See accompanying notes.
See accompanying notes.
The accompanying financial statements include the consolidated accounts of National Rural Utilities Cooperative Finance Corporation (“CFC”), Rural Telephone Finance Cooperative (“RTFC”) and National Cooperative Services Corporation (“NCSC”) and certain entities created and controlled by CFC to hold foreclosed assets and accommodate loan securitization transactions, after elimination of intercompany accounts and transactions.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”) requires management to make estimates and assumptions that affect the assets, liabilities, revenue and expenses reported in the financial statements, as well as amounts included in the notes thereto, including discussion and disclosure of contingent liabilities. The accounting estimates that require our most significant and subjective judgments include the allowance for loan losses and the determination of the fair value of our derivatives and foreclosed assets. While we use our best estimates and judgments based on the known facts at the date of the financial statements, actual results could differ from these estimates as future events occur.
These interim unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended May 31, 2010.2011.
In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments (which consist only of normal recurring accruals) necessary for a fair statementpresentation of our results of operations and financial position for the interim periods presented.
We are required to consolidate the financial results of RTFC and NCSC because CFC is the primary beneficiary of variable interests in RTFC and NCSC due to its exposure to absorbing the majority of their expected losses and because CFC manages the lending activities of RTFC and NCSC. Under separate guarantee agreements, RTFC and NCSC pay CFC a fee to indemnify against loan losses, excluding losses in NCSC’s consumer loan program.losses. CFC manages the lending activities of RTFC and NCSC through separate management agreements. Additionally, CFC is the sole lender to RTFC and the primary source of funding to NCSC. NCSC funds its lending programs either through loans from CFC or commercial paper and long-term notes issued by NCSC and guaranteed by CFC. Effective September 1, 2011, NCSC no longer issues commercial paper.
Interest income on loans is recognized using the effective interest method. The following table presents the components of interest income:
(1) Represents interest income on loans to members.(2) Represents interest income on the investment of cash, debt securities and equity securities.
(3) Primarily related to conversion fees that are deferred and recognized using the effective interest method over the remaining original loan interest rate pricing term, except for a small portion of the total fee charged to cover administrative costs related to the conversion, which is recognized immediately.
Deferred income on the condensed consolidated balance sheets primarily includes deferred conversion fees totaling $11 million and $12 million at February 28,August 31, 2011 and May 31, 2010.2011, respectively.
(g)(e) Interest Expense
The following table presents the components of interest expense:
| | | For the three months ended February 28, | | | For the nine months ended February 28, | | | | For the three months ended August 31, | | | | | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | 2011 | | | 2010 | | | 2011 | | 2010 | | (dollar amounts in thousands) | | 2011 | | 2010 | | | | | | |
Interest expense on debt (1): | | | | | | | | | | | | |
Interest expense on debt (1): | | Interest expense on debt (1): | | | | | | | | | | |
Commercial paper and bank bid notes | Commercial paper and bank bid notes | | $ | 2,574} | | | $ | 1,114 | | $ | 6,583} | $ | 6,300 | | Commercial paper and bank bid notes | | $ | 1,769 | | $ | 1,723 | | | | | | |
Medium-term notes | Medium-term notes | | 57,290} | | | 64,683 | | | 181,490} | | 215,180 | | Medium-term notes | | 53,841 | | 63,104 | | | | | | |
Collateral trust bonds | Collateral trust bonds | | 75,223} | | | 80,618 | | | 229,019} | | 240,796 | | Collateral trust bonds | | 77,272 | | 78,549 | | | | | | |
Subordinated deferrable debt | Subordinated deferrable debt | | 2,806} | | | 4,916 | | | 10,552} | | 14,747 | | Subordinated deferrable debt | | 2,806 | | 4,916 | | | | | | |
Subordinated certificates | Subordinated certificates | | 20,547} | | | 20,064 | | | 61,071} | | 58,871 | | Subordinated certificates | | 18,301 | | 20,306 | | | | | | |
Long-term private debt | | 42,411} | | | 45,588 | | | 134,035} | | 139,142 | | |
Long-term notes payable | | Long-term notes payable | | 39,827 | | 45,992 | | | | | | |
Debt issuance costs (2) | Debt issuance costs (2) | | 2,604} | | | 2,676 | | | 7,722} | | 8,281 | | Debt issuance costs (2) | | 5,125 | | 2,577 | | | | | | |
Fee expense (3) | Fee expense (3) | | 2,878} | | | 2,239 | | | 7,774} | | 8,187 | | Fee expense (3) | | 3,103 | | 2,345 | | | | | | |
Total interest expense | | | $ | 206,333} | | | $ | 221,898 | | $ | 638,246} | $ | 691,504 | | | | $ | 202,044 | | $ | 219,512 | | | | | | |
(1) Represents interest expense and the amortization of discounts on debt.
(2) Includes amortization of all deferred charges related to the issuance of debt, principally underwriters’ fees, legal fees, printing costs and comfort letter fees. Amortization is calculated using the effective interest method. Also includes issuance costs related to dealer commercial paper, which are recognized as incurred.
(3) Includes various fees related to funding activities, including fees paid to banks participating in our revolving credit agreements. Fees are recognized as incurred or amortized on a straight-line basis over the life of the respective agreement.
We exclude indirect costs, if any, related to funding activities from interest expense.
(h)(f) Derivative Financial Instruments
We are neither a dealer nor a trader inan end-user of financial derivative financial instruments. We use derivatives such as interest rate swaps and treasury locks for forecasted transactions cross-currency swaps and cross-currency interest rate swaps to mitigate interest rate and foreign currency exchange risk. Consistent with the accounting standards for derivative financial instruments, we record derivative instruments on the consolidated balance sheets as either an asset or liability measured at fair value. In recording the fair value of derivative assets and liabilities, we do not net our positions under contracts with individual counterparties. Changes in the fair value of derivative instruments along with realized gains and losses from cash settlements are recognized in the derivative gains (losses) line item of the consolidated statement of operations unless specific hedge accounting criteria are met.
We formally document, designate and assess the effectiveness of transactions that receive hedge accounting treatment. If applicable hedge accounting criteria are satisfied, the change in fair value of derivative instruments is recorded to other comprehensive income, and net cash settlements are recorded in interest expense. In the case of certain foreign currency exchange agreements that meet hedge accounting criteria, the change in fair value is recorded to other comprehensive income and then reclassified to offset the related change in the dollar value of foreign-denominated debt in the consolidated statements of operations. In the case ofThe gain or loss on derivatives used toas a cash flow hedge of a forecasted debt transaction we record the gain or loss on the hedgeis recorded as a component of other comprehensive income. This amount isincome and amortized as interest expense using the effective interest method over the term of the hedged debt. Any ineffectiveness in the hedging relationship is recognized as cash settlements in the period for which ineffectiveness has been determined in the derivative gains (losses) line item.
A transition adjustment of $62 million was recorded as an other comprehensive loss on June 1, 2001, the date we implemented the accounting standards for derivative financial instruments. This amount will be amortized into earnings through April 2029 in the derivative gains (losses) line of the statement of operations.
Cash activity associated with interest rate swaps is classified as an operating activity in the consolidated statements of cash flows.
(i) Unadvanced Loan Commitments(g) Loss on early extinguishment of debt
Unadvanced commitments represent amounts for whichWe redeem outstanding debt early from time to time to manage liquidity and interest rate risk. When we have approvedredeem outstanding debt early, we recognize a gain or loss related to the difference between the amount paid to redeem the debt and executed loan contracts, but the funds have not been advanced. Prior to making an advance undernet book value of the majorityextinguished debt as a component of non-interest expense in the gain (loss) on early extinguishment of debt line item.
On August 19, 2011, we redeemed $250 million of our unadvanced commitments, we confirm there has been no material adverse change in$1,500 million, 7.25 percent Series C medium-term notes with an original maturity of March 1, 2012 at a premium. Both the borrower’s business or financial condition since we approved the loan. It is our experience that unadvanced commitments are usually not fully drawnpremium and that borrowings by members occur in multiple transactions over an extended periodunamortized issuance costs totaling $9 million were recorded as a loss on extinguishment of time. We believe these practices will continue for the following reasons:
· | electric cooperatives typically execute loan contracts to cover multi-year work plans and, as such, it is expected that advances on such loans will occur over a multi-year period; |
· | electric cooperatives generate a significant amount of cash from the collection of revenue from their customers, so they usually do not need to draw down on loan commitments to supplement operating cash flow; |
· | we generally do not charge our members a fee on the amount of the unadvanced commitment; |
· | long-term unadvanced commitments generally expire within five years of the first advance on a loan; and |
· | the majority of the short-term unadvanced commitments provide backup liquidity to our borrowers; therefore, we do not anticipate funding most of these commitments. |
Unadvanced commitments are classified as contingent liabilities. Based on the conditions to advance funds described above, unadvanced loan commitments do not represent off-balance sheet liabilities.
(j) New Accounting Pronouncements
In July 2010, the Financial Accounting Standards Board issued Accounting Standards Update No. 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses, which requires new disclosures and clarifies existing disclosure requirements for financing receivables, including loans, lease receivables and other long-term receivables. We adopted the amendments that require disclosures as of the end of a reporting perioddebt during the third quarter of fiscal year 2011, with no material impact on our financial position or results of operations. In the fourth quarter of fiscal year 2011, we will adopt the amendments that require disclosures about the activity for a reporting period, as required. In January 2011, the Financial Accounting Standards Board issued Accounting Standards Update No. 2011-01, Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20, which temporarily defers the effective date for disclosures in this guidance regarding troubled debt restructurings, pending resolution on the Financial Accounting Standards Board’s project to amend the scope of troubled debt restructurings guidance. Our adoption of these standards is not expected to have a material impact on our financial position or results of operations.ended August 31, 2011.
(2) Loans and Commitments
Loans outstanding to members and unadvanced commitments by loan type and by segmentmember class are summarized as follows:
| | | February 28, 2011 | | | May 31, 2010 | | | | August 31, 2011 | | | May 31, 2011 | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | Loans Outstanding | | Unadvanced Commitments (1) | | | Loans Outstanding | | Unadvanced Commitments (1) | | (dollar amounts in thousands) | | Loans outstanding | | Unadvanced commitments (1) | | | Loans outstanding | | Unadvanced commitments (1) | |
Total by loan type (2) (3): | | | | | | | | | | | |
Total by loan type (2): | | Total by loan type (2): | | | | | | | | | | |
Long-term fixed-rate loans (1) | Long-term fixed-rate loans (1) | $ | 16,458,409} | | $ | -} | | $ | 15,412,987 | | $ | - | | Long-term fixed-rate loans (1) | $ | 16,272,689 | | $ | - | | $ | 16,404,940 | | $ | - | |
Long-term variable-rate loans (1) | Long-term variable-rate loans (1) | | 1,447,394} | | 5,250,929} | | | 2,088,829 | | 5,154,990 | | Long-term variable-rate loans (1) | | 997,381 | | 5,524,092 | | | 1,278,391 | | 5,461,484 | |
Loans guaranteed by RUS (4)(3) | Loans guaranteed by RUS (4)(3) | | 227,794} | | -} | | | 237,356 | | - | | Loans guaranteed by RUS (4)(3) | | 225,581 | | - | | | 226,695 | | - | |
Short-term loans | | 1,392,687} | | 8,574,710} | | | 1,599,233 | | 9,039,448 | | |
Line of credit loans | | Line of credit loans | | 1,116,176 | | 8,772,994 | | | 1,414,650 | | 8,609,191 | |
Total loans outstanding | Total loans outstanding | | 19,526,284} | | 13,825,639} | | | 19,338,405 | | 14,194,438 | | Total loans outstanding | | 18,611,827 | | 14,297,086 | | | 19,324,676 | | 14,070,675 | |
Deferred origination costs | Deferred origination costs | | 5,885} | | -} | | | 4,299 | | - | | Deferred origination costs | | 6,667 | | - | | | 6,121 | | - | |
Less: Allowance for loan losses | Less: Allowance for loan losses | | (222,224) | | -} | | | (592,764 | ) | | - | | Less: Allowance for loan losses | | (152,100) | | - | | | (161,177 | ) | | - | |
Net loans outstanding | Net loans outstanding | $ | 19,309,945} | | $ | 13,825,639} | | $ | 18,749,940 | | $ | 14,194,438 | | Net loans outstanding | $ | 18,466,394 | | $ | 14,297,086 | | $ | 19,169,620 | | $ | 14,070,675 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total by segment (2): | | | | | | | | | | | |
Total by member class (2): | | Total by member class (2): | | | | | | | | | | |
CFC: | CFC: | | | | | | | | | | | CFC: | | | | | | | | | | |
Distribution | Distribution | $ | 13,912,255} | | $ | 9,284,926} | | $ | 13,459,053 | | $ | 9,536,360 | | Distribution | $ | 13,621,016 | | $ | 9,356,095 | | $ | 13,760,228 | | $ | 9,369,765 | |
Power supply | Power supply | | 4,055,155} | | 3,554,478} | | | 3,769,794 | | 3,599,560 | | Power supply | | 3,535,717 | | 3,852,939 | | | 4,092,290 | | 3,579,437 | |
Statewide and associate | Statewide and associate | | 93,941} | | 126,738} | | | 86,182 | | 112,812 | | Statewide and associate | | 90,907 | | 109,962 | | | 88,961 | | 125,483 | |
CFC total | CFC total | | 18,061,351} | | 12,966,142} | | | 17,315,029 | | 13,248,732 | | CFC total | | 17,247,640 | | 13,318,996 | | | 17,941,479 | | 13,074,685 | |
RTFC | RTFC | | 947,740} | | 370,781} | | | 1,671,893 | | 441,719 | | RTFC | | 823,420 | | 368,809 | | | 859,122 | | 366,060 | |
NCSC | NCSC | | 517,193} | | 488,716} | | | 351,483 | | 503,987 | | NCSC | | 540,767 | | 609,281 | | | 524,075 | | 629,930 | |
Total loans outstanding | | $ | 19,526,284} | | $ | 13,825,639} | | $ | 19,338,405 | | $ | 14,194,438 | | | $ | 18,611,827 | | $ | 14,297,086 | | $ | 19,324,676 | | $ | 14,070,675 | |
(1) Before advancing funds, additional information may be required to assure that all conditions for the advance of funds have been fully met and there has been no material change in the member’s condition as represented in the supporting documents. Collateral and security requirements for advances on commitments are identical to those required at the time of the initial loan approval. Because theThe interest rate on unadvanced commitments is not set until drawn, therefore, the long-term unadvanced loan commitments have been classified in this table as variable-rate unadvanced commitments. However, at the time of the advance, the borrower may select a fixed or a variable rate on the new loan.
(2) Includes non-performing and restructured loans.
(3) Loans are classified as long-term or short-term based on their original maturity.
(4) “RUS” is the Rural Utilities Service.
Non-performing and restructured loans outstanding and unadvanced commitments to members by loan type and by segment included in the table above are summarized as follows:follows by loan type and by company:
| | February 28, 2011 | | | May 31, 2010 | |
| | Loans | | | Unadvanced | | | Loans | | | Unadvanced | |
(dollar amounts in thousands) | | Outstanding | | | Commitments (1) | | | Outstanding | | | Commitments (1) | |
Non-performing and restructured loans: | | | | | | | | | | | | |
Non-performing loans (2): CFC: | | | | | | | | | | | | |
Long-term variable-rate loans | $ | 8,194} | | $ | -} | | $ | 8,500 | | $ | - | |
Short-term loans | | 19,251} | | | 500} | | | 16,000 | | | - | |
RTFC: | | | | | | | | | | | | |
Long-term fixed-rate loans (1) | | -} | | | -} | | | 8,960 | | | - | |
Long-term variable-rate loans (1) | | 65,920} | | | -} | | | 469,596 | | | 677 | |
Short-term loans | | -} | | | -} | | | 57,471 | | | - | |
Total non-performing loans | $ | 93,365} | | $ | 500} | | $ | 560,527 | | $ | 677 | |
| | | | | | | | | | | | |
Restructured loans (2): | | | | | | | | | | | | |
CFC: | | | | | | | | | | | | |
Long-term fixed-rate loans (1) | $ | 40,513} | | $ | -} | | $ | 41,538 | | $ | - | |
Long-term variable-rate loans (1) | | 441,075} | | | 94,837} | | | 462,397 | | | 140,755 | |
Short-term loans | | -} | | | 5,000} | | | - | | | 12,500 | |
RTFC: | | | | | | | | | | | | |
Long-term fixed-rate loans | | -} | | | -} | | | 3,293 | | | - | |
Long-term variable-rate loans | | -} | | | -} | | | 816 | | | - | |
Total restructured loans | | $ | 481,588} | | $ | 99,837} | | $ | 508,044 | | $ | 153,255 | |
| | August 31, 2011 | | | May 31, 2011 | |
| | Loans | | | Unadvanced | | | Loans | | | Unadvanced | |
(dollar amounts in thousands) | | outstanding | | | commitments (1) | | | outstanding | | | commitments (1) | |
Non-performing and restructured loans: | | | | | | | | | | | | |
Non-performing loans: CFC: | | | | | | | | | | | | |
Long-term variable-rate loans | $ | 8,194 | | $ | - | | $ | 8,194 | | $ | - | |
Line of credit loans (2) | | 23,212 | | | 544 | | | 23,150 | | | 2,586 | |
RTFC: | | | | | | | | | | | | |
Long-term fixed-rate loans | | 7,958 | | | - | | | - | | | - | |
Line of credit loans (3) | | 85 | | | 40 | | | - | | | - | |
Total non-performing loans | $ | 39,449 | | $ | 584 | | $ | 31,344 | | $ | 2,586 | |
| | | | | | | | | | | | |
Restructured loans: | | | | | | | | | | | | |
CFC: | | | | | | | | | | | | |
Long-term fixed-rate loans (1) | $ | 40,312 | | $ | - | | $ | 40,413 | | $ | - | |
Long-term variable-rate loans (1) (4) | | 426,860 | | | 91,837 | | | 433,968 | | | 91,837 | |
Line of credit loans (4) | | - | | | 5,000 | | | - | | | 5,000 | |
Total restructured loans | | $ | 467,172 | | $ | 96,837 | | $ | 474,381 | | $ | 96,837 | |
(1) Before advancing funds, additional information may be required to assure that all conditions for the advance of funds have been fully met and there has been no material change in the member’s condition as represented in the supporting documents. Collateral and security requirements for advances on commitments are identical to those required at the time of the initial loan approval. Because theThe interest rate on unadvanced commitments is not set until drawn, therefore, the long-term unadvanced loan commitments have been classified in this table as variable-rate unadvanced commitments. However, at the time of the advance, the borrower may select a fixed or a variable rate on the new loan.
(2) The unadvanced commitment is available under a debtor-in-possession facility for which the principal and interest has priority over all other claims.
(3) The unadvanced commitment is subject to a material adverse change clause at the time of each loan advance.
(4) The unadvanced commitment is part of the terms outlined in the related restructure agreement. Loans areadvanced under these commitments would be classified as long-term or short-term basedperforming. Principal and interest due under these performing loans would be in addition to scheduled payments due under the restructured loan agreement.
Unadvanced Loan Commitments
A total of $1,033 million and $999 million of line of credit unadvanced commitments at August 31, 2011 and May 31, 2011, respectively, represented unadvanced commitments related to committed line of credit loans that are not subject to a material adverse change clause at the time of each loan advance. As such, we would be required to advance amounts on their original maturity.these
On October 6, 2010, CAH took controlcommitted facilities as long as the borrower is in compliance with the terms and conditions of the USVI operating entitiesloan. The following table summarizes the available balance under committed lines of Innovative Communication Corporation (“ICC”). This resultedcredit at August 31, 2011, and the related maturities by fiscal year and thereafter as follows:
| | | Maturities of unadvanced committed lines of credit | |
| Available | | | | | | | | | | | | | |
(dollar amounts in thousands) | balance | | 2012 | | 2013 | | 2014 | | 2015 | | 2016 | | Thereafter | |
Committed lines of credit | $1,032,860 | | $75,000 | | $214,298 | | $335,783 | | $65,875 | | $149,805 | | $192,099 | |
The remaining unadvanced commitments totaling $13,264 million and $13,072 million at August 31, 2011 and May 31, 2011, respectively, were generally subject to material adverse change clauses. Prior to making an advance on these facilities, we confirm that there has been no material adverse change in the business condition, financial or otherwise, of the borrower since the time the loan was approved and confirm that the borrower is currently in compliance with loan terms and conditions.
Unadvanced commitments related to line of credit loans are typically for periods not to exceed five years and are generally revolving facilities used for working capital and backup liquidity purposes. Historically, we have a reductionvery low utilization rate on line of $472 millioncredit loan facilities, whether or not there is a material adverse change clause. Since we generally do not charge a fee on the unadvanced portion of the majority of our loan facilities, our borrowers will typically request long-term facilities to cover maintenance and capital expenditure work plans for periods of up to five years and draw down on the RTFC non-performingfacility over that time. In addition, borrowers will typically request an amount in excess of their immediate estimated loan balancerequirements to avoid the expense related to seeking additional loan funding for ICC. See further discussion below under Non-performingunexpected items.
The above items all contribute to our expectation that the majority of the unadvanced commitments will expire without being fully drawn upon and Restructured Loans and in Note 3, Foreclosed Assets.that the total commitment amount does not necessarily represent future cash funding requirements.
Payment Status of Loans
The tables below show an analysis of the age of the recorded investment in loans outstanding:outstanding by member class:
| | February 28, 2011 |
(dollar amounts in thousands) | | 30-89 days past due | | 90 days or more past due (1) | | Total past due | | Current | | Total Financing Receivables | | Non-accrual loans |
CFC: | | | | | | | | | | | | |
Distribution | $ | - | $ | 27,445 | $ | 27,445 | $ | 13,884,810 | $ | 13,912,255 | $ | 468,520 |
Power supply | | - | | - | | - | | 4,055,155 | | 4,055,155 | | - |
Statewide and associate | | - | | - | | - | | 93,941 | | 93,941 | | - |
CFC total | | - | | 27,445 | | 27,445 | | 18,033,906 | | 18,061,351 | | 468,520 |
RTFC | | - | | 65,920 | | 65,920 | | 881,820 | | 947,740 | | 65,920 |
NCSC | | - | | - | | - | | 517,193 | | 517,193 | | - |
Total loans outstanding | $ | - | $ | 93,365 | $ | 93,365 | $ | 19,432,919 | $ | 19,526,284 | $ | 534,440 |
| | | | | | | | | | | | |
As a % of total loans | | 0.00% | | 0.48% | | 0.48% | | 99.52% | | 100.00% | | 2.74% |
| | August 31, 2011 |
(dollar amounts in thousands) | | 30-89 days past due | | 90 days or more past due (1) | | Total past due | | Current | | Total financing receivables | | Non-accrual loans |
CFC: | | | | | | | | | | | | |
Distribution | $ | 244 | $ | 31,162 | $ | 31,406 | $ | 13,589,610 | $ | 13,621,016 | $ | 458,266 |
Power supply | | - | | - | | - | | 3,535,717 | | 3,535,717 | | - |
Statewide and associate | | - | | - | | - | | 90,907 | | 90,907 | | - |
CFC total | | 244 | | 31,162 | | 31,406 | | 17,216,234 | | 17,247,640 | | 458,266 |
RTFC | | - | | - | | - | | 823,420 | | 823,420 | | 8,043 |
NCSC | | - | | - | | - | | 540,767 | | 540,767 | | - |
Total loans outstanding | $ | 244 | $ | 31,162 | $ | 31,406 | $ | 18,580,421 | $ | 18,611,827 | $ | 466,309 |
| | | | | | | | | | | | |
As a % of total loans | | - | % | 0.17% | | 0.17% | | 99.83% | | 100.00% | | 2.51% |
(1) All loans 90 days or more past due are on non-accrual status.
| | May 31, 2010 | | May 31, 2011 |
(dollar amounts in thousands) | | 30-89 days past due | | 90 days or more past due (1) | | Total past due | | Current | | Total Financing Receivables | | Non-accrual loans | | 30-89 days past due | | 90 days or more past due (1) | | Total past due | | Current | | Total financing receivables | | Non-accrual loans |
CFC: | | | | | | | | | | | | | | | | | | | | | | | | |
Distribution | $ | 24,500 | $ | - | $ | 24,500 | $ | 13,434,553 | $ | 13,459,053 | $ | 486,897 | $ | 3,745 | $ | 27,599 | $ | 31,344 | $ | 13,728,884 | $ | 13,760,228 | $ | 465,312 |
Power supply | | - | | - | | - | | 3,769,794 | | 3,769,794 | | - | | - | | - | | - | | 4,092,290 | | 4,092,290 | | - |
Statewide and associate | | - | | - | | - | | 86,182 | | 86,182 | | - | | - | | - | | - | | 88,961 | | 88,961 | | - |
CFC total | | 24,500 | | - | | 24,500 | | 17,290,529 | | 17,315,029 | | 486,897 | | 3,745 | | 27,599 | | 31,344 | | 17,910,135 | | 17,941,479 | | 465,312 |
RTFC | | - | | 536,027 | | 536,027 | | 1,135,866 | | 1,671,893 | | 536,027 | | - | | - | | - | | 859,122 | | 859,122 | | - |
NCSC | | - | | - | | - | | 351,483 | | 351,483 | | - | | - | | - | | - | | 524,075 | | 524,075 | | - |
Total loans outstanding | $ | 24,500 | $ | 536,027 | $ | 560,527 | $ | 18,777,878 | $ | 19,338,405 | $ | 1,022,924 | $ | 3,745 | $ | 27,599 | $ | 31,344 | $ | 19,293,332 | $ | 19,324,676 | $ | 465,312 |
| | | | | | | | | | | | | | | | | | | | | | | | |
As a % of total loans | | 0.13% | | 2.77% | | 2.90% | | 97.10% | | 100.00% | | 5.29% | | 0.02% | | 0.14% | | 0.16% | | 99.84% | | 100.00% | | 2.41% |
(1) All loans 90 days or more past due are on non-accrual status.
Credit Quality
We monitor the credit quality and performance statistics of our financing receivables in an ongoing manner to provide a balance between the credit needs of our members and the requirements for sound credit quality of the loan portfolio. We evaluate the credit quality of our loans using an internal risk rating system that employs the samesimilar criteria for all borrower types. member classes.
Our internal risk rating system is based on a determination of a borrower’s risk of default utilizing both quantitative and qualitative measurements.
We have grouped our risk ratings into the categories of pass and criticized based on the criteria below.
| · | Pass – borrowers that are not experiencing difficulty and/or showing a potential or well-defined credit weakness. |
(i) Pass: borrowers that are not experiencing difficulty and/or showing a potential or well-defined credit weakness.(ii) Criticized: includes borrowers categorized as special mention, substandard and doubtful as described below:
| · | Criticized – includes borrowers categorized as special mention, substandard and doubtful as described below: |
| - | Special mention –mention: borrowers that may be characterized by a potential credit weakness or deteriorating financial condition that is not sufficiently serious to warrant a classification of substandard or doubtful. |
· | - | Substandard –Substandard: borrowers that display a well-defined credit weakness that may jeopardize the full collection of principal and interest. |
· | - | Doubtful –Doubtful: borrowers that have a well-defined weakness and the full collection of principal and interest is questionable or improbable. |
Each risk rating is reassessed annually based on the timingreceipt of when we receive the borrower’s audited financial statements; however, interim downgrades and upgrades may take place at any time as a significant adverse eventevents or trend occurs.
