Arrowhead Credit Union: What Happens When Member-Owner Governance Is Removed From A Credit Union

No credit union in America has come close to the bottom-line financial results of Arrowhead Credit Union’s 3.75% ROA for both 2011 and 2012.


No credit union in America has come close to the bottom-line financial results of Arrowhead Credit Union’s 3.75% return on assets (ROA) for both 2011 and 2012. Not one. First quarter’s 3.13% ROA was equally strong, given the 14.25% unemployment rate in San Bernardino County, the credit union’s primary market.

How can this off-the-charts financial performance be explained? How can a financial cooperative’s net worth ratio (with no access to external capital) go from 3%, according to NCUA’s June 2010 conservatorship 5300 filing, to over 10.5%, just two and a half years later? Is this astonishing financial performance—indeed a miraculous turnaround—or is it just a mirage, an example of regulatory financial alchemy?  Let’s look at the results to see what explains this  phenomenon.

The Reserving Judgment: Management’s Approach and the Regulator’s

Arrowhead’s near-incredible financial performance from June 2010 through March 2013 is due primarily to the management of one account: the reserve for loan losses.  The Credit Union’s CEO, Larry Sharp, and his team were adding to the allowance account at a rate of $6 million per quarter as of March 31, 2010. The allowance total was more than 250% of total delinquent loans at this level of expense; the credit union also had shown a 1.20% ROA for the first quarter of 2010.

The NCUA took over the credit union by conservatorship on June 24, 2010. The entire management team and board were removed. The examiners and managers brought in by NCUA doubled the loss expense in the second quarter to $12 million. The full-year expense totaled $36 million and resulted in an allowance account of $49.2 million at December 2010 –  more than 400% of the $12 million total delinquent loans at the same date.

This increase in loan-loss expensing resulted in a bottom-line loss of $4.7 million (after the NCUSIF insurance premiums), for an ROA of negative 50 basis points for 2010.  

So was this a sound judgment?  Were the examiners correct or was the assessment of the situation by Larry Sharp, the veteran CEO of more than 25 years, and his team more accurate? Fortunately, we know the results because two full years have passed and we can see if the level of reserves was too much, too little or just about right. These numbers are NCUA-generated, so we know they must be right.

Over-reserved By More Than Double

Arrowhead entered 2011 with $49.2 million in the allowance account. In 2011, the credit union’s net charge offs were $22.2 million; in 2012, the amount was $9.7 million, for a total two-year net write-off of $31.9 million. This leaves more than $17 million in the reserves set up two years earlier.  

So, whether one takes a one- or two-year view of  matching the allowance with probable losses, the credit union overstated the loss expense in 2010 between $17 million and $27 million. Had this not occurred, then the credit union would have reported a positive net income of between $13 million and $23 million, equal to or even double the first-quarter net income that management had reported.

This over-reserving had a second impact beside materially misrepresenting the credit union’s 2010 performance.  In 2011, the credit union charged off $22 million, as noted above; but because of excess reserves, it expensed only $7.8 million. This means that the bottom-line reported net income was increased by over $14 million by using the prior year’s reserves.  Aligning expenses with actual write-offs would have reduced the credit union’s reported $25 million in net income by 56%. The same practice contributed to the 2012 record ROA. 

The Price Of Regulatory Misjudgments

So, why should we care if the regulator’s judgments were wrong?  Wasn’t NCUA simply being conservative?  After all, now the credit union is back in the hands of its members.  Isn’t everything going to be okay going forward, and wasn’t this action just a little financial detour?

The most extreme action that a government authority can take is to substitute its control and judgments for those of a credit union’s management and elected leaders. This violates the foundation of the cooperative model, which is member-owner responsibility and leadership of the credit union.

Once the regulator takes control away from the member-owners, then it is the regulator’s interests that determine  the outcomes. There is no longer a member check and balance or, in this case, even advice.

The takeover of Arrowhead was controversial.  The regulator had to prove its extreme actions were correct, so it exaggerated the losses. By overstating the problem, NCUA initiated steps that severely hampered the credit union’s ability to serve its members’ needs in the middle of the crisis. Lines of credit to businesses were cancelled; loans that had been modified to help members were summarily written off; branches were closed; employees who had struggled and sacrificed to put the credit union in a turnaround position were let go. 

The community and members are still paying today for this regulatory overreach.  Over the past two years, Arrowhead Credit Union’s membership has declined by 35,000 members, loans are down by $250 million, shares have fallen $204 million and the branch network has been reduced from 25 to 11 branches.

