Part II: An Uncertain Future for Credit Unions

One Entrepreneur’s Effort to Create a New Co-op Model

“Encouraging the formation of new banks is another top FDIC priority. A key feature of any competitive industry is the ability for new startups to enter the market. In the banking industry, de novo banks are a key source of capital, talent, ideas, and ways to serve customers. They bring innovation and new energy to the industry.”

– FDIC Chairman Jelena McWilliams on June 12, 2019 at the CATO Institute

In the second part of this series, I share a case study of the regulatory difficulty cooperative entrepreneurs confront when trying to obtain and sustain a credit union charter. This contrasts with the FDIC’s very public effort to encourage de novo banks as a “key source of talent, ideas and ways to serve customers.”

Internet Archive Credit Union (2011-2015), while not set up by students, is perhaps one of the greatest missed opportunities for the American cooperative movement. Its demise is told in this video and article from the Internet Archive blog: http://blog.archive.org/2015/12/14/internet-credit-union-2011-2015-rip/

Leo Sammallahti, marketing officer for Coop Exchange, sent me his summary of this landmark effort:

Started by one of the founding pioneers of the internet age, Brewster Kahle, it attracted tech talent alongside experienced people from the financial sector. They had innovative ideas on how they could use technology to transform banking, motivated by a genuine passion to help people, not to make profits for themselves.

They managed to charter the credit union in 2011, but the regulations crushed it in 2015. Just one example – their total loan portfolio was restricted to $37,000 when they had $1,000,000 in reserve for bad loans!

I have only read their account of the events, simply because there is no one making the case that the regulations that crushed them were reasonable. Maybe someone knows something I don’t, and it makes more sense. But I’m afraid that is not the case. And if so, who suffers? Ordinary consumers – the same persons the regulations seek to protect but who now have a diminishing amount of choices where to put their money. 

But here’s one interesting thing the founders mentioned that might give some hope. They said that technology makes it “easier”, not harder to start a credit union than ever before. Sometimes the reason why new credit unions are not considered is partly due to technology – the reasoning is that once you need sophisticated software instead of pen-and-paper to run a credit union, it gets more expensive to start one. But according to the founder of Internet Archive, the opposite is true. 

American credit unions know how to lobby – they have had to defend themselves from attacks from the banks, perhaps one of the most powerful industries in Washington. Could some of that political power make it easier to charter new credit unions? From the average American’s point of view, it would hardly be an issue anyone would be opposed to, regardless of their political leaning. Can the movement afford to miss opportunities like the Internet Archive Credit Union?

FDIC Chairwoman McWilliams’ closing commitment to new charters at CATO:

“Finally we launched a nationwide outreach initiative focusing on de novo bank formation, beginning with a roundtable discussion in DC in December. We have since hosted similar discussions in each of our six regional offices, which have been constructive and thoughtful.”

Part I: An Uncertain Future for Credit Unions

Gen Z and the Movement’s Future: Users or Innovators? 

Every product, brand, business, service, and even non-profit institution has the challenge of engaging the next generation of users. Or risk going out of business.

Coca-Cola’s marketing focuses on this never-ending generational transition. The One Day Last Summer ad series (from 2018) targeted Gen Z with a series of Vimeo shorts about high schoolers’ summer fun before college.

More Than Product Marketing

Coca-Cola also tapped into this generation’s social activism with the initiative summarized in the following release:

Coca-Cola launched the “Dear Future [Community] Challenge” inviting Gen Z and young Millennials to be changemakers and better their communities. The beverage giant has identified 15 communities across the U.S. where the company has bottling centers and other community stakeholders to partner with locals and address their concerns. Individuals ages 18-24 can submit proposals on how to strengthen these areas, and for residents outside those selected locations, there is a national competition. To help bring their ideas to life, winners will receive a $30,000 grant from the company as well as support and guidance from former Coca-Cola Scholar Foundation recipients and other community partners. Caren Pasquale Seckler, Vice President of Social Commitment for Coca-Cola North America, explains the engagement approach saying, “We really want to write the next chapter together with ‘Dear Future’ by engaging consumers and doing something together, [as well as] engaging all of our local partners in identifying all of the issues that are truly meaningful to them.” Coca-Cola is spreading the word with a “Dear Future” ad, which features employees and former scholars, as well as print, social and TV spots.

