SAN BERNARDINO, Calif.-The turnaround, by all appearances, seemed impressive.
Arrowhead Credit Union, which had posted staggering losses of $29 million in 2008 and $47 million in 2009-the latter figure weighed down by $79 million in loan and lease loss provisions-managed to eke out a gain of $752,000 during Q4 2009, followed by net income of $2,591,932 in Q1 of this year.
During a June 8 interview with Credit Union Journal Larry Sharp, the long-time president of the $875-million Arrowhead CU, noted ACU was "plus $4.68 million year to date, so more than $1 million per month."
That's why NCUA's decision to place Arrowhead into conservatorship on June 25 it caught not just Sharp by surprise, by many other observers within the credit union community.
The response to the regulator's move was immediate and, in many cases, strongly negative. David Chatfield, the interim president and CEO of the California and Nevada CU Leagues, pulled no punches.
"The conservatorship of Arrowhead is surprising and disappointing," Chatfield declared. "The NCUA's claim the credit union was in declining financial condition flies in the face of the facts. I was on (the NCUA) board and I know there are two sides for every story, but in this case I see little justification for NCUA doing what it did."
But NCUA, after several days of similar criticism, is now reporting that its decision was based in part on financial reports that were faulty.
John McKechnie, spokesperson for the regulator, told Credit Union Journal, "Arrowhead Credit Union posted inaccurate financial data in its March 2010 Financial Performance Report, specifically regarding losses in the loan portfolio. The credit union presented a safety and soundness concern, necessitating the recent conservatorship. NCUA took the action to preserve credit union member assets and ensure continued service to members. NCUA also put in place expert management in an effort to improve Arrowhead's declining financial condition."
Truth Is Out There?
Credit Union Journal requested that NCUA fact-check several specific statements made by Sharp during the June 8 interview, including:
• "We cut operating expenses to less than $20 million in 2009, from $30 million in 2008. Expenses were down 39%, 2009 from 2008. Many things that we put in, including closing branches, shortening hours in some branches, cutting staffing, cutting benefits, will continue into this year. We hope by 2011 to restore some of those things."
• "We are selling five branches to Alaska USA. The deal will go final by the end of June, which will hopefully give us between 50 and 80 basis points, depending on how many dollars of the shares in those branches convert to Alaska USA. We expect to have our net worth ratio back over 4% by the end of June." (Arrowhead did complete the sale of the branches.)
• "We are continuing to be profitable on a month-by-month basis. By the end of the year we hope to pick up another 50 basis points on our net worth. Our target is to get to 4.75% or 5% by the end of 2010. Our concern is getting built back up to where we are not as much at risk. Regulators want to see us get there as well. If you look at our delinquencies and charge offs, they have been continually coming down-delinquencies for a year now, charge offs for nine months."
In response, NCUA's McKechnie said, "Much of the information you are requesting is part of Arrowhead's examination process, and therefore non-public. Other data will be made available when the 5300 report showing correct numbers is issued. NCUA staff is continuing to work on getting accurate information."
McKechnie said the sale of the branches to Alaska USA was "not sufficient to remedy the credit union's poor financial condition and offset ongoing deterioration in Arrowhead Credit Union's loan portfolio. In fact, losses at Arrowhead were continuing. The credit union was not reversing negative trends and was not on a trajectory to return to profitability. The most prudent course of action was for NCUA to assume control of Arrowhead in an effort to prevent further losses and preserve member assets. NCUA is conducting a thorough review of Arrowhead's operations, and will make a determination about the future of the institution when that review is completed."
A Difference of Opinion
Chatfield said he finds NCUA's explanation less than satisfying.
"I am not privy to the inside stuff, but as I understand it there was a disagreement between Arrowhead and NCUA," he said. "NCUA was asking for millions of additional dollars to go into Arrowhead's Allowance for Loan Losses, but the credit union's management said there was enough in there. If it is, in fact, a difference of opinion regarding funding of the Allowance for Loan Losses, that is not the same as inaccurate numbers in the books. But we won't know because NCUA won't tell us. Arrowhead already had one of the highest Allowances for Loan Losses in the country for the size of its loan portfolio. A disagreement with the regulator is unfortunate, and the regulator has the hammer-as we have seen."
Chip Filson, president of Washington-based consultancy Callahan & Associates, has also been outspoken in criticizing the conservatorship. Filson, who served as NCUA's director of the Office of Examinations and president of the Central Liquidity Facility prior to co-founding Callahan & Associates, published a lengthy analysis on the creditunions.com website stating the agency "removed four career employees and a small volunteer board without due-process and without the benefit of any information to which the Arrowhead representatives could respond."
• Arrowhead's Allowance for Loan Losses has increased to more than 60% of total capital, from 6%, in the last two years.
• ACU's core earnings ratio is 200% higher than the national average.
• ACU's loan delinquencies have declined 41% from their peak in 2009.
• Arrowhead's provision expense has been greater than actual charge-offs throughout the financial crisis.
• ACU's Allowance for Loan Losses as a percentage of total loans is four times the industry average, and its coverage ratio is 275% higher than average.
• Operating expenses have been reduced for five consecutive quarters, and Arrowhead now has an expense ratio lower than the industry average.
"The general nature of NCUA's explanations and absence of factual, objective information causes one to ask whether the Agency had its mind made up to take over the credit union and is now seeking the facts to justify its action," Filson wrote. He later repeated the latter comment in an interview with Credit Union Journal.
"The whole serial explanations given by NCUA tells me it planned the conservatorship weeks in advance and now they want to make the facts fit," he asserted. "NCUA has not given Arrowhead's management and board a way to respond. NCUA has seen the delinquency trends for two years. That is one of the first things an examiner looks at, and they must have seen the delinquencies are declining. If the facts are not correct, NCUA has had more than a year to say 'those aren't right.' If Arrowhead is supposed to put more in reserves, it already has two-and-a-half times in reserves than it has delinquencies."
Arrowhead's numbers are "so dramatic they almost speak for themselves," Filson continued. Not only in absolute numbers, he explained, but in comparison to other credit unions and the CU's history.
Positive Story Turned Negative
"There is a very, very positive story for a turnaround," Filson argued.
The decline in Arrowhead's delinquency numbers is significant, Filson said, adding delinquency is an area where experience and knowledge of a credit union's members is critical in making judgments.
"It is difficult to come in off the street and say 'that's right' and 'that's wrong.' It will be very interesting to see what numbers NCUA thinks are inaccurate. All I can do is look at the history of Arrowhead's charge-offs and provisions. For nine consecutive quarters, other than the last one, Arrowhead has provisioned more than it charged off."
To Filson, the conservatorship of Arrowhead means there are no rights left to the members, instead there is "absolute control" by NCUA. Some might say "that's life," he acknowledged, but the key point, he said, is 150,000 members have had a critical financial institution taken away from their control during a time of economic turnaround. The borrowers, the savers and the small businesses that rely on this institution have to be wondering "What is going on here?"
Filson added, "So this is even more tragic. The region has lost four banks, and now the biggest credit union is taken away. What you'd really like to see is the credit union returned to the board as soon as possible. Otherwise there is a government agency trying to determine the future of a local institution. The longer NCUA hangs onto it and offers unsubstantiated innuendo as an explanation, it becomes a self-fulfilling prophecy. If new management comes in without knowledge of why and when things were done and start calling members' loans, that will go through the community in an instant. Unless the credit union is returned to the board, and very quickly, it is a tragedy that can only descend further."
In an unusual move, NCUA has placed the managers removed in the conservatorship on paid leave. It has named veteran credit union executive P. Kay Woods as interim CEO.