Why Are More Credit Unions Buying Community Banks?
KEY
TAKEAWAYS
- Acquiring banks and thrifts has become another way for
some credit unions to grow in size.
- *This trend is growing but remains small—only seven
deals in 2018—because of regulatory and business-model challenges.
- Small banks with strong community ties and banks with
different specialties, such as business lending, can be appealing to
credit unions.
*Note: Credit unions have acquired 21 U.S. banks since 2018, according to S&P Global Market Intelligence, compared with 12 purchases in the prior five years. .
By Andrew P. Meyer
Thursday, April 11, 2019
In the current banking environment,
there is a strong perception that bigger is better. Although banks and thrifts
(hereafter referred to as “banks”) have been consolidating for decades, the
trend has accelerated in recent years. One factor driving this trend is
regulatory compliance costs. Research using data from the Conference of State
Bank Supervisors (CSBS) 2018 National Survey of Community Banks has shown that
the bigger the bank, the less it spends on regulatory compliance as a
percentage of total noninterest expense.1
Credit unions also face economies of
scale. In addition to other constraints on their
growth, they have field-of-membership requirements: a common bond, a multiple
common bond or a community bond. State-chartered credit unions may have
more or less restrictive membership criteria, depending on the state.
Restrictions on their field of membership have relaxed over time, giving credit
unions more options for growth than ever before.
One way to grow, of course, is
organically—building new branches or obtaining new customers via advertising or
through special deals. A much faster way to grow, however, is to purchase
another financial institution and integrate it into existing operations.
Historically, the vast majority of credit unions expanding via acquisition have
done so by buying other credit unions. In the last few years, however, there
has been an increase in the incidence of credit unions buying banks. Indeed,
there was only one such transaction in 2012, but it had grown to seven transactions
by 2018.
Acquiring
a Bank vs. Another Credit Union
So what would entice a credit union
to pursue a bank instead of another credit union? For one thing, it may be the
fastest way to expand into new business lines that are more closely associated
with banks (for example, business lending). The average ratio of business loans to
total loans for the acquiring credit unions in the quarter before the
transaction was 8.6 percent, whereas the average for the acquired banks was
33.8 percent. The acquisitions of the commercial banks raised the
business-loans-to-total-loans ratio in the credit unions to 10.9 percent.
Moreover, like credit unions, small
community banks tend to have strong community ties and know their customers on
a more personal level than their large-bank counterparts do. This strong
community relationship can be an asset to the acquirer.
Field-of-Membership
Issues
Of course, one potential roadblock
is field of membership, and a credit union must plan for such considerations
early in the process. For example, if a credit union’s membership is limited to
employees of a particular corporation, it would be hard-pressed to find a
commercial bank whose customer base covers only those same employees.
On the other hand, if a credit
union’s field of membership covers all residents of a particular state, it
would not be difficult to find a small community bank that serves only that
state or a small portion of that state. If that portion is located somewhere
other than where the majority of the purchaser’s existing members are located,
there is an added bonus of geographic diversification along with some new
employees who are familiar with the new area.
It is possible to petition one’s
regulator to change the field-of-membership constraint, but there is no
guarantee of success, and such a move would need to take place well in advance
of any purchase discussions.
Other
Regulatory Issues
Once a merger has been consummated,
the former commercial bank no longer exists as a legal entity, and the
acquiring credit union may not use the word “bank” on any of its signage or
literature. It must also make clear to depositors that they are no longer under
the protection of the FDIC Deposit Insurance Fund, but rather the National
Credit Union Share Insurance Fund. Of course, banks that switch from a
national charter to a state charter, or vice versa, also face regulatory
issues.
The
Bank’s Decision to Sell
The decision to sell a bank is never
an easy one. The banks in Table 1 (see below) that have
engaged in these transactions are quite small, all well under the $500 million
mark. If a bank is struggling to maintain profitability only because of its
small size, then a wide variety of financial institutions would likely be able
to benefit from the purchase. If the problems are more complex than a mere
inability to take advantage of scale economies, however, there are reasons to
believe that a credit union might be a preferable suitor.
First, credit unions do not
necessarily have the same pressure to generate a return on investment for their
shareholders. Rather, credit unions need only cover
their operating costs, provide satisfactory member services and maintain an
adequate regulatory capital base. Thus, if a target bank’s profitability is
under pressure, a credit union buyer might be more willing to take a chance on
the purchase. For the 19 banks listed in Table 1, six of them had a negative
return on assets (ROA) as of the quarter before the transaction, and the
average ROA was only 0.08 percent.
