Federal Agricultural Mortgage Corp (AGM) 2014 Q4 法說會逐字稿

Good morning and welcome to The Federal Agricultural Mortgage Corporation's fourth-quarter 2014 investor conference call.

(Operator Instructions)

Please note this event is being recorded. I would now like to turn the conference over to Mr. Tim Buzby. Please go ahead, sir.

Thank you. Good morning. I am Tim Buzby, Farmer Mac's President and CEO.

The Farmer Mac management team and I are pleased to welcome you to our 2014 fourth-quarter and year-end investor conference call.

Before starting this morning I will ask Steve Mullery, Farmer Mac's General Counsel, to comment on forward-looking statements that management may make today as well as Farmer Mac's use of non-GAAP financial measures.

Thanks, Tim. Some of the statements made on this conference call may constitute forward-looking statements under the securities laws. We make these statements based on our current expectations and assumptions about future events and business performance.

We do not undertake any obligation to update these statements after the date of this call. We caution you that forward-looking statements are subject to a number of risks and uncertainties. Actual results may differ materially from the results expressed or implied by the forward-looking statements.

In evaluating Farmer Mac you should consider these risks and uncertainties as well as those described in our 2014 annual report on Form 10-K which was filed with the SEC this morning. Farmer Mac uses core earnings, a non-GAAP financial measure, to measure corporate performance and develop financial plans.

In 2014 Farmer Mac also presented core earnings excluding the effects of two short-term initiatives. First, a cash management and liquidity initiative implemented in second-quarter 2014 designed to increase our short-term investment alternatives and to gain access to the Fed's reverse repo facility, which is described in more detail in our SEC filings. Second, a capital structure initiative that is also described in more detail in our SEC filings under which Farmer Mac issued preferred stock in 2014 to increase its Tier 1 capital position and to help fund in advance the redemption of all $250 million of Farmer Mac II LLC preferred stock on March 30, 2015.

In management's view core earnings and core earnings excluding these two initiatives are useful alternative measures for understanding Farmer Mac's economic performance, transaction economics and business trends. These non-GAAP financial measures may not be comparable to similarly labeled non-GAAP financial measures disclosed by other companies.

Farmer Mac's disclosure of core earnings and core earnings excluding the indicated items is intended to be supplemental in nature. These measures are not meant to be considered in isolation from, as a substitute for or as more important than the related financial information prepared in accordance with GAAP. A recording of this call will be available on our website for two weeks starting later today.

Thank you, Steve. Farmer Mac's business environment remained favorable in 2014 and we are very pleased with our results for the year. Even more exciting is that our outlook going forward is very positive with many new business prospects for 2015 and a healthy credit portfolio that is well-positioned to withstand any pressures that may stress the agricultural economy.

Farmer Mac ended 2014 with record outstanding business volume that was just shy of $14.6 billion reflecting net growth of nearly $650 million for the year. Our core earnings for 2014 were $53 million and net effective spread in all four of our business plans improved throughout the year reversing the trend of contraction in all four lines during the previous years.

Credit quality continues to be very favorable as evidenced by 90-day delinquencies hovering near the lowest end of Farmer Mac's historic range and net releases to the allowance for losses of $3.2 million. The releases from the allowance were primarily due to significant repayments of ethanol loans during 2014 and the improvements in the quality of the few remaining ethanol loans in our portfolio. During 2014 Farmer Mac undertook a couple of unique initiatives designed specifically to achieve important goals.

While we are very pleased with those results the reporting of those initiatives has made analysis of our financial results in comparisons to other periods more difficult. We have provided investors with all of this information in our Form 10-K, which we filed with the SEC today, and we hope it will help in isolating the impacts of these items and facilitate greater clarity regarding the fundamentals of our ongoing business.

On March 30, once Farmer Mac redeems the preferred stock issued during 2010 that becomes callable on that day, we will have completed all of the goals we sought to achieve on these fronts. As we enter second-quarter 2015 our financial results will more clearly reflect the fundamental business factors that drive our results.

