Credit union business models

• Author: David L. Stowe,John D. Stowe
• DOI: http://doi.org/10.1111/fmii.12102
• Date: 01 December 2018
• Published date: 01 December 2018

DOI: 10.1111/fmii.12102

ORIGINAL ARTICLE

Credit union business models

David L. Stowe1John D. Stowe2

1OhioUniversity, 534 Copeland Hall, Athens,

OH,45701

2OhioUniversity, 222 Copeland Hall, Athens,

OH,45701

Correspondence

DavidL. Stowe, Ohio University, 534 Copeland

Hall,Athens, OH 45701.

Email:stowed@ohio.edu

Abstract

Credit union decisions on how funds are raised and invested and

what services to provide are guided by their business models and

should be reflected by credit union financial statements. We use

cluster analysis to group credit unions using common size financial

statement variables such that the financial statements are similar

within credit union groups and distinct across groups. This allows the

assignment of credit unions to groups by knowing their essential ele-

ments but without predefining the groups. In this paper, we present

six credit union strategic groups differentiated from each other by

their asset-liability management choices and the services they pro-

vide members. Identifying the various credit union groups provides a

clearer picture of their business models and the economic roles that

different credit unions play.

KEYWORDS

asset-liability management, business models, credit unions,

depository institutions, strategic groups

JEL CLASSIFICATION

G21

1INTRODUCTION

Like other financial intermediaries, credit union business models govern how theyinvest their assets and what claims

they issue to raise funds. In addition, credit unions choose a variety of other services to provide their members. Credit

union boards and managers make these decisions based on local and national economic conditions that affect finan-

cial markets, their membership, government regulations, and their market competition. Because these decisions are

reflected in credit union financial statements, we use a cluster analysis of common size statement variables to reveal

systematic patterns in these investing, financing, and operationaldecisions. A clear picture of the strategic policy deci-

sions that guide managerial policy-making is valuable to regulators, credit union boards and managers, and credit union

members.

Credit unions (CUs) havebeen categorized in many ways, such as by their membership orientation, size, geographic

locations (NCUA region, state, farm versus non-farm, etc.), occupational membership base, state versus national

c

2018 New YorkUniversity Salomon Center and Wiley Periodicals, Inc.

Financial Markets,Inst. & Inst. 2018;27:169–186. wileyonlinelibrary.com/journal/fmii 169

170 STOWEAND STOWE

charter, or stage in life cycle. Our approach is agnostic to these traditional, more arbitrary, methods of classification.

Weuse their financial statements and employ cluster analysis of common size variables to form groups of credit unions

that are similar within groups and distinct across groups.

We use 41 common size balance sheet and income statement variables for 1,528 large U.S.credit unions at Decem-

ber 31, 2015 to form these groups. In the paper,we present the analysis for a set of six groups. Just like other interme-

diaries like banks or mutual funds, CUs show several different business models. The asset allocation between invest-

ment in investment securities versus loans, and the allocations within the loan portfolio (e.g.,to auto loans, real estate

loans, and other loans) differ markedly across the six clusters. Credit unions also differed greatly in the revenues and

expenses generated by providingservices to their members. Cluster analysis is successful in forming groups of credit

unions with alternative business models by analyzing the structures of their common size financial statements.

2LITERATURE REVIEW AND BACKGROUND

2.1 General overview

A business model is a general, integrative framework encompassing a firm's strategies and activities. Intuitively, a

business model is “how a firm does business,” or “how a firm makes its money.” Researchers, of course, are much

more specific. For businesses in general, they report a large number of critical components of a business model,

although for specific firms or industries they often boil it down to a small number that make the industry or firm

distinctive.1For financial intermediaries, their different combinations of their assets and their funding sources, their

asset-liability management, is of prime importance. They also may offer specialized services for their clients, their

depositors or their borrowers. Heterogeneity across banking business models has a decided effect on bank risk and

return, financial health, and system stability (Ayadi et al., 2016; Hryckiewicz& Kozlowski, 2017, and Vander Vennet &

Mergaerts, 2016).2

Mutual funds are the most transparentfinancial intermediary, with easily recognized business models. For the thou-

sands of such funds, their investment policies and their financial performance are readily available, as well as their fee

structures, investment philosophies, and marketing strategies. Legally, their shareholders are the funds’ owners and

they usually use limited leverage. In contrast, commercial banks haveliquidity and capital requirements and most of

their assets are non-publicly-traded and thus not priced in a market. Asset-liability management is a core activity of

bank management.

While financial economists and the public have a strong interest in all financial intermediaries, general knowledge

of credit unions is undoubtedly much lower than, say,for commercial banks and mutual funds. This paper has a narrow

focus—deriving credit union groups (with differing business models) based on the overall structure of their financial

statements.3

Credit unions are less studied than other financial institutions for various reasons. Credit unions are smaller, indi-

vidually and in the aggregate, than these institutions. At December 2015, the 6,147 federally insured credit unions in

the U.S. had $1.22 trillion of assets. In contrast, the 5,338 FDIC insured banks had $14.89 trillion of assets, including

576 banks with assets exceeding one billion dollars. The mean size (total assets) of commercial banks was fourteen

times the mean size of credit unions. There were four banks (JPMorgan Chase, Bank of America, Citigroup, and Wells

Fargo) that each had substantially more assets than the entire credit union industry.The mutual fund industry is also

quite large relative to credit unions. The 9,521 large U.S. funds had total assets of $15.65 trillion. They owned 25% of

all U.S. corporateequity, and they held 54% of all defined contribution fund assets and 48% of all IRA assets.

Unlike credit unions, shares of mutual funds and many banks are publicly traded. There are 15 commercial banks

(with a total market value of shares of $660.5 billion) that are members of the S&P 500 Index and 1,132 banks that

are listed on U.S. exchanges or the pink sheets. Mutual funds and publicly traded commercial banks are followed by

security analysts as well as by professional investors and the investing public. As mutual organizations, credit unions,

of course, attract no scrutiny byequity investors or financial economists relying on market pricing information.