Speech by Deputy Registrar of Credit Unions at CUMA Autumn Conference 08 September 2009 Speech Good Afternoon. Madam Chairman, members of the CUMA executive, ladies and gentlemen, I am delighted to have this opportunity to address your Autumn Conference. The Credit Union Managers Association has grown from strength to strength and is now firmly established. Over the years we have found speaking and interacting with managers at CUMA events to be of great value. The views expressed by managers form an integral part in developing our thinking and approach to policy making. Professional managers have an important role in helping to guide strategy and policy in individual credit unions to ensure the safety of members‟ funds and the well being of the sector into the future. The choice of theme for today's conference "Leading through Recession‟ is a clear illustration that CUMA recognises this responsibility and the need for managers to be proactive in this regard. Credit unions are principally about people coming together in a spirit of co-operation to help each other through access to credit. The „can do‟, "self help‟, philosophy that underpins the credit union movement throughout the world is the main driver of the business model. It is interesting that the recent "Amarach‟ research report „Investing in our Future‟ commissioned by the Irish League of Credit Unions found that there was a clear perception among respondents that credit unions in Ireland will play an important role in the recovery of the economy from recession. People are calling for leadership at this time and there is an expectation that the credit union movement will be once again at the forefront in helping its members to come through difficult financial and economic times. Credit unions are expected to help and no doubt credit unions will, as in the past, "step up to the plate‟ and support their members. Economic Environment The economic environment in which we now find ourselves is much changed. So far credit unions have stood up to the stresses arising from the downturn in the economy. On a consolidated basis, the movement remains robust. However, it would be foolish to deny that the credit union sector can escape the impact of the global recession without some damage. Credit unions should prepare for difficult times to continue and take preventative measures to protect their businesses. In this regard I want to briefly refer to what we see as the key issues in the following areas: Investments; Lending; Reserves; Dividends; and Compliance. Investments With regard to investments - most credit unions are continuing to take appropriate steps to reduce the risk in their investment portfolios. To a certain extent investment losses have already materialised in most credit union accounts - however, a word of caution. There may still be further losses given the breadth and range of investment products bought by credit unions over many years. At this time credit unions should keep investments liquid and low risk. Lending On the lending side - unprecedented pressures to provide credit and reschedule loans can be expected as more and more members come under financial strain. We fully understand this pressure and the need for member support in these difficult times. However, credit unions must be mindful of the safety of the savings of their members when making decisions in relation to member borrowers. In this regard the financial soundness and long term sustainability of the credit union must at all times be uppermost in the minds of directors and managers. Also on the lending side - we are currently seeing significant increases across the movement in loan arrears and the levels of loans being rescheduled. It is likely that over the next year or so there will continue to be a material rise in the level of arrears in credit unions and subsequently the level of bad debts. In terms of the true impact of the economic contraction on credit union loan books, the numbers we are seeing now may not be reflective of the true arrears picture given the normal time lag for arrears figures to feed through. In this respect, it is vital that credit unions continue to make adequate and appropriate provisions for bad and doubtful debts which truly reflect the quality of their loan books. Regulatory Reserve As you are aware we have just introduced a requirement for credit unions to maintain a minimum level of regulatory reserves. Strong overall reserves provide flexibility in supporting the business – especially in adverse economic conditions. The lack of adequate reserves could threaten the financial stability and ultimately the future of a credit union. The statutory reserve, in my view is much maligned and misunderstood. At best it is regarded as an inconvenience – a reserve that must be put aside by law. At worst it is seen as a "party pooper‟ in that it cannot be distributed by way of dividend. The fact that the statutory reserve has one very important function – i.e. it can prevent a credit union from becoming insolvent – appears to go unnoticed by some commentators. However, there are some credit unions who would not be operating today had they not had sufficient levels of reserves to absorb the significant unforeseen losses which they incurred. Putting reserves away for the rainy day gives organisations a chance of survival should the unexpected happen. So instead of looking at reserves in the negative sense – i.e. they can't be distributed - we must look on reserves as the "safety net‟ for the credit union. Over many years credit unions have prudently built a significant level of reserves within the movement. This has been by design rather than accident. Recognising the deficiency in the statutory requirement to build reserves the movement itself through the League resolved to put away higher levels of reserves than required under the Credit Union Act. Our intention, in establishing the regulatory reserve requirement is to build on what has gone before by seeking to maintain the current level of overall reserves within the sector and where necessary, increase reserves in credit unions to prudent levels as soon as is practicable. Transition provisions are contained in this regulatory requirement to cater for those credit unions that do not currently meet the required ratio. There is also flexibility built into the proposal to allow for those credit unions that report a surplus at the year end, but do not meet the required ratio, to pay dividends. We intend to implement this regulatory requirement in a pragmatic fashion, conscious of the need to strike an appropriate balance between distribution policy and reserve retention. Dividends Moving on to dividends - over the years, the payment of a dividend has become the central focus of credit union board. The level of dividend paid appears to have somehow become the sole indicator of performance on which credit union boards and management are judged. Whilst obviously dividends are important to saver members I would suggest that a sound and stable credit union underpinned with solid reserves to ensure its future existence and the safety of members savings is equally as important to the majority of credit union members. I am therefore advocating a move away from the level of dividend as the key performance indicator on which credit unions are judged. Financial soundness indicators such as level of reserves, asset quality and liquidity are equally