Credit Union Managers' Association Spring Conference - Patrick Casey, Registrar of Credit Unions

Chairman, members of the National Executive of CUMA, ladies and gentlemen, thank you for inviting me to address your 2019 Spring Conference. I am pleased to have the opportunity to address you as senior executives and to share my perspectives with you on key strategic issues.

To begin, I would like to thank your Chairman – Tim Molan and members of your National Executive, for their open engagement with the Registry over the past year. The role of CUMA in providing professional development training and networking opportunities is vitally important.

Your conference theme of “Horizon 2019” offers a chance for you to assess your near term challenges and opportunities. 2019 is a pivotal year for some credit unions given a number of key collaborative developments are advancing and new products and services emerging. We welcome these developments, given the importance of the link between transitioning the business model and credit unions remaining relevant for members into the future.

As ever we must all be mindful of the impetus behind business model change. Our recent Financial Conditions report¹ highlighted strong reserves, sustained lending growth and a continued reduction in arrears. However financial challenges remain for the sector and individual credit unions in terms of low loan to asset ratio (average c.28%), high cost income ratio (average c.74%) and low return on assets (average 1.0%)². These metrics provide a clear impetus for you to focus on your business model strategy.

Competitive context to business model change

In terms of the horizon beyond 2019, consumers increasingly expect a customer-centric, frictionless experience when buying financial products and services. Multi-channel engagement and delivery is increasingly a minimum consumer expectation, as is product and service choice and speed of decision-making. Your competitors now compete with one another on the cost to serve. Disruptors are setting service standards while incumbents are re-engineering their processes and transforming their customer interfaces.  More than ever, these characteristics define the market within which you are participating in. One has only to look at the advertising of your competitors, to appreciate this reality.

Today in addressing this competition, credit unions are seeking to both:

1. Identify what will differentiate them from others; and
2. Maintain and grow market share in the core consumer credit area, while also trying to expand in areas where incumbent banks are well established.

Will you compete on the basis of price? Will it be on the basis of service or member engagement, or both? Your personal interface today in particular is valued by many of your members, but will that remain the case going forward?

Those who helped create the credit union movement in Ireland had a compelling vision of providing access to savings and loans within common bonds. What will be your compelling vision going forward? I ask this as some credit unions today aspire to fuller service banking models which are themselves increasingly challenged by technology-led market entrants. These new firms are typically more agile, compete without technological and structural legacy issues, and often target the most profitable business lines. This represents the competitive backdrop to your business model transition.

Link between fulfilling members’ needs and sustainability

Credit unions must overcome three commercial challenges in service of sustainability:

1. Enhancing your competence and capabilities - enabling you to deliver on members’ needs and expectations;
2. Addressing your operational effectiveness and efficiency -by managing the costs to serve your members; and
3. Expanding your revenues through loan growth and non-interest income – bringing sustainability to your business model, while offering improved choice valued by members.

There are some that would have you believe your challenges are not competitive or commercial, but are regulatory in nature. This is misleading and distracts from market realities. The credit union regulatory framework provides significant flexibility today to enable your business model development. Afterall, the loan to assets ratio ranges from 11% to 73% across the sector. Within the same lending framework today, some credit unions are able to lend their members while others struggle.  Although the regulatory framework will and should continue to evolve, credit unions already have significant lending capacity and regulatory flexibility³. Existing lending capacity will increase further under proposed lending changes outlined in CP125⁴. Therefore it is not your regulatory framework that inhibits your future business model development.

Indeed should you look for approval to provide new ‘additional services’ not specified within the credit union framework, there are established processes in place through which to seek regulatory approval. With 51 credit unions approved by us for MPCAS, commentary from some regarding regulatory inflexibility or that credit unions are more restricted than in the past, lack credibility. The evidence in front of us is clear. Since 2003, we have only received three proposals from credit unions to undertake ‘additional services’ not specified by the credit union framework; mortgage intermediation (2007), MPCAS (2017) and multi-agency insurance intermediation (2018).  

International importance of business-led change

Successful credit union movements internationally pursued  their vision of a full service banking model, by transitioning over time from basic savings and loans offering. Credit unions collaborated with one another to achieve economies of scale. They accessed technical expertise to re-engineer their business processes and expand their member product and service offerings. They organised collective advocacy to engage constructively with legislators and regulators, to achieve their future vision and business model ambitions. In doing so, regulatory framework change followed business change.

