Has Anything Changed?

Almost twenty years ago, Callahans had a program of hiring five new college grads annually for the company’s future growth. There was a two week, full-time orientation to introduce the credit union movement and the company’s history before the new employees began a six month rotation among the firm’s operating units.

In the two-week introduction , we would invite a credit union CEO to speak about why they chose a career in credit unions and their vision for cooperatives.

A frequent guest was Jim Blaine, the now retired CEO of State Employees Credit Union in North Carolina. It was and is the 2nd largest credit union in the country.

Jim is a master story teller. He makes his points with directness. He seeks agreement as he goes along. He wants you to share his beliefs.

The Never Ending Credit Union Challenge

Even with all of his distinctive rhetorical skills, the one assertion that stands out for me from his presentations is:

“In America today, those that have the least, or know the least, pay the most for financial services.”

From this factual foundation, he would then describe his business tactics: the non-conforming variable mortgage with every member paying the same rate, no indirect auto loans, a simple savings account, no paid advertising, etc.

While one might debate the tactics, his observation still stands as a challenge for today’s cooperative executives: what are credit unions doing about this persistent market reality for America’s consumers?

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When the Regulator and Credit Unions Worked for Common Purpose

In 1984 Ed Callahan delivered the customary NCUA Chairman’s speech to CUNA’s Governmental Affairs Conference.

His title this February was “Finish the Job.”

In the talk Ed outlined the incredible success of deregulation, credit union’s “fantastic” performance, and how the movement was fulfilling the founders’ visions for serving America.

He directly challenged critics who accused NCUA‘s policy initiatives as “competition in laxity.”


The Final Action Required

But there was one further institutional reform needed to ensure the industry’s future in the new market driven environment.

That change was to redesign the NCUSIF from an annual expense premium to a self-funding model based on 1% of insured deposits as the core.

Speaking with Logic and from the Heart

As you hear Ed’s voice, note the former football coach’s style:

  • He talks about the team’s success;
  • He gives them facts about their situation;
  • He speaks from the heart with an exhortation to finish the job.

Ed never used a script. But his logic was so clear you could transcribe his words verbatim. While the circumstances Ed addressed have changed, his authenticity marked by  directness, transparency and passion are needed all the more today.

Listen for the rouser at the end. It was his signature moment!

The Betrayal

NCUA’s sale of 4,500 credit union members’ loans secured by taxi medallions to a private equity firm is a betrayal of everything the credit union cooperative system represents. Credit unions were founded to protect consumers from being exploited by loan sharks preying on those who have the least or know the least about financial services. NCUA’s sale just put these members and their families at the mercies of Marblegate Asset Management LLC, a firm that exemplifies capitalism’s limitless profit ambition.

These 4,500 borrowers have invested years, some decades, establishing an equity stake with the sweat of their brow, in an earning asset to help them realize the American dream of financial well-being. They joined credit unions and trusted their interests would be treated fairly. Instead the agency regulating the industry sold them out to add additional pieces of silver to a fund bulging with more than $16 billion in liquid assets.

This action irredeemably harms these members whose interests are exactly opposite Marblegate’s. NCUA’s fundamental responsibility is to protect credit union members. This sale places a stain on the entire credit union system. It contradicts Board members’ individually stated policy priorities to treat members fairly, to support financial inclusion, or follow the rule of law.

This deliberate action is an agency wide effort. There was no emergency dictating the disposal of these loans. Rather, NCUA planned for over a year to shed responsibility for the safety and well-being of the very persons credit unions were intended to serve: the member-borrower.

The agency says it worked on this effort for 18 months. When confronted earlier this year with widespread requests by New York City, Congressional and credit union leaders to work collaboratively with the 4,500 members affected, the agency claimed it had to act now or lose its credibility for future asset sales.

It put the buyer’s and its own self interests ahead of the members. Seldom has the well-being of the powerless few been so completely trampled by those with money and authority.

A 2019 New York Times investigation found 950 licensed taxi drivers have declared bankruptcy since 2016. The crushing debt has led to driver suicides. NCUA has now transferred the fate of these credit union borrowers to an investment fund whose reported plan is to acquire the largest share of New York’s 13,500 medallions.

What is Known About the Sale

NCUA provided no facts about this sale. Rather, the media has reported the only public details of this regulatory tragedy.

On February 20, the Wall Street Journal reported the sale to “an investment firm known for buying up distressed assets, will now become the largest single owner of New York City Taxi medallion loans” with this purchase.

Sale price of 31 cents for each $1 of book value

The Journal reported the price of $350 million was for a portfolio of 3,000 New York medallions, 900 Chicago medallions, 500 Philadelphia medallions and 100 from other cities.

This is an average loan value of $77,800 each, all secured by medallions. The estimated par value of these loans is the purchase price of $350 million plus the loss NCUA says it has taken on the portfolio of $760 million. Combined, these two numbers add up to an average book value per loan of approximately $245 thousand.

This total par value of $1.11 billion also suggests that the average price per loan was approximately 31 cents on the dollar, or a discount of more than two thirds from the portfolio’s original book value.

We don’t know what proportion of these loans are receiving regular payments. But many are earning assets backed up with years of payment history. Some will have been rewritten. In every case the medallion security minimizes the possibility of any downside loss. For if the borrower defaults, the security has a cash price that can be monitored in each market.

For example, individuals are offering to buy New York medallions for prices from $125,000 to $135,000 on multiple websites today. The actual sales price for a Chicago medallion since January 1 has ranged from $24,000 to $40,000.

In Boston offers to buy on the web range from $27,000-$40,000.

The following news articles suggest that Marblegate is not interested in loan assets yielding 6% or, if bought at the estimated discount, a yield of 18-19%.

