CUSO Can Falter After Mergers and Conservatorships
At one point, the high-flying commercial lending CUSO formed through Eastern Financial Florida Credit Union funded more than $200 million in business loans and served dozens of credit unions nationwide.
That was 2007. Two years later, the Florida Office of Financial Regulation issued a cease and desist order against Eastern Financial for unsound lending and operational practices and requested a review of all business loan workouts performed by its CUSO, CU Business Capital LLC.
The Miramar, Fla.-based credit union would eventually face its demise when the NCUA placed it in conservatorship in April 2009, followed by a merger with Space Coast Credit Union. CUBC quietly shut down and a Maryland firm became its successor. Meredith Gibson, a Space Coast spokeswoman, confirmed CUBC is no longer operating.
“The only comment we would have is that we reviewed the work being done by the CUSO that handled Eastern Financial’s business accounts and made the decision not to continue using that resource. We took the steps needed to move the loans to [Space Coast’s] systems,” Gibson said.
Another potential CUSO dissection made news recently when 16 corporate credit unions announced discussions to buy a wholly owned brokerage services CUSO from U.S. Central Bridge.
Meanwhile, the fate of CUSOs after a credit union undergoes a merger or conservatorship can go in a myriad of directions. Lately, the spotlight has become brighter as the NCUA continues to take over more troubled cooperatives and the ties between CUSOs and their credit union owners and partners are scrutinized.
“If NCUA conserves a credit union, there is typically no change in the relationship between the CUSO and the conserved credit union because NCUA’s goal is typically to return the credit union to good standing and return it to its members with no interruption of service. Those services are often provided by CUSOs,” said David Small, NCUA assistant director of public affairs.
If a credit union liquidates, whatever its interest was with the CUSO becomes part of that credit union’s estate, Small said. If the CUSO or others do not buy that liquidated credit union’s shares of the CUSO back, the credit union’s interest in the CUSO goes with the credit union’s other assets to the NCUA’s Asset Management Assistance Center with that credit union’s estate.
“So if a failed credit union owns 50% of a CUSO, then somebody either has to buy those shares or the AMAC will try to sell them with the rest of the credit union’s assets,” Small explained.
Well before a merger or conservatorship, it would behoove a credit union to take a hard look at its CUSO’s operating agreement, said Brian Lauer, a partner with Messick & Lauer PC in Media, Pa. The law firm serves credit unions and CUSOs.
“The biggest piece of advice would be to look at your documentation on what happens if one of the owners or clients is conserved,” Lauer said. “Or, in the case of a memorandum of understanding or a document of resolution, are you prepared for that?”
One of the scenarios when the NCUA takes over is a purchase and assumption, Lauer said. The regulator can take over the assets and sell them right away. In that instance, the purchasing credit union will do its due diligence on all of the credit union’s assets and will only want to purchase those assets and liabilities that it deems worthy.
Lauer said one of the more intriguing outcomes is when a merger or purchase and assumption occurs, what happens to the investment in the CUSO if it is owned by multiple credit unions. In the case of a wholly owned CUSO, the subsidiary will likely continue without much change.
“With multi-owned CUSOs, it can get interesting. One of the things we always talk about when collaborating is to make sure you choose your partners well,” Lauer said. “It can be quite contentious. If money is there, the acquiring credit union may not like” a former CUSO owner wanting its investment returned.
That proactive measure will be helpful down the road, he offered. Lauer said from a pure cash flow perspective, a CUSO may have to determine what happens if a credit union wants to be paid out. Depending on the CUSO’s success, the amount could be quite substantial. On the flip side, a sale to the acquiring credit union might be a viable option especially if that CUSO can aid in gaining market share.
Most CUSOs are limited liability companies and if a credit union is merged away and not the surviving entity, it is no longer an owner, Lauer said. The investment documents or bylaws should include language indicating that. In an LLC, it would be a disassociation. In a corporate situation, the entity would no longer be a shareholder.
Under NCUA conservatorship since June 2010, the $900 million Arrowhead Credit Union in San Bernardino, Calif., has been working to reduce its operating expenses, including closing several of its branches. Four months prior in March, the cooperative sold its insurance subsidiary after the firm failed to bring in any significant income, said former Arrowhead CEO Larry Sharp, at the time.
In 2005, the credit union also folded Arrowhead Trust Inc. for its failure to turn a profit. The subsidiary served members as well as corporations, employee benefit plans and nonprofit organization. It is not clear if the trust CUSO served any credit unions.
Arrowhead’s home state of California, like most states, has its own set of CUSO rules to follow. Small said some industries have an extra layer of rules such as those providing mortgage, insurance or securities services, depending on the state.
“Because of that heavy regulation at the state level, if a credit union merges with another, that CUSO may no longer be able to operate in the way it had been. It is state specific though,” Small said.
Unfortunately, there is another reality that emerges in how CUSOs are dissected after a merger or conservatorship, Lauer discovered.
“Some credit unions can be incredibly territorial. Market share and egos get involved,” he said. Sometimes the smaller or midsize credit unions may have concerns with the bigger credit unions. “Others may not want credit union [alliances] forced on them.”