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Hey everyone. This is Mark Treichel with another episode of With Flying Colors. And this episode is called Merger Madness. Why Merger Madness? Well, March Madness is going on. Watched some basketball games last night, and I think Merger Madness kind of fits because there's a lot of things going on in the merger arena that I want to talk about.
But before we get to the madness side of it there's definitely an increased NCUA shopping credit unions. That potentially could have a cost to the insurance fund. Let's just leave it at that. But there is definite chatter out there. And so what happens and how does that work?
A few years back, NCUA, several years back, NCUA came out with the NCUA's merger partner registry. And the reason that happened, Was that the NCUA board would go to events and find out that people were saying, Hey, these mergers happen and I'm not invited. And the general implication was that NCUA was involved in more mergers than they were, because those deals, as you know, are made at dinners on the golf course at league functions, at phone calls from.
Consultants or phone calls from other credit unions. And the dance of those mergers typically just happens with credit unions credit union to credit union. However, when a credit union is in trouble and NCUA has to find a home for it, that's when NCUA gets involved. NCUA came up with the merger partner registry and I'll have a link in the show notes to how you can sign up for that if you're not, but you can basically say.
That you're interested in assisted mergers or that you're interested in purchasing assumptions, which is a liquidation. It's a form of a merger, but it's a liquidation on. You can sign up and say what areas you're interested in. And when I was at N. C. U. A. And it's still essentially done the same way.
I'm sure. If we had a place that was in special actions where there was fraud or loan losses where the credit union was in danger of closing and we'll get to what that means. We would begin to shop the credit union. We'd look who was interested. You'd download the data and you'd see who could afford to buy them.
What does mean afford to buy them mean? It means that you would Look at the credit union still being well capitalized and still be able to assimilate any risks. So obviously if a huge credit union took on a small credit union, that's very easy to assimilate. You have some, a 500 million credit union wanting to take on a 500 million credit union and the surviving credit union didn't have that great a capital to begin with.
That's the type of situation where you might weed out some players, but you'd send out Information to those credit unions to see if they're interested. Then you'd, they'd, you'd give them access to certain information. Sometimes it would be onsite. Sometimes it would be offsite.
Onsite review of loans, et cetera, so that you can trace what's going on, but. Merger registry exists that you can show that so you can show your interest in that.
So what happens when a credit union is going to be chopped? Let's say credit union A and credit union B want to merge and credit union A is going to survive and they want some money. If you ask for money and approach NCUA for money, NCUA can't just give it to you. They are going to have to shop it because it used to be that NCUA had to take the least cost bid.
Now that there's a little bit of nuance to that where you can document why the lowest cost bid is not. It isn't in the best interest of the credit union and isn't in the best interest of the insurance fund. And FYI, that typically happens in a political situation where let's say it's an MDI wanting to merge with an MDI.
You may get some questions as a staff member at NCUA from an NCUA board office relative to that. And the reality is the NCUA Career staff like to do it by least cost because it's defensible. Now it's not always required to be least cost, but I would venture to say that 99. 9 percent of the mergers that do result in assistance come, that do result in NCUA paying any form of assistance do go to the lowest cost bidder.
Regardless. Of that nuance that some into a board members wanted written into a policy and push come to shove. The region is going to say we want to pick. The most cost effective merger for any institution. Now, how do you come up with that? Can be interesting because if, if you came to NCA and said, I'll take it lock, stock and barrel and there's no cost, that's easy.
And that's where you can get self determination where credit union A can decide they want to go with credit union B. When you have any money that's being involved. That would involve a bid. Now, what do you put in the bid? And is there a standard form for a bid? No, there's not a standard form. Just like every credit union is different, every bid is different.
You may have contracts that. And so let's assume we're dealing with a credit union that has 3 percent net worth, or, 4 percent net worth and NCWA wants to shop it. They think there might be a cost. They think there might not be a cost. But you come in, you price the loans. You say, I don't want I only want to take on member shares.