The Buyer: “Profiting from the Misfortunes of Others”

Marblegate Asset Management LLC formed in 2009, is an investment fund focused on buying distressed assets.

A Wall Street Journal article from April 11, 2011, describes Marblegate’s corporate strategy.

For ‘Vultures,’ Slim Pickings — Facing Default, Publisher Lee Enterprises Sells ‘Junk’ to Foil Distressed Investor

The following excerpts from the article describe how these funds try to make high returns, an effort foiled in this case by Lee Enterprises which had been the target of a takeover through purchase of the company’s debt by “vulture” funds. The tactic failed when Lee found alternate financing.

Newspaper chain Lee Enterprises Inc. is on the verge of saving itself from bankruptcy — and many of its debt holders are livid.

Lee, weighed down by about $1 billion of debt, has long been high on the list of potential bankruptcies. But thanks to the roaring market for debt of risky companies, Lee is preparing to sell junk bonds that would enable it to pay off its obligations and give it a new shot at survival.

But what is good news for the company has thwarted the plans of a flock of “vulture” investors — Monarch Alternative Capital, Alden Global Capital, Marblegate Asset Management and a unit of Goldman Sachs Group Inc. — which have been buying Lee’s loans. The group had been betting the company would default, and that they could turn their holdings into an ownership stake, giving them access to the company’s assets, which include St. Louis Post Dispatch and the Arizona Daily Star newspapers.

Instead, they will get repaid, but miss out on the chance to make even bigger profits as owners.

Lee isn’t alone in its sudden pullback from the brink of bankruptcy, thanks to the frothy state of the high-yield bond market. One by one, distressed companies have been able to sell debt as money floods into the debt markets.

That has left few money-making opportunities for distressed-debt investors, who engage in a type of financial schadenfreude: profiting from the misfortunes of others. Vulture investors typically buy debt at low prices, expecting to turn that debt into equity in the company, giving them ownership. Then they can sell off assets or run the company, making more money than they would by simply owning the debt. [emphasis added]

An October 15, 2018 Wall Street Journal article, “Hedge Fund Bets on the Taxi Business” reports Marblegate’s efforts to acquire a dominant share of the New York taxi medallion markets.

Vulture investors are circling the beleaguered New York City taxicab industry.

Hedge funds that specialize in distressed investing have been kicking the tires of the New York taxi market after prices for medallions plummeted amid competition from ride-hailing upstarts. Marblegate Asset Management LLC, a Greenwich, Conn., hedge-fund firm, decided to place a big bet, and over the past year or so has scooped up about 300 medallions for a total price of more than $50 million, according to people familiar with its strategy. (note this would be an average price of $167,000)

Owners of taxi medallions and their drivers in New York and other cities have been hobbled by the flood of app-based ride-hailing services such as those run by Uber Technologies Inc. and Lyft Inc. There are more than 80,000 vehicles used for ride-hailing services in New York City, more than triple the number in 2015, regulators say. They now dwarf the roughly 13,500 yellow cabs. The competition has led to declines in yellow-cab trips and fare revenue even as the number of passenger trips in for-hire vehicles has soared.

New York City this summer instituted a one-year freeze on licensing new for-hire vehicles while it examines ways to raise driver wages. (note: tis freeze has been extended)

Marblegate, which began buying up medallions last fall at prices between $175,000 and $200,000, isn’t trying to call a bottom, according to people familiar with its strategy. Instead, it plans to operate its own fleet of taxicabs and believes it can run a better business than existing operators — in part by improving working conditions and benefits for its drivers.

At current rates, owners can lease out a medallion to a fleet operator for $15,000 a year, people in the industry said. The operator takes care of cars, drivers and vehicle dispatching, meaning that a buyer of a $175,000 medallion can expect an annual return of 8% to 9%. The price of the medallion is also tax deductible over 15 years.

By operating its own fleet, Marblegate’s returns could be significantly higher. [emphasis added] Aleksey Medvedovskiy, chief executive of NYC Taxi Group, a fleet operator based in Brooklyn, said that some of the better owner-operators today earn about $30,000 annually per medallion, or a 17% return on a $175,000 investment.

Distressed investors buy assets in industries in which disruption has caused prices to decline, wagering they have fallen too far. Investors see New York as the city where traditional taxis — which have the exclusive right to pick up street hails in Manhattan — have the greatest chance of survival. One million passengers hop in a cab, a town car or an Uber each weekday across the city, according to regulators.

“As long as there’s a hail system and a central business district, there will always be business for them,” said Matthew Daus, a lawyer at Windels Marx Lane & Mittendorf LLP who specializes in the medallion industry.

Marblegate’s Strategy: “Furthest Along”

In a July 18, 2019 Crain’s New York Business article, “Mystery Buyer Snaps up taxi medallions as prices fall further“, the state of the taxi medal market is described:

Taxi medallions might be worth less than ever. But in some ways, there has never been more interest in the troubled asset.

Private-equity firms have been circling for the past two years as prices have continued to fall. Marblegate Asset Management of Greenwich, Conn., is the furthest along, having acquired a little more than 300 medallions, starting with purchases at an auction in September 2017.

The firms have different strategies for how to profit from the medallions, according to insiders, but agree that taxis have a future as a key part of New York’s transportation infrastructure. Some see their interest as a bet on the industry’s eventual recovery.

“There are multiple players now—it’s not just Marblegate,” said Matthew Daus, a former Taxi and Limousine Commission member, who is a partner at Windels Marx, a law firm that represents taxi interests. “This is a positive sign.”

The article’s final observation about medallion sales values is also relevant to NCUA’s action: “Bulk sales typically fetch lower prices per placard than individual sales.”

