CU Employee CULytics Founder

How efficient is your credit union?

At the recent 2018 Credit Union Analysis Summit, Jon Voorhees from Peak Performance Consulting talked about Efficiency Ratio and how Credit Unions should use it to analyze their overall performance and more specifically branch performance. 

At the core, all credit unions are similar. They borrow money (as savings, checking, certificate deposits, etc.) at one interest rate from members and then lend it out at a higher interest rate (as credit card loans, auto loans, mortgages, etc.) and pocket the spread between the two as their main source of income.

Definition of Efficiency Ratio

Efficiency ratio is essentially how efficiently credit unions are operating to generate the income. The formula for efficiency ratio is very simple.

Efficiency Ratio = Non-Interest Expense / (Net Interest Income + Net Non-Interest Income)

Net Interest income is the difference between the revenue generated by a credit union and the expenses associated with paying out the liabilities. Typical credit union’s assets include assets such as credit card balances, auto loans, personal loans, and mortgages. And the liabilities include all the deposits. The difference between the interest revenue generated from assets, minus the interest paid out on the deposits, is the net interest income.

Non-interest income is the income that credit unions generate primarily from fees such as insufficient funds (NSF) fees, annual fees, interchange fees, services fees, etc.

Non-interest expenses include employee salaries, benefits, branch and office rentals, loan loss provisions, utilities, professional fees, conference fees, etc.

Lower Efficiency Ratio is Better

Credit Unions should strive for lower efficiency ratio since lower ratio indicates how efficiently they are operating to generate income. Generally, a ratio of 50% is considered optimal efficiency ratio.

Why is it important?

Efficiency ratio is important for various reasons. It tells us how a given credit union is functioning.

  1. High-efficiency ratio indicates that a credit union is making lot of investment to generating income. Either the expenses are higher than usual or the income that is generated is less than usual. Quality of the loan portfolio, crumbling economy, losses of jobs by members can be underlying reasons why the income generated by the portfolio may be impacted leading to higher than optimal efficiency ratio.
  2. Low-Efficiency ratio might indicate that a credit union is more efficient. However, if the credit union is holding on making the appropriate investments in upgrading their infrastructure, technology investment, etc. then in the long term it may impact their operations. As long as the credit union is making appropriate investment to secure the future while maintaining the low-efficiency ratio, then they are moving in the right direction. 
  3.  50% is considered the maximum optimal efficiency ratio.

Star One is the Most Efficient Big Credit Union

Based on 5300 filing, as of 12/31/2017, Star One Credit Union is the most efficient Big 10 Credit Unions with the efficiency ratio of 26%.

Credit Union Name

Efficiency Ratio

NAVY FEDERAL CREDIT UNION

44%

STATE EMPLOYEES'

51%

PENTAGON

39%

BOEING EMPLOYEES

58%

SCHOOLSFIRST

56%

THE GOLDEN 1

60%

FIRST TECHNOLOGY

53%

ALLIANT

40%

SECURITY SERVICE

55%

STAR ONE

26%

 

What it the Efficiency Ratio of your credit union?

As you can see efficiency ratio is one of the extremely easy formulae to help get a better understanding of your credit union. By no means, this should be considered an end-all, be-all financial metrics. There are other financial measures that should be used along with efficiency ratio to have a better understanding of the financial performance of a credit union.

What is the efficiency ratio of your credit union? Share here with the community.

E-mail me when people leave their comments –

You need to be a member of CULytics Community to add comments!

Join CULytics Community

Comments

  • Vendor

    I would echo David's comments regarding the efficiency ratio.  It really is more of a financial metric than a productivity measure.  There are two shortcomings of the ratio.  First, it includes interest rates and rates are not productivity.  If margins are widening, efficiency improves, but productivity may actually be declining, so you get a false positive.  A false negative can occur if rates are compressing too.  I would also consider excluding PLL from the ratio, to reduce volatility and get a better read.  The second shortcoming is if you have a line of business that consumes no net worth, but throws off a decent profit margin, it can also make efficiency worse.  For example, if you have a large investment or insurance operation that runs at a 15% profit margin, it's really an 85% efficiency ratio.  It will create a drag on efficiency as the line of business grows, but because it consumes no capital, an unlimited amount of volume at 15% profit margin would be a great thing to have.  This same example would create a false negative reading on Expense to Assets.  Expense to assets counts all expense incurred in the generation of non-interest income but ignores the revenue.  A slightly better measure would be net operating expense to assets.  Bottom line:  There are a number of ways to look at “efficiency” and “productivity” and digging into each provides the most insight.

