What do credit union regulators think about CEO compensation? Every credit union official should be intensely curious about this question, especially compensation for CEOs of large and fast growing credit unions.
Credit union officials should also seek regulatory reassurance that the methods used by these larger credit unions to determine CEO compensation preclude "moral hazard" like that experienced during the savings and loan association debacle in the 1980s and 1990s.
Evidence came to light during the clean up of that mess that a small number of savings and loan executives leveraged federally insured funds for risky (and in some cases illegal) high profit ventures that went bad and contributed to the demise of the entire s&l system. These s&l CEOs were booking fake high net profits and were experiencing rapid asset growth; at the same time these same s&l executives and their collaborating boards were awarding themselves huge salaries, incredible perks, questionable loans, and other excessive compensation.
For this article, I contacted several state credit union regulators and NCUA Examination & Insurance staff for a reality check concerning the many safety and soundness questions raised surrounding CEO compensation. Among these hard-hitting questions were:
* Does your regulatory agency have a definition of or other regulatory guidance about what constitutes excessive compensation for credit union CEOs?
* Under what circumstances does CEO compensation become a safety and soundness issue?
* Are there sufficient "checks and balances" between the unpaid volunteer credit union board and the highly compensated CEO to ensure that compensation is determined ethically and without potential manipulation by the CEO?
* What steps, if any, do you recommend to credit union CEOs and board members to ensure that they avoid any questionable actions affecting CEO compensation?
* Do you consider excessive CEO compensation a bigger potential issue for large credit unions (over $500 million in assets and/or with large memberships numbering in the 100 thousands) than for smaller credit unions?
Their responses were candid, but most where off the record not to be specifically attributed. Nonetheless, their comments were generally reassuring that CEO compensation's potentially negative effect on credit union safety and soundness is not an imminent systemic threat. Surprisingly, none of the regulators had specific guidance as to what constituted "excessive CEO compensation." That includes NCUA, whose staff did point out that, "Credit union officials have a fiduciary responsibility to approve compensation and benefits commensurate with the credit union's needs and resources. NCUA's approach to this issue is risk focused. If a concern is identified, it is addressed through the agency's examination and supervision process."
One state regulator said that his examiners "ensure that the board has policies and practices regarding compensation, [that the board members] follow the policy and are reviewing market conditions in similar financial institutions. Examiners always stress that compensation is relevant to what a credit union can afford, not what an individual is 'worth.' This helps to make the review more objective."
These regulators also offered advice about avoiding problems. Among that advice: "Never tie CEO compensation growth solely to asset, share or loan growth." "Do due-diligence to support CEO compensation decisions." "Recommend the board obtain market compensation information independently of that submitted by the CEO." "Officials need to support all decisions they make are reasonable for the credit union's operation. If officials cannot support a decision, they should not do it. Key decisions should be documented in the board minutes."
The regulators were not only talking about large credit unions as illustrated by the following comment: "CEO compensation and benefits can be an issue at any size credit union."
When asked when CEO compensation becomes a safety and soundness issue, one regulator said, "It is hard to generalize here. Certainly when it drives an excessive expense ratio that, in turn, depresses earnings and threatens net worth adequacy. Also when CEO incentive compensation (bonus) is based upon the credit union meeting asset or loan growth targets without consideration of quality of growth and other safety and soundness concerns (earnings, net worth, ALM, etc.)"
Similarly, another state regulator suggests that his red flag goes up when operating expenses-to-average assets are significantly above peer and return on assets is significantly below peer or negative. That regulator also points out that "usually other significant management problems exist where excessive compensation may be an issue."
According to all of the responding regulators, each credit union's board of directors plays a key role in ensuring that there are adequate checks and balances when it comes to determining CEO compensation. NCUA points out that "[credit union] officials have the fiduciary responsibility to maintain checks and balances in all areas of the credit union's operation. At a minimum, the board must approve CEO salary, benefits and contract terms." However, one state regulator cautioned: "I worry that many credit unions lack sufficient checks and balances due to CEO dominance of the board or a simple lack of foresight as to the potential danger."
It's this last safety and soundness danger that should be of most concern to credit union regulators, executives and members. To the extent that all credit unions have knowledgeable officials on their boards of directors who recognize their responsibilities for due diligence and ethical, arms-length CEO compensation decision-making, the credit union industry has nothing to fear.
Despite all of the regulators' reassurances, I still get heartburn remembering the old platitude that "it only takes one bad apple to spoil the entire barrel!"
A 30-year credit union industry veteran, Marvin Umholtz is President & CEO of Umholtz Strategic Planning & Consulting Services. He can be reached at mumholtz