One University’s Approach

Individual colleges will also thrive or slowly expire depending on their perceived relevance to each new cohort of students. George Washington University in the heart of DC has long attracted liberal arts and science majors while being in the nation’s capital. But like a number of leading universities, it found that prospective students were not just interested in learning, but also applying their passions to start businesses and social enterprises. Hence the founding of the GW Office of Innovations and Entrepreneurship.

(https://vimeo.com/448618095)

The Office sponsors an annual New Venture Competition:

(https://vimeo.com/446467162)

The winners receive significant cash, mentoring, legal and in-kind support to carry their ideas to the next stage. The summer showcase provides another opportunity for startups to garner resources and external interest through the University. The nine winners from this summer’s 2020 GWSSA program are linked below.

These 8-12-minute pitches are classic models of the “elevator speeches” honed to attract investors. They demonstrate the iconic American spirit of innovation and inspiration as well as the necessary business disciplines to succeed.

The Credit Union Challenge

The cooperative challenge is not merely honing the Coca-Cola skill of attracting the next generation of “customers” but more critically, captivating those members who want to be credit union “entrepreneurs.”

Those students who want to fashion the credit union model for the needs and virtual world of their generation, not copy what has gone before. The GW New Venture Competition awarded one of its prizes three years ago to a group of freshmen who proposed offering a credit union uniquely designed to serve the needs of fellow students far into the future.

Are Credit Unions Missing Out on the Next Generation of Entrepreneurs?

Those freshman winners are now entering their senior year. They are transitioning the project’s leadership to underclassmen to continue the chartering effort. The challenges are not technical or even financial. They have completed all the policies and projections and raised the minimum level of donated funds NCUA said was needed.

But NCUA’s chartering process is endless. There is neither encouragement nor transparency. NCUA’s attitude appears to be “no one has a right to a charter;” regardless of circumstance. The practice is to extend the process until people just give up and go away.

Public companies and private universities have made significant changes to attract generation Z’s loyalty. And to continue their institution’s relevance and sustainability. Will credit unions just attract Gen Z as users or can it also include those who aspire to create the next evolution of the cooperative model?

Tomorrow: The fate of one credit union entrepreneur.

McWatters’ Legacy and FDIC’s Implementation

In his maiden speech to the GAC in March 2015, then minority NCUA Board Member McWatters closed with the following suggestion:

“The NCUA board should establish not less than three formal advisory committees with the mandate to advise the NCUA Board about:

  • NCUA’ s budget and budgetary process,
  • NCUA’s examination programs and appeals process, and
  • Areas where NCUA may expedite regulatory relief for the credit union community without compromising safety and soundness. . .”

Nothing happened then or later when he became Chair.

An Example of an Advisory Board and its Agenda

In 2009, the FDIC established an Advisory Committee on Community Banking to provide input on bank policy and regulatory matters. It has 18 members from across the country. The Committee meets this week. The meeting is webcast live as detailed in the following:

On July 28, 2020, the Advisory Committee will meet to address a wide range of issues. The agenda includes: a discussion of local banking conditions; a briefing on the FDIC’s Rapid Prototyping Competition; an update on supervision matters; a report from its Minority Depository Institutions Subcommittee; and a discussion of diversity and inclusion at community banks. This meeting of the Advisory Committee on Community Banking will be Webcast live at http://fdic.windrosemedia.com beginning at 1 p.m. EDT.

In addition to seeing the advisory concept at work, I thought the rapid prototyping report would be of immediate relevance to the credit union community. NCUA has spent years trying to improve its quarterly reporting process, mostly making it longer.

Here is the FDIC’s innovative approach to making this technological improvement happen quickly and why you may want to tune in:

On June 30, FDIC announced the start of a rapid prototyping competition to help develop a new and innovative approach to financial reporting, particularly for community banks.

Twenty technology firms from across the country have been invited to participate in the competition. The competitors will develop proposed solutions over the next several months that will be presented to the FDIC for consideration, similar to an extended version of a “tech sprint” or “hackathon.” Competing firms represent leaders in the financial services, data management, data analytics, and AI/ML fields.