Collective action across the sector is increasingly necessary here to enable individual credit unions to access technical competence and scale efficiencies not currently available to them. Some collaboration will take the form of outsourced service provision organised between credit unions or by trade bodies, and some will involve partnerships with third parties. Some collaborative initiatives will have positive outcomes and succeed, some will have less positive outcomes and others will fail. As regulator our job is to question and challenge what is proposed, to address the impact of any failure on participating credit unions and their members’ funds. As CEOs, your job in aligning strategies to your business model ambitions, is to undertake robust due diligence on the new collaborative arrangements, so your board can make a fully informed decision in the long term interests of members.

Business model transformation can be complex. It involves offering a product and service range valued by members, attaining service quality standards, building and managing new delivery channels, enhancing operational capability and efficiency, establishing relationships with key service providers and managing and mitigating associated risks. These represent the key focus areas for you in building a sustainable future business model.

Ultimately, it is your responsibility as CEOs to deliver on your members’ evolving needs and expectations. Business process re-engineering is necessary for credit unions to address the cost to serve members and speed of delivery. It supports product and service innovation and valued choice for members. This is the heart of real business model evolution, and is where energies should be dedicated.

Instead there appears to be an excessive sectoral focus on legislative and regulatory change as a starting point to business model development. Focus on continual regulatory framework change as a perceived solution to addressing business fundamentals, distracts from overcoming the real commercial and competitive challenges you face. It does not serve members’ long term interests.

A failure individually and collectively to address business model change has implications for your sector sustainability. In considering your theme “Horizon 2019”, the remarks ten years ago of former Registrar James O’Brien at CUMA’s 2009 conference are worth recalling, when he said:

“Whilst many people recognise that there is a need for some change in the credit union business model, there is no consensus as to how that change can be brought about, who will lead it – or indeed what those changes should be.”

Ten years on, the market place continues to evolve and for too many credit unions, the gap is widening between where they wish to be and where they are. This is reflected in the financial position and performance of many credit unions.

Positively change is on the horizon. Some credit unions are actively seeking to transition by broadening their offering through collaborative business model initiatives, which is welcome.  This year we will see the launch of MPCAS by 51 credit unions following regulatory approval as an additional service. This is a significant commercial step forward, enabling those credit unions to be a financial service provider of choice for their members.

A further group of credit unions are embarking on a collaborative journey through a joint venture alongside an established financial services provider. Other shared service initiatives underway include Cultivate agri-lending, ILCU/CUSO mortgage supports, the Solutions Centre SAM mortgage/digital supports and CEO Forum developments.  It is worthy of note that none of these other initiatives required regulatory approval, emphasising that regulation is not the limiting factor.

All of these activities are setting credit unions on a course for future business model development. However meaningful business model transition today as measured by business process efficiency, the cost to serve and the availability of choice valued by members, has yet to gain sufficient traction. Ultimately it will require member needs to be met and fulfilled on a basis that translates into diversified income generation and sustainable financial returns. 

Clarifying vision

Whilst some credit unions today are actively pursuing their vision to be a financial service provider to members, many lack the clarity of vision on their future direction. Sector leadership needs to articulate a vision and guide them.

Our vision for the sector is “Strong Credit Unions in Safe Hands”:

• We see ‘Strong Credit Unions’ as being financially strong and resilient, enabled by sustainable, member-focussed business models, underpinned by effective governance, risk management and operational frameworks.
• We see that credit unions are ‘in Safe Hands’ when they are effectively governed, professionally managed and staffed by competent, capable people who appreciate and prudently manage risks, while successfully meeting members’ product and service expectations.

Our vision underpins our statutory mandate to ensure each credit union protects the funds of its members and the maintenance of the financial stability and well-being of credit unions generally. We implement that vision through our four strategic priorities which I will address this morning, namely:

1. Inspections and Supervision;
2. Intervention and Restructuring;
3. Regulatory Development and Safety Nets; and
4. Business Model Development.

I will begin with our first strategic priority.

