Navigating an Opportunity for an NCUA-Assisted Transaction

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 This article discusses an approach to properly reviewing NCUA-assisted mergers or purchase and assumption agreements and recounts the experience of Alternatives Federal Credit Union (“Alternatives”) as it recently completed a merger with Lexington Avenue Federal Credit Union (“Lexington”). We hope that the piece will offer valuable insight to other credit unions as they are presented with similar opportunities in the coming months and years.

When a credit union’s board of directors determines it is no longer feasible to continue as a going concern, or the National Credit Union Administration (NCUA) determines the credit union is unable to continue as an independent entity, the troubled credit union and the regulator will often seek a willing credit union to complete (1) a Purchase and Assumption (P&A) or (2) a merger.[1] When these transactions involve financial assistance from the NCUA, the agency plays an integral role, beginning with the identification and selection of a proper continuing credit union partner. P&As, in particular, can also involve the NCUA negotiating the retention of some of the merging credit union’s assets, liabilities, contracts or off-balance sheet items.

In choosing a reliable transaction partner, the NCUA will typically consider (1) potential losses to the National Credit Union Share Insurance Fund (NCUSIF), (2) the size and complexity of the acquired credit union, (3) the financial stability of the continuing credit union, and (4) the degree of urgency to consummate the assisted transaction.

Faced with an opportunity to bid in such a situation, credit unions should be prepared to move with purposeful speed to assess the value of the impaired credit union and to structure an appropriate arrangement to optimize the go-forward franchise for all members.

In choosing a continuing credit union with the ability to manage the combined credit entities financially and operationally, the NCUA considers a list of items, including: (1) asset size, (2) CAMEL Rating, (3) net worth levels, (4) the demonstrated ability of the potential continuing credit union’s management team to handle the size and complexity of the failing credit union, (5) field of membership compatibility,[2] and/or (6) the expressed interest of the continuing credit union candidate. The NCUA also prefers to cast a wide net – contacting as many suitors as practical to ensure a competitive bidding process.[3] 

Once a potential partner list is developed, a bidder’s meeting is held when practical or warranted by the circumstances.[4] Before providing an interested party with a bidders’ information packet, the NCUA will obtain a signed confidentiality agreement. All interested parties meeting the NCUA’s identification criteria will be given an opportunity to complete a due diligence review and the NCUA will establish the timeframe for the submission of bids, which will vary depending upon a transaction’s complexities. The NCUA staff answers questions related to the credit union’s operation and provides an overview of the conditions at the failing credit union. However, the burden of completing a due diligence review and determining the amount of assistance, if any, is the bidder’s responsibility. With the stakes so high, many credit union bidders choose to utilize professionals with experience processing these types of transactions.

The Lexington Avenue FCU Opportunity

At the end of February 2024, Alternatives was among a group of credit unions contacted by the NCUA to consider a bid for Lexington. 

At the time, Lexington had more than 3,100 members and operated out of a single branch in Rochester, New York. The credit union had just over $19 million in assets and a multiple common bond field of membership, comprised primarily of manufacturing and machinery members. The charter also included the underserved area of the City of Rochester. Lexington was also a Minority Depository Institution (MDI) and had the Low-Income Designation (LID) from NCUA.

After completing a non-disclosure agreement, Alternatives was invited into a secure NCUA portal to perform due diligence. The portal included a wide variety of documents which allowed bidders to evaluate the Lexington franchise. Alternatives management also arranged an on-site visit to the Lexington branch in Rochester.

The Bidding Process 

Typically, the Bidder’s Package provided by the NCUA includes an Excel spreadsheet to facilitate bidding and the NCUA field staff provides a secure data room for due diligence. Bidders will independently value balances at the credit union and any other potential assets or liabilities. Bids can also include explanations of intangible benefits such as complementing fields of membership or unique ability to provide service levels to the failed credit union members. Often, these explanations can be persuasive to the NCUA, helping to put a bidder’s proposal over the top. 

