Table of Contents

Common bond. 6

Problems facing the credit union movement 7

Mergers and acquisitions. 8

Conclusions. 10

1. Legislation viv-a-vis the Common Bond. 10

2. Board competence. 10

3. Profitability and capitalisation. 10

4. Credit Unions’ profile. 11

5. Summary conclusion. 11

Options. 12

1. Common Bond. 12

2. Board. 12

3. Profitability and Capitalisation. 12

4. Profile. 12

Summary

This is a discussion document and in draft form at the moment.

The CU movement is in (an existential) crisis driven by:

Poor profile and little understanding by the public of what it stands for and offers
changing demographics/changing customer demands
rising costs
poor profitability/poor capitalisation
poor governance
inability to respond to demands for increasing digitisation
legislative burden
restrictions on some aspects of strategy from eg Common Bond

This is compounded by:

weak Boards
- Too many long-serving (possibly well-meaning) but non-value adding members
- Too much complacency coupled with
  - frequent resistance to change
  - Poorly thought out and executed strategies (where they exist)
- Lack of key skills (e.g. Treasury, IT, HR, Marketing, FS)
- Too few restrictions on tenure
- All posts are unremunerated – therefore only attract well-meaning ‘philanthropic’ individuals
- Board is a poor reflection of members in many (not all cases) – the volunteers tend to be not from ethnic groups
Common Bond definition
- It is too restrictive and has lost its meaning
- It is a barrier to mergers
- It has been made a nonsense by the SIC V Geographic anomalies
- It is prescriptive in terms of maximum population – but takes no account of actual penetration relative to population of Common Bond
Capital strength in general is poor
- Low profitability – driven by too high costs – poor cost control/understanding of C/I ratio
- Rising costs
- Too high cash outflows – eg admin and general expenses – vis-a-vis income and too high dividends (pressure to pay out) not supported by surplus.
- Insufficient profits retained
- Great reliance on loans and grants from eg Local councils
  - Which distorts actual financial position
  - Gives false impression of financial viability
The movement as a whole suffers from a great lack of awareness by the public as to what it does and stands for (recent polling suggest many thought the word ‘union’ meant they were Trade unions!)

See Options for potential ways of moving ahead but in general

Change Common Bond definition
- or abolish
Strengthen boards
- professionalise the members
- remunerate boards

Greater focus on profitability/capitalisation

Much more robust financial oversight by PRA
Stronger audit reports
more robust critique by members
more onerous dividend payment criteria

History and background

The first Credit Union (CU) in Britain began trading in 1964 and, over the last 50 years, Credit Unions have grown to provide loans and savings to more than 1.2 million members.

Credit Unions have a proven track record across the world. In fact, 217 million people are CU members in 105 different countries.

A CU is a financial co-operative which provides savings, loans and a range of services to its members
It is owned and controlled by the members
Each member has one vote at the AGM
directors are elected from the membership, by the membership and are unremunerated volunteers
CUs are owned by the members and not by external shareholders or investors
The emphasis is on providing member services in a not-for-profit, but not unprofitable manner
Membership of a CU is based on a ‘Common Bond’. This is an old concept, now out of date – but can be based on:
- working for a particular employer or
- in a particular industry, or
- simply living or working in a specified geographical area.

Presently there around 130 UK CUs and the number has falling progressively over the last ten years or so (See issues) reflecting the pressures upon them

What do Credit Unions offer?

Credit Unions (CUs) only offer a limited range of products and services to its members. This includes:

Regular savings
Responsible borrowing
Pre-paid debit cards – useful for those with no bank account
Some insurance
Many employers have partnerships with CUs which allow staff to save and repay loans direct from payroll. A member of such a scheme automatically becomes a member of the CU.

CUs facilitate better money management – eg by loan consolidation and as a more ethical and cheaper alternative to loan sharks, door step lenders and payday loans

CUs offer affordable loans, which can range from shorter term loans of a few hundred pounds to much larger loans for holidays, buying a car, home improvements or even a mortgage.

CUs are often able to offer credit to people whose circumstances might mean they struggle to get a loan from other lenders.

CUs offer very competitive rates on loans of all sizes. For smaller sum loans, interest on credit union loans is always much lower than that charged by doorstep lenders and payday lenders

All money held in a CU account is protected by the Financial Services Compensation Scheme up to the value of £85,000 per person – exactly the same level of protection as savings in a bank or building society.

