luse Gorman Pomerenk & Schick. Garabedian asked the audience how many were volunteers at credit unions that had attempted a merger, but it had fallen apart for some reason, and several-dozen hands were raised.
The reason for many failed mergers, said Garabedian, comes down to the process. The steps to make the process go more smoothly, he said, should include:
- Peliminary meetings of key officers to discuss concept. What would you be prepared to talk about?
- Board members/key officers meet to consider preliminary deal terms; some general parameters of what they would find attractive to do a merger should be established.
- Formally authorize CEO to negotiate, hire advisors.
- Management/advisors review deal terms, potential deal costs, integration issues.
- A confidentiality agreement is executed.
- Parties negotiate letter of intent.
Another issue many credit unions are exploring, according to Henriquez, is a switch in charter from state to federal or, more likely, he said, from federal to state.
“What we hear is that the federal charter can be quite limiting in terms of FOM,” he said. “At the state level, there are often fewer and less onerous laws and regulations governing. Often the statutes are far more bare-bones. Often the exams are less frequent and the state regulator doesn’t have the same resources as NCUA.”
Henriquez said state agencies also often frequently have “thinner” bureaucracies and it can be easier to get access to the chief administrator. For some states, he added, there is also the option of private deposit insurance.
Potential Disadvantages in State Charters
But he noted there can be disadvantages in the move from federal to state charter. Those include:
- Being subject to dual regulation and joint examinations.
- Experiencing “reverse regulatory arbitrage.”
- Loss of federal pre-emption.
- Loss of political power.
- Potential state taxation.
- Fewer regulator resources.
Speaking again the issue of process, Garbedian said the steps in a state/federal charter conversion include:
- Notify/meet with regulators prior to commencing the process.
- Board vote.
- Submit proposal to regional director.
- Receive regional director approval.
- Member vote
- Certify member vote to regional director.
- Obtain state charter
- Submit copy of state charter to regional director
- Cease to be an FCU as of the effective date of the state charter.
- Regional director cancels federal charter.
Buying A Bank
As CUToday.info has reported, Henqiquez noted there is another small trend that has developed in recent years that was unheard of not that long ago, and that is a credit union acquiring a bank or thrift. “It’s a way of leapfrogging growing their balance sheets,” said Henriquez.
As Henriquez and Garabedian explained, acquiring a mutual thrift or bank is the simpler process, given the similarities of those charters to credit unions. Aquiring a stock bank, they noted, is more “complicated.”
“Typically you need a CU that is two to three times larger than the bank,” said Garabedian. “Why? The CU typically has only one form of consideration, generally cash.”
Among those complications are how to deal with bad assets that may be acquired, and there is an alphabet soup of regulators that can be ultimately involved, depending on charter type, including the OCC, state regulator, FDIC, NCUA, Treasury, and FRB if the bank has a holding company.