Download What Distinguishes Larger and More Efficient Credit Unions?

October 1984
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What Distinguishes
Larger and More Efficient
Credit Unions?
William N. Cox and Pamela V. Whigham
An Atlanta Fed study shows that the most
efficient of Georgia's 53 largest credit unions
pass along benefits of their efficiency to the
customer, rely less on sen/ice charge income,
have a lower proportion of loans in their asset
portfolios, and run twice as efficiently as the
state's other big credit unions.
Credit unions are increasingly visible in t h e
n e w fabric of t h e financial services industry. In
years past t h e typical credit union, w h o s e
m e m b e r s h i p shared a c o m m o n b o n d such as
place of w o r k or residence, was small, l i m i t e d
to passbook savings accounts and short-maturity
consumer loans, and run by volunteers or partt i m e staffers f r o m t h e sponsoring organization.
But some credit unions today are loosening
restraints o n m e m b e r s and are b e c o m i n g fullservice financial institutions offering c h e c k i n g
accounts, a u t o m a t i c teller machines, mortgage
loans, savings certificates, retirement accounts,
and even credit cards a n d safe d e p o s i t boxes.
A l t h o u g h full-service credit unions still t e n d
t o be small c o m p a r e d w i t h c o m m u n i t y banks
or w i t h savings and loan associations m o v i n g
i n t o t h e c o m m u n i t y b a n k i n g market, t h e newstyle credit unions are o f t e n large e n o u g h t o
c o m p e t e for business w i t h i n t h e b o u n d s of
their m e m b e r s h i p groups. This transformation
has been taking place for t w o reasons. First,
deregulation, w h i c h has o c c u r r e d in t a n d e m
w i t h or even ahead of market changes in t h e
financial services industry, has been t h e principal reason for credit unions' n e w energy a n d
aggressiveness. W i t h the relaxation of many of
their regulatory limitations, credit unions t o d a y
can offer c h e c k i n g accounts (share drafts),
l o n g e r - m a t u r i t y loans, a n d o t h e r p r o d u c t s
d e m a n d e d by full-service customers.
The authors
Department.
are
members
of the
Atlanta
Fed's
Research
34 O C T O B E R 1 9 8 4 , E C O N O M I C
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October 1984
Second, t h e n e w b r e e d of credit u n i o n manager w h o has pushed for deregulation tends t o
be younger, t o have formal training in finance
or economics, and t o v i e w the j o b in t h e same
way as t h e manager of a bank or S&L branch.
Some, in fact come from a bank branch managem e n t background. They see themselves as
professionals w h o s e j o b is t o help their institutions grow a n d e x t e n d additional services t o
customers. Because increased c o m p e n s a t i o n
for t h e manager o f t e n is constrained by regulations that limit credit union growth, this m o r e
aggressive group of executives has pushed for
regulatory relaxation, t o satisfy b o t h their o w n
d e m a n d s a n d those of their members.
M o s t of t h e nation's roughly 20,000 credit
unions still fit the traditional mold, but the non-,
traditional credit unions are t h e ones setting
t h e pace, trying t o b e c o m e full-fledged participants in the retail side of t h e financial services
industry. Looking at t h e 53 largest credit unions
a m o n g t h e 435 total in Georgia, w e a p p l i e d an
analysis of operating ratios t o see h o w t h e
larger credit unions in t h e group differ from
their smaller counterparts, and h o w the profiles
of t h e most efficient institutions in t h e group
c o m p a r e w i t h t h e rest.
A l t h o u g h this study parallels some of t h e
work on "high-performance banks" in the finance
literature, it differs in an i m p o r t a n t respect: at
c r e d i t unions, " p r o f i t a b i l i t y " has no clear
meaning. W e can measure retained earnings as
a percentage of assets or income, just as w i t h a
bank or stock S&L But many credit unions,
even t h e larger ones, routinely transfer a substantial p o r t i o n of earnings back t o depositors
in interest on share deposits. At numerous
credit unions, in fact, interest payments are still
called " d i v i d e n d s . " In cases w h e r e earnings are
paid back t o depositors, o n l y enough i n c o m e
typically is retained t o keep g r o w t h in t h e
capital base c o m m e n s u r a t e w i t h g r o w t h in
assets. Profitability, for such reasons, cannot be
measured meaningfully.
