Category: Co-ops in Capitalism

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Two Trends Deserving Debate

At the NCUA’s May board meeting, one trend jumped out at me.  Not new, but accelerating and read without comment.

In the first 90 days of 2023 there were 59 NCUSIF charter cancellations.  That is a rate of almost 5 per week, one every business day.  Without exception these charters are decades old, some surviving and most thriving.   Why?

These charters are the handiwork of generations of volunteers, whose current leadership have decided to give up.  It is a morale and ethical problem.   For it undercuts the coop premise that pays forward the members’ collective legacy for which the present leaders are  now the steward.

Many will suggest that the credit unions members are in better hands.  However these hands are not the leaders they know or elected, nor the organization that created their collective reserves.  Every charter cancellation eliminates an example of economic self help, self finance and self governance.

In most cases these are locally focused institutions which created unique relationships with their communities.   Financial services may continue, but not from the same roots.   Another civic organization so essential to a vibrant democratic political economy is no more.

What Can Be Done

Regulators should put the same time and effort into requests to cancel charters that  they extend to new charters.  If a merger is the strategy, show us the plan.  If the volunteer leadership is giving up, ask members for new volunteers.  If the sponsor has moved away, then seek a new group for re-energizing the charter.

Today the regulators have endorsed an exit strategy that benefits only the senior leaders who leave the membership in the lurch.  And retiring CEO’s especially, are taking advantage by transferring their legacy to another credit union, often for just a few more silver coins.

When quitting a business or long standing effort is easier than getting in, the movement will continue to close future growth options, create higher concentrations of risk, and remove financial services away from their local connections and knowledge.

No charter should be cancelled without an effort to find others who are willing to pick up the opportunity.

A Second Trend to Be Re-energized

No brand, business or opportunity can continue without the support of the next generation of consumers.

Student run and led credit unions have been part of the educational and financial services of cooperatives from the beginning.

Yesterday I learned about a scholarship program to identify young persons often from disadvantaged backgrounds (poverty, refugees, disabled) who are given the opportunity to become part of a special education effort.

The premise is that brilliance is equally distributed in persons,  but opportunity is not.  The focus is on 15-17 years old.  This is an age when  “ideation,” the willingness to consider new ideas and become doers is formed.

This educational support is for four years.   The time frame for measuring success is in decades.  It may take ten years or more to see if those chosen in the program will become leaders in their chosen professions.

The program called Rise recognizes that leadership will be manifested in many different ways but over time.  But the investment in this generation must be made now.

The cooperative model is designed to attract this kind of self starter.  But today again, the regulatory community discourages new charters.  The application has become a compliance drill, not support for people with passion to serve a community.  The next student chartered credit union will be the first since the 1980’s.

In the meantime these young change makers are engaging their start up  fervor elsewhere sometimes in other innovative finance-related endeavors.

The Common Thread

Credit union leaders, regulators and professional staffs, have become captured by the short term focus that drives most performance reporting.   What are the latest quarterly numbers?  How will we expand the market reach of our FOM?   What Fintech partner will give us short erm lead on innovation?

All these efforts while necessary overlook the longer term outcomes.   Without  this awareness, the movement will become just another increasingly concentrated, and limited,  financial service option in ten years.  The number of active charters will be halved.

Tomorrow’s  innovative financial models will have been created by the high school and college generation outside the movement. Credit unions will be seen as  old fashioned “banking” firms just tending to their own, stand alone, self interests.

Both of these trends today are shaping what the movement will be a decade from now. There will be other cooperative solutions designed to serve consumers’ financial needs; however they may not be called credit unions.

 

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A Perspective On Credit Union Leadership & Human Nature

“It’s probably been happening in the ranks of American business since the first corner office was built, the first board was elected and the first regulatory body was created.  But the unceremonious departure of well-known chief executives is also occurring a lot more frequently in the CU movement, lately.

“These are people you know, or at least know something about.  You see them at national credit union conferences.  They are the ones who have their photos in the program book because they are on the board of the sponsoring group or are speakers.  They are the first ones to the floor microphones to challenges speakers.  They write articles and have articles written about them.  Their credit unions are also in the press a lot for innovations and achievement.

But they are gone.  Not because they wanted to leave, either.  Boards asked them to resign or fired them.  Regulators asked them to sept down.  Officers of the law escorted them into custody.  Staff pressures forced them out.  Some simply couldn’t cut it any more.  Some left kicking and screaming.  Others left quietly, never to be seen or heard from again.

“It seems a shame that a long and apparently successful career ends with a headline, factual story and mug shot in the press.  It happens to corporate titans all the time. But we’re talking about credit union people here.   They’re supposed to be different, but I guess they really aren’t. . . Although the reasons for departure vary greatly, it is apparent that one more sign of the growth and maturity of the credit union industry is that the “here today and gone tomorrow” syndrome is alive and well. . .

“Collectively the moral of their stories should be to acknowledge when you are doing something that could be viewed as a questionable business practice and stop it immediately.  CU CEO’s and for that matter their boards, don’t have to be rocket scientists to understand that eventually, hefty insider loans, conflict of interest . . . transactions, or sweetheart compensation packages are going to get them in trouble and into the unemployment line at beast and the appropriate jailhouse at worst.  . .

“Who’ll be next?  I suspect some out there already know who and why, too!”

 

(Source:  by Mike Welch, Editor and Publisher, Credit Union Times, April 22, 1992, Page 6)

 

 

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Credit Union Leaders and Bravery-A Rare Combination

What does it mean to be brave?   Many people consider bravery an act of courage, often in the face of physical  danger.

At some point almost all credit union leaders will confront financial, personnel and political challenges.  Facing up to these, in most cases, is just part of the job.  Cooperative bravery I believe entails a very different character.

Aristotle believed that bravery was the highest of all virtues because it guaranteed all the others.  “I count him braver who overcomes his desires than him who conquers his enemies; for the hardest victory is over self. You will never do anything in this world without courage.”

Following the “Path of Least Resistance”

Bravery is rarely cited in conjunction with credit union activities.  For cooperative culture is based on  relationships.  Differences of opinion, whether major or minor, are resolved by following the path of least resistance.

That path in awkward situations may entail quietly resigning from  a position of responsibility.  Other times one may voice dissent but not formally oppose in deference to the “majority” view.

In cooperatives, it just makes life easier to get along, by going along.