The following table shows the distribution ofpresents our loan portfolio by borrower type and by risk rating category and member class based on available data as of:
| | February 28, 2011 | | May 31, 2010 | | August 31, 2011 | | May 31, 2011 |
(dollar amounts in thousands) | | Pass | | Criticized | | Total | | Pass | | Criticized | | Total | | Pass | | Criticized | | Total | | Pass | | Criticized | | Total |
CFC: | | | | | | | | | | | | | | | | | | | | | | | | |
Distribution | $ | 13,884,810 | $ | 27,445 | $ | 13,912,255 | $ | 13,225,155 | $ | 233,898 | $ | 13,459,053 | $ | 13,589,610 | $ | 31,406 | $ | 13,621,016 | $ | 13,728,884 | $ | 31,344 | $ | 13,760,228 |
Power supply | | 4,055,155 | | - | | 4,055,155 | | 3,769,794 | | - | | 3,769,794 | | 3,535,717 | | - | | 3,535,717 | | 4,092,290 | | - | | 4,092,290 |
Statewide and associate | | 93,941 | | - | | 93,941 | | 86,182 | | - | | 86,182 | | 90,907 | | - | | 90,907 | | 88,961 | | - | | 88,961 |
CFC total | | 18,033,906 | | 27,445 | | 18,061,351 | | 17,081,131 | | 233,898 | | 17,315,029 | | 17,216,234 | | 31,406 | | 17,247,640 | | 17,910,135 | | 31,344 | | 17,941,479 |
RTFC | | 874,589 | | 73,151 | | 947,740 | | 1,118,402 | | 553,491 | | 1,671,893 | | 815,377 | | 8,043 | | 823,420 | | 850,817 | | 8,305 | | 859,122 |
NCSC | | 517,193 | | - | | 517,193 | | 351,483 | | - | | 351,483 | | 540,767 | | - | | 540,767 | | 524,075 | | - | | 524,075 |
Total loans outstanding | $ | 19,425,688 | $ | 100,596 | $ | 19,526,284 | $ | 18,551,016 | $ | 787,389 | $ | 19,338,405 | $ | 18,572,378 | $ | 39,449 | $ | 18,611,827 | $ | 19,285,027 | $ | 39,649 | $ | 19,324,676 |
Loan Security
Except when providing short-termline of credit loans, we typically lend to our members on a senior secured basis. Long-term loans are typically secured on parity with other secured lenders (primarily RUS), if any, by all assets and revenue of the borrower with exceptions typical in utility mortgages. Short-termLine of credit loans are generally unsecured lines of credit.unsecured. In addition to the lien and security interest we receive under the mortgage, our member borrowers are also required to set rates charged to their customers to achieve certain financial ratios as required by loan covenants.
The following table summarizes our secured and unsecured loans outstanding by loan type and by segment:company:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | | May 31, 2010 | | (dollar amounts in thousands) | | August 31, 2011 | | | May 31, 2011 | |
Total by loan type: | Total by loan type: | | Secured | | % | | Unsecured | | % | | | Secured | | % | | Unsecured | | % | | Total by loan type: | | Secured | | % | | Unsecured | | % | | | Secured | | % | | Unsecured | | % | |
| Long-term fixed-rate loans | $ | 15,566,774} | | 95 | % | $ | 891,635} | | 5 | % | $ | 14,799,859 | | 96 | % | $ | 613,128 | | 4 | % | Long-term fixed-rate loans | $ | 15,516,410 | | 95 | % | $ | 756,279 | | 5 | % | $ | 15,583,068 | | 95 | % | $ | 821,872 | | 5 | % |
| Long-term variable-rate loans | 1,374,636} | | 95 | | | 72,758} | | 5 | | | 1,994,664 | | 95 | | 94,165 | | 5 | | Long-term variable-rate loans | | 921,655 | | 92 | | | 75,726 | | 8 | | | 1,207,580 | | 94 | | 70,811 | | 6 | |
| Loans guaranteed by RUS | | 227,794} | | 100 | | | -} | | - | | | 237,356 | | 100 | | - | | - | | Loans guaranteed by RUS | | 225,581 | | 100 | | | - | | - | | | 226,695 | | 100 | | - | | - | |
| Short-term loans | | 92,514} | | 7 | | | 1,300,173} | | 93 | | | 265,427 | | 17 | | 1,333,806 | | 83 | | Line of credit loans | | 133,913 | | 12 | | | 982,263 | | 88 | | | 107,193 | | 8 | | 1,307,457 | | 92 | |
| Total loans outstanding | $ | 17,261,718} | | 88 | | $ | 2,264,566} | | 12 | | $ | 17,297,306 | | 89 | | $ | 2,041,099 | | 11 | | Total loans outstanding | $ | 16,797,559 | | 90 | | $ | 1,814,268 | | 10 | | $ | 17,124,536 | | 89 | | $ | 2,200,140 | | 11 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total by segment: | | | | | | | | | | | | | | | | | | |
Total by company: | | Total by company: | | | | | | | | | | | | | | | | | |
| CFC | $ | 16,226,989} | | 90 | % | $ | 1,834,362} | | 10 | % | $ | 15,585,788 | | 90 | % | $ | 1,729,241 | | 10 | % | CFC | $ | 15,860,225 | | 92 | % | $ | 1,387,415 | | 8 | % | $ | 16,180,454 | | 90 | % | $ | 1,761,025 | | 10 | % |
| RTFC | | 716,119} | | 76 | | 231,621} | | 24 | | 1,429,982 | | 86 | | 241,911 | | 14 | | RTFC | | 597,846 | | 73 | | 225,574 | | 27 | | 628,020 | | 73 | | 231,102 | | 27 | |
| NCSC | | 318,610} | | 62 | | 198,583} | | 38 | | 281,536 | | 80 | | 69,947 | | 20 | | NCSC | | 339,488 | | 63 | | 201,279 | | 37 | | 316,062 | | 60 | | 208,013 | | 40 | |
| Total loans outstanding | $ | 17,261,718} | | 88 | | $ | 2,264,566} | | 12 | | $ | 17,297,306 | | 89 | | $ | 2,041,099 | | 11 | | Total loans outstanding | $ | 16,797,559 | | 90 | | $ | 1,814,268 | | 10 | | $ | 17,124,536 | | 89 | | $ | 2,200,140 | | 11 | |
Loan Loss Allowance
We maintain an allowance for loan losses at a level estimated by management to provide for probable losses inherent in the loan portfolio. AsUnder a result of the guarantee agreements under whichagreement, CFC indemnifiesreimburses RTFC and NCSC for loan losses, the allowance for loan losses recorded fortherefore, RTFC and NCSC are held at CFC. do not maintain separate loan loss allowances.
The activity in the loan loss allowance account summarized in the tables below reflects a disaggregation by company of the allowance for loan losses based on a segmentation of the loan portfolio by CFC, RTFC and NCSC.held at CFC:
| | As of and for the nine months ended February 28, 2011 |
(dollar amounts in thousands) | | CFC | | RTFC (1) | | NCSC (1) | | Total |
Balance as of May 31, 2010 | $ | 177,655} | $ | 406,214} | $ | 8,895} | $ | 592,764} |
(Recovery of) provision for loan losses | | (18,506) | | (24,702) | | 293} | | (42,915) |
Charge-offs | | -} | | (327,799) | | (26) | | (327,825) |
Recoveries | | 158} | | -} | | 42} | | 200} |
Balance as of February 28, 2011 | $ | 159,307} | $ | 53,713} | $ | 9,204} | $ | 222,224} |
| | | | | | | | |
Ending balance of the allowance: | | | | | | | | |
Collectively evaluated | $ | 125,720} | $ | 8,485} | $ | 9,204} | $ | 143,409} |
Individually evaluated | | 33,587} | | 45,228} | | -} | | 78,815} |
Total ending balance of the allowance | $ | 159,307} | $ | 53,713} | $ | 9,204} | $ | 222,224} |
| | | | | | | | |
Recorded investment in loans: | | | | | | | | |
Collectively evaluated | $ | 17,552,318} | $ | 881,820} | $ | 517,193} | $ | 18,951,331} |
Individually evaluated | | 509,033} | | 65,920} | | -} | | 574,953} |
Total recorded investment in loans | $ | 18,061,351} | $ | 947,740} | $ | 517,193} | $ | 19,526,284} |
| | | | | | | | |
Loans to members, net (2) | $ | 17,902,044} | $ | 894,027} | $ | 507,989} | $ | 19,304,060} |
| | As of May 31, 2010 |
(dollar amounts in thousands) | | CFC | | RTFC (1) | | NCSC (1) | | Total |
Ending balance of the allowance | | | | | | | | |
Collectively evaluated | $ | 134,106 | $ | 12,496 | $ | 8,895 | $ | 155,497 |
Individually evaluated | | 43,549 | | 393,718 | | - | | 437,267 |
Total ending balance of the allowance | $ | 177,655 | $ | 406,214 | $ | 8,895 | $ | 592,764 |
| | | | | | | | |
Recorded investment in loans: | | | | | | | | |
Collectively evaluated | $ | 16,786,593 | $ | 1,135,867 | $ | 351,483 | $ | 18,273,943 |
Individually evaluated | | 528,436 | | 536,026 | | - | | 1,064,462 |
Total recorded investment in loans | $ | 17,315,029 | $ | 1,671,893 | $ | 351,483 | $ | 19,338,405 |
| | | | | | | | |
Loans to members, net (2) | $ | 17,137,374 | $ | 1,265,679 | $ | 342,588 | $ | 18,745,641 |
| | As of and for the three months ended August 31, 2011 | |
(dollar amounts in thousands) | | CFC | | RTFC (1) | | NCSC (1) | | Total | |
Balance as of May 31, 2011 | $ | 143,706} | $ | 8,389} | $ | 9,082} | $ | 161,177} | |
(Recovery of) provision for loan losses | | (9,302) | | 260} | | (88) | | (9,130) | |
Recoveries of loans previously charged-off | | 53} | | -} | | -} | | 53} | |
Balance as of August 31, 2011 | $ | 134,457} | $ | 8,649} | $ | 8,994} | $ | 152,100} | |
| | | | | | | | | |
| | As of and for the three months ended August 31, 2010 | |
(dollar amounts in thousands) | | CFC | | RTFC (1) | | NCSC (1) | | Total | |
Balance as of May 31, 2010 | $ | 177,655 | $ | 406,214 | $ | 8,895 | $ | 592,764 | |
(Recovery of) provision for loan losses | | (16,931 | ) | 2,597 | | 2,046 | | (12,288 | ) |
Charge-offs | | - | | - | | (9 | ) | (9 | ) |
Recoveries of loans previously charged-off | | 53 | | - | | 19 | | 72 | |
Balance as of August 31, 2010 | $ | 160,777 | $ | 408,811 | $ | 10,951 | $ | 580,539 | |
(1) The allowance for loan losses recorded for RTFC and NCSC are held at CFC with the exception of $2 thousand and $18$9 thousand of the NCSC loan loss allowance required to cover the exposure for consumer loans at February 28, 2011 and MayAugust 31, 2010, respectively.2010.
Impaired Loans
Our allowance for loan losses includes a specific valuation allowance related to individuallyindividually-evaluated impaired loans, andas well as a general reserve for other probable incurred losses. losses for loans that are collectively evaluated. The tables below present the loan loss allowance and the recorded investment in outstanding loans by impairment methodology and by company:
| | August 31, 2011 |
(dollar amounts in thousands) | | CFC | | RTFC | | NCSC | | Total |
Ending balance of the allowance: | | | | | | | | |
Collectively evaluated | $ | 103,033} | $ | 6,686} | $ | 8,994} | $ | 118,713} |
Individually evaluated | | 31,424} | | 1,963} | | -} | | 33,387} |
Total ending balance of the allowance | $ | 134,457} | $ | 8,649} | $ | 8,994} | $ | 152,100} |
| | | | | | | | |
Recorded investment in loans: | | | | | | | | |
Collectively evaluated | $ | 16,749,062} | $ | 815,377} | $ | 540,767} | $ | 18,105,206} |
Individually evaluated | | 498,578} | | 8,043} | | -} | | 506,621} |
Total recorded investment in loans | $ | 17,247,640} | $ | 823,420} | $ | 540,767} | $ | 18,611,827} |
| | | | | | | | |
Loans to members, net (1) | $ | 17,113,183} | $ | 814,771} | $ | 531,773} | $ | 18,459,727} |
| | May 31, 2011 |
(dollar amounts in thousands) | | CFC | | RTFC | | NCSC | | Total |
Ending balance of the allowance: | | | | | | | | |
Collectively evaluated | $ | 107,130 | $ | 8,389 | $ | 9,082 | $ | 124,601 |
Individually evaluated | | 36,576 | | - | | - | | 36,576 |
Total ending balance of the allowance | $ | 143,706 | $ | 8,389 | $ | 9,082 | $ | 161,177 |
| | | | | | | | |
Recorded investment in loans: | | | | | | | | |
Collectively evaluated | $ | 17,435,754 | $ | 859,122 | $ | 524,075 | $ | 18,818,951 |
Individually evaluated | | 505,725 | | - | | - | | 505,725 |
Total recorded investment in loans | $ | 17,941,479 | $ | 859,122 | $ | 524,075 | $ | 19,324,676 |
| | | | | | | | |
Loans to members, net (1) | $ | 17,797,773 | $ | 850,733 | $ | 514,993 | $ | 19,163,499 |
(1) Excludes deferred origination costs of $7 million and $6 million at August 31, 2011 and May 31, 2011, respectively.
Impaired Loans
Our recorded investment in individually impairedindividually-impaired loans and the related specific valuation allowance is summarized below by member class.
| | | | | | | | | | For the nine months ended | |
| | February 28, 2011 | | May 31, 2010 | | February 28, 2011 | | August 31, 2011 | | May 31, 2011 | | |
(dollar amounts in thousands) | | Recorded investment | | Related allowance | | Recorded investment | | Related allowance | | Average recorded investment | | Recognized Interest Income | | Recorded investment | | Related allowance | | Recorded investment | | Related allowance | | |
With no specific allowance recorded: | | | | | | | | | | | | | | | | | | | | | | |
CFC/Distribution | $ | 40,513 | $ | - | $ | 41,538 | $ | - | $ | 40,611 | $ | 2,096 | $ | 40,312 | $ | - | $ | 40,413 | $ | - | | |
| | | | | | | | | | | | | | | | | | | | | | |
With a specific allowance recorded | | | | | | | | | | | | | |
With a specific allowance recorded: | | | | | | | | | | | |
CFC/Distribution | | 468,520 | | 33,587 | | 486,897 | | 43,549 | | 474,743 | | - | | 458,266 | | 31,424 | | 465,312 | | 36,576 | | |
RTFC | | 65,920 | | 45,228 | | 536,027 | | 393,718 | | 275,926 | | - | | 8,043 | | 1,963 | | - | | - | | |
Total | | 534,440 | | 78,815 | | 1,022,924 | | 437,267 | | 750,669 | | - | | 466,309 | | 33,387 | | 465,312 | | 36,576 | | |
Total impaired loans | $ | 574,953 | $ | 78,815 | $ | 1,064,462 | $ | 437,267 | $ | 791,280 | $ | 2,096 | $ | 506,621 | $ | 33,387 | $ | 505,725 | $ | 36,576 | | |
The recorded investment for impaired loans was equal to the total unpaid principal balance for impaired loans as of February 28,August 31, 2011 and May 31, 2010. 2011.
The table below represents the average recorded investment in impaired loans forand the nine months ended February 28, 2010, was $1,042 million. We accrued a total of $2 million of interest income on impaired loans for the nine months ended February 28, 2010.recognized by member class:
| | For the three months ended August 31, | |
| | Average recorded investment | | Interest income recognized | |
(dollar amounts in thousands) | | 2011 | | 2010 | | 2011 | | 2010 | |
CFC/Distribution | $ | 498,139 | $ | 522,054 | $ | 692 | $ | 703 | |
RTFC | | 2,681 | | 536,863 | | - | | - | |
Total impaired loans | $ | 500,820 | $ | 1,058,917 | $ | 692 | $ | 703 | |
Non-performing and Restructured Loans
Interest income was reduced as follows as a result of holding loans on non-accrual status:
| | For the three months ended February 28, | | For the nine months ended February 28, | | | For the three months ended August 31, | | | | | | |
(dollar amounts in thousands) | | 2011 | | 2010 | | 2011 | | 2010 | | | 2011 | | 2010 | | | | | | |
Non-performing loans | $ | 319} | | $ | 7,117 | | $ | 8,543} | $ | 21,790 | | $ | 417 | | $ | 7,905 | | | | | | |
Restructured loans | | 5,508} | | | 5,862 | | 16,789} | | 17,853 | | | 5,330 | | 5,685 | | | | | | |
Total | $ | 5,827} | | $ | 12,979 | | $ | 25,332} | $ | 39,643 | | $ | 5,747 | | $ | 13,590 | | | | | | |
At February 28,August 31, 2011 and May 31, 2010,2011, non-performing loans included $66 million and $536 million, respectively, to ICC. On October 6, 2010, CAH took control of the USVI operating entities of ICC. See further discussion in Note 3, Foreclosed Assets.
On March 1, 2011, CFC, through RTFC, completed the transfer of control of 100 percent of the equity interests of ICC’s British Virgin Island and St. Maarten operating entities to CAH. This transaction resulted from the transfer of ICC’s assets in bankruptcy. The transfer of assets will not result in a cash inflow as the $66$31 million of loans outstanding at February 28,to an electric distribution cooperative that under took a project to develop a geothermal electric generating facility. This borrower filed for bankruptcy in September 2010. On September 15, 2011, will be reduced bythis borrower filed a combinationdisclosure statement with the bankruptcy court that contains a preliminary draft of the receipt of foreclosed assets and loan write-off. The amount of loan repayment CFC will credit RTFC and the amount of the loan write-off will be known once the fair value of each of the operating companies acquired has been updated as of the closing date.
Jeffrey Prosser, ICC’s former indirect majority shareholder and former chairman, and related parties continue to assert claims against CFC and certain of its officers and directorsa reorganization plan for creditors and other parties in various proceedings and forums. CFC, therefore, anticipatesof interest to review. This preliminary draft plan of reorganization assumes that itthe borrower will continue to be engaged in defense of those assertions on many fronts, as well as pursuing claimsoperating through the use of its own.existing diesel generating facilities. The preliminary draft plan of reorganization has been reviewed by management and we believe that no material adjustment is required to our loan loss reserve recorded at August 31, 2011. The borrower has until December 1, 2011 to submit its final proposal for the plan of reorganization to the bankruptcy court. Loans to this borrower were on non-accrual status at August 31, 2011 and May 31, 2011.
At August 31, 2011, non-performing loans also included a total of $8 million to two telecommunications borrowers for which we do not expect to collect all principal and interest payments as scheduled by the original terms and were put on non-accrual status during the quarter ended August 31, 2011.
At August 31, 2011 and May 31, 2011, we had $427 million and $434 million, respectively, of restructured loans outstanding to an electric distribution cooperative that provides retail electric service to residential and business customers. All restructured loans to this borrower have been on non-accrual status since January 1, 2001 and were performing according to the restructured loan agreements.
Based on our analysis, we believe we have an adequate loan loss allowance for our exposure related to ICC at February 28, 2011.
At February 28, 2011non-performing and May 31, 2010, non-performing loans also included $27 million and $25 million, respectively, of non-performing loans to Naknek Electric Association, an electric distribution cooperative located in Naknek, Alaska, that filed for bankruptcy in September 2010. Based on our analysis, we believe we have an adequate loan loss allowance for our exposure to Naknek at February 28, 2011.
At February 28, 2011 and May 31, 2010, $441 million and $462 million, respectively, of restructured loans to Denton County Electric Cooperative, d/b/a CoServ Electric were on non-accrual status with respect to the recognition of interest income and were performing according to the restructured loan agreements.at August 31, 2011.
Pledging of Loans and Loans on Deposit
We are required to pledge eligible mortgage notes in an amount at least equal to the outstanding balance of our secured debt. The following table summarizes our loans outstanding as collateral pledged to secure our collateral trust bonds, Clean Renewable Energy Bonds and notes payable to the Federal Agricultural Mortgage Corporation (see Note 5, Long-Term Debt) and the amount of the corresponding debt outstanding:outstanding (see Note 4, Short-Term Debt and Credit Arrangements and Note 5, Long-Term Debt).
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | | May 31, 2010 | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 |
Collateral trust bonds: | Collateral trust bonds: | | | | | | Collateral trust bonds: | | | |
2007 indenture | 2007 indenture | | | | | | 2007 indenture | | | |
Distribution system mortgage notes (1) | $ | 4,661,937} | | $ | 3,951,445 | |
Distribution system mortgage notes | | Distribution system mortgage notes | $ | 4,624,840 | $ | 4,605,921 |
Collateral trust bonds outstanding | Collateral trust bonds outstanding | | 4,050,000} | | | 3,500,000 | Collateral trust bonds outstanding | | 4,050,000 | | 4,050,000 |
| | | | | | | | | | |
1994 indenture | 1994 indenture | | | | | | 1994 indenture | | | |
Distribution system mortgage notes (1) | $ | 1,594,627} | | $ | 2,081,716 | |
RUS guaranteed loans qualifying as permitted investments | 200,303} | | | 207,136 | |
Total pledged collateral | $ | 1,794,930} | | $ | 2,288,852 | |
Collateral trust bonds outstanding | | 1,475,000} | | | 1,980,000 | |
| | | | | | |
1972 indenture | | | | | | |
Cash | $ | -} | | $ | 2,032 | |
Distribution system mortgage notes | | Distribution system mortgage notes | $ | 1,726,546 | $ | 1,740,956 |
Collateral trust bonds outstanding | Collateral trust bonds outstanding | | -} | | | 1,736 | Collateral trust bonds outstanding | | 1,475,000 | | 1,475,000 |
| | | | | | | | | | | |
Federal Agricultural Mortgage Corporation: | Federal Agricultural Mortgage Corporation: | | | | | | Federal Agricultural Mortgage Corporation: | | | |
Distribution and power supply system mortgage notes (1) | $ | 1,909,333} | | $ | 2,094,604 | |
Distribution and power supply system mortgage notes | | Distribution and power supply system mortgage notes | $ | 1,761,684 | $ | 1,786,777 |
Notes payable outstanding | Notes payable outstanding | | 1,487,200} | | | 1,587,200 | Notes payable outstanding | | 1,410,800 | | 1,410,800 |
| | | | | | | | | | |
Clean Renewable Energy Bonds Series 2009A: | Clean Renewable Energy Bonds Series 2009A: | | | | | | Clean Renewable Energy Bonds Series 2009A: | | | |
Distribution and power supply system mortgage notes (1) | $ | 30,249} | | $ | 33,895 | |
Distribution and power supply system mortgage notes | | Distribution and power supply system mortgage notes | $ | 29,285 | $ | 29,857 |
Cash | Cash | | 10,006} | | | 12,913 | Cash | | 7,736 | | 7,664 |
Total pledged collateral | Total pledged collateral | $ | 40,255} | | $ | 46,808 | Total pledged collateral | $ | 37,021 | $ | 37,521 |
Notes payable outstanding | | | 25,294} | | | 27,101 | | | 25,294 | | 25,294 |
(1)
We are required to pledge eligible mortgage notesmaintain collateral on deposit in an amount at least equal to the outstanding balance of the debt.
The following table shows the collateral on deposit and the amount of the corresponding debt outstanding for the notes payable to the Federal Financing Bank of the United States Treasury issued under the Guaranteed Underwriter program of the U.S. Department of Agriculture, which supports the Rural Economic Development Loan and Grant program (see Note 5, Long-Term Debt):. The following table shows the collateral on deposit and the amount of the corresponding debt outstanding:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 |
Federal Financing Bank | Federal Financing Bank | | | | | Federal Financing Bank | | | | |
Distribution and power supply system mortgage notes on deposit (1) | Distribution and power supply system mortgage notes on deposit (1) | $ | 3,438,468} | $ | 3,559,863 | Distribution and power supply system mortgage notes on deposit (1) | $ | 3,628,107 | $ | 3,616,040 |
Notes payable | | | 3,000,000} | | 3,000,000 | |
Notes payable outstanding | | | | 3,150,000 | | 3,150,000 |
(1) We are required to maintain collateral on deposit in an amount at least equal to the outstanding balance of the debt.
(3) Foreclosed Assets
Assets received in satisfaction of loan receivables are initially recorded at fair value when received and are subsequently evaluated periodically for impairment. These assets are classified on the condensed consolidated balance sheets as foreclosed assets. At February 28,August 31, 2011 and May 31, 2011, all foreclosed assets were held by two subsidiaries controlled by CFC: DRP and CAH. At MayAugust 31, 2010, all foreclosed assets were held by DRP. These assets did not meet the criteria to be classified as held for sale at February 28,August 31, 2011 and 2010, and May 31, 2010.2011.
The activity for foreclosed assets is summarized below:
| | As of and for the nine months ended | | As of and for the year ended | | | As of and for the three months ended August 31, | | As of and for the year ended | |
| | February 28, 2011 | | May 31, 2010 | | | 2011 | | 2010 | | May 31, 2011 | |
(dollar amounts in thousands) | | CAH | | DRP | | Total | | DRP | | | CAH | | DRP | | Total | | | DRP | | Total | |
Beginning balance | $ | -} | $ | 42,252} | $ | 42,252} | $ | 48,721} | | $ | 246,643} | $ | 34,168} | $ | 280,811} | | $ | 42,252 | $ | 42,252 | |
Results of operations | | (6,314) | | (9) | | (6,323) | | 1,122} | | | (7,775) | | (106) | | (7,881) | | 184 | | (12,028 | ) |
Entity value at transfer | | 216,401} | | -} | | 216,401} | | -} | | | -} | | -} | | -} | | - | | 253,896 | |
Net cash invested in (provided by) foreclosed assets | 3,140} | | (3,998) | | (858) | | (1,000) | | |
Cash investments (proceeds) | | Cash investments (proceeds) | 5,032} | | -} | | 5,032} | | (4,000 | ) | 652 | |
Fair value adjustment | | -} | | (2,673) | | (2,673) | | (6,591) | | | -} | | (1,937) | | (1,937) | | (315 | ) | (3,961 | ) |
Ending balance | $ | 213,227} | $ | 35,572} | $ | 248,799} | $ | 42,252} | | $ | 243,900} | $ | 32,125} | $ | 276,025} | | $ | 38,121 | $ | 280,811 | |
CAH
On October 6, 2010, CFC, through RTFC, completed the transfer of control of 100 percent of the equity interests of ICC’s USVI operating entities to CAH as partial repayment of RTFC loans to ICC. This transaction resulted from the transfer of ICC’s assets in bankruptcy. ICC is a diversified telecommunications company headquartered in St. Croix, USVI. RTFC has assigned to CFC its rights with respect to the entities transferred as partial repayment of its loan from CFC.
CFC recorded an initial investment of $216 million to foreclosed assets comprising the $128 million fair value for the entities transferred and an additional investment of $88 million in these entities to pay down or settle third-party obligations outstanding prior to the transfer. The fair value of $128 million for the entities transferred included $88 million of third-party debt obligations. The $88 million of third-party debt obligations was paid off with the $88 million additional investment made by CFC as part of the transfer of control.
The purchase accounting method was used to account for the transfer of control of ICC’s USVI entities to CAH. The purchase price of $128 million was derived from the enterprise value of the USVI entities, less debt obligations, plus cash received on the closing date for the transfer of control. The second step in the process, estimating the fair value of the assets acquired and liabilities assumed at each entity transferred, requires significant estimates and assumptions and was not completed prior to the filing of this report. Changes to the estimated fair values are subject to adjustment as additional information is obtained. Adjustments required to the fair value of the assets and liabilities at each entity will be recorded in the period in which the new information is obtained or the analysis is completed. However, the period for adjustments will not exceed one year from the date of transfer.
The USVI entities transferred to CFC include the following:
· | a regulated incumbent local exchange carrier offering local telephone and broadband services to both business and residential customers in the USVI; |
· | an internet service provider serving digital subscriber line (DSL) and dial-up customers in the USVI; |
· | a long-distance service provider offering interstate and international voice and data services for both business and residential markets in the USVI; |
· | a wireless telephone service provider in the USVI; and |
· | providers of cable television services in St. Thomas, St. John and St. Croix, USVI. |
DRP
During the first quarter of fiscal year 2011, we foreclosed on one of the land development loans included in foreclosed assets at May 31, 2010, and took ownership of the underlying assets. Additionally, we sold collateral for the remaining land development loan for $4 million, net of estimated closing costs. This land development loan was classified as impaired and on non-accrual status with regard to the recognition of interest income at February 28, 2011 and May 31, 2010.