Credit Union Borrowers’ Interests Conflict with Marblegate’s

Even at the discounted prices of the loans which would result in double digit yields, Marblegate’s strategy is to dominate the market for New York taxi medallions to enhance their profitability. Owning medallions is the firm’s operating goal, not administering borrowers’ loans. Refinancing to help individual borrowers pay down loans would just prolong the time before Marblegate might foreclose on a medallion due to driver’s payment defaults.

NCUA has turned these credit union members’ financial fate over to a fund whose sole goal is to maximize return on invested funds.

The New York Post directly addressed this issue. The story was published February 20,2020, the date of NCUA’s board meeting, titled Cabbies Worry as Hedge Fund Snaps Up Taxi Medallions:

Some industry sources said they were skeptical whether Marblegate would be interested in taking a haircut on the loans to help out taxi drivers. “Marblegate is happy owning these assets because they want to own a superfleet and build economies of scale,” according to one industry insider. “The idea is to keep buying the loans, keep foreclosing on them and keep gobbling up medallions until you control the market.”

How could any individual borrower ever hope to renegotiate loan terms with Marblegate? They want the medallion, not a loan, that if paid off would take away their prospect of owning the medallion via foreclosure.

A Credit Union Times story the same day quoted the Bhairav Desai, executive director of New York Taxi Workers Alliance that they hoped to restructure the loans at uniform value of $150,000 each. Instead NCUA sold the loans for $77,000 each. The borrowers received no benefit from this sale and are still burdened with debts incurred in very different market circumstances.

Marblegate acquires the debt at a very steep discount. The members are shut out from any upside potential from the sale.

NCUA’s Moral Blindness and Administrative Stonewalling

NCUA has turned its back on common sense and its fiduciary obligations to the cooperative system.

NCUA has charged the cost of the resolution of liquidations to the credit union system but then given all the potential upside profits to the private sector to reap. Co-ops pay for all losses. For profit firms reap the gains.

There are no facts provided in the NCUA press release, the FAQs or board oral statements defending the sale. The rhetorical explanations are entirely unsubstantiated. There have been no criteria for the solicitation process, no details about the financial advisor’s purpose or recommendation, no comparison of different options, no data on administrative costs, and no information on portfolio performance provided to explain this decision.

Somehow the general press (Wall Street Journal, MSN and New York Post) were able to find these details. This fact vacuum suggests NCUA either does not have data to support the sale process or is afraid the data would not justify their action. Vague assertions and generalizations replace evidence.

NCUA’s Illogical Explanations

The hollowness of NCUA’s arguments is staggering. McWatters is quoted: “We are fiduciaries for the insurance fund. We needed to take this offer.” Without a single fact to back up why a $16 billion fund needs more cash liquidity.

The most absurd statement in NCUA’s press release is “Private entities have specialized skills and greater resources and flexibility to work with borrowers in ways the NCUA cannot.” I will not argue with NCUA’s confessed lack of competence. But are they also ignorant of the billion-dollar credit unions and CUSO’s that manage taxi medallion loans as an everyday part of their business with specialists that know how to work with members?

NCUA has dissed the expertise, capabilities and experience of the credit unions they oversee in turning the future of these members to a “vulture” fund over which they have no control. They have sold out not just 4,500 members, but the entire cooperative system’s reputation and replaced it with a private, profit maximizing fund’s financial ambitions.

Compounding this demeaning assessment of credit union’s expertise, this bulk disposition of distressed assets will only harm credit unions with loans secured by the same collateral. The public fire sale which writes off two thirds of the book value of loans, can only harm the valuation of loans now held by credit unions in the same asset class.

As for NCUA’s claim that this was “the least long-term cost” every known fact about this case suggests just the opposite conclusion. The agency took the highest and greatest loss possible forgoing all future revenue from these loans. The upside opportunity is not tied to medallion values, but rather to the borrowers’ abilities to make affordable payments on their debts as they strive to achieve full medallion ownership.

At a fire sale average price of $77,000 (or the higher $150,000 amount proposed by the Workers’ Alliance), it is inconceivable that these experienced borrowers and taxi drivers could not meet rewritten payment terms and create a win-win for them and the NCUSIF.

Invoking Congress and “Mission”

The statement that “failure to achieve an orderly liquidation at the lowest long-term cost would violate the NCUA’s Congressionally mandated mission of protecting the insurance fund” is nonsensical. It is supported with no facts and in essence suggests that Marblegate doesn’t know what it is doing due to these so-called long-term costs. I suspect that this investment fund knows exactly what it is doing and has calculated that the long-term revenue returns that will enable it to dominate the taxi medallion business in New York and other cities. The statement merely confirms the agency’s analytical myopia.

When has NCUA ever justified an action by invoking a “Congressional mandate? If that is the reasoning whatever happened to the “Congressionally mandated mission” to help cooperative borrowers?

The sudden action (Feb. 19) by NCUA after numerous inquiries and efforts by the New York City Council and other interested parties suggests NCUA wanted to lock in the loss on these liquidations. Before the liquidation of the two credit unions, the NCUA-appointed conservators had estimated the combined negative net worth of LOMPTO and Melrose at $150 million at June 2018. In the September 2018 liquidation, NCUA recorded a $760 million expense against the allowance account.

This was an estimate already recorded in the December 2017 NCUSIF audit, over two years before this February 2020 sale. Any resolution that would contradict this prescient estimate would be embarrassing for all involved. So best to lock in the loss projected with amazing foresight so there is no need to explain how a $150 million deficit balloons to $750 million three months later.

And the $350 million just happens to be the net recovery value NCUA estimated when they expensed the allowance account over two years earlier. It is indeed remarkable how accurate this loss forecast proved to be compared to the absence of any contemporary data to support the sale today.

Who Will Join the Members’ Voice?

Following the NCUA meeting on Feb. 20 in which the taxi drivers’ signs were taken away and many routed away from the board room, one taxi representative summarized the board’s actions: “They sold us out today.”

