W E L O O K A T T H I N G S D I F F E R E N T L Y Effective Oversight of the Accounting System David Matt

1. W E L O O K A T T H I N G S D I F F E R E N T L Y Effective Oversight of the Accounting System David Matthews, ILCU National Supervisors’ Forum November 2014, Derry

2. W E L O O K A T T H I N G S D I F F E R E N T L Y What we will cover • Overview of credit union finance • What’s important and what’s not • Assessing Performance – Supervisors’ Perspective • Ratio Analysis • Other Key Performance Indicators • The importance of trends • Plans, Forecasts & Budgets • Non-financial factors

3. W E L O O K A T T H I N G S D I F F E R E N T L Y • Context • Difficult economic climate (ongoing) • Increasing Regulatory demands (North & South) • Loans, investments, premises, interest rates, expenditure • Cost of regulation affects business decisions • Role of Supervisors in the finance function • Part of your Board Performance Review • Is the Board as a whole capable of making important decisions with a financial impact? • Is the Board focused on what is important? • Is the Board focused on the future?

4. W E L O O K A T T H I N G S D I F F E R E N T L Y Overview of credit union finance The credit union business model • Accept savings from members • Lend funds to members • Invest what we cannot lend • Provide additional services • Use income to pay operating expenses • Use some surplus to fund reserves • Use some surplus to reward savers (dividend)

5. W E L O O K A T T H I N G S D I F F E R E N T L Y What’s important? • Income & Expenditure Account • Loans generate around 75% of income • Investments generate around 25% of income • Salaries / Wages will absorb 20% of income • Management expenses will absorb 30% of income • Costs of regulation & compliance – an increasing % • Depreciation – depends on Fixed Assets • Bad Debt costs – the great unknown! • In the medium to long term, surplus must be sufficient to fund reserves & pay a dividend

6. W E L O O K A T T H I N G S D I F F E R E N T L Y What’s important? • Balance Sheet • Loans (30% of Total Assets and falling) • Investments (65% of Total Assets and rising) • Fixed Assets (ideally should represent less than 5% of Total Assets) • Savings (generally static) • Capital / Reserves (key indicator of success and solvency for Regulators)

7. W E L O O K A T T H I N G S D I F F E R E N T L Y Where is the risk? • Loans to Members • Key driver but biggest risk • Policy, procedures, assessment • Deposits & Investments • Small in number, large in size, diminishing return • Policy, compliance, spread • Fixed Assets • High value, security is key • Other Assets • Cash, savings stamps, stationery, etc.

8. W E L O O K A T T H I N G S D I F F E R E N T L Y Typical Credit Union Balance Sheet Income Investments 6,300 (126) Loans 3,000 (300) Fixed Assets 500 0 Other Assets _ 2000 Total Assets10,000 426 Savings 9,000 Reserves 1,000 Total Liabilities 10,000

9. W E L O O K A T T H I N G S D I F F E R E N T L Y Ideal Credit Union Balance Sheet Income Investments 3,000 (50) Loans 6,300 (680) Fixed Assets 500 0 Other Assets _ 2000 Total Assets10,000 730 Savings 9,000 Reserves 1,000 Total Liabilities 10,000 But how do we get there? The big question!

10. W E L O O K A T T H I N G S D I F F E R E N T L Y The importance of Capital Investments 6,300 Loans 3,000 Fixed Assets 500 Other Assets 200 Total Assets10,000 Savings ## 9,000 Reserves 1,000 Total Liabilities 10,000 ## includes dividend of 500 from recent years

11. W E L O O K A T T H I N G S D I F F E R E N T L Y Revaluation of Premises down to £/€200k Investments 6,300 Loans 3,000 Fixed Assets 500 Other Assets 200 Total 10,000 Savings 9,000 Reserves 1,000 Total 10,000 Investments 6,300 Loans 3,000 Fixed Assets ** 200 Other Assets 200 Total 9,700 Savings 9,000 Reserves ** 700 Total 9,700

12. W E L O O K A T T H I N G S D I F F E R E N T L Y Write-Off of Loans £/€500k Investments 6,300 Loans 3,000 Fixed Assets 200 Other Assets 200 Total 9,700 Savings 9,000 Reserves 700 Total 9,700 Investments 6,300 Loans ** 2,500 Fixed Assets 200 Other Assets 200 Total 9,200 Savings 9,000 Reserves ** 200 Total 9,200

13. W E L O O K A T T H I N G S D I F F E R E N T L Y Revaluation of Investments £/€500k Investments 6,300 Loans 2,500 Fixed Assets 200 Other Assets 200 Total 9,200 Savings 9,000 Reserves 200 Total 9,700 Investments ** 5,800 Loans 2,500 Fixed Assets 200 Other Assets 200 Total 8,700 Savings 9,000 Reserves ** ??? Total 8,700

14. W E L O O K A T T H I N G S D I F F E R E N T L Y Potential Effect on Members’ Savings Investments 5,800 Loans 2,500 Fixed Assets 200 Other Assets 200 Total 8,700 Savings 9,000 Reserves (300) Total 8,700 Investments 5,800 Loans 2,500 Fixed Assets 200 Other Assets 200 Total 8,700 Savings ** 8,700 Reserves 0 Total 8,700