Two Examples of Bravery

Courage can be especially important at critical decision points in an organization’s direction.  It is a “call” that can motivate after one’s formal professional role has ended.  A person responds, drawing from their life’s experiences and values, to a summons that others do not feel.

Two individuals of unusual bravery are retired CEO’s that took public and extended efforts to oppose the decisions of their successors.

These two people are David Keffer who retired from Cornerstone FCU in 2014  and Steve Post who retired from Vermont State Employees (VSE) in 2013.  In their executive roles. Dave was CEO for thirty-three years and Steve for twenty-four.

Their successor CEO’s were in their responsibility for two and six years respectively before initiating actions with their boards to end their credit unions’ independence.

Both retired CEO’s sought out family, former directors and officers, longtime members and community organizations to oppose the effort to cancel their credit unions’ charters.  Both organizations had served and earned the loyalty of over  three generations of members

The Vermont State Employees example is described in several posts written at the end of 2022.  The first describes the closest vote ever in a merger contest.  The follow up stories highlight the issues involved.

Votes Counted: Closes Election Ever

The Tragedy of the Commons: The End of a Movement?

If George Bailey were a Credit Union Member

The VSE Merger:  Will “Potters” Take Over the Movement?

 

The outcome of the Cornerstone merger contest in 2017 can be read here: Credit Unions As  a “Cornerstone” Of Freedom

This blog includes a link to The Committee for Cornerstone Indpendence, a Facebook page which contains a running record including videos from members opposing the merger. The vote took place  less than four weeks from the mailing of the member notice following NCUA rules at that time.

Both men and many of their supporters had devoted decades of their personal and professional lives to these local cooperatives.  The institutions successfully served their members through multiple economic cycles and business innovations.  As noted in the articles, both institutions were leaders in their communities achieving financial success whatever measure of performance one used.

What Bravery Looks Like

Both former CEO’s efforts to prevent the mergers by urging members to vote NO, lost.  One on a margin of less than 1% of votes cast.  At Cornerstone, the mail in ballots were in favor even though over two-thirds of members voted against at the required members’ meeting.

Why single out these retired individuals  as “brave” in openly opposing the merger plans of their immediate successors?

All of the odds for defeating the merger were stacked against them.  The current credit union rulers control all the financial resources, the members’ media channels and enticed employees  with future promises to support their plans.  They even claim to have received the regulator’s blessing.

The time to mobilize opposition before Cornerstone’s vote was very limited. In VSE’s situation the debate extended over several months.  The merger opponents had only their personal not institutional resources to draw upon.

Still working professional colleagues would stay distant at best, or be critical of their taking a stand abut the credit union “in retirement.”

So what motivated them to  to speak out, to organize and ask their fellow members reject these proposals?

Both men strongly believed the merger’s rhetorical statements misled members about any possible future benefits.  From their professional perspective, they understood that ending the charters was not in the members’ best interests.

The members received no merger benefit.  Their generations of loyalty and accumulated resources passed totally to the control of a firm with a different business plan and leaders with no connection to the existing credit union.  Or even a role in creating the accumulated wealth.

They saw the trust and goodwill of the members being taken advantage of. There was no immediate gain except for the leaders, who initiated the change.

Bravery: a Latent Capability

In life we will sooner or later encounter a situation where bravery is required.  We may risk reputation and resources to do what we believe is right.

These moments are rarely scripted, let alone anticipated.  There may not even be time to think about all the implications of taking a stand. Reaction can be as much intuitive as logical.

This “call” can arise from a lifetime of practiced belief. Or from witnessing the bravery of others responding to another of life’s ever unfolding equity challenges.

The motivation  emerges from one’s deepest beliefs, spoken or not.  It is the feeling that, “while ships are safe when in harbor, that is not why they were built.”

These two men took a stand when they perceived the values of the credit union members they served to be at a moment of maximum danger.  They were right.

Their point of view was formed from serving  members honorably for decades, not for just the length of a first employment contract.

Success In a Loss?

But they lost, so what kind of a “brave” example is this?   By circumstance bravery often requires confronting  superior power, a majority public opinion or even accepted protocols of behavior.

By opposing the merger plans, these individuals pointed to values much more vital than arguments for scale.  They believed that members’ best interests should be criteria for all decisions. Management’s ambitions are not the purpose of a credit union—that is the cooperative difference versus for profit options.

There is growing awareness that events such as these mergers are compromising the future of the movement and members’ trust.

These examples of principled opposition will inspire others.  Those who are now silent in the face of happenings with which they do not agree may take a stand: directors, employees, retirees or even those in regulatory roles.

What is the advantage of a cooperative charter if its supporters are not willing to pursue their democratic duty to speak up?

This capability is a learned skill, not one found in any person’s position description.

David Keffer and Steve Post retired from their jobs, not their principles.

Their standing up for their life’s work by opposing these mergers may be the cooperative example for which they will be most honored in years to come.

 

 

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Do Credit Union Names Matter?

“What’s in a name? That which we call a rose, by any other word would smell as sweet.” Juliet compares Romeo to a rose saying that if he were not named Romeo he would still be handsome and be Juliet’s love.

Shakespeare’s metaphor might not work as well today.  For there are  numerous varieties of ornamental rose that produce little or no fragrance.

And so it is with credit union names.  Some are closely linked with the founding charter: State Employees, Stanford, American Airlines, Utility Employees.  Some reflect an enhanced market ambition:  Affinity, Summit, Community, or even Global.

Finally there are some that are just plain head scratchers–made up words meant to convey an impression or feeling that is not immediately clear.

Names can inform and enhance a credit union’s legacy relationships; or they can signal an effort to begin a new future, unbounded by previous limitations.  Two examples follow.

A Credit Union Name But No Charter

 

The headline caught my attention:  $5 million Naming Rights Deal Signed by Oakland University Credit Union (Credit Union Times, April 21, 2023)

Oakland University is real with 15,000 students.  The agreement gives the credit union branding exposure with the newly christened OU Credit Union Arena.

OUCU has a website with pictures of the campus branch. It announces that so far in 2023 “we’ve saved our members $10.2 million in loan interest by refinancing their high-rate loans from other institutions to OU Credit Union.”

Despite these visual cues, OU is not a credit union.  Rather it is a trade name created in 2013 by  the $7.3 billion MSU FCU.    The OU web site continues with this dual personality.  The About Us link goes directly to MSU’s home page.  The OU Credit Union Community shows pictures and events focusing on campus life.