(4) Short-Term Debt and Credit Arrangements
The following is a summary of short-term debt outstanding:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | | May 31, 2010 | | | | | August 31, 2011 | | May 31, 2011 | |
Short-term debt: | Short-term debt: | | | | | | | | | | | | | |
Commercial paper sold through dealers, net of discounts | Commercial paper sold through dealers, net of discounts | $ | 1,874,557} | | $ | 840,082 | | | | $ | 1,072,433 | | $ | 1,471,715 | |
Commercial paper sold directly to members, at par | Commercial paper sold directly to members, at par | | 1,175,479} | | | 999,449 | | | | | 1,297,068 | | 1,189,770 | |
Commercial paper sold directly to non-members, at par | Commercial paper sold directly to non-members, at par | | 69,982} | | | 52,989 | | | | | 53,271 | | 55,160 | |
Total commercial paper | Total commercial paper | | 3,120,018} | | | 1,892,520 | | | | | 2,422,772 | | 2,716,645 | |
Daily liquidity fund sold directly to members | Daily liquidity fund sold directly to members | | 283,858} | | | 371,710 | | | | | 344,814 | | 308,725 | |
Bank bid notes | Bank bid notes | | 270,000} | | | 30,000 | | | | | 295,000 | | 295,000 | |
Subtotal short-term debt | Subtotal short-term debt | | 3,673,876} | | | 2,294,230 | | | | | 3,062,586 | | 3,320,370 | |
| | | | | | | | | | | | | | |
Long-term debt maturing within one year: | Long-term debt maturing within one year: | | | | | | | | | | | | | |
Medium-term notes sold through dealers | Medium-term notes sold through dealers | | 315,213} | | | 693,522 | | | | | 1,697,494 | | 1,986,891 | |
Medium-term notes sold to members | Medium-term notes sold to members | | 340,206} | | | 529,215 | | | | | 248,312 | | 266,067 | |
Secured collateral trust bonds | Secured collateral trust bonds | | 5,000} | | | 906,537 | | | | | 5,000 | | 5,000 | |
Members’ subordinated certificates | | 9,942} | | | - | | | | |
Member subordinated certificates | | | 11,934 | | 12,440 | |
Secured notes payable | Secured notes payable | | 78,206} | | | 178,207 | | | | | 497,507 | | 247,507 | |
Unsecured notes payable | Unsecured notes payable | | 4,646} | | | 4,650 | | | | | 4,653 | | 4,649 | |
Total long-term debt maturing within one year | Total long-term debt maturing within one year | | 753,213} | | | 2,312,131 | | | | | 2,464,900 | | 2,522,554 | |
Total short-term debt | | $ | 4,427,089} | | $ | 4,606,361 | | | | $ | 5,527,486 | | $ | 5,842,924 | |
Revolving Credit Agreements
The following is a summary of the amounts available under our revolving credit agreements:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | | Termination Date | | Facility fee per year (1) | | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 | | Termination date | | Facility fee per year (1) | |
Five-year agreement | Five-year agreement | $ | 967,313 | | $ | 967,313 | | March 22, 2011 | | 6 basis points | | Five-year agreement | $ | 1,049,000 | | $ | 1,049,000 | | March 16, 2012 | | 6 basis points | |
Five-year agreement | | 1,049,000 | | 1,049,000 | | March 16, 2012 | | 6 basis points | | |
Three-year agreement (2) | | 1,369,919 | | 1,334,309 | | March 8, 2013 | | 25 basis points | | |
Three-year agreement (2) | | Three-year agreement (2) | | 1,376,364 | | 1,370,526 | | March 8, 2013 | | 25 basis points | |
Three-year agreement (3) | | Three-year agreement (3) | | 1,125,000 | | 1,125,000 | | March 21, 2014 | | 15 basis points | |
Total | | $ | 3,386,232 | | $ | 3,350,622 | | | | | | | $ | 3,550,364 | | $ | 3,544,526 | | | | | |
(1) Facility fee determined by CFC’s senior unsecured credit ratings based on the pricing schedules put in place at the inception of the related agreement.
(2) The available amount presented at February 28, 2011 and May 31, 2010, is reduced by total letters of credit outstanding of $15.1 million and $0.7 million, respectively.
Effective November 15, 2010, we exercised our right to increase the aggregate amount of the commitment under the three-year revolving credit agreement expiring on March 8, 2013 by $50 million to a total of $1,385 million.
On March 21, 2011, we replaced the $967 million five-year revolving credit agreement that terminated on March 22, 2011 with a new $1,125 million three-year agreement that expires on March 21, 2014. The facility fee for the new three-year facility is 15 basis points per year. The facility fee is determined by pricing matrices in the agreement and is payable quarterly. We have the right to choose between a (i) Eurodollar rate plus an applicable margin to be determined by pricing matrices in the agreement or (ii) a base rate calculated based on the greater of prime rate, the federal funds effective rate plus 0.5 percent or the one-month LIBOR rate plus 1 percent, plus an applicable margin to be determined by pricing matrices in the agreement. We may request letters of credit for up to $100 million under this agreement, which then reduces the new three-year revolving credit agreement expiring on March 21, 2014. We also have the right, subject to certain terms and conditions, to increase the aggregate amount of the commitmentsavailable under the new three-year revolvingfacility. The available amount presented at August 31, 2011 and May 31, 2011 is reduced by total letters of credit agreement byoutstanding of $8.6 million and $14.5 million, respectively.
(3) We may request letters of credit for up to $375$100 million either by increasingunder this agreement, which then reduces the commitment of one or more existing lenders or by adding one or more new lenders, provided that no existing lender’s commitment is increased without the consent of the lender and the administrative agent. The total committed creditamount available under our three current facilities was $3,544 million at March 21, 2011.the facility. At August 31, 2011 and May 31, 2011, there were no letters of credit outstanding under this facility.
The following represents our required and actual financial ratios under the revolving credit agreements:
| | | | | | | Actual | | | | | | | Actual | |
| | | | | Requirement | | February 28, 2011 | | May 31, 2010 | | | | | Requirement | | August 31, 2011 | | May 31, 2011 | |
| | | | | | | | | | | | | | | | | | | |
Minimum average adjusted TIER over the six most recent fiscal quarters (1) | Minimum average adjusted TIER over the six most recent fiscal quarters (1) | 1.025 | | 1.14 | | 1.25 | | Minimum average adjusted TIER over the six most recent fiscal quarters (1) | 1.025 | | 1.19 | | 1.19 | |
| | | | | | | | | | | | | | | | | | | |
Minimum adjusted TIER for the most recent fiscal year (1) (2) | | 1.05 | | 1.12 | | 1.12 | | |
Minimum adjusted TIER for the most recent fiscal year (1) | | Minimum adjusted TIER for the most recent fiscal year (1) | | 1.05 | | 1.21 | | 1.21 | |
| | | | | | | | | | | | | | | | | | | |
Maximum ratio of adjusted senior debt to total equity | Maximum ratio of adjusted senior debt to total equity | | | | 10.00 | | 6.46 | | 6.15 | | | | | 10.00 | | 6.26 | | 6.26 | |
| | | | | | | | | | | |
(1) “TIER” represents the times interest earned ratio.
(2) We must meet this requirement to retire patronage capital.
At February 28,August 31, 2011 and May 31, 2010,2011, we were in compliance with all covenants and conditions under our revolving credit agreements and there were no borrowings outstanding under these agreements.
(5) Long-Term Debt
The following is a summary of long-term debt outstanding:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | | | May 31, 2010 | | | | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 | | |
Unsecured long-term debt: | Unsecured long-term debt: | | | | | | | | | Unsecured long-term debt: | | | | | | |
Medium-term notes sold through dealers | Medium-term notes sold through dealers | $ | 2,755,157} | | | $ | 2,905,332 | | | Medium-term notes sold through dealers | $ | 1,332,614} | $ | 1,298,412 | | |
Medium-term notes sold to members | Medium-term notes sold to members | | 105,181} | | | | 105,186 | | | Medium-term notes sold to members | | 116,610} | | 105,894 | | |
Subtotal | Subtotal | | 2,860,338} | | | | 3,010,518 | | | Subtotal | | 1,449,224} | | 1,404,306 | | |
Unamortized discount | Unamortized discount | | (1,806) | | | | (2,390 | ) | | Unamortized discount | | (985) | | (990 | ) | |
Total unsecured medium-term notes | Total unsecured medium-term notes | | 2,858,532} | | | | 3,008,128 | | | Total unsecured medium-term notes | | 1,448,239} | | 1,403,316 | | |
| | | | | | | | | | | | | | | | |
Unsecured notes payable | Unsecured notes payable | | 3,045,640} | | | | 3,049,047 | | | Unsecured notes payable | | 3,194,390} | | 3,194,390 | | |
Unamortized discount | Unamortized discount | | (1,324) | | | | (1,480 | ) | | Unamortized discount | | (1,234) | | (1,279 | ) | |
Total unsecured notes payable | Total unsecured notes payable | | 3,044,316} | | | | 3,047,567 | | | Total unsecured notes payable | | 3,193,156} | | 3,193,111 | | |
Total unsecured long-term debt | Total unsecured long-term debt | | 5,902,848} | | | | 6,055,695 | | | Total unsecured long-term debt | | 4,641,395} | | 4,596,427 | | |
| | | | | | | | | | | | | | | | |
Secured long-term debt: | Secured long-term debt: | | | | | | | | | Secured long-term debt: | | | | | | |
Collateral trust bonds | Collateral trust bonds | | 5,520,000} | | | | 4,575,000 | | | Collateral trust bonds | | 5,520,000} | | 5,520,000 | | |
Unamortized discount | Unamortized discount | | (12,197) | | | | (12,292 | ) | | Unamortized discount | | (11,326) | | (11,765 | ) | |
Total secured collateral trust bonds | Total secured collateral trust bonds | | 5,507,803} | | | | 4,562,708 | | | Total secured collateral trust bonds | | 5,508,674} | | 5,508,235 | | |
Secured notes payable | Secured notes payable | | 1,434,287} | | | | 1,436,094 | | | Secured notes payable | | 938,587} | | 1,188,587 | | |
Total secured long-term debt | Total secured long-term debt | | 6,942,090} | | | | 5,998,802 | | | Total secured long-term debt | | 6,447,261} | | 6,696,822 | | |
Total long-term debt | | $ | 12,844,938} | | | $ | 12,054,497 | | | | $ | 11,088,656} | $ | 11,293,249 | |
In November 2010,At August 31, 2011 and May 31, 2011, we issued $300had $3,150 million of 1.125 percent collateral trust bonds due 2013unsecured notes payable outstanding under a bond purchase agreement with the Federal Financing Bank and a bond guarantee agreement with RUS issued under the Guaranteed Underwriter program of the U.S. Department of Agriculture, which supports the Rural Economic Development Loan and Grant program and provides guarantees to the Federal Financing Bank. As part of this program, we had up to $350 million of 1.900 percent collateral trust bonds due 2015. In February 2011, we issued $300 million of 3.050 percent collateral trust bonds due 2016.
In November 2010, we closed onavailable under a $500 million committed loan facility from the Federal Financing Bank with a guarantee of repayment by RUS as part of the funding mechanism for the Rural Economic Development Loanat August 31, 2011 and Grant program.May 31, 2011. Under this facility, CFC is able to borrow up to the committed amount any time before October 15, 2013, with each advance having a final maturity not longer than 20 years from the advance date. No amounts had been advanced under this facility at February 28, 2011.
SecuredWe had $1,411 million of secured notes payable includesoutstanding at August 31, 2011 and May 31, 2011, including $496 million and $246 million, respectively, presented as short-term debt, issued to the Federal Agricultural Mortgage Corporation. Amounts available and outstandingCorporation under eacha note purchase agreement are summarized below:
| | | | Note Purchase | | | Amount Outstanding | | |
(dollar amounts in thousands) Note Purchase Agreement | | Final Maturity Date | | Agreement Amount | | | February 28, 2011 | | | May 31, 2010 | | |
December 2008 (1) | | December 31, 2015 | $ | 500,000 | | $ | 250,000 | | $ | 350,000 | | |
February 2009 | | February 29, 2016 | | 500,000 | | | 500,000 | | | 500,000 | | |
March 2009 (2) | | April 1, 2014 | | 400,000 | | | 312,200 | | | 312,200 | | |
May 2009 | | December 31, 2016 | | 1,000,000 | | | 425,000 | | | 425,000 | | |
January 2011 | | January 11, 2016 (3) | 1,500,000 | | | - | | | - | | |
Total | | | | $ | 3,900,000 | | $ | 1,487,200 | | $ | 1,587,200 | | |
(1) Includes $100totaling $3,900 million. Under the terms of our March 2011 note purchase agreement, we can borrow up to $3,900 million of secured notes payable under this program that were classified as short-term debt at May 31, 2010.
(2) Includes $76.4 million of secured notes payable under this program that were classified as short-term debt at February 28, 2011 and May 31, 2010.
(3) The draw period is initially five yearsany time from the closing date of the agreement through January 11, 2016 and thereafter automatically extendedextend the agreement on each anniversary date of the closing for an additional year, unless prior to any such anniversary date, the Federal Agricultural Mortgage Corporation provides CFC with a notice that the draw period will not be extended beyond the then remainingthen-remaining term.
In September 2010 and October 2010, we issued notes totaling $400 million under our December 2008 and May 2009 note purchase agreements with the Federal Agricultural Mortgage Corporation. These notes matured during the third quarter of fiscal year 2011.
In January 2011, we entered into a $1,500 million revolving note purchase The agreement with the Federal Agricultural Mortgage Corporation. UnderCorporation is a revolving credit facility that allows us to borrow, repay and re-borrow funds at any time through maturity or from time to time as market conditions permit, provided that the terms of this note purchase agreement, we can borrow up to the availableprincipal amount at any time during the draw period, which is initially five years from the closing date. We may select a fixed rate or variable rate at the time of each advance with a maturity as determined in the applicable pricing agreement. Also, if required by the terms of a pricing agreement for an advance, we may be required to purchase Federal Agricultural Mortgage Corporation Series C cumulative, redeemable, non-voting preferred stock in an amount equal to 4 percent of the applicable advance, unless the advance is to refinance a prior advance that did not initially require a stock purchase, or if we already own or have agreed to purchase such stock in an amount equal to 4 percent of the aggregate principal amount of all notes outstanding under allthe note purchase agreements with the Federal Agricultural Mortgage Corporation. We are required to pledge eligible distribution system or power supply system loans as collateral in an amount at least equal toagreement is not more than the total principal amount of notes outstandingavailable under the agreement.
(6) Subordinated Deferrable Debt
The following table is a summary of subordinated deferrable debt outstanding:
(dollar amounts in thousands) | | | February 28, 2011 | | | | May 31, 2010 | | | |
NRN 6.75% due 2043 (1) | | $ | - | | | $ | 125,000 | | | |
NRC 6.10% due 2044 | | | 88,201 | | | | 88,201 | | | |
NRU 5.95% due 2045 | | | 98,239 | | | | 98,239 | | | |
Total | | | $ | 186,440 | | | $ | 311,440 | | | |
(1) Amount outstanding at May 31, 2010 was redeemed in September 2010.(dollar amounts in thousands) | | August 31, 2011 | | | May 31, 2011 | |
NRC 6.10% due 2044 | $ | 88,201 | | $ | 88,201 | |
NRU 5.95% due 2045 | | 98,239 | | | 98,239 | |
Total | | $ | 186,440 | | $ | 186,440 | |
All subordinated deferrable debt currently outstanding is callable at par at any time.
The $125 million of Series NRN due 2043 was redeemed at par on September 1, 2010. We recorded a $4 million loss on extinguishment of debt during the second quarter of fiscal year 2011 for the unamortized issuance costs.18
(7) Derivative Financial Instruments
We are an end-user of financial derivative instruments. We utilize derivatives such as interest rate swaps and treasury locks for forecasted transactions cross-currency swaps and cross-currency interest rate swaps to mitigate interest rate risk and foreign currency exchange risk. We are neither a dealer nor a trader in derivative financial instruments. At February 28,August 31, 2011 and May 31, 2010,2011, we did not have any derivative instruments that were accounted for using hedge accounting.
Interest Rate Swaps
The following table shows the notional amounts outstanding for our interest rate swaps by type:
(dollar amounts in thousands) | | August 31, 2011 | | | May 31, 2011 |
Pay fixed-receive variable | $ | 5,767,917 | | $ | 5,638,123 |
Pay variable-receive fixed | | 5,301,440 | | | 5,301,440 |
Total interest rate swaps | $ | 11,069,357 | | $ | 10,939,563 |
(dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 |
Pay fixed-receive variable | $ | 5,710,200} | $ | 5,562,247 |
Pay variable-receive fixed | | 5,301,440} | | 5,551,440 |
Total interest rate swaps | $ | 11,011,640} | $ | 11,113,687 |
IncomeGains and losses recorded on the condensed consolidated statements of operations for our interest rate swaps are summarized below:
| | | | For the three months ended February 28, | | For the nine months ended February 28, | | | | For the three months ended August 31, | | | | | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | | 2011 | | | 2010 | | 2011 | | 2010 | | (dollar amounts in thousands) | | 2011 | | 2010 | | | | | | |
Agreements that do not qualify for hedge accounting | | | | | | | | | | | | |
Derivative cash settlements (1) | Derivative cash settlements (1) | | $ | (850) | | $ | (5,636 | ) | $ | (5,685) | | $ | (19,836 | ) | Derivative cash settlements (1) | | $ | 168} | | $ | (4,462) | | | | | | |
Derivative forward value | Derivative forward value | | | 54,198} | | | 28,207 | | 28,090} | | 24,935 | | Derivative forward value | | (111,739) | | (73,792) | | | | | | |
Derivative gains | | | $ | 53,348} | | $ | 22,571 | | $ | 22,405} | | $ | 5,099 | | |
Derivative losses | | | | $ | (111,571) | | $ | (78,254) | | | | | | |
(1) The ninethree months ended February 28, 2011August 31, 2010 includes a $3 million fee we paid to terminate an interest rate swap that match funded an RTFC loan that was prepaid during the period.
In December 2010, we entered into two derivative contracts in order to mitigate risk on forecasted transactions that settled in January 2011. These transactions received hedge accounting treatment and, therefore, the cash settlement gain at settlement of $3 million was recorded as a component of other comprehensive income based on the fair value of the derivative instruments. This amount will be amortized as interest expense using the effective interest method over the term of the hedged debt. Additionally, we recognized a gain of $0.4 million in derivative cash settlements based on the measurement of ineffectiveness in the hedging relationship.
Rating Triggers
Some of our interest rate swaps have credit risk-related contingent features referred to as rating triggers. Rating triggers are not separate financial instruments and are not required to be accounted for separately as derivatives. At February 28,August 31, 2011, the following notional amounts of derivative instruments had rating triggers based on our senior unsecured credit ratings from Moody’s Investors Service or Standard & Poor’s Corporation falling to a level specified in the applicable agreements and are grouped into the categories below. In calculating the payments and collections required upon termination, we netted the agreements for each counterparty, as allowed by the underlying master agreements. At February 28,August 31, 2011, our senior unsecured credit ratingratings from Moody’s Investors Service and Standard & Poor’s Corporation waswere A2 and A, respectively. At February 28,August 31, 2011, both Moody’s Investors Service and Standard & Poor’s Corporation had our ratings on stable outlook.
| | | | | | Amount We | | | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | Notional Amount | | Our Required Payment | | Would Collect | | Net Total | | (dollar amounts in thousands) | | Notional amount | | Our required payment | | Amount we would collect | | Net total | |
Mutual rating trigger if ratings: | Mutual rating trigger if ratings: | | | | | | | | | | Mutual rating trigger if ratings: | | | | | | | | | |
fall to Baa1/BBB+ (1) | fall to Baa1/BBB+ (1) | $ | 1,380,421} | | $ | (413) | $ | 26,445} | $ | 26,032} | | fall to Baa1/BBB+ (1) | $ | 1,390,263 | | $ | (348) | $ | 30,751} | $ | 30,403} | |
fall below Baa1/BBB+ (1) | fall below Baa1/BBB+ (1) | | 6,811,682} | | | (75,313) | | 24,201} | | (51,112) | | fall below Baa1/BBB+ (1) | | 6,803,478 | | | (200,241) | | 36,012} | | (164,229) | |
Total | | $ | 8,192,103} | | $ | (75,726) | $ | 50,646} | $ | (25,080) | | | $ | 8,193,741 | | $ | (200,589) | $ | 66,763} | $ | (133,826) | |
(1) Stated senior unsecured credit ratings are for Moody’s Investors Service and Standard & Poor’s Corporation, respectively. Under these rating triggers, if the credit rating for either counterparty falls to the level specified in the agreement, the other counterparty may, but is not obligated to, terminate the agreement. If either counterparty terminates the agreement, a net payment may be due from one counterparty to the other based on the fair value, excluding credit risk, of the underlying derivative instrument.
In addition to the rating triggers listed above, at February 28,August 31, 2011 we had a total notional amount of $868 million of derivative instruments with one counterparty that would require the pledging of collateral totaling $18$20 million (the fair value of such derivative instruments excluding credit risk) if our senior unsecured ratings from Moody’s Investors Service were to fall below Baa2 or if the ratings from Standard & Poor’s Corporation were to fall below BBB. The aggregate fair value of all interest rate swaps with rating triggers that were in a net liability position at February 28,August 31, 2011 was $92$216 million.
(8) Equity
In July 2010, CFC’s2011, the CFC Board of Directors authorized the allocation of the fiscal year 20102011 net earnings as follows: $1 million to the cooperative educational fund, $102$92 million to members in the form of patronage capital and $5$80 million to the members’ capital reserve. In July 2010, CFC’s2011, the CFC Board of Directors authorized the retirement of allocated net earnings totaling $51$46 million, representing 50 percent of the fiscal year 20102011 allocation. This amount was returned to members in cash in September 2010.2011. Future allocations and retirements of net earnings may be made annually as determined by CFC’sthe CFC Board of Directors with due regard for its financial condition. CFC’sThe CFC Board of Directors has the authority to change the current practice for allocating and retiring net earnings at any time, subject to applicable laws and regulations.
(9) Guarantees
We guarantee certain contractual obligations of our members so they may obtain various forms of financing. We use the same credit policies and monitoring procedures in providing guarantees as we do for loans and commitments. If a member system defaults inon its obligation to pay debt service, then we are obligated to pay any required amounts under our guarantees. Meeting our guarantee obligations satisfies the underlying obligation of our member systems and prevents the exercise of remedies by the guarantee beneficiary based upon a payment default by a member system.
In general, the member system is required to repay, on demand, any amount advanced by us with interest, pursuant to the documents evidencing the member system’s reimbursement obligation.
The following table summarizes total guarantees by type of guarantee and segment:member class:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 |
Total by type: | Total by type: | | | | | Total by type: | | | | |
Long-term tax-exempt bonds | Long-term tax-exempt bonds | $ | 600,665} | $ | 601,625 | Long-term tax-exempt bonds | $ | 597,915 | $ | 599,935 |
Indemnifications of tax benefit transfers | Indemnifications of tax benefit transfers | | 62,154} | | 69,982 | Indemnifications of tax benefit transfers | | 58,262 | | 59,895 |
Letters of credit | Letters of credit | | 351,236} | | 380,076 | Letters of credit | | 327,490 | | 327,201 |
Other guarantees | Other guarantees | | 118,122} | | 119,426 | Other guarantees | | 117,228 | | 117,957 |
Total | Total | $ | 1,132,177} | $ | 1,171,109 | Total | $ | 1,100,895 | $ | 1,104,988 |
| | | | | | | | | | |
Total by segment: | | | | | |
Total by member class: | | Total by member class: | | | | |
CFC: | CFC: | | | | | CFC: | | | | |
Distribution | Distribution | $ | 235,227} | $ | 221,903 | Distribution | $ | 222,701 | $ | 217,099 |
Power supply | Power supply | | 822,174} | | 884,828 | Power supply | | 826,036 | | 817,618 |
Statewide and associate | Statewide and associate | | 21,351} | | 22,032 | Statewide and associate | | 8,024 | | 20,807 |
CFC total | CFC total | | 1,078,752} | | 1,128,763 | CFC total | | 1,056,761 | | 1,055,524 |
RTFC | RTFC | | 821} | | 636 | RTFC | | 821 | | 821 |
NCSC | NCSC | | 52,604} | | 41,710 | NCSC | | 43,313 | | 48,643 |
Total | | $ | 1,132,177} | $ | 1,171,109 | | $ | 1,100,895 | $ | 1,104,988 |
The maturities for the long-term tax-exempt bonds and the related guarantees run through calendar year 2042. Amounts in the table represent the outstanding principal amount of the guaranteed bonds. At February 28,August 31, 2011, our maximum potential exposure for the $76$75 million of fixed-rate tax-exempt bonds is $131$129 million, representing principal and interest. Of the amounts shown in the table above for long-term tax-exempt bonds, $523 million and $524 million as of August 31, 2011 and May 31, 2011, respectively, are adjustable or floating-rate bonds that may be converted to a fixed rate as specified in the applicable indenture for each bond offering. During the variable-rate period (including at the time of conversion to a fixed rate), we have, in return for a fee, unconditionally agreed to purchase bonds tendered or put for redemption if the remarketing agents have not previously sold such bonds to other investors. We are unable to determine the maximum amount of interest that we could be required to pay related to the remaining adjustable and floating-rate bonds. See below for further information about this type of guarantee. Many of these bonds have a call provision that in the event of a default would allow us to trigger the call provision. This would limit our exposure to future interest payments on these bonds. Our maximum potential exposure is secured by a mortgage lien on all of the system’s assets and future revenue. If the debt is accelerated because of a determination that the interest thereon is not tax-exempt, the system’s obligation to reimburse us for any guarantee payments will be treated as a long-term loan.
Of the amounts shown in the table above, $525 million and $549 million as of February 28, 2011 and May 31, 2010, respectively, are adjustable or floating/fixed-rate bonds that may be converted to a fixed rate as specified in the applicable indenture for each bond offering. During the variable-rate period (including at the time of conversion to a fixed rate), we have, in return for a fee, unconditionally agreed to purchase bonds tendered or put for redemption if the remarketing agents have not previously sold such bonds to other investors.
The maturities for the indemnifications of tax benefit transfers run through calendar year 2015. The amounts shown represent our maximum potential exposure for guaranteed indemnity payments. A member’s obligation to reimburse CFC for any guarantee payments would be treated as a long-term loan to the extent of any cash received by the member at the outset of the transaction. This amount is secured by a mortgage lien on substantially all of the system’s assets and future revenue. The remainder would be treated as a short-termline of credit loan secured by a subordinated mortgage on substantially all of the member’s property. Due to changes in federal tax law, no further guarantees of this nature are anticipated.
The maturities for letters of credit run through calendar year 2024. Additionally, letters of credit totaling $9$10 million at February 28,August 31, 2011 have a term of one year and automatically extend for a period of one year unless we cancel the agreement within 120 days of maturity (in which case, the beneficiary may draw on the letter of credit). The amounts shown in the table above represent our maximum potential exposure, of which $189$158 million is secured at February 28,August 31, 2011. When taking into consideration reimbursement obligation agreements that we have in place with other lenders, our maximum potential exposure related to $33$22 million of letters of credit would be reduced to $10$6 million in the event of default. Security provisions include a mortgage lien on substantially all of the system’s assets, future revenue and the system’s investment in our commercial paper. In addition to the letters of credit listed in the table, under master letter of credit facilities in place at August 31, 2011, we may be required to issue up to an additional $755$640 million in letters of credit to third parties for the benefit of our members at February 28, 2011. members.
At May 31, 2010,2011, this amount was $502$700 million. New issuances of letters of credit under these master facilities are subject to material adverse change clauses at the time of issuance. Prior to issuing a letter of credit, we would confirm that there has been no material adverse change in the business condition, financial or otherwise, of the borrower since the time the loan was approved and confirm that the borrower is currently in compliance with the letter of credit terms and conditions.
The maturities for other guarantees run through calendar year 2025. The maximum potential exposure for these guarantees is $120$119 million, all of which is unsecured.
At February 28,August 31, 2011 and May 31, 2010,2011, we had a total of $280$287 million and $320$280 million of guarantees representing 2526 percent and 2725 percent, respectively, of total guarantees, under which our right of recovery from our members was not secured.
