Business context and reporting period
National Rural Utilities Cooperative Finance Corporation (CFC) is a tax-exempt cooperative lender serving rural electric and telecommunications members. This Form 10-Q covers the fiscal quarter and nine months ended February 28, 2014; the filing identifies it as fiscal 2014’s third quarter, despite the request metadata’s “2013 Q3” label. Amounts below are in U.S. dollars; financial statement figures are in millions unless stated otherwise. Results consolidate CFC, RTFC, NCSC and certain controlled entities.
Financial performance and condition
| Metric | Three months ended Feb. 28 | Nine months ended Feb. 28 |
|---|---|---|
| Interest income | $238.7 in 2014; $234.0 in 2013 | $719.1 in 2014; $715.7 in 2013 |
| Net interest income | $75.2; $62.1 | $222.6; $192.9 |
| Net income | $28.5; $90.1 | $211.8; $162.8 |
| Net income attributable to CFC | $28.3; $88.4 | $208.8; $160.4 |
| Adjusted net income, non-GAAP | $41.4; $28.9 | $112.9; $100.6 |
| Adjusted TIER, non-GAAP | 1.23; 1.15 | 1.20; 1.18 |
| Operating cash flow | $281.1 for nine months, versus $204.3 in 2013 |
Quarterly GAAP net income fell sharply as derivative results swung to a $31.6 million loss from a $46.6 million gain in the prior-year quarter. Adjusted net income excludes derivative forward-value changes and rose year over year. Nine-month net interest income increased 15%, mainly reflecting lower funding costs; reported interest expense declined to $496.5 million from $522.8 million. The nine-month loan-loss provision was $3.2 million, compared with $4.9 million.
At February 28, 2014, total assets were $23.11 billion, including net member loans of $20.59 billion and cash and cash equivalents of $842.9 million. Total liabilities were $22.12 billion and total equity was $990.3 million. Total debt outstanding was $21.33 billion, up $786.7 million from May 31, 2013; 77% was fixed-rate and 23% variable-rate. Short-term debt was $6.54 billion. The GAAP debt-to-equity ratio was 22.33-to-1; adjusted debt-to-equity was 6.01-to-1, compared with 5.76-to-1 at fiscal year-end.
Total loans outstanding increased $339 million to $20.64 billion. Nonperforming loans were $10.8 million, or 0.05% of loans, down from $15.5 million; restructured loans were $7.6 million, down from $47.0 million. The allowance for loan losses was $56.0 million, or 0.27% of loans. Unadvanced loan commitments totaled $13.54 billion; $2.25 billion of committed line-of-credit amounts were not subject to a material-adverse-change clause at the time of advance.
Material changes, liquidity and capital
- For the nine-month period, adjusted net income increased $12.3 million. Management attributed the improvement mainly to a $19 million increase in adjusted net interest income and $17 million lower salary and benefit expense, partly offset by $14 million lower fee and other income and $9 million lower foreclosed-asset results. Prior-year salary expense included a $13 million voluntary retirement-plan contribution; prior-year fee income included a $13 million prepayment fee.
- Cash and cash equivalents rose $665.9 million to $842.9 million. Nine-month investing cash use was $348.2 million and financing cash provided was $732.9 million. Cash growth included prefunding for $450 million of collateral trust bonds that matured March 1, 2014.
- Long-term debt increased to $12.90 billion from $10.70 billion, while short-term debt declined to $6.54 billion from $7.72 billion. CFC issued $1.4 billion of collateral trust bonds during the nine months and borrowed $325 million under the Guaranteed Underwriter Program.
- Available bank revolving credit was approximately $3.44 billion, with no borrowings outstanding; committed Federal Financing Bank facilities had up to $924 million available, and the Federal Agricultural Mortgage Corporation facility had up to $2.38 billion available subject to market conditions. CFC reported compliance with revolving-credit and senior-debt indenture covenants.
- Guarantees outstanding were $1.11 billion, including $519.2 million of long-term tax-exempt bonds and $472.0 million of letters of credit. CFC was also liquidity provider for $571 million of variable-rate tax-exempt bonds; it was not required to provide funds under these obligations during the nine months.
Outlook, commentary and risks
Management expected new long-term loan advances to exceed scheduled long-term repayments over the next 12 months, partly offset by line-of-credit bridge-loan repayments, and anticipated a slight increase in earnings from core lending. It expected approximately $1.50 billion of long-term loan advances and $1.11 billion of long-term loan repayments over the next 12 months. Management expected liquidity sources to cover loan funding and debt maturities over the next 12 to 18 months, and expected adjusted debt-to-equity to return below 6.00-to-1 as the temporary bond-prefunding effect passed. These are forward-looking expectations, not guarantees.
Key risks include access to capital markets and refinancing short-term and maturing debt, member loan demand and credit quality, interest-rate and derivative valuation exposure, derivative counterparty performance, collateral values and foreclosed-asset results, and regulatory or economic developments affecting rural utilities. A borrower in nonperforming status was in bankruptcy; another had made a March 2014 payment and returned to current status; a third was seeking a buyer, and management expected sale proceeds might not repay the full amount owed. At February 28, two derivative counterparties were below contractual rating-trigger levels; terminating related swaps would have required an estimated $22 million payment. Management stated there were no material changes to risk factors disclosed in the fiscal 2013 Form 10-K.
The filing describes a correction of a historical RTFC consolidation classification error: other liabilities decreased and noncontrolling interest increased by $11.5 million. Management deemed it immaterial to current and prior periods; it did not affect total assets, total liabilities and equity, earnings, cash flows or covenant compliance. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Reconcile GAAP earnings with adjusted net income and adjusted TIER, including the substantial quarter-to-quarter impact of derivative fair-value changes.
- Track refinancing and rollover capacity for $4.79 billion of short-term debt and $1.76 billion of long-term debt maturing within one year, and confirm availability and terms of committed facilities.
- Monitor adjusted debt-to-equity against management’s below-6.00-to-1 goal and covenant thresholds, including the effect of the March 2014 bond maturity.
- Review credit developments in nonperforming and restructured loans, the adequacy of the $56.0 million allowance, and potential losses on the borrower seeking a sale.
- Assess contingent exposure from guarantees, liquidity-provider commitments, unadvanced loan commitments, and derivative rating triggers and counterparty concentrations.
- Confirm the fiscal-period label: the filing period ended February 28, 2014 and is described in the filing as fiscal 2014 Q3.