The name and marketing examples in the website certainly communicate a commitment to this segment.  MSU also operates two generic digital only brands, Collegiate and AlumniFi, to serve other college groups with “white label” (non-MSU) names.

The OU trade name would seem to be an effective way to focus on a specific group, one that would seem very similar to MSU’s institutional experience.  One could suggest this dba is similar to a co-branded credit card from an airline or other retailer.  It is not the airline doing the financing, but just providing a marketing introduction to its consumers for the bank which is responsible for all the underlying transactions.

With its 10-year, $5 million sponsorship and on site services, MSU is certainly investing in this partnership.  The only rub might come if a OU member decides to exercise some of the other aspects of  member-ownership such as run for the board or express a concern about an aspect of the credit union’s service.

Can the dba marketing model lead to member misimpressions about their role or credit union relationship?  This example of branding has worked well for almost a decade.   It is still hard to avoid the feeling that this is not the “full credit union monty” even with the linked disclosures on the website.

A Promise to Keep the Name

Another example is retaining the name, even after a merger, to respect the power of member loyalty.  It also suggests an ongoing commitment to preserve the best aspects and local responsiveness despite the merger which transfers full control and resources to another credit union.

In March 2021 I described the proposed merger of Maine’s oldest credit union, chartered in 1921 as Telephone Workers, renamed Infinity, with Deere Employees in Moline, IL.

Describing the reason for merging the $341 million credit with almost 10% capital, CEO Elizabeth Hayes gave the following logic and commitments in a January 31, 2021 Credit Union Times interview:

Hayes said when local credit unions merge there is often “overlap” that can reduce the effectiveness of the combination.

“Merging with a credit union out-of-state gives you advantages,”  Hayes stated. “One is the increase in intellectual capital. I can’t stress that enough.”

Hayes said with the out-of-state combination there is going to be no reduction in offices, no reduction in staff, and the chance for her existing 90-person team to be part of a larger organization with greater opportunities to grow and remain with the credit union.

Infinity FCU will keep its name and local control. Hayes will stay on as Maine market president.

Hayes said keeping the credit union’s name was important to Infinity. “We can keep our brand, which is important. There are a lot of members who feel very vested in their credit union and they will continue to feel vested with Infinity.”  

Recently several Maine credit unions sent an update on the merger regarding the name, local control and feeling vested.

Hayes tenure as the Maine market president lasted about one year.   There has been much employee turnover and Deere staff has moved from Moline to help Infinity fulfill its ambition to serve all “Maine-kind,” as stated on Infinity’s website.

However this spring brings a more consequential update especially when compared with the original justifications for the merger.  Infinity and its Deere parent are changing to use a common name and brand: EMPEOPLE.

From the website:As we look forward, we have a vision for growth that builds on this legacy with an even stronger focus on financial empowerment for our members. It is important that our brand reflects our path forward. One that honors our history and represents a strong future. With a legacy of service and a vision for growth, our focus is on creating a path to financial health for our members, their families, and the communities we serve.

It would appear that the Infinity’s merger commitments of an independent operation, “keeping its name and local control,” and respecting “members who feel vested in this credit union” is now gone.

“Keeping the credit union’s name was important to Infinity,” said former President Hayes in her interview.

Given all the Infinity-Deere’s post-merger actions, it would certainly be reasonable for members to question these new rhetorical statements and rebranding.  One wonders what happens if the EMPEOPLE member-owners became skeptical of all this verbosity and simply walk away.

The End of Romeo and Juliet

Credit union names matter.  Both case studies are examples that can be found throughout credit union land.

In the first case, the credit union is investing in creating a brand to build relationships with a community partner.  In the second the credit union is walking away from its past into a future with a name that causes one to ask, what were they thinking?

In Shakespeare’s play Romeo and Juliet die.  While the families reconcile, it has a price as the Prince states:  “For never was a story of more woe / Than this of Juliet and her Romeo.”

What’s in a name? Contrary to Juliet’s poetic assertion, they matter, for better or worse.

 

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The Dangerous Goal of “Parity”

As pundits, regulators and congress have looked at what should be changed in the wake of the three recent large bank failures,  one focus is how FDIC  insurance is  structured.

A precipitating event was mass withdrawals by uninsured customers,  prompted by social media alarms. Using their Dodd-Frank “systemic risk authority,” the FDIC took over the banks and covered all depositor balances while it worked to find a least cost resolution.

This customer behavior has prompted suggestions for changing FDIC coverages to reduce this risk potential.  CUNA and NCUA have publicly stated that the NCUSIF should have “parity” in any changes to FDIC insurance.

Here is one trade’s position: Credit unions must receive parity with banks in any deposit reform legislation, CUNA wrote to House Financial Services and Senate Banking, Housing, and Urban Affairs Committee leadership Monday. Congress and the Federal Reserve have indicated interest in deposit insurance reform in the wake of recent high-profile bank collapses.

“Our primary concern regarding any deposit insurance reform legislation passed by Congress is to ensure that credit unions receive parity, fair treatment, and equal protection with banks,” stated CUNA President Jim Nussle in his letter to Congress.

I believe this public posturing is dangerous to the future of the NCUSIF and to credit unions separate financial system.  Here is why.

  1. Credit union CEO’s and industry leaders have rushed to assure their members, the public and Congress that credit unions do not have the problems that caused the banking failures. They are more financially resilient.

The first proof of this basic difference is that 92% of credit union savings are covered by NCUSIF, whereas only 44% of bank deposits were FDIC insured. This point was  presented in Callahan’s Trend Watch analysis this week in the following graph.

The obvious Congressional question is why do credit unions need whatever changes FDIC might make if the balance sheet structures of  cooperatives are fundamentally different from the banking industry?

  1. Politically it would seem unwise to request parity before any legislation has even been introduced.  For in drafting any change Congress can easily respond to credit unions’ request with a simple bipartisan solution.  They could  mandate there be only one federally managed deposit insurance fund, the FDIC.  That would be true parity.  For the FDIC already merged the separate S&L FSLIC fund.
  1. The factual response to this Congressional possibility is that the NCUSIF is different in both structure and purpose from the FDIC.