The day following the Board meeting the New York state attorney general ordered the city to pay $810 million to debt-hit taxi drivers. The demand stated that the city allowed brokers and top players to collude on prices. The demand claimed the Taxi Limousine Commission marketed the new medallions as a path to the American dream.

Some commentators question whether this demand has any merit, but it shows two things. The possibility of assistance for taxi borrowers from unexpected sources. More importantly for NCUA, it demonstrates a government entity willing to try to help the borrowers, not walk away as NCUA has done.

NCUA’s explanations of the sale are neither credible nor convincing. The entire process was done in secret. Those most affected were never consulted.

This event raises the prospect that NCUA has become the weakest link in the cooperative network. For if members cannot rely on NCUA to protect their interests in this relatively small, highly visible event, what confidence should the 100 million plus members have that their interests will be safeguarded in the future?

This event is not an individual failure in which an examiner or survivor made a mistake or showed poor judgment. Rather this is an institutional failing from top to bottom over an extended period.

And that is why this betrayal has significance for every person concerned for the future of the cooperative system. To be silent is to give consent. Leadership tales courage. Shouldn’t Congress ask how this sale of members’ future fulfills NCUA’s cooperative mission?

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Why the Past Matters Today

Recently I posted two blogs that lifted stories Jeff Farver, a former credit union CEO turnaround artist, wrote for his family and friends about his career.

In three multi-year workouts, two as CEO, he saved these credit unions from liquidation. He did so in partnership with the NCUA who recognized his talents and innovative approach to resolutions. For example, his Good CU and Bad CU distinction and his ability to fashion a long term plan.

Credit union difficulties in New York City are continuing front page news.

Regret Yet Contentment

At the end of his short history, Jeff added this paragraph:

One of my regrets in retirement is the loss of fellowship with my fellow Credit union CEO’s, but especially those who were problem solvers, risk takers and cooperative adventurers. As I reflect on my career, I must acknowledge how those past successes have led to my positive outlook on the future and self-esteem and contentment.

The Regret that Should Inform Us All

Today NCUA and state regulators struggle with how to resolve problem situations. The instinct is to want them to go away. Merge them so someone else with excess capital can figure out what to do. Or in harder cases, just spend money to make the problem disappear—the most expensive and destructive option of all. Moreover, members don’t vanish when a credit union is liquidated, as we see in the example of NCUA’s mishandled taxi medallion liquidations.

Jeff knew that turnarounds were not a math problem to achieve the right net worth result. Competent leadership was the key. Like life itself, effective management takes multiple paths for success and flexibility for changing circumstances.

Jeff was not the only workout road warrior for the cooperative system. Other names that come to mind then and today include: Jim Ray (now deceased), Gordon Dames (former NCUA examiner), Don McKinnon, Bill Connors, Andy Hunter, John Tippets and Steve Winninger.

And it was not just RD John Ruffin but a whole class of NCUA Regional Directors who became partners with credit union workout leaders. These senior NCUA managers encouraged turnarounds not simply ending charters. Dozens of CEOs also persevered often in the face of irrational NCUA demands to downsize. They resisted the demand to shrink until the remaining capital was sufficient to meet a net worth ratio goal, but maybe not sustainable for the long term.

The Key Success Factor in CU Turnarounds

The key success factor in resolving the inevitable problems credit unions will encounter is wise leadership. When this wisdom is lacking, replaced by panic or fear for one’s reputation, then responding effectively to problems is literally short-changed. Every NCUA  response becomes a nail to be hit with a hammer, until it disappears into the wood.

Jeff characterizes the qualities needed “problem solvers, risk takers and cooperative adventurers.” He laments their absence. He modeled these necessary capabilities. That is leaders informed by the lessons of the past and the ambition for resolving credit union challenges with sustainable solutions.

Thank you, Jeff, for your life of cooperative service. Hopefully your example will inspire others to emulate your venturing spirit.

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“A Time to Mourn…”

Today the NCUA announced the agency’s sale of over 4,500 credit union borrowers and their loans secured by taxi medallions. These loans, many from years of labor, represent the most important earning asset in these members’ lives. The purchaser was a financia hedge fund which specializes in buying distressed assets at fire sale prices.

There will be time to describe how morally corrupt this action is. This action by the agency supposed to protect members would seem right at place in a Dickens novel about debtors’ prisons. Or more apropos to the pre-credit union era when consumers’ primary source of credit was loan sharks.

But for the moment, a reflection from Proverbs 24:

If you faint in the day of adversity, your strength being small;
If you hold back from rescuing those taken away to death,
Those who go staggering to the slaughter;
If you say, “Look, we did not know this”—
Does not he who weighs the heart perceive it?
Does not he who keeps watch over your soul know it?
And will he not repay all according to their deeds?

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War Stories or How Creative Leaders Save Credit Unions: Part 2

History is not the past. History is the present. We carry our history with us.” -James Baldwin

Part I ended with the investment manager who engineered the workout at Eglin having to find a new job. (link to Part I)

I am skipping his next workout story to go to the biggest, most difficult challenge: saving a large troubled, insolvent credit union when economic times were relatively stable.

The Challenge: In his Own Words

In early 1990, John Ruffin and Henry Garcia came back into my life by requesting me to interview for the CEO position of San Antonio FCU. John was the NCUA Austin Regional Director and Henry was his Senior Special Actions Officer. This time I asked for three years of Annual Statements of condition and yearly income and expense.

Those financials did not show the TRUE numbers for SAFCU. However, my EGO was tempted to take on another work-out if the rewards were worth it. But I loved living in Chattanooga and my family also loved it. The only concern I had was the private school cost to educate my three children and the future cost of sending them to college.

