CAMEL Rating System Revisions

The National Credit Union Administration (NCUA) adopted the CAMEL Rating System in October 1987, to provide an accurate and consistent assessment of a credit union's financial condition and operations in the areas of Capital Adequacy, Asset Quality, Management, Earnings, and Liquidity. The system is NCUA's internal tool to measure risk and allocate resources for supervision purposes and is not intended to be used as a grading system. Over the past several months, NCUA has reviewed and updated the CAMEL Rating System to respond to continuing economic changes in the credit union industry.

A detailed discussion for each of the component areas is presented in Enclosure (1). The number of key ratios has been reduced from eleven in 1987, to seven in 1991, to five with this release. Two key ratios (Fixed Assets + OREOS/Assets and Net Operating Expenses/Average Assets) have become supporting ratios primarily because they were not found to be material to the analysis of the respective Component areas. Other changes include:

• Twelve new "supporting ratios" that will assist examiners in analyzing the various CAMEL Component areas (See bolded ratios in Enclosure (2));
• Reduced Capital Adequacy "benchmark" ratios that reflect the stability in credit unions;
• Increased Asset Quality "benchmark" ratios that will not penalize credit unions for managing the reasonable risks associated with various lending and investment decisions;
• A revised Management Review section that is expanded to include objective indicators of management's ability. The four areas include: Business Strategy/Financial Performance, Internal Controls, Management Conduct, Service to Members;
• A reduced Earnings analysis to one key ratio - Return on Average Assets - which represents the bottomline;
• A revised Liquidity section addressing interest rate sensitivity; and
• Expanded latitude for examiners to adjust the Component and Composite ratings.

Enclosures (2) and (3) identify the CAMEL key ratios, supporting ratios, and the formulas used in the calculation of these ratios. Revisions have been made to the benchmark values used to evaluate the CAMEL key ratios. These benchmarks assist examiners by providing them with an initial quantitative assessment of the financial health of the credit unions they are examining. The key ratio ranges are reflected in Enclosure (4).

The CAMEL rating is not automatically determined by key ratios alone. Examiners are instructed to look behind the numbers to determine the significance of supporting ratios and trends. When evaluating the components of CAMEL, examiners look at both the quantitative measurements as well as the qualitative considerations outlined in Enclosure (1) before a final rating is determined. Examiners will have the discretion to increase or decrease any rating as they determine necessary. The rules that if any component is rated 4 or 5, the composite rating cannot be higher than a 3, or if 3 of the 5 components are rated 3 or lower, the composite rating cannot be higher than a 3, have been eliminated.

This Letter will be effective with implementation of the new AIRES examination program scheduled for release early in 1995. It will supersede Letter No. 144 when implemented.