Second, credit unions might be
willing to pay a higher price because of their favorable tax treatment. Unlike
commercial banks, credit unions are not subject to profit taxes. If a bank is
organized as a C corporation, its profits are taxed once at the corporate level
and then taxed again at the individual level when they are distributed to
shareholders as dividends. If a bank has fewer than 100 shareholders and
satisfies some other size and complexity criteria, it can organize itself as a
Subchapter S corporation. For these banks, profits are not taxed at the
corporate level, but they are still taxed at the individual level when they are
passed through to the shareholders. Credit unions, in contrast, do not pay any
taxes at the corporate level, nor do they pass any tax liability to the owners
of the organization, namely the members of the credit union. This favorable
treatment may make it more likely for a credit union than a commercial bank to
purchase a marginally profitable community bank.
Finally, as noted above, small
community banks tend to have deep ties to their customers and take pride in
fostering their communities’ growth and financial security. Other things equal,
the owners of these banks might prefer to sell to an organization that has
similar customer-oriented values. That is, they might feel that they have more
in common with the culture at a neighborhood credit union than with the culture
of a distant large bank.
Conclusion
Only time will tell whether credit
unions will continue to buy banks at an increasing rate. Because of all the
regulatory and business-model barriers involved, it will likely never be a
dominant transaction type, but there are clearly times when it makes business
sense.
Other credit unions will likely
study the financial performance of these “early adopters” to determine whether
to pursue their own bank deals. If the acquiring credit unions can successfully
navigate the different cultures, regulations and business models, and if they
can retain enough of the employees and customers, these transactions have the
potential to be a win for all the stakeholders involved.
Table
1
Transaction
Date
|
Buyer
|
Credit
Union Type
|
Credit
Union Assets (in millions)
|
Name
of Acquired Bank
|
Acquired
Entity’s Primary Regulator
|
Acquired
Entity’s Assets (in millions)
|
Size
Ratio of Seller to Buyer
|
1/1/2012
|
United FCU
|
Federal
|
$1,344.3
|
Griffith Savings Bank
|
FDIC
|
$85.2
|
6.34%
|
3/1/2014
|
Landmark CU
|
State
|
$2,308.8
|
Hartford Savings Bank
|
FDIC
|
$175.4
|
7.60%
|
4/1/2014
|
Municipal Employees’ CU of
Baltimore
|
State
|
$1,242.6
|
Advance Bank
|
OCC
|
$54.2
|
4.36%
|
6/1/2014
|
Five Star CU
|
State
|
$258.9
|
Flint River NB
|
OCC
|
$19.2
|
7.41%
|
11/1/2015
|
Five Star CU
|
State
|
$323.9
|
Farmers State Bank
|
FDIC
|
$44.7
|
13.81%
|
12/1/2015
|
Achieva CU
|
State
|
$1,195.2
|
Calusa Bank
|
FRB
|
$167.3
|
13.99%
|
5/1/2016
|
Avadian CU
|
State
|
$645.4
|
American Bank of Huntsville
|
OCC
|
$107.1
|
16.59%
|
8/1/2016
|
Advia CU
|
State
|
$1,218.2
|
Mid America Bank
|
FDIC
|
$81.3
|
6.68%
|
8/27/2016
|
Royal CU
|
State
|
$1,855.6
|
Capital Bank
|
FDIC
|
$35.4
|
1.91%
|
3/3/2017
|
Family Security CU
|
State
|
$587.8
|
Bank of Pine Hill
|
FDIC
|
$20.1
|
3.42%
|
6/1/2017
|
IBM Southeast Employees’ CU
|
State
|
$979.3
|
Mackinac Savings Bank FSB
|
OCC
|
$111.5
|
11.39%
|
9/1/2017
|
Advia CU
|
State
|
$1,437.7
|
Peoples Bank
|
FDIC
|
$226.6
|
15.76%
|
4/21/2018
|
Lake Michigan CU
|
State
|
$5,461.2
|
Encore Bank
|
FDIC
|
$391.6
|
7.17%
|
6/15/2018
|
Mid Oregon FCU
|
Federal
|
$289.1
|
High Desert Bank
|
OCC
|
$20.3
|
7.03%
|
8/1/2018
|
Georgia’s Own CU
|
State
|
$2,342.7
|
State Bank of Georgia
|
FDIC
|
$96.2
|
4.10%
|
9/1/2018
|
Superior Choice CU
|
State
|
$417.5
|
Dairyland State Bank
|
FDIC
|
$79.8
|
19.11%
|
9/29/2018
|
LGE Community CU
|
State
|
$1,296.2
|
Georgia Heritage Bank
|
FDIC
|
$94.3
|
7.28%
|
10/1/2018
|
Achieva CU
|
State
|
$1,743.4
|
Preferred Community Bank
|
FDIC
|
$115.9
|
6.65%
|
11/1/2018
|
Evansville Teachers FCU
|
Federal
|
$1,568.8
|
American Founders Bank
|
FDIC
|
$88.3
|
5.63%
|
SOURCES:
The National Information Center
ABOUT THE AUTHOR
Andrew P. Meyer
Andrew Meyer is a senior economist
at the Federal Reserve Bank of St. Louis.