15. W E L O O K A T T H I N G S D I F F E R E N T L Y Reserves are a buffer against risk Investments 6,300 Loans 3,000 Fixed Assets 500 Other Assets 200 Total 10,000 Savings ** 8,500 Reserves ** 1,500 Total 10,000 £/€500k extra to Reserves Investments ** 5,800 Loans ** 2,500 Fixed Assets ** 200 Other Assets 200 Total 8,700 Savings 8,500 Reserves ** 200 Total 8,700 Savings unaffected

16. W E L O O K A T T H I N G S D I F F E R E N T L Y • Non financial Factors • Not everything can be measured in £ / € • But every decision will have an impact • Member services • Member satisfaction • Opening Hours • Service Quality • Credit union reputation • Social role of credit unions • Effectiveness of marketing activity • Credit unions should monitor & measure performance in these areas too! A credit union’s strategy should consider these issues.

17. W E L O O K A T T H I N G S D I F F E R E N T L Y • Tools for assessing financial performance • Ratio Analysis • PEARLS / CAMELS • Other Key Performance Indicators • The importance of trends • Plans, Forecasts & Budgets • Supervisors’ perspective • Is the Board using these tools? • Is it correctly interpreting the results? • Are its decisions focused on improvement?

18. W E L O O K A T T H I N G S D I F F E R E N T L Y • Ratio Analysis • Converting financial data into simple mathematical ratios for ease of use and comparison • PEARLS & CAMELS – standardised ratio calculations • Objective, therefore comparable • But can be distorted by differing accounting policies • E.g. bad debt write-off policy, outsourcing policy • Interpretation and use in decision-making are key factors • Why did it happen, did we expect it to happen, etc.?

19. W E L O O K A T T H I N G S D I F F E R E N T L Y • Impact of differing write-off policies • Credit Union A – aggressive write-off policy • Credit Union B – moderate write-off policy • Credit Union C – zero write-off policy

20. W E L O O K A T T H I N G S D I F F E R E N T L Y • Key PEARLS Ratios • P1 Bad Debt Provision Requirements • Should be at least equal to Resolution 49 requirement • P3 Solvency *** • E6c Capital as a % of Total Assets • Must be at least 10% • A1 Gross Loans > 9 Weeks in arrears *** • R3 Total Income / Average Total Assets *** • L1 Liquid Investments / Uncommitted Savings • Minimum 20%

21. W E L O O K A T T H I N G S D I F F E R E N T L Y • Ratios that the Board can strategically influence in the medium to long term • P3 Solvency • Influenced by operational efficiency, credit control performance, dividend policy, etc. • A1 Gross Loans > 9 Weeks in arrears • Influenced by lending policy, quality of assessment, credit control performance, etc. • R3 Total Income / Average Total Assets • Influenced by pricing decisions, investment quality, operational efficiency, cost management, etc. • Part of your review of Board performance

22. W E L O O K A T T H I N G S D I F F E R E N T L Y • Other Key Performance Indicators (KPIs) • Should reflect the strategy of the credit union • For example: • Loan growth by loan type or class • Key expenditure items compared to income, total expenses, assets • Growth in number of members • By age band • By location in the Common Bond • Member usage of the credit union • Member Satisfaction survey results • Social performance & social auditing

23. W E L O O K A T T H I N G S D I F F E R E N T L Y • The importance of trends • Historic performance can’t be changed! • But - where are we heading? • Are things improving or deteriorating? • Trend should be a key determinant in board’s decision-making process • Negative or harmful trends must be addressed • Credit unions should try to capitalise on positive trends • Boards must evaluate why trends have occurred • Supervisors should ensure that Board is focused on trends (i.e. not just on historic performance)

24. W E L O O K A T T H I N G S D I F F E R E N T L Y • Planning, Forecasting & Benchmarking • “Direction” is about the future • The past and present are indicators of what will happen if we continue to do the same thing • Role of directors is to steer the credit union in the right direction • Must know where they are trying to get to! • Will involve change! • Change must be managed and planned • Supervisors should review Board’s planning and review processes

25. W E L O O K A T T H I N G S D I F F E R E N T L Y • Planning, Forecasting & Benchmarking • Plan should be specific, measurable, achievable, realistic & time-bound (SMART) • Measure by comparing to forecasts – financial & non-financial • Forecast should be combined with benchmarks and targets • Performance should be critically reviewed against plan at least annually • Plan can be amended if required • Supervisors should ensure that this is done

26. W E L O O K A T T H I N G S D I F F E R E N T L Y • Conclusion & Key points • Supervisors should have a working knowledge of finance • Credit union business model • Ensure that Board is focused on key areas and risks • Don’t ignore non-financial factors • The credit union difference! • Supervisors should be familiar with the tools that Boards should be using to measure performance • Ensure that your Board understands and is using these tools • Ensure that your Board is focused on the future • Ensure your Board has a SMART plan

27. W E L O O K A T T H I N G S D I F F E R E N T L Y Thank you for your attention Any Questions?