I turned down Henry G. at least two times and then he told me John Ruffin was in three days going to drive from Atlanta, where he was visiting family, to Chattanooga to interview me. My prep work was to find out what large CU’s CEOs were on average being paid and I found that the top 10% average was $200,000 a year.

So, when John arrived and made his pitch, I was prepared to ask for three things.

  • First, If I accepted John and the Regional Office staff would become my and my team’s partners in this SAFCU turnaround.
  • Second, in this high-risk challenge I wanted to be paid equal to the top 10% CU CEO’s average annual compensation of $200,000.
  • Third, I wanted some “bonus” opportunities if I was successful. I asked if negative equity was improved to zero or positive, I would want a bonus of 1 year’s compensation. If total Capital equaled 4% of risk assets, I wanted a bonus of 1 year’s compensation. Finally, when total capital equaled 6% of total assets, I wanted a bonus of 1 year’s compensation.

John agreed to my requests and I reported to duty July 25th, 1990. It took my first 90 days to identify how bad the pain and the problem really was.

I found $110 million of commercial loans, the worst of the worst, after NCUA’s ALMC purchased at par $75 million. Then we began getting appraisals and to the best of our ability to establish what the allowance for loan losses (ALL) funding should really be. After the completion of this process we determined that SAFCU was $36 million insolvent after funding of the ALL.

The commercial portfolio was the disaster, but I found a jewel in beginnings of a robust indirect lending program that would allow me and my team to grow quality earning assets with short durations.

Working with the Austin Region we began crafting a letter of understanding and agreement (LUA) that included the ability to earn out (retain) $25 million in NCUA capital notes. I can’t recall the thresholds to fund the capital notes but within 18 months we were fully funded and had removed the negative equity.

I noted that in a workout the CU staff always expects the worst to happen. In fact, six months before I was hired, the previous CEO had eliminated and fired over 100 SAFCU staff members. It would take time for the economy, Texas oil prices, and local real estate values to recover for SAFCU to liquidate at a reasonable price the commercial loans and the collateral we had repossessed securing them.

My workout tactic was to take the CU’s financial statements and income and expense and create a Good Cu and a Bad CU financial statements. By doing this I could show progress to my CU staff as well as NCUA Regional and Washington Staffs.

I then challenged my Indirect Lending staffs to increase loan production by an annual 20% increase for the first year and 30% year two and finally by year three, doubling our annual indirect vehicle loan production.

The tactic I used for working out the commercial loans and repossessed real estate was managed by this guidance: “Reduce the commercial loans and repossessed collateral as fast as possible with the least loss.”

I said “No” to sales where the price was extremely low, and I waited for an improving market. Likewise, we saw appraisals per square foot costs were lower than the costs of new construction were per square foot. Simply said, someone wanting office space could buy it cheaper than building it new.

The preceding were the core tactics to encourage the turn around. Add to them hiring freezes, cooperative ventures to share costs, zero based budgeting and extreme cost cutting while not cutting service to members.

His Appraisal

Did it work? Well I earned my first capital improvement bonus in 1993; the second capital Improvement bonus in 1994 and the third and final bonus in 1996.

When I retired at the end of 2011, SAFCU’s Capital was $254 million and the total assets $2.9 Billion.

The financial turn arounds success, while great for me, also impacted others. The continuance of the financial health of these credit union meant that their members could be served and provided fair priced and valued financial services If the three credit unions had been liquidated during the time that S&L’s were being closed, I estimate that the losses to the NCUA Share Insurance fund would have been close to $250 million.

My greatest career satisfaction was mentoring nine future credit union CEO’s. Two or three of them after a stint in dealing with Board members switched to other career paths. Also, as of the as of December 2019, four of my mentees have retired, and three are active Credit Union CEO’s.

Footnote: Today San Antonio FCU is renamed Credit Human. It serves 233,110 members with 787 full time equivalent employees, in 20 branches and managing $3.2 billion in assets. The net worth ratio is 11.1%

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War Stories or How Creative Leaders Save Credit Unions: Part 1

“History is not the past. History is the present. We carry our history with us.” -James Baldwin

From 1978 through 1982, the US economy went through a financial wringer.

The precipitating event was the rise in oil prices that threw all 20th century assumptions about financial markets into doubt.

Double digit inflation and interest rates arrived at the end of the decade. They were the components of Reagan’s misery index which he used in the 1980 campaign to characterize the incumbent President Jimmy Carter’s economic results.

The Impact on Credit Unions

Credit unions were struggling mightily in this unprecedented interest rate environment. Most states and federal credit unions had a 12% usury loan ceiling in the law. Likewise, FCUs and most state charters were limited by regulation as to the rates they could pay on savings. These limits were based on long standing market assumptions that were being upended.

The balance sheet management problems were acute. Member savings were flowing out the door to money market mutual funds which passed to consumers the rising market rates. As rates soared to double digits, mutual funds and other securities such as Treasuries which paid these unprecedented rates, were draining {disintermediating} the accounts of insured depository institutions.

The cooperative systems liquidity safety net, the CLF had just been passed by congress but was still in formation. Credit unions were not eligible to join either the Fed or the FHLB systems. The Corporate network was still coming together and did not yet have a strong point of focus subsequently brought by US Central.

Moreover, both loans and savings accounts at credit unions were much simpler than several decades later. Savings were in a regular (passbook) account or short-term CDs. No share drafts. Most loans were short term unsecured personal or auto borrowings.

But the most pressing problem was that a number of large credit union balance sheets were loaded down with long term, fixed rate securities, primarily GNMA 8’s. These were mortgage backed investments offered at 8%, a yield no one ever expected rates on short term savings to exceed. The spread seemed locked in. Yet in the late 1970s overnight rates were in double digits. All fixed income securities market values were under water, and there seemed to be no way out of the interest rate (income) squeeze and the liquidity challenge, except failure.