    • CU Employee CULytics Founder

      Hi Mike,

      Thanks for your comments. Few things that I will like to point out.

      1. Efficiency ratio is just one the factors to consider. It is by no means an end-all, be-all financial measure. 

      2. The efficiency ratio as mentioned in the blog does not include interest rates. It does not include interest expense. It is the ratio of Non-Interest Expense/Net Income. So, if the margins are widening because of lower interest expense then there is no impact on efficiency ratio.

      3. In your example, if there a slight twist. The large investment that runs at 85% efficiency and insurance operation that runs at 80% efficiency. Where should credit union focus its efforts? I would say, it depends. Since efficiency ratio is just one of factors to consider when making a decision. It depends on the size of the opportunity, competition, barriers to entry, and so on. However, efficiency ration is one of the factors to consider when making a decision.

      What are the key financial measures that credit unions should use to keep tab on their financial health? What are the top KPIs for looking into efficiency and productivity from your perspective?

      Thanks.

    • Vendor

      Good comments by all.  I think we are in clear agreement that a "single" measure of efficiency or productivity is probably like sasquatch ... rumored to exist, but never proven.  Also, as Jon noted, the reason for your analysis drives what you use.

      Regarding your questions … assuming no capital requirement, I would pursue both the 85% and 80% efficiency opportunities with equal rigor.  Why?  The ROE is infinite … it can’t be computed because there is no capital required.  In a capital constrained industry (banks, credit unions) a source of income that does not require capital opens up other areas that do require capital (or provides a dividend opportunity).

      If I had only one measure of productivity, it would be the following: (non-interest expense less non-interest income) / (loan balance plus checking & savings account balance).  Effectively, it is net cost of operations per strategic balance dollar.  It is efficiency divided by effectiveness.  The lowest cost is the best.  I would exclude MMkt, CD and IRA from the denominator because they should require minimal resource to attract and manage.  Those funding sources are also rate sensitive – and because of that, have lower strategic value.  In the research I have done, the top third performers take less net interest spread from their members and at the same time, have a higher ROA, because of superior operating leverage.  The bottom third take the most net interest spread and have the lowest ROA, because of poor operating leverage.  Again, any single measure of productivity has its shortcomings, but this is my favorite when evaluating credit union performance.  For banks, my favorite is efficiency ratio as computed by FDIC formula because of the profit focus there.

  • CU Employee

    A couple of comments. Efficiency ratio can be a misleading measure of credit union operating efficiency, because credit unions return to their members "above the line" through higher rates on deposits, lower rates on loans, and lower fees. Depending on member giveback, this can depress reported income. Expense/Assets may be a better measure of relative efficiency. I would also challenge the assertion that 50% is the optimum efficiency ratio. The efficiency ratio is driven by several factors, including operating model. At Alliant, for example, our relatively low operating expense derives from a low-cost acquisition model (SEG and word of mouth) and high member reliance on remote and self-service channel access. This hasn't prevented us from investing in talent and technology, nor has it limited growth, and giveback is in the top 2% of credit unions.

    • CU Employee CULytics Founder

      Hi David,

      Interesting perspective.

      1, What are your thoughts on using Efficiency Ratio for comparing branches and/or products to get a better sense of how they are performing?

      2. I have been thinking more of non-interest expense/Assets as a measure. This measure will favor credit unions where members have higher balances, since then credit unions have to serve less members for the same asset size, which reduces their non-interest expenses. Looking back, even Efficiency Ration tends to favor credit unions where members have higher balances. 

      Interestingly, with this StarOne is still the most efficient credit union. 

      CU Name Non-Interest Expenses over assets
      NAVY FEDERAL CREDIT UNION 3.10%
      STATE EMPLOYEES' 1.96%
      PENTAGON 1.71%
      BOEING EMPLOYEES 2.43%
      SCHOOLSFIRST 2.10%
      THE GOLDEN 1 2.41%
      FIRST TECHNOLOGY 2.38%
      ALLIANT 1.35%
      SECURITY SERVICE 2.94%
      STAR ONE 0.62%

       

      3. Another metric might be interesting is non-interest expense/member, which shows how much a credit union is spending to service each member.

      cu_Name Non-Interest Expense Per Member
      NAVY FEDERAL CREDIT UNION  $ 347.46
      STATE EMPLOYEES'  $ 318.89
      PENTAGON  $ 239.62
      BOEING EMPLOYEES  $ 392.86
      SCHOOLSFIRST  $ 367.02
      THE GOLDEN 1  $ 294.68
      FIRST TECHNOLOGY  $ 503.30
      ALLIANT  $ 344.55
      SECURITY SERVICE  $ 372.96
      STAR ONE  $ 563.86

       

    • CU Employee

      I think the problem with using efficiency ratio for evaluating branches is accurately determining revenue or asset attribution. What revenue/assets are directly attributable to a given branch? With products, the challenge is cost attribution.

      Your observation about higher average balances is correct. Also, revenue (adjusted for giveback) tends to be a function of balances, while operating expense is a function of number of members, so it makes sense that CUs with higher average balances would be more efficient - i.e., generate more revenue relative to expense.

      I agree that a better relative efficiency measure for CUs is non-interest expense/assets. And yes, it tends to be correlated with efficiency ratio for the reasons above.

      I agree that non-interest expense/member is a useful metric for managing productivity.

    • Vendor

      Interesting comments. My original commentary was focused on branch dependent financial services firms. Different business models that are more dependent on digital or mobiile channels might yield different efficiency ratios. I agree that the efficiency ratio is not necessarily a productivity measure, and certainly not the only measure one should look at when examining their business, but it is a telling metric. Higher rates are an incremental expense and can either be seen as a "member benefit" or a "cost of doing business". If you were a bank instead of a credit union, and you offered higher rates, it would be seen as a cost of doing business. Shareholder dividends would be the equivalent of member giveback.

      Average cost to serve a member is an interesting metric. The bottom line with any retail branch-dependent FI is that it has a heavy fixed infrastructure cost, so like any fixed-cost business needs big customer volumes to first meet those breakeven expense levels, but anything above those levels yields higher profitability, which can be returned to members. One other point. My short speech on this topic was limited to 12 minutes so I was unable to go into the nuances of all the other key metrics one should examine. Perhaps at a future event I can expound on these topics in greater detail.

       

This reply was deleted.

 

advantedge
altair
ibi
arka
trellance
coopfs
dfa
wherescape
alkami
prismacampaigns
marquis
aiq
totex
cnet
datava
aun
cinch

Related Post

 

Ad Unit Settings






Ad Url Settings

 

api-lead-approach
the-amazon-lending-experience
executing-advanced-analytics-do-s-and-don-t
lending-transformation-old-vs-new
data-journey-building-strong-analytical-practices
4-step-iterative-process-building-a-relevant-analytics-practice
significant-measures-towards-new-normal
building-a-strong-analytics-practice-recipe-for-success
data-warehouse-evaluation-and-implementation
explainable-ai-trust-and-transparency
forecasting
top-50-members-using-transactional-website-jun-2020
top-50-cus-with-highest-and-lowest-efficiency-june-2020
importance-of-financial-risk-management
secret-sauce-for-long-term-sustainable-business-intelligence-succ
top-pfm-technologies
secret-sauce-for-long-term-sustainable-business-intelligence-succ
top-pfm-technologies
data-warehouse-and-bi-technologies-opportunities-challenges
top-chatbot-technologies
keys-to-building-an-effective-branch-or-atm-network
top-50-credit-unions-with-highest-and-lowest-accounts-per-member
lowest-and-highest-net-income-per-branch
marketing-holy-grail
top-50-most-and-least-delinquent-credit-unions
modern-marketing-technologies
incremental-low-cost-data-driven-wins
power-of-storytelling
the-cost-of-not-investing-in-data-governance
questions-you-should-ask-before-investing-in-data-warehouse
learnings-from-new-data-based-on-auto-loan-pricing
5-questions-you-need-to-ask-before-investing-in-data-governance
digital-marketing-maturity-models-for-credit-unions
marketing-expense-per-member
top-2-reasons-that-are-holding-credit-unions-back-when-they-are-i
using-data-analytics-to-manage-lending-complexity-while-driving-h
5-reasons-your-credit-union-should-invest-in-data-and-digital-now
top-50-most-and-least-efficient-credit-unions
retail-financial-services-outlook-during-covid-19
use-of-operational-analytics-to-mitigate-the-impact-of-covid-19
top-50-credit-unions-based-on-asset-size
cu-peer-comparison-dashboard
cu-peer-benchmark
all-about-machine-learning-engineering
top-web-design-trends
most-important-social-media-marketing-trends
state-of-digital-marketing-maturing-in-credit-unions
top-kpis-for-email-marketing
data-cloud-and-the-digital-transformation-imperative
digital-trinity-and-you
phases-of-financial-industry
analytics-roundtable-workshop
invitation-to-join-digital-transformation-hub
analytics-in-the-credit-union-business
value-of-member-centricity-and-analytics-in-the-growth-of-cus
all-about-membership-analytics
top-fraud-management-technologies
getting-started-with-your-data-analytics-journey
explore-vizualization-for-credit-unions
investment-in-website-personalization-technologies
data-analytics-supporting-cu-s-first-member-philosophy
loyalty-rewards-and-retention-technologies
member-experience-analytics
channel-analytics-and-its-importance
project-portfolio-management-technologies
investment-in-self-service-data-preparation-technologies
self-service-data-preparation-technologies
new-frontier-in-customer-experience-management
role-of-marketing-analytics-in-credit-unions
important-aspects-of-consumer-lending-analytics
kpis-on-website-analytics
journey-towards-bank-less-banking
investment-in-crm-technologies
top-omni-channel-vendors
conversational-banking-solutions
/top-kpis-for-chief-information-officer
mistakes-to-avoid-when-implementing-a-omnichannel-member
top-things-to-consider-when-building-dashboards
making-digital-marketing-more-agile-through-tag-managers
cecl-solution-providers
mistakes-to-avoid-while-implementing-marketing-automation
p2p-payment-integrated-solutions
kpis-for-social-media-tracking
kpis-for-human-resources-management
investment-in-fintechs-should-or-should-not
top-kpis-for-online-banking
investment-in-marketing-automation-technologies
investment-in-e-signature-technologies-should-or-should-not
tips-and-tricks-to-a-successful-bi-program
kpis-for-credit-card-business
kpis-for-digital-marketing
kpis-for-consumer-lending
hot-topics-for-credit-union-data-leaders
kpis-for-debt-collections
kpis-for-finance
website-personalization-tools
data-integration-technologies
robotic-process-automation-tools
why-data-analytics-initiatives-fail
electronic-signature-softwares
data-governance-tools-for-credit-unions
digital-and-mobile-banking-technologies
report-inconsistencies-are-frustrating
is-your-culture-ready-for-data-analytics
three-big-data-myths
turning-transaction-data-into-a-goldmine-a-becu-case-study
call-for-presentation-for-2019-credit-union-analytics-summit-is-n
top-10-keys-to-successful-data-analytics-practice
credit-union-chooses-accountscore-for-open-banking-transaction-da
how-much-do-you-spend-to-serve-a-customer
marketing-automation-technologies-for-credit-union
alexa-ask-first-abilene-fcu-for-my-balance
dataweb-content-management-technologies-for-credit-unions
efficiency-ratio
web-analytics-technologies
data-warehousing-software-for-banks
customer-experience-software
the-best-kept-secret-for-credit-union-data-analytics
mark-sievewright-on-technology-trends
naveen-jain-on-credit-union-analytics-summit-2018
why-analytics-doesn-t-make-a-difference-by-gary-angel
cuas2018-harnessing-the-right-data
build-a-financial-phone-assistant-for-your-credit-union-in-3-step
2018-culytics-analytics-challenge-winner
update-from-naveen
error-resolution
benefits-of-conversational-apps
who-are-your-most-valuable-members-part-1
how-alexa-can-help-your-credit-union
top-10-kpis-for-measuring-retail-channel-performance
how-much-is-too-much-personalization
top-10-kpis-for-measuring-contact-center-efficiency
pressure-on-margins-for-auto-loans-indirect-auto-loans-declining
best-business-intelligence-technologies-for-credit-unions
establishing-a-thriving-data-analytics-practice-is-a-journey
educational-presentations-from-the-2017-axfi-conference
modelling-alternatives-for-cecl-a-deep-future-analytics-study
data-analytics-use-cases-for-credit-unions-infographic
data-analytics-opportunities-in-credit-union-business
loan-application-analytics-with-cufx
machine-learning-delivers-great-consumer-experiences
deep-insights-of-credit-union-members-data-with-machine-learning
web-analytics-reporting-tips-for-credit-unions
big-data-strategy-roadmap-our-data-journey
webinar-framework-for-member-focused-decision-making
too-many-regulations-hurt-credit-union-members
digital-marketing-automation-solutions
online-banking-boom
transformation-transactions-to-relationships
top-dispute-management-technologies
2020-retail-trends
future-of-artificial-intelligence
2020-culytics-summit-attendee-dashboard
repositioning-the-role-of-marketing
marketing-automation-a-step-towards-marketing-transformation
strategic-agility
using-data-to-navigate-through-the-new-normal
digital-transformation-bcu
highest-and-lowest-new-loan-balances-per-branch-as-of-jun-2020
-new-members-ratio-as-of-june-2020
cus-with-highest-and-lowest-loan-grants-per-member-june-2020
self-service-data-preparation-technologies
highest-and-lowest-marketing-expense-per-member-june-2020
the-amazon-lending-experience
api-lead-approach
4-step-iterative-process-building-a-relevant-analytics-practice
data-journey-building-strong-analytical-practices
post-election-the-cu-outlook
most-and-least-delinquent-credit-unions-sept-2020
leveraging-ach-data-to-produce-real-outcomes
member-engagement-scores-benefits
member-engagement-key-to-serve-the-best
story-of-james-an-intelligence-transformation
executive-kpis-the-pulse-of-the-organization
untangling-member-journey
onboarding-strategy-to-deliver-success
the-importance-of-digital-technologies
top-interactive-financial-calculators
using-artificial-intelligence-to-improve-your-productivity
organizational-transformation-to-drive-growth
multi-year-journey-through-data-transformation
top-50-cus-with-the-highest-and-lowest-member-per-branch
digital-transformation-lessons-through-the-eyes-of-a-ceo
organizational-readiness-for-digital-transformation
ruthless-prioritization-to-do-more-to-learn-more-and-to-earn-more
performance-measures-for-digital-services
analytical-maturity-journey-towards-growth
less-is-more-the-necessity-of-focus-for-strategic-success
solving-the-crm-mrm-puzzle
insights-driven-messaging-member-and-product-onboarding
performance-measures-for-marketing
data-insights-that-drive-member-product-innovation
solving-the-crm-mrm-puzzle
the-agility-flywheel-a-strategy-that-never-goes-out-of-the-way
artificial-intelligence-as-a-playing-field-for-credit-unions
performance-measures-for-call-centers
top-automl-technologies
performance-measures-for-lending
building-business-case-for-data-analytics
driving-innovation-and-change
data-analyze-decide-and-create
digital-readiness-important-steps-to-achieve
digital-readiness-important-steps-to-achieve
enabling-credit-unions-with-ai
culytics-virtual-summit-2022-a-resounding-success
culytics-virtual-summit-2022-day-1
digital-banking-roundtable
digital-marketing-roundtable
transformative-lessons-from-a-chief-digital-officer
data-analytics-roundtable-mar-11