These modern tools – and lessons learned in future competitions – will help make financial reporting seamless and less burdensome for banks, provide more timely and granular data to the FDIC on industry health, and promote more efficient supervision of individual banks.

OIG Report on The FDIC’s Readiness for Crisis

Completed in 2019, the FDIC’s Office of Inspector General (OIG) reissued this report yesterday to assist in responding to the current crisis.

There are two takeaways that could help the credit union system.

The first describes how the FDIC performs self-evaluations of its performance in past crises. This process is summarized in the following paragraph for the Great Recession. To my knowledge, NCUA has never conducted any study of its actions in this event.

Two current board members were directly involved, at different times, in the implementation of the Corporate Resolution plan begun in 2009. The current surplus of over $6 billion from the five corporate liquidations, versus NCUA’s projected costs of $13-$16 billion, suggest the urgency of understanding how such a catastrophic supervisory misjudgment could have occurred.

Below is how the FDIC’s evaluated its role:

“Since its inception in 1933, the FDIC has responded to several financial crises in the banking system. In 2012 and 2017, the FDIC completed two Agency-wide studies of its response to the financial crisis of 2008-2013. These studies identified challenges that the FDIC experienced and addressed during the prior financial crisis, such as those related to staffing, contracting, and information technology. The studies also identified lessons learned and recommendations, some of which the FDIC has incorporated or planned to incorporate into its operations and crisis readiness planning. Such operational improvements have helped the FDIC continue to enhance its readiness for crises impacting insured depository institutions.”

A second benefit of the OIG report is the identification of best practices in crisis management. It evaluated the FDIC’s capability on each of these. These seven practices are listed as follows:

“The OIG identified that guidance established by the Department of Homeland Security and Federal Emergency Management Agency on planning for crisis events could be used as best practices by the FDIC. Additionally, best practices from non-Federal sources reinforce the concepts articulated in Federal best practices.

Our review of these best practices identified seven important elements of a crisis readiness framework that are relevant to the FDIC – (i) Policy and Procedures; (ii) Plans; (iii) Training; (iv) Exercises; (v) Lessons Learned; (vi) Maintenance; and (vii) Assessment and Reporting.”

The 73-page, reissued OIG report is available on the FDIC OIG website.

A CEO’s View of the Current Moment

Every good CEO knows that what we are learning now is the foundation for new ways to EARN in the future. The key is to make sure we don’t waste the learning and the lessons thinking this is just a freak interruption to a template we wish to get back to.

What Can Credit Unions Learn from Bethesda’s Tastee Diner

In 1982 I moved to Bethesda, Md. It is a zip code address with a post office, but there is no city. The local government is the Montgomery County council. There is no local representation. As a result the Bethesda area’s fate is not controlled locally. A dominant objective of the County Council has been to stress development and the growing tax revenue that results.

Since the metro line opened in 1984, Bethesda has gone through waves of building booms and increasing construction. All local gas stations have been replaced by 12 story or greater condominiums. Local shops such as a fresh fish store, barbershops, nail salons and second hand consignment outlets survive only until the next rent increase.

The development boom has accelerated this past year with the construction of a new metro purple line connecting with the original red line stop. On top of this juncture of the two lines are three 30-40 story glass and steel office centers. No historical site such as the farmers market, no single or double story retail space is safe from this development driven construction frenzy. All the familiar, locally-owned businesses are being replaced by high end retailers, national chains and the latest trendy eateries.

The Tastee Diner

One business has avoided this construction destruction: the Tastee Diner. First opened in 1935, it is the only restaurant that has survived economic crisis and successive waves of ever dense building. The life span of any restaurant in Bethesda is measured by the years left on the lease as landlords seek increasing returns from their valuable holdings.

Tastee Diner is literally a throwback to the dining car layout of train travel. It has not changed its seating format of wooden booths or sitting at the counter and watching the cook work at the grill. It even has a jukebox at each table. For a quarter you can hear Johnny Cash Walk the Line or other 1960s rock and roll hits.