Let's say a credit union had done a lot of non members deposits. You can convert it from a merger discussion to a purchase and assumption and a purchase and assumption is a liquidation where you just buy certain things. You purchase certain things and you assume certain things you purchase assets and you assume certain liabilities, anything that's not written into that contract.
Phase with NCA and stays with the insurance fund. Now it used to be, you could do this and repudiate contracts very easily, but the vendors got better and better at writing these contracts, making it harder to do that. Now, some, in some instances that can be done in some instances, it can't be done.
And oftentimes just like in a normal merger the contracts that you're inheriting as it relates to data processing can be a little tricky, but they're There are some strategies where you can look at that and not require particular contracts and put that burden on to NCUA and the insurance fund.
Now. Of course, this also gets into what type of credit union are you, right? If you're a community charter under the normal rules, you can only merge with a credit union that fits your community. If you're a multiple common bond credit union you can merge with a multiple common bond credit union.
Again, I'm talking federal charters here is obviously there's state rules that, that work and the state decides how that works. If there is determined to be an emergency merger and a credit union being in danger of closing, you can have a, multiple common bond credit union acquire a community or a community require multiple bond and get a hybrid field membership.
But again, that's only if NCUA determines that it's an emergency and determine that the credit union is insolvent or in danger of closing, which I'll get into a little bit more here in a minute. If you can't if NCUA Says the burden of proof is not there that you haven't demonstrated, or we cannot demonstrate for you that it is in danger of closing.
You can still do a merger, but you'd only get the merger of the members of record and not the new, the different form of field of membership other from what you were. So in this instance, if you were a multiple common bond and you wanted to pick up. a community credit union and it was not determined to be in danger of closing, you could only get the members of record.
So what is an emergency merger and what is in danger of solvency? I'm going to get to that here. And the the actual language that NCUA has on their website, Talks about qualifying for an emergency that NCUA may authorize an emergency merger between federally insured credit unions without regard to field of membership or other usual legal restraints if the credit union to be merged is either insolvent or in danger of insolvency and the NCUA determines that an emergency requiring expeditious actions exists with respect to the insured credit union, Other alternatives are not reasonably available and the public interest would be best served by approval of such merger, consolidation, purchase, or assumption.
So essentially if it's insolvent and in danger, NCUA can determine it's in the best interest of the public to do this, it can. It can allow this type of merger to happen. What does insolvent or in danger of insolvency, insolvent or in danger of insolvency mean?
In making the determination that a particular credit union is in danger of insolvency, the NCUA will establish that the credit union falls into one or more of the following categories. The credit union's net worth is declining at a rate that will render it insolvent within 30 months. In projecting future net worth, the NCUA may rely on data in addition to call report data.
The trend must be supported by at least 12 months of historic data. So you have a 5 percent net worth, you have a 4 percent net worth. If you can show that the losses over the last 12 months or additional data in addition to that, that 12 month data would show that you would be insolvent. Have liabilities.
Greater than your assets over a 30 month period, meaning you could, you would, the projections show that if you lose money at that same pace that you will be insolvent after three months, NCUA can do an emergency merger. Another clause is the credit union's net worth is declining at a rate that will take it under 2 percent net worth within 18 months.
In projecting future net worth, the NCUA may rely on data in addition to the call report data. The trend must be supported by at least 12 months of historic data. So now here it's saying that you instead of being a solvent that you would fall below 2%. So if you fall below 2%, NCUA has to close you and NCUA or NCUA has to conserve you.
So that's why that's another way of looking at it. So if you're going to fall below two within 18 months, you can affect a merger where you could acquire. The field of membership, and if you are insolvent within 30 months, so in some instances, one of those calculations might be easier to hit.
Another clause is the credit union's net worth as self reported on its Pell Report is significantly undercapitalized and NCUA determines there is no reasonable prospect of the credit union becoming adequately capitalized in the succeeding 36 months in making this determination on the prospect of achieving adequate capitalization.
