Federal Agricultural Mortgage Corporation (Farmer Mac) — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016; filed August 9, 2016. Farmer Mac provides secondary-market liquidity and credit support to agricultural and rural utility lenders through loan purchases, guarantees, and long-term standby purchase commitments (LTSPCs).
Financial performance and position
Q2 results: Net interest income was $34.4 million, up from $31.9 million a year earlier. Net income attributable to common stockholders was $12.0 million, or $1.13 per diluted share, versus $22.2 million, or $1.94, in Q2 2015. Non-GAAP core earnings were $13.0 million, or $1.23 per diluted share, compared with $11.6 million, or $1.02. Guarantee and commitment fees rose to $3.7 million from $3.4 million.
First-half results: Net interest income was $68.0 million versus $62.7 million; common-stockholder net income was $22.3 million, or $2.07 per diluted share, versus $24.0 million, or $2.11. Core earnings increased to $25.4 million, or $2.35 per diluted share, from $20.7 million, or $1.82.
Margins and earnings volatility: Q2 net interest income yield was 0.88%, compared with 0.90% in Q2 2015; non-GAAP net effective spread was $31.0 million and 0.84%, versus $29.8 million and 0.88%. First-half net effective spread was $61.0 million and 0.83%, versus $59.0 million and 0.87%. GAAP derivative and hedging results swung to a $4.7 million loss in Q2 and an $11.5 million loss for the first half, from gains of $14.4 million and $10.5 million, respectively, in 2015. Management attributed much of the year-over-year decline in GAAP earnings to these fair-value changes; core earnings exclude specified fair-value effects and other adjustments.
Balance sheet and funding (June 30, 2016, versus December 31, 2015): Total assets were $16.8 billion, up from $15.5 billion; total liabilities were $16.2 billion, versus $15.0 billion. Notes payable totaled $14.8 billion, including $10.1 billion due within one year. Cash and cash equivalents were $1.8 billion, compared with $1.2 billion. Total equity was $585.2 million, up from $553.7 million. Operating cash flow for the first half was $37.2 million, down from $113.4 million; cash nevertheless increased $554.5 million to $1.8 billion.
Liquidity and capital: Liquid assets (cash and investment securities) totaled $4.2 billion. Farmer Mac reported 145 days of liquidity at quarter-end and an average of 154 days in Q2, above the regulatory minimum of 90 days. Core capital of $572.6 million exceeded the $497.1 million minimum by $75.5 million, down from a $102.4 million cushion at year-end. The Tier 1 capital ratio was 9.8%, versus 10.5% at year-end. Farmer Mac reported compliance with capital requirements and the highest regulatory compliance level.
Material changes and operating developments
- Outstanding business volume grew to $17.1 billion, up $0.9 billion from March 31, $1.2 billion from year-end, and $2.0 billion year over year. Q2 additions included $421.4 million of Rural Utilities loans under LTSPCs, $396.2 million of AgVantage securities, and $241.1 million of Farm & Ranch loans.
- Net interest income increased in dollars, partly reflecting business growth and higher short-term rates, but yields and net effective spread percentages declined year over year. Management cited a tighter spread on a refinanced AgVantage security and increased holdings of lower-yielding cash and investments for liquidity.
- General and administrative expense increased to $3.8 million for Q2 and $7.3 million for the first half, principally due to consulting, technology, infrastructure, and business-development spending. First-half compensation expense was broadly stable.
- Q2 common dividends were $0.26 per share, versus $0.16 a year earlier. Farmer Mac had repurchased approximately 668,000 Class C shares for about $19.6 million under its authorized $25 million program as of June 30; it made no repurchases in Q2.
Outlook, risks, and unusual items
- Management sees potential for continued growth across Farm & Ranch, USDA Guarantees, Rural Utilities, and Institutional Credit, but provides no specific earnings or volume forecast. Growth depends on customer demand, capital and liquidity needs, and replacement of assets that mature or repay, potentially at lower spreads.
- Farm & Ranch 90-day delinquencies declined to $22.1 million, or 0.38% of that portfolio, from $32.1 million, or 0.56%, at year-end. Total allowance for losses was $7.1 million, up from $6.6 million. Provisions reflected specific collateral shortfalls and risk-rating downgrades; no loan charge-offs occurred in the first half of 2016.
- Management identified agricultural commodity-price and farmland-value declines, weather and drought (including continuing Western drought), borrower repayment capacity, interest-rate and basis risk, funding-market access, regulatory developments, and competition as risks. It reported no material drought effect on the portfolio through June 30, 2016, while warning persistent drought could adversely affect delinquencies or losses.
- Potential undiscounted obligations included $1.8 billion of off-balance-sheet Farmer Mac Guaranteed Securities and $3.1 billion of LTSPCs. These amounts are not estimates of expected losses and do not reflect collateral, recoveries, or other offsets.
- Fair-value estimation is significant: $6.7 billion of fair-value instruments were Level 3 at quarter-end, including major guarantee and USDA-security balances. Available-for-sale AgVantage securities had $70.4 million of unrealized losses lasting more than 12 months; management concluded the losses were not other-than-temporary and did not expect forced sales before recovery.
- Farmer Mac reported no material changes to previously disclosed risk factors, no legal proceedings, and effective disclosure controls. Management stated that it maintained access to capital markets at favorable rates through the reporting period and believed resources were sufficient for the next 12 months, subject to continued market access.
Important facts for investors to verify
- Whether core earnings and net effective spread trends persist, and how much reported GAAP earnings continue to fluctuate with derivative and hedge fair values.
- The funding and refinancing profile of $14.8 billion of notes payable, especially the $10.1 billion due within one year, and continued access to capital markets.
- Capital headroom, liquidity days, and the effect of balance-sheet and business-volume growth on regulatory capital requirements.
- Credit trends in Farm & Ranch exposures, including delinquencies, impaired loans, collateral values, commodity and regional concentrations, and drought effects.
- Concentration and counterparty exposure in AgVantage securities, and the quality and valuation assumptions supporting Level 3 assets.
- The ultimate credit and cash-flow implications of off-balance-sheet guarantees and LTSPCs; reported maximum obligations are not expected-loss estimates.