So let me first discussed the two corporate initiatives. The first was a cash management and liquidity strategy to diversify Farmer Mac's short-term investment alternatives to include the ability to invest significant size repo investments through the Federal Reserve Bank of New York's reverse repo facility. On January 16 we were pleased to announce that Farmer Mac was approved by the Fed to be a counterparty in this facility. We believe this will be a valuable tool for us going forward especially in higher interest rate environments.

The ability to execute these investments directly with the Fed removes any counterparty risk that would result from transacting with other nongovernmental counterparties. During 2014, as Dale will explain in more detail later, the initiative also produced $11.4 million of additional earnings.

The second initiative was a revamp of Farmer Mac's capital structure to one that is of a higher quality and a lower aggregate cost. That initiative included taking advantage of favorable market conditions twice during the first half of 2014 to issue preferred stock in advance of a planned redemption of the more expensive preferred stock at the end of this month.

The financial impact of the early issuances of preferred stock with additional dividends paid during the year of $6.3 million.

With those items in mind let's turn to the financial results for fourth quarter and the full year. Core earnings for fourth-quarter 2014 were $9.5 million, or $0.84 per share compared to $15.3 million or $1.36 per share in fourth-quarter 2013. And $9.3 million, or $0.82 per share in third-quarter 2014.

The decrease compared to fourth-quarter 2013 was primarily the result of a decrease in net effective spread resulting from the redemption of the CoBank preferred stock and the higher preferred dividend expenditures resulting from the earlier issuance of preferred stock mentioned previously. For the full-year 2014 core earnings totaled $53 million, or $4.67 per share compared to $54.9 million, or $4.90 per share in 2013. The decrease was driven by the same factors that drove the year-over-year decline in fourth-quarter 2014 core earnings, partially offset by tax benefits from the cash management and liquidity initiative.

Clearly these two short-term initiatives had a material impact on Farmer Mac's core earnings throughout 2014. Management believes that analyzing core earnings excluding these items is helpful in understanding Farmer Mac's profitability because they are not expected to significantly affect Farmer Mac's financial performance beyond 2014. Farmer Mac believes that this facilitates useful comparisons of financial performance between quarters within 2014 as the two initiatives were phased in and to other years when these initiatives were not in effect and therefore had no effect on Farmer Mac's financial performance.

Core earnings excluding the effects of these two initiatives were $11 million, or $0.97 per share for fourth-quarter 2014 compared to $15.3 million, or $1.36 per share in fourth-quarter 2013 and $12.5 million, or $1.10 per share in third-quarter 2014. The decrease compared to fourth-quarter 2013 was primarily the result of a decrease in net effective spread resulting from the redemption of the CoBank preferred stock as well as a reduction in other tax benefits associated with the recognition of capital gains in 2013 as compared to 2014.

The decrease compared to third-quarter 2014 was primarily the result of the redemption of the CoBank preferred stock. For the full year core earnings excluding those two initiatives were $47.9 million, or $4.22 per share for 2014 compared to $54.9 million or $4.90 per share for 2013. The decrease was primarily the result of a reduction in net effective spread due to the redemption of the CoBank preferred stock as well as a reduction in gains on the sale of one investment security and the repurchase of debt, neither of which reoccurred in 2014.

We've included a table in the overview section of our 10-K this year that provides more detail about these results and reconciles them to GAAP results. Dale will also provide more specifics on this shortly.

For GAAP results, net income attributable to common stockholders for fourth quarter was $5.6 million, or $0.50 per share compared to $12.5 million, or $1.11 per share in fourth-quarter 2013. For the full-year 2014 GAAP net income was $38.3 million, or $3.37 per share down from $71.8 million, or $6.41 per share.

The decrease in net income for these periods was attributable to several factors. First, effects of unrealized fair value changes on financial derivatives and hedged assets which was a $3.7 million after-tax loss in fourth-quarter 2014 compared to an $8 million after-tax gain in fourth quarter of 2013. For the full year it was a $6.5 million after-tax loss in 2014 compared to a $29.4 million after-tax gain in 2013.

The second factor was an increase in after-tax preferred stock dividend payments of $2.3 million in fourth-quarter 2014 and $6.3 million for the full-year 2014. The third factor was a decrease of $2.1 million related to income tax benefits associated with the recognition of capital gains in certain investment securities.

