If complex credit unions get the authority to issue supplemental capital, will they use it?
The National Credit Union Administration (NCUA) Board believes that federal credit unions can only issue supplemental capital as subordinated debt.
I don't expect there will be a large number of credit unions scrambling to issue supplemental capital.
Let's look at the evidence.
Currently, most credit unions have enough capital to meet their organic growth and don't need additional capital.
In addition, low-income designated credit unions already have the statutory ability to issue secondary capital, which counts towards a credit union's net worth. But only 73 low-income designated credit unions (or 3 percent of low-income designated credit unions) reported holding secondary capital, as of June 30, 2016. Since December 31, 2011, the number of low-income designated credit unions with outstanding secondary capital ranged between 72 and 79.
Furthermore, supplemental capital will not count towards a complex credit union's net worth. According to the NCUA's Advance Notice for Proposed Rulemaking (ANPR), supplemental capital would only count towards a complex credit union’s risk-based capital ratio.
The NCUA Board believes that the "most likely users would be those credit unions with net worth ratios above the well capitalized level but with a risk-based capital below or near the minimum needed to be well capitalized." NCUA estimates that 140 credit unions might issue supplemental capital to boost their risk-based capital ratio.
Moreover, supplemental capital could be very expensive for credit unions, limiting its attractiveness. The ANPR states that the interest rate paid by community banks on subordinated debt was 300 to 400 basis points above the interest rates on ten-year treasury note. Additionally community banks report expenses associated with sales commissions, ranging from 1.25 percent to 3 percent, and fees along with legal and operational costs.
Therefore, the available evidence would suggest that credit unions will not be beating down the door to issue subordinated debt.
Any substantial private investment into a credit union will require a seat at the board table. This will raise the level of scrutiny of credit union performance to an entirely different level ... credit unions need to be prepared for this as well. If an investor only owns 5% of the outstanding capital, you have to understand that their 5% is more important than the other 95%. It's how the world operates. The "total" price of supplemental capital is much higher than just the "rate of return" to shareholders.
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