Common bond

The Common Bond, when originally established, sought to draw on a local ‘community’ spirit by taking its members from groups that had things in common – eg a geographical area or an industry sector. Thus it often reflects its roots – often the name is a clue. Recently however, as the world has evolved, and CUs have had to respond to these changes, the restraints of the Common Bond have proven to be too restrictive: and many CUs have taken steps to segment, extend or alter their original Common Bond.

Many were set up by or grew out of:

local councils
Work places
- Often linked to payroll deduction schemes (where there is a slight tax advantage)

Others are based on industry sectors such as airlines (Planesavers CU), police (Blues and Twos CU), trade unions (RMT CU).

A geographical definition has a maximum potential catchment area of 3m people (ill-defined).

By contrast CUs based in industry sectors have no maximum and can also have as many industry sectors as they wish with no maximum ‘population’ – making a nonsense of the restraints imposed in those using a ‘geographical’ definition of the Common Bond, upon which a maximum ‘population’ (vaguely defined, based on incomplete and varied statistics, and subject to disagreements between CUs and regulators – which is counter-productive) is imposed.

In addition the term Credit Union carries different connotations and understandings in the mind of the public, often negative, and thus many CUs are changing their name to incorporate terms such as ‘Community Bank’ to:

better reflect what they do – people understand terms such as ‘Bank’ and Community’: but not ‘Credit’ or ‘Union’
assist in enhancing public understanding
strengthen the public’s awareness of them
give the opportunity to move away from what are often quite restrictive geographically based, historic, names and adopt different names (eg Wave, Boom, Midlands, my community, LASER etc)

Over time the common bond has lost its relevance due to the following:

changing demographics – younger potential members have no idea what a CU is or does
even members of payroll schemes have no real idea that they are members of a CU
people move away from the area or change industry – but remain members
the lack of limits on SIC membership means that the playing field is very distorted against geographic based CUs
it mitigates against mergers which cross non-contiguous boundaries

CUs are regulated by the PRA – a part of the Bank of England.

Problems facing the credit union movement

There are many issues facing the CU movement

Macro level

economic downturn
inflation
increasingly onerous legislation – especially ‘customer ‘care’
move to cashless society
change to remote ‘everything’ – including banking
demographics
people are more mobile and feel less ‘loyalty’, and have lost the sense of belonging to local areas
younger people are more reliant on digital aspects of life – less face-to-face – thus a ‘local identity’ is irrelevant

Micro level

Diseconomies of scale
Lack of succession planning
Inadequately trained staff
Inadequate staff
Staff costs – and HR legislation compliance costs
Premises costs – reflecting a reluctance to understand changing demands (digitisation, remote banking)
Lack of well thought out strategies
Costs of compliance generally
Weak boards – volunteers and unremunerated – therefore difficult to attract ‘talent’
IT systems – inadequate, expensive, poorly maintained
Insurance as a cost of business
Poor control of costs
Poor visibility/poor marketing
Poor profitability (See example analysis table below)
Inadequate capitalisation (ditto) – often a reliance on loans and grants
Insufficient provision for bad and doubtful debts

These are brought together in the conclusions and collated into key areas for analysis.

Mergers and acquisitions

A merger is a coming together of two or more entities – usually as equals. An acquisition is where one entity takes over another. An acquisition does not have to involve operations merging if it is the acquisition of another entity as a stand-alone part of a group. More usually, however, the operations of one have to be transferred in part or whole to the other in order for the new entity to function. With financial services mergers there is a ‘Transfer of Engagements’ from one entity to another. Whether this is a migration onto the other’s system, an integration into another system or the blending of operations – there is usually a single entity left afterwards.

In truth, however, almost all mergers are in fact acquisitions. For failing CUs often the only hope of salvation is to be acquired by another. This may be portrayed as a merger: but it will not be. There has to be shared marketing, finance, operations, accounting and so on. There must be one method of doing things or chaos will occur. Some see a merger as a strategy. It is not. A merger may be a route to achieving a strategic aim or goal – but it is not, of itself, a strategy: merely a possible vehicle to achieve that strategic goal or goals established by the Board. Too often one entity is forced to be taken over by another as it is failing and has no hope of survival. This is the most common reason for takeovers of CUs.