The decrease for these periods was offset in part by the $11.4 million after-tax net benefit for the full year of 2014 related to our cash management and liquidity initiative. Fourth-quarter 2013 also included $10.3 million of after-tax premium amortization as Farmer Mac recast certain rural utility loans prior to their maturity that aided in retaining those loans on our books.

In 2014 we added $2.8 billion of new business volume resulting in net growth after maturities and repayments of $647 million. This increase was due primarily to purchases of AgVantage Securities in fourth quarter of $555 million and portfolio growth of on-balance sheet farm & ranch loans and USDA securities throughout 2014.

We have experienced continuing stable demand for our loan products in the farm & ranch line of business although growth rates have leveled off as the refinancing trend has abated. However, net growth in farm & ranch loans is expected to continue as prepayment rates have slowed more than new loan volume.

We are also pleased with our success in signing up new banks as potential customers with 792 total approved lenders as of year-end, up from 669 at the start of the year. Of the AgVantage Securities new business volume for 2014 $95 million was purchased under Farm Equity AgVantage facilities, a variation of Farmer Mac's AgVantage wholesale financing product that is customized for financial investors in agricultural assets.

The development of Farm Equity AgVantage is in its early stages and we believe it has room to grow given the increasing interest from financial investors in the agriculture asset class.

The credit quality of our portfolio remains strong. As of December 31 only $19 million, or 0.35% of our $5.4 billion farm & ranch portfolio was 90 days delinquent. That is down from $28 million, or 0.55% a year ago and is hovering at record low levels.

Minor fluctuations from current levels of delinquencies are to be expected as the delinquency or cure of just one loan at these levels can have a sizable impact on the reported numbers. Such activity would not indicate a fundamental shift in credit quality and we will be sure to clearly communicate the source of any changes.

As we highlighted last quarter, the Western part of United States including California continues to experience drought conditions with the water level in many California reservoirs at historically low levels. Although to date Farmer Mac has not observed any material effect on its portfolio from drought conditions, the persistence of extreme drought in the Western states could have an adverse effect on Farmer Mac's delinquency rates or loss experience. This is particularly true in the permanent planting sector and the dairy sector.

In permanent planting the value of the related collateral is closely tied to the production value capability of the permanent plantings. The dairy sector may experience increased feed costs as water is diverted away from hay acreage commonly relied upon by dairy producers and toward land supporting other agricultural commodities. Farmer Mac continues to monitor the drought and its effects on the agricultural industries located in the Western states as well as its effects on Farmer Mac's farm & ranch line of business.

With that as background I would like to turn to Dale Lynch, our Chief Financial Officer, to cover our financial results in more details. Dale?

Thanks, Tim. As Tim mentioned at the outset of the call, Farmer Mac is executing well on the opportunities within its markets and the outlook is positive for us entering 2015.

We have good opportunities to continue growing, developing new customers and innovating our product set. Our results are indicative of this as we grew to a record outstanding business volume of just under $14.6 billion during the fourth-quarter 2014, despite a significant amount of maturing business during the year. This growth was driven primarily from net growth in farm & ranch loans, AgVantage securities and to a lesser degree USDA guarantees securities.

Our spread is affirmed with redemption and with redemption of the CoBank preferred stock now behind us should be more reflective of the underlying fundamentals of our business from this point forward. Our credit quality remains very strong and we believe we are well-positioned as we enter this new year.

Let me first provide an update on the cash management and liquidity initiative we implemented in second-quarter 2014. This initiative involved establishing a significant term repo investment as well as an associated financing liability of short sold US treasuries. As of December 31, 2014, Farmer Mac had closed the term repo asset and the related financing liability and our initiative was successful in helping us be approved by the Fed as a counterparty for its reverse repo facility.

For 2014 Farmer Mac incurred a total of $25.6 million in after-tax interest expense related to the financing costs of this strategy and realized gains of $37 million from the short treasury positions, of which tax impact was offset with capital loss carryforwards. This resulted in a net benefit to Farmer Mac of $11.4 million for 2014. In fourth-quarter 2014 the initiative produced a $1.4 million tax benefit and the after-tax mix -- after-tax net financing cost was $0.6 million.