Guarantee Liability
At February 28,August 31, 2011 and May 31, 2010,2011, we recorded a guarantee liability of $23$22 million, which represents the contingent and non-contingent exposures related to guarantees and liquidity obligations associated with our members’ debt. The contingent guarantee liability at February 28,August 31, 2011 and May 31, 20102011 was $6 million based on management’s estimate of exposure to losses within the guarantee portfolio. The remaining balance of the total guarantee liability of $17$16 million at February 28,August 31, 2011 and May 31, 2010,2011 relates to our non-contingent obligation to stand ready to perform over the term of our guarantees and liquidity obligations that we have entered into or modified since January 1, 2003.
Activity in the guarantee liability account is summarized below:
| | As of and for the three months ended February 28, | | As of and for the nine months ended February 28, | | | As of and for the three months ended August 31, | | | |
(dollar amounts in thousands) | | 2011 | | 2010 | | 2011 | | 2010 | | | 2011 | | 2010 | | | | | |
Beginning balance | $ | 22,609} | $ | 25,113 | | $ | 22,984} | | $ | 29,672 | | $ | 22,217} | $ | 22,984 | | | | | | |
Net change in non-contingent liability | Net change in non-contingent liability | 323} | | 127 | | 330} | | (1,216 | ) | Net change in non-contingent liability | (473) | | (334 | ) | | | | | |
Provision for (recovery of) guarantee liability | 24} | | 451 | | (358) | | (2,765 | ) | |
Recovery of guarantee liability | | Recovery of guarantee liability | (60) | | (548 | ) | | | | | |
Ending balance | $ | 22,956} | $ | 25,691 | | $ | 22,956} | | $ | 25,691 | | $ | 21,684} | $ | 22,102 | | | | | |
| | | | | | | | | | | | | | | | | | |
Liability as a percentage of total guarantees | | 2.03 | % | 2.14 | % | | 2.03 | % | | 2.14 | % | | 1.97 | % | 1.90 | % | | | | | |
(10) Fair Value Measurement
Assets and liabilities measured at fair value on either a recurring or non-recurring basis on the condensed consolidated balance sheets at February 28,August 31, 2011 and May 31, 20102011 consisted of investments in common stock, derivative instruments, foreclosed assets and collateral-dependent non-performing loans and investments in common stock.loans.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
We account for derivative instruments (including certain derivative instruments embedded in other contracts) in the consolidated balance sheets as either an asset or liability measured at fair value. Since there is not an active secondary market for the types of interest rate swaps we use, we obtain market quotes from the interest rate swap counterparties to adjust all swaps to fair value on a quarterly basis. The market quotes are based on the expected future cash flow and estimated yield curves.
We perform analysis to validate the market quotes obtained from our swap counterparties. We adjust the market values received from the counterparties using credit default swap levels for us and the counterparties. The credit default swap levels represent the credit risk premium required by a market participant based on the available information related to us and the counterparty. We only enter into exchange agreements with counterparties that participateare participating in our revolving lines of credit agreements.at the time the exchange agreements are executed. All of our exchange agreements are subject to master netting agreements.
Our valuation techniques for interest rate swaps are based on observable inputs, which reflect market data. Fair values for our interest rate swaps are classified as a Level 2 valuation. We record the change in the fair value of our derivatives for each reporting period in the derivative gains (losses) line, included in non-interest income in the condensed consolidated statements of operations, as currently none of our derivatives qualify for hedge accounting.
At February 28,August 31, 2011 and May 31, 2010,2011, our investments in equity securities included investments in the Federal Agricultural Mortgage Corporation Series A common stock that is recorded in the condensed consolidated balance sheets at fair value. We calculate fair value based on the quoted price on the stock exchange where the stock is traded. That stock exchange is an active market based on the volume of shares transacted. Fair values for these securities are classified as a Level 1 valuation.
The following table presents our assets and liabilities that are measured at fair value on a recurring basis:
| | | February 28, 2011 | | May 31, 2010 | | | | August 31, 2011 | | May 31, 2011 | |
(dollar amounts in thousands) | | | Level 1 | | Level 2 | | Level 1 | | Level 2 | | | | Level 1 | | Level 2 | | Level 1 | | Level 2 | |
Derivative assets | | $ | -} | $ | 338,969} | $ | - | $ | 373,203 | | | $ | -} | $ | 365,752} | $ | - | $ | 343,760 | |
Derivative liabilities | | | -} | | 421,000} | | - | | 482,825 | | | -} | | 611,326} | | - | | 477,433 | |
Investments in common stock | | | 1,243} | | - | | 1,029 | | - | | | 1,084} | | -} | | 1,023 | | - | |
Assets and Liabilities Measured at Fair Value on a Non-recurring Basis
We may be required, from time to time, to measure certain assets at fair value on a non-recurring basis in accordance with GAAP. Any adjustments to fair value usually result from application of lower-of-cost or fair value accounting or write-downs of individual assets. During the three and nine months ended February 28,At August 31, 2011 and 2010,May 31, 2011, we measured foreclosed assets and certain collateral-dependent non-performing loans at fair value as described below.
Our foreclosed assets are initially recorded at the fair value of the underlying assets. Foreclosed assets are tested for recoverability whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. If there is an indicator of impairment, we perform a fair value analysis based on estimated future cash flows or in some instances, an assessment of the fair value of the asset or business, which may be provided by a third-party consultant. Estimates of future cash flows are subjective and are considered to be a significant input in the valuation. A review for significant changes in the key assumptions and estimates of the fair value analysis is performed on a quarterly basis.
In certain instances when a loan is non-performing, we utilize the collateral fair value underlying the loan, which may be provided by a third-party consultant, in estimating the specific loan loss allowance. In these instances, the valuation is considered to be a non-recurring item.
Assets measured at fair value on a non-recurring basis at February 28,August 31, 2011 and May 31, 20102011 were classified as Level 3 within the fair value hierarchy. The following table provides the carrying/fair value of the related individual assets at February 28,August 31, 2011 and May 31, 20102011 and the total losses for the three and nine months ended February 28,August 31, 2011 and 2010:2010.
| | Level 3 Fair Value | | Total losses for the three months ended February 28, | | Total losses for the nine months ended February 28, | | |
| | February 28, | | May 31, | | | | | Level 3 Fair Value | | Total losses for the three months ended August 31, | |
(dollar amounts in thousands) | (dollar amounts in thousands) | 2011 | | 2010 | | 2011 | | 2010 | | 2011 | | 2010 | | | August 31, 2011 | | May 31, 2011 | | 2011 | | 2010 | |
Foreclosed assets, net | $ | 248,799} | $ | 42,252 | $ | (818) | $ | (988) | $ | (2,673) | $ | (2,738 | ) | $ | 276,025} | $ | 280,811 | $ | (1,937) | $ | (315) | |
Non-performing loans, | | | | | | | | | | | | | | |
net of specific reserves | | 35,540} | | 160,285 | | (1,014) | | (17,304) | | -} | | (19,163 | ) | |
Non-performing loans, net of specific reserves | | | 16,561} | | 10,509 | | (2,053) | | (5,390) | |
(11) Fair Value of Financial Instruments
Carrying and fair values for our financial instruments are presented as follows:
| | | | February 28, 2011 | | | May 31, 2010 | | | | | August 31, 2011 | | May 31, 2011 | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | | Carrying Value | | | Fair Value | | | Carrying Value | | Fair Value | | | (dollar amounts in thousands) | | Carrying value | | Fair value | | Carrying value | | | Fair value | | |
Assets: | Assets: | | | | | | | | | | | | | | Assets: | | | | | | | | | | | |
Cash and cash equivalents | Cash and cash equivalents | | $ | 399,453} | | $ | 399,453} | | $ | 513,906 | | $ | 513,906 | | | Cash and cash equivalents | | $ | 567,672 | | $ | 567,672 | | $ | 293,615 | | $ | 293,615 | | |
Restricted cash | Restricted cash | | | 10,006} | | | 10,006} | | | 15,709 | | 15,709 | | | Restricted cash | | ��8,168 | | 8,168 | | 7,690 | | | 7,690 | | |
Investments in equity securities | Investments in equity securities | | | 58,821} | | | 58,821} | | | 58,607 | | 58,607 | | | Investments in equity securities | | 58,662 | | 58,662 | | 58,601 | | | 58,601 | | |
Loans to members, net | Loans to members, net | | | 19,309,945} | | | 19,652,002} | | | 18,749,940 | | 19,109,838 | | | Loans to members, net | | 18,466,394 | | 19,602,344 | | 19,169,620 | | | 19,804,116 | | |
Debt service reserve funds | Debt service reserve funds | | | 45,662} | | | 45,662} | | | 45,662 | | 45,662 | | | Debt service reserve funds | | 45,172 | | 45,172 | | 45,662 | | | 45,662 | | |
Interest rate exchange agreements | Interest rate exchange agreements | | | 338,969} | | | 338,969} | | | 373,203 | | 373,203 | | | Interest rate exchange agreements | | 365,752 | | 365,752 | | 343,760 | | | 343,760 | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Liabilities: | Liabilities: | | | | | | | | | | | | | | Liabilities: | | | | | | | | | | | |
Short-term debt | Short-term debt | | | 4,427,089} | | | 4,433,974} | | | 4,606,361 | | 4,628,410 | | | Short-term debt | | 5,527,486 | | 5,575,651 | | 5,842,924 | | | 5,923,611 | | |
Long-term debt | Long-term debt | | | 12,844,938} | | | 14,137,846} | | | 12,054,497 | | 13,408,158 | | | Long-term debt | | 11,088,656 | | 12,666,749 | | 11,293,249 | | | 12,700,219 | | |
Guarantee liability | Guarantee liability | | | 22,956} | | | 25,882} | | | 22,984 | | 25,917 | | | Guarantee liability | | 21,684 | | 24,827 | | 22,217 | | | 25,264 | | |
Interest rate exchange agreements | Interest rate exchange agreements | 421,000} | | | 421,000} | | | 482,825 | | 482,825 | | | Interest rate exchange agreements | 611,326 | | 611,326 | | 477,433 | | | 477,433 | | |
Subordinated deferrable debt | Subordinated deferrable debt | | | 186,440} | | | 185,059} | | | 311,440 | | 306,151 | | | Subordinated deferrable debt | | 186,440 | | 188,374 | | 186,440 | | | 188,399 | | |
Members’ subordinated certificates | Members’ subordinated certificates | | | 1,830,306} | | | 1,990,591} | | | 1,810,715 | | 1,972,393 | | | Members’ subordinated certificates | | 1,766,124 | | 1,925,429 | | 1,801,212 | | | 1,961,005 | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Off-balance sheet instruments: | Off-balance sheet instruments: | | | | | | | | | | | | | | Off-balance sheet instruments: | | | | | | | | | | | |
Commitments | | | -} | | | -} | | | - | | - | | | | | - | | - | | - | | | - | | |
See Note 10, Fair Value Measurement, for more details on assets and liabilities measured at fair value on a recurring or non-recurring basis on our condensed consolidated balance sheets. We consider relevant and observable prices in the appropriate principal market in our valuations where possible. The estimated fair value information presented is not necessarily indicative of amounts we could realize currently in a market sale since we may be unable to sell such instruments due to contractual restrictions or the lack of an established market.
The estimated market values have not been updated since February 28,August 31, 2011; therefore, current estimates of fair value may differ significantly from the amounts presented. With the exception of redeeming subordinated deferrable debt under early redemption provisions, terminating derivative instruments under early termination provisions and allowing borrowers to prepay their loans, we held and intend to hold all financial instruments to maturity excluding common stock investments that have no stated maturity. Below is a summary of significant methodologies used in estimating fair value amounts at February 28,August 31, 2011 and May 31, 2010.2011.
Cash and Cash Equivalents
Includes cash and certificates of deposit with original maturities of less than 90 days. Cash and cash equivalents are valued at the carrying value, which approximates fair value.
Restricted Cash
Restricted cash consists of cash and cash equivalents for which use is contractually restricted. Restricted cash is valued at the carrying value, which approximates fair value.
Investments in Equity Securities
At February 28, 2011 and May 31, 2010, ourOur investments in equity securities included investments in the Federal Agricultural Mortgage Corporation Series A common stock and Series C preferred stock. The Series A common stock is classified as available-for-sale securities and recorded in the condensed consolidated balance sheets at fair value. We calculate fair value based on the quoted price on the stock exchange where the stock is traded. That stock exchange is an active market based on the volume of shares transacted.
The carrying value of theOur investments in equity securities also included investments in Federal Agricultural Mortgage Corporation Series C preferred stock held at February 28, 2011 and May 31, 2010 is equal to cost, which approximates fair value.stock. The fair value for the Series C preferred stock is estimated at cost, which approximates fair value because we continue to enter into new transactions with the issuer on the same terms, and the stock is callable at par. The preferred stock securities do not meet the definition of marketable securities.
Loans to Members, Net
As part of receiving a loan from us, our members have additional requirements and rights that are not typical of other financial institutions, such as the ability to receive a patronage capital allocation, the general requirement to purchase subordinated certificates or member capital securities to meet their capital contribution requirements as a condition of obtaining additional credit from us, the option to select fixed rates from one year to maturity with the fixed rate resetting or repricing at the end of each selected rate term, the ability to convert from a fixed rate to another fixed rate or the variable rate at any time, and certain interest rate discounts that are specific to the borrower’s activity with us. These features make it difficult to obtain market data for similar loans. Therefore, we must use other methods to estimate the fair value.
Fair values for fixed-rate loans are estimated by discounting the future cash flows using the current rates at which we would make similar loans to new borrowers for the same remaining maturities. The maturity date used in the fair value calculation of loans with a fixed rate for a selected rate term is the next repricing date since these borrowers must reprice their loans at various times throughout the life of the loan at the then-current market rate.
Loans with different risk characteristics, specifically non-performing and restructured loans, are valued by using collateral valuations or by adjusting cash flows for credit risk and discounting those cash flows using the current rates at which similar loans would be made by us to borrowers for the same remaining maturities. See Note 10, Fair Value Measurement, for more details about how we calculate the fair value of certain non-performing loans.
Variable-rate loans are valued at cost, which approximates fair value since we can reset rates every 15 days.
Credit risk for the loan portfolio is estimated based on the associated reserve in our allowance for loan losses.
Debt Service Reserve Funds
Debt service reserve funds represent cash and/or investments on deposit with the bond trustee for tax-exempt bonds that we guarantee. Carrying value is considered to be equal to fair value.
Short-Term Debt
Short-term debt consists of commercial paper, bank bid notes and other debt due within one year. The fair value of short-term debt with maturities greater than 90 days is estimated based on quoted market rates for debt with similar maturities. The fair value of short-term debt with maturities less than or equal to 90 days is carrying value, which is a reasonable estimate of fair value.
Long-Term Debt
Long-term debt consists of collateral trust bonds, medium-term notes and long-term notes payable. We issue all collateral trust bonds and some medium-term notes in underwritten public transactions. There is not active secondary trading for all underwritten collateral trust bonds and medium-term notes; therefore, dealer quotes and recent market prices are both used in estimating fair value. There is essentially no secondary market for the medium-term notes issued to our members or in transactions that are not underwritten; therefore, fair value is estimated based on observable benchmark yields and spreads for similar instruments supplied by banks that underwrite our other debt transactions. The long-term notes payable are issued in private placement transactions and there is no secondary trading of such debt. Therefore, the fair value is estimated based on underwriter quotes for similar instruments, if available, or based on cash flows discounted at current rates for similar instruments supplied by underwriters or by the original issuer. Secondary trading quotes for our debt instruments used in the determination of fair value incorporate our credit risk.
Subordinated Deferrable Debt
Our subordinated deferrable debt is traded on the New York Stock Exchange; therefore, daily market quotes are available. The fair value for subordinated deferrable debt is based on the closing market quotes from the last day of the reporting period.
Members’ Subordinated Certificates
Members’ subordinated certificates include (i) membership subordinated certificates issued to our members as a condition of membership, (ii) loan and guarantee subordinated certificates as a condition of obtaining loan funds or guarantees and (iii) member capital securities issued as voluntary investments by our members. All members’ subordinated certificates are non-transferable other than among members. As there is no ready market from which to obtain fair value quotes for membership, loan and guarantee subordinated certificates, it is impracticable to estimate fair value, and such certificates are, therefore, valued at par. There also is no ready market from which to obtain fair value quotes for member capital securities. Fair value for member capital securities is based on the discounted cash flows using the coupon interest rate on the last business day of the reporting period.
Derivative Instruments
We record derivative instruments in the condensed consolidated balance sheets as either an asset or liability measured at fair value. Because there is not an active secondary market for the types of interest rate swaps we use, we obtain market quotes from the interest rate swap counterparties to adjust all interest rate swaps to fair value on a quarterly basis. The market quotes are based on the expected future cash flow and estimated yield curves. We adjust the market values received from the counterparties using credit default swap levels for us and the counterparties. The credit default swap levels represent the credit risk premium required by a market participant based on the available information related to us and the counterparty.
Commitments
The fair value of our commitments is estimated as the carrying value, or zero. Extensions of credit under these commitments, if exercised, would result in loans priced at market rates.
Guarantees
The fair value of our guarantee liability is based on the fair value of our contingent and non-contingent exposure related to our guarantees. The fair value of our contingent exposure for guarantees is based on management’s estimate of our exposure to losses within the guarantee portfolio. The fair value of our non-contingent exposure for guarantees issued is estimated based on the total unamortized balance of guarantee fees paid and guarantee fees to be paid discounted at our current short-term funding rate, which represents management’s estimate of the fair value of our obligation to stand ready to perform.
(12) Segment Information
The following tables contain condensed consolidated statements of operationsthe segment presentation for the nine months ended February 28, 2011 and 2010 and condensed consolidated balance sheets at February 28, 2011 and 2010 by segment.
| | For the nine months ended February 28, 2011 | | |
(dollar amounts in thousands) | | CFC | | | | RTFC | | | | NCSC | | | | Consolidated | | |
Statement of operations: | | | | | | | | | | | | | | | | |
Interest income | $ | 693,206} | | | $ | 42,026} | | | $ | 20,641} | | | $ | 755,873} | | |
Interest expense | | (590,814) | | | | (39,051) | | | | (8,381) | | | | (638,246) | | |
Net interest income | | 102,392} | | | | 2,975} | | | | 12,260} | | | | 117,627} | | |
| | | | | | | | | | | | | | | | |
Recovery of loan losses | | 42,884} | | | | -} | | | | 31} | | | | 42,915} | | |
Net interest income after recovery of loan losses | 145,276} | | | | 2,975} | | | | 12,291} | | | | 160,542} | | |
| | | | | | | | | | | | | | | | |
Non-interest income: | | | | | | | | | | | | | | | | |
Fee and other income | | 18,113} | | | | 62} | | | | 921} | | | | 19,096} | | |
Derivative gains (losses) | | 26,327} | | | | -} | | | | (3,922) | | | | 22,405} | | |
Results of operations from foreclosed assets | | (6,323) | | | | -} | | | | - | | | | (6,323) | | |
Total non-interest income | | 38,117} | | | | 62} | | | | (3,001) | | | | 35,178} | | |
| | | | | | | | | | | | | | | | |
Non-interest expense: | | | | | | | | | | | | | | | | |
General and administrative expenses | | (47,526) | | | | (3,565) | | | | (3,553) | | | | (54,644) | | |
Recovery of guarantee liability | | 358} | | | | -} | | | | -} | | | | 358} | | |
Fair value adjustment on foreclosed assets | | (2,673) | | | | -} | | | | -} | | | | (2,673) | | |
Loss on early extinguishment of debt | | (3,928) | | | | -} | | | | -} | | | | (3,928) | | |
Other | | (36) | | | | -} | | | | (835) | | | | (871) | | |
Total non-interest expense | | (53,805) | | | | (3,565) | | | | (4,388) | | | | (61,758) | | |
| | | | | | | | | | | | | | | | |
Income (loss) prior to income taxes | | 129,588} | | | | (528) | | | | 4,902} | | | | 133,962} | | |
Income tax expense | | -} | | | | (122) | | | | (1,861) | | | | (1,983) | | |
Net income (loss) | $ | 129,588} | | | $ | (650) | | | $ | 3,041} | | | $ | 131,979} | | |
| | | | | | | | | | | | | | | | |
Assets: | | | | | | | | | | | | | | | | |
Total loans outstanding | $ | 18,061,351} | | | $ | 947,740} | | | $ | 517,193} | | | $ | 19,526,284} | | |
Deferred origination costs | | 5,885} | | | | -} | | | | -} | | | | 5,885} | | |
Less: Allowance for loan losses | | (222,222) | | | | -} | | | | (2) | | | | (222,224) | | |
Loans to members, net | | 17,845,014} | | | | 947,740} | | | | 517,191} | | | | 19,309,945} | | |
Other assets | | 1,209,408} | | | | 176,745} | | | | 66,557} | | | | 1,452,710} | | |
Total assets | $ | 19,054,422} | | | $ | 1,124,485} | | | $ | 583,748} | | | $ | 20,762,655} | | |
| | For the nine months ended February 28, 2010 | | |
(dollar amounts in thousands) | | CFC | | | | RTFC | | | | NCSC | | | | Consolidated | | |
Statement of operations: | | | | | | | | | | | | | | | | |
Interest income | $ | 716,904} | | | $ | 54,789} | | | $ | 19,202} | | | $ | 790,895} | | |
Interest expense | | (631,421) | | | | (51,062) | | | | (9,021) | | | | (691,504) | | |
Net interest income | | 85,483} | | | | 3,727} | | | | 10,181} | | | | 99,391} | | |
| | | | | | | | | | | | | | | | |
Recovery of loan losses | | 4,549} | | | | -} | | | | 45} | | | | 4,594} | | |
Net interest income after recovery of loan losses | | 90,032} | | | | 3,727} | | | | 10,226} | | | | 103,985} | | |
| | | | | | | | | | | | | | | | |
Non-interest income: | | | | | | | | | | | | | | | | |
Fee and other income | | 12,331} | | | | 127} | | | | 1,020} | | | | 13,478} | | |
Settlement income | | 22,906} | | | | -} | | | | -} | | | | 22,906} | | |
Derivative gains (losses) | | 10,492} | | | | -} | | | | (5,393) | | | | 5,099} | | |
Results of operations from foreclosed assets | | 946} | | | | -} | | | | -} | | | | 946} | | |
Total non-interest income | | 46,675} | | | | 127} | | | | (4,373) | | | | 42,429} | | |
| | | | | | | | | | | | | | | | |
Non-interest expense: | | | | | | | | | | | | | | | | |
General and administrative expenses | | (43,438) | | | | (4,598) | | | | (3,532) | | | | (51,568) | | |
Recovery of guarantee liability | | 2,765} | | | | -} | | | | -} | | | | 2,765} | | |
Fair value adjustment of foreclosed assets | | (2,738) | | | | -} | | | | -} | | | | (2,738) | | |
Other | | (264) | | �� | | -} | | | | (168) | | | | (432) | | |
Total non-interest expense | | (43,675) | | | | (4,598) | | | | (3,700) | | | | (51,973) | | |
| | | | | | | | | | | | | | | | |
Income (loss) prior to income taxes | | 93,032} | | | | (744) | | | | 2,153} | | | | 94,441} | | |
Income tax expense | | -} | | | | (13) | | | | (643) | | | | (656) | | |
Net income (loss) | $ | 93,032} | | | $ | (757) | | | $ | 1,510} | | | $ | 93,785} | | |
| | | | | | | | | | | | | | | | |
Assets: | | | | | | | | | | | | | | | | |
Total loans outstanding | $ | 17,399,721} | | | $ | 1,702,640} | | | $ | 355,575} | | | $ | 19,457,936} | | |
Deferred origination costs | | 3,849} | | | | -} | | | | -} | | | | 3,849} | | |
Less: Allowance for loan losses | | (618,462) | | | | -} | | | | (36) | | | | (618,498) | | |
Loans to members, net | | 16,785,108} | | | | 1,702,640} | | | | 355,539} | | | | 18,843,287} | | |
Other assets | | 1,047,055} | | | | 176,405} | | | | 42,807} | | | | 1,266,267} | | |
Total assets | $ | 17,832,163} | | | $ | 1,879,045} | | | $ | 398,346} | | | $ | 20,109,554} | | |
The following tables contain the condensed consolidated statements of operations for the three months ended February 28,August 31, 2011 and 2010 by segment.and condensed consolidated balance sheets at August 31, 2011 and 2010.
