Month: May 2021

Two news reports in one day on credit union failures suggest these events are merely different sides of the same coin.

First Story: 

ALEXANDRIA, Va. (May 24, 2021) – “The National Credit Union Administration today placed Empire Financial Federal Credit Union in Jackson, New Jersey, into conservatorship.

Empire Financial Federal Credit Union is a federally insured credit union with 343 members and assets of more than $3.04 million, according to the credit union’s most recent Call Report. Empire Financial Federal Credit Union serves multiple faith, occupational, and associational groups, and communities primarily located in New York, New York, and New Jersey.”

Second Story:

Former CU Service Center Co-founder Sentenced for $1M Embezzlement   By Peter Strozniak, Credit Union Times

“Joan Brown stole funds to keep her business and the six CUs it served afloat, prosecutors and defense lawyer say. . .

Starting in 2010 and through 2016, Brown embezzled more than $1 million, which was drawn on accounts of Cardozo Lodge FCU; O.P.S. Employees FCU; Chester Upland School Employees FCU; Triangle Interests FCU; Electrical Inspectors FCU and Servco FCU.”

NCUA liquidated all six credit unions in April 2016.

The Same Coin

These two events, I believe, are related.   The failure of six credit unions resulted from an embezzlement conducted over six years.   Six times six means that examiners had 36 chances to discover wrongdoing.

By moving Empire Financial FCU’s office 77 miles away to the main office of Municipal Credit Union, still in conservatorship, means a forced merger is underway.  Any doubt there might have been fraud in this case as well?

These repeated  credit union failures due to embezzlements that occurring  over years or for decades in the case of CBS Employees FCU, suggest that examiners  are either inadequately trained or just not up to the job of conducting routine reviews of general ledger activity and the accounts of key personnel.

In small credit unions with only one or two employees these reviews are straight forward and critical because there is little or no separation of duties.

The coin involved is the same: the members’ money in direct losses or via NCUSIF liquidations.

Hiding Shortcomings

The lack of transparency around these events enables NCUA to hide internal shortcomings until the facts are revealed in court cases years later-five  in the Times example above.  Post examination reviews are either not done because of the small amounts involved or the problem has been “resolved,” that is merged or liquidated.

The temptation for money handlers to commit fraud is endemic with the role.  That is why field exam contacts are necessary.   Simple audit steps and verifications help keep honest people honest.

These coincidental events suggest something is lacking in NCUA’s oversight of its smallest institutions. If shortcomings exist in this segment, one must wonder about examinations of larger, more complex credit unions whose activities include buying banks and purchasing other credit unions.

Is NCUA’s exam program up to the job whether the credit union be small or large?   Whether the review is simply balancing clearing accounts or complicated, such as using derivatives to mitigate risk?

Someone at the agency needs to own this challenge.  The first step would be to bring light to these failures as they occur, not in legal proceedings years later.  That public comment would put the agency’s examiners, credit unions and dishonest employees on notice that NCUA is alert for bad actors.

 

 

Since Todd Harper moved from a minority board member to chair in February, board members have become more vital in overseeing agency activities.  Their increasing dialogue and comments at public meetings, if followed through, could be a harbinger of greater NCUA accountability to the credit union system.

In theory, the board should be the true point of connection with, and representative of, the best interests of credit unions and their members.  In practice, chairman of different backgrounds, parties and ambitions have acted as the sole leader for the agency.  Some have openly stated and/or acted as though credit unions have no role in the agency’s spending, its problem solving, or its management priorities.

Some non-chair members have occasionally treated their status as a part time job, a public sinecure requiring only visibility at board meetings, like credit union volunteer directors.  That does not seem to be the case now.

Three Diverse Backgrounds

The opportunity for a more vibrant, effective board comes from the very different experiences of each member.

Kyle Hauptman, vice chairman is the newcomer and “outsider.”  No credit union background, a professional career in finance, he brings the ability to see the industry from an objective point of view.  To become a quick learner, his first decision was to find a senior advisor who had a deep knowledge of credit unions from outside NCUA and government.

Chairman Harper is the “insider.” He describes himself as the first NCUA staff person appointed to the board having served as Chairman Matz Senior Policy advisor and PACA director from 2011-2017.  He references his time as a hill staffer working on financial legislation and draws parallels with FDIC to support his views. Although his term has expired, he continues in place until his successor is appointed.

The board “veteran” is Rodney Hood who served on the NCUA board from 2005-2009 and was reappointed by President Trump again in 2019.  His positions are influenced by the priorities he promoted as Chairman from 2019 through January 2021.  However, as he is no longer in that priority setting role, his perspective from his earlier tenure seems to increasingly inform his approach.

The Signs of Change

Board decisions are usually determined in advance, or else not placed on the agenda.   Therefore, the discussion around reports, the dialogue with staff and the comments related to the agenda become more informative than formal policy votes.

The “Veteran”

For example, Hood has presented statements about his focus going forward.   He has used the phrase “evidence based” judgments versus relying on forecasts of future “facts.”   In reference to the corporate crisis which broke in his first tenure, he cited the virtue of “patience” as an important lesson when making consequential decisions in uncertainty.

