The Charter of Choice

Moral arguments aside, Pentagon CEO Frank Pollack states that a strong business case can be made against conversions. The math is simple: the credit union charter is best for members.

 
 

This article originally appeared in the February 2006 Callahan Report.

The leadership of another large credit union – DFCU Financial ($1.8B in Dearborn, MI)– is attempting to convert away from its credit union charter. Although many in our industry passionately oppose such a conversion on moral grounds, we oppose it because a strong business case can be made that the credit union charter is the charter of choice.

Credit unions serve three constituencies: members, the institution itself, and employees. Members are the focus of a credit union. For a conversion to make sense, all members must be able to enjoy material long-term gains in service or pricing. This must occur at the same time the institution improves its financial position. If both these conditions exist, the employees would also benefit over the long haul.

Additionally, in considering a conversion, the board of directors must take into account a fourth constituency: stockholders. This group would bring capital stock to the institution and expect to be rewarded for doing so.

Examining the Financials
It’s illusory to believe that an institution can be taxed and add a fourth stakeholder for free. A margin analysis of well-run banks such as Wells Fargo, Bank of America and USAA clearly shows that earnings must increase if all of the constituencies are to be satisfied. The cost of taxation for all of these banks is roughly 80 basis points in pre-tax earnings. That money, plus the return to the new stockholders, must come from increased loan rates, decreased deposit rates, higher non-interest income (fees), or some combination of the whole.

Equally important is that in a stock model the stockholders receive the highest prioritization in terms of value creation. This transference of rights makes it incumbent upon the Board of a credit union considering conversion to show in financial terms what members would gain for giving up their member-focused charter.

We believe that members need to know in financial terms what their long-term benefit would be as a result of a charter change. This means that the boards of directors quantify the value proposition they are presently providing relative to what would be provided under the taxed entity. Full transparency demands this level of full disclosure.

We’ve Looked and There’s No Better Model
Pentagon Federal Credit Union ($8B in Alexandira, VA) delivers consistently better rates and fees in the tax-free model than our banking competitors can deliver. It is not that we are better managed. It is that there is no free lunch. In our discussions with Wall Street we have yet to be shown a long-term business model that returns more to the member than the credit union charter.

It is incumbent upon us as an industry to define in concrete financial terms our value proposition to the members. In doing so we will, in part, answer the question posed by the Congressional House Ways and Means Committee. And we will also have the opportunity to place a higher standard of disclosure and transparency on the management and boards of directors that are considering converting their charter.

We do not believe that the comparison numbers revealed by a higher standard would find favor among members of credit unions choosing to convert.

To read insightful articles by Chip Filson, Ed Callahan, Bucky Sebastian, and others, subscribe to the Callahan Report.

 

 

 

Feb. 20, 2006


Comments

 
 
 
  • I totally agree with his comments.
    Anonymous
     
     
     
  • Is USAA really a bank? Isn't it a cooperative owned by it's members as well?
    Anonymous
     
     
     
  • This is a re-hash of something Mr. Pollock wrote last year, now updated for references to DFCU and Ways and Means. It's too bad he didn't update his thinking, too. His "fourth stakeholder for free" argument is a classic zero-sum mentality, where one man's earnings must come at the expense of someone else. It ignores leverage of the capital raised and the acceleration of earnings derived therefrom, which more than makes up for taxation PLUS an appropriate return to shareholders. Deployed creatively in the hands of smart management operating in a growing market, new capital -- leveraged at 20:1 -- throws off enough to make everyone happy, especially the members who elect to purchase shares. Mr. Pollock may have himself convinced but, without risk-based capital, a 5% leverage threshold, and access to secondary capital, there will be plenty of others who decry the credit union charter's limitations -- including some of the industry's own spokespeople in their testimony to Congress.
    Anonymous
     
     
     
  • Interesting but no specific examples are given to show that the rates and fees of Pentagon are better than those of banks and thrifts. Why not tell us the CD rates of Pentagon both short and long term and how they exceed their non-cu competitors, and also how their rates for loans to their members are less than non-cu institutions charge.
    Anonymous
     
     
     
  • Interesting but no specific examples are given to show that the rates and fees of Pentagon are better than those of banks and thrifts. Why not tell us the CD rates of Pentagon both short and long term and how they exceed their non-cu competitors, and also how their rates for loans to their members are less than non-cu institutions charge.
    Anonymous
     
     
     
  • Interesting but no specific examples are given to show that the rates and fees of Pentagon are better than those of banks and thrifts. Why not tell us the CD rates of Pentagon both short and long term and how they exceed their non-cu competitors, and also how their rates for loans to their members are less than non-cu institutions charge.
    Anonymous
     
     
     
  • Thank you for makeing this information aviable to the DFCU members,me.It is easy to understand. Everthing Mr.Pollock has written is clear and true he is right. DFCU needs to stay just the way it ism,for the good of use the members.
    Anonymous
     
     
     
  • It's absurd to say that Pentagon's success does not come from superior management. Frank...get serious, the effort and intelligence you and your mgmt team have applied to PFCU is superior and the results are excellent. But, the rest of us have some intelligence, too. You are Pentagon FCU not the average CU on Main Street. Any layoffs at the Pentagon lately? The future looks so bright (for you) you need both sunglasses and a steel pot! PFCU is the sweet spot of CUs. I am not a believer in the stock model. I admit that bias. However, it is very possible that growth rates with the MSBs (the non-stock MSBs) may be so far above the average CU on the street that the taxation is a moot point.
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