For CUs and, given the issues facing so many, acquisition is often the only recourse they have. What this means, however, is that they are negotiating from a position of weakness.

With CUs there is a further issue in that the CB often mitigates against a desired merger as it is currently impossible (due to legal constraints) to merge across non-contiguous boundaries – unless the Common Bonds are changed to accommodate both CUs and without hitting the maximum CB population. This is extremely difficult as it requires the consent of all members from both parties and thus a merger can easily be derailed by some members.

Why merge?

There are many benefits from a merger, including (neither exhaustive nor exclusive):

Economies of scale
Access to better, stronger management
Stronger combined board with broader and deeper experience and skills
Shared resources
Reduction in risks from eg – staff constraints
better capital to absorb losses,
better, more robust systems
amortisation of costs across a larger income stream – with corresponding
- improvement in cost income ratio
easier succession planning
better reputation/credit rating

Equally there may be some disbenefits

loss of ‘localisation’
loss of tradition and history
radical shake up of management, staff and board
different paradigms
too big to fail and therefore more likely to be on the regulatory radar

In many cases however a merger/acquisition is a rescue and the last resort.

A key factor in any merger is Stakeholder Management.

These key players, or ‘interested parties’, also known as Stakeholders in business strategy language, are extremely important as they can influence outcomes; and it is vital to know:

who they are (and there may be surprising players);
how they will react;
how important their reaction will be;
what it will mean for you and your plans.

History is littered with examples where the reactions of relevant ‘interested’ parties, or ‘stakeholders’ were not understood; insufficiently analysed and understood; belittled; or just ignored.

Knowing who they are, and their level of interest, and their likely involvement, or reactions to the merger is a critical component of success.

Failure to undertake robust analysis of the stakeholders and their likely responses and thus to develop plans is often a critical feature of failure.

In a business context, stakeholders are often ignored by poor (arrogant) management – eg in a hostile bid – a business pre-emptive strike:

shareholders’ reactions are frequently overlooked; or
- insufficiently taken into consideration;
sometimes there is a sentimental or ‘patriotic’ attachment to the target
political views often derail a bid; and
geo-political considerations can affect it – eg where a state-owned entity bids for a non-state-owned entity in a different country and with different political and economic systems;
often pure pressure from other interested parties – eg local charities/pressure groups – can force mergers to fail.

This, often disparate, group and which sometimes can contain unlikely, and/or unexpected, members, is one of the most critical factors influencing success or failure, or at least the:

quality of the analysis;
the understanding of the influence;
the impact they may have
the consequences for you; and
the plans put in place to manage them.

Likely stakeholders in a merger between CUs include

members
staff
respective boards
Regulatory authorities
local councils
government
competitors
other CUs
ABCUL
press (local/national)

The next section draws conclusions from this paper and its analysis.

Conclusions

There are some key aspects of the CU movement which need addressing rapidly:

1. Legislation viv-a-vis the Common Bond

The legislation which covers Credit Unions (CUs) and in particular the Common Bond (CB) is now out of date. It has been overtaken by events, changing demographics, changing customer demands, changing technology and to a certain extent ‘sharp practice’ by some CUs in redefining their CB.

The geographical definition of a CB is now redundant and appears to be set at an arbitrary maximum population level (often poorly defined and based on out-of-date, disputed, data) and currently 3m, which bears little or no relation to the actual membership of a CU
By contrast where a CU uses an industry sector classification – there is no level on the ‘population’ nor on the sectors in which it can operate. There is therefore no level playing field and the geographically defined CUs are at a major disadvantage
This also has a detrimental effect on potential mergers and acquisitions as CUs cannot merge unless their CB is contiguous and does not exceed the 3m level – thus there are significant barriers to mergers and achievement of economies of scale.