Inspections and Supervision

The importance of strengthening core foundations in terms of governance, risk management and operational capability, to address key risk vulnerabilities and enable prudent business model transition.

We drive our engagement activity to ensure minimum standards are met by all credit unions. We continue in 2019 to adopt a differentiated approach reflecting proportionality in supervising credit unions of different sizes. We are further refining our supervisory approach to differentiate on a proportionate basis between small and medium credit unions (up to €100M total assets) and large credit unions (over €100M total assets).  

Our supervision of the largest credit unions will continue to involve regular onsite inspections. Our desk-based supervisory approach will be extended to credit unions with total assets of up to €100M. This involves review of credit union-specific documentation and supervisory intelligence, supported by individual and sectoral analytics, peer analysis and thematic reviews, as appropriate. The approach aids risk identification, requiring corrective action through appropriate Risk Mitigation Programmes (RMPs), recognising each board’s ownership of their own risk management process. In addition to our minimum engagement activities, targeted on-site inspections will occur in credit unions with elevated risk profiles.

All credit unions will continue to receive RMPs where risks are identified. We will also continue to hold bi-lateral meetings with key role holders in all credit unions.

Our forthcoming Supervisory Commentary paper will set out our findings based on 2018 supervisory activities, profiling identified risk issues by credit union size. Through our supervisory engagement we note improvements in the risk profile of many individual credit unions. These credit unions have moved beyond a mere “tick-box” approach in seeking to address their risk vulnerabilities, through board ownership of risk management and mitigation.

Nonetheless, there remains evidence in many credit unions of continued weakness in fundamental areas of governance and risk management.  Significant issues relating to credit have also been identified, including divergence between the stated credit policies and underwriting practices. It is also evident to us that maintaining a clear strategic focus remains a challenge for some credit union boards. Identified weaknesses in these core areas raise concerns about the ability of some credit unions, including some large credit unions, to transition safely to a more complex business model. We expect all credit unions to consider the findings set out in our forthcoming 2018 Supervisory Commentary paper, to support their own risk management.

As an organisation, the Central Bank has different risk tolerances for failure of firms in different impact categories⁵. Our risk tolerance for failure is highest for low impact firms, while for obvious reasons, we have a very low tolerance for failure of higher impact firms.

As lower impact firms, we recognise that credit unions may fail. For weaker credit unions who have viability issues and are not servicing their member needs, engaging at an early point in a transfer to a stronger credit union capable of serving those needs will be critical. Absent a suitable transfer being available, resolution may be required to protect members’ funds, in line with our own risk appetite for firm failure.

That brings me to our second strategic priority.

Intervention and Restructuring

The safe and sound restructuring of the sector underpins the appropriateness of transfers as a strategic option for credit unions.

All relevant stakeholders made an important contribution to the transformation of the credit union sector through the restructuring process initiated in 2013 by ReBo⁶.

Under our Intervention and Restructuring activities, we continue to facilitate ongoing consolidation. The impact of restructuring activity is the subject of a recently published Central Bank report entitled: “Thematic Review of Restructuring in the Credit Union Sector”. The report includes analysis of the performance of transferee credit unions that engaged in restructuring compared to peers. Positively, transferees are experiencing higher levels of lending growth and lower operating cost growth. They have also achieved higher, albeit modest, increases in return on assets. These outcomes are welcome evidence of some of the positive benefits of restructuring, albeit this is somewhat qualified by the fact that cost income and return on asset metrics across the sector remain challenged.

It was widely expected that restructuring would lead to a widespread closure of transferor credit union offices. However, the majority of transfers (77%) have involved no reduction in business locations. Restructuring has therefore secured the continued physical presence of credit union services within common bonds in most cases. This, of course, represents both an opportunity and a challenge. As outlined in the report, enlarged branch networks are presenting increased scope to offer a broader range of services to a wider membership base. Scope to invest in the financial services that members require will be an important factor in the ability of credit unions to become financial service providers of choice. But physical branch networks are also expensive to operate and weigh on the cost income position, and accordingly, require effective integration. 

It is a matter for individual credit unions to determine their business model. For those interested in expanding their membership and common bond, we encourage you to consider restructuring as a strategic opportunity. It is important to stress that credit union boards should also consider qualitative as well as quantitative aspects of potential transfers as part of their strategic thinking, including wider issues such as board composition and expertise, management, staffing, culture and overall fit.

