Background on Ratios 4/28/ Ratios Directors Should Know and Why

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1 10 Ratios Directors Should Know and Why Presented by Josh Roberts, CCUE Director of System Collaboration & Development, The League Background on Ratios Not only is the credit union about serving your members, but it s also about the numbers. When is it about the numbers? NCUA calculates about 45 different ratios to gauge your credit union s performance. We will cover 10 ratios today that every board member should know. When is it about the numbers? Key Ratios provide guidance on the performance of the credit union. Financial Soundness, Risk, and Strategic Direction can be measured through ratios. Utilization of ratios vary between credit unions and can depend on complexity, strategic vision, growth goals, etc. 1

2 Who uses these ratios? Executive management of the credit union ALCO Committee, Finance Committee Board of Directors Examiners Auditors Source Documents Most ratios can be obtained through two documents: Balance Sheet Financial Position at a specific point in time Summarizes assets, liabilities, and capital of the CU Income Statement Financial performance over a period of time Summarizes the income, expenses, gains, and losses of the CU Source Documents Additional Items: Delinquency Reports Charge Off & Recovery Information NCUA 5300 Report & Financial Performance Report (FPR) 2

3 Annualizing Ratios Some ratios need to be annualized. Converts the ratio from any length of time into an estimated annual rate. Simple rule for quarters: March: Ratio x 4 June: Ratio x 2 September: Ratio x 4/3 Math is fun! Ratios need to be multiplied by 100 to determine the percentage. Ratios are generally presented as percentages. Average Balance (Loans, Shares, Assets, etc.) (Beginning Balance Ending Balance)/2 One basis point (bp) = 0.01 = 1% These all mean the same thing: Percentage: 100%; 48%; 36.25% Decimal: 1.00; 0.48; Basis Points: 100 bp; 48 bp; bp Net Worth or Capital Ratio This ratio indicates the stability and solvency of your credit union. Calculated at any point in time. What is the net worth and what does it consist of? How do you accumulate Net Worth? The Calculation: (Regular Reserves + Undivided Earnings + Net Income) Total Assets 3

4 Net Worth or Capital Ratio What is the lowest net worth you can have that still means you re well capitalized? >7.00% = Well Capitalized 6.00% 6.99% = Adequately Capitalized 4.00% 5.99% = Undercapitalized 2.00% 3.99% = Significantly Undercapitalized < 1.99% = Critically Undercapitalized What net worth should you have? When is net worth too high? Delinquency Ratio A low ratio indicates strong lending and collection policies. What else can this be a measurement of? What is considered to be reportable delinquency? Is 50bp a good delinquency ratio? Is 2%? Is 1%? Delinquency Ratio Reportable delinquency is a loan delinquent 60 days or more. Gross loans are total loans and not including the Allowance for Loan & Lease Losses. Calculation: Amount of Reportable Delinquent Loans Total Gross Loans 4

5 Liquidity This is a measurement that many credit unions keep a watch on. Especially if your CU has a high Loan to Share ratio or if you re looking into Long Term Investments. Credit unions should have a policy on liquidity levels. Policy requirements vary by asset size NCUA has a liquidity rule All CUs must have access to emergency liquidity See ii Release 0182 Liquidity Short Term Investments mature in 12 months or less. Cash on Hand is teller drawers, ATMs, vault, etc. Cash on Deposit include accounts at Corporate and other FIs. Calculation Cash + Cash on Deposit + Short term Investments Total Assets Loan to Share Ratio Loan to Share Ratio determines the amount of savings dollars being lent out to the membership. The higher the ratio the better. If the ratio is too low, lending needs to be ramped up. If the ratio is too high, liquidity can be pinched. 5

6 Loan to Share Ratio Can this ratio be over 100%? What does this mean in dollars? Calculation Total Gross Loans Total Shares What is your CU s policy regarding the Loan to Share ratio? Net Charge Off Ratio This is another indicator of strong lending and collection practices. This can also be an indicator of how much risk is in your loan portfolio. Net Charge Offs Ratio Net Charge Offs are the difference between charged off loans and recoveries on previously charged off loans. Calculation: (Total Charged Off Loans Total Recoveries) Average Loans This ratio should ideally be less than 1%. 6

7 Gross Income Ratio This is the first line in Spread Analysis. All income is considered in this ratio, except non operating income. Why has this ratio been so low the last few years? The higher the better. Gross Income Ratio This ratio is part of Spread Analysis. Gross income includes: Loan Income Investment Income Non Interest Income Fees Charges Calculation: Gross Income Average Assets Cost of Funds Ratio This indicates what the average dividend rate is on our total savings products. Also includes the interest paid by the credit union on borrowed funds (from Corporate Credit Unions, FHLB, etc.). The last couple of years have seen remarkably low Cost of Funds. 7

8 Cost of Funds Ratio Part of Spread Analysis The mix of lower cost shares and share drafts and higher cost share certificates have a direct correlation to Cost of Funds. Calculation (Total Dividends on Shares + Total Interest on Borrowing + Total Interest on Non Member Deposits) Average Assets Operating Expenses This ratio is a measure of efficiency. Operating Expense Ratio should remain stable as the credit union grows. This ratio can be a useful in comparing operational expenses against peers and examiners & auditors will compare the CU to the peer group. If the ratio is high, you may want to do an expense review. The lower the ratio, the better. Operating Expenses This ratio is part of Spread Analysis Calculation Operating Expenses include: Employee Costs Loan Servicing Occupancy Professional Services And many more Total Operating Expenses Average Assets 8

9 Spread Analysis or Return of Average Assets Spread Analysis gives us information on the return of the credit union. Several ratios go into the analysis, and some of the individual ratios will be covered in the presentation. The Net Spread is also your Return on Average Assets. Spread Analysis (ROAA) Several ratios make up this analysis. Each line is represented as a ratio. The following is part of Spread: Gross Income Cost of Funds Operating Expenses Return on Average Assets Calculation for Spread: Gross Income Less: Cost of Funds Gross Spread Less: Operating Expenses Less: Provision for Loan & Lease Losses Add: Other Operating Income Net Spread or Return on Average Assets Return on Average Assets Or, an even easier way to calculate ROAA: Net Income Average Assets 9

10 Growth Ratios The calculation for Growth is the same for several measurements. The Financial Performance Report (FPR) shows growth rates in: Net Worth Market (Share) Loans Assets Investments Membership Growth Rates Example: Loan Growth Current Period Loans Previous Period Loans Previous Period Loans This is the same calculation for all growth rates, assuming the use of like data. Growth Rates These are important to keep an eye on. Spikes in Share Growth and Asset Growth can reduce Net Worth if income does not rise. Spikes in Loan Growth can reduce liquidity. Decreases in Loan growth can reduce income. Increases in Investments can show a need for additional lending. 10

11 Thank you for attending! Questions? Comments? Josh Roberts, CCUE Director of System Collaboration & Development The Wisconsin Credit Union League