Recently, John Coffey and Gene Palm of Profit Resources were contacted by the Editor of the Credit Union Executives Society (CUES), and were asked to write a "CFO Focus" column for cues.org. The Editor wanted them to pick a topic that would be relevant right now for CFOs.
The topic they chose was "How To Increase Your Net Interest Margins While Maintaining Valuable Member Relationships." They mention three strategies that can be used to help credit unions achieve this objective. The first strategy involves having a program like PoinTracs in place.
We want to thank Gene and John for their permission to post their article here:
How To Increase Your Net Interest Margins
While Maintaining Valuable Member Relationships
By John J. Coffey and Gene Palm
Everyone’s talking about it – and it’s a painful conversation! With the Federal Reserve lowering interest rates, everyone’s net interest margin is being squeezed. What can you do about it?
Should a credit union continue offering lower rates on loans and higher rates on deposits because it’s “good for the member?” Or, should credit unions strive long-term to maintain and increase valuable member relationships without relying on generous pricing?
Many credit unions are sidestepping this issue altogether and electing for a short-term fix – relying on their fee income to make up for the decline in net interest income. While this works, a good case can be made that having members using a variety of products that generate above average margins is healthier than having members who are, well, broke and create NSF income from share draft accounts.
Long-term planning is hard work. Implementing plans that increase the value of your members to the credit union is even harder! The good news is that there are options available.
First, you can reward the members that are generating the most margins. Second, you can price your products more efficiently by analyzing historical margins. Finally, you can generate added balances from your members.
Rewarding Your Members
It’s hard to believe, but about 30% of any credit union’s members generate over 100% of the revenue – and, about 15% of those members have only one service!
The top priority should be to retain these members. One member retention program is modeled after frequent flyer programs used by airlines. It’s very simple; a member receives one point for every dollar of deposit dividend earned and one point for every dollar of loan interest paid. In addition, they receive 100 points for every year they’ve been a member. The member typically uses their points to get higher CD or lower loan rates. But, there are non-rate incentives you can use to retain these members, such as free personalized checks, free cashiers checks, money orders, and no “annual fee" credit cards.
By rewarding your loyal members, they are even more likely to bring you more business, which will increase your net interest income.
Pricing Your Products
Typically, a credit union’s net interest margin is 71% of its total revenue. The most important pricing decisions, therefore, involve loan and deposit interest rates.
“Historical Funds Transfer Pricing” (HFTP) is the most comprehensive method available for calculating net interest income because a funding rate is applied to term-loans and an earnings rate is applied to term-deposits at the account level as of the date of origination. The powerful thing about HFTP is that you can use it to examine the historic spread of maturing term-loans and term-deposits and reprice them based on these historic spreads. For instance, if the 1-year CDs that are rolling over next month historically generated a margin of 50 basis points, then you can price these CDs going forward with a minimum 50 basis point margin, based on the current level of interest rates. The beauty of this approach is that you are basing pricing decisions on a historical reference rather than simply reacting to the local market.
Generating Additional Balances
There are many members who have been very faithful to you. Over the years, they’ve been so faithful in paying down their loans that they now have low balances that are generating low margins! Simply marketing new auto loans to members whose auto loans are 3 years old or older, can significantly increase your auto loan balances and the margins these balances generate. You can also contact members who have low balance or inactive home equity lines of credit and remind them that these lines are available for use.
In addition, you can use demographics to identify your high net worth members. Quite a few of these members will only have one low balance service with you that generates very little net interest income. In other words, they are generating a lot of net interest income for someone else! By contacting these members with the right offers, you can significantly increase your balances and your margins.
It’s hard work to implement long-term plans that increase the value of your members and the net interest income they produce; however, your patient diligence toward making these plans a reality will reap huge rewards for your credit union for years to come.
John J. Coffey, C.P.A. and Gene Palm are the principals of Profit Resources. Profit Resources is a profitability software and profitability consulting company. They help their clients “magnify their profit” by enabling them to understand the profitability of their account holders, products, officers, and branches and by showing them how to price their products more profitably. You can learn more about Profit Resources at their website. |
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