As the Commission on Credit Unions noted, restructuring is not only a strategy to address weakness, but also to provide opportunities to realise scale economies and develop a more sophisticated business model⁷. A significant portion of the recent wave of restructuring was aimed at addressing weaknesses – in the future, there are opportunities for strategic growth as the driving force for restructuring.

The Central Bank recognises the important leadership role CEOs and management teams played in driving sector restructuring to date. Going forward, it is expected that CEOs will continue to play a pivotal role in future restructuring activity. As CEOs you are responsible for the preparation and proposal of strategies for consideration by the board.  We encourage you to continue to consider the strategic benefits of restructuring for potential transferees and transferors, and most importantly, for members.

This brings me to our third strategic priority.

Regulatory Development and Safety Nets

Credit unions benefit from a tailored and proportionate regulatory framework that is responsive to prudentially justified change.

The Central Bank is committed to ensuring that the regulatory framework for credit unions remains tailored for the sector, and reflects an appropriate level of proportionality. Since the crisis, both legislative and regulatory change has been facilitated where prudentially justified, and on foot of the sector’s desire for specific accommodations.

A comprehensive change to the legislative framework in 2012 followed the Commission on Credit Unions’ report. This led amongst other things to the enhancement of the governance regime for credit unions, and the creation of ReBo in 2013 to support voluntary sector restructuring. The Central Bank introduced a tailored fitness & probity regime for credit unions in 2013. Under the Central Bank’s new regulation making powers, which applied from 1 January 2016, further regulation changes introduced included:

• Revisions to the credit union savings regime in 2016 (to protect members’ funds).
• Changes to the investment framework in 2017/2018 (to enable greater diversification in investment portfolios and accommodate the provision of funding for social housing).
• Proposed revisions to the lending framework in 2019 under CP125 (to facilitate credit risk diversification while effectively managing duration and concentration risks).

Some have advocated for tiered regulation as a solution for the sector in overcoming its business model challenges. The Central Bank’s regulatory powers have facilitated practical forms of tiering to enhance the proportionality of the credit union framework – an approach endorsed by the CUAC Implementation Group in its recent report⁸. These practical forms of tiering include:

• Changes introduced in 2016 permit larger credit unions with total assets in excess of €100M, to seek approval to hold individual member savings in excess of €100,000.
• Under the ‘additional services’ regime, in 2017 the rollout of MPCAS facilitated the provision of full service current accounts by larger qualifying credit unions.
• New regulations introduced in 2018 permit larger credit unions to invest a higher amount in Tier 3 approved housing bodies for social housing, as a proportion of reserves.
• The three new PCFs⁹ introduced in 2017, only apply to credit unions with assets of at least €100M.

Whilst these changes are positive, the regularity of legislative and regulatory change concerning credit unions comes at a cost. Energy and precious resources are being dissipated through an over emphasis on regulatory change as the panacea to address the sector’s commercial challenges. That energy and precious resources might more usefully be dedicated to business-related change in credit unions in the first instance.

This brings me to my fourth and final area. 

Business model development

Whilst some credit unions are undertaking business model transition and others have yet to take steps in that regard, how should the process be approached?

As outlined earlier, some credit unions are seeking to navigate a future path based on a vision of being the financial service provider of choice for their members.

Where there are regulatory considerations to be clarified with your business model evolution, we have demonstrated our openness to engage constructively on these topics. In the past year, in addition to our sectoral consultations on the investment, fitness & probity and lending frameworks, we have provided additional service approval to credit unions for multi-agency insurance intermediation activities, as well as MPCAS.

In terms of prudent business model evolution, board and management ownership of strategy and implementation are crucial. A risk-focussed approach is also critical to employing the resources and developing the capability and capacity needed to undertake prudent business model change.

Addressing competition and ensuring you remain relevant to future generations of credit union members, is your business imperative. Formulating effective and coherent strategies to address your commercial and competitive challenges, is your responsibility. Unfortunately in too many credit unions, we see strategic planning being treated as a compliance exercise by boards and management, as opposed to a central input to determining future business model sustainability.