Today, even with the reported record earnings, the credit union pays its savers at one third the average rate of all California credit unions; its loan yield is 200 basis points higher, and fee income is twice as high as all California peers.  Without the members’ voice, it is the members who suffer.  The regulator was running the credit union not for the members, but to demonstrate its supposed superior operating judgment and, thereby, taking as much from the members as possible.

Lessons From Arrowhead Credit Union

The decline in Arrowhead’s balance sheet and operating capabilities, not to mention community loyalty and goodwill, will take years, maybe a decade to repair.  The economy has yet to come back, as in other parts of California, and the credit union’s $380 million investment portfolio now exceeds the $376 million in member loans – not the best position to build earnings in a low-rate environment.  At $27 million, the allowance account is almost 400% of total delinquent loans.  

When the seizure of Arrowhead occurred, many credit union people, as well as the local community leaders, spoke out in opposition. Dave Chatfield, who had led the California Credit Union League, publicly challenged the conservatorship.  And on July 27, 2010, 66 leaders of California’s Inland Empire business community took action, sending a letter to NCUA asking when they would get their credit union back. (These local leaders included company presidents, a hospital CEO, university presidents, three mayors, attorneys, local council members and pastors.)

NCUA never supported its actions with facts. The June 25, 2010, press release stated that the reason for the conservatorship was that Arrowhead Credit Union was in “declining financial condition.”  NCUA then posted  a note on the credit union’s web site saying  that the Agency had “safety and soundness concerns which were deemed detrimental to you as members.”  NCUA spokesperson John McKechnie said in interviews that “the credit union was not reversing negative trends and not on a trajectory to return to profitability” and that the Agency had “found inaccurate data.” All of these generalizations were at best inaccurate, and at worst false.

Arrowhead Credit Union demonstrates the lack of wisdom in having government try to run a credit union, even in conservatorship.  A remedy must be found to change how this extraordinary power can be exercised and how government is accountable when it exercises such power. That requires a new approach to regulatory oversight, one based on mutual respect and a willingness to use alternative solutions when a change of credit union direction is needed.  Conservatorship has become an unchecked authority. It has been used, or the threat of it has been used, much too often in the recent past.

Changing this regulatory practice should be a top priority for the new Board members at NCUA. It would also represent a fresh start if the current Board members were to issue an apology to the prior leadership of the credit union and community leaders for what is now clear from NCUA’s own numbers was to have been a very intemperate action.  

Additional background and data on Arrowhead Credit Union’s position in 2010 may be found in these Callahan & Associates’ reports: Arrowhead Flies Straight in 2010 (May 10, 2010), NCUA Data Confirms Arrowhead Turnaround (July 26, 2010), and The Real Problem at Arrowhead (Sept. 26, 2010). 