The sign on the door says: “Welcome, Open 24 hours.” The diner closes only 42 hours per year from noon on Christmas eve to opening at 6:00 am the day after Christmas.

The menu is classic American “comfort food.” Fried chicken, meat loaf, burgers, creamed chip beef on toast, etc. There are specials of the day and a senior menu for over 55. Kids eat free in the evening, one per each paying adult. Prices are the best food value in town. All drinks have free refills. The diner doesn’t have a liquor license, a key source of restaurant income.

Three years ago the local DC cultural magazine listed the diner as one of the top five restaurants to go in the greater Washington area for pancakes on Shrove Tuesday.

At the Foot of Marriott’s New Head Office

Today, the 85-year-old diner literally rests at the foot of the construction of the new international headquarters of the Marriott hotel chain. It will be dwarfed by this 27-story office building that will tower over it in every possible way.

How Do You Survive?

As we left the diner this past week, I asked the manager how they’ve avoided the fate of all the other local businesses. How can you possibly stay here in this increasingly upscale, luxury retail environment that constantly turns over renters every three to five years?

The answer was simple: “We own the land.”

The message for credit unions worried about fintechs, new entrants, big bank competitors or the constant refrain that you have to be big to survive is to remember the Tastee Diner model.

Your members won’t go away. Local loyalty can trump all the newcomers in the world as long as we remember that our members “own the land.”

The Cooperative Advantage in Mutual Funds

The fastest growing mutual fund family over the past decade has been the Vanguard funds. Their products feature no load, low cost index funds. The underlying philosophy is that investors cannot beat the market. Paying fees to investment managers that claim superior returns not only locks in higher costs, but also the claim to beat market averages is rarely achieved.

But there is one other critical advantage that allows Vanguard to offer this approach to investing contrary to the market positioning of virtually all other major mutual fund advisors. The funds are owned by their investors.

As described in a recent LA Times article“the investment group is swelling at a dramatic pace, thanks to one crucial advantage over its rivals: It is owned by its own funds, allowing it to use profits after covering costs and business investments to lower its fees, rather than reward outside shareholders with dividends and buybacks.

In other words, the more it grows, the cheaper its funds can become, in turn generating more growth — a virtuous cycle that has helped Vanguard more than triple in size since 2011. It is particularly dominant in the U.S., where last year it took in more money than its two biggest rivals, BlackRock and Fidelity, combined, according to Morningstar.

Vanguard today accounts for over a quarter of the entire U.S. mutual-fund market — a market share almost as big as Fidelity, BlackRock and Capital Group put together — and it is one of the biggest shareholders in virtually every major listed U.S. company.”

A Harbinger for Credit Unions?

NCUA Chairman Ed Callahan (1981-1985) frequently described credit unions as America’s best kept secret or a “sleeping giant.”

Vanguard is a powerful example for cooperative design where the user-owners are the sole focus of management’s priorities. Could Vanguard’s success become an example for credit union’s future contribution to the American economy?

What’s in a Name?

”What’s in a name? That which we call a rose by any other name would smell as sweet.”

The question that Romeo poses to Juliet suggests that it is not a name but the person, or substance of a thing, that matters.

Credit Union Names Evolve

Upon chartering most credit unions adopted names that identified their common bond. Starting a credit union generally required one of three fields of membership: affiliation by employer, by association or by community.

Credit union names reflected this core legal identity for example: IBM Southeast Employees, International Harvester, GTE, St Paul’s Parrish, or 717 Credit Union.

But as companies merged or laid off staff and the membership broadened, names became more generic: Community First, Workers, Family First, Together or MY Credit union.

And today many new names reflect the impact of branding consultants with aspirational titles such as: Aspire, Ascend, People’s Choice, NuVision or Credit Human

The Name: CommonBond

So I was intrigued that a fintech startup from the 2011 chose the name CommonBond to describe its firm.

Since 2012, it has made over $4 billion in new or refinanced student loans. But why call the firm Common Bond? Is a tangible connection being referred to? Is there an insight possibly drawn from credit unions, but now forgotten, as names evolve into branding events?

The firm’s business model is to target student loan refinancing and new borrowings. The market is millennials. So how are they trying to connect with this demographic beyond a virtual platform with competitive products and pricing?