He has commented on the agency’s management of the level of cash in the operating fund:

I will be asking tough–albeit fair– questions about the Operating Fund carryover balance

In my view, his most consequential statement in the May board meeting came during the request for credit union comments on the NOL level in the NCUSIF.  His words:

Again, Mr. Chairman, we must recognize that our model is a very different premium model than the FDIC’s model.  Credit unions are legally committed and bound to update a large majority of the fund’s equity contribution. Credit unions today provide the bulk of the capital contributions that are the basis of the fund’s soundness.  It’s a cooperative insurance system that we run at the NCUA.

This was a statement that every credit union would agree with. The fact is that credit unions legally stand behind the fund, not the government. More importantly it came during a week in which the chairman had endorsed legislation to change the NCUSIF’s cooperative model to be more like the FDIC.

The “Outsider”

Kyle Hauptman presents his topics in a more Socratic dialogue with staff. Several meetings ago, he referenced discussions during a credit union meeting indicating credit unions felt inhibited about critiquing examiner conduct.   He asked if it were proper for credit unions to record their meetings.  Staff waffled.   He then opined he thought it would be OK.

From his first board meeting he repeated his view that the agency is spending members’ money.  That NCUA has a fiduciary responsibility for these funds and should not be holding excess balances that credit unions can use more effectively making loans.  He stated the regulator should not have an “itchy trigger finger” when it comes to making decisions costing credit unions.

He has requested staff to enhance communication of board decisions with credit unions, preferably on the website.  One example was the process for distributing dividends from the AME surplus; and in May, how credit unions can present their views on the proper level for the NOL.

Perhaps the most heartening discussion in May was on the seemingly arcane rule for derivatives.  The back and forth with staff on the role of derivatives and later, on the changing reference rate for LIBOR, demonstrated a knowledge of financial markets that is very rare at the board.

The “Insider”

Chairman Harper has continued to put forward his views while at the same time affirming some of the comments of his fellow board members.  He supported a “look back” to assess the agency’s management of the corporate crisis.   He concurred with Hood’s description of the NCUSIF as a cooperative fund.  There appears to be no opposition to increased director reliance on actual facts versus that is the way we have always done it; for historical evidence versus hypothetical models.

His challenge is whether he can move on from his tenure with  Chairman Matz when she declared that “credit unions did not represent their members,” had “no interest in the agency’s budget,” and that as an independent agency, it “was not good government for the people who are regulated trying to participate in the budget making process of the regulator.”

The Big Test Coming Up

The most important issue on the horizon is how the board will respond to the comments submitted by credit unions on the maximum level of the NOL in the NCUSIF.

That cap now is 1.38, a result of decisions made in 2017 when the TCCUSF fund was merged with the NCUSIF.  From then till today, is the first time in the history of the fund, that the NOL has been set above 1.3% of insured shares.

This 2017 decision was preceded by a request for comments on the board’s merger proposal.  The two-person board received 663 comments during the 45 days provided.  The NCUA staff stated in its summary of comments that only 12 credit unions appeared to support the agency’s plan.  That is 98% were opposed.

A focus of the critiques was the false modeling to justify the NOL increase to 1.39%.   Credit unions universally opposed this action, yet NCUA changed not a thing from the original proposal.  Credit unions spoke, but NCUA did not listen.  Even when presented with facts that contradicted the agency’s financial assumptions.

A long analysis of this event is reported in Time for Real Credit Union Disruption.

Unity, Not Uniformity

Unity is not the same as uniformity. NCUA board members have different competencies and points of view.  Unity relies on reconciliation of differences, not giving them up. This is done by uniting around what is held in common. Hopefully, that core is deciding for the best interests of credit unions and their members, not NCUA, or even a specific political philosophy.

A pragmatic, fact-based approach can create unity for the NCUA board’s most critical decisions.  That could transform the board into  a true asset for credit unions that continues to appreciate not diminish in value.

 

 

A critical factor in credit union success is the board’s role.   Credit unions fail when boards are weak.  Board recruitment becomes static, CEO succession plans are lacking, and longevity, not oversight, the primary qualification for renomination.

In a credit union it is the responsibility of the CEO to develop the board as an asset of the organization.  There is no such direct responsibility for NCUA’s board. The three members are often selected by different administrations; political connections, not credit union knowledge, is the deciding factor in who is appointed.

If the NCUA’s board is to be an asset, it will require the efforts of individuals chosen with different skill sets, backgrounds and possibly differing views on the regulator’s role, to make it so.

The Current Situation

The current NCUA board is showing signs of designing a role that could be much different than in past years.  By leadership style and bureaucratic habit, the NCUA chairman often operated as the final authority with the board expected to follow along, even with a 2-1 vote.

An Initial Example of Board Redesign

A critical organizational skill is learning from the past, not in the that’s-the-way-we-always-done it, but a willingness to evaluate the effectiveness of critical decisions or agency processes.