In considering a Merger bid, a potential continuing credit union should determine (1) how much, if any, cash assistance is necessary, and (2) whether the trade name of the failing credit union is important. As a threshold matter, a credit union should not consider structuring its bid as a merger unless it is willing to assume risks related to potential undiscovered obligations of the impaired credit union.

In considering a P&A bid, a potential continuing credit union (CCU) should determine (1) whether cash assistance is required and whether it will it be fixed or variable,[5] (2) which specific assets and liabilities will be acquired and excluded from the transaction, (3) which facilities, if any, will be assumed, (4) which contracts will be assumed, and (5) plans regarding the employees.[6]

Alternatives’ Bid for Lexington 

By letter dated April 19, 2024, Alternatives bid for an NCUA-assisted merger with Lexington. While bidders can propose a merger or a P&A, the NCUA prefers a resolution through merger, as it legally combines both the merging credit union (MCU) and CCU – with all disclosed and undisclosed assets and liabilities becoming part of the CCU. In a P&A, the failed credit union is placed into liquidation before the P&A can be executed and the CCU determines the assets they purchase and the liabilities it assumes. This leaves more work and uncertainty for the NCUA with respect to assets and liabilities left out of the transaction. 

By choosing the merger structure, Alternatives was appealing to the NCUA’s preference. However, the decision was not taken lightly. If a merger was ultimately successful, Alternatives would be on the hook to retain all disclosed and undisclosed assets and liabilities of the disappearing credit union, as well as its contractual responsibilities. Alternatives communicated its bid in a cover letter to the NCUA on April 19, 2024 (the “Bid Letter”). 

Upon receiving written bids, the NCUA determines the amount and type of assistance requested. Each bidding credit union is required to provide justification for its assistance request and to complete information to support its valuation of loans, other assets, liabilities, shares, contracts, and/or off-balance sheet items. The NCUA generally awards the bid to the selected bidder with the “least cost” proposal.[7] 

Among other items, the Alternatives’ Bid Letter addressed (1) the desired level of NCUA assistance required to complete the transaction, (2) pre- and post-transaction Net Worth Ratio and Solvency Ratio calculations, (3) the expectation for Lexington management, board members and employees, (4) the expectations for the current Lexington branch, (5) other contingencies and (6) timing and process.

Alternatives supported the request for NCUA assistance with a merger proforma and a detailed valuation of the Lexington loan portfolio. Had Lexington had an investments portfolio, a similar analysis would have also been done. Together, these items were provided to the NCUA as Exhibits which accompanied the Bid Letter.

On May 7, 2024, the NCUA informed Alternatives that it had been selected as the winning bidder. At that moment, Alternatives’ posture changed from bidder to acquirer, and its priorities shifted from due diligence with the goal of a marketable bid to an emphasis on the seamless transition to combining the two credit unions by the NCUA’s desired closing date and servicing its new members thereafter. 

The NCUA Resolution Process 

Normally, in a P&A transaction, the regulatory authority that chartered the credit union will order the liquidation on a date that is negotiable with the CCU. A successful P&A bidder: 

·         will file required forms with the NCUA and state regulators

·         cannot use the failed credit union’s name after liquidation.

·         cannot give notice to members prior to the liquidation date.

·         is responsible for written notice to the members. 

The NCUA will release a press statement informing the public of the liquidation once the liquidation order is served. The most prepared credit unions (1) develop a communications plan to support members, (2) begin planning for conversion of the failed credit union’s core systems, and (3) generally resume normal service to members of the failed credit union the next business day after a liquidation. 

The Liquidating Agent (1) retains the accounts the continuing credit union does not acquire, (2) terminates the employees of the failed credit union that were not offered work at the continuing credit union, (3) will likely repudiate contracts not retained by the CCU and (4) will administer all creditor claims for pre-liquidation expenses against the failed credit union. 

In the case of a merger, the regulatory transition is much simpler. Once a merger bid is accepted, the chartering regulator(s) for both credit unions will need to approve the legal merger and the CCU will control the process thereafter. If the merger bid asks for cash assistance, there is a multi-step approval process within the NCUA. The NCUA may hold another bid, or opt to pay members, if none of the proposals are deemed acceptable.