| | For the three months ended February 28, 2011 | |
(dollar amounts in thousands) | | CFC | | | | RTFC | | | | NCSC | | | | Consolidated | |
Statement of operations: | | | | | | | | | | | | | | | |
Interest income | $ | 233,243} | | | $ | 13,632} | | | $ | 7,427} | | | $ | 254,302} | |
Interest expense | | (190,898) | | | | (12,633) | | | | (2,802) | | | | (206,333) | |
Net interest income | | 42,345} | | | | 999} | | | | 4,625} | | | | 47,969} | |
| | | | | | | | | | | | | | | |
Recovery of loan losses | | 3,374} | | | | -} | | | | -} | | | | 3,374} | |
Net interest income after recovery of loan losses | | 45,719} | | | | 999} | | | | 4,625} | | | | 51,343} | |
| | | | | | | | | | | | | | | |
Non-interest income: | | | | | | | | | | | | | | | |
Fee and other income | | 3,688} | | | | -} | | | | 272} | | | | 3,960} | |
Derivative gains | | 49,704} | | | | -} | | | | 3,644} | | | | 53,348} | |
Results of operations of foreclosed assets | | (4,854) | | | | -} | | | | -} | | | | (4,854) | |
Total non-interest income | | 48,538} | | | | -} | | | | 3,916} | | | | 52,454} | |
| | | | | | | | | | | | | | | |
Non-interest expense: | | | | | | | | | | | | | | | |
General and administrative expenses | | (13,909) | | | | (916) | | | | (1,245) | | | | (16,070) | |
Provision for guarantee liability | | (24) | | | | -} | | | | -} | | | | (24) | |
Fair value adjustment of foreclosed assets | | (818) | | | | -} | | | | -} | | | | (818) | |
Other | | (169) | | | | -} | | | | (475) | | | | (644) | |
Total non-interest expense | | (14,920) | | | | (916) | | | | (1,720) | | | | (17,556) | |
| | | | | | | | | | | | | | | |
Income prior to income taxes | | 79,337} | | | | 83} | | | | 6,821} | | | | 86,241} | |
Income tax expense | | -} | | | | -} | | | | (2,589) | | | | (2,589) | |
Net income | $ | 79,337} | | | $ | 83} | | | $ | 4,232} | | | $ | 83,652} | |
| | | | | | | | | | | | | | | |
| | For the three months ended February 28, 2010 | | | For the three months ended August 31, 2011 | |
(dollar amounts in thousands) | | CFC | | | | RTFC | | NCSC | | | Consolidated | | | CFC | | | | Other | | | | Elimination | | | Consolidated | |
Statement of operations: | | | | | | | | | | | | | | | | | | | | | | | | | | |
Interest income | $ | 232,328} | | | $ | 17,999} | | $ | 6,192} | | $ | 256,519} | | $ | 241,193} | | | $ | 19,347} | | | $ | (13,290) | | $ | 247,250} | |
Interest expense | | (202,477) | | | | (16,714) | | | (2,707) | | | (221,898) | | | (201,593) | | | | (13,744) | | | | 13,293} | | | (202,044) | |
Net interest income | | 29,851} | | | | 1,285} | | 3,485} | | | 34,621} | | | 39,600} | | | | 5,603} | | | | 3} | | | 45,206} | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
(Provision for) recovery of loan losses | | (10,007) | | | | -} | | 7} | | | (10,000) | | |
| | | | | | | | | | | | | |
Net interest income after (provision for) recovery of loan losses | 19,844} | | | | 1,285} | | | 3,492} | | | 24,621} | | |
Recovery of loan losses | | | 9,130} | | | | -} | | | | -} | | | 9,130} | |
Net interest income after recovery of loan losses | | Net interest income after recovery of loan losses | 48,730} | | | | 5,603} | | | | 3} | | | | 54,336} | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Non-interest income: | | | | | | | | | | | | | | | | | | | | | | | | | | |
Fee and other income | | 5,236} | | | | 50} | | 352} | | | 5,638} | | | 5,182} | | | | 218} | | | | (677) | | | 4,723} | |
Settlement income | | 22,906} | | | | -} | | -} | | | 22,906} | | |
Derivative gains | | 21,182} | | | | -} | | 1,389} | | | 22,571} | | |
Results of operations of foreclosed assets | | 338} | | | | -} | | -} | | | 338} | | |
Derivative losses | | | (104,338) | | | | (7,233) | | | | -} | | | (111,571) | |
Results of operations from foreclosed assets | | | (7,881) | | | | -} | | | | -} | | | (7,881) | |
Total non-interest income | | 49,662} | | | | 50} | | 1,741} | | | 51,453} | | | (107,037) | | | | (7,015) | | | | (677) | | | (114,729) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Non-interest expense: | | | | | | | | | | | | | | | | | | | | | | | | | | |
General and administrative expenses | | (15,211) | | | | (1,587) | | (1,328) | | | (18,126) | | | (14,184) | | | | (2,395) | | | | 190} | | | (16,389) | |
Provision for guarantee liability | | (451) | | | | -} | | -} | | | (451) | | |
Recovery of guarantee liability | | | 60} | | | | -} | | | | -} | | | 60} | |
Fair value adjustment on foreclosed assets | | (988) | | | | -} | | -} | | | (988) | | | (1,937) | | | | -} | | | | -} | | | (1,937) | |
Loss on early extinguishment of debt | | | (9,267) | | | | -} | | | | -} | | | (9,267) | |
Other | | (53) | | | | -} | | (58) | | | (111) | | | (397) | | | | (484) | | | | 484} | | | (397) | |
Total non-interest expense | | (16,703) | | | | (1,587) | | | (1,386) | | | | (19,676) | | | (25,725) | | | | (2,879) | | | | 674} | | | (27,930) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Income (loss) prior to income taxes | | 52,803} | | | | (252) | | 3,847} | | | 56,398} | | |
Income tax expense | | -} | | | | (5) | | (1,460) | | | (1,465) | | |
Net income (loss) | $ | 52,803} | | | $ | (257) | | $ | 2,387} | | $ | 54,933} | | |
Loss prior to income taxes | | | (84,032) | | | | (4,291) | | | | -} | | | | (88,323) | |
Income tax benefit | | | -} | | | | 1,701} | | | | -} | | | 1,701} | |
Net loss | | $ | (84,032) | | | $ | (2,590) | | | $ | -} | | $ | (86,622) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Assets: | | | | | | | | | | | | | | | |
Total loans outstanding | | $ | 18,252,160} | | | $ | 1,364,187} | | | $ | (1,004,520) | | $ | 18,611,827} | |
Deferred origination costs | | | 6,667} | | | | -} | | | | -} | | | 6,667} | |
Less: Allowance for loan losses | | | (152,100) | | | | -} | | | | -} | | | (152,100) | |
Loans to members, net | | | 18,106,727} | | | | 1,364,187} | | | | (1,004,520) | | | 18,466,394} | |
Other assets | | | 1,665,176} | | | | 228,817} | | | | (203,993) | | | 1,690,000} | |
Total assets | | $ | 19,771,903} | | | $ | 1,593,004} | | | $ | (1,208,513) | | $ | 20,156,394} | |
| | For the three months ended August 31, 2010 | |
(dollar amounts in thousands) | | CFC | | | | Other | | | | Elimination | | | | Consolidated | |
Statement of operations: | | | | | | | | | | | | | | | |
Interest income | $ | 246,057 | | | $ | 20,650 | | | $ | (15,654 | ) | | $ | 251,053 | |
Interest expense | | (219,026 | ) | | | (16,160 | ) | | | 15,674 | | | | (219,512 | ) |
Net interest income | | 27,031 | | | | 4,490 | | | | 20 | | | | 31,541 | |
| | | | | | | | | | | | | | | |
Recovery of loan losses | | 12,268 | | | | 20 | | | | - | | | | 12,288 | |
Net interest income after recovery of loan losses | 39,299 | | | | 4,510 | | | | 20 | | | | 43,829 | |
| | | | | | | | | | | | | | | |
Non-interest income: | | | | | | | | | | | | | | | |
Fee and other income | | 10,500 | | | | 404 | | | | (612 | ) | | | 10,292 | |
Derivative (losses) gains | | (67,931 | ) | | | (10,334 | ) | | | 11 | | | | (78,254 | ) |
Results of operations from foreclosed assets | | 184 | | | | - | | | | - | | | | 184 | |
Total non-interest income | | (57,247 | ) | | | (9,930 | ) | | | (601 | ) | | | (67,778 | ) |
| | | | | | | | | | | | | | | |
Non-interest expense: | | | | | | | | | | | | | | | |
General and administrative expenses | | (19,388 | ) | | | (2,448 | ) | | | 523 | | | | (21,313 | ) |
Recovery of guarantee liability | | 548 | | | | - | | | | - | | | | 548 | |
Fair value adjustment on foreclosed assets | | (315 | ) | | | - | | | | - | | | | (315 | ) |
Other | | (93 | ) | | | (61 | ) | | | 58 | | | | (96 | ) |
Total non-interest expense | | (19,248 | ) | | | (2,509 | ) | | | 581 | | | | (21,176 | ) |
| | | | | | | | | | | | | | | |
Loss prior to income taxes | | (37,196 | ) | | | (7,929 | ) | | | - | | | | (45,125 | ) |
Income tax benefit | | - | | | | 2,780 | | | | - | | | | 2,780 | |
Net loss | $ | (37,196 | ) | | $ | (5,149 | ) | | $ | - | | | $ | (42,345 | ) |
| | | | | | | | | | | | | | | |
Assets: | | | | | | | | | | | | | | | |
Total loans outstanding | $ | 19,007,475 | | | $ | 1,847,292 | | | $ | (1,564,004 | ) | | $ | 19,290,763 | |
Deferred origination costs | | 5,029 | | | | - | | | | - | | | | 5,029 | |
Less: Allowance for loan losses | | (580,530 | ) | | | (9 | ) | | | - | | | | (580,539 | ) |
Loans to members, net | | 18,431,974 | | | | 1,847,283 | | | | (1,564,004 | ) | | | 18,715,253 | |
Other assets | | 1,410,978 | | | | 221,414 | | | | (195,370 | ) | | | 1,437,022 | |
Total assets | $ | 19,842,952 | | | $ | 2,068,697 | | | $ | (1,759,374 | ) | | $ | 20,152,275 | |
(13) Subsequent events
In September 2011, notice was provided to investors that CFC will redeem $250 million of its $1,250 million 7.25 percent, Series C medium-term notes with an original maturity of March 1, 2012 at a premium on October 21, 2011. The premium and unamortized issuance costs are estimated to total $6 million and will be recorded as a loss on extinguishment of debt during the second quarter of fiscal year 2012.
In September 2011, we received a commitment from the Federal Financing Bank to provide additional funding up to $499 million with a guarantee of repayment by RUS as part of the funding mechanism for the Rural Economic Development Loan and Grant program. As a result, we can borrow up to an additional $499 million under Federal Financing Bank loan facilities with a 20-year maturity during the three-year period following the date of closing.
Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations. |
The following discussion and analysis is designed to provide a better understanding of our consolidated financial condition and results of operations and as such should be read in conjunction with the consolidated financial statements, including the notes thereto and the information contained elsewhere in this Form 10-Q, in addition toincluding Part I, Item 1A. Risk Factorsin our Form 10-K for the year ended May 31, 2010.2011.
Unless stated otherwise, references to “we,” “our” or “us” relate to the consolidation of National Rural Utilities Cooperative Finance Corporation (“CFC”), Rural Telephone Finance Cooperative (“RTFC”), National Cooperative Services Corporation (“NCSC”) and certain entities created and controlled by CFC to hold foreclosed assets and to accommodate loan securitization transactions.
This Form 10-Q contains forward-looking statements defined by the Securities Act of 1933, as amended, and the Exchange Act of 1934, as amended. Forward-looking statements, which are based on certain assumptions and describe our future plans, strategies and expectations, are generally identified by our use of words such as “intend,” “plan,” “may,” “should,” “will,” “project,” “estimate,” “anticipate,” “believe,” “expect,” “continue,” “potential,” “opportunity” and similar expressions, whether in the negative or affirmative. All statements about future expectations or projections, including statements about loan volume, the adequacy of the loan loss allowance, netoperating income growth,and expenses, leverage and debt-to-equity ratios, borrower financial performance, impaired loans, and sources and uses of liquidity, are forward-looking statements. Although we believe that the expectations reflected in our forward-looking statements are based on reasonable assumptions, actual results and performance could materially differ. Factors that could cause future results to vary from current expectations include, but are not limited to, general economic conditions, legislative changes, governmental monetary and fiscal policies, changes in tax policies, changes in interest rates, demand for our loan products, lending competition, changes in the quality or composition of our loan and investment portfolios, changes in accounting principles, policies or guidelines, changes in our ability to access external financing, valuations of collateral supporting impaired loans, initial valuations of foreclosed assets received in foreclosure, non-performance of counterparties to our derivative agreements and other economic and governmental factors affecting our operations. Some of these and other factors are discussed in our annual and quarterly reports previously filed with the U.S. Securities and Exchange Commission (“SEC”). Except as required by law, we undertake no obligation to update or publicly release any revisions to forward-looking statements to reflect events, circumstances or changes in expectations after the date on which the statement is made.
Executive Summary
Throughout this management discussion and analysis, we will refer to certain of our financial measures that are not in accordance with generally accepted accounting principles in the United States (“GAAP”) as “adjusted.” In our Executive Summary, our discussion focuses on the key metrics that we use to evaluate our business, which are adjusted times interest earned ratio (“TIER”) and adjusted debt-to-equity ratio. The most closely related GAAP measures are TIER and debt-to-equity ratio. We do not measure our performance or evaluate our business based on the GAAP measures, and the financial covenants in our revolving credit agreements and debt indentures are based on our adjusted measures rather than the related GAAP measures. The main adjustments we make to calculate the non-GAAP measures compared towith the related GAAP measures are to adjust interest expense to include derivative cash settlements; to adjust net income, senior debt and total equity to exclude the non-cash adjustments from the accounting for derivative financial instruments; to exclude from senior debt the amount that funds loans guaranteed by the Rural Utilities Service (“RUS”), subordinated deferrable debt and members’ subordinated certificates; and to adjust total equity to include subordinated deferrable debt and members’ subordinated certificates. See Non-GAAP Financial Measures for further explanation of the adjustments we make to our financial results for our own analysis and covenant compliance and for a reconciliation to the related GAAP measures.
Our primary objective as a member-owned cooperative lender is to provide cost-based financial products to our rural electric and telecommunications members while maintaining sound financial results required for investment-grade credit ratings on our debt instruments. Our objective is not to maximize net income; therefore, the rates we charge our borrowers reflect our adjusted interest expense plus a spread to cover our operating expenses, a provision for loan losses and earnings sufficient to achieve interest coverage to meet our financial objectives. Our goal is to earn an annual minimum adjusted TIER of 1.10 and to achieve and maintain an adjusted debt-to-equity ratio of no greater than 6.00-to-1.
Lending Activity
The balance of loans outstanding increased by $188decreased $713 million during the nine months ended February 28, 2011. The primary reason for the increase was the $1,105 million of loan advances to CFC and NCSC borrowers to refinance their debt borrowed from other lenders during the nine months ended February 28, 2011. The increase in the loan advances was partially offset by the $472 million reduction in non-performing loans to Innovative Communication Corporation (“ICC”) as described
below, distribution and power supply loans sold to the Federal Agricultural Mortgage Corporation totaling $268 million, of which $139 million were advanced at the time of sale, and the prepayment of $204 million of telecommunications loans related to the acquisition of one of our borrowers by a non-member. Repayments of power supply bridge loans with RUS funding totaling $290 million during fiscal year 2011 were mostly offset by new bridge loans during the three months ended February 28, 2011. BridgeAugust 31, 2011 due to the $694 million reduction in loans are advanced with the expectation that they will be repaid once RUS funds are advanced.
During the period June 1, 2010 through February 28, 2011,outstanding to CFC borrowers of which $557 million was a total of $1,480 million of long-term fixed-ratedecrease in CFC power supply loans were scheduled to reprice. Of that total, $1,152 million were repriced at a new long-term fixed rate; $253 million were repriced at a long-term variable rate; $23 million selected a new rate offereddriven primarily by the Federal Agricultural Mortgage Corporation and were sold by CFC to the Federal Agricultural Mortgage Corporation with CFC continuing to service the loans sold; and $52 million were prepaid in full.
ICC Loan Bankruptcy Settlement
On October 6, 2010, a subsidiary of CFC, Caribbean Asset Holdings (“CAH”), took control of the United States Virgin Island (“USVI”) operating entities of ICC as partial repayment of RTFCbridge loans to ICC. This transaction resulted from the transfer of ICC’s assets in bankruptcy. The transferred entities had a fair value of $128 million at that date. As a result of the transfer of control, the prior loan balance of $538 million was increased by $14 million to satisfy payment requirements under an inter-creditor agreement and transaction fees and reduced by $30 million for the redemption of preferred stock, $128 million for the fair value of the transferred entities and a charge-off of $328 million. CFC recorded an investment of $216 million to foreclosed assets, which includes the $128 million fair value of the entities transferred and an additional investment of $88 million to these entities to pay down or fully settle third-party obligations. The fair value of $128 million for the entities transferred included $88 million of third-party debt obligations. The $88 million of third-party debt obligations was paid off with the $88 million additional investment made by CFC as part of the transfer of control. See further discussion in Note 3, Foreclosed Assets to the condensed consolidated financial statements.RUS funding.
Funding Activity
DueDuring the three months ended August 31, 2011, total debt outstanding decreased $555 million as our funding needs declined as a result of the $713 million decrease in loans outstanding. The reduction in debt was slightly less than the decrease in the outstanding loan balance largely due to loan prepayments that occurredmaintaining a higher cash balance at the beginning of fiscal yearAugust 31, 2011 there was initially little need for the issuance of debt during the first quarter.as compared with May 31, 2011. Our funding requirements increased duringfor the second quarter withwere primarily related to the maturity of collateral trust bonds totaling $500 million, theearly redemption of $125$250 million of 6.75 percent subordinated deferrable debt and the increased loan advance activity to members seeking to refinance their borrowings from other lenders. Additionally, retail medium-term notes totaling $577 million matured duringscheduled to mature in March 2012 and refinancing maturing commercial paper as needed. During the ninethree months ended February 28, 2011. Debt maturities during fiscal year 2011 were refinanced primarily with commercial paper. During the nine months ended February 28,August 31, 2011, our average balance of commercial paper, bid notes and daily liquidity fund outstanding increased to $2,714was $2,733 million, or 15 percent of total average debt volume, compared with an average balance of $2,199 million, or 11 percent of total average debt volume for the nine months ended February 28, 2010.same prior-year period. The higher average balance of commercial paper was offset by a lower average balance of medium-term notes, which decreased to 2120 percent of total average debt volume for the ninethree months ended February 28,August 31, 2011 from 25compared with 23 percent for the same prior-year period. A higher utilization of our commercial paper issuance capacity has been a key factor in our efforts to reduce our overall effective rate of borrowing during fiscal year 2011 as commercial paper is our lowest-cost source of debt funding. As a result, short-term debt as a percentage of total debt increased to 19 percent at February 28, 2011 compared to 12 percent at May 31, 2010. In addition to commercial paper, we issued private-placement short-term debt totaling $400 million to the Federal Agricultural Mortgage Corporation in September 2010 and October 2010 at rates ranging from 0.62 percent to 0.67 percent. These notes matured during the third quarter of fiscal year 2011.
In November 2010, we closed on a $500 million committed loan facility from the Federal Financing Bank with a guarantee of repayment by RUS as part of the funding mechanism for the Rural Economic Development Loan and Grant program. Under this facility, we are able to borrow funds up to the committed amount at rates ranging from 52.5 to 65 basis points over comparable maturity Treasury Bonds any time before October 15, 2013, with each advance having a final maturity not longer than 20 years from the advance date.
In January 2011, we entered into a $1,500 million revolving note purchase agreement with the Federal Agricultural Mortgage Corporation. Under the terms of this note purchase agreement, we can borrow up to the committed amount at any time during the draw period, which is initially five years from the closing date and thereafter automatically extended on each anniversary date of the closing for an additional year, unless prior to any such anniversary date, the Federal Agricultural Mortgage Corporation provides CFC with a notice that the draw period will not be extended beyond the then-remaining term. We may select a fixed rate or variable rate at the time of each advance with a maturity as determined in the applicable pricing agreement. No amounts have been advanced under the $1,500 million commitment through the filing date of this report.
Financial Results
For the ninethree months ended February 28,August 31, 2011 and 2010, we reported net incomeloss of $132$87 million and $94$42 million, respectively andwhich resulted in TIER was 1.21 and 1.14, respectively.calculations for those periods of below 1.00. As previously mentioned, we use adjusted non-GAAP measures in our analysis to evaluate our performance and for covenant compliance. For the three months ended August 31, 2011 and 2010, adjusted net income was $25 million and $31 million, respectively, and adjusted TIER was 1.12 and 1.14, respectively.
We experienced an increase of $32 million, or 41 percent, to adjustedAdjusted net interest income increased $18 million, or 68 percent, for the ninethree months ended February 28,August 31, 2011 compared towith the prior-year period. This increase was driven primarily byperiod mostly due to a decrease toin interest expense that was significantly greater than the decrease to interest income andincome. Our adjusted interest expense for the quarter ended August 31, 2011 averaged $67 million per month, a $14decrease of $8 million, or 11 percent, from an average of $75 million per month for the prior-year period. The primary factors driving the $17 million reduction to cash settlementsinterest expense for derivatives. Onewere our refinancing of maturing term debt and the factors forscheduled reset of interest rates on term debt during the decreasefinal three quarters of fiscal year 2011 and an increased utilization of commercial paper. We estimate that the interest rate reset on $750 million of long-term notes payable, combined with the refinancing of $625 million of collateral trust bonds and subordinated deferrable debt with $650 million of new collateral trust bonds, resulted in a $12 million reduction to interest expense during the ninethree months ended February 28,August 31, 2011 compared towith the prior-year period was the increased utilizationperiod. The higher average balance of commercial paper outstanding and the lower utilizationdecrease in the average balance of medium-term notes in our overall funding mix.mix resulted in a decrease of approximately $8 million in interest expense during the three months ended August 31, 2011 compared with the prior-year period. The average cost of commercial paper was 0.320.26 percent and 0.380.33 percent for the ninethree months ended February 28,August 31, 2011 and 2010, respectively, compared with the average cost of medium-term notes of 6.155.93 percent and 6.035.99 percent for the same periods, respectively. We also incurred additional interest expense during the prior-year nine-month period due to prefunding large debt maturities as we maintained commercial paper issuance capacity in reserve to address liquidity concerns in the market during that time.
The decrease in interest expense is also the result of refinancing term debt that matured or repriced during the nine months ended February 28, 2011 at lower interest rates. In November 2010, we refinanced maturing collateral trust bonds and the redemption of subordinated deferrable debt with new collateral trust bonds at an average interest rate of 1.54 percent. In January 2011, we repriced $750 million of long-term notes payable at an average effective rate of 1.73 percent, including gains from related treasury lock contracts where we qualified for hedge accounting treatment, compared to the effective interest rate of 5.20 percent prior to repricing. We estimate the transactions above resulted in combined savings of $8 million and $10 million in interest expense during the three and nine months ended February 28, 2011, respectively, compared to the prior-year periods. On an annual basis, we estimate a $47 million reduction to interest expense as a result of these transactions.
DuringFor the three months ended February 28, 2011, we paid a weighted average rate of 2.70 percent to counterparties and collected a weighted average rate of 2.69 percent from counterparties for a net weighted average outflow of 0.01 percent on our interest rate swap agreements. This represents a reduction from a weighted average outflow of 0.22 percent for the three months ended February 28, 2010. During the nine months ended February 28, 2011, we paid a weighted average rate of 2.78 percent to counterparties and collected a weighted average rate of 2.75 percent from counterparties for a net weighted average outflow of 0.03 percent on our interest rate swap agreements. This represents a reduction from a weighted average outflow of 0.23 percent for the nine months ended February 28, 2010. For both the three months and nine months ended February 28, 2011, the primary reason for the decrease in the weighted average outflow was a reduction to the weighted average rate we paid on our pay fixed-receive variable interest rate swaps. There was also an increase to fee income during the nine months ended February 28, 2011 of $6 million related to the prepayment of loans to a telecommunications borrower that was partially offset by cash settlements expense of $3 million representing the fee we paid to terminate interest rate swaps used in the funding of such loans.
For the nine months ended February 28,August 31, 2011, we recorded a recovery of loan losses totaling $43$9 million, an increasea decrease of $38$3 million overcompared with the recovery in the prior-year period. The recovery for the ninethree months ended February 28,August 31, 2011 was primarily driven by the result of the reductiondecline to the allowance for loan losses held for impairedbalance of loans due to increases in the fair value of the collateral supporting impaired loansgeneral reserve and to principal repayments on impaired loans. There was a reduction to the loan loss allowance for impaired loans of $15 million due to an increase in the fair value of the collateral securing impaired loans and there was a recovery of $16 million due to principal repayments on impaired loans. In addition, there was a total decrease of $12 million to the loan loss allowance for the general loan portfolio and for large loan exposures during the nine months ended February 28, 2011.
During the nine months ended February 28, 2010, non-interest income included a one-time gain of $23 million, net of legal and other related expenses, from CoBank, ACB, a government-sponsored enterprise that lends to agribusinesses and rural utilities throughout the United States. On February 25, 2010, CoBank, ACB agreed to a settlement related to our discovery that for a period of years, CoBank, ACB employees improperly accessed confidential and proprietary information from our password-protected member website.
The change inDuring the items described above resulted in adjusted net incomefirst quarter ended August 31, 2011, we recorded a $9 million loss on early extinguishment of $104 million fordebt related to a premium and unamortized debt issuance costs resulting from the nine months ended February 28,redemption on August 19, 2011 compared with $69 million for the same prior-year period. Adjusted TIER for the nine months ended February 28, 2011 and 2010 was 1.16 and 1.10, respectively. The adjusted TIER for the nine months ended February 28, 2010 excluding the $23of $250 million of settlement proceeds described above was 1.06.
our $1,500 million, 7.25 percent Series C medium-term notes with an original maturity of March 1, 2012.
At February 28,August 31, 2011, our debt-to-equity ratio was 30.02-to-1increased to 35.38-to-1 compared to 33.33-to-1with 28.92-to-1 at May 31, 2010.2011. As mentioned previously, we use adjusted non-GAAP measures in our own analysis to evaluate our performance and for covenant compliance. Our adjusted debt-to-equity ratio increaseddecreased slightly to 6.27-to-16.08-to-1 at February 28,August 31, 2011 compared to 5.93-to-1with 6.09-to-1 at May 31, 2010. This increase was caused by the increase in adjusted liabilities due to the increase in loan volume and the decrease in adjusted equity due to the board-authorized patronage capital retirement of $51 million and the redemption of $125 million of subordinated deferrable debt, partially offset by adjusted net income of $104 million during the nine months ended February 28, 2011.
Outlook for the Next 12 Months
We do not expect that the increase inAs a result of anticipated reductions to loan volume, driven by $1,105 millionreductions to the rates we offer on variable-rate loans, the anticipation of advances resulting from refinancing members’ debt borrowed from other lenders during the nine months ended February 28, 2011a smaller recovery of loan losses and a slower pace of decline in adjusted interest expense, we believe our adjusted net income will continue over the remainder of fiscal year 2011 orbe lower in fiscal year 2012. Rather, we anticipate a2012 than in fiscal year 2011.
Interest income is expected to continue to decrease over the next 12 months due to the anticipated decline in outstanding loan volumebalance and the September 1, 2011 reduction to the long-term variable and line of approximately $737 million over the next 12 months. Thiscredit interest rates. The projected decrease
to loans outstanding is due to a number of expectations including (i) the maturity and full repayment of a large telecommunications loan, (ii) anticipated loan sales (iii) the repayment of a power supply bridge loan with proceeds from the advance of funds from RUS and (iv)(iii) a lower level of long-term loan advances due to the current economic conditions which would resulthave slowed growth in scheduled loan repayments being in excess of loan advances.electricity demand for our members.
It is anticipatedWe estimate that weour adjusted interest expense will maintaindecline during the remainder of fiscal year 2012, although at a slower pace than during the year ended May 31, 2011. Adjusted interest expense reductions compared with the prior-year period are expected due to a full year of interest savings from refinancing and repricing term debt at lower interest rates during fiscal year 2011, due to an expected lower level of debt outstanding and as a result of maintaining the current level of commercial paper issuance for the next 12 months.as a percentage of total debt funding. We do not haveanticipate a significant amountrecovery of term debt scheduled to mature duringloan losses in fiscal year 2012 consistent with the next 12 months. $83 million recovery of loan losses in fiscal year 2011.
As a result of the limited amountreduction to the long-term variable and line of maturing term debt andcredit interest rates on September 1, 2011, the expected decrease to loans outstanding described above, we anticipate that our funding needscalculated impairment for CoServ decreased by $10 million, which will be limited untilrecorded as a recovery from the third quarter of fiscal year 2012. We expect that during the third quarter of fiscal year 2012 we will issue term debt in advance of the $1,500 million medium-term note maturity scheduledloan loss provision for the fourth quarter ended November 30, 2011. The loan to CoServ has been on non-accrual status since it was restructured in December 2002..During that time, CoServ has made all required payments in accordance with the restructure agreement, all of fiscal year 2012. Basedwhich have been used to reduce the outstanding principal balance. On September 30, 2011, CoServ made its scheduled payment of $7 million, which reduced the outstanding loan balance to $420 million. The loan balance subsequent to this payment is below the amount that CoServ would have to pay us if they exercised a prepayment option per the restructure agreement, therefore we would no longer be required to take a write-off if the prepayment option was exercised. Thus, on October 1, 2011, the CoServ loan was placed on accrual status at a rate of 4.85% based on the expected reduction to outstanding loan balances, we do not anticipate that we will have to refinanceeffective interest rate returned by the full amount of the $1,500 million medium-term note maturity. As a result of the increase in loan advances for the refinancing of our member's debt from other lenders that occurred during the nine months ended February 28, 2011, our adjusted debt-to-equity ratio increased above our target of 6.00-to-1. Due to the expected decrease in loan volume and an estimated slight increase to adjusted equity, we expectremaining scheduled cash flows through December 2037..
We believe that our adjusted debt-to-equity ratio will fall below our target of 6.00 to-16.00-to-1 within the next 12 months.
On March 21, 2011, we replacedmonths due to the $967 million, five-year revolving credit agreement that terminated on March 22, 2011 with a new $1,125 million, three-year agreement that expires on March 21, 2014. As a result, the total committed credit available underprojected decrease in loan volume and our three current facilities increased $158 million to $3,544 million at March 21, 2011.policy for equity retention.
We believe there is sufficient liquidity from the combination of member loan repayments, capital markets issuance, member debt issuance, debt issuance to members and private placement of debt to the Federal Agricultural Mortgage Corporation and the Federal Financing Bank to satisfy our need for additional funding over the next 12 months.
At August 31, 2011, we had long-term debt maturing in the next 12 months totaling $2,465 million. Over 60 percent of this debt is comprised of two notes scheduled to mature during the third and fourth quarters of fiscal year 2012, including a $1,250 million, 7.25 percent Series C medium-term note maturity scheduled for March 2012. On September 19, 2011, CFC provided notice to investors that it will redeem $250 million of the Series C medium-term notes at a premium on October 21, 2011. Both the premium and the unamortized issuance costs, estimated to total $6 million, will be recorded as a loss on extinguishment of debt during the second quarter ending November 30, 2011. With the exception of these two notes, our funding requirement for term debt is modest during fiscal year 2012. Our loan volume is anticipated to decrease over the next 12 months; therefore, we do not expect that we will need to refinance the full amount of these notes.