Since the NCUSIF’s  financial redesign in 1984 into a cooperatively-funded deposit model, credit union insurance has not required federal backing, even during the corporate crisis.   By legislative intent, the NCUSIF is backed entirely by members sending 1% of every savings dollar to the fund.  This capital base grows along with insured risk.  This base provides sufficient revenue so that  premiums are rare. That revenue option is a last resort and can be used only when  Congressionally established financial levels are reached.

As a cooperative, the fund is required to pay  dividends when reserves exceed the Normal Operating Level, historically 1.3%.  The FDIC’s structure gives it only one means to cover increased risk—charge ever higher premiums on an expanded asset, not just the insured savings base.

  1. The two federally managed “insurance” funds have fundamentally different roles which reflect the character of the institutions they cover.  The credit union model is a not-for-profit, member-owned  consumer focused coop. This system has a much different purpose than the for-profit commercial banking model.  The NCUSIF is also a source of temporary recapitalization to sustain a coop hit by uncontrollable financial events.  In banking, the FDIC cannot provide assistance to private owners.
  2. CUNA and other credit union support for “parity “ with the FDIC could unfortunately be used to buttress Chairman Harper’s stated intent, from his first day on the NCUA board, to build a larger fund. His proposals would abandon legislative guardrails and add premiums as a regular option to expand the fund’s size relative to credit union risk.

There is nothing in the NCUSIF history that would support this desire for a larger fund.  The Fund has performed though multiple economic cycles and financial crises that forced the FDIC to resort to multiple special premiums.  The FDIC has no cap on how large its fund can be relative to its insured risk.

The downside of the NCUSIF’s financial success is that it has become a “piggy bank” from which NCUA draws increasing amounts to pay for its expanding operating budgets.  Instead of paying for insurance losses, the majority of fund revenue is used for NCUA’s operating expense.  This overhead transfer rate is currently 62.4 %, even though federally chartered credit unions are only 50%  of insured risk.

The legislative constraints that are a part of the redesign passed in 1984 were to address credit unions’ fundamental concerns with an open-ended perpetual deposit underwriting commitment.  The apprehension was: “If we just keep sending 1% of deposit to NCUA every year, what prevents them from just spending it.”

  1. If Congress were to change how FDIC insurance coverage is based, it won’t be a single action. Legislation will come with additional rules and regs, increased financials tests, and stronger regulatory powers for examiners and supervisors to mandate changes when deemed necessary.   There will be a significant regulatory quid pro quo if coverage is changed.

Credit unions, who in their own analysis, say they are unlike banks, would become a part of this new regulatory avalanche.  One need only think back to 1998 when bank PCA was mandated by the Credit Union Membership Access Act which had nothing to do with the Act’s primary FOM issue.  But it was included, saddling credit unions with PCA (RBC/CCULR) requirements  in 2022  that NCUA cloned from the banking regulator’s rules.

  1. Should credit unions individually or in certain circumstances believe additional share insurance coverage is desirable, options already exist. In Massachusetts, state charters must cover 100% of their savings.  Amounts above the NCUSIF are insured by MSIC.                                                                            In multiple other states,  American Share Insurance offers additional coverage above the NCUSIF which credit unions can purchase.  These are options credit unions can design to  fit their own circumstances.  NCUSIF insurance coverage is based on the principle that one size fits all.
  2. If the recent banking failures cause a change to FDIC coverage, one of the factors is the market accountability publicly traded banks face. Market short sales can convert temporary problems into more serious runs.   Credit unions do not have this market accountability.  They also are not required to have the same public transparency required in SEC 10-Q and other filings for shareholders.

An Opportunity to Demonstrate the Cooperative Difference

For credit unions the debate on insurance coverage should be an opportunity to substantiate the differences and soundness of the NCUSIF,  and its extraordinary record of success since 1984.   Before that time, the NCUSIF did follow the FDIC model.   As an FDIC financial twin over two decades, the NCUSIF never came close to achieving the legislative goal of a 1% fund.  This was even after using double premiums, the only option available, for several years.

A major risk to credit unions is a NCUSIF-managed Fund without an awareness by leaders of its differences and why these matter.   The changes requested by Chairman Harper not only abandon the explicit legislative guarantees made to credit unions in return for their perpetual 1% underwriting in 1984. It would most certainly entail more FDIC look alike regulations.

Here is Chairman Harper’s request to Congress this week:

If Congress does decide to act in this area, the NCUA has two requests. The first is to maintain parity between the share insurance provided by the NCUA and the deposit insurance provided by the FDIC. Share and deposit insurance parity ensures that consumers receive the same level of protection against losses regardless of their financial institution’s charter type.

And second, if coverage levels are adjusted in any way, there will be costs associated with those adjustments, such as the need to increase reserves. Accordingly, the NCUA requests additional flexibility for administering the Share Insurance Fund.

Specifically, the NCUA requests amending the Federal Credit Union Act to remove the 1.50-percent ceiling from the current statutory definition of “normal operating level,” which limits the ability of the Board to establish a higher normal operating level for the Share Insurance Fund. Congress should also remove the limitations on assessing Share Insurance Fund premiums when the equity ratio of the Share Insurance Fund is greater than 1.30 percent and if the premium charged exceeds the amount necessary to restore the equity ratio to 1.30 percent.25

Together, these amendments would bring the NCUA’s statutory authority over the Share Insurance Fund more in line with the FDIC’s authority as it relates to administering the Deposit Insurance Fund. These amendments would also better enable the NCUA Board to proactively manage the Share Insurance Fund by building reserves during economic upturns so that sufficient money is available during economic downturns.

In sum, insurance parity is a false objective based on contradictory logic and a failure to understand the cooperative financial model.  Credit unions should be careful what they wish for.

As one former NCUA Chair observed, the greatest threat to credit unions is parity.

Never Ending Challenge

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First Lessons from a Credit Union’s CUSO’s Public Offering

Within 90 days of Safe Harbor, Colorado Partner Credit Union’s CUSO subsidiary becoming a public company, the December 2022 financial result showed a negative retained earnings of $39.7 million.

The company’s stock has fallen from a peak of over $10 per share in October 2022 to close at $.39 yesterday.  Auditors have raised a going concern footnote as a result of its December 2020 financial position.

Partner Colorado Credit Union the CUSO’s founder and owner, has restructured  its initial sale terms of $185 million in cash and stock.  This resulted in PCCU recording a $44 million dollar loss in the March quarter, to offset the gains from the sale recognized in the 4th quarter of 2022.