The NCUA will assume that if adverse economic conditions are affecting the value of credit union's assets and liabilities, including property values and loan delinquencies related to unemployment, these adverse conditions will not further deteriorate. Or if the credit union has been granted or received assistance under Section 208 of the Federal Credit Union Act in the 15 months prior to the regional office's determination that the credit union is in danger of insolvency.
So Section 208 assistance would be something like a guarantee of your line of credit at the corporate because the corporate was not willing to borrow you money, but NCUA knew that you'd have a run if you didn't. If they didn't guarantee the line of credit, that's the most common use of Section 208 assistance in, in the world that we're living in right now.
So, those are scenarios and how you can have an emergency merger. Those are definitions of insolvency or danger of insolvency, which helps. Credit unions with different types of federal field of memberships merge irregardless or regardless of the what the Federal Credit Union Act requires for field of membership in that regard, but that all links back to the merger registry.
And again, I'm hearing an uptick of chatter about NCUA shopping credit unions with the potential for payment from the insurance fund. Why is that? Because. The stresses that have happened because of the pandemic because of the 500 basis point increase in Fed funds rate and interest rates because of the shock that that has put on credit union's financial statement, the increasing delinquency, although it's, that's very situational, increasing delinquency impacting some credit unions.
So, okay, I'm going to pivot here to. The fact that just a kind of a general comment, I think mergers will continue to increase despite the fact that the Biden administration is asking the FDIC and OCC to scrutinize mergers more frequently. And why do I say that? It's because of the short sighted attack, the short sighted approach, in my opinion, on the attack on fees calling things junk fees that are not really junk fees, where There's an overreaction that I believe is going to have a chilling effect on fees, which will have a short term gain for some people of modest means, but in the long term will lead to the ability harder ability for credit unions in particular niches and small credit unions to survive.
So despite the fact that is going to increase reporting on large credit unions on overdrafts, and despite the fact that is planning a. Consumer compliance examination on larger credit unions that inevitably will trickle down everywhere. It just happens. It happens with the staff at N. C. U. A. It happens with the board saying, okay, let's take the next layer of let's slice the next layer off this onion.
I'm expecting mergers will go up because the administrative burden will be continue to go up. And of course, that can be impacted by. Elections coming up. Does Biden win do the Republicans win, et cetera, et cetera. There's a pendulum that's swinging, but right now it's swinging towards higher regulation.
It's swinging for junk fees being a mantra. It's swinging towards all that in my mind, increasing verger because of that regulatory burden. Now specifically in regards to Biden, what's driving that? Well, there was an order from the Biden administration from July of 2021 that the FDIC is just getting around to dealing with and let me find the specific reference here.
So in the order The President stated announces an administration policy on greater scrutiny of mergers, especially by dominant Internet platforms with particular attention to the acquisition of nascent competitors, serial mergers, the accumulation of data, competition by free products, and the effect on user privacy.
It goes on to highlight banking and consumer finance. And the order said over the past four decades, the United States has lost 70 percent of the banks it once had. With around 10, 000 bank closures, communities of color are disproportionately affected. With 25 percent of all rural closures in majority minority census tracts, many of these closures are the product of mergers and acquisitions.
Though subject to federal review, federal agencies have not formally denied a bank merger application in more than 15 years. I'm going to repeat that sentence. Though subject to federal review, Federal agencies have not formally denied a bank merger application in more than 15 years. So that's a very carefully worded sentence.
Not denied, not formally denied. The trick of the regulators is they say you haven't provided enough support for me to approve it. That's not a denial. That's not a formal denial. So mergers die on the vine all the time. Because they say you, you haven't complied. Give us more data. Give us more data.
It's the same thing. Credit union looking for a field of membership. You're trying to prove that and it was more so when it was more of an art to commute for community charters. But and sue a if they defer your action because you didn't provide enough support. That's not. A denial and some agencies in some instances it could be viewed that they use deferrals to reduce the ability for that to be appealed.
Because if it is a deferral, there's really no bed, no final action. But anyway bank urgers don't always. Get approval, but that doesn't mean that they've been formally denied. It goes on to say excessive consolidation raises costs for consumers. Actually the costs for the consumers are going to go up because of all the mergers that people are pretending.
