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The Folly of a Poor Project Management Process

Credit unions are no longer what they were. At one time, they braved a new path in the banking world with the assistance of SEGs, and filled an open need for workers in America. That need is still there but many credit unions have grown from servicing singular employers into servicing entire communities. With that great responsibility, these credit unions have put training programs in place for their front-line staff – especially tellers – because this is where the members interact most.

What they are missing is training in other areas of the credit union that might have less direct member impact, yet greater indirect member impact. One of the best examples of this is the credit union’s project management process.

For any credit union that has ever tried to take on a meaty project (e.g., installing a new core, transitioning a loan origination system or relocating a facility) the strength of their project management process will never be more evident.

If that project was completed on time, in scope, and in budget, then the credit union employed a strong project management process.

If that meaty project was completed somehow, by the skin of their teeth, well past deadline and decidedly over budget, then that credit union employed a weak project management process.

Here are some of the key things that go wrong when credit unions are weak in project management:

  • There is not an executive sponsor or the executive sponsor is not appropriately engaged
  • The credit union does not develop a formal project plan for its bigger projects
  • A tracking system is not created that is capable of providing variance analysis data
  • No one attempts to manage project scope and or key stakeholders have different understanding of the scope, schedule or resource changes throughout the project’s life cycle

The above list of project management fails could be avoided if credit unions take time to train key people on successful project management – for the benefit of the credit union and its members.

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Thinking of Growing Your Loan Staff? Think Again

GOOD NEWS: Loan volume is up.

BAD NEWS: Your lending manager is saying, “We need to hire more people!” Also, the current staff is working overtime.

GOOD NEWS: You may not have to add staff and you may not need to pay overtime.

Before you decide to add staff, step back and answer these questions:

  • How do we know we are using our existing staff to its fullest?
  • How do we know our loan processes are stripped of non-value added steps so we can handle more volume without hiring more people?

Consider the sample credit union below. Before asking these two questions, it was taking the credit union roughly 6,400 minutes or 4 days to make a decision once a consumer loan application was received. Once approved, it was taking roughly 16,400 minutes or 11 days to fund the loan. Before passing judgment, do you know how long it takes your credit union to approve and fund a loan?

This credit union addressed these questions in May 2014. By November 2014, they had reduced the number of days it takes to make a decision on a loan application from 4 days to 1 and reduced the number of days it takes to fund an approved loan from 11 days to 4. They knew their work wasn’t done but they were pleased with the results they saw in less than six months.

As the process became faster and easier for members, the percentage of approved applications that were funded increased from 62%.

Imagine increasing lending capacity without increasing staff and funding a higher percentage of approved loans at the same time. It all starts with digging into those two questions.

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Voice your concerns NOW about NCUA’s consideration of adding a separate IRR component to RBC

If RBC 2.0 passes as written, each credit union defined as complex will be required to quantify their unique risks and maintain adequate capital to back those risks, all of which is to be supported by a written strategy.

Excerpt from proposed RBC 2.0, §702.101
(b) Capital Adequacy: “(1) Notwithstanding the minimum requirements in this part, a credit union defined as complex must maintain capital commensurate with the level and nature of all risks to which the institution is exposed. (2) A credit union defined as complex must have a process for assessing its overall capital adequacy in relation to its risk profile and a comprehensive written strategy for maintaining an appropriate level of capital.”

RBC 2.0 also advises that because the rule no longer proposes including interest rate risk, NCUA will consider alternative approaches to account for IRR at credit unions. These alternatives could include “adding a separate IRR standard as a subcomponent of the risk-based net worth requirement to complement the proposed risk-based capital ratio measure.”

Our question is: Why further muddy the waters by incorporating the complex issue of attempting to standardize the quantification of IRR into rule making?

Taking a one-size-fits-all approach by standardizing assumptions, or approaches to assumptions, guarantees that the unique risk of an individual credit union will not be appropriately captured.

It is important for credit unions to invest time to think critically about this issue and voice their concerns about the impact of adding a separate IRR component to the proposed credit-based RBC – before it is too late!

