Credit Unions: Eliminate Intermediary Friction Between Members and Markets
Credit unions are the financial intermediaries between their members and the financial markets.We take in deposits and pay for the use of the money. We use that money to make loans to our members and invest the excess in investments. As intermediaries there is a certain amount that we take from our members to run our businesses, operating expenses. Those operating expenses are the friction that we as intermediaries cause between our members and the financial markets. How can we measure this friction? One of my favorite measures is the efficiency ratio. Using three ratios from the Ratio Analysis page on the NCUA's website you can do a quick calculation of your efficiency ratio. The three ratios are Operating Expenses/Avg. Assets (OE); Net Interest Margin/Avg. Assets (NIM); and Fee & Other Op. Income/Avg. Assets (FEE).
The calculation is OE/(NIM + FEE). Using the December, 2009 numbers for the peer group for my credit union the calculation is 4.17/(3.40+1.50)=85.10%. What does that mean? It means that for every dollar of net revenue the average credit union is producing they are spending 85 cents. Part of that is probably due to the NCUA corporate assessment. But look back to 2007. What is the efficiency ratio? 80%. How about 2004? Try 75% on for size. Granted, net interest margins have been squeezed. In 2004 NIM was 3.56% vs. 3.40% in 2009. But what astounds me is that operating expenses were 3.63% in 2004, jumped to 3.97% by 2007 and were 4.17% by 2009. Let me give you a clue, the efficiency ratio in the average community bank is closer to 50% and it's falling not rising. Yes, banks do typically charge higher fees but they are also extremely cost conscious. Fortunately for the credit union movement we have two big advantages. First, our members really like us because we provide outstanding customer service. And secondly, we have that tax exemption thing.
There are all sorts of reasons a credit union's expense ratio goes up. The two main causes are personnel and additional branches. For some credit union with broad community charters a branch network is a must. But for others who opened branches and hired staff thinking that new members and deposits would just flow in and then the credit union could grow into the operating expenses I just don't think that's in the cards. In fact, go to the internet right now and I would be willing to wager you can find every one of the products and services you offer at much better pricing.
Bottom lines will probably be squeezed for at least the next 12 to 24 months as rates on the short end of the curve continue to remain at near zero. They probably won't rise until unemployment starts to decline and everyone who's a lot smarter than me seems to think that won't happen for an extended period. What does that mean for credit unions? It means it's time to start getting rid of some friction.
Evan Clark, president/CEO of Department of Commerce FCU, submitted this blog for www.cutimes.com.