Collaborating for Survival

1. Collaborating for Survival Credit Union Association of the Dakotas 2012 Annual Summit Guy Messick www.CUSOLaw.com

2. The Function of Collaboration • Collaborations help credit unions solve the problems of survival (too little income and too high expenses) by leveraging scale, expertise and efficiencies. • Collaboration can help turn problems into opportunities.

3. Collaboration and CUSOs • Credit unions can collaborate directly or through CUSOs. • CUSOs offer the structure to gather capital and govern an on-going collaboration. • In some cases a CUSO is needed to legally provide a particular service.

4. Collaboration Killers • Failure to see the urgency to collaborate…no need to consider changing something that has worked for 50 years (assumes all industry and external factors remain unchanged). • Fear of the unknown…fear of getting out of your comfort zone. • Fear of losing authority or prestige… authority within a collaboration is shared. • Lack of expertise or resources.

5. CUSO’s Basics • A limited liability company, corporation (for-profit and cooperatives) or limited partnership in which a credit union has a investment or loan • Investment and loan limits • NCUA: (Part 712) Each limit is 1% of paid-in capital and unimpaired surplus • North Dakota: (13-03-23-06) Each limit is 10% of equity

6. CUSO Basics • Customer base – primarily credit unions or members of affiliated credit unions • Singly owned CUSOs, CUSOs multi-owned by credit unions, multi-owned CUSOs with some non-credit union owners • Conflict of interest rules with credit union officials

7. CUSO Basics - Types of Services • Financial Services • Insurance Agency – Trust Services – Real Estate Brokerage - Broker/Dealer • Operational Services • Marketing – Collections – Compliance - Internal Auditing – Loan Underwriting and Servicing – Originating Mortgage, Student, Business and Credit Card Loans – IT Services – Management and Personnel Support – Shared Branching – Disaster Recovery - Bulk Purchasing – Vendor Management

8. CUSOs 1.0, 2.0 and 3.0 Point to Point A Hub A Network

9. A new reality exists…and it really stinks.

10. Popping the Credit Union Income Streams Anemic Net Interest Margin Anemic Investment Opportunities Loss of Interchange Income Reduction in Overdraft Fee Opportunities

11. Net Interest Margin

12. Seventy plus years of living off the net interest margin… …no longer works in the 21st Century.

13. Dramatic Increase in Operational Costs Technology Compliance New Financial Services Accounting & Auditing Compensation

14. Strong Downward Pressures on Pricing Larger competitors have lower technology costs per transaction Internet competitors have a much lower cost structure

15. No Risk Mantra from the Regulators

16. Capital Drain Was that guy from NCUA here again?

17. RESTORE CAPTIAL

18. Before the economic crisis, credit unions have been consolidating at a rate of over 3% a year Source: Callahan’s Peer to Peer Software

19. What is the future of an industry where… The industry is no longer able to sustain itself in the traditional business model; Competitors have overwhelming advantages in both the ability to raise capital to fund opportunities and obtain scale to reduce operating costs; The industry’s customer base is limited; and The industry tends to be risk averse and slow to change?

20. The New Reality • The financial world has changed forever. The old model no longer works. • The number of credit unions is shrinking at a rate of about one per day. • There is an urgency for credit unions to act before it is too late. • How should we react to all of this?

21. Leave Me Alone

22. Just as members working together are stronger, credit unions working together are stronger.

23. The Power of Owner/Users no structural conflicts Owners fix user problems and users reap the ownership benefits.

24. Path to Capital Growth and Sustainability • More income: interest & non-interest • Less operating expenses: cut & scale • Acquire capital: merger & secondary capital

25. Collaboration StrategyFor Capital Growth • More interest income – non-member loans, higher risk loans • More non-interest income – CUSO approved financial services and Incidental Power income • Reduce cost and increase expertise through collaboration in operational services • Leverage outside capital

26. Innovation Credit unions are by nature “in the box” organizations that provide basic lending and depository services within a tight regulatory framework. By comparison, CUSOs offer a much more innovative and entrepreneurial environment that can put capital to use to provide scale to reduce expenses while increasing expertise.