Even t h o u g h t h e r e is no w a y t o profile "highprofitability" credit unions, w e profiled t h e
larger a n d t h e more efficient institutions t o see
w h a t else sets t h e m apart. The results show
that larger credit unions have lower loan/asset
ratios, less loan delinquency, a n d (not surprisingly) a higher proportion of share-draft deposits.
M o r e efficient credit unions have lower loan/asset
ratios, charge lower loan rates and pay higher
rates .on most savings instruments; they rely
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less on service charge i n c o m e and have a
higher p r o p o r t i o n of regular share accounts.
Methodology
Data for t h e study came f r o m D e c e m b e r
1983 Reports of C o n d i t i o n s u p p l i e d to t h e
Georgia Department of Banking and the regional
office of the National Credit Union Administration
by state- a n d federally-chartered credit unions,
respectively. The ratios, d e f i n e d in A p p e n d i x A,
were derived f r o m data on t h e 53 largest credit
unions in Georgia.
W e analyzed the ratios with a microcomputer
database m a n a g e m e n t program, w h i c h was
used t o identify t h e 13 largest credit unions
and the 13 with the greatest efficiency. Efficiency
was defined as a low ratio of operating expenses
(noninterest) t o assets, a n d alternatively as a
low ratio of operating expenses t o income. The
high-efficiency samples produced by the alternative definitions were identical.
After i d e n t i f y i n g these t w o subsets, w i t h 13
credit unions each, w e c o m p a r e d their performance on other financial ratios to see if t h e y
differed significantly f r o m t h e remaining 4 0
credit unions. The m o r e efficient group of 13
credit unions, for example, s h o w e d an average
loan/asset ratio of 59 percent, w h i l e t h e less
efficient group of 40 s h o w e d an average loan/
asset ratio of 68 percent. Analysis of this difference using standard statistical "t-tests" showed
t h e d i f f e r e n c e t o be significant at the 95 percent level.
W e repeated this same process through a list
of financial operating ratios t o see h o w t h e
financial profiles of t h e more efficient credit
unions differed from their less efficient peers',
and h o w t h e financial profiles of t h e larger
credit unions d i f f e r e d from their smaller peers'.
The High-Efficiency Profile
Since profitability has no m e a n i n g in t h e
w o r l d of credit unions, w e chose efficiency in
c o n d u c t i n g operations as t h e best measure of
performance for our sample of Georgia's 53
largest credit unions. O n t h e average, t h e 13
more efficient credit unions are twice as efficient
as the others (Chart 1). M e a s u r e d by t h e ratio
of operating expense over assets, t h e highefficiency group averaged 1.9 percent; their
less efficient counterparts averaged 4 percent.
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October 1984
Chart 1 . Credit Unions in the High-Efficiency Group Are Twice as Efficient as Other
Credit Unions or Typical Commercial Banks
OPERATING EXPENSES
As a Percent of Income
High-Efficiency
Credit Unions*
Other
Credit Unions*
Small Bank
Sample**
High-Efficiency
Credit Unions
Other
Credit Unions
Small Bank
Sample**
- T h e difference b e t w e e n high-efficiency credit unions a n d other credit unions is significant at the 9 5 % confidence
" B a s e d on 1 9 8 3 Federal Reserve Functional Cost Analysis of small banks-
O p e r a t i n g expenses averaged only 17 percent
of income in the high-efficiency group, compared
w i t h a 33 percent average at t h e other credit
unions.
W h e n it comes t o efficiency, Georgia's larger
credit unions also h o l d their o w n against commercial banks. Consider t h e Federal Reserve's
1983 Functional Cost Analysis Report for commercial banks under $50 million in total deposits.
The 169 banks in that sample s h o w e d an
average ratio of o p e r a t i n g expenses t o assets of
3.6 percent, a n d an average ratio of o p e r a t i n g
expenses t o i n c o m e of 31 percent. In each
case, these figures are almost equal to t h e
averages for t h e 4 0 less-efficient credit unions
in our sample. That indicates the high-efficiency
credit unions are efficient not just in relation t o
t h e other large credit unions in Georgia, b u t
also t o their cousins in t h e c o m m e r c i a l b a n k i n g
industry.