Into this economic maelstrom stepped a 32-year-old, former First Lt in the US Army who left in 1970. His first civilian experience was managing an investment portfolio and retail branch for an S&L during this time of rising rates from 1973-1978.

His First Turnaround of the 5th largest FCU-In his words

In December 1978, a lawyer friend asked me if I would apply and interview for Eglin FCU’s (EFCU) Investment Director. At the time EFCU was the largest financial institution in Fort Walton Beach.

What closed the deal is when FCU’s GM offered me $24,000 a year which was $2,000 more than I was making. However, I did not do any due diligence on the financials and or problems that led to the firing of the former CEO. Further, three years earlier they had built a four-story office tower, 100,000 sq. ft., with inland waterway access and a view of the Gulf of Mexico. Finally, in my former job as a banker we had to compete with EFCU’s 6% annual share dividend.

When I got to EFCU (age 32) I found that the $150 million asset CU, had $40 million borrowing as reverse repo using $50 million of Federal Agency MBS investments as collateral. $90 million of total loans and under $5 million of daily liquidity. The real liquidity kicker was EFCU had $100 million of unfunded future forward contracts to purchase GNMA’s or FNMA’s MBS.

As of January 1979, the market loss on the funded portfolio was approximately $10 million and the loss on the forward contracts were an additional $20 million. Note the mark to market pricing in January averaged 20% principal loss but by July 1979 this had increased to 35% of the par value.

July 1979 NCUA comes in and removes the General Manager and tells the Assistant General Manager that he had until year end to find another job. One month later, EFCU with the agreement of the Atlanta Regional Director hires an Alabama League Staffer, Jim Appleton. He and I then begin the back and forth with the Special Actions Examiner called John Ruffin (who later became an NCUA Regional Director).

In those days it was common that step one was to lower the share dividend, step two was to liquidate the “bad/underwater” assets. However, NCUA did not have any experience in dealing with liquidating long-term assets which had declined in value in a rising interest rate scenario.

The GM and I went to Washington and we pitched a unique Letter of Understanding and Agreement. Instead of selling out at the moment with the losses locked in, I crafted a workout plan. We would take the total of MBS on EFCU’s books plus the total of unfunded forward MBS and divided it by 30 months. That amount was the “required’ MBS sales per month. If market values declined 1% or more, we were required to sell 1.5 times the required sell. If market values rose 1% or more, we were allowed to sell ½ of the required sales.

With luck and favorable markets, I was able to liquidate all of the on-book investments plus the forward MBS contract and pay off the debt of the reverse repos by November 1980. Note we took capital losses but EFCU never went insolvent. Given the EFCU was the 5th largest FCU and one of the worst financially troubled NCUA insured CU; I had solved their investment and borrowing problem.

The Reward

Then I had an unexpected surprise, the General Manager told me since we no longer had any investments, he no longer needed my services but there was a Credit Union in Tennessee that was looking for a new GM.

But that is for another blog.

Footnote: At December 31, 2019 Eglin FCU served 121,309 members with 347 “full time equivalent” employees, $2.05 billion in assets and a net worth ratio of 12.3%.

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An Opportunity for the NCUA Board to Do the Right Thing

Over the past two months, the plight of the 3,500 borrowers secured by taxi medallions has been on many political leaders’ minds.

Members of Congress, the New York City Council, the union representing the taxi drivers, CUNA and three credit union leagues have all written or spoken up asking NCUA to do what is in the borrowers’ best interests. They have all sought a collaborative solution with the borrowers, not an outright sale of the portfolio.

In January, several dozen driver-borrowers showed up at the NCUA’s monthly board meeting to present their case firsthand. NCUA has met with the union’s representatives but has given no information about the portfolio’s size and composition, the options being considered and the agency’s criteria for seeking a change from the current outsourced collection effort.

This is the NCUA Board’s Decision

The Federal Credit Union Act explicitly states that the “Administration (of NCUA) shall be under the management of the NCUA Board.” While the current three appointees may prefer to opine about broad policy issues from cyber security to consumer protection, their day job is to ensure the Agency is properly managed.

Most immediately this decision about the fate of the borrower members from Melrose/LOMTO’s liquidations is on their desks. The responsibility cannot be delegated to some staff or committee. The identification of reasonable options and then selecting what is in the members’ best interests for the future of this portfolio loans is in their hands.

A Solution in Everyone’s Interests-Available Now

The credit union press reports that NCUA has put the loans out for bid. It is no secret that hedge funds have been buying up New York medallions at auction for cash. These firms are risk taking vulture investors, bidding at liquidation prices, seeking an extraordinary return. They do this by squeezing borrowers further or by flipping the security to individuals who understand the medallions’ economic value when used to operate a taxi business.

There is good news however. An immediate and proven solution is readily available that if used, would be a win-win for everyone who has expressed an interest. It would give borrowers a chance to earn out the collateral’s economic value, provide significant upside recovery for NCUA, and most importantly, demonstrate the unique capabilities of the cooperative model.

This solution is a CUSO. The entity is 100% credit union owned, a 24 by 7 operation with call center, lending experts and decades long experience in the administration of taxi financing whether on balance sheet or participations. It has the resources and capacity to provide a solution that is visible, accountable and most importantly sustainable, whatever the time period required to work through the portfolios.

For the board not to be aware of or to have a proposal from this proven industry resource would be at best negligent, if not at worst, a total dereliction of duty.

