PLEASANTON, Calif.-Most large credit unions in this state appear prepared to provide the "efficiency ratio" the state regulator will soon be requiring as part of exams.
Whether smaller credit unions will be able to provide the data as readily has yet to be determined.
The California DFI said the efficiency ratio will consist of overhead costs (not including the provision for loan loss expense) divided by operating income. The figure will provide in cents how much it costs a CU to produce each dollar of revenue.
Ken Burns, president and CEO of $3.5-billion Patelco CU, here, told Credit Union Journal he was "not surprised" to hear the DFI is now asking credit unions to calculate the ratio. But John Tippets, CEO of North Island Credit Union, said he objects to the application of "standard 'banking' measures" to credit unions.
"Patelco has been tracking its efficiency ratio for quite some time," said Burns. "In March 2010 we were quite low at 44.4%. It is now up to 52.5%, which is still in the 97th percentile per Raddon Financial Group. It now takes 52 cents in operating expense to generate $1 of revenue, whereas last year it only took 44 cents. We were in the 99th percentile before."
Burns is an advocate of credit unions regularly calculating their efficiency ratios, not just as a snapshot when examiners are on site. He noted the number is affected more by revenue generation than by operating expenses, unless the credit union is "running really fat" with many opportunities for reducing expenses.
"The real improvement comes from generating top line revenue growth in earnings," he said. "But with margins under pressure and non-interest income and interchange income under pressure, and total revenue declining-in particular total loans declining and credit unions not seeing revenue from loan growth-that will drive up the number simply because revenue is falling and operating expenses are being held constant or are slightly increasing."
Burns said Patelco finds efficiency ratio "very valuable" as it provides a "bit more information than simply relying on operating expense ratios." He said Patelco's operating expenses "have already been very low because we do a good job of managing those, but we have experienced revenue decline."
To the south, Mark Hawkins, president and CEO of $693-million Altura CU, Riverside, Calif., characterized the announcement as "good news."
"We have long used efficiency ratio as one of our key metrics but our reference to it was not meaningful to examiners," he said. "I think this is a positive move by the DFI."
Hawkins said Altura is "very proud" of the work it has done over the past several years to address the CU's efficiency ratio. "We have made great strides, and we look forward to having meaningful discussions with regulators about our efforts and our results."
Applying 'Banking' Measures To CUs
But North Island's John Tippets has a different view. The president and CEO of the $1.1-billion, San Diego-based credit union said he has "always had a problem" with applying such "standard 'banking' measures" to CUs.
"With respect to many expense items the principles work, after all it is the members' money and we are not for profit, so very good control of those types of expenses is totally a right objective," he began. "But, many expenses are effectively returns to the members and to the communities we serve. These include marginal but very valued branches or ATMs, for example, or charitable and community activities. They show as expenses, but to our owners they are like dividends."
Similarly, on the revenue side-which Tippets noted is the critical piece of operating income-he said to be consistent with the mission and philosophy credit unions should be minimizing loan rates and fees and maximizing dividends, which in turn affects the cost of funds.
"So the really successful credit union is maintaining adequate capital conceptually at a higher, not lower, efficiency ratio," he asserted. "Our objective is to have a best possible mix of positive returns in products and services beneficial to our member-owners. It is not a credit union goal to maximize-or, in effect, minimize-the efficiency ratio."
A 'Useful Tool'
Teresa Halleck, president and CEO of $5.2-billion San Diego County Credit Union, said SDCCU already has been calculating its efficiency ratio and includes the figure in key ratios shared with its board of directors.
"I view it as a useful tool for management and the board to understand how efficiently the credit union is operating," she assessed. "From my perspective, it makes sense that DFI would be focused on this metric as yet another measure of organizational success and long-term viability."
SDCCU has a "long-standing corporate culture of operational efficiency," Halleck declared. She said its efficiency ratio "runs 42%, which is reflective of our focus on maximizing resources in an efficient and effective manner."
Gregory Talbott, SVP and CFO for $3.4-billion Kinecta Federal Credit Union in Manhattan Beach, Calif., said increased pressure on margins driven by historically low interest rates and legislative initiatives "has accentuated the need for all financial organizations to leverage operating costs to the maximum extent possible."
According to Talbott, the efficiency ratio is a "very meaningful measure" of the effectiveness of cost utilization.
"Particularly for organizations that engage in non-asset intensive strategies for generating non-interest income, efficiency ratio can be a more appropriate measure of the effectiveness of resource utilization than the widely used ratio of operating costs to assets."