The 13 more efficient credit unions are t w i c e
as efficient as t h e others in t h e t w o most
significant categories of noninterest expense
as well. O n personnel expenses ( i n c l u d i n g
fringe benefits) t h e high-efficiency group averaged 8 percent of income, w h i l e t h e others
averaged 15 percent; o n office a n d o c c u p a n c y
expenses the respective averages were 3 percent
and 6 percent. The " t w i c e as efficient" rule also
held for both categories of noninterest expense
w h e n each was measured as a percent of
assets. In addition, w e f o u n d that personnel
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costs m a d e up 4 6 percent of total o p e r a t i n g
costs for t h e m o r e efficient group a n d 43
percent for t h e others, suggesting that credit
unions f o l l o w t h e "half of noninterest expense
goes t o personnel" rule of t h u m b o f t e n a p p l i e d
t o c o m m e r c i a l banks.
H o w d o efficient credit unions differ f r o m
their peers? Part of t h e reason for higher efficiency lies in t h e balance-sheet c o m p o s i t i o n of
t h e m o r e efficient group (Chart 2). O n t h e
asset side, t h e y c o u n t significantly f e w e r loans
( w h i c h are m o r e expensive t o administer than
investments) t h a n their counterparts—59 percent of assets versus 68 p e r c e n t O n the deposit
side, w e f o u n d a higher p r o p o r t i o n of balances
in regular shares (83 percent versus 65 percent)
and a lower proportion of balances in certificates
(9 percent versus 26 percent).
W e f o u n d no significant d i f f e r e n c e in t h e
p r o p o r t i o n of balances in share-draft accounts,
w h i c h are t h e most costly t o administer. Transactions per share-draft account d o not vary
appreciably w i t h t h e a m o u n t of balances in t h e
account, and thus neither d o t h e expenses
involved in processing them. Possibly, the more
efficient credit unions have f e w e r accounts b u t
w i t h higher average balances. However, w i t h
no i n f o r m a t i o n on average share-draft account
balances at t h e credit unions in our sample, w e
w e r e unable t o investigate this possibility.
O n e other interesting d i f f e r e n c e b e t w e e n
the high-efficiency group and the others emerged
O C T O B E R 1984, E C O N O M I C
REVIEW
October 1984
Chart 2. High-Efficiency Credit Unions Show a Lower Proportion of Loan Assets, a
Higher Proportion of Regular Share Deposits, and about the
Same Proportion of Share-Draft Deposits.
Loans*
Regular Shares*
Share Certificates*
Share Drafts
Assets
Deposits
Deposits
Deposits
•The difference is statistically significant at the 9 5 % c o n f i d e n c e level.
f r o m our analysis: t h e m o r e efficient group
actually repotted far less service charge income
as a percent of total i n c o m e than t h e others—1
percent versus 3.6 percent (Chart 3). Because
many credit union managers are experimenting
w i t h service charge i n c o m e as an i m p o r t a n t
source of revenue, w e e x p e c t e d t h e m o r e
aggressive a n d (presumably) m o r e efficient
credit unions to make greater use of this avenue.
Apparently, t h e o p p o s i t e is happening: credit
unions in a squeeze because of lower efficiency
are quicker t o t u r n t o service charges than their
high-efficiency cousins. At Georgia's large credit
unions, service charge i n c o m e seemingly has
represented a defensive reaction t o offset expenses rather than an aggressive m o v e to a d d
income.
H o w d o t h e efficient credit unions use their
cost advantages? W e f o u n d that t h e y pass
along t h e financial benefits of their efficiency
b o t h t o borrowers and most depositors. O n t h e
loan side, t h e m o r e efficient group charged
lower interest rates across t h e board (Chart 4).
O n unsecured consumer loans, these institutions
charged 15.6 percent, c o m p a r e d w i t h a 16.9
percent average rate for their less efficient
counterparts. O n secured loans (mainly for
automobiles), t h e more efficient credit unions
charged an average of 12 percent, versus 13.5
percent for t h e others. The more efficient
group also charged slightly lower rates on first
and second mortgages, although the differences
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Chart 3. High-Efficiency Credit Unions
Rely Less on Service Charge
Income.
Service Charge Income
As a Percent of Total Income*
3.6
1.0
Average at
13 High-Efficiency
Credit Unions
Average at
4 0 Other
Credit Unions
"The difference is statistically significant at the 95% confidence level.
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October 1984
C h a r t 4 . H i g h - E f f i c i e n c y C r e d i t U n i o n s C h a r g e L o w e r L o a n Rates.