Except for ongoing revenue from its operating service agreements with SHFS, the credit union has yet to receive any payments from this sale closed in September 2022.

How could such an initial optimistic announcement turn south so quickly?

No one knows how this start up effort to transform a private, relatively small Fintech front-end platform for introducing cannabis related businesses (CRB’s) to financial partners will turn out.

However, CPCU’s effort to tap into the public market’s fervor for “Fin Tech-Cannabis” related startups has  multiple lessons for credit unions. One can see possible parallels in the continued interest and fund raising today in credit union for FinTech labeled businesses.

Is the Startup Scalable?

One topic is  scalability. Safe Harbor was started in 2015 with the full support of all of CPCU’s operational capabilities, especially branches.

The credit union offices were able to open accounts, receive cash deposits, make loans and provide transaction services.   Is this geographically based start up model scalable outside the jointly operated locally-incubated context?

Is the compliance process and technology support so unique, that other local financial institutions and FinTechs would be unable to develop their own capabilities?

“At the end of last year, there were 168 credit unions, 479 banks and 126 non-depository institutions that were serving marijuana-related businesses, according to FinCEN.”  (CU Times)

No Free Market

One observation at this stage is that there is no “free” market.  The credit union is learning that a private firm using the SPAC process has to “pay to play” to become publicly traded.

Reviewing some disclosures form the May 2023, 10-Q SEC filing suggest why this is the situation.

The first is to note that this sale was structured as Safe Harbor buying out the NLIT SPAC, not the reverse as suggested in the $185 million announcement.

Secondly it is impossible to tell which investors got paid what in this transaction.  Certainly the brokers, accountants, lawyers and other facilitators were paid fees.  But which SPAC shareholders were paid what return?

What is known is that the seller, CPCU, has not received anything from the sale.  Moreover It has converted a significant amount of the debt portion to stock and extended the much reduced debt payments further out.

The new entity’s first major transaction was to acquire in November 2022 another cannabis business for $30 million in  stock and cash.  The tangible assets in this acquisition were minimal.  The contribution to immediate earnings, unstated. It would seem to be a transaction negotiated  before the full financial impact of the CPCU sale was known.

SHFS continues to compare in its filings the current financials with its pre-public  quarterly results. This previous financial performance, under the credit union’s auspices, reveals a very modest business, albeit, with a positive financial bottom line.

The Impact on CPCU

The credit union appears well capitalized.  The cannabis business relationships from SHFS are important. About $35-40% of its deposit base appears to be from CRB’s-much probably  held in share draft accounts.

Prior to the public sale, CPCU recorded its CUSO investment at $8.0 million.  To date the credit union has not received any of payments, including the $3,143,388 in cash and equivalents held by Safe Harbor prior to the sale.

As stated throughout the SEC filings, CPCU is the SHFS’s primary banking partner.. “Currently the Company substantially relies on PCCU to hold customer deposits and fund its originated loans. As of this time, substantially all of the Company’s revenue is generated by deposits and loans hosted by its PCCU pursuant to various services agreements.”

Concentration limits for the deployment of loans are further categorized as i) real estate secured, ii) construction, iii) unsecured and iv) mixed collateral with each category limited to a percentage of PCCU’s net worth. In addition, loans to any one borrower or group of associated borrowers are limited by applicable National Credit Union Association regulations to the greater of $100,000 or 15% of PCCU’s net worth.  Page 27

Further disclosures show that the credit union has limits on the amounts of total CRB related loans it will hold as part of its service agreements:  PCCU’s Board of Directors has approved aggregate lending limits at the lessor of 1.3125 times PCCU’s net worth or 60% of total CRB deposits.

CRB deposit limits: (page 27) Under the Support Services Agreement PCCU will continue to allow its ratio of CRB-related deposits to total assets up to 65% unless otherwise dictated by regulatory, regulator or policy requirements. Actual CRB deposits  at March 31, 2023  $214 million and $161 at December 31, 2022.

CPCU’s CEO and CFO are members of SHFS board; the credit union owns 55% of the voting stock from the restructuring.  The credit union’s current operations certainly benefit from SHFS’s clients apart from what may be received from the sale of the CUSO.

The Transparency Opportunity

SHFS’s SEC filings provide many details of its business history and financial twists and turns. The latest 10-Q filed May 15, 2023 can be found here; and the definitive proxy statement  Schedule 14 A, filed April 23, 2023 for the firm’s annual meeting is here.

Two financial questions are partially answered in these documents.  If the SPAC held $100 million in cash, how did the working capital become so depleted by yearend?   How did the SHFS end up with  over $39.7  million  in negative retained earnings at December 2022  requiring the complete restructuring of the transaction with CPCU?

Below are some excerpts from these documents.   The story is complex.  There is  not a single narrative point of view as the filings show different elements of the financials in various footnotes.

I have selected some to illustrate  the information available.  There is both quantitative and qualitative (business risk factors) information provided.

One positive note that may bode well for the future is that Safe Harbor’s web site and links are one of the most comprehensive examples of transparency I have reviewed.  The stock valuation information is detailed both currently and historically.  All of the required SEC and financial reports can be accessed on line at SHFS website.

On its investor relations page the firm makes this commitment: Safe Harbor Financial (Nasdaq: SHFS) seeks to enhance shareholder value not only through exceptional business performance and practices, but also through responsible and effective communication with its shareholders. The latest company information relevant to the individual and institutional investor includes stock price and history, upcoming events and presentations and financial documents. Safe Harbor Financial trades on the Nasdaq under the ticker symbol SHFS.

That is an example credit unions should totally embrace as well.

Selected Excerpts from SEC 10-Q filings

(emphasis added)

From Note 3, the Business Combination detailed in Note 1 above was accounted for as a reverse recapitalization, with no goodwill or other intangible assets recorded, in accordance with GAAP. Under this method of accounting, NLIT  (the SPAC) was treated as the acquired company for financial reporting purposes. Accordingly, for accounting purposes, the Business Combination was treated as the equivalent of SHF issuing shares for the net assets of NLIT, accompanied by a recapitalization.

For tax purposes, the transaction is treated as a taxable asset acquisition, resulting in an estimated tax basis Goodwill balance of $44,102,572, creating a deferred tax asset reported as Additional Paid-in Capital in the equity section of the balance sheet as of the date of the business combination.

In November, 2022 SHFS acquired Abaca together with its proprietary financial technology platform in exchange for $30,000,000, paid in a combination of cash and shares of the Company.