We anticipate closing two new revolving credit facilities in October 2011.. The two new facilities will replace the $1,049 million facility maturing in March 2012 and the $1,376 million facility maturing in March 2013, both of which will be terminated early. The two new facilities will mature in October 2015 and 2016.. The fees on the new agreements are expected to be lower resulting in savings to us. We expect a reduction of approximately $700 million to our total revolving lines of credit as a result of the refinancing, which will also reduce the total amount of commercial paper that we can issue. We currently have excess commercial paper issuance authority and we expect our total outstanding loan balance to decline through the rest of fiscal year 2012, which will result in a lower level of demand for commercial paper funding.
In September 2011, we received a commitment from the Federal Financing Bank to provide additional funding up to $499 million with a guarantee of repayment by RUS as part of the funding mechanism for the Rural Economic Development Loan and Grant program,program. As a result, we can borrow up to satisfy our need foran additional funding over$499 million under Federal Financing Bank loan facilities with a 20-year maturity during the next 12 months.
On March 1, 2011, CFC, through RTFC, completedthree-year period following the transferdate of control of 100 percent of the equity interests of ICC’s British Virgin Island and St. Maarten operating entitiesclosing. This is in addition to CAH. This transaction resulted from the transfer of ICC’s assets in bankruptcy. The transfer of assets will not result in a cash inflow as the $66up to $350 million of loans outstanding at February 28, 2011 will be reduced byFederal Financing Bank loan facilities with a combination of the receipt of foreclosed assets and loan write-off. The amount of loan repayment CFC will credit RTFC and the amount of the loan write-off will be known once the fair value of each of the operating companies acquired has been updated as of the closing date.
New Accounting Pronouncements
In July 2010, the Financial Accounting Standards Board issued Accounting Standards Update No. 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses, which requires new disclosures and clarifies existing disclosure requirements for financing receivables, including loans, lease receivables and other long-term receivables. We adopted the amendments that require disclosures as of the end of a reporting period during the third quarter of fiscal year 2011, with no material impact on our financial position or results of operations. In the fourth quarter of fiscal year 2011, we will adopt the amendments that require disclosures about the activity for a reporting period, as required. In January 2011, the Financial Accounting Standards Board issued Accounting Standards Update No. 2011-01, Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20, which temporarily defers the effective date for disclosures in this guidance regarding troubled debt restructurings, pending resolution on the Financial Accounting Standards Board’s project to amend the scope of troubled debt restructurings guidance. Our adoption of these standards is not expected to have a material impact on our financial position or results of operations.20-year maturity available through October 15, 2013.
Results of Operations
ThreeThe following table presents the results of operations for the three months ended August 31, 2011 and Nine Months ended February 28, 2011 versus February 28, 2010 Results of Operations2010.
| | For the three months ended February 28, | | For the nine months ended February 28, | | | For the three months ended August 31, |
(dollar amounts in thousands) | | 2011 | | 2010 | | | Change | | 2011 | | 2010 | | Change | | | 2011 | | 2010 | | | Change |
Interest income | $ | 254,302} | $ | 256,519 | | $ | (2,217) | $ | 755,873} | | $ | 790,895 | | $ | (35,022) | | $ | 247,250} | | $ | 251,053 | | $ | (3,803) |
Interest expense | | (206,333) | | (221,898 | ) | | 15,565} | | (638,246) | | (691,504 | ) | | 53,258} | | | (202,044) | | (219,512 | ) | | 17,468} |
Net interest income | | 47,969} | | 34,621 | | | 13,348} | | 117,627} | | 99,391 | | 18,236} | | | 45,206} | | 31,541 | | 13,665} |
Recovery of (provision for) loan losses | | 3,374} | | (10,000 | ) | | 13,374} | | 42,915} | | 4,594 | | 38,321} | |
Net interest income after recovery of (provision for) loan losses | 51,343} | | 24,621 | | | 26,722} | | 160,542} | | 103,985 | | 56,557} | |
Recovery of loan losses | | | | 9,130} | | 12,288 | | (3,158) |
Net interest income after recovery of loan losses | | Net interest income after recovery of loan losses | | 54,336} | | 43,829 | | | 10,507} |
| | | | | | | | | | | | | | | | | | | | |
Non-interest income: | | | | | | | | | | | | | | | | | | | | |
Fee and other income | | 3,960} | | 5,638 | | | (1,678) | | 19,096} | | 13,478 | | 5,618} | | | 4,723} | | 10,292 | | (5,569) |
Settlement income | | -} | | 22,906 | | | (22,906) | | - | | 22,906 | | (22,906) | |
Derivative gains | | 53,348} | | 22,571 | | | 30,777} | | 22,405} | | 5,099 | | 17,306} | |
Derivative losses | | | | (111,571) | | (78,254 | ) | | (33,317) |
Results of operations from foreclosed assets | Results of operations from foreclosed assets | (4,854) | | 338 | | | (5,192) | | (6,323) | | 946 | | (7,269) | Results of operations from foreclosed assets | | (7,881) | | 184 | | | (8,065) |
Total non-interest income | | 52,454} | | 51,453 | | | 1,001} | | 35,178} | | 42,429 | | (7,251) | | | (114,729) | | (67,778 | ) | | (46,951) |
| | | | | | | | | | | | | | | | | | | | |
Non-interest expense: | | | | | | | | | | | | | | | | | | | | |
Salaries and employee benefits | | (9,700) | | (9,286 | ) | | (414) | | (32,420) | | (28,970 | ) | | (3,450) | | | (10,399) | | (13,026 | ) | | 2,627} |
Other general and administrative expenses | | (6,370) | | (8,840 | ) | | 2,470} | | (22,224) | | (22,598 | ) | | 374} | | | (5,990) | | (8,287 | ) | | 2,297} |
(Provision for) recovery of guarantee liability | (24) | | (451 | ) | | 427} | | 358} | | | 2,765 | | (2,407) | |
Recovery of guarantee liability | | Recovery of guarantee liability | | 60} | | 548 | | | (488) |
Fair value adjustment on foreclosed assets | | (818) | | (988 | ) | | 170} | | (2,673) | | (2,738 | ) | | 65} | | | (1,937) | | (315 | ) | | (1,622) |
Loss on early extinguishment of debt | | -} | | - | | | -} | | (3,928) | | -} | | (3,928) | | | (9,267) | | - | | (9,267) |
Other | | (644) | | (111 | ) | | (533) | | (871) | | (432 | ) | | (439) | | | (397) | | (96 | ) | | (301) |
Total non-interest expense | | (17,556) | | (19,676 | ) | | 2,120} | | (61,758) | | (51,973 | ) | | (9,785) | | | (27,930) | | (21,176 | ) | | (6,754) |
| | | | | | | | | | | | | | | | | | | | |
Income prior to income taxes | | 86,241} | | 56,398 | | | 29,843} | | 133,962} | | 94,441 | | 39,521} | |
Loss prior to income taxes | | | | (88,323) | | (45,125 | ) | | (43,198) |
| | | | | | | | | | | | | | | | | | | | |
Income tax expense | | (2,589) | | (1,465 | ) | | (1,124) | | (1,983) | | (656 | ) | | (1,327) | |
Net income | | 83,652} | | 54,933 | | | 28,719} | | 131,979} | | 93,785 | | 38,194} | |
Less: Net income attributable to noncontrolling interest | | (4,315) | | (2,130 | ) | | (2,185) | | (2,391) | | (753 | ) | | (1,638) | |
Net income attributable to CFC | $ | 79,337} | $ | 52,803 | | $ | 26,534} | $ | 129,588} | | $ | 93,032 | | $ | 36,556} | |
Income tax benefit | | | | 1,701} | | 2,780 | | (1,079) |
Net loss | | | | (86,622) | | (42,345 | ) | | (44,277) |
Less: Net loss attributable to noncontrolling interest | | Less: Net loss attributable to noncontrolling interest | | 2,590} | | 5,149 | | | (2,559) |
Net loss attributable to CFC | | | $ | (84,032) | | $ | (37,196 | ) | $ | (46,836) |
| | | | | | | | | | | | | | | | | | | | |
TIER | | 1.41} | | 1.25 | | | | | 1.21} | | 1.14 | | | |
Adjusted TIER (1) | | 1.14} | | 1.12 | | | | | 1.16} | | 1.10 | | | |
TIER (1) | | | | -} | | - | | |
Adjusted TIER (2) | | | | 1.12} | | 1.14 | | |
(1) For the three months ended August 31, 2011 and 2010, earnings were insufficient to cover fixed charges by $87 and $42 million, respectively, and, therefore, the TIER calculations for those periods result in a value below 1.00.
(1)(2) Adjusted to exclude the effect of the derivative forward value from net income and to include all derivative cash settlements in the interest expense. The derivative forward value and derivative cash settlements are combined in the derivative losses line item in the chart above. See Non-GAAP Financial Measures for further explanation and a reconciliation of these adjustments.
Interest Income
The following tables break out the average yield on loans and the change to interest income due to changes in average loan volume versus changes to interest rates summarized by loan type.
| | Average balances and interest rates – Assets | |
| | Average balances and interest rates – Assets | |
| | | |
| | For the three months ended August 31, | |
| | 2011 | | 2010 | | 2011 | | 2010 | | 2011 | | 2010 | |
(dollar amounts in thousands) | | Average volume | | Interest income | | Average yield | |
Long-term fixed-rate loans | $ | 16,571,439 | $ | 15,633,931 | $ | 225,346 | $ | 222,969 | | 5.40 | % | 5.66 | % |
Long-term variable-rate loans | 678,264 | | 956,745 | | 8,252 | | 11,953 | | 4.83 | | 4.96 | |
Line of credit loans | | 1,193,085 | | 1,537,923 | | 9,626 | | 11,977 | | 3.20 | | 3.09 | |
Restructured loans | 469,494 | | 498,550 | | 692 | | 703 | | 0.58 | | 0.56 | |
Non-performing loans | 33,877 | | 561,222 | | - | | - | | - | | - | |
Total | | 18,946,159 | | 19,188,371 | | 243,916 | | 247,602 | | 5.11 | | 5.12 | |
Investments | | 668,569 | | 267,549 | | 928 | | 1,030 | | 0.55 | | 1.53 | |
Fee income (1) | | - | | - | | 2,406 | | 2,421 | | - | | - | |
Total | $ | 19,614,728 | $ | 19,455,920 | $ | 247,250 | $ | 251,053 | | 5.00 | | 5.12 | |
| | For the three months ended February 28, | |
| | 2011 | | 2010 | | 2011 | | 2010 | | | 2011 | | 2010 | |
(dollar amounts in thousands) | | Average volume | | Interest income | | | Average yield | |
Long-term fixed-rate loans (1) | $ | 16,649,073} | $ | 15,558,058 | $ | 227,118} | $ | 224,201 | | | 5.53 | % | 5.84 | % |
Long-term variable-rate loans (1) | 1,441,966} | | 1,884,054 | | 12,886} | | 15,964 | | | 3.62 | | 3.44 | |
Short-term loans (1) | 1,398,706} | | 1,570,264 | | 11,154} | | 13,612 | | | 3.23 | | 3.52 | |
Non-performing loans | 101,426} | | 523,850 | | -} | | - | | | -} | | -} | |
Total loans | | 19,591,171} | | 19,536,226 | | 251,158} | | 253,777 | | | 5.20 | | 5.27 | |
Investments (2) | | 316,417} | | 606,755 | | 967} | | 1,328 | | | 1.24 | | 0.89 | |
Fee income | | -} | | - | | 2,177} | | 1,414 | | | -} | | -} | |
Total | $ | 19,907,588} | $ | 20,142,981 | $ | 254,302} | $ | 256,519 | | | 5.18 | | 5.16 | |
(1) Primarily related to conversion fees that are deferred and recognized using the effective interest method over the remaining original loan interest rate pricing term, except for a small portion of the total fee charged to cover administrative costs related to the conversion, which is recognized immediately.
| | Average balances and interest rates – Assets | |
| | | | | | | | |
| | For the nine months ended February 28, | |
| | 2011 | | 2010 | | 2011 | | 2010 | | | 2011 | | 2010 | |
(dollar amounts in thousands) | | Average volume | | Interest income | | | Average yield | |
Long-term fixed-rate loans (1) | $ | 16,163,100} | $ | 15,402,498 | $ | 676,484} | $ | 673,277} | | | 5.60 | % | 5.84 | % |
Long-term variable-rate loans (1) | 1,414,913} | | 2,268,828 | | 36,887} | | 64,215} | | | 3.49 | | 3.78 | |
Short-term loans (1) | 1,441,282} | | 1,728,376 | | 33,477} | | 44,288} | | | 3.11 | | 3.43 | |
Non-performing loans | 315,184} | | 523,801 | | -} | | -} | | | -} | | -} | |
Total loans | | 19,334,479} | | 19,923,503 | | 746,848} | | 781,780} | | | 5.16 | | 5.25 | |
Investments (2) | | 367,460} | | 627,452 | | 3,001} | | 4,314} | | | 1.09 | | 0.92 | |
Fee income | | -} | | - | | 6,024} | | 4,801} | | | -} | | -} | |
Total | $ | 19,701,939} | $ | 20,550,955 | $ | 755,873} | $ | 790,895} | | | 5.13 | | 5.15 | |
(1) Interest income on loans to members.
(2) Interest income on the investment of excess cash and equity securities.
| | | Analysis of changes in interest income | | | Analysis of changes in interest income | | | | | | |
| | | | | | | | | | | | | | | | | | |
| | | For the three months ended February 28, 2011 vs. 2010 | | For the nine months ended February 28, 2011 vs. 2010 | | | For the three months ended August 31, 2011 vs. August 31, 2010 | | | |
| | | Change due to (3) | | | | Change due to (3) | | | | | Change due to (3) | | | | | | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | Average volume (1) | | Average rate (2) | | Net change | | Average volume (1) | | Average rate (2) | | Net change | (dollar amounts in thousands) | | Average volume (1) | | Average rate (2) | | Net change | | | | | | | |
Increase (decrease): | | | | | | | | | | | | | |
Increase (decrease) in interest income: | | Increase (decrease) in interest income: | | | | | | | | | | | | | |
Long-term fixed-rate loans | Long-term fixed-rate loans | $ | 15,722} | $ | (12,805) | $ | 2,917} | $ | 33,248} | $ | (30,041) | $ | 3,207} | Long-term fixed-rate loans | $ | 13,371} | $ | (10,994) | $ | 2,377} | | | | | | |
Long-term variable-rate loans | Long-term variable-rate loans | | (3,746) | | 668} | | (3,078) | | (24,168) | | (3,160) | | (27,328) | Long-term variable-rate loans | | (3,479) | | (222) | | (3,701) | | | | | | |
Short-term loans | | (1,487) | | (971) | | (2,458) | | (7,357) | | (3,454) | | (10,811) | |
Line of credit loans | | Line of credit loans | | (2,686) | | 335} | | (2,351) | | | | | | |
Restructured loans | | Restructured loans | | (41) | | 30} | | (11) | | | | | | |
Non-performing loans | | Non-performing loans | | -} | | -} | | -} | | | | | | |
Total interest income on loans | Total interest income on loans | | 10,489} | | (13,108) | | (2,619) | | 1,723} | | (36,655) | | (34,932) | Total interest income on loans | | 7,165} | | (10,851) | | (3,686) | | | | | | |
Investments | Investments | | (635) | | 274} | | (361) | | (1,788) | | 475} | | (1,313) | Investments | | 1,544} | | (1,646) | | (102) | | | | | | |
Fee income | Fee income | | -} | | 763} | | 763} | | -} | | 1,223} | | 1,223} | | | -} | | (15) | | (15) | | | | | | |
Total interest income | | $ | 9,854} | $ | (12,071) | $ | (2,217) | $ | (65) | $ | (34,957) | $ | (35,022) | | $ | 8,709} | $ | (12,512) | $ | (3,803) | | | | | | |
(1) Calculated using the following formula: (current period average balance – prior-year period average balance) x prior-year period average rate.
(2) Calculated using the following formula: (current period average rate – prior-year period average rate) x current period average balance.
(3) The net change attributable to the combined impact of volume and rate has been allocated to each in proportion to the absolute dollar amounts of change.
During the three months ended February 28,August 31, 2011, interest income remained relatively flatdecreased by $4 million, or 2 percent, compared with the prior-year period. Since August 31, 2010, we have had a significant amount of long-term fixed-rate loan advances, primarily to refinance debt of other lenders. These advances have driven an increase to the average balance of long-term fixed-rate loans for the quarter ended August 31, 2011 as compared to the prior-year period. On average, these new fixed-rate loans were advanced at a rate that was lower than the weighted-average rate on the long-term fixed-rate loan portfolio at August 31, 2010. Thus, we have seen a reduction of 26 basis points in the weighted-average rate on our long-term fixed-rate loan portfolio at August 31, 2011 compared with the prior-year period. During that same time frame, we have seen large reductions to the current-year period, we experienced a decrease in interest incomeaverage balance of the long-term variable rate and line of credit loan portfolios due to an overallloan sales and repayments of bridge loans. In total, there was only a slight decrease to the total average loan balance outstanding at August 31, 2011 compared to the prior-year period. When you exclude the decline to the interest rates offered on new long-term fixed-rate loan advances. This decrease in interest income was mostly offset by an increase in interest income due to both a higher percentage of long-term fixed-rate loans in the loan portfolio and an increase in average loan volume for interest-bearing loans. In October 2010, the balance of non-performing loans outstanding decreased by $472 million due toresulting from the completion of the transfer of control of ICC’s USVIoperating entities of a non-performing borrower, there was a slight increase to CAH. Excludingthe average balance of loans that are performing. As a result, the main driver of the reduction related to non-accrual loans to ICC, average loan volumeinterest income for the three monthsquarter ended February 28,August 31, 2011 increased 3 percent compared with the prior-year period. The primary reason for the increase in average loan volumeperiod was the $1,105 millionlarge amount of loans advanced during fiscal year 2011 to CFC and NCSC borrowers to refinance their debt borrowed from other lenders. The increase in averagefixed-rate loan volume was partially offset by decreases related toadvances at rates that were lower than the sale of loans toweighted-average rate on the Federal Agricultural Mortgage Corporation and the prepayment of telecommunications loans.long-term fixed-rate loan portfolio at August 31, 2010.
The average long-term fixed interest rates we offered on electric loans for the three months ended February 28, 2011 decreased 42 basis points compared to the prior-year period. As a cost-based lender, we extend new loans with fixed rates based on our cost of debt at the time of the advance. In fiscal year 2011,As benchmark treasury rates and corporate spreads have tightened thus allowing us to lowerover the past 12 months, we lowered the long-term fixed rates we offeroffered on our new loans. This rate-drivenThe average long-term fixed interest rates we offered on electric loans for the three months ended August 31, 2011 decreased 38 basis points compared with the prior-year period. The decrease in interest income due to lower interest rates was partly offset by a rate-driventhe increase due to a higher average volume of long-term fixed rate loans in the loan portfolio. The average volume of long-term fixed-rate loans increased to 8587 percent of the total loan portfolio for the three months ended February 28,August 31, 2011 from 8081 percent for the same prior-year period. During the three months ended February 28,August 31, 2011, long-term fixed-rate loans had an average yield of 5.535.40 percent compared with an average yield of 3.624.83 percent and 3.233.20 percent for long-term variable and short-term loans, respectively.
During the nine months ended February 28, 2011, interest income decreased 4 percent compared to the prior-year period due to the 3 percent decrease in average loan volume and the 9 basis point decrease in the average yield on loans. The average loan balance for the nine months ended February 28, 2011 decreased 2 percent compared to the prior-year period excluding
the reduction related to non-accrual loans to ICC. In addition to the reduction in ICC loans during the period, the average loan balance for the nine months ended February 28, 2011 decreased compared to the prior-year period largely due to the sale of loans to the Federal Agricultural Mortgage Corporation, the prepayment of telecommunications loans and expected repayments on power supply bridge loans. These decreases were partially offset by the increase in average loan volume due to loan advances to CFC and NCSC borrowers to refinance their debt borrowed from other lenders during the nine months ended February 28, 2011. See Financial Condition - Loan and Guarantee Portfolio Assessment for further explanation of the changes in loans outstanding.
The decrease in average yield during the nine months ended February 28, 2011 was due to an overall decline in the interest rates offered on new long-term fixed-rate loan advances as the average long-term fixed interest rates we offered on electric loans decreased 73 basis points compared to the prior-year period. This rate-driven decrease in interest income was partially offset by a rate-driven increase in interest income due to a higher average volume of long-term fixed-rate loans in the loan portfolio. The average volume of long-term fixed-rate loans increased to 84 percent of the loan portfolio for the nine months ended February 28, 2011 from 77 percent for the same prior-year period. During the nine months ended February 28, 2011, long-term fixed-rate loans had an average yield of 5.60 percent compared with an average yield of 3.49 percent and 3.11 percent for long-term variable and short-term loans, respectively.
At February 28, 2011, approximately 49 percent of the outstanding balance of our interest-bearing line of credit loans, were priced at rates lower than our standard line of credit interest rates because of loan syndications and competition for the line of credit loan business. Of the line of credit loans priced lower than our standard rates at February 28, 2011, 39 percent were made as part of loan syndications where the pricing was agreed upon by all of the participating banks and was based on current market conditions.respectively.
Our non-performing and restructured loans on non-accrual status affect interest income for both the current and prior-year periods. The effect of non-accrual loans on interest income is included in the rate variance in the table above. Interest income was reduced as follows as a result of holding loans on non-accrual status:
| | For the three months ended February 28, | | | For the nine months ended February 28, | | | For the three months ended August 31, | | | | |
(dollar amounts in thousands) | | 2011 | | 2010 | | | 2011 | | 2010 | | | 2011 | | 2010 | | | | |
Electric | $ | 5,827} | $ | 5,862 | | $ | 17,928} | $ | 17,853 | | $ | 5,707 | $ | 6,186 | | | | |
Telecommunications | | -} | | 7,117 | | | 7,404} | | 21,790 | | | 40 | | 7,404 | | | | |
Total | $ | 5,827} | $ | 12,979 | | $ | 25,332} | $ | 39,643 | | $ | 5,747 | $ | 13,590 | | | | |
The decrease in interest foregone for telecommunications loans on non-accrual status was due to the court settlementreduction of non-accrual loans to ICC.Innovative Communication Corporation (“ICC”) as a result of the transfer of control of ICC’s operating entities to Caribbean Asset Holdings (“CAH”), a subsidiary of CFC, in October 2010 and March 2011. Loans remaining on non-accrual status relate primarily to restructured loans to Denton County Electric Cooperative, d/b/a CoServ Electric (“CoServ”) .large electric distribution cooperative that provides retail electric service to residential and business customers. While the loans to this borrower were on non-accrual status, the borrower was current with respect to all payments required under the restructured loan agreement. The decrease to interest income from holding CoServ’sthis borrower’s loans on non-accrual status is largely offset by the reduction to the calculated impairment due to CoServ’sapplying all payments received against the principal payments, which results in abalance. The reduction to the requiredcalculated impairment results in the recognition of income from the recovery from the loan loss provision or increases the recovery for the period.allowance. As a result, there is a limited effect on the overall financial statements from these non-accrual loans. During the ninethree months ended February 28,August 31, 2011, CoServthis borrower made scheduled payments of $21$7 million all of which were applied as a reduction to the loan principal balance andthat resulted in a reduction of $16$5 million to the calculated impairment. The CoServcalculated impairment is based on the net present value of the expected future cash flow associated with the loan. As required by GAAP, credit risk related to the collection of future cash flows is taken into consideration in estimating the future cash flows associated with the CoServ loan.loans to this borrower.
Interest Expense
The following tables break out the average cost of debt and the change to interest expense due to changes in average debt volume versus changes to interest rates summarized by debt type. We do not fund each individual loan borrowed by our members with specific debt. Rather, we attempt to minimize costcosts and maximize efficiency by funding large aggregated amounts of loans.
The following tables also break out the change to derivative cash settlements due to changes in the average notional amount of our derivative portfolio versus changes to the net difference between the average rate paid and the average rate received. Management calculates anAdditionally, the tables present adjusted interest expense, which includes all derivative cash settlements in interest expense. See Non-GAAP Financial MeasuresMeasures for further explanation of the adjustment we make in our financial analysis to include all derivative cash settlements in interest expense.
| | Average balances and interest rates – Liabilities | |
| | For the three months ended February 28, | |
| | 2011 | | 2010 | | 2011 | | | 2010 | | | 2011 | | 2010 | |
(dollar amounts in thousands) | | Average volume | | Interest expense | | | Average cost | |
Commercial paper and bank bid | | | | | | | | | | | | | | |
notes (1) (2) | $ | 2,917,994} | $ | 1,890,326 | $ | (2,574) | | $ | (1,114) | | | (0.36) | % | (0.24) | % |
Medium-term notes (1) | 3,677,125} | | 4,321,808 | | (57,290) | | | (64,683) | | | (6.32) | | (6.07) | |
Collateral trust bonds (1) | | 5,261,149} | | 5,600,755 | | (75,223) | | | (80,618) | | | (5.80) | | (5.84) | |
Subordinated deferrable debt (1) | 195,061} | | 301,922 | | (2,806) | | | (4,916) | | | (5.83) | | (6.60) | |
Subordinated certificates (1) | | 1,812,654} | | 1,774,984 | | (20,547) | | | (20,064) | | | (4.60) | | (4.58) | |
Long-term notes payable (1) | | 4,775,007} | | 4,711,074 | | (42,411) | | | (45,588) | | | (3.60) | | (3.92) | |
Total debt | | 18,638,990} | | 18,600,869 | | (200,851) | | | (216,983) | | | (4.37) | | (4.73) | |
Debt issuance costs (3) | | -} | | - | | (2,604) | | | (2,676) | | | -} | | -} | |
Fee expense (4) | | -} | | - | | (2,878) | | | (2,239) | | | -} | | -} | |
Total | $ | 18,638,990} | $ | 18,600,869 | $ | (206,333) | | $ | (221,898) | | | (4.49) | | (4.84) | |
| | | | | | | | | | | | | | | |
Derivative cash settlements (5) | $ | 11,149,986} | $ | 11,128,340 | $ | (850) | | $ | (5,636) | | | (0.03) | % | (0.21) | % |
Adjusted interest expense (6) | | 18,638,990} | | 18,600,869 | | (207,183) | | | (227,534) | | | (4.51) | | (4.96) | |
| | Average balances and interest rates – Liabilities | |
| | | Average balances and interest rates – Liabilities | |
| | | | |
| | For the nine months ended February 28, | | | For the three months ended August 31, | |
| | 2011 | | 2010 | | 2011 | | 2010 | | 2011 | | 2010 | | | 2011 | | 2010 | | 2011 | | 2010 | | 2011 | | 2010 | |
(dollar amounts in thousands) | | Average volume | | Interest expense | | Average cost | | | Average volume | | Interest expense | | Average cost | |
Commercial paper and bank bid | | | | | | | | | | | | | |
notes (1) (2) | $ | 2,713,693} | $ | 2,199,082 | $ | (6,583) | | $ | (6,300) | | (0.32) | % | (0.38) | % | |
Commercial paper and bank bid notes (1) (2) | | $ | 2,732,712 | $ | 2,074,096 | $ | (1,769) | $ | (1,723) | | (0.26) | % | (0.33 | )% |
Medium-term notes (1) | Medium-term notes (1) | 3,947,526} | | 4,767,964 | | (181,490) | | (215,180) | | | (6.15) | | (6.03) | | | 3,604,528 | | 4,182,446 | | (53,841) | | (63,104) | | (5.93) | | (5.99 | ) |
Collateral trust bonds (1) | | 5,154,968} | | 5,461,966 | | (229,019) | | (240,796) | | (5.94) | | (5.89) | | | 5,538,238 | | 5,228,937 | | (77,272) | | (78,549) | | (5.54) | | (5.96 | ) |
Subordinated deferrable debt (1) | Subordinated deferrable debt (1) | 226,368} | | 301,904 | | (10,552) | | (14,747) | | | (6.23) | | (6.53) | | | 180,943 | | 301,962 | | (2,806) | | (4,916) | | (6.15) | | (6.46 | ) |
Subordinated certificates (1) | | 1,778,006} | | 1,743,758 | | (61,071) | | (58,871) | | (4.59) | | (4.51) | | | 1,779,540 | | 1,757,587 | | (18,301) | | (20,306) | | (4.08) | | (4.58 | ) |
Long-term notes payable (1) | | 4,692,153} | | 4,666,798 | | (134,035) | | (139,142) | | (3.82) | | (3.99) | | | 4,560,300 | | 4,534,469 | | (39,827) | | (45,992) | | (3.46) | | (4.02 | ) |
Total debt | | 18,512,714} | | 19,141,472 | | (622,750) | | (675,036) | | (4.50) | | (4.72) | | |
Total | | | 18,396,261 | | 18,079,497 | | (193,816) | | (214,590) | | (4.18) | | (4.71 | ) |
Debt issuance costs (3) | | -} | | - | | (7,722) | | (8,281) | | -} | | - | | | - | | - | | (5,125) | | (2,577) | | -} | | - | |
Fee expense (4) | | -} | | - | | (7,774) | | (8,187) | | -} | | - | | | - | | - | | (3,103) | | (2,345) | | -} | | - | |
Total | $ | 18,512,714} | $ | 19,141,472 | $ | (638,246) | | $ | (691,504) | | (4.61) | | (4.83) | | $ | 18,396,261 | $ | 18,079,497 | $ | (202,044) | $ | (219,512) | | (4.36) | | (4.82 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Derivative cash settlements (5) | $ | 11,218,341} | $ | 11,488,463 | $ | (5,685) | | $ | (19,836) | | (0.07) | % | (0.23) | % | $ | 10,980,971 | $ | 11,155,158 | $ | 168 | $ | (4,462) | | 0.01 | % | (0.16 | )% |
Adjusted interest expense (6) | | 18,512,714} | | 19,141,472 | | (643,931) | | (711,340) | | (4.65) | | (4.97) | | | 18,396,261 | | 18,079,497 | | (201,876) | | (223,974) | | (4.35) | | (4.91 | ) |
(1) Interest expense includes the amortization of discounts on debt.