EFFECTIVE INTEREST RATES C H A R G E D
m i
(
High-Efficiency Credit Unions
1 Other Credit Unions
15.6
16.9
1 3 Fi
12.0
Unsecured*
Loans
^
Auto*
Loans
14.1
13 5
First
Mortgages
14.8
14.6
Second
Mortgages
"The difference is statistically significant at the 95% c o n f i d e n c e level.
Chart 5. High-Efficiency Credit Unions Pay M o r e Interest on Savings and Retirement
Accounts, But Less on Share-Draft C h e c k i n g A c c o u n t s and Share Certificates.
EFFECTIVE I N T E R E S T RATE PAID
U H High-Efficiency Credit Unions
I
I Other Credit Unions
10.5
10.0
9.9
^
10.4
7.5
5.7
Regular
Shares*
(Passbook)
Retirement
Accounts
.
6.2
Share
Drafts
(Checking)
Share
Certificates
•The difference is statistically significant at the 95% c o n f i d e n c e level.
were t o o small t o be statistically significant.
Interestingly, the high-efficiency credit unions'
percentage of d e l i n q u e n t loans was no lower
(or higher, for that matter), w h i c h suggests that
t h e lower rates charged o n loans and t h e lower
p r o p o r t i o n of loans on t h e balance sheet probably d i d not result from tighter standards for
granting loans.
The m o r e efficient credit unions also shared
some of t h e benefits of their efficiency w i t h
depositors, at least o n regular share accounts
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(passbook savings) and r e t i r e m e n t accounts
(Chart 5). O n regular shares, w h e r e five-sixths
of their deposit funds reside, the high-efficiency
group paid an effective rate of 9.2 percent,
versus an effective rate of 7.5 percent at t h e
other credit unions. In each case, these figures
include an u n k n o w n b u t u n q u e s t i o n a b l y small
p r o p o r t i o n of m o n e y market-type accounts.
The high-efficiency credit unions paid slightly
more o n r e t i r e m e n t accounts a n d slightly less
on share-draft c h e c k i n g accounts and share
OCTOBER 1984, E C O N O M I C
REVIEW
October 1984
Chart 6. The Largest Credit Unions Are
Neither More Nor Less Efficient
Chart 7. Large Credit Unions Show . . .
. . . a) Lower Loan Proportions
OPERATING
EXPENSE*
Loans
Total Assets
TOTAL ASSETS
3.6
69
%
54
13 Largest
Credit Unions
13 Largest
Credit Unions
4 0 Other
Credit Unions
4 0 Other
Credit Unions
. . . and b) Lower Delinquency Rates.
•The difference is not statistically significant at the 9 5 %
c o n f i d e n c e level.
certificates, b u t these differences w e r e small
and statistically insignificant
These findings—that high-efficiency credit
unions pass t h e results of extra efficiency to
their m e m b e r s in t h e f o r m of lower loan rates
and higher deposit rates—highlight the difficulty
of measuring profitability at these institutions.
The more efficient credit unions use their
profits in this way rather than a d d i n g t h e m t o
net worth. Ultimately, there was no difference in
t h e ratio of retained earnings t o assets b e t w e e n
t h e high-efficiency group and t h e others.
Percent of Loans 2 Months
or More Past Due*
2.5
1.3
13 Largest
Credit Unions
4 0 Other
Credit Unions
"The difference is statistically significant at the 9 5 % confidence level.
Size Profile
Georgia's 13 largest credit unions constitute a
different group f r o m its 13 most efficient.
W h e n w e d i v i d e d t h e state's 53 largest credit
unions i n t o t h e 13 largest a n d t h e remaining
40, w e f o u n d t h e size differences were striking:
the t o p 13 averaged $88 m i l l i o n in assets; t h e
other 4 0 averaged a b o u t $9 million.
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It appears that t h e larger institutions are not
necessarily more efficient W e found no significant difference in either t h e ratio of operating
expense to assets (Chart 6) or t h e ratio of
operating expense t o income. This suggests
that credit unions averaging $9 m i l l i o n in assets
have no advantage or disadvantage with respect
39
October 1984
to their larger peers w h e n it comes to efficiency.
