Ever since NCUA Chair JoAnn Johnson suggested altering the rules for credit unions seeking to convert to a savings bank charter to require that member equity be returned to the members who own it, as is done in the mutual insurance industry, there has been much talk of "the liquidation option." But is it a feasible option?
That depends on whom you ask.
Clearly, Johnson believes it is a viable option, since she has outlined such a plan in letters to Senate Banking Committee Chairman Richard Shelby and other senators on the panel. At the heart of the matter is developing a more equitable means of returning a credit union's equity to all the members in a conversion, rather than to just a select few, as often happens. But there has been very little talk of just how such a practice would work.
"There are probably two ways this could be done," CUNA's Bill Hampel said. "One would be to actually liquidate the credit union-do no business, wind down the credit union, sell all the assets off, pay off all the deposits, and then whatever is left over is distributed to the members."
The problem with such a scenario, Hampel noted, is that in the process of a true liquidation, the credit union could be losing in value if it is forced to sell off assets below book value. NAFCU's Tun Wai agreed, noting the ever changing and hard-to-measure value of a credit union.
"When you look at this, you are looking at the value of a credit union at that point in time; that's the easy part," Wai suggested. "The difficult part is to look at the value of the franchise, which includes things that are almost impossible to measure, like a credit union's reputation. The members may not even recognize that value. Or what about the convenience, for example, of having an ATM in your office building. That's not on the books of the credit union. So, when you talk about breaking an institution up, it's not as easy, no so cut-and-dried as in the insurance industry, where you simply give people back the money on their policies."
A second option would not require a true liquidation of the credit union. Rather, it's something more akin to selling it to the people who want to convert it, Hampel said. "The alternative to liquidating the credit union is, in essence, to sell it to those who wish to convert it. If you sell a business to someone else, the stockholders of Company A buy out the stockholders of Company B-they pay them for it."
To make that work in credit unions, Hampel said the first step would be to figure out, at the point of conversion, what the total write down would be and then determine what each member would be entitled to if the entire thing was sold for book value on conversion day.
"In essence, you would have to be able to pay off the previous owners-the members," Hampel offered. "If there really are business reasons to convert, that's fine, but then require them to make the members whole. The whole idea of this is it's a way to eliminate any 'unjust insider enrichment.'"
Conversion proponents have suggested that members don't really own the net worth, that members' ownership is more ephemeral than tangible. "There really is no specific right to that equity," said Bob Freedman of Silver, Freedman & Taff, who has been working on Plano, Texas-based Community CU's pending conversion. "It's not like you get a cut of the equity when you leave a credit union."
Other Issues Raised
Liquidation raises other issues, as well.
"You have the member-owners in a cooperative, and they have contributed to the net worth of the credit union," said Wai. "But it's not just the current members who have helped build up that capital, it's all members of all time who have helped to build up the capital, so even previous members who have since died or left the credit union-do you track all of them down?"
Peter Duffy of Sandler O'Neill & Partners, New York, which, in addition to managing credit union investments also does work in the private capital markets, agreed. "This just isn't a realistic alternative," he told The Credit Union Journal. "There's no cogent, rational way to determine who deserves what. When you liquidate, that forces every single member of that credit union to go find a new checking relationship, a new savings relationship, new loans, you name it. Congress is never going to allow the public to be disrupted like that. It's not going to happen."
Indeed, Freedman noted that FDIC studied this very concept in the early 1990s, only to abandon it because it just wasn't feasible.
Instead of looking at ways to make conversion less appealing or harder to accomplish, credit unions would be better off finding ways to facilitate the success of existing credit unions, Duffy offered.
"The credit union industry has become 'A Tale of Two Cities,' one of haves and have-nots," he commented. "The haves are the credit unions who still have large affinity groups, have maintained their size or grown, and they have a membership that tends to do business with them. They don't have to build lots of new branches to keep members happy. The credit unions I'm talking about have as much as a 200-basis point advantage in operating expenses, and that is huge.
"Now let's look at the have-nots. Who are they? These are the credit unions where the military base they served has closed or downsized, or their core sponsor has closed or downsized or gone out of business. Those credit unions are morphing into something that looks a lot like a community bank. They're making business loans and building branches, and they are at a 200-basis point disadvantage in operating costs. These are the guys who are looking at conversion."
But it's not just the have-nots who are facing problems, in fact, it's not even just credit unions-it's the entire financial services industry, Duffy suggested (see related story, page 21).
No Longer A Spread
"Net interest margin and operating expenses are the same, there's no longer a spread," he said. "Why has that happened? Because members-consumers-want the very best loan rate, the very best share rate, and an ATM and branch on every corner. There is an oversupply of lenders, and consumers know it, so they shop around and use that. This is what is forcing consolidation in every aspect of the loan industry. This is why BofA just bought out MBNA. Members are demanding the very best deal they can get, and there is nothing NCUA, Community Credit Union, Bank of America or anyone else can do about it."
Feasible or not, the concept of somehow "making members whole" when a credit union converts to a mutual bank charter-even though the real "loss" of membership rights doesn't come until and unless the former credit union eventually converts to a stock-based institution-is still worthy of discussion, according to Hampel.
"With the publicity arising about what insiders stand to gain from the conversion of a credit union, there's the possibility that members will start figuring this out and insist on finding out the cost of liquidation, and how all this works," he commented. "If nothing else, the very discussion raises the awareness of the members of what they stand to lose, and that can only lead to fuller discussion, and possibly change their votes."