(2) Average volume includes the daily liquidity fund.
(3) Interest expense includes amortization of all deferred charges related to debt issuances, principally underwriter’s fees, legal fees, printing costs and comfort letter fees. Amortization is calculated usingon the effective interest method. Also includes issuance costs related to dealer commercial paper, which are recognized as incurred.
(4) Interest expense includes various fees related to funding activities, including fees paid to banks participating in our revolving credit agreements. Fees are recognized as incurred or amortized on a straight-line basis over the life of the respective agreement.
(5) For derivative cash settlements, average volume represents the average notional amount of derivative contracts outstanding, and the average cost represents the net difference between the average rate paid and the average rate received for cash settlements during the period.
(6) See Non-GAAP Financial Measures for further explanation of the adjustment we make in our financial analysis to include the derivative cash settlements in interest expense.
| | | | |
| | | Analysis of changes in interest expense | | | Analysis of changes in interest expense | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | For the three months ended February 28, 2011 vs. 2010 | | For the nine months ended February 28, 2011 vs. 2010 | | | For the three months ended August 31, 2011 vs. August 31, 2010 | | |
| | | Change due to (3) | | | | Change due to (3) | | | | | Change due to (3) | | | | | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | Average volume (1) | | Average rate (2) | | Net change | | Average volume (1) | | Average rate (2) | | Net change | (dollar amounts in thousands) | | Average volume (1) | | Average rate (2) | | Net change | | | | | | |
(Increase) decrease: | | | | | | | | | | | | | |
(Increase) decrease in interest expense: | | (Increase) decrease in interest expense: | | | | | | | | | | | | |
Commercial paper and bank bid notes | Commercial paper and bank bid notes | $ | (606) | $ | (854) | $ | (1,460) | $ | (1,474) | $ | 1,191} | $ | (283) | Commercial paper and bank bid notes | $ | (547) | $ | 501} | $ | (46) | | | | | | |
Medium-term notes | Medium-term notes | | 9,649} | | (2,256) | | 7,393} | | 37,027} | | (3,337) | | 33,690} | Medium-term notes | | 8,720} | | 543} | | 9,263} | | | | | | |
Collateral trust bonds | Collateral trust bonds | | 4,888} | | 507} | | 5,395} | | 13,534} | | (1,757) | | 11,777} | Collateral trust bonds | | (4,646) | | 5,923} | | 1,277} | | | | | | |
Subordinated deferrable debt | Subordinated deferrable debt | | 1,740} | | 370} | | 2,110} | | 3,690} | | 505} | | 4,195} | Subordinated deferrable debt | | 1,970} | | 140} | | 2,110} | | | | | | |
Subordinated certificates | Subordinated certificates | | (426) | | (57) | | (483) | | (1,156) | | (1,044) | | (2,200) | Subordinated certificates | | (254) | | 2,259} | | 2,005} | | | | | | |
Long-term private debt | | (619) | | 3,796} | | 3,177} | | (756) | | 5,863} | | 5,107} | |
Long-term notes payable | | Long-term notes payable | | (262) | | 6,427} | | 6,165} | | | | | | |
Total interest expense on debt | Total interest expense on debt | | 14,626} | | 1,506} | | 16,132} | | 50,865} | | 1,421} | | 52,286} | Total interest expense on debt | | 4,981} | | 15,793} | | 20,774} | | | | | | |
Debt issuance costs | Debt issuance costs | | -} | | 72} | | 72} | | -} | | 559} | | 559} | Debt issuance costs | | -} | | (2,548) | | (2,548) | | | | | | |
Fee expense | Fee expense | | -} | | (639) | | (639) | | -} | | 413} | | 413} | Fee expense | | -} | | (758) | | (758) | | | | | | |
Total interest expense | Total interest expense | $ | 14,626} | $ | 939} | $ | 15,565} | $ | 50,865} | $ | 2,393} | $ | 53,258} | Total interest expense | $ | 4,981} | $ | 12,487} | $ | 17,468} | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Derivative cash settlements (4) | Derivative cash settlements (4) | $ | (11) | $ | 4,797} | $ | 4,786} | $ | 466} | $ | 13,685} | $ | 14,151} | Derivative cash settlements (4) | $ | 70} | $ | 4,560} | $ | 4,630} | | | | | | |
Adjusted interest expense (5) | | (466) | | 20,817} | | 20,351} | | 23,366} | | 44,043} | | 67,409} | | | 5,051} | | 17,047} | | 22,098} | | | | | | |
(1) Calculated using the following formula: (current period average balance – prior-year period average balance) x prior-year period average rate.
(2) Calculated using the following formula: (current period average rate – prior-year period average rate) x current period average balance.
(3) The net change attributable to the combined impact of volume and rate has been allocated to each in proportion to the absolute dollar amounts of change.
(4) For derivative cash settlements, variance due to average volume represents the change in derivative cash settlements that resulted from the change in the average notional amount of derivative contracts outstanding. Variance due to average rate represents the change in derivative cash settlements that resulted from the net difference between the average rate paid and the average rate received for interest rate swaps during the period.
(5) See Non-GAAP Financial Measures for further explanation of the adjustment we make in our financial analysis to include the derivative cash settlements in interest expense.
During the three months ended February 28,August 31, 2011, interest expense decreased 78 percent compared with the same prior-year period primarily due to the 3546 basis point reduction in the total cost of debt. The lowerOur cost of debt was primarilydecreased due to our refinancing of maturing term debt and the resultscheduled reset of refinancing maturinginterest rates on term debt with commercial paper and refinancing debt at lower interest rates. Duringduring the final three quarters of fiscal year 2011, we increased the utilizationboth of short-termwhich resulted in lower interest rates on our debt mostly commercial paper, in our funding mix. At an average cost of 0.36 percent foroutstanding during the three months ended February 28, 2011, commercial paper is our lowest-cost source of debt funding and represented 16 percent of the total average debt outstanding compared with 10 percent for the prior-year period. A lower cost of debt also resulted from our issuance ofAugust 31, 2011.We issued collateral trust bonds in November 2010 at an average interest rate of 1.54 percent in order to refinance maturing collateral trust bonds with a fixed rate of 4.375 percent and redeem subordinated deferrable debt with a fixed rate of 6.75 percent.
We also lowered our average cost for long-term notes payable by 3256 basis points during the three months ended February 28,August 31, 2011 compared with the prior-year period. We issued notes totaling $400 million toperiod largely from the Federal Agricultural Mortgage Corporation in September 2010 and October 2010, atscheduled reset of interest rates ranging from 0.62 percent to 0.67 percent. These notes matured during the third quarter of fiscal year 2011. In addition, in January 2011 we repricedfor $750 million of long-term notes payable to the Federal Financing Bank in January 2011 at an average effective rate of 1.73 percent compared towith the previous effective rate of 5.20 percent prior to repricing.
percent. During the nine months ended February 28, 2011, interest expense decreased 8 percent compared to the same prior-year period primarily due to the 22 basis point reduction to the total costfirst quarter of debt and the 3 percent decrease in the average balance of debt outstanding. The lower cost of debt was the result of increasing commercial paper in our overall funding mix, as well as refinancing maturing and repricing debt at lower interest rates as noted above. The average cost forfiscal year 2012, commercial paper was 0.32 percent for the nine months ended February 28, 2011 and represented 15 percent of the total average debt outstanding, compared withan increase from 11 percent for the prior-year period. Theperiod, which was offset by the decrease in utilization of medium-term notes to 20 percent of the total average debt outstanding was due tofrom 23 percent for the 3same prior-year period. At an average cost of 0.26 percent decrease inand 0.33 percent for the average loan balance during the ninethree months ended February 28,August 31, 2011 and a higher average debt balance in the prior-year period due to prefunding large debt maturities. We prefunded large debt maturities during the nine months ended February 28, 2010, as part of an initiative to maintain commercial paper issuance capacityis our lowest-cost source of debt funding and significantly lower in reserve in order to minimize liquidity risk due to market conditions at that time.average cost compared with medium-term notes of 5.93 percent and 5.99 percent for the same periods, respectively.
The adjusted interest expense, which includes all derivative cash settlements, was $207 million and $644$202 million for the three and nine months ended February 28,August 31, 2011, respectively, compared to $228 million and $711with $224 million for the three and nine months ended February 28,August 31, 2010. The adjusted interest expense was lower during the three and nine months ended
February 28, August 31, 2011 due to the lower interest expense noted above and thecombined with a decrease in the derivative cash settlements expense discussed further below. See Non-GAAP Financial Measures for further explanation of the adjustment we make in our financial analysis to include all derivative cash settlements in interest expense.
Net Interest Income
The following tables represent a summary of the effect on net interest income and adjusted net interest income from changes in the components of total interest income and total interest expense described above. The following tables also summarize the net yield and adjusted net yield and the changes to net interest income and adjusted net interest income due to changes in average volume versus changes to interest rates.
| | Average interest rates – Assets and Liabilities | | |
| | | | |
| | For the three months ended February 28, | | |
| | 2011 | | 2010 | | 2011 | | 2010 | | |
(dollar amounts in thousands) | | Interest income (expense) | | Average yield (cost) | | |
Total interest income | $ | 254,302} | $ | 256,519 | | 5.18} | % | 5.16 | % | |
Total interest expense | | (206,333) | | (221,898 | ) | (4.49) | | (4.84 | ) | |
Net interest income/Net yield (cost) | $ | 47,969} | $ | 34,621 | | 0.69} | % | 0.32 | % | |
Derivative cash settlements | | (850) | | (5,636 | ) | (0.03) | | (0.21 | ) | |
Adjusted net interest income/Adjusted net yield (1) | $ | 47,119} | $ | 28,985 | | 0.67} | | 0.20 | | |
| | Average interest rates – Assets and Liabilities | | | | Average interest rates – Assets and Liabilities | | | |
| | | | | | | | | |
| | For the nine months ended February 28, | | | | For the three months ended August 31, | | | |
| | 2011 | | 2010 | | 2011 | | 2010 | | | | 2011 | | 2010 | | 2011 | | 2010 | | | |
(dollar amounts in thousands) | | Interest income (expense) | | Average yield (cost) | | | | Interest income (expense) | | Average yield (cost) | | | |
Total interest income | $ | 755,873} | $ | 790,895 | | 5.13} | % | 5.15 | % | | | $ | 247,250 | $ | 251,053 | | 5.00 | % | 5.12 | % | | |
Total interest expense | | (638,246) | | (691,504 | ) | (4.61) | | (4.83 | ) | | | | (202,044) | | (219,512 | ) | (4.36 | ) | (4.82 | ) | | |
Net interest income/Net yield (cost) | $ | 117,627} | $ | 99,391 | | 0.52} | % | 0.32 | % | | |
Net interest income/Net yield | | | $ | 45,206 | $ | 31,541 | | 0.64 | % | 0.30 | % | | |
Derivative cash settlements | | (5,685) | | (19,836 | ) | (0.07) | | (0.23 | ) | | | | 168 | | (4,462 | ) | 0.01 | | (0.16 | ) | | |
Adjusted net interest income/Adjusted net yield (1) | Adjusted net interest income/Adjusted net yield (1) | $ | 111,942} | $ | 79,555 | | 0.48} | | 0.18 | | Adjusted net interest income/Adjusted net yield (1) | | 45,374 | | 27,079 | | 0.65 | | 0.21 | | | |
(1) See Non-GAAP Financial Measures for further explanation of the adjustment we make in our financial analysis to include the derivative cash settlements in interest expense, which affects adjusted net interest income.
| | |
| | Analysis of changes in net interest income |
| | | | | | | | |
| | For the three months ended | | For the nine months ended |
| | February 28, 2011 vs. 2010 | | February 28, 2011 vs. 2010 |
| | Change due to (3) | | | | Change due to (3) | | |
(dollar amounts in thousands) | | Average volume (1) | | Average rate (2) | | Net change | | Average volume (1) | | Average rate (2) | | Net change |
Increase (decrease) in net interest income | | $ | 24,480} | $ | (11,132) | $ | 13,348} | $ | 50,800} | $ | (32,564) | $ | 18,236} |
Increase (decrease) in adjusted net interest income | 9,387} | | 8,747} | | 18,134} | | 23,301} | | 9,086} | | 32,387} |
| | Analysis of changes in net interest income | | | | | | |
| | | | | | | | | | | | |
| | For the three months ended August 31, 2011 vs. August 31, 2010 | | |
| | Change due to (3) | | | | | | |
(dollar amounts in thousands) | | Average volume (1) | | Average rate (2) | | Net change | | | | | | |
Increase in net interest income | | $ | 13,690} | $ | (25) | $ | 13,665} | | | | | | |
Increase in adjusted net interest income | 13,760} | | 4,535 | | 18,295} | | | | | | |
(1) Calculated using the following formula: (current period average balance – prior-year period average balance) x prior-year period average rate.
(2) Calculated using the following formula: (current period average rate – prior-year period average rate) x current period average balance.
(3) The net change attributable to the combined impact of volume and rate has been allocated to each in proportion to the absolute dollar amounts of change.
The increases of 39 percentNet interest income and 18 percent toadjusted net interest income increased 43 percent and 68 percent, respectively, for the three and nine months ended February 28,August 31, 2011 compared with the prior-year periods wasperiod primarily due to the reduction to interest expense partially offset bythat exceeded the decrease in interest income. The primary factors driving the 8 percent reduction to interest expense were our refinancing of maturing term debt and the scheduled reset of interest rates on term debt during the final three quarters of fiscal year 2011 and an increased utilization of commercial paper. Interest income as explained previously.for the three months ended August 31, 2011 decreased 2 percent compared with the prior-year period due to a large amount of fixed-rate loan advances at rates that were lower than the weighted-average rate on the long-term fixed-rate loan portfolio at August 31, 2010. The increase in adjusted net interest income which includesduring the three months ended August 31, 2011 was also driven by a reduction to cash settlements expense compared with the prior-year period largely due to a $3 million fee we paid during the prior-year period to terminate an interest rate swap that was match funding loans that were prepaid. See Non-GAAP Financial Measures for further explanation of the adjustment we make in our financial analysis to include all derivative cash settlements for the three and nine months ended February 28, 2011 increased to $47 million and $112 million, respectively, from $29 million and $80 million for the three and nine months ended February 28, 2010 primarily due to reductions toin determining our adjusted interest expense and lower cash settlements expense, partially offset by the decreasewhich, in turn, affects adjusted net interest income as explained previously.income.
Recovery of Loan Losses
During the three months ended February 28, 2011, there was aThe loan loss recovery of $9 million was due to reductions in the allowance for loan losses held for the general and impaired loan portfolios of $6 million and $3 million, compared to a provision of $10respectively. The $6 million for the prior-year period. The recovery of loan losses for the three months ended February 28, 2011 was primarily due to principal repayments on impaired loans. The recovery of loan losses of $43 million for the nine months ended
February 28, 2011 was the result of an increasedecrease in the fair value of the collateral securing impaired loans, principal repayments on impaired loans and a decrease to the required loan loss allowancereserve for the general portfolio was driven primarily by loan repayments and forthe reclassification of certain telecommunications loans from the general portfolio to impaired loans, improvement in the borrowers’ average internal risk rating and a reduction to the unallocated reserve associated with large loan exposures. There was aThe reduction to the loan loss allowance for impaired loans of $15$3 million due to an increase in the fair value of the collateral securing impaired loans and there was a recovery of $16 million due to principal repayments on impaired loans. In addition, there wasloans that resulted in a decrease of $8$5 million torecovery from the loan loss allowance forreserve, partly offset by a $2 million increase due to the reclassification of certain telecommunications loans from the general portfolio due to decreases in the weighted average risk rating and weighted average maturity for loans in the general portfolio, partially offset by an increase in the total loans in the general portfolio. There was also a $4 million reduction to the loan loss allowance for large loan exposures due to loan repayments and improvement to the average internal risk rating during the nine months ended February 28, 2011 for borrowers that meet the exposure threshold.impaired loans.
Non-interest Income
Non-interest income remained relatively flatdecreased by $47 million for the three months ended February 28,August 31, 2011 compared towith the same prior-year period primarily due to the $31$33 million increase in derivative gains, partially offset by the $5losses, $6 million decrease in the results of operations for foreclosed assetsfee income and the $23 million of settlement income recognized during the prior-year period. The settlement income was a one-time gain, net of legal and other related expenses, from CoBank, ACB, a government-sponsored enterprise that lends to agribusinesses and rural utilities throughout the United States. On February 25, 2010, CoBank, ACB agreed to a settlement related to our discovery that for a period of years, CoBank, ACB employees improperly accessed confidential and proprietary information from our password-protected member website. The $5 million decrease to the results of operations of foreclosed assets is due to the addition to foreclosed assets resulting from the transfer of control of USVI entities to CAH in October 2010. During the three months ended February 28, 2011, the results of operations from foreclosed assets includes a net loss of $4 million representing the ongoing results of operations for the USVI entities since the date of transfer. Non-interest income decreased by $7 million for the nine months ended February 28, 2011 compared to the prior-year period primarily due to the $23 million of settlement income during the three months ended February 28, 2010 and the $6$8 million net loss for USVI entitiesCAH included in the results of operations from foreclosed assets partiallyduring the three months ended August 31, 2011. CAH holds our investment in cable and telecommunications operating entities in the United States Virgin Islands, British Virgin Islands and St. Maarten. Fee income was lower in the current-year period due to $6 million of fees recognized during the three months ended August 31, 2010 related to prepaid telecommunications loans, which was partly offset by the $17a $3 million increase in derivative gains and $6 million increase in fee income.recorded as cash settlements expense that we paid to terminate an interest rate swap that match funded these telecommunications loans.
The derivative gainslosses line item includes income and losses recorded for our interest rate swaps as summarized below:
| | For the three months ended February 28, | | For the nine months ended February 28, | | For the three months ended August 31, | | Net | | | | | | | |
(dollar amounts in thousands) | | 2011 | | 2010 | | Net Change | | 2011 | | 2010 | | Net Change | | 2011 | | 2010 | | change | | | | | | | |
Derivative cash settlements | $ | (850) | $ | (5,636 | ) | $ | 4,786} | $ | (5,685) | $ | (19,836) | $ | 14,151} | $ | 168} | $ | (4,462) | $ | 4,630} | | | | | | | |
Derivative forward value | | 54,198} | | 28,207 | | 25,991} | | 28,090} | | 24,935} | | 3,155} | | (111,739) | | (73,792) | | (37,947) | | | | | | | |
Derivative gains | $ | 53,348} | $ | 22,571 | | $ | 30,777} | $ | 22,405} | $ | 5,099} | $ | 17,306} | |
Derivative losses | | $ | (111,571) | $ | (78,254) | $ | (33,317) | | | | | | | |
We currently use two types of interest rate exchange agreements: (i) Wewe pay a fixed rate and receive a variable rate and (ii) we pay a variable rate and receive a fixed rate. The following chart provides a breakout of the average notional amount outstanding by type of interest rate exchange agreement and the weighted average interest rate paid and received for cash settlements during the period.
| | For the three months ended February 28, | |
| | 2011 | | | 2010 | |
(dollar amounts in thousands) | | Average | | Weighted- | | Weighted- | | | Average | | Weighted- | | Weighted- | |
Notional | Average | Average | Notional | Average | Average |
Amount | Rate Paid | Rate Received | Amount | Rate Paid | Rate Received |
Pay fixed-receive variable | $ | 5,762,435 | | 4.13 | % | 0.29 | % | $ | 5,576,900 | | 4.67 | % | 0.25 | % |
Pay variable-receive fixed | | 5,387,551 | | 1.19 | | 5.23 | | | 5,551,440 | | 1.11 | | 5.24 | |
Total | $ | 11,149,986 | | 2.70 | | 2.69 | | $ | 11,128,340 | | 2.92 | | 2.70 | |
settlements:
| | For the nine months ended February 28, | | | For the three months ended August 31, | |
| | 2011 | | 2010 | | | 2011 | | 2010 | |
(dollar amounts in thousands) | | Average | | Weighted- | | Weighted- | | | Average | | Weighted- | | Weighted- | | |
Notional | Average | Average | | Notional | Average | | |
Amount | Rate Paid | Rate Received | | Amount | Rate Paid | Rate Received | | | Average notional balance | | Weighted- average rate paid | | Weighted- average rate received | | Average notional balance | | Weighted- average rate paid | | Weighted- average rate received | |
Pay fixed-receive variable | $ | 5,720,930 | | 4.27 | % | 0.35 | % | $ | 5,976,294 | | 4.68 | % | 0.41 | % | $ | 5,628,988 | | 4.05 | % | 0.25 | % | $ | 5,603,718 | | 4.46 | % | 0.45 | % |
Pay variable-receive fixed | | 5,497,411 | | 1.23 | | 5.23 | | 5,512,169 | | 1.26 | | 5.37 | | | 5,351,983 | | 1.16 | | 5.23 | | 5,551,440 | | 1.29 | | 5.23 | |
Total | $ | 11,218,341 | | 2.78 | | 2.75 | | $ | 11,488,463 | | 3.03 | | 2.80 | | $ | 10,980,971 | | 2.65 | | 2.65 | | $ | 11,155,158 | | 2.88 | | 2.83 | |
During the three months ended February 28,August 31, 2011, the net weighted averageweighted-average rate we paid on our interest rate swap agreements decreasedwas equal to 0.01 percent from 0.22 percent for the same prior-year period. During the nine months ended February 28, 2011,
the net weighted averageweighted-average rate we received, whereas we paid on our interesta net weighted-average rate swap agreements decreased to 0.03of 0.05 percent from 0.23 percent forduring the same prior-year period. For bothperiod excluding the three months and nine months ended February 28, 2011, the$3 million termination fee. The primary reason for the decrease in the weighted averageweighted-average outflow was a reductionthe decrease to the weighted averageweighted-average rate we paid on ourboth pay fixed-receive variable and pay variable-receive fixed interest rate swaps. The lower payment for thesepay fixed-receive variable swaps was driven by the maturity of pay fixed-receive variablethese swaps since February 28,August 31, 2010 that carried a higher fixed rate, as well as the addition of new pay fixed-receive variable swaps with a lower fixed rate compared towith swaps in place during the prior-year period. There was also an increase to fee income during the nine months ended February 28, 2011 of $6 million related to the prepayment of loans to a telecommunications borrower that was partially offset by cash settlements expense of $3 million representing the fee we paid to terminate interest rate swaps used in the funding of such loans.
The derivative forward value represents the change in fair value of our interest rate swaps during the reporting period due to changes in the estimate of future interest rates over the remaining life of our derivative contracts. The derivative forward value recorded for the three and nine months ended February 28,August 31, 2011 increaseddecreased by $26$38 million and $3 million, respectively, compared towith the prior-year periods.period. For the three and nine months ended February 28,August 31, 2011, the derivative forward value gainslosses of $54$112 million and $28 million, respectively, were the result of the average increasedecrease of 33 basis points to the swap valuationestimated yield curve for our swaps based on market expectations of 46 basis points and 6 basis points, respectively,interest rates, which caused an increasea decrease in the fair value of pay fixed-receive variable interest rate swaps, particularly those with long-dated maturities.swaps. The increasedecrease in fair value of pay fixed-receive variable interest rate swaps during the three and nine months ended February 28,August 31, 2011 outweighed the lossesincrease in fair value for pay variable-receive fixed interest rate swaps as pay fixed-receive variable interest rate swaps represented 52 percent and 51 percent of our derivative contracts during the three and nine months ended February 28,August 31, 2011 respectively.and they are more sensitive to changes in the estimated yield curve as they have a higher weighted-average maturity than our pay variable-receive fixed interest rate swaps.
Non-interest Expense
The $2$7 million decreaseincrease to non-interest expense for the three months ended February 28,August 31, 2011 compared with the prior-year period was primarily due to the $2 million decrease in general and administrative expenses. This $2 million decrease was largely driven by lower legal fees and other expenses associated with the transfer of control of ICC’s USVI operating entities to CAH, which was completed in October 2010. The $10 million increase to non-interest expense for the nine months ended February 28, 2011 compared with the prior-year period was due to the $4$9 million loss on early extinguishment of debt relatingrelated to the redemption of $125$250 million of subordinated deferrable debt, as well as highermedium-term notes in August 2011, partly offset by the lower salaries and employee benefits expense and a smaller recovery of guarantee liability.other general and administrative expenses. The $3 million increasedecrease to salaries and employee benefits expense was mainly due to approximately $2 million of severance expense related to the early retirement of certain qualifying employees. The smaller recovery of guarantee liability was due to a minimal change in guarantees outstandingemployees during the ninethree months ended February 28, 2011 compared with a significantAugust 31, 2010. The $2 million decrease in the guarantees outstandinggeneral administrative expenses during the prior-year period.three months ended August 31, 2011 was largely driven by lower legal fees and other expenses as a result of the completion of the transfer of control of ICC’s operating entities to CAH in October 2010 and March 2011.
Net IncomeLoss
The change in the items described above resulted in a net incomeloss of $84$87 million and $132$42 million for the three and nine months ended February 28,August 31, 2011 respectively, compared with net income of $55 million and $94 million in the prior-year periods.2010, respectively. The adjusted net income, which excludes the effect of the derivative forward value, was $29$25 million and $104$31 million for the three and nine months ended February 28,August 31, 2011 respectively, compared with an adjusted net income of $27 million and $69 million for the same prior-year periods.2010, respectively. See Non-GAAP Financial Measures for further explanation of the adjustments we make in our financial analysis to net income.
Net IncomeLoss Attributable to the Noncontrolling Interest
Net incomeloss attributable to the noncontrolling interest represents 100 percent of the results of operations of RTFC and NCSC as the members of RTFC and NCSC own or control 100 percent of the interest in their respective companies. Noncontrolling interest for the three months ended February 28,August 31, 2011 contributed $0.1 million and $4.2represents $0.2 million of consolidated net income and $2.8 million of net loss for RTFC and NCSC, respectively, compared with a net loss of $0.3$0.4 million and net income of $2.4$4.7 million for RTFC and NCSC, respectively, for the three months ended February 28,August 31, 2010. Noncontrolling interest for the nine months ended February 28, 2011 contributed $0.6 million of net loss for RTFC and $3 million of net income for NCSC compared with $0.7 million of net loss and $1.5 million of net income for RTFC and NCSC, respectively, for the prior-year period. Fluctuations in NCSC’s net income and loss are primarily due to fluctuations in the fair value of its derivative instruments.
