By Homer Fager
Numerous articles have been written giving references to a restructuring of the credit union system as the result of the merger trend over the past decade. Mergers are a reality of thefinancial industry in general both past and future.
When I joined FedComp in 2014 the decline/survival of the “small entity,” blue-collar credit unions––those under $2 million inassets––were recognized as a critical problem. As a core data vendor, the financial health of company was dependent on the existence of the “small entity,” blue-collar credit unions. As then, today the nation is losing its small financial institutions that have historically severed the middle class, including unbanked and underbanked households within our local communities.
This social need for “Small Entity” Credit Unions has been addressed by many in numerous articles to no resolution. In this article I present a resolution encompassing economies of scale membership plus petite branches.
A historical timeline on NCUA’s website provides us an overview ofthe growth and decline of the “small entity” credit unions during the past 70 years.
- By 1952, the number of federal credit unions grows to nearly6,000 with more than 2.8 million members. This equals 367 members per CU.
- By the end of 1970, there were 12,977 federal credit unions with $8.8 billion in assets and nearly 12 million members.This equals 925 members per CU.
- By the end of 1980, there were 17,350 federally insuredcredit unions that had nearly $70 billion in assets and 27 million members. This equals 1,556 members per CUs
- By the end of 2010, there were 7,339 credit unions with morethan $914 billion in assets and nearly 90.5 million members. This equals12,332 members per CU.
Steady Decline
The number of entities has declined each year since 2010 to only 5,099 credit unions in 2020 with 124.3 million members. That same year NCUA began the yearwith a proposed consolidation list of 12 credit unions and anadditional four consolidations in planning.
By the third quarter the agency had approved 93 and ended the year with a total of 136 consolidations/mergers. The following year, 2021, the agency approved 117 mergers. The mean and median asset value of merged credit unions was overlyrepresented by “Small Entity” institutions ($11.9M and $4.7M, respectively).
Over this period the majority of credit unions ceasing to exist were victim of consolidations- mergers. A vast majority of these entities involved NCUA as a conservator or liquidator fall under the “small entity” classification. In 2015, under the Regulatory Flexibility Act, NCUA raised the asset ceiling for a “small” creditunion to $100 million. The objective of this change was toincrease eligibility for special consideration of regulatory relief infuture rulemakings.
It was also directed at NCUA’s Office of Small Credit Union Initiatives, providing aid to 4,690 federally insured “small entity” credit unions to avoid certain events leading to conservatorship and subsequent merger.
‘Rightly Frustrated’
“Small entity” credit union CEOs rightly are frustrated over the regulatory burden issue of one-size for all. Basically, the regulatory burden is born of regulations designed for mega-dollars institutions, those with 100,000-plus, economies-of-scalemembership. Even a billion-dollar credit union can only sustenance 50,000-plus economies of scale membership, it takes a minimum of 150,000 plus economies of scale membership to sustain $2 billion - $3 billion plus instructions. For true economies of scale to be achieved a cost advantages of 500,000 to 750,000 members need to be experienced.
Princeton University FCU, a $135-million plus entity, only has 8,000 members. The average membership for $20 million and less entities is 1,850. Even $100 million “small entity” credit unions can only achieve 15,000 to 20,000 economies of scale membership.
CEOs of blue-collar entities must explore how to apply AI flexible back office operation procedures to reduce/remove administrative expenses thereby allow them to successfullycomply with NCUA risk benchmarks with economies of scale growth.
Here’s the problem: individual “small entity” credit unions alone will never have the required economies of scale to achieve“ adequately capitalized” status. Operating procedures will needto change to comply with the following five regulatory benchmarks evaluated by NCUA examiners.
- Growing Membership. Field of membership rule havelimited benefits
- Prompt Corrective Action (PCA). Normal operatingexpenses cause liquidity shortfalls
- Positive Earnings. Experience periods of insufficient incometo cover all credit union's expense
- Increasing Net Worth. Becomes “adequately capitalized.”
- CAMEL Ratings. Credit union’s current and prospectivefinancial and operational risk exposure, potential changes in economic climate, and strategic plans.
Credit Union in a Desk
Many of the 1950’s “small entity” credit unions were based in a company town serving a very small geographical area. As employees or faith-based credit unions, they operated out of adesk located in a manufacturing or church building. They serviced only local, blue-collar workers as these entities growtheir charter was amended to include an expanded field of membership and geographical area. The transformation from blue-collar entities to today’s digital banking has witnessed theconsolidation of the industry from 17,000 in the 1960s to 6,000 entities today. However, it has been the blue-collar credit unions that lost the most.
There is a 60-million-plus consumer market awaiting the services of “small entity” blue-collar credit unions. In 2020, the FDIC reported that 22% of U.S. adults (63 million) are either unbanked or underbanked, meaning they did not have a checking or savings account at a federally insured bank or credit union. Traditional financial institutions have failed to construct retail solutions based on this market of millions of underbanked Americans consumers.
This industry failure exposes an area open for disruptive innovation action by non-financial players to open up this marketplace for blue-collar credit unions. There is a model for blue-collar marketing; fintech firms are catering to unbanked consumers by changing the way they serve them. Blue-collar credit unions can and must adapt to this market employing 5G plus “cyber-physical” technologies.
The available source for economies of scale growth in entity membership can be estimated using appropriated 150-200 associates per typical big box stores. The retail industry identifies more than 20 companies as big-box retailers.
As a guide to the size of this market we have three baselines:
* The largest U.S. retailer has 4,748 stores employing approximately 1.7 million store employees in the U.S.
* Average annual pay for top 20 U.S. big-box stores is $31,000
* 1 out of every 153 American workers is an Amazon employee.
In addition to this big-box market there is the transportationindustry, the warehouse-distribution centers, and the enormous and diverse hospitality industry.
Petite Branches
Petite branches are an old-new concept; it’s the opposite of the mega-business model. As the number of mega-credit unions grows larger they become more complex creating greater risk requiring NCUA to install burdensome regulatory structure.
By installing a petite branch business model, “small entity” credit union CEOs will benefit from reduced expenses which lead to reduced risk analysis. Petite branches can be staffed by volunteers, they require no physical facilities, and can employfinancial technological innovations, including distributed ledgertechnology (DLT), wireless technology, biometrics, big data, artificial intelligence, cloud-computing, and other cyber-physical technologies.
In closing, there is an enormous and diverse opportunity for the growth of petite branches and, by extension, expansion of the “small entity” (blue-collar) credit unions segment within the financial service industry. In the second decade of the 21thcentury “small entity” credit unions have an opportunity to incorporate 5G and “cyber-physical systems” technologies to benefit the households of the middle class and the poor.
“Small entity” credit unions must embrace Fourth Industrial Revolution technologies to realize reduction of their non-revenue producing processes thereby allowing for development of petite branches. Small (blue-collar) credit unions can both be business and regulatory compliance in this new cyber-physical technology generation.
Not Unrealstic
It’s not un-realistic for us to envision the future growth of the “small entity” credit union segment as a result of the petite branches concept.
Homer Fager is the former president of core data processor FedComp Inc., a small business owner and advisor, multi-million-dollar Project Manager, providing him an extensive resume of experience in governance, risk, and consulting work.