As Tim mentioned, we analyzed our core earnings to isolate the effects of the two short-term initiatives that will not materially affect us beyond 2014 and which will be fully completed with the redemption of the FALConS on March 30, so in a couple of weeks. When we remove -- when removing the effects of these initiatives from core earnings, the adjusted resulting amount for fourth-quarter 2014 was $11.0 million compared to $15.3 million in fourth-quarter 2013 and $12.5 million in third-quarter 2014.

The $4.3 million decrease in core earnings excluding these items from fourth-quarter 2013 was primarily attributable to a $0.8 million after-tax decrease and net effective spread resulting from the redemption of the CoBank preferred stock at the beginning of the fourth quarter, the loss of $0.5 million in tax benefits associated with the redemption of the CoBank preferred stock and the recognition of a $2.1 million income tax benefit in fourth-quarter 2013 unrelated to the cash management and liquidity initiative and which not reoccur in fourth-quarter 2014. The $1.5 million decrease in fourth-quarter 2014 core earnings excluding the indicated items as compared to third-quarter 2014 was primarily attributable to a $0.9 million after-tax decrease in net effective spread again resulting from the redemption of the CoBank preferred and the loss of $0.5 million in tax benefits again associated with that redemption. And lastly a decrease of $0.3 million after-tax and that released us from the allowance for losses.

For the full-year core earnings excluding these indicated items were $47.9 million for 2014 compared to $54.90 million in 2013. As Tim stated, the decrease in core earnings in 2014, excluding these items, as compared to 2013 was primarily attributable to several unique items.

This includes the following. A $1.3 million after-tax reduction in net effective spread again resulting from the redemption of the CoBank start; a $3.1 million reduction in benefits from gains on associated tax benefits from the sale of a single investment security and the repurchase of debt, both of which occurred in 2013 and did not reoccur in 2014; and lastly a $1.2 million reduction in other tax benefits associated with the recognition of gains on certain other investment securities.

Moving on to net effective spread, Farmer Mac's net effective spread for fourth-quarter 2014 was $25.9 million, or 83 basis points compared to $27.2 million or 89 basis points in third-quarter 2014 and $27.1 million, or 85 basis points in fourth-quarter 2013. The 6 basis point decrease in net effective spread compared to third-quarter 2014 was entirely attributable to the loss of $2.1 million in preferred dividend income resulting from the October 2014 redemption of the CoBank stock, which was approximately a 7 basis point impact on an annualized basis.

The 2 basis point decrease compared to fourth-quarter 2013 was also due to the redemption of the CoBank preferred stock as well as a $1.8 million, or approximately 6 basis point decrease in interest income payments received from non-accruing farm & ranch loans. This was partially offset by a $0.7 million of double financing resulting from the early recasting of certain rural utilities and AgVantage securities in fourth-quarter 2013 which did not impact fourth-quarter 2014.

These impacts were also partially offset by net growth in higher-margin farm & ranch lines and USDA securities throughout 2014, a decrease in prepayment rates ,and the fact that new farm & ranch loans now generally have higher spreads than prepaid loans. This is in part due to the fact that Farmer Mac increased its loan spreads for the first time in several years in the number of farm & ranch land products in late second-quarter 2014.

Farmer Mac's net effective spread was $103.2 million, or 83 basis points in 2014 compared to $105.3 million, or 86 basis points in 2013. The decrease in net effective spread in 2014 compared to 2013 was primarily attributable to the loss of $2.1 million in preferred dividend income, again resulting from the redemption of the CoBank preferred, a $2.2 million decrease in interest income payments received from non-accruing farm & ranch loans and an increase of $0.6 million of double financing resulting from the early recasting of certain rural utilities loans and AgVantage securities in fourth-quarter 2013 and first-quarter 2014, which expired at the end of the first-quarter 2014.

Significantly, in the absence of the redemption of the CoBank preferred stock and the impact of double financing, net effective spread in 2014 would have increased relative to 2013 for the first time in several years. Thankfully both of those events are now behind us.

For our four lines of business, net effective spreads for fourth quarter and third quarter of 2014 were as follows. $8.7 million, or 171 basis points for farm & ranch compared to $8.2 million, or 160 basis points in the third quarter. $5.3 million, or 119 basis points for USDA guarantees compared to $5.1 million, or 118 basis points. $2.9 million, or 118 basis points for rural utilities compared to $2.9 million, or 160 basis points in the third quarter. And lastly $7.3 million, or 58 basis points in both periods for institutional credit.