Why This Solution Makes Sense

  1. It is in the borrowers’ interest to have these members’ loan administration overseen by an entity whose sole purpose is serving the credit union system. The unique coop values, capabilities and design are a part of a CUSO’s DNA. NCUA’s responsibility extends to all members not just those with savings. Selling members’ loans to profit maximizing firms violates the board’s fiduciary duties to these member-owners. After all the name of the financial cooperative is CREDIT UNION.
  2. The CUSO approach harvests the financial upside in the situation. Medallions are a license to run a small business. It is an income earning asset for borrowers, not a sterile security waiting for turns in market rates. The last call reports filed by NCUA’s conservators at Melrose and LOMTO showed a combined negative deficit of $150 million. When liquidated in the following quarter, NCUA recorded a $745 million NCUSIF expense against the allowance account. It is fair to suggest the maximum losses have been fully recognized. The potential for recoveries is highly probable if managed by an entity willing to stay the course to do so.
  3. The downside risk is minimal. The argument that the taxi business will exist no longer and instead be overtaking by various ride hailing services is being undermined with each passing quarter. Both Lyft and Uber lose money on every ride today. Neither has ever made a profit and both keep projecting years into the future when that might occur.

Every community in which these services operates now understands they are in the “public transportation business” and is moving to initiate or improve regulation. Licensing fees, taxes, congestion limits and even employment practices are a few of the changes imposed. These regulatory intrusions are eroding the entry pricing tactic of undercutting the regulated taxi pricing used by these market newcomers.

Instead of reducing traffic congestion, ride services are increasing it in city after city. (“Ride-Hail Utopia Got Stuck in Traffic” WSJ Feb 15, ’20, pg. B1) California has passed legislation effective this year that classifies drivers as employees with the accompanying benefits paid by the parent service.

City taxi regulators are modifying their practices on pricing, license fees and other regulations to give their local options a better competitive position. In one city the local drivers created a platform, ride hailing application that mimicked the convenience of the national startups.

The platform, ride share services have disrupted the traditional, locally regulated and metered-set-price approach of the taxi industry. City by city taxi regulators and operators are adjusting to remain viable.

What is not clear is whether the innovating, disruptive, nationally focused ride hailing options are sustainable. As the dominant players are now both public companies with investors wanting to see profitability, their future is uncertain. Could one or both end up becoming more “We Work” reorganization case studies?

The Three Board Members Policy Priorities

Each NCUA board member has stated a core policy/decision making focus in recent public comments.

For Harper it is consumer protection, making sure members are treated fairly.

For McWatters, it is being guided by what the law says. The purpose of the Act states, “credit union means a cooperative organization for promoting thrift and creating a source of credit for provident and productive purposes.”

For Hood it is diversity and financial inclusion. Has he witnessed a more diverse group seeking financial inclusion than the drivers sitting before him at the January board meeting?

The NCUA and credit unions need a positive example of the cooperative difference for the general public. Washington and many outside the city doubt the ability of their DC based leaders to develop collaborative solutions. This is an opportunity to demonstrate the unique capabilities of the cooperative system.

Every loan portfolio option will have pros and cons. It may seem easier for the NCUA board to wash their hands, selling out to the highest bidder, who may then ask for a guarantee to protect their downside. But it would seem illogical to convert these long-term, income producing loan assets into immediate cash for an insurance fund already bulging with over $16 billion in liquid investments. At best, these new cash assets might earn 1.5% per year.

All assets go through cycles of value. Some assets such as undeveloped land, or foreclosed business premises and equipment, have no economic upside until someone is willing to invest more time and resources to make them productive.

A loan to an operator/owner of a taxi medallion is an earning asset today. The value will fluctuate depending on many factors, but the income stream can be forecast and monitored monthly or even daily if needed. All that is required is a loan administrator willing to be responsive to changing circumstances so that all parties can contribute their best efforts. For the driver-borrower it is sweat equity.

A Precedent

The September 2019 AME financial statements (latest posted by NCUA) show that there will be a distribution of $3 billion or more to the member shareholders of four liquidated corporates. Only WesCorp members are without recovery so far. This amount is on top of the $3.1 billion surplus NCUSIF took in from the TCCUSF “merger” In September 2017. The NCUSIF also continues to collect the investment earnings on the TCCUSF merged assets as well as the NGN guarantee fees. This $6.1 billion and still increasing surplus is after NCUA has spent over $4 billion in out of pocket expense (not losses on investments) administering the legacy assets.

This $6.1 billion positive net income contrasts with NCUA’s loss projections for credit unions that would exceed $16 billion. A $22 billion forecasting error! Whether there should even have been liquidations of four corporates is a topic for another day. This example does prove the benefits of patient problem resolution versus the costs of cutting and running by disposing earning assets in a fire sale.

The Leadership Needed

The FCU Act says little about the role of the Chairman in managing the Administration (NCUA). It does say that the person “shall be the spokesperson”. . . “shall represent the board in its official relations with branches of government” . . .and “shall determine each Board member’s area of responsibility.”

As Chairman Hood considers his leadership on this issue, he may want to remind everyone of his words in November 2019 on financial inclusion:

When we talk about the need for diversity, equity and inclusion, I want these principles to be viewed as forces that bring us together. Diversity, equity, and inclusion should be sources of enrichment, strength and unity, not division.

Simply put, the commitment to diversity, inclusion, and equity must be part of this industry’s cherished value of “people helping people.”

Peter Drucker believed, and I quote, that “Unless commitment is made, there are only promises and hopes — but no plans.” He said, “Plans are only good intentions unless they degenerate into hard work.”

The next step forward is to affirm that commitment by creating the plans that will bring those promises and hopes to fruition — and then start the hard work of making these aspirations a reality.

Chairman Hood, are you ready to start the hard work of making these aspirations a reality for these member borrowers whose future inclusion comes from driving taxis?