important benchmarks against which the performance of a credit union can be judged and should be given greater prominence. This year credit unions will be under significant pressure to pay dividends from reserves. However, given the current economic and financial uncertainty, it is vital that credit unions maintain sufficient reserves to ensure that they can withstand the impact of future unforeseen events on their businesses. Compliance We regard the level of compliance in credit unions as a yardstick to measure how well credit unions are run and one which is key to making an informed assessment of risk to members savings. Compliance with regulatory and legal requirements should never be seen as optional – or as we like to call it "a la carte regulation‟ where you can pick and choose from the menu to satisfy your taste and requirements. The legal and regulatory framework contained in the Credit Union Act appears to have, so far, kept the credit union movement in good stead. This is not the time to relax compliance. Regulatory Structure I would now like to turn to the regulatory structure for credit unions. Credit unions have over the years increasingly strayed away from their original business model. The once clear focus on traditional business activities became blurred by credit unions straying into the more risky areas of banking business as they chased return. The dividend became the sole indicator of the success (or otherwise) of credit unions. Whilst the business model was changing the regulatory framework was not. From a regulatory viewpoint, the framework contained in the 1997 Credit Union Act was not designed to oversee the type and scale of business which has been carried on by many credit unions over the last number of years. Many credit unions manage large investment portfolios and in some credit unions lending has expanded into complex areas such as lending to buy sites, start–up finance and all types of business lending. Nowadays many borrowers are not savers and unattached savings across the sector stand at a higher percentage of total savings than is desirable. Having had the uncomfortable experience of being exposed to the brutality of the financial investment markets credit unions must not return to the high risk/high return investment policies of recent years. Significant losses on commercial type lending will also, leave a scar. However, in order to ensure the continued protection of members' savings, the current regulatory regime as outlined in the 1997 Credit Union Act must be enhanced, especially in the areas of governance and controls. Whilst we do not want to see credit unions being subject to excessive regulation, we do want to see an appropriate regulatory structure in place - commensurate with the risk being undertaken. Future Turning to the future and what is likely to happen over the next couple of years in the credit union sector. 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. Over the last number of years terms such as "credit union movement at a crossroads" have been trotted out many times. Some years ago I remember one director saying to me – "we are not so much at a crossroads as on a roundabout and we don‟t know how to get off". I thought this summed up the position perfectly. It has been very noticeable that there has been little in terms of proposals for change coming from within the movement. Whilst the 2006 report produced by the League's "Rationalisation Committee‟ did put forward some suggestions for change there has been little detectible advancement in this regard. It is likely however, that over the coming years some change could be forced on the sector by external market forces - as a result of the changed economic and financial environment. One such change might be the need for some form of rationalisation as credit unions find it difficult to continue on a stand alone basis. Rather than fear such developments we are of the view that the new financial landscape could offer opportunities for credit unions. The "Amarach‟ report has confirmed that in a time when public confidence in financial institutions is at an all time low, people continue to trust credit unions. To my mind, this is a key competitive advantage that is crying out for leverage. The "Amarach‟ research also identifies that members are open to new product and service innovations indicating that there could be an opportunity for credit unions to become the financial services provider of choice for many of its members. However if credit unions are to compete at the highest level they will need to develop standards of excellence in product development and service distribution, underpinned by strong governance, proper risk pricing, high quality IT systems and strict cost control - in conjunction with an appropriate legal and prudential regulatory framework. No organisation can avoid the need to adapt to a changing environment and the credit union movement cannot stand still if it wishes to develop and grow. A question arises however as to whether the movement has the commitment and focus to drive home whatever changes may be necessary - from within. We believe that with the right will and committed leadership it does. The dedication, common sense and skill of the volunteers within the movement, allied with the expertise of professional managers can be galvanised to drive the future development and direction of the credit union sector in a safe and prudent fashion. On our part we would wish to ensure that the regulatory framework (tailored to take account of, the unique nature and ethos of the credit union movement) is appropriate. Conclusion So in conclusion, credit unions must prepare themselves for an extremely difficult operating environment over the next few years. Directors and managers will need to manage the business (and in particular the lending function) carefully to ensure they do not expose the credit union to levels of risk that could undermine financial stability and put its future at risk. Preventative measures should be taken to keep members savings safe. 9 This year, credit unions may come under increasing pressure to pay dividends from reserves. Reserves are the safety net for the future of the credit union. It is vital therefore that a proper balance is struck between distribution policy and surplus retention policy. It will be no easy task to lead credit unions through the current difficult economic and financial environment. Hard and sometimes unpopular decisions may have to be made. Credit unions will increasingly come under significant pressure to help members in financial difficulty. In doing so, this is a time for objective and clear headed thinking - a steady hand on the helm. Finally, having said all that, there is no reason why credit unions cannot survive the present financial storm. It is rightly pointed out that credit unions have survived difficult economic times in the past and I would expect the same will be the case this time. The sector is resilient. The inherent strengths of member loyalty, commitment of volunteers and the ethos of co-operation and self help stands it in very good stead. With committed leadership there may be an opportunity for the credit union sector to take advantage and make a significant leap forward in terms of development. The question remains however – is the movement, from within, prepared to take the necessary steps to make it happen. Thank you for your attention.