The November press release stated:  the acquisition increases Safe Harbor’s customer base to include more than 11,000 unique depository accounts across 40 states and U.S. territories; adds Abaca’s fintech platform to Safe Harbor’s existing technology; increases Safe Harbor’s financial institution client relationships and access to balance sheet capacity to five unique financial institutions strategically located across the United States ; increases Safe Harbor’s projected monthly revenue by approximately 40%; increases Safe Harbor’s lending capacity; and nearly doubles Safe Harbor’s team, adding to the existing talent pool of the cannabis industry’s foremost financial services and financial technology experts.  (note 4 10-Q provides the fair value presentation for the transaction page 20)

Page 20 in the 10-Q shows what NLIT’s fair value assets it offered to support the $185 million CPCU purchase valuation.  The key point is that $80 million was held in shares subject to possible redemption and the remaining cash of $19 million was held in trust.

It is not clear how many common A shares were redeemed, or how the money in trust was used.  The result is that at December 2022 SHFS had only $8 million in cash and negative working capital (current assets less current liabilities)  of  $39 million.

The details of the restructure of the $185 million for CPCU was reported  on March 23, 2023.  Page 26 shows that exchange of debt for common stock resulted in $38.4 million for issuance of common shares.  These are subject to a Lockup agreement restricting their sale.

Also CPCU acquired a first lien on all of the company’s assets as a result of the restructure. SHFS issued a five-year Senior Secured Promissory Note (the “Note”) in the principal amount of $14,500,000 bearing interest at the rate of 4.25% and a Security Agreement pursuant to which the Company will grant, as collateral for the Note, a first priority security interest in substantially all of the assets of the Company.

Contributing to the loss in 2022 from note 17 Forward Purchase Agreement page 35:

The trading value of the common stock combined with preferred shareholders electing to convert their preferred shares to common stock triggered a lower reset price embedded in the forward purchase agreement, or FPA. As of December 31, 2022, the Company had already called a special meeting to lower the make-whole price under the preferred share purchase agreement to $1.25/share. . . These events significantly reduced the FPA receivable to approximately $4.6 million, from approximately $37.9 million reported at the end of the September 2022 quarter. The loss in value resulted not only in a compression of the balance sheet, but also $42.3 million charge to other expense on the statement of operations in the fourth quarter of 2022.

At March 30, 2023, SHFS’s balance sheet shows negative retained earnings of $47 million offset by $91 million of additional paid in capital from the restructure of the $180 million initial terms and other stock transactions.

81% of SHFS’s March 2023, $89 million  assets are $19 million in goodwill, $10.2 intangible and a deferred tax asset of $42.6 million. 

 

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A Case Study of a $96 Million Turnaround: Safe Harbor, Cannabis Banking, and Partner Colorado Credit Union

On year ago I described the announcement that  Colorado Partner Credit Union (CPCU) had arranged to sell its wholly owned CUSO (Safe Harbor), specializing in cannabis banking, to a Special Purpose Acquisition company (SPAC), or publicly traded company.

Serving the cannabis business has been a priority for some credit unions in states where the sale is licensed for several years.  This past week credit union leaders and trade associations announced their continued support of changes in  federal law to allow all financial institutions to serve the trade-which is now legal only on a state by state basis.

“CUNA said it supports the Secure and Fair Enforcement (SAFE) Banking Act, a bipartisan bill introduced in both chambers in April that would provide a safe harbor for financial institutions serving legal cannabis businesses.-from CU Today.

The Sale of Safe Harbor, a Cannabis CUSO

CPCU was to receive $185 million for selling its CUSO, $70 million in cash and $115 million in stock. Sundie Seefried – who created Safe Harbor cannabis business while the credit union’s CEO– would be the CEO of the new public company (NASDAQ: SHFS).

A $96 Million Turnaround In 90 Days

An immediate result of this September 28, 2022 closing was PCCU reporting a $55 million net income and an 8.7% ROA for the year ending December 2022.

This extraordinary gain occurred even as SHFS  reported a $35.1 million loss for the year ended December 2022, compared to net income of $3.2 million in 2021.  This result was described as “primarily due to the loss in value of several of the financial instruments placed in connection with the Business Combination.”

SHFS’s December 2022 balance sheet position  resulted in the following “going concern” comment by auditors:

Liquidity and going concern

As of December 31, 2022, the Company had $8,390,195 in cash and net working capital of ($39,340,020), as compared to $5,495,905 in cash and net working capital of $5,922,023 at December 31, 2021.

Included in the working capital deficit at December 31, 2022 is $25,973,017 current portion of the long-term payable owed to the seller, PCCU, from the aforementioned business combination, and $14,359,822 deferred consideration current portion related to the Abaca acquisition. The Company has also incurred a significant cumulative consolidated operating loss for the year ended December 31, 2022.

Based upon these factors, management of the Company has determined that there is a risk of substantial doubt about the Company’s ability to continue as a going concern for a period of at least twelve months from the date these consolidated financial statements have been issued.

Results at March 2023

In  the March quarter of 2023 CPCU reversed much of the 2022 gain on Safe Harbor’s sale resulting in a $41 million loss.  The credit union’s net worth ratio between the two quarter ends went from 20.9% to 14.7% as of March 2023.  Its total assets were $699 million which included new subordinated debt of $3.1 million and notes payable of $27.5 million.

The loss was due to a restructuring of the sale terms  for CPCU as described in an SEC filing and company press release:

On March 29, 2023, the Company and PCCU entered into a definitive transaction (Refer to Note 22, “Subsequent Events,” of the consolidated financial statements) to settle and restructure the deferred obligations, including $56,949,800 into a five-year Senior Secured Promissory Note (the “Note”) in the principal amount of $14,500,000 bearing interest at the rate of 4.25%; a Security Agreement pursuant to which the Company will grant, as collateral for the Note, a first priority security interest in substantially all of the assets of the Company; and a Securities Issuance Agreement, pursuant to which the Company will issue 11,200,000 shares of the Company’s Class A Common Stock to PCCU.

This restructure was driven by the SHFS’ financial position.  CPCU is now the majority owner of voting stock (55%) and CEO Douglas Fagan  is  on the SHFS’s board.

SHFS’s First Quarter Earnings Call

On Tuesday SHFS reported its first quarter earnings with an 8-page press release.  The financial results show revenue of $4.2 million, operating expenses of $5.8 million and an operating loss of $1.6 million.