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Evaluating Derivatives―Part V: Economic Value Declines Over Time

Credit unions purchase derivatives to receive value: interest rate risk protection. This blog series set out to help decision makers understand the variety of outcomes they could observe over the life of a derivative, and how those outcomes will ultimately determine the value realized.

Over its life, derivative economic value is impacted by two forces:

  • Changing rate environments – which can increase or decrease economic value
  • Time – which continuously decreases economic value gains

Prior blog articles discussed the impact of changing rate environments on economic value. Regardless of the rate environment, economic value of a derivative will converge to zero at maturity. The value of the protection diminishes as the remaining time to maturity becomes less. Using our prior example of the 7-year swap, the chart below shows the economic value on day 1 and each year thereafter:

Note:  $s in 000s
Derivatives analytics provided by The Yield Book® Software.

The chart demonstrates the economic values for the various rate shocks as the time until maturity shortens. Compare the highest shocked environment shown, +500, the initial value of $26.4 million to the year 1 shocked value of $22.8 million. The year 1 value is materially lower because the swap only offers 6 remaining years of protection. Independent of the rate environment, by the end of year 7 the swap no longer has value since it matures.

Why is this important? If the swap was originally purchased to address a volatility issue in the credit union’s financial structure and that volatility persists, then over time the credit union will need to either adjust the underlying structure or will need to purchase additional swaps to maintain the same level of protection. It can be important to be clear about the objectives of the derivatives. Is the purchase designed to offset an existing risk and buy time until the root interest rate risk can be addressed? On the other hand, is the intent to, ongoing have, a business model incorporate additional interest rate risk and perpetually utilize derivatives to offset the risk?

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Capital Planning and Stress Testing

As the first round of NCUA supervisory stress tests are being completed, NCUA’s capital planning and stress testing rule for the largest credit unions might have you asking if you should be doing capital planning and stress testing too. Even if you are not a federally insured credit union with assets of $10 billion or more, it’s reasonable to ask if it’s a good practice.

Understanding risk exposures and being structured to survive a certain level of risk is key. All credit unions do some form of capital planning via their budgeting process (although not at the rule’s level), but stress testing is often lacking. If you’re interested in performing NCUA’s stress testing, they publish stress test scenarios for baseline, adverse and severely adverse scenarios. These are macro-economic scenarios that include the unemployment rate, market interest rates, GDP, etc., and must be translated into assumptions that affect the credit union’s projections.

NCUA is conducting the stress testing for the first three years and results aren’t public at this time. But the Federal Reserve’s approach to stress testing for banks, which NCUA’s stress tests were modeled after, shows that those macro-economic scenarios are turned into stress test assumptions by using the financial institution’s data, historical information and other regional and national data. If it’s overwhelming to think about creating assumptions for individual loans, step back to the bigger picture. The Federal Reserve’s emphasis is on how such assumptions should be justifiably tied to the economic stresses being modeled, rather than loan-level detail. In fact, banks commonly model portfolios segmented by such characteristics as product line, lien position and sometimes down to loan-to-value and credit score for material portfolios rather than at the individual loan level.

Whether you choose to follow NCUA’s stress scenarios or not, keep the bigger picture in mind. It’s not only about credit losses. Consider how high deposit growth and prolonged low loan demand continued to affect credit union profitability and net worth long after credit losses from the last recession subsided. Along with loan and deposit growth, assumptions for non-interest income and operating expense must also be constructed. How could regulatory changes affect fee income? What might be the cost of a security breach? What are the credit union’s unique risks?

It’s important to identify, quantify and aggregate key risks, recognizing that multiple risks can be realized at the same time. Ultimately, you want to know if the credit union can survive the identified risks and take appropriate action depending on the answer.

In capital planning and stress testing, as with any analysis, it is the process of thinking through the possibilities, causes and effects that yields good decision information. Credit unions can benefit from using a common-sense approach to stress testing with a level of sophistication that is supportable and which can be refined over time. The real value is when the results are understood by leadership and incorporated into business models, strategic planning and other areas of decision making.