2. Board competence

The boards of CUs are all volunteers and unremunerated. In addition

many members have been in situ for too long, with no especial skills, or experience
Thus many boards have an insufficient breadth and depth of skills and experience to oversee a FS organisation adequately: but are still liable for its good management
Few have a well thought-through strategy looking 5 years out,
- nor are they supported by a robust plan to achieving their strategic goals,
- goals and objectives are often based on poor understanding of the true financial position
many boards are complacent as to the true position of their CU and have a false sense of their CU strength
- This comes home to roost later on when the true picture emerges and they are forced to merge (in effect be acquired) due to their poor financial position
- rather than perhaps merging from a position of strength and as a route to their strategic goals
too many board members focus on micro issues and miss the broader financial issues – eg profit and capital strength

3. Profitability and capitalisation

Many CUs are not particularly well managed in a financial sense and thus

have too high costs – especially from administration expense (staff, premises) as well as from the cost of IT
have to comply with often onerous legislation – which adds additional financial burdens – especially to smaller CUs.

As a result, they have:

low profitability, and also
as many still seek to pay dividends when they should not really be so doing – often from a misplaced sense of “doing what is right for members in terms of return”:
- they have a short sighted view which has longer term deleterious effects and thus leads to
poor profit retention
inadequate capital and reserves

In addition many are:

over-reliant on grants and/or loans from councils and
thus have a distorted view of their true position = often treating grants as ‘income’ when this is not so. Auditors bear a heavy responsibility here.

4. Credit Unions’ profile

There is a general void in the public’s perception of what CUs do – and in many cases even what they are. Many have never heard of them: even those who are de facto members through say a payroll scheme. This is a nationwide issue and needs a national initiative to address it. They do not understand the term ‘Credit’ and the word ‘Union’ brings to mind Trade Unions.

5. Summary conclusion

The foregoing means that the CU movement is in fact in a state of crisis. There is too much complacency around as to the real state of the movement. It needs rapid action at Governmental level to address these issues and, thus, support the survival of the CU movement as its objectives are, of course, fundamental to the financial well being of so many citizens. The profile of the movement will change as the pressures are irresistible – but it will be better to ensure a strong and stable movement proactively rather than letting it go largely to the wall, by accident or insouciance.

There is an exact parallel with the Building Society (BS) movement in the 1980’s. It was suffering from exactly the same issues in terms of profit, capital, poor boards, IT, changing demographics and so on and, as a result of non-intervention, it went from some 450 then to around 100 at the turn of the century; down to now where there are about 50. Many went bankrupt, with all the issues associated with that, and many of the ‘mergers’ were poorly handled and had the opposite effect – ie of dragging down others.

The next section examines options for change moving forward.

Options

1. Common Bond

Legislation must be brought forward as soon as possible (effectively immediately) to change the way the CB is defined. This could include:

Abolishing it altogether (best option)
Changing the definition of the geographic area e.g. to a % penetration of potential within it say:
- Up to 3m = 10.0%
- Up to 5m = 5.0%
- Up to 10m = 1.0%
- Over 10m = 0.5%

And increasing the flexibility to choose any level of geographic population, and any geographical area

Allowing any CU to be a mix of geographic and sector (with changes to maximum population)
Allowing M&A across geographical and sector boundaries – come what may
Possibly tax allowances/grants to cover M&A costs

2. Board

Legislation – or PRA directives – should be passed to strengthen board protocols and membership eg:

NED terms to be 3 years maximum, with re-election, and no-one to serve more than 3 terms after which they must stand down – and cannot stand again
Boards to have at least 8 members
the following skills should be present
- IT
- Marketing
- HR
- Compliance/MLRO
- Treasury
- FS generally (SM8)
allow board members to be remunerated and thus help ‘professionalise’ the board by attracting others who will not serve pro bono
- An alternative is only to remunerate the ‘specialist’ skills holders as in the point above
Names, roles and brief bios of all Directors to be placed on all CUs’ websites, immediately following the AGM.

3. Profitability and Capitalisation

accounts to be audited and filed at PRA/FCA annually by 4 months after year end and before the AGM
dividends can only be paid out if operating surplus ie income less costs and excluding grants is greater than x% of income (TBA)
dividends not to exceed a % of net income (TBA)
minimum capital ratios to be increased (TBA)
to be mandatory that accounts be placed on all CUs’ websites, immediately after audit and before AGM (subject to punishment of directors for failure) – a majority do not do this.

4. Profile

A general effort should be undertaken at national level – by ABCUL to raise the profile of the sector generally in order to attack pay day lenders and loan sharking by use of CUs.
Government grants and oversight for this could be granted
This could be supported at regional level by ABUL regional boards – with help from local authorities perhaps