The release also provides operational highlights and a 2023 financial outlook.  During all of  SHFS’s nine years building the cannabis business, CPCU has been the primary banking partner.  This means revenue from all the deposits, loan funding and investment returns are shared with the credit union under a services agreement detailed in the company’s SEC filings.

Credit Union and banking partners are key to SHFS’s business model. As descried on the website, the firm is a  “financial technology company, not a bank. Banking services are provided by contracted NCUA or FDIC insured financial institutions. Some non-deposit products and services are not covered by FDIC or NCUA.” 

On May 11, 2023 SHFS announced another  partnership with Five Star Bank in New York that it said will add up to $1 billion in additional deposit capacity.  SHFS plan  is to scale the business.

External Contexts & Cannabis Opportunity

SHFS’s future is uncertain.

The firm’s stock price is reported daily on its website.  The stock’s value since the “business combination” has declined from a peak of just over $10 to yesterday’s close of $.38.   The total market capitalization  of the company has fallen from over $300 million to $15.7 million at yesterday’s close.

However, SHFS is not alone in its extended financial condition.

SHFS’s  public offering via a SPAC transaction was a way to truncate the time, expense and investor scrutiny of a traditional public offering (IPO).   As reported in an April 27 WSJ article, SPAC’s Are Running Out of Money.”  The story’s lead reads:  ”The SPAC boom took hundreds of risky companies to the stock market. The next stop for many is bankruptcy court.”

The article’s implication is that the SPAC process to take a private company public, may short cut a more rigorous traditional IPO due diligence and valuation process.

Another external factor could also be important.  SHFS is the front end, or entry platform, for cannabis related businesses accessing financial services.  The following is SHFS’s business value proposition:  Our services allow Cannabis Related Businesses (herein referred to as “CRBs”) to obtain services from financial institutions that allow them to run their business more efficiently and effectively with improved financial insight into their business and access to resources to help them grow.

Due to limited availability of payment and other banking solutions for the cannabis industry, most businesses transact with high volumes of cash. Our fintech platform benefits CRBs and financial institutions by providing CRBs with access to financial institutions and financial institutions access to increased deposits with the comfort of knowing that those deposits have been compliantly monitored and validated. . .

A recent WSJ news story suggest that Legal Cannabis Can’t Compete  because licensed sellers are facing steep taxes and regulation.  In states like California (and New York) the article reported unlicensed sales were almost eight times licensed sales.

In many states cannabis began and still is an underground business. So even when either federal or state authorization is achieved,  suppliers may wish to retain their business  anonymity.

Tomorrow I will analyze what some of the learnings credit unions may take from this the effort to “spin off” this credit union created business to become a publicly traded company.

How did cash decline so quickly following the combination?  How dependent is the CPCU on SHFS’s business?

The details of SHFS’s history from SEC filings for this transaction and subsequent updates  offer, I believe, instructive insights for others who may harbor similar ambitions.

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“The Rest of the Story”

Decades ago, radio broadcaster Paul Harvey provided millions of listeners his unique blend of news and views. After reporting an important event   he would often promise to  tell “the rest of the story” but only after an advertising break.

The member testimonial below from Affinity Credit Union, Des Moines, is used in TV commercials and social media to illustrate their efforts for personal service with members.

This two-minute story of a real member going from near bankruptcy to an 800 FICO score is very effective, even moving.

(https://youtu.be/0PXPcuGnAkc)

The Way Back-More Than Financial Wellness

But there is more to the story. James Reasoner, the member in the video, is a recovering alcoholic.  Several times he refers to making poor decisions, but stays silent about the context.

About two decades ago he woke up in a jail cell after a  second DUI arrest.  Something happened in the cell. He describes it as a spiritual awakening resulting in an effort to change his life.

James says of  this decision, “It all started with a little trust and lots of hope.”

Today he attends daily 7:00 AM sessions with his mentor.  In turn he mentors other alcoholics both in person and during Covid, on zoom.  He speaks at periodic recovery meetings while still working at the Firestone tire plant where he is in his 28th year of employment.

Being There for Others

His credit union relationship has also evolved beyond this video testimonial.

Last week at the members’ Annual Meeting James was elected to an initial three-year term on the board.  Below, in the middle, he raises his hand with fellow volunteers while taking the director’s oath.

Knowing Each Member’s Story

The Affinity video is more than an advertising promotion.  It is comparable to a public service announcement.  It illustrates this credit union’s efforts to respond to a member’s unique circumstances.

Beyond the video’s specific example, there is an even broader impact.  It is also the back story of a relationship experience that motivated James to give back more of himself to others.

What a powerful witness for economic democracy when a long-time member volunteers for credit union leadership!

The video’s universal message is that “every member has a story.”  When we listen, that’s when we can truly serve them.

(Note:  Personal story of James Reasoner used with permission.  Thanks also to Misty Haley, who was James’ helper.  She was recognized for 26 years of service at this year’s Affinity Annual Meeting.  )

 

 

 

 

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The OATH

Earlier this week I spent three days with Affinity Credit Union.  I was invited to speak at their Annual Members meeting.  This would be my first live, in- person speech in years, to a credit union with which I had no prior connection.

I asked to come a day early to learn about why this $140 million, 74-year state charter in Des Moines, IA wanted me to speak.  The CEO’s response was simple: I want you to see what we do.  In other words, for me to learn.

I accepted.  In later posts I will share some of the things I experienced.  But one event was totally unique. I had never seen it in my 45+ years with credit unions.  It is an example that  other credit unions should  consider.

The OATH

The members’ meeting began at 5:30 with a buffet dinner for the over 200 people in attendance.  The agenda was long running, from “A” to “Q” in the outline given with the Annual Report. There were three speeches by outside guests (I was one), six high school scholarships presented, recognition of three employees who had passed twenty-five years each in service all before the business portion of the meeting.

At the conclusion of the business meeting, the Chair Cindi asked all the newly elected and continuing directors to stand for their oath of office.  The oath was administered by a former chair and director.  He read the phrases and they would repeat together following him.

The oath begins with the words “do solemnly swear” and included the following commitments:

I will diligently, faithfully honestly and impartially perform the duties imposed upon me by the bylaws

I will not knowingly violate. . .any of their provisions

I further swear that I will. . .properly discharge the duties of any office or committee to which . . .I am appointed

I will not discuss the affairs of this credit union or any of its members wit anyone except credit union officials

I will give all possible assistance to any person who may succeed to any office which may hold. .