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What Credit Unions Can Learn from the Passage of the 19th Amendment Guaranteeing Women the Right to Vote

The progressive period of American history (roughly 1880-1920) was a time of reform at all levels of government. This exciting era saw the passage of civil service reform, national forest preservation, new bureaus for regulation of business and monopolies, limits on campaign finance, the establishment of the Federal reserve system, and the passage of four amendments to the constitution.

These four authorized the direct election of US Senators, the ability of Congress to levy an income tax, prohibition of the sale of intoxicating liquors, and universal women’s suffrage.

Credit unions also planted their roots in this period. The first credit union St Mary’s Bank was chartered in 1909. The follow-on efforts by Filene and others to build a cooperative credit system were a product of these progressive reform impulses.

There are two critical takeaways from the passage of the 19th amendment that are as vital today, as they were a century ago.

They are:

  1. One person can make a difference.
  2. States are the laboratory for change; Congressional legislation most often follows success from reforms proven at the state level.

Who is Harry Burns?

The final ratification of the 19th amendment required 36 states’ approval for it to be added to the constitution. The final success would rest on one person’s vote in the Tennessee House of Representatives.

The amendment passed the Tennessee Senate in August of 1920 but was tabled in a 48-48 tie vote in the House. Harry Burns, at 24 years old, was the youngest House rep. He wore a red rose signifying his opposition to the amendment. When the vote came up for ratification it was expected to again tie and therefore fail.

Instead Harry changed his vote to Aye, and the 19th amendment was approved. What changed? The morning Harry’s mother, Phoebe, had sent a note reading:

“Hurrah, and vote for suffrage! Don’t keep them in doubt. I notice some of the speeches against. They were bitter. I have been watching to see how you stood but have not noticed anything yet.”

The next day Harry explained his vote for universal suffrage:

“I believe we had a moral and legal right to ratify. I know that a mother’s advice is always safest for her boy to follow and my mother wanted me to vote for ratification.”

Yes, one person can still make a difference. One mother, one son. The efforts of a generation are realized. A reminder for when we might be that one needed vote.

The States as Incubators for Change

A number of states gave women the right to vote before passage of the 19th amendment.

The first was the territorial legislature of the Wyoming Territory which granted women suffrage in 1869. On September 6, 1870, Louisa Ann Swain of Laramie, Wyoming became the first woman to cast a vote in a general election.

Other states included Utah, Colorado, Idaho, Washington, California, Oregon, Montana, Arizona, Kansas, Alaska, Illinois, North Dakota, Indiana, Nebraska, Michigan, Arkansas, New York, South Dakota, and Oklahoma.

The states were the proving ground for women’s political power to get legislatures to enact their suffrage rights.

Where Change Starts

One of the recurring themes in the 110 years of the cooperative system has been innovation implemented first in states, sometimes decades before adoption at the federal level. The 25-year head start in state credit union chartering gave Filene “facts on the ground” to convince Roosevelt and Treasury Secretary Morgenthau to support passage of the Federal Credit Union Act in 1934.

Other significant innovations begun in the state credit union system include:

  • Share drafts which were authorized for Rhode Island credit unions, as NOW accounts, a decade before the Monetary Control Act gave all credit unions the authority to have transaction accounts;
  • Share insurance was begun in Massachusetts and expanded to at least 16 state sponsored programs. The NCUSIF was legislated in 1971. Moreover, it was the state’s cooperative financial model, with the 1% deposit requirement, that was the basis for the capitalization of the NCUSIF in 1984;
  • Corporate credit unions evolved out of state “chapter” credit unions long before NCUA passed its first corporate rule distinguishing between a corporate and natural person charter;
  • Mortgage lending was permitted early on In multiple state credit union acts. Senator William Proxmire from Wisconsin noted in a hearing in 1984 that he received his first mortgage from a credit union in 1948. This power was not authorized for federal credit unions until 1977.
  • Credit union owned banks, needed for access to the country’s financial clearing and settlement networks, were formed in both Wisconsin (WISCUB) and Kansas.
  • The first CUSO’s were approved at the state level. In Pennsylvania, the data processing firm Users, owned by its member-users became one of the first large multistate CUSO’s
  • Most field of membership evolutions have been tested and proven first in the states. For example, every Rhode Island state charter could name a primary sponsor, but then add a catch all sentence to admit anyone who lived, worked or worshipped in the state.
  • From 1977 through 1981, the Illinois Director of Financial Institutions Ed Callahan implanted the policy of deregulation and overhauled the examination and supervisory capabilities to transition the state’s credit union system to the market driven world of today. In October 1981, Callahan became the NCUA Board’s second Chairman. The NCUA was the first federal regulator to embrace complete deregulation of savings in April 1982. Additionally, he reformed the agencies administration and activities to support the new supervisory challenges in this chapter of cooperative expansion.

The list goes on. Today, the importance of innovation in the state system is more vital than ever.

As NCUA seeks to dominate all credit union regulatory options via NCUSIF insurance, the one area pioneering new approaches are state licensed CUSOs. All CUSOs are organized under state law and, where applicable, regulation. Whether the firm’s structure is an Inc., a cooperative, an LLC, or even a non-profit, the “chartering’ is done by the state. While NCUA can limit investments in or loans to CUSOs, the state prescribes the organizational opportunity.

That is why in the current credit union system, the CUSO option, especially multi-owned CUSOs, are proving to be one of the most important arenas for startups, fintech initiatives, and third-party partnerships.

Cooperative history is filled with examples of industry leadership arising from the state system. In addition to the initial pioneering charters, other organizations include state associations and leagues, share insurance options, and the corporate network. As these onetime innovators lose momentum, new efforts provide renewed leadership.

Today it is CUSOs who capture the passion and entrepreneurial spirit every industry needs to continually reinvent itself. Going forward it may well be CUSO creativity that renews the cooperative charter so credit unions can again be seen as progressives known for leading in solving members’ most important needs.

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