27. Does collaboration really work?

28. CUSO Success Stories Open Technology Solutions Land Bound Title CU*Answers CUSO Financial Services CU Student Choice CU Realty Ongoing Operations MAPS Building CUSO Collection Services CUSO Unity Xchange

29. If collaboration is needed for my credit union to survive, how do we transform our business model?

30. Prepare the Soil Prepare the soil for collaboration to take root.

31. Operating a credit union in a collaborative environment Shared IT Shared Business Lending Credit Union Internal Staff Shared Vendor Management Shared Compliance

32. Adopt a Collaborative Mindset • Is there anything you will not collaborate on (e.g., member facing services)? A collaborative solution is considered for all other activity. • First seek an existing collaborative solution. • Second consider forming a collaborative solution. • Third, go it alone.

33. Develop Credit Union Policy and Staff to Support Collaborations • Develop a Co-Source Policy for operational and risk management purposes. • Reorganize the management structure to include a staff position to implement the policy (“Co-Source Manager”).

34. Co-Source Policy • Set desired benefit objectives. • Prioritize the services that will be co-sourced. • Identify the criteria for the selection of co-source partners. • Establish the method of establishing performance criteria.

35. Co-Source Policy Establish the method of measuring and reporting on the performance of co-sourced services. Establish the method of curing deficiencies in the performance of co-sourced services. Establish specific staff responsibilities and align their performance metrics to promote the success of the co-sourced services.

36. Finding Good Partners • Compatible • Goals • Style • Resources • Commitment • Urgency • Truthful • Trustworthy

37. CUSO 3.0Building a NetworkA Peek at the Next Generation of CUSOs

38. CUSOs 1.0, 2.0 and 3.0 Point to Point A Hub A Network

39. $28 Billion of Capacity to Trade

40. The Network • Collaboration as a means of operations and not for specific services • Transparency of intellectual capital among the credit unions - share best practices • Share excess capacity and expertise among credit unions • Find the best providers for the job within or outside of credit unions – peer rated • The Network seeks out opportunity for the credit unions – initiative and innovation are rewarded

41. Next Steps: The Challenge of Change.

42. Change requires you to… • Accept that a collaboration strategy is essential to the sustainability of credit unions. There must be a sense of urgency. • Understand that the benefits of scale require the significant revisions your business model and that will impact your employees. • Convince some staff, impose your will upon others and replace the rest to make the necessary changes.

43. Change requires you to… Give up some personal control by trusting and working with others in a collaborative model. Not tolerate mediocrity and reward results. Look outside the industry for ideas. Take on the criticism associated with change. Experiment with new solutions to old problems. Get excited about the opportunity to innovate and design new business solutions.

44. Problems cannot be solved by thinking within the framework in which the problems were created. Albert Einstein

45. And the trouble is, if you don’t risk anything, you risk even more. Erica Jong

46. What do we do now? • Ignore all this and plan your merger strategy • Develop a collaboration mindset • Network for expertise and ideas • Write down your Top 10 Problems & Opportunities and share them • Implement some quick successes and become comfortable with your partners

47. Low Hanging FruitOperational Services • Marketing • Collections / Bankruptcy • Compliance • Internal Auditing • Loan Processing and Servicing • Bulk Purchasing • Excess Staff Capacity • Vendor Management

48. Low Hanging FruitFinancial Services with Third Parties • Title Insurance Agency Joint Venture • Investment Services Network Agreement • Property and Casualty Insurance Services Network Agreement • Real Estate Brokerage

49. Who are you having lunch with and when? Discuss Your Top 10 Problems & Opportunities

50. The risk of doing nothing now exceeds the risk of change. Transformational times call for transformational changes.