Business Model Sustainability

We recently published guidance on Business Model Strategy where we define sustainability as ‘successfully responding to external change drivers and unforeseen risk events, while continuing to provide valued products and services to members today and into the future’. Sustainability is highly dependent on credit unions managing the flexibility that exists within your regulatory framework, to optimise your competitiveness.

To actively and confidently participate and contribute to business model strategy, directors and managers need to develop the requisite competencies. This is an area for collective collaboration in providing required learning and development programmes. For CEOs, it is an area that CUMA can take a leadership role in.

The purpose of our recent Business Model Strategy guidance paper is to address the need for a structured, risk-focused formulation and implementation of such strategy. Our guidance sets out a range of risk considerations covering critical areas and our expectations of you in addressing them.

The guidance does not seek to promote or propose a particular business model. It is a matter for you and your board to determine your desired business model and enabling strategies, commensurate with your ownership of your own business model development.

Communication and Engagement

As you know we engage proactively and transparently with the sector, and value our direct bilateral interaction with the sector and its leaders. It is clear that the Registry undertakes far more extensive engagement with the credit union sector, than with any other sector regulated by the Central Bank.

Therefore, it would be remiss of me not to emphasise the variety of supports made available to credit unions, through our multi-channel engagement with you, including:

• our onsite and off-site engagement designed to enhance the safety and soundness of your core foundations through our proportionate supervision of credit unions;
• our important sector communications on cross cutting issues, including guidance and thematic reviews, which support boards and you as managers, in addressing key risk vulnerabilities – our Business Model Strategy guidance being one recent example;
• our regular meetings with trade bodies and other stakeholders;
• our engagement with you on business model change through our dedicated Business Model Engagement team;
• our engagement with you on continually evolving an already tailored regulatory framework, through regulatory responsiveness;
• our Information Seminars;
• our Credit Union Workshops, aimed at supporting credit unions of differing sizes, in addressing risk vulnerabilities, and by extension, strengthening core foundations; and
• our participation in a CEO-led Forum on Business Model Development, aimed at supporting you as CEOs on business model change. 

Conclusion

It has been a difficult ten years for financial services in general. Whilst most credit unions weathered the storm given strong regulatory reserves and a limited exposure to larger property-based loans, the crisis aftermath has been a difficult one. It has been characterised by low interest rates, reduced credit demand and technology led-change. This is forcing credit unions to evolve their business models to remain relevant to members in the future. 

Business model change was identified over ten years ago as being necessary for the Irish credit union sector. Notwithstanding the transformative impact of the financial crisis and technology on retail financial services, the credit union business model remains largely unchanged.

Credit unions have a clear advantage in the strength of your brand and the deserved trust of your members. This is a strong foundation from which to undertake business model transition, and that trust is a key point of differentiation for the sector. Translating that trust, currently expressed in savings, to increased member borrowing is your challenge.

Some advocate that mortgage and commercial lending are the answer. Whilst they may form part of a balanced loan portfolio, the challenge is to deliver returns on a sustainable basis recognising inherent product cyclicality, maturity transformation and concentration risk issues. Credit unions should be cautious about engaging in new areas where established incumbents with size and scale advantages, have themselves encountered difficulties. A gradual approach to new areas such as mortgages and commercial lending is considered prudent, until competence is developed.

Meaningful business model transition as measured by business process efficiency, the cost to serve and the availability of choice valued by members, has yet to gain sufficient traction. It requires collaboration and business process change to be undertaken to begin with. Ultimately it will require member needs to be met and fulfilled on a basis that translates into diversified income generation and sustainable financial returns.

Credit unions benefit from a tailored and proportionate framework that is responsive to prudentially justified change. However, the regulatory framework is not a catalyst for credit union business development or for product and service innovation.

Successful credit union movements internationally have pursued their vision of providing a full service retail banking model. In transitioning, they have shown regulatory change responds to the needs of credit union business model transformation, rather than leads it.

Sustainability is highly dependent on credit unions managing the flexibility that exists within your regulatory framework, to optimise your competitiveness.

The key elements necessary for credit unions to engage in meaningful business model change are in place today. It now rests with credit union CEOs to drive the required business change process, in order to provide valued choice to members on a basis that is sustainable.

I will conclude by thanking you for your attention, and would like to wish you well for the remainder of your conference.