From a credit perspective total allowances and reserves for losses were $10.1 million, or 0.19% of the total $5.4 billion farm & ranch portfolio as of December 31, 2014, compared to $13.3 million or 0.26% of total farm & ranch portfolio as of December 31, 2013. Total net releases were $0.5 million for fourth-quarter 2014 and $3.2 million for the full year of 2014 as compared to net provisions of $12,000 in fourth-quarter 2013 and $0.4 million for the full year of 2013.

There were $0.1 million of charge-offs for 2014 compared to $4 million of charge-offs for 2013. Farmer Mac's other lines of business, there are currently no delinquent AgVantage securities or rural utilities loans and the USDA securities are backed by the full faith and credit of the United States. As a result across of all of Farmer Mac's four lines of business the overall level of 90-day delinquencies comprised entirely of farm & ranch loans represented just 0.13% of total volume as of year-end compared to 0.2% of total volume as of December 31, 2013.

We achieved $817 million in new business in fourth-quarter 2014 . While gross farm & ranch loan purchase volumes were less than in fourth quarter of last year, prepayments have slowed more and therefore outstanding loans grew $160 million. The AgVantage securities purchased in fourth quarter of 2014 were primarily all new deals as there were no maturing AgVantage deals in the quarter.

Looking at the specifics of the quarter, we did the following business. $455 million of AgVantage securities, $196 million of farm & ranch loan purchases, $87 million of USDA securities, $72 million of farm & ranch standbys and $7 million of rural utility loan purchases. After repayments our net outstanding business volume increased $593 million in fourth-quarter 2014, so a very good quarter.

Turning to capital, Farmer Mac's $766 million of core capital as of year-end exceeded the statutory minimum capital requirement of $420 million by $345 million, or 82%. This compares to $192 million capital above the statutory minimum capital requirement at year-end 2013.

A majority of this increase results from the issuance of $150 million of noncumulative preferred perpetual stock in 2014 in anticipation of a redemption of the FALConS in March 2015. When the FALConS are redeemed, Farmer Mac will recognize $8.1 million of direct issuance costs related to these securities which will be recognized as an expense in that period but which will be excluded from core earnings consistent with the prior treatment of such non-cash costs.

With this redemption our capital structure initiative will be complete and we don't anticipate issuing any additional preferred stock related to the initiatives.

In terms of liquidity, Farmer Mac had 146 days of liquidity at year-end compared to the regulatory minimum requirement of 90 days. More complete information about Farmer Mac's performance for 2014 is set forth in the 10-K which we filed today with the SEC.

And with that, Tim, I will turn it back to you.

Thanks, Dale. Our management team is proud of the results achieved during 2014. Outstanding business volume is at an all-time high and our credit performance continues to be about as good as it can be.

We continue to grow our most profitable product, farm & ranch loans, which is helping to drive an overall increase in spreads. We also believe we are well-positioned to grow our new Farm Equity AgVantage product as financial investors increasingly purchase agricultural assets and seek wholesale financing. In fulfilling our mission to serve rural America we are constantly looking to deepen and broaden our customer base and work to innovate and develop new products that help bring new capital to agricultural and rural communities.

We are proud of our ability to ultimately help farmers and ranchers while at the same time delivering good profits and strong credit quality for our investors. At this time we are happy to answer any questions you may have.

(Operator Instructions) Bose George, KBW.

Good morning, this is actually Chas Dyson on for Bose. Just wanted to ask the first question about the portfolio.

It looked like it grew pretty nicely in the fourth quarter, I know it's a pretty healthy business volume but also a pretty low amount of paydowns. Just wanted to ask on the paydowns if there's anything that in particular victory that drove that in 4Q and how you guys are thinking about that in 2015?

I think as far as paydowns slowing a bit it is simply a function of those who were in the portfolio who were going to refinance likely have already done. So comparing to prior years where you did see more refinancing activity which resulted in payoffs, we didn't see that this year and probably don't expect that to see a resurgence of any refinance activity going forward. So we expect the slower prepayments to continue throughout the year.