The nine directors stood together at the front of the room, hands raised, repeating the oath in unison before their families, friends and hundreds of members and guests.  An important and solemn moment of a public commitment to their fellow owners and community.

The Oath’s Origins

As I had never heard about  this happening in credit unions, I asked how it became a part of the Annual Meeting.  Was it required in the bylaws?  By their state charter? By some other tradition?

The practice had been followed long before the current leadership team was in place.  Even prior to the former director and chair who administered the oath this year. He recounted:

It was given long before I got on the board. I was told that it was because it was swearing an oath to the local 310 members (the credit union’s original union chartering group at the Firestone plant) that they would take care of the credit union when it was members and family only.  Local 310 still swears an oath to protect our brothers and sisters to respect and do no harm with actions or pen.

Unfortunately, in today’s environment not every union member thinks it’s necessary to swear an oath to watch out for each other. So it probably goes all the way back to the lunch box (when the credit union was chartered in 1947.)  That lunchbox symbolizes a resource created by workers, for workers, that feeds families, futures and trust. 

A Vital Example for Cooperatives

Vows, oaths or formal swearing ins are rare in organizations today.  Perhaps when joining a church (statement of belief) or wedding vows or perhaps a pledge such as when joining the Boy Scouts.

There is however one universal practice where an oath is administered, when a person joins the military or becomes a federal employee.  The constitution requires the practice as explained in this article:

The reason is simple – public servants are just that – servants of the people. After much debate about an Oath, the framers of the U. S. Constitution included the requirement to take an Oath of Office in the Constitution itself. Article VI of the Constitution says, “The Senators and Representatives before mentioned, and the Members of the several State Legislatures, and all executive and judicial Officers, both of the United States and of the several States, shall be bound by Oath or Affirmation, to support this Constitution . . .; 

The author states the intent:  One purpose of the Oath of Office is to remind federal workers that they do not swear allegiance to a supervisor, an agency, a political appointee, or even to the President. The oath is to support and defend the U.S. Constitution and faithfully execute your duties. The intent is to protect the public from a government that might fall victim to political whims. 

Should Credit Union Directors Swear an Oath?

As volunteers, directors are often seen as an eleemosynary activity, an act of charity.  Therefore the demands of a director should not be the same as in a formal, paid position of responsibility.

This characterization is even noted in federal legislation as recently as the Membership Access Act in 1998.  In setting the new PCA reserve requirements, the legislation directed that the NCUA consider the volunteer nature of credit union leadership when imposing capital standards.

I believe that an annual oath taking in front of members and community,  would not only be good practice, but honor and enhance the  tradition of credit union volunteer leadership.  The requirement could be made a standard part of the bylaws, which is the governing document, as noted in the oath above.

As a public event following the business meeting, it formalizes their accountability to the members whose authority has elected them to their positions.

Most critically the oath taking represents a transparent commitment to one of the most important tenents of cooperative design: the democratic member voting process. It reaffirms the trust members expect and are properly owed by their elected directors.

If you would like to receive a full copy of the Affinity Oath,  contact Kris Laufer at klaufer@affinitycuia.org.

 

 

 

 

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What Solid Cooperative Performance Looks Like

Recent bank failures, growing liquidity pressures, interest rate uncertainty and falling consumer savings have created uncertainty about  credit unions’ financial outlook.

The first quarter 2023 call reports are in.  There are a range of results, as usual.  Below is Wright-Patt’s CEO Tim Mislansky’s summary of the numbers for his team.  He opens with a one sentence conclusion.

Solid Performance

“We ended the first quarter with solid financial results.

Loans to members were up a whopping $70.7MM from February, were up $724.9MM from a year ago and are $177.8MM above our budget.

Member deposits jumped a big $182.8MM from February (due to the month end on a Friday payday), were up $445.7MM from a year ago and are $70.8MM over budget.

While both are results to be excited about, it is important to remember that we fund our loan growth with deposits. Continuing a pace where loan growth is significantly higher than deposit growth is not sustainable.

Net income for March was $8.7MM and year-to-date is $25.3MM. This is $6.5MM above our budget, but $2.2MM behind last year.”

He proceeds to review key items for the month and changes year-over-year including net interest income, non interest income, loan loss provisions and operating expenses versus budget.  He concludes: “We remain pleased with our early progress in financial results.”

How Were These Results Achieved?

The important issue is not what the results are, but how they were accomplished amidst so much  macro economic uncertainty.

To understand these financial outcomes, one must  look at the other parts of  CEO Mislanksy’s monthly report.  He opens with two recognitions.

The first honors a 47-year retiring employee, Kathy Denniston, in the Member Help Center. The credit union was chartered in 1932.  This employee has been serving members for more than half the credit union’s existence, and arguably during the most difficult  competitive time frame.  Sold performance starts with culture, the commitment of the employees.

The second comment relates a story which Tim calls Moments of Impact.  They are brief descriptions of exceptional responses by employees (partners), in this case the  Enterprise Risk Manager:

I often say that it is everyone’s job to take care of members and Corey did just that recently. Corey is a part of the security team that deals with incident reports – which are commonly sent through if a member or Partner has an accident, gets hurt in one of our centers, or if there is erratic behavior.

A couple of weeks ago, an MHC Partner submitted an incident report because a member who was declined for a mortgage started making some comments about depression and wanting to end his life. When Corey saw this, he replied to the larger group and asked what we typically do in these situations, because he wanted to help. Honestly, we do not have a standard protocol for this situation.

Rather than let it go, Corey took it upon himself to call the member to see if he was okay. He made sure the member had some resources and contacts that he could call for help. Taking that extra step just showed how much Corey cared and the type of people we have here at WPCU.”

The Performance that Really Counts

While financial numbers are one way of tracking performance, for Wright-Patt the focus is not on growing assets, loans or deposits. Growth results from doing the right things. Rather the credit union starts with impact, what it can do for its  members, potential members and  employees.

While over 90% of its deposit are insured, its share stability is due to member loyalty, not insurance. The credit union is trusted by members.  Their loyalty underwrites the credit union’s ongoing success that started  91 years ago and continues to expand quarter by solid quarter. member by member.

(I thank Tim for allowing me to use this example from his monthly report to his team)