Business context and reporting period
National Rural Utilities Cooperative Finance Corporation (CFC) is a member-owned, tax-exempt cooperative lender serving rural electric utilities, with related financing through RTFC and NCSC. This Form 10-Q covers the fiscal third quarter and nine months ended February 29, 2016; comparisons are to the periods ended February 28, 2015. Although the request metadata says “2015 Q3,” the filing reports fiscal 2016 Q3.
Financial performance and condition
| Metric | Three months ended Feb. 29, 2016 | Nine months ended Feb. 29, 2016 |
|---|---|---|
| Interest income | $253.6 million, up 6% | $756.1 million, up 6% |
| Interest expense | $171.2 million, up 9% | $504.0 million, up 7% |
| Net interest income | $82.4 million, up 1% | $252.1 million, up 5% |
| GAAP net loss | $174.4 million | $155.8 million |
| Adjusted net income (non-GAAP) | $46.1 million | $135.2 million |
| GAAP TIER / adjusted TIER | (0.02) / 1.24 | 0.69 / 1.24 |
| Operating cash flow | Not separately stated for the quarter | $197.5 million, versus $222.8 million |
Reported losses were principally driven by derivative losses of $243.0 million for the quarter and $356.2 million year to date. Most reflected non-cash fair-value changes; derivative forward-value losses were $220.5 million and $291.0 million, respectively. CFC says these mark-to-market movements create GAAP earnings volatility and are not necessarily indicative of core lending performance. Adjusted measures include cash settlements but exclude derivative forward-value changes.
For the quarter, net interest yield was 1.40%, down 11 basis points year over year; adjusted net interest yield was 1.02%, down 11 basis points. For the nine months, those measures were 1.47% (down 2 basis points) and 1.09% (down 1 basis point), respectively. Loan growth supported income, while lower fixed-rate loan yields and a higher average funding cost pressured yields.
At February 29, 2016, total assets were $24.4 billion, loans outstanding were $23.1 billion (up 8% from May 31, 2015), total debt was $22.7 billion (up 7%), and equity was $716.5 million (down 21%). The GAAP debt-to-equity ratio rose to 33.04 from 24.06; adjusted debt-to-equity increased to 6.67 from 6.26, above management’s target of 6.00 or less. Cash, investments and time deposits totaled $724.1 million on the selected-data presentation; cash and time deposits were $639 million in the liquidity discussion.
Material changes, outlook and risks
- Loan growth was driven mainly by CFC distribution loans, including member refinancing and capital-investment advances. Total debt rose to fund this growth. Adjusted net income increased year to date, supported by higher adjusted net interest income and the absence of the prior-year $27 million CAH impairment charge.
- Management expects new long-term loan advances to exceed scheduled repayments over the next 12 months and anticipates higher core lending earnings. It estimates about $1.96 billion of long-term advances over that period; its liquidity forecast shows $2.70 billion of advances against $1.82 billion of repayments over six quarters.
- Management reported $6.79 billion of available liquidity reserve access, including $3.31 billion under bank revolvers, and said it expects to meet member funding needs and debt maturities. Long-term debt maturities over the next 12 months were $1.36 billion. CFC was in compliance with revolving-credit and senior-debt covenants at period end.
- On March 29, 2016, after quarter-end, CFC closed a new $250 million FFB facility guaranteed by RUS, bringing committed FFB facilities to $600 million. The facility is available through January 15, 2019, with advances having up to 20-year maturities.
- CFC agreed to sell foreclosed-asset subsidiary CAH for $145 million, subject to adjustments; its recorded carrying amount was $118.4 million, representing estimated net proceeds. Closing was expected in the second half of calendar 2016, subject to regulatory approvals and other conditions.
- Credit indicators remained low but worsened in some respects: criticized loans were 0.2% of the portfolio; TDRs increased to $17.4 million from $11.7 million; and $2.4 million of loans were nonperforming. The allowance was $37.9 million, or 0.16% of loans. Risks include borrower credit deterioration, interest-rate and yield-curve changes, derivative-counterparty exposure, refinancing and rollover access, and conditions to the CAH sale.
- Moody’s and Fitch outlooks were stable; S&P’s outlook was negative. A Virgin Islands tax deficiency dispute involving RTFC remained pending; RTFC said it considered the allegations without merit. Management reported no material change to previously disclosed risk factors and stated disclosure controls were effective.
Investor verification points
- Confirm the scale and cash-flow treatment of derivative fair-value losses versus recurring cash settlements, and the basis for adjusted results.
- Review whether loan growth, funding costs and adjusted TIER support progress toward the adjusted debt-to-equity target of 6.00 or less.
- Assess liquidity assumptions against debt maturities, commercial-paper rollover needs, unadvanced commitments and the availability of market-based funding.
- Track credit quality, especially RTFC impaired/nonperforming exposures, TDRs and the adequacy of the allowance.
- Verify completion conditions and final proceeds for the CAH sale, and monitor the RTFC tax dispute and credit-rating outlooks.