And we didn't have any maturities in the fourth quarter either, Chas, so that certainly helped.

Right. That makes sense.

In terms of the prepayment rate that you are seeing on the portfolio, just thinking about it over 2015, should we be using a fourth-quarter-type rate or should we maybe bump that up to a little more where you've seen over the rest of 2014? Or what is the right way to think about that?

We do have a chart that we include in our 10-K that shows all the scheduled maturities so you definitely need to take a look and see what AgVantage bonds there might be maturing during the year. While we are hopeful to refinance those with the counterparties who are preparing them, that doesn't always occur. With respect to the ongoing loan volume, I would expect that you could look at what you saw in the third and fourth quarter and model that forward for the upcoming year.

Just keep in mind that there is seasonality, Chas. Q1 and Q3 tend to be the quarters where you are going to get the prepayments. Qs two and four tend to be very low prepayment quarters, so there is seasonality throughout the year.

But to Tim's point, overall we have seen prepayment rates fall very significantly and you can do the math and come to the fact that they have decreased approximately 60%. And that's probably a good run rate going forward just given what we know now.

Okay. That's helpful.

And then lastly on excess capital, obviously you guys are pretty significantly overcapitalized right now given that the capital management initiatives you put in place and yet it seems like even after you have repaid the FALConS there were still be about $100 million of excess capital left over. What are you guys thinking about in terms of uses of that and how do you guys think about an appropriate buffer over the required capital you have to hold?

I think that amount of somewhere between $100 million and $150 million of excess is about where we were before we issued the additional preferred stock that we are going to use to redeem that stock on March 30. So we are comfortable with a triple-digit excess that is available to provide capital for future growth opportunities. And going forward we expect that we will take a look at our capital position with respect to dividends, business growth opportunities and other things but you will probably see us maintain above a triple-digit excess.

Okay. That's helpful. Thank you.

(Operator Instructions) Kevin Barker, Compass Point.

Can you talk a little bit more about the effective spreads and how they continue to widen specifically around the farm & ranch loans? Is there any particular driver that you are seeing there?

I would say it is largely, Dale mentioned in his words earlier, that we did increase the spreads on our pricing for new incoming business. That was about the midway point through the year.

So that is causing spreads to come up a little bit on new business. Also some of the business that is rolling off that affects the overall spreads as well, so it is really a mix of the two items.

We had made a conscious effort during the year to look at our spreads which had been contracting for a couple of years to try and reverse that trend and we were successful in doing that across all lines of business. So I think that bodes well as we go forward as well with rates -- overall interest rates where they are currently so low that has tended over the past couple of years to kind of narrow spreads as well. So as overall interest rate environment may rise over the course of the next couple of years that may also create an opportunity for us to further widen spreads a bit.

Was any particular type of credit or region that you are targeting, specifically on your farm & ranch loans to increase their spreads?

Not in particular. The business has skewed toward the upper Midwest just because that's where most of the farm land and financing activities has been coming from.

Overall with that volume being pretty healthy not only because land values are up, so obviously loan size is larger, but as far spreads no we don't target any particular geographic region and try to price product differently throughout the country. It's pretty consistent throughout. As well, same thing with loan size.

We don't -- different from what many retail lenders to -- we don't increase spreads for smaller loans. We keep it the same for both small and large customers.

Is there any particular type of crop exposure that you would have that has grown the most in the last two to three years?

Row crops in general, corn and soybeans being the primary two. Again, as we have seen our portfolio shift toward the upper Midwest compared to many years ago when we were skewed toward the Southwest, in particular California, the commodity mix has changed somewhat because of the different crops that are grown in those two areas. But yes from a commodities standpoint row crops is probably the most significant.

I think overall from a credit risk standpoint that is in our view a safer crop compared to those that might be permanent plantings where you can see long-term damage and problems from a bad year. Compare that to row crops where you often see farmers switching from one crop to another depending on where they expect yields to be and future prices.

Okay. Thank you for taking my questions.

(Operator Instructions) At this time I'm seeing no further questions. I would like to turn the conference back over to Tim Buzby for any closing remarks.

Thanks, everyone, for listening and participating this morning. We look forward to our next call to report our first-quarter 2015 results in May. Thank you.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.