Conclusion

Contacted with an opportunity to bid on an impaired credit union, a potential bidder will have to complete a series of steps in a truncated timeframe. Typically, the tasks include:

·         A valuation of the impaired credit union’s loans and investments

·         An review and assessment of existing contracts and a determination of the costs related to any expected early termination or the triggering of any change of control provisions

·         An assessment of the undisclosed and unknown risks

·         A determination of the required amount of NCUA assistance

·         A choice of merger or purchase and assumption structure

·         An evaluation of the opportunities of the combined credit unions (typically a pro forma)

·         Development of a matrix to understand the overlap of product and service offerings

·         A comparison of the field of membership of the impaired credit union and the continuing credit union

·         A board vote approving the submission of a bid

·         Preparation of a bid letter summarizing the terms of a bid 

In the case of the bid for Lexington, the entire Alternatives team is thrilled with the outcome. 

The Alternatives management team is confident that the credit union can safely and soundly absorb the financial and operational impact that will result from a combination with Lexington. Since its founding by the employees of Rochester Products in 1959, Lexington has operated with the mission of providing profitable, competitive, and responsive services to its members. Now serving several Select Employer Groups and the City of Rochester, the credit union’s designations – as an MDI and a LID – are both strategically valuable. As importantly, Alternatives’ CDFI status and its culture, philosophy and approach are closely aligned with those of Lexington. The Alternatives team sees Lexington’s members as a perfect complement to its ongoing mission “[t]o help build and protect wealth for people with diverse identities who have been historically marginalized by the financial industry, especially those with low wealth or identifying as Black, indigenous, or people of color.”

In large measure, the opportunities that will inure for the benefit of the members of the new combined firm are a result of a deliberate and purposeful process to properly manage the bidding in an NCUA-assisted situation. As we expect more of these on the horizon, we hope that this peek into the process that Alternatives followed with the assistance of Olden Lane will be helpful for those who come after us. 

About the Authors:

Kevin Mietlicki is the President and Chief Executive Officer of Alternatives Federal Credit Union, the continuing credit union in the transaction discussed in this piece.

Michael C. Macchiarola is the CEO of Olden Lane, Inc., the advisor to Alternatives FCU on the transaction.

Notes:

[1] See generally Information on NCUAs Merger and Purchase Assumption Process, NCUA Letter to Credit Unions 10-CU-11 (June 2010), available at https://ncua.gov/regulation-supervision/letters-credit-unions-other-guidance/information-ncuas-merger-and-purchase-assumption-process.

[2] Certain exceptions exist for P&As and emergency mergers.

[3] There is no required number of credit union candidates the NCUA must contact. However, there are practical limits to the number of credit unions that can conduct onsite due diligence without disrupting the operations of the failing credit union. Generally, larger credit unions or larger anticipated assistance results in NCUA contacting more potential candidates and/or using a larger geographic area in its search.

[4] Each of the NCUA’s regional offices maintains a manual listing of credit unions that have expressed interest in expanding their respective fields of membership through mergers and/or P&As. These lists are used to help identify initial potential interested parties. The NCUA introduced the Merger Partner Registry in 2010. See NCUA’s Merger Partner Registry, National Credit Union Administration Letter to Credit Unions 10-CU-22 (Nov. 2010), available at https://ncua.gov/regulation-supervision/letters-credit-unions-other-guidance/ncuas-merger-partner-registry.

[5] A fixed amount puts the risk on the bidding credit union for changes in general ledger balances between the bid date and the closing. A variable amount puts the risk on the NCUSIF and will be the difference between the bid price of the liabilities assumed and the bid price of the assets purchased.

[6] All other bid items being equal, the NCUA favorably views bids containing job offers to existing employees.

[7] The NCUA also considers additional factors before finalizing its decision and notifying the selected bidder in writing. Such factors include (1) safety and soundness, (2) the “fit” for the failing credit union’s members, (3) the ability of management at the continuing credit union, and (4) potential additional services or products available at the bidding credit union.