June 10, 2013


  • Remember that the NCUA has two cardinal rules: 1. Protect the sanctity of the insurance fund at all costs 2. Never let anything negative happen on their watch
    Another Anonymous Arrowhead Admirer
  • Thank you Chip for this report, it has been long over due. It tell how NCUA has developed into an agency of Big Brother knows Best. Thank for writing this piece. From an old Friend
    Charles Gneuhs
  • I couldn't agree more with this article. While I wasn't close to the Arrowhead situation, I'm sure we all have similar examples close to home. I certainly do and I wrote a letter to CU Times detailing a similar financial miracle back in 2011. I concluded that letter with the following paragraph, which I still stand by: "I’d like to see our share insurance assessment reduced just as much as any other CEO. However, if it comes at the cost of the NCUA removing credit unions from their members by forcing mergers based on phony numbers–count me out."
  • Isn't it interesting that the majority of us have chosen not to list our names? For those of us who were close to the situation, we know that what they did to Larry Sharp and his team was personal. They wanted to send a message and make an example of him. They walked him out through the middle of the call center in front of all the employees. Deb should be ashamed of herself and what she has done to the credit union movement. The were prepared to do this to several other credit unions, but against all odds North Island fought like hell and survived. There were several others that should have survived but didn't, because they were never given the chance to sell off valuable assets which would have replenished their capital. Did you know that even if you have the capacity to restore your net worth, the NCUA could deny you the ability to do so? Under the threat of removing the entire senior team, the NCUA can instruct a credit union not to enter into negotiations that would save them from an unwanted merger. The NCUA will defend their actions by saying they were preserving the fund - several of those conserved and merged credit unions in southern California were over provisioned - there was no threat to the fund. You wouldn't believe it could ever happen until you live through it. It doesn't seem possible that you could ever be in a position to have to tell the employees of your credit union that the NCUA has deemed their credit union incapable of recovery. It doesn't seem possible those veteran leaders could be treated with such disrespect and that lies would be passed through the media from the NCUA with their spin as to why they were over-reaching. This article brought tears to my eyes and took me back to 2010, when we fought like hell for our credit union and failed. The Arrowhead story is one of many, and the Deb and the rest of the NCUA leadership team should hang their heads in shame when remembering what they did.
  • It is obvious you never ran a bank or a credit union. Reserves are the best if arrived in an empirical derived. But, shifts in economy can alter total needs. That is why you need a veteran executive. He was smart to load up on reserves in the early years. You can always use the reserve to inflate your earning later. That is life. Get over it!!! It was well played!!!
    jack Y
  • These agencies continue to do what they want with no concern that anyone will Do anything. We can write all the op ed pieces but no one actually cares enough to take action. Fire these guys!
  • Is the process of determining the need to conserve a credit union public? Is there a Review Board that "blesses" such a serious decision before the action is taken?
    Alice Stevens
  • Good questions, and the answer to both is no. The current process provides for no effective opposing views at any stage.
  • Excellent article, Chip. This conservatorship was a travesty then and even more so now. It was clearly a vendetta action against Larry Sharp for speaking out on issues. Many of us who watched this unfold believed that ACU's management team was on the path to correcting the situation, and the conservatorship and public shaming was massively unnecessary. There are regulators out there who take actions based on their individual opinion of a CEO and not based on the numbers or strategy involved. This abuse has to stop.
  • Great article, Chip. In our land of free speech, just look at all the fear among we writers, myself included, to openly criticize the NCUA for its unjustified actions against Larry Sharp and Arrowhead CU. What the NCUA did to Sharp and Arrowhead is an absolute travesty, and scary, indeed. The NCUA has vast power over us, and when it abuses that power, it makes one think not only of government overreach, and to be sad, as some writers here have commented, but it makes one want to go back and read the history books about how communism used to operate. And I've never been a "communist conspiracy" sort of person. I will be fascinated and amused if any writer here comes to the defense of the NCUA for what it did.
    Land of Free Speech. Really?
  • Clifton Gunderson (the external auditors) should be sued for malpractice in allowing what occurred. They obviously are unable to properly read financial statements and measure risk.
  • This is absolutely no surprise at all, especially to those of us who were there at the time and suffered the consequences. This is yet another prime example of government overreach.
  • Excellent article. Knee jerk reactions from inexperienced auditors created unrealistic loan loss reserve demands from the NCUA. Other credit unions and their members in the Inland Empire also suffered. Too many experienced financial experts lost thier jobs because the NCUA could not hire experienced people.
  • Excellent piece Chip. This is clearly one of the most obvious examples of government abuse in the CU industry, but so many others are out there. There is no accountability for this kind of whipsaw and the resultant lives if affected. Did NCUA even issue an apology? That will never happen. NCUA operates with near perfect impunity. My suggestion is that you dig into other similar situations and shine the light on just how often ALLL sandbagging happens by NCUA, followed by management and board replacements, followed by wildly negative provision expense for several quarters. It's a very efficient way for regulators to bypass codified limits to their authority.
    Yeah, Right
  • The NCUA wanted for years to punish Larry Sharp for his out of the box thinking and risk taking and in 2010 they found a way. What better way than to publically humiliate him and his executive team. Arrowhead wasn’t perfect by any stretch of the imagination but they certainly didn't deserve what happened to them. A lot of members were hurt by the NCUA instead of being protected by the regulatory agency. It's a sad story.
  • Excellent Op Ed Chip. This is a case study and lesson that should not be ignored by the NCUA Board. Thank YOU!
    Rich Jones
  • I had known the senior management of Arrowhead for more than 25 years before the NCUA takeover, and they were quality people who understood finance. By all accounts, they were on the right track when the seizure happened. It's great to have this analysis.
  • I have compassion on Arrowhead CU’s situation and pray for the CU's management, volunteers, and staff to persevere during this season. I hope that things will be made right - as we say in Hawaii, “pono”.
    W C Rol
  • Right on. I smelled a rat when I got the email blast from NCUA saying how they had "turned" around Arrowhead Credit Union. Thanks for brining the truth to light.
  • Chip, based on your analysis, your comments are right on the mark. The regulators have a habit of jumping to conclusions and not getting a true handle or be willing to learn or understand things that are different.