Ratio of Earnings to Fixed Charges
The following table provides the calculation of the ratio of earnings to fixed charges. The fixed-charge coverage ratio includes capitalized interest in total fixed charges, which is not included in our TIER calculation.
| | | For the three months ended February 28, | | For the nine months ended February 28, | | | | For the three months ended August 31, | | | | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | 2011 | | | 2010 | | 2011 | | 2010 | | (dollar amounts in thousands) | | 2011 | | 2010 | | | |
Income prior to cumulative effect of | | | | | | | | | | | |
Net loss prior to cumulative effect of | | Net loss prior to cumulative effect of | | | | | | | |
change in accounting principle | change in accounting principle | $ | 83,652} | | $ | 54,933 | | $ | 131,979} | $ | 93,785 | | change in accounting principle | $ | (86,622) | | $ | (42,345 | ) | | |
Add: fixed charges | Add: fixed charges | | 206,388} | | | 221,922 | | 638,383} | | 691,587 | | Add: fixed charges | | 202,115} | | 219,549 | | | |
Less: interest capitalized | Less: interest capitalized | | (55) | | | (24 | ) | | (137) | | (83 | ) | Less: interest capitalized | | (71) | | (37 | ) | | | | |
Earnings available for fixed charges | Earnings available for fixed charges | $ | 289,985} | | $ | 276,831 | | $ | 770,225} | $ | 785,289 | | Earnings available for fixed charges | $ | 115,422} | | $ | 177,167 | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
Total fixed charges: | Total fixed charges: | | | | | | | | | | | Total fixed charges: | | | | | | | | | |
Interest on all debt (including amortization of discount | Interest on all debt (including amortization of discount | | | | | | | | | | | Interest on all debt (including amortization of discount | | | | | | | | |
and issuance costs) | and issuance costs) | $ | 206,333} | | $ | 221,898 | | $ | 638,246} | $ | 691,504 | | and issuance costs) | $ | 202,044} | | $ | 219,512 | | | |
Interest capitalized | Interest capitalized | | 55} | | | 24 | | 137} | | 83 | | Interest capitalized | | 71} | | 37 | | | | | |
Total fixed charges | Total fixed charges | $ | 206,388} | | $ | 221,922 | | $ | 638,383} | $ | 691,587 | | Total fixed charges | $ | 202,115} | | $ | 219,549 | | | | | |
Ratio of earnings to fixed charges(1) | | | 1.41} | | | 1.25 | | 1.21} | | 1.14 | | | | -} | | - | | | |
(1) For the three months ended August 31, 2011 and 2010, earnings were insufficient to cover fixed charges by $87 million and $42 million, respectively, and, therefore, the TIER calculations for those periods result in a value below 1.00.
Financial Condition
Loan and Guarantee Portfolio Assessment
Loan Programs
We are a cost-based lender that offers long-term fixedfixed- and variable-rate loans and short-termline of credit variable-rate loans. Borrowers choose between a variable interest rate or a fixed interest rate for periods of one to 35 years. When a selected fixed interest rate term expires, the borrower may select another fixed-rate term or the variable rate.
The following table summarizes loans outstanding by type and by segment:member class:
| | | | | | | | Increase/ |
(dollar amounts in thousands) | | February 28, 2011 | | | May 31, 2010 | | | (Decrease) |
Loans by type (1) (2): | | | | | | | | | | | | |
Long-term loans: | | | | | | | | | | | | |
Long-term fixed-rate loans | $ | 16,458,409} | | 84 | % | $ | 15,412,987 | | 80 | % | $ | 1,045,422} |
Long-term variable-rate loans | | 1,447,394} | | 8 | | | 2,088,829 | | 11 | | | (641,435) |
Loans guaranteed by RUS | | 227,794} | | 1 | | | 237,356 | | 1 | | | (9,562) |
Total long-term loans | | 18,133,597} | | 93 | | | 17,739,172 | | 92 | | | 394,425} |
Short-term loans | | 1,392,687} | | 7 | | | 1,599,233 | | 8 | | | (206,546) |
Total loans outstanding | $ | 19,526,284} | | 100 | % | $ | 19,338,405 | | 100 | % | $ | 187,879} |
(dollar amounts in thousands) | | (dollar amounts in thousands) | | August 31, 2011 | | | May 31, 2011 | | Increase/ | |
Loans by type (1): | | Loans by type (1): | | Amount | | % | | | Amount | | % | | (decrease) | |
Long-term loans: | | Long-term loans: | | | | | | | | | | | | |
Long-term fixed-rate loans | | Long-term fixed-rate loans | $ | 16,272,689 | | 88 | % | $ | 16,404,940 | | 85 | % | $ | (132,251) | |
Long-term variable-rate loans | | Long-term variable-rate loans | | 997,381 | | 5 | | | 1,278,391 | | 7 | | (281,010) | |
Loans guaranteed by RUS | | Loans guaranteed by RUS | | 225,581 | | 1 | | | 226,695 | | 1 | | (1,114) | |
Total long-term loans | | Total long-term loans | | 17,495,651 | | 94 | | | 17,910,026 | | 93 | | | (414,375) | |
Line of credit loans | | Line of credit loans | | 1,116,176 | | 6 | | | 1,414,650 | | 7 | | (298,474) | |
Total loans | | Total loans | $ | 18,611,827 | | 100 | % | $ | 19,324,676 | | 100 | % | $ | (712,849) | |
| | | | | | | | | | | | Increase/ | | | | | | | | | | | | | |
(dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | | | (Decrease) | |
Loans by segment (1): | | | | | | | | | | | | |
Loans by member class (1): | | Loans by member class (1): | | | | | | | | | | | | |
CFC: | CFC: | | | | | | | | | | | | CFC: | | | | | | | | | | | | |
Distribution | Distribution | $ | 13,912,255} | | 71 | % | $ | 13,459,053 | | 70 | % | $ | 453,202} | Distribution | $ | 13,621,016 | | 73 | % | $ | 13,760,228 | | 71 | % | $ | (139,212) | |
Power supply | Power supply | | 4,055,155} | | 21 | | 3,769,794 | | 19 | | | 285,361} | Power supply | | 3,535,717 | | 19 | | | 4,092,290 | | 21 | | | (556,573) | |
Statewide and associate | Statewide and associate | | 93,941} | | - | | 86,182 | | - | | | 7,759} | Statewide and associate | | 90,907 | | 1 | | | 88,961 | | 1 | | 1,946} | |
CFC total | CFC total | | 18,061,351} | | 92 | | 17,315,029 | | 89 | | | 746,322} | CFC total | | 17,247,640 | | 93 | | | 17,941,479 | | 93 | | (693,839) | |
RTFC | RTFC | | 947,740} | | 5 | | 1,671,893 | | 9 | | | (724,153) | RTFC | | 823,420 | | 4 | | | 859,122 | | 4 | | (35,702) | |
NCSC | NCSC | | 517,193} | | 3 | | 351,483 | | 2 | | | 165,710} | NCSC | | 540,767 | | 3 | | | 524,075 | | 3 | | 16,692} | |
Total loans outstanding | | $ | 19,526,284} | | 100 | % | $ | 19,338,405 | | 100 | % | $ | 187,879} | |
Total loans | | | $ | 18,611,827 | | 100 | % | $ | 19,324,676 | | 100 | % | $ | (712,849) | |
(1) Includes loans classified as restructured and non-performing.
(2) Loans are classified as long-term or short-term based on their original maturity.
The increase inbalance of loans outstanding from May 31, 2010 to February 28, 2011 was largely due to the $1,105decreased by $713 million of loan advances to CFC and NCSC borrowers to refinance their debt borrowed from other lenders during the nine months ended February 28, 2011. These refinancings, due to members taking advantage of the lower interest rate environment, accounted for increases of $900 million and $64 million to distribution and power supply loans, respectively, and $141 million to NCSC loans. The increase in loan advances was partially offset by the $472 million reduction in non-performing RTFC loans related to the ICC bankruptcy settlement, RTFC loan prepayments and loan sales during the period. The prepayment of telecommunication loans totaling $204 million was related to the acquisition of one of our borrowers by a non-member. We sold $268 million of distribution and power supply loans to the Federal Agricultural Mortgage Corporation, of which $139 million were advanced at the time of sale. Repayments of power supply bridge loans with RUS funding totaling $290 million during fiscal year 2011 were mostly offset by new bridge loans during the three months ended February 28, 2011. BridgeAugust 31, 2011 mainly due to the $557 million reduction to power supply loans are advancedresulting largely from the pay down of bridge loans of $522 million with proceeds of long-term loans from RUS.
During the expectation that they will be repaid once RUS funds are advanced.three months ended August 31, 2011, $267 million of CFC long-term fixed-rate loans were scheduled to reprice. Of this total, $235 million selected a new long-term fixed rate; $23 million selected the long-term variable rate; $4 million selected a new rate offered by a partner under our loan sale programs and were sold by CFC with CFC continuing to service the loans sold; and $5 million were prepaid in full.
The following table summarizes loans and guarantees outstanding by segment:member class:
| | February 28, 2011 | | | May 31, 2010 | | | Increase/ | | | August 31, 2011 | | | May 31, 2011 | | | Increase/ | |
(dollar amounts in thousands) | | Amount | | % of Total | | | Amount | | % of Total | | | (Decrease) | | | Amount | | % of Total | | | Amount | | % of Total | | | (decrease) | |
CFC: | | | | | | | | | | | | | | | | | | | | | | | | | | |
Distribution | $ | 14,147,482} | | 68 | % | | $ | 13,680,956 | | 67 | % | | $ | 466,526} | | $ | 13,843,717 | | 70 | % | | $ | 13,977,327 | | 68 | % | | $ | (133,610) | |
Power supply | | 4,877,329} | | 24 | | | 4,654,622 | | 22 | | | 222,707} | | | 4,361,753 | | 22 | | | 4,909,908 | | 24 | | | (548,155) | |
Statewide and associate | | 115,292} | | 1 | | | 108,214 | | 1 | | | 7,078} | | | 98,931 | | 1 | | | 109,768 | | 1 | | | (10,837) | |
CFC total | | 19,140,103} | | 93 | | | 18,443,792 | | 90 | | | 696,311} | | | 18,304,401 | | 93 | | | 18,997,003 | | 93 | | | (692,602) | |
RTFC | | 948,561} | | 5 | | | 1,672,529 | | 8 | | | (723,968) | | | 824,241 | | 4 | | | 859,943 | | 4 | | | (35,702) | |
NCSC | | 569,797} | | 2 | | | 393,193 | | 2 | | | 176,604} | | | 584,080 | | 3 | | | 572,718 | | 3 | | | 11,362} | |
Total | $ | 20,658,461} | | 100 | % | | $ | 20,509,514 | | 100 | % | | $ | 148,947} | | |
Total loans and guarantees | | $ | 19,712,722 | | 100 | % | | $ | 20,429,664 | | 100 | % | | $ | (716,942) | |
Credit Concentration
The service territories of our electric and telecommunications members are located throughout the United States and its territories, including 49 states, the District of Columbia and two U.S. territories. At February 28,August 31, 2011 and May 31, 2010,2011, loans outstanding to members in any one state or territory did not exceed 1817 percent and 1719 percent of total loans outstanding, respectively.
At February 28,August 31, 2011 and May 31, 2010,2011, the total exposure outstanding to any one borrower or controlled group did not exceed 2.42.5 percent and 2.62.4 percent, respectively, of total loans and guarantees outstanding. At February 28,August 31, 2011, the 10 largest borrowers included five distribution systems and five power supply systems. At May 31, 2011, the 10 largest borrowers included four distribution systems and six power supply systems. At May 31, 2010, the 10 largest borrowers included three distribution systems, six power supply systems and one telecommunications system. The following table showsrepresents the exposure to the 10 largest borrowers as a percentage of total exposure presented by type of exposure and by segment:company:
| | February 28, 2011 | | | May 31, 2010 | | | | | August 31, 2011 | | | May 31, 2011 | | | Increase/ | |
(dollar amounts in thousands) | | Amount | | % of Total | | | Amount | | % of Total | | Increase/ (Decrease) | | | Amount | | % of Total | | | Amount | | % of Total | | | (decrease) | |
Total by type: | | | | | | | | | | | | | | |
Total by exposure type: | | | | | | | | | | | | | | |
Loans | $ | 3,166,615} | | | 15 | % | $ | 3,478,271 | | | 17 | % | $ | (311,656) | | $ | 3,042,997 | | | 15 | % | $ | 3,206,808 | | | 16 | % | $ | (163,811) | |
Guarantees | | 305,949} | | | 2 | | | 342,325 | | | 2 | | | (36,376) | | | 301,230 | | | 2 | | | 302,771 | | | 1 | | | (1,541) | |
Total credit exposure to 10 largest borrowers | $ | 3,472,564} | | | 17 | % | $ | 3,820,596 | | | 19 | % | $ | (348,032) | | $ | 3,344,227 | | | 17 | % | $ | 3,509,579 | | | 17 | % | $ | (165,352) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total by segment: | | | | | | | | | | | | | | | | |
Total by company: | | | | | | | | | | | | | | | | |
CFC | $ | 3,450,064} | | | 17 | % | $ | 3,274,247 | | | 16 | % | $ | 175,817} | | $ | 3,322,977 | | | 17 | % | $ | 3,488,329 | | | 17 | % | $ | (165,352) | |
RTFC | | -} | | | - | | | 523,849 | | | 3 | | | (523,849) | | |
NCSC | | 22,500} | | | - | | | 22,500 | | | - | | | -} | | | 21,250 | | | - | | | 21,250 | | | - | | | -} | |
Total credit exposure to 10 largest borrowers | $ | 3,472,564} | | | 17 | % | $ | 3,820,596 | | | 19 | % | $ | (348,032) | | $ | 3,344,227 | | | 17 | % | $ | 3,509,579 | | | 17 | % | $ | (165,352) | |
Security Provisions
The following table summarizes our unsecured credit exposure as a percentage of total exposure presented by type of exposure and by segment:company:
| | February 28, 2011 | | May 31, 2010 | | | | | | August 31, 2011 | | May 31, 2011 | | | Increase/ | |
(dollar amounts in thousands) | | Amount | | % of Total | | | Amount | | % of Total | | | Increase/ (Decrease) | | | Amount | | % of Total | | Amount | | % of Total | | | (decrease) | |
Total by type: | | | | | | | | | | | | | | |
Total by exposure type: | | | | | | | | | | | | | | |
Loans | $ | 2,264,566} | | | 11 | % | $ | 2,041,099 | | | 10 | % | $ | 223,467} | | $ | 1,814,268 | | | 9 | % | $ | 2,200,140 | | | 11 | % | $ | (385,872) | |
Guarantees | | 279,775} | | | 1 | | | 320,761 | | | 2 | | | (40,986) | | | 286,684 | | | 2 | | | 281,431 | | | 1 | | | 5,253} | |
Total unsecured credit exposure | $ | 2,544,341} | | | 12 | % | $ | 2,361,860 | | | 12 | % | $ | 182,481} | | $ | 2,100,952 | | | 11 | % | $ | 2,481,571 | | | 12 | % | $ | (380,619) | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total by segment: | | | | | | | | | | | | | | | | |
Total by company: | | | | | | | | | | | | | | | | |
CFC | $ | 2,113,316} | | | 10 | % | $ | 2,049,365 | | | 10 | % | $ | 63,951} | | $ | 1,673,083 | | | 9 | % | $ | 2,041,440 | | | 10 | % | $ | (368,357) | |
RTFC | | 232,442} | | | 1 | | | 242,548 | | | 2 | | | (10,106) | | | 226,395 | | | 1 | | | 231,923 | | | 1 | | | (5,528) | |
NCSC | | 198,583} | | | 1 | | | 69,947 | | | - | | | 128,636} | | | 201,474 | | | 1 | | | 208,208 | | | 1 | | | (6,734) | |
Total unsecured credit exposure | $ | 2,544,341} | | | 12 | % | $ | 2,361,860 | | | 12 | % | $ | 182,481} | | $ | 2,100,952 | | | 11 | % | $ | 2,481,571 | | | 12 | % | $ | (380,619) | |
Pledged Loans and Loans on Deposit
The following table summarizes our secured debt or debt requiring collateral on deposit, the excess collateral pledged and our unencumbered loans:
(dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | | | August 31, 2011 | | May 31, 2011 | |
Total loans to members | $ | 19,526,284} | $ | 19,338,405 | | $ | 18,611,827} | $ | 19,324,676 | |
Less: Total secured debt or debt requiring | | | | | | | | | | |
collateral on deposit (1) | | (10,037,494) | | (10,094,301 | ) | | (10,111,094) | | (10,111,094 | ) |
Less: Excess collateral pledged or on deposit (2) | | (1,797,423) | | (1,834,358 | ) | |
Excess collateral pledged or on deposit (1) | | | (1,659,368) | | (1,668,457 | ) |
Unencumbered loans | $ | 7,691,367} | $ | 7,409,746 | | $ | 6,841,365} | $ | 7,545,125 | |
| | | | | | | | | | |
Unencumbered loans as a percentage of total loans | | 39 % | | 38 | % | | 37} | % | 39 | % |
(1) Excludes debt secured by cash collateral only.
(2) Excludes cash collateral pledged to secure debt. Unless and until there is an event of default, we can withdraw excess collateral as long as there is 100 percent coverage of the secured debt. If there is an event of default under most of our indentures, we can only withdraw this excess collateral if we substitute cash of equal value.
Non-performing and Restructured Loans
The following table presents a summary of non-performing and restructured loans as a percentage of total loans and total loans and guarantees outstanding:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | | | | | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 | | | | | | | |
Non-performing loans (1) | Non-performing loans (1) | $ | 93,365 | | $ | 560,527 | | | | | Non-performing loans (1) | $ | 39,449 | | $ | 31,344 | | | | | | | |
Percent of loans outstanding | Percent of loans outstanding | | 0.48 | % | | 2.90 | % | | | | Percent of loans outstanding | | 0.21 | % | | 0.16 | % | | | | | | | |
Percent of loans and guarantees outstanding | Percent of loans and guarantees outstanding | | 0.45 | | 2.73 | | | | | Percent of loans and guarantees outstanding | | 0.20 | | 0.15 | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
Restructured loans | Restructured loans | $ | 481,588 | | $ | 508,044 | | | | | Restructured loans | $ | 467,172 | | $ | 474,381 | | | | | | | |
Percent of loans outstanding | Percent of loans outstanding | | 2.47 | % | | 2.63 | % | | | | Percent of loans outstanding | | 2.51 | % | | 2.45 | % | | | | | | | |
Percent of loans and guarantees outstanding | Percent of loans and guarantees outstanding | | 2.33 | | 2.48 | | | | | Percent of loans and guarantees outstanding | | 2.37 | | 2.32 | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
Total non-performing and restructured loans | Total non-performing and restructured loans | $ | 574,953 | | $ | 1,068,571 | | | | | Total non-performing and restructured loans | $ | 506,621 | | $ | 505,725 | | | | | | | �� |
Percent of loans outstanding | Percent of loans outstanding | | 2.95 | % | | 5.53 | % | | | | Percent of loans outstanding | | 2.72 | % | | 2.61 | % | | | | | | | |
Percent of loans and guarantees outstanding | Percent of loans and guarantees outstanding | | 2.78 | | 5.21 | | | | | Percent of loans and guarantees outstanding | | 2.57 | | 2.47 | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
Total non-accrual loans | Total non-accrual loans | $ | 534,440 | | $ | 1,022,924 | | | | | Total non-accrual loans | $ | 466,309 | | $ | 465,312 | | | | | | | |
Percent of loans outstanding | Percent of loans outstanding | | 2.74 | % | | 5.29 | % | | | | Percent of loans outstanding | | 2.51 | % | | 2.41 | % | | | | | | | |
Percent of loans and guarantees outstanding | | | 2.59 | | 4.99 | | | | | | 2.37 | | 2.28 | | | | | | | |
(1) All loans classified as non-performing were on non-accrual status.
At February 28, 2010August 31, 2011 and May 31, 2010,2011, non-performing loans included $66 million and $536 million to ICC, respectively. On October 6, 2010, CAH took control of the USVI operating entities of ICC. The entities transferred had a fair value of $128 million at that date. Due to the transfer of control, the loan balance on that date of $538 million was increased by $14 million to satisfy payment requirements under an inter-creditor agreement and transaction fees and reduced by
$30 million for the redemption of preferred stock, $128 million for the fair value of the entities transferred and a charge-off of $328 million. CFC recorded an investment of $216 million to foreclosed assets, which includes the $128 million fair value of the entities transferred and an additional investment of $88 million to these entities to pay down or settle third-party obligations. The fair value of $128 million for the entities transferred included $88 million of third-party debt obligations. The $88 million of third-party debt obligations was paid off with the $88 million additional investment made by CFC as part of the transfer of control. See further discussion in Note 3, Foreclosed Assets to the condensed consolidated financial statements.
On March 1, 2011, CFC, through RTFC, completed the transfer of control of 100 percent of the equity interests of ICC’s British Virgin Island and St. Maarten operating entities to CAH. This transaction resulted from the transfer of ICC’s assets in bankruptcy. The transfer of assets will not result in a cash inflow as the $66$31 million of loans outstanding at February 28,to an electric distribution cooperative that under took a project to develop a geothermal electric generating facility. This borrower filed for bankruptcy in September 2010. On September 15, 2011, will be reduced bythis borrower filed a combinationdisclosure statement with the bankruptcy court that contains a preliminary draft of the receipt of foreclosed assets and loan write-off. The amount of loan repayment CFC will credit RTFC and the amount of the loan write-off will be known once the fair value of each of the operating companies acquired has been updated as of the closing date.
Jeffrey Prosser, ICC’s former indirect majority shareholder and former chairman, and related parties continue to assert claims against CFC and certain of its officers and directorsa reorganization plan for creditors and other parties in various proceedings and forums. CFC, therefore, anticipatesof interest to review. This preliminary draft plan of reorganization assumes that itthe borrower will continue to be engaged in defense of those assertions on many fronts, as well as pursuing claimsoperating through the use of its own. existing diesel generating facilities. The preliminary draft plan of reorganization has been reviewed by management and we believe that no material adjustment is required to our loan loss reserve recorded at August 31, 2011. The borrower has until December 1, 2011 to submit its final proposal for the plan of reorganization to the bankruptcy court. Loans to this borrower were on non-accrual status at August 31, 2011 and May 31, 2011. At August 31, 2011, non-performing loans also included a total of $8 million to two telecommunications borrowers for which we do not expect to collect all principal and interest payments as scheduled by the original terms and were put on non-accrual status during the quarter ended August 31, 2011.
Based on our analysis, we believe we have an adequate loan loss allowance for our exposure related to ICCnon-performing loans at February 28,August 31, 2011.
Non-performing loans at February 28,At August 31, 2011 and May 31, 2010 also included $27 million and $25 million, respectively, to Naknek Electric Association, an electric distribution cooperative located in Naknek, Alaska, that filed for bankruptcy in September 2010.
At February 28, 2011, and May 31, 2010, we had restructured loans totaling $482$467 million and $474 million to two borrowers, and $508 million to three borrowers, respectively, allboth of which were performing according to their restructure agreements. At February 28,Approximately $1 million of interest income was accrued on restructured loans during the three months ended August 31, 2011 and 2010.
Included in restructured loans outstanding at August 31, 2011 and May 31, 2010, we had $4412011 was $427 million and $462$434 million, respectively, of loans to a large electric distribution cooperative that provides retail electric service to residential and business customers. All restructured loans to this borrower have been on non-accrual status to CoServ. We are not recognizing interest income on this loan; however, as long as it remains on non-accrual status, we experience a reduction in the calculated impairment and, therefore, our required allowance for loan losses related to each quarterly principal repayment.since January 1, 2001. During the ninethree months ended February 28,August 31, 2011, CoServthis borrower made scheduled payments of $21$7 million, all of which were applied as a reduction to the loan principal balance and resulted in a reduction of $16$5 million to the calculated impairment.
Based on our analysis, we believe we have an adequate loan loss allowance for our exposure related to restructured loans at August 31, 2011.
Allowance for Loan Losses
We maintain an allowance for loan losses at a level estimated by management to provide adequately for probable losses inherent in the loan portfolio. Management believes the allowance for loan losses is adequate to cover estimated probable portfolio losses. Activity in the allowance for loan losses is summarized below:below including a disaggregation by company of the allowance for loan losses held at CFC:
| | As of and for the three months ended August 31, | | | As of and for the year ended | |
(dollar amounts in thousands) | | 2011 | | | 2010 | | | May 31, 2011 | |
Beginning balance | $ | 161,177} | | $ | 592,764 | | $ | 592,764 | |
Recovery of loan losses | | (9,130) | | | (12,288 | ) | | (83,010 | ) |
Net recoveries of loans previously charged-off | | 53} | | | 63 | | | (348,577 | ) |
Ending balance | $ | 152,100} | | $ | 580,539 | | $ | 161,177 | |
` | | | | | | | | | |
Loan loss allowance by company: | | | | | | | | | |
CFC (1) | $ | 134,457} | | $ | 160,777 | | $ | 143,706 | |
RTFC (1) | | 8,649} | | | 408,811 | | | 8,389 | |
NCSC (1) | | 8,994} | | | 10,951 | | | 9,082 | |
Total | $ | 152,100} | | $ | 580,539 | | $ | 161,177 | |
| | | | | | | | | |
As a percentage of total loans outstanding | | 0.82 | % | | 3.01 | % | | 0.84 | % |
As a percentage of total non-performing loans outstanding | | 385.56 | | | 102.86 | | | 514.22 | |
As a percentage of total restructured loans outstanding | | 32.56 | | | 117.04 | | | 33.98 | |
As a percentage of total loans on non-accrual | | | 32.62 | | | 56.93 | | | 34.64 | |
| | As of and for the three months ended | | | | As of and for the nine months ended | | | As of and for the year ended | |
| | February 28, | | | | February 28, | | | May 31, | |
(dollar amounts in thousands) | | 2011 | | | | 2010 | | | | 2011 | | 2010 | | | 2010 | |
Beginning balance | $ | 225,546} | | | $ | 608,458 | | | $ | 592,764} | $ | 622,960 | | $ | 622,960 | |
(Recovery of ) provision for loan losses | | (3,374) | | | | 10,000 | | | | (42,915) | | (4,594 | ) | | (30,415 | ) |
Net recovery (charge-off) | | 52} | | | | 40 | | | | (327,625) | | 132 | | | 219 | |
Ending balance | $ | 222,224} | | | $ | 618,498 | | | $ | 222,224} | $ | 618,498 | | $ | 592,764 | |
` | | | | | | | | | | | | | | | | |
Loan loss allowance by segment: | | | | | | | | | | | | | | | | |
CFC (1) | $ | 222,222} | | | $ | 618,462 | | | $ | 222,222} | $ | 618,462 | | $ | 592,746 | |
NCSC (1) | | 2} | | | | 36 | | | | 2} | | 36 | | | 18 | |
Total | $ | 222,224} | | | $ | 618,498 | | | $ | 222,224} | $ | 618,498 | | $ | 592,764 | |
| | | | | | | | | | | | | | | | |
As a percentage of total loans outstanding | | | | | | | | | | 1.14} | % | 3.18 | % | | 3.07 | % |
As a percentage of total non-performing loans outstanding | | | | | | | | | 238.02} | | 118.07 | | | 105.75 | |
As a percentage of total restructured loans outstanding | | | | | | | | | | 46.14} | | 119.99 | | | 116.68 | |
As a percentage of total loans on non-accrual | | | | | | | | | | | 41.58} | | 62.26 | | | 57.95 | |
(1) CFC indemnifiesThe allowance for loan losses recorded for RTFC and NCSC for loan losses,are held at CFC with the exception of the NCSC consumer loans that are covered by the NCSC loan loss allowance. Therefore, there is no loan loss allowance requiredof $9 thousand at RTFC. The NCSC loan loss allowance is requiredAugust 31, 2010 to cover the exposure for consumer loans. The balance of $3 thousand and $112 thousandNCSC’s consumer loans was reduced to zero at February 28, 2011 and May 31, 2010, respectively, and $217 thousand at February 28, 2010.2011.
Our loan loