Part 1: How Big Banks Make The Grade With Colleges and Universities
If you like college scandals involving big names, then you’ll enjoy my trip down a rabbit hole into the world of relationships between big banks and major universities. It begins with two articles published by the Wall Street Journal throughout 2018:
January 28, 2018: Big Banks Pay for Top Billing
December 11, 2018: Campus Banks Cashing in on High Fees
In short, they detail the means by which large banks gain access to university distribution channels for marketing purposes, and the relative fees on the products offered to students, then the resulting compensation paid to the schools. This table below is from the second article and its illustrative of the point, showing that PNC Bank paid the most of any bank with $7.6MM in compensation to college partners under affinity programs in 2016-2017. This takes relevance in my Part 2 of this piece.
Side Note: If I’m PNC here, I’m pretty miffed when looking at the Wells numbers and seeing that I paid three times more in these programs for 1/3rd of the active customers with 1/3rd of the profitability. That’s some efficient work by Wells for that year. Benefit of the doubt to PNC, let’s assume that year included prior year royalties paid by PNC.
If you’re like me, the first question comes to mind is – they can do this? I was trained that this is a theoretical “no-no,” but it appears to be a technical, “mmm…ok.”
Pay to play. There is no regulation that per se prohibits these types of agreements or relationships to provide consumer services via affinity relationships. TILA has ten subparts committed to credit card origination, disclosures and servicing; but nothing pertaining to the nature of the relationship between partner (school) and bank here. In fact, the CARD Act of 2009 §305, the enacting regulation for these TILA subpart amendments, implicitly permits them subject to certain conditions, mainly reporting, age and prohibitions against inducement or tangible gifts for openings, but not applications.
That Act specifically references in a subpart that the nature of this transaction is one where the creditor, “has agreed to donate a portion of the proceeds of the credit card to the institution, organization, or foundation (including a lump sum or 1-time payment of money for access).” This provides an avenue of permissibility for “compensation” like that paid in the table above. Interestingly, this significant opening for lenders is practically buried after 2009 and overlooked in much of the literature. I had to go to the current day Code of Federal Regulations verbiage itself to confirm its existence because I couldn’t even locate it in TILA, and its there, tucked into definitions. End of the day, that is little more than a risk-weighted marketing expense. A good Part 3 would be examining whether that donation under the CARD Act is actually CRA eligible; my guess is “no.”
By comparison, I would argue that the structure of the 2006 contract discussed below where royalties are paid as compensation on a performance basis would be outside the scope of this later 2009 CARD Act permissibility because that performance-based variability is not consistent with the plain meaning of a “donation,” introduced in 2009. Either a flat percentage-based figure derived from proceeds, e.g. (2% of program proceeds meaning net income), or a pure flat dollar amount given at least annually would be more reflective of a donation under that 2009 Act subpart. Financial modelers should be able to arrive at a realistic forecast of profitability for purposes of setting a flat dollar amount in such a program.
Consumer Harm. There are acts which prohibit this type of activity intended to prevent the risk of abuse of consumers, namely UDAAP, and ECOA for credit products, with emphasis on disparate impact analysis for activities which are not facially discriminatory. Also, according to the article, “The [United States Department of Education] requires that colleges ensure the bank deals are ‘not inconsistent with the best financial interests’ of students.” In this case, a program that would likely result in ECOA disparate impact would be one where the credit card product fee structure resulted in higher fee products at schools where protected classes were more likely to be accessing the products; a women’s only or historically black university would be clear examples.
Another criticized campaign variable would likely be variations in “donation” amounts as between different schools. It would likely be arguied with reference to administrative cost of the program that larger donations are warranted in certain instances, like larger metropolitan campuses in high cost of living states, and for that reason a flat per-unit donation model could not be adopted. However, when confronted with the proposition that a school donated substantially more to a program with a 10,000 student base which happened to be at a prominent private university costing $55,000 per year, as compared to a 1,000 student base which happened to be a small independent liberal arts college with very high acceptance rates and comparatively high cohort default rates located in an urban area, then the bank can expect to be pressed to justify that differential in administrative cost on an itemized basis.
A UDAAP or state counterpart claim would result for any class of persons who were subjected to a harmful practice either in marketing or program execution. A good example would be a program where the school issued tuition refunds on prepaid cards which had fees associated thereby depleting student funds when less harmful alternatives exist, like direct deposit to a fee free checking account, yet the school did not make the alternatives available. Also, if you’re in a state like Massachusetts, then the state counterpart (§93A) not only permits private cause of action, but also treble damages. Finally, the HEA requirement likely has no private right of action for the consumer, but instead would impact a school’s compliance with that Act itself. An argument can likely be made that these programs may not be in the best interest of students if structured with fee-heavy, high-rate, or debt-inducing products, and therefore would prove risky for a university in maintaining HEA compliance.
With that background now, I’m more interested in examining any testing requirements from regulators, and samples of these types of contracts. The CFPB in its exam manual does not appear to examine the nature of any compensation paid as between a bank and a school in a credit card affinity marketing program; see card marketing at page 7. The OCC provides some testing requirements from its exam manual for credit card affinity and co-branding programs. It states in a supplemental part, only:
Determine whether any of the programs
- diverge from the bank’s underwriting standards.
- offer preferential pricing.
- offer features not available to other bank customers
If a program does any of the above,
– evaluate the appropriateness of program differences; and
– determine the overall impact on the portfolio quality and discuss your findings with bank management.
Overall, these are relatively scant testing requirements. Preceding this act, there was even congressional testimony from credit card issuers before the Senate Committee on Banking, Housing and Urban Affairs relating to the affinity programs on college campuses. The point is, if Congress wanted to prohibit these types of relationships, they could have done so in the Card Act of 2009. They didn’t. There was also a review by the US GAO in February 2014 relating to affinity programs for debit and prepaid cards. The CFPB was the entity to dive further into the relationships.
A quick glance at available contracts, namely one from 2006 between USC and FIA Card Services, a subsidiary of Bank of American since 2014, reveals the following provisions of interest:
- Exclusivity in marketing and issuance
- Right to solicit
- USC to produce a mailing list of 180,000 names
- Trademark license
- Internet placement
- Tangible goods to incentivize card applications (later prohibited by the CARD Act with exceptions)
- Right of first refusal
- Ability to direct market across multiple channels with at least a minimum of twelve direct contacts
- Bank to bear the cost of program administration
- Royalties to be paid quarterly to USC together with reports showing KPIs
- Ownership of customer information
- Intentions relating to establishing a kiosk POS
- And more.
Thereafter, the contract sets forth a seven-page royalties addendum outlining the compensation paid to USC under the program. This includes fixed fees for unit production and percentage fees for volume production across multiple forms of credit cards, loans, and deposit products. Most interestingly, the agreement contains a guarantee provision for royalties to meet or exceed $10.5MM over the course of the seven-year contract. Of the only hard numbers the contract provides (I’m not going digging for actual metric reports!), then we know that FIA committed to pay at least $58 per lead by way of royalty guaranty, and bore the cost of the program, but presumably garnered income well in excess of the $10.5MM it committed itself to pay. That price point is well below the average customer acquisition cost estimated in today’s market. Further considering that you may be acquiring a customer for life, then this is a relative bargain.
In light of all this we’re left with a permissible avenue to gain acceptance to marketing in schools and universities under an affinity card program by way of donation from the proceeds. Now that you’re inside, Part 2 will discuss expanding the relationship.