The first declaration from their website is a statement of their business philosophy:

OUR SOCIAL PROMISE: A better way to do business

The way we see it, businesses have a responsibility to do more than just business. We’re passionate about giving people the opportunity to live their dreams, and we know improving student loans is just one way we can make a world of difference.
Our partnership with Pencils of Promise has provided schools, teachers, and technology to thousands of young students in the developing world and our yearly trip to Ghana gives customers and team members a chance to visit the amazing classrooms we’ve built together.

As described in a TIME magazine note: “The firm offers services to anyone with a degree from a not-for-profit American university regardless of citizenship, so long as he or she meets the other criteria. The company is also the first and only finance firm to offer what it calls a “one-for-one” social mission: for every degree fully funded on the company’s platform, it also pays for a year of education for a child in a developing nation.”

It also partners with employers as noted in a Fast Company article: “CommonBond has skirted the fates of other online lending companies in recent years by partnering with employers to turn student loan repayment into something like the 401(k)s of the millennial and gen-Z workforces. The goal was to tackle two financial problems in tandem: the costly turnover facing employers and the debt weighing down their youngest employees. CommonBond has racked up more than 250 business partners to deliver its debt-refinancing program as a work perk…”

Empowering

In CommonBond’s 2018 annual review, a video describes its core purpose as empowering the community, the workforce and the world.

The company relies on venture capital and wholesale funding sources including sales of bonds backed by student loans to the secondary market. This would lead one to believe that their funding costs must be higher than credit unions which rely on share deposits. Various student loan website comparisons say their rates are competitive, but there is no way to know the details unless one submits an application.

Therefore the initial positioning strategy of CommonBond is critical to attract prospective borrowers via the Internet. There is no prior relationship and no physical branches to serve borrowers.

The company is private and publishes no financials, so we do not know how financially sustainable its model is at this point in time. But what is clear is that the business design is focused on a set of values and actions that they believe will appeal to students who borrow for college. These concepts include social purpose, a global perspective, supporting educational projects, providing advice on college/work choices, partnering with employers, and empowering individuals through loans.

The company’s transactions are based on the belief that there is a need for a better student loan options, but that is not the starting point for their appeal. It is instead a description of values and commitments to attract prospects by making them feel comfortable when providing their personal information to evaluate a loan option.

With no legacy business reputation to rely upon, CommonBond instead must present a corporate profile that students, who are strangers to the company, will trust. Is that an example that credit unions can learn from as naming exercises continue? Or to paraphrase an expression : That which we would call a credit union by any other name should still be as trusted as before.

What is the Value of a Member Account?

This week my wife received a mail promotion from BB&T bank inviting her to open a checking account.

If she chose their Elite Gold product with either a $35,000 deposit or direct deposits totaling at least $3,000 per month, than they will pay a bonus of $600 into the account.

The only time limit is she must leave the deposit for 75 days or have the direct deposit(s) established in the same time frame.

Acquisition Cost and Future Value

Paying cash to incentivize new account relationships is not a new strategy. USAA regularly solicits my credit card business with a $200 cash offer.

But the amount of $600 seemed to be unusually high. Why?

I don’t know the answer. Is there a new awareness of the value of a consumer’s payment account in a low interest environment? Or is this an effort to preempt Fintech deposit acquisitions? Does the amount reflect a targeted marketing strategy for a specific demographic, such as retirees? Or is it just paying the present value of a long term customer relationship for the bank? Is the $600 based on documented acquisition costs from other marketing efforts, which it will now amortize over the estimated life of the relationship?

The Value of Members

What the offer should remind credit unions is the value of their checking account relationships, especially those with direct deposit. There is unrecorded but real value, from those members whose loyalty often goes back decades. These core deposit relationships underwrite much of the rest of the credit union’s activity.

If you have a 10,000 member credit union half of whom have checking accounts with direct deposit, according to BB&T that is $300,000 of real value to the market. Or to be more analytical, what is the prospect of BB&T’s ability to earn more than 1.7% ($600/$35,000) if the average relationship from this marketing remains with the bank for at least one year?

Even more fundamental, should credit unions still require a membership fee?