However, t h e larger credit unions may be m o r e
efficient o n a transaction-for-transaction basis
since t h e y have a higher p r o p o r t i o n of deposit
funds in share-draft accounts: 10.4 percent
versus 2.9 percent. W i t h share drafts being t h e
most costly f u n c t i o n t o process, t h e lack of any
efficiency d i f f e r e n c e overall may m e a n t h e
larger credit unions are m o r e efficient in nonshare-draft operations. O n t h e o t h e r hand, t h e
higher p r o p o r t i o n of share drafts may be no
costlier t o process if it reflects higher balances
per account rather than a larger n u m b e r of
accounts. Unfortunately, w i t h o u t i n f o r m a t i o n
on average balances of share-draft accounts at
each credit union, w e cannot determine whether
t h e larger institutions have a larger n u m b e r of
such accounts and hence higher costs in processing t h e m .
The larger credit unions showed some intriguing differences in loan ratios (Chart 7). The
p r o p o r t i o n of their assets held in loans was
significantly l o w e r — 5 4 p e r c e n t versus 6 9
p e r c e n t — w h i c h may reflect a saturation of t h e
m e m b e r s h i p eligible t o b o r r o w f r o m t h e credit
union. Interest rates on loans showed no significant d i f f e r e n c e b e t w e e n t h e t w o size groups.
Interestingly, t h e larger credit unions show a
sharply lower percentage of delinquent loans—
1.3 percent versus 2.5 percent. W e e x p e c t e d
t h e loan administrators of smaller institutions
t o be closer t o t h e m e m b e r s h i p a n d t h e r e b y
better able t o j u d g e credit risks. But it seems
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that t h e reverse may be true: larger credit
unions apparently are able to administer their
loans m o r e professionally w i t h a lower degree
of d e l i n q u e n c y .
These are t h e o n l y significant differences w e
found between the larger group and the others.
The larger credit unions d i d not differ from
smaller peers in their reliance on service charge
income, in interest rates charged o n loans or
paid o n deposits, or in efficiency of operations.
Conclusion
W e have investigated h o w t h e most efficient
quartile of t h e 53 largest credit unions in
Georgia d i f f e r e d f r o m t h e remaining three
quartiles. W e f o u n d that t h e y appear to pass
along t h e benefits of their efficiency b o t h
t h r o u g h lower loan rates a n d higher savings
interest; they rely less o n service charge income;
their asset portfolios have a lower proportion of
loans; and, by our definition, they are twice as
efficient as their contemporaries.
Turning our a t t e n t i o n t o t h e largest 13 credit
unions a m o n g t h e 53, w e f o u n d that size seems
t o bring less in t h e way of distinctions than does
efficiency. The larger credit unions appear
neither m o r e nor less efficient. They have
lower d e l i n q u e n c y rates, a lower p r o p o r t i o n of
loans, a n d a higher p r o p o r t i o n of share-draft
deposits. Otherwise, there seem t o be few
financial differences b e t w e e n t h e largest institutions a n d t h e others.
O C T O B E R 1984, E C O N O M I C
REVIEW
October 1984
APPENDIX
Variables considered in examining the performance of
the largest and most efficient among the 53 largest
credit unions in Georgia are outlined below.
Total assets composition
Total loans/Total assets
Investments/Total assets
Fixed assets/Total assets
Loan composition
Real estate loans/Total loans
Other loans to members/Total loans
Return on assets
Income from investments/Total investments
Income from loans/Total loans
Loan delinquency rates
All delinquent loans/Total loans
Loans delinquent less than 12 months/Total loans
Income composition
Interest income/Gross income
Fee income/Gross income
Expense ratios
Total operating expenses/Total assets
Total operating expenses/Gross income
Personnel expenses/Total assets
Personnel expenses/Gross income
Office occupancy expenses/Total assets
Office occupancy expenses/Gross income
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Educational and promotional expenses/Total assets
Educational and promotional expenses/Gross income
Personnel expenses/Total operating expenses
Office occupancy expenses/Total operating expenses
Educational and promotional expenses/Total
operating expenses
Deposit composition
Regular shares/Total deposits
Share drafts/Total deposits
Share certificates/Total deposits
IRAs/Total deposits
"Profitability" ratios
Retained earnings/Total assets
Retained earnings/Gross income
Loan interest rates offered during the last week of
December 1 9 8 3
Unsecured loans
New vehicle loans
Second mortgage loans
First mortgage loans
Dividend rates offered during the last week of December
1983
Regular shares
Share drafts
IRA/KEOGH retirement accounts
Share certificates
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