In the February meeting all three board members agreed that a “look back” on the entire corporate resolution process could be helpful. What can be learned from this event in which projected losses in the billions and caused five corporates to be liquidated?

Today the surpluses are over $6 billion and four of the corporate’s shareholders will receive all (and two a bonus) or a significant portion of their membership capital shares.  This change of fortune in the tens of billions by itself would justify a reassessment.

The Value of Reviews

Effective board oversight can improve the agency’s capabilities going forward.   Transparency is enhanced and responsibility better understood.

A minor example of the benefit of the board’s public role is how the agency reports its management of the NCUSIF investment portfolio approaching $20 billion.  This interest revenue is the primary income source for the fund and its financial model.

At a time of an historically low Treasury yield curve in December, the question was posed, What is the NCUSIF’s IRR Policy?

Just 45 days later February 16, 2021, the NCUA’s investment committee invested $600 million for seven years yielding .90%, seemingly oblivious to the recent uptick in rates and the increasing talk of inflationary pressures.

February is the last investment report issued by NCUA. The March NCUSIF update included no transaction information.  With over $800 million in additional 1% deposits now in hand, it is highly likely that there have been subsequent investments.  Is the committee using judgment or just locked into a pattern of laddering investments whatever the outlook for rates?

A $16.8 Million Loss of Income

We know that less than 60 days after this February investment was made, the cost of this decisions versus waiting for another month or two to see the direction of interest rates.

With the 7 year treasury now running .40 basis points higher, the lost revenue versus investing  60 days later is $2.4 million per year, or $16.8 million over the seven year life.  The foregone revenue from just this short pause, would be $850K, an amount recovered in four months from the higher yield.  The security purchased in February will remain under water, less than book value, if rates do not return to the levels at the time the investment was made.

The Board as an Asset

The board is not making investments, but it should have a way of monitoring decisions especially in uncertain or unprecedented times.  Timely transparency, both for the board’s oversight role and credit union confidence in the fund’s management, enables both outcomes.

All three board members bring different experiences, capabilities, and points of view to their role.   Even if there are individual policy differences, that should not prevent all having a common goal of making the NCUA board a source of agency strength and of pride for credit unions.

I will describe tomorrow some encouraging signs of a more deliberate and substantive role emerging from recent meetings.

 

Yesterday I began a conversation with a bug I had not seen for 17 years. My cicada colleague is unusual in that he was also a credit union member. A real fan of co-ops. His whole family had joined two decades earlier; all 10,000 located at Wilson Lane.

The Credit Union NCUA Relationship in 2004

His first question upon this reincarnation was how were credit unions doing? Specifically, he wondered if the mutual relationship between his coops and NCUA had continued.

From his backpack he pulled the 2003 NCUA Annual Report and began to quote from it as a reminder of what intra-industry efforts looked like back then.

Among the items he showed are the following excerpts from the Report.

Budgeting and Efficiency

“Last year NCUA continued its emphasis on accountability within the agency’s budget process conducting its third Annual Public Forum and Budget Briefing resulting in stakeholders have a better understanding of the agency’s budget and operations. The efforts put forth . . . have resulted in a more effective, efficient federal agency.

Among the notable accomplishments achieved are a reduction in staffing levels from the all-time high of 1,049 employees in 2000 to the 2004 budget level of 963, the reallocation of resources which included closing of one regional office and relocating another at as savings of $27 million over the next ten years. These are important ongoing internal agency initiatives that will continue to have high priority in 2004 and beyond.” (Pg. 5)

Cost Control and Transparent Operations Are Key

“The 2003 budget was $887,500 less than the approved 2002 budget.” (Pg. 8)

Overhead Transfer Rate

“NCUA remains committed to increased transparency in operating the agency. . .First in November 2003 the NCUA Board overhauled its method of calculating and assessing the overhead transfer rate. Calculated annually the new method is more comprehensive. The formula has been expanded to take more factors into account, providing greater equity and accuracy in calculating and allocating costs.

Second, the NCUA Board held its third public budget briefing and encouraged public attendance and comment. This open budget process serves to underscore NCUA’s continued recognition the responsibility to share all material budgetary considerations with agency stakeholders.” (Pg. 9)

Strategic Leadership Summits

“Each January the Office of Strategic Program Support and Planning (OSPSP) plans and executes NCUA annual strategic leadership summit. . . OSPSP conducted several stakeholder panel discussions during the 2004 summit to gain insight from various perspectives on issues and concerns facing the industry. Panels included CEOs from small and mid-to-large credit unions, certified public accountants, credit union consultants, and third-party service providers.” (Pg. 18)

My Response

I told Cicada Coop all the examples he chose had taken a U-turn while he was away. As evidence I said a recent NCUA Chair had declared in congressional testimony that: “An independent regulator is not answerable to the entities it regulates.”

He did not believe there could have been such a turnabout. He cited other examples of mutuality such as the six consecutive dividends from the NCUSIF to credit unions from 1995 through 2000. So, I said, come on inside and I’ll show you the videos.

Tomorrow I will share these videos and what I believe caused this rupture. And then his family’s reaction to this changed environment.