FEDERAL AGRICULTURAL MORTGAGE CORP quarterly report, Q3 FY2016

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Federal Agricultural Mortgage Corporation (Farmer Mac) — Q3 2016 Form 10-Q

Reporting period: Quarter and nine months ended September 30, 2016; filed November 9, 2016. Amounts below are in U.S. dollars. Farmer Mac provides secondary-market financing and credit support for agricultural and rural utility lending through loan purchases, guarantees, and long-term standby purchase commitments (LTSPCs).

Financial performance and condition

  • Q3 results: Interest income was $79.5 million, up from $66.9 million a year earlier. Net interest income was $35.6 million versus $32.2 million; net income attributable to common stockholders was $16.4 million versus $8.4 million. Diluted EPS was $1.54 versus $0.74. Non-GAAP core earnings were $14.4 million, or $1.36 per diluted share, compared with $13.2 million, or $1.17.
  • Margins: Q3 net interest yield was 0.89%, compared with 0.90% a year earlier. Non-GAAP net effective spread was $32.2 million, or 0.86%, versus $30.4 million, or 0.88%.
  • Nine-month results: Net interest income was $103.6 million versus $94.8 million. Net income was $48.5 million versus $55.6 million; net income attributable to Farmer Mac was $48.6 million versus $50.4 million. Common-stockholder income was $38.7 million versus $32.3 million, and diluted EPS was $3.60 versus $2.85. Core earnings were $39.9 million versus $33.9 million. Net effective spread was $93.2 million versus $89.4 million, while its yield was 0.84% versus 0.87%.
  • Balance sheet at September 30: Total assets were $16.0 billion, compared with $15.5 billion at year-end 2015. Cash and equivalents were $313.6 million, down from $1.21 billion; investment securities were $3.00 billion. Net loans were $4.33 billion, Farmer Mac Guaranteed Securities were $6.09 billion, and USDA Securities were $2.00 billion.
  • Debt and equity: Notes payable totaled $14.12 billion, including $9.30 billion due within one year; third-party debt securities of consolidated trusts were $1.04 billion. Total equity was $600.9 million, up from $553.7 million at year-end.
  • Cash flow, nine months: Operating activities provided $118.9 million, investing activities used $930.0 million, and financing activities used $85.3 million. Cash and equivalents decreased $896.5 million during the period.
  • Capital and liquidity: Core capital was $587.1 million, $112.3 million above the $474.8 million statutory minimum. Farmer Mac reported 151 days of liquidity at quarter-end and a quarterly average of 147 days, versus a 90-day regulatory minimum. Management said resources should be sufficient for the next 12 months and foreseeable future, assuming continued capital-market access.

Material changes versus comparable periods

  • Q3 common-stockholder income increased year over year, primarily because derivative and hedged-asset fair-value effects were a $0.9 million after-tax gain, versus a $4.5 million after-tax loss in Q3 2015. Core earnings also rose, reflecting higher net effective spread and fees.
  • For the first nine months, GAAP net income declined year over year, while common-stockholder income and core earnings increased. The 2015 comparison included an $8.1 million preferred-stock retirement loss and other effects related to Farmer Mac II LLC preferred stock and non-controlling interests.
  • Nine-month derivative and hedging activity recorded a $13.1 million net loss, compared with a $0.9 million net gain in 2015. Management noted that fair-value fluctuations are excluded from core earnings.
  • Outstanding business volume reached $17.25 billion, up $1.35 billion from December 31, 2015 and about $131 million from June 30, 2016. Growth included Farm & Ranch loans and USDA Securities; a $500 million AgVantage purchase refinanced a security that matured during Q3.
  • Farm & Ranch loans and loans in consolidated trusts grew; the consolidated-trust balance rose to $1.04 billion from $708.1 million at year-end. Total assets increased while cash declined as the balance sheet and business volume expanded.

Outlook, risks, and notable items

  • Outlook: Management sees potential for continued growth across its four business lines, but provided no numerical earnings or volume guidance. Growth depends on lender needs, market conditions, and the ability to replace maturing assets at attractive spreads.
  • Credit: Management described overall credit quality as stable. Farm & Ranch 90-day delinquencies were $18.4 million, or 0.31% of that portfolio, down from $32.1 million, or 0.56%, at year-end 2015. Total allowance for losses was $6.9 million. Substandard assets increased modestly during Q3, and the allowance reflected loan growth, some risk-rating downgrades, and reserve releases. Rural Utilities loans had no reported delinquencies or historical credit losses; USDA exposure is backed by the U.S. government.
  • Portfolio and contingencies: Potential undiscounted exposure included $1.79 billion of off-balance-sheet guarantees and $3.1 billion of LTSPCs. These stated amounts do not reflect recoveries, collateral, or recourse. AgVantage securities were a significant concentration, with $7.35 billion of on- and off-balance-sheet volume; management cited issuer credit and refinancing or spread risk as relevant considerations.
  • Market and operating risks: Results are sensitive to interest rates, prepayments, basis spreads between funding costs and market indexes, and access to debt markets. Other risks include agricultural commodity prices, farmland values, weather and drought, and rural-utility lending conditions. Management noted recent farmland-value declines in some Midwest regions and ongoing western drought, but reported no material portfolio impact from drought through September 30.
  • Valuation and unusual items: Approximately $7.0 billion of fair-value instruments were Level 3 measurements using significant unobservable inputs. Available-for-sale securities included unrealized losses that management attributed principally to market-rate or credit-spread changes and did not consider other-than-temporary. Auction-rate certificates remained illiquid following failed auctions; their $17.6 million carrying value was about 89% of par.
  • Regulatory and governance: New FCA board-governance requirements became effective October 17, 2016. Management did not expect the cited regulatory developments to materially affect operations or financial condition. No legal proceedings or material changes to previously disclosed risk factors were reported; disclosure controls were considered effective.

Important facts for investors to verify

  • Reconcile GAAP results with non-GAAP core earnings and net effective spread, especially the impact of derivative fair-value changes and the distinct 2015 preferred-stock items.
  • Review the composition, valuation assumptions, and liquidity of Level 3 assets, including AgVantage and USDA securities, and the continuing illiquidity of auction-rate certificates.
  • Assess refinancing needs and funding-market access against $14.12 billion of notes payable, including $9.30 billion due within one year, and monitor liquidity against the 90-day minimum.
  • Track Farm & Ranch delinquencies, substandard assets, specific reserves, and farmland and commodity conditions, including drought exposure and specialized collateral sectors.
  • Evaluate off-balance-sheet guarantee and LTSPC exposures, AgVantage counterparty concentrations and maturities, and whether new business replaces assets that mature or repay at comparable spreads.
  • Confirm continuing compliance with statutory capital requirements and the effect of dividends, repurchases, and business growth on capital headroom.