Won't happen because they're attacking junk fees, which will get passed on in other ways, right? They're playing whack a mole in my opinion on this. Restricts credit for small businesses and harms low income communities. Branch closures can reduce the amount of small business lending by about 10 percent and leads to higher interest rates.
Even where a consumer has multiple options, it is hard to switch banks, partly because customers cannot easily take their financial transaction history data to a new bank. That increased the cost of the new bank extending you credit. So what, why am I walking you through this? Well, it's because the FDIC took some action relative to this and has proposed a rule called A request for comment on proposed statement of policy on bank merger transactions.
And of course, this is a credit union podcast, not bank, a banking podcast, but this does impact credit unions. If you look at what is in the language of this proposal. It basically highlights that these new procedures they're going to put in place and are proposing to put in place on mergers of banks impacts credit unions that want to buy a bank specifically, according to the proposed statement of policy, any merger transactions between an FDIC insured depository institution, an IDI, and the credit union requires FDIC approval under the Bank Merger Act, specifically the BMA.
Thanks, everybody. Although credit unions are insured by the NCUA, they are not considered IDIs under the Federal Deposit Insurance Act. Therefore, any merger transaction between an IDI and a credit union is subject to FDIC approval under Section 18c1 of the BMA. The proposed statement of policy clarifies that the FDIC has jurisdiction to act on any merger application that involves an IDI and a non insured entity, which includes credit unions.
Merger applications involving a credit union are subject to the same statutory factors as any other merger application under the BMA. However, the FDIC will tailor its review to the nature, complexity, and scale of the entities involved in the transaction. So, in summary, the proposed policy makes clear.
That the FDIC's approval is required for any merger between an FDIC insured bank or Thrift and a credit union and the FDIC will evaluate such applications under the statutory factors outlined in the BMA. Now, the ABA is excited that it highlights this fact because they don't want credit unions to be able to buy banks.
And there are some of those things that have happened over time. There's been an increase of bank or credit, excuse me, credit union purchases by banks. And I think. Should this rule go final, the other regulators could use it as a way to put a chilling effect on credit unions ability to buy banks, which would be sad because going back to the fact that I think there's a lot of data that shows that when credit unions acquire branches or credit unions acquire some banks that big banks don't want, it's because the credit unions want to serve the people in that area and the banks are not doing it.
And if they're If the credit union, excuse me, the bank ended up getting liquidated instead of sold to a credit union or sold to a bank that would then shut that area down, the ability for people of modest mean to be served in that area goes down. So the ability of credit unions to buy banks is a good thing.
I think the proposed rules, if ever finalized will. Will have a chilling effect, by the way, it was approved by a vote of three to two with the D's voting one way and the hours voting another way. Again, this could be impacted. By the election coming down the road, unless of course it's made final before November.
And unless of course, there is no change at the White House in power, the party in power. All right. Lastly also hearing an uptick in small credit unions being pressured a little bit to merge by NCUA and what can drive that? Operational problems, accounting problems. Solvency, all the things that, that make a small credit union potentially unsafe and sound as it relates to the insurance fund.
And, I think what you're going to want to do if you find yourself in that situation is NCUA at some point in time will want you to have. Part of your decision tree that you will consider merger and with a little bit of capital left you have the ability for self determination. I have heard some rumblings where a credit union felt they were trying to be pushed in one direction as opposed to another direction and quite possibly if that happens it's because NCUA knows the credit union you're wanting to merge with.
Might not have the capacity to do it. And they can't really say that to you. So instead of steering you in one direction, they may steer you in another direction, but if you find yourself in that situation you should put together the list of credit unions. You want to consider that you want to come in and do due diligence to that.
You want to court your board to figure out why and who might make the most sense should you decide that you are in the arena. Of needing emerge. All right. I appreciate you listening as always. I hope you'll listen again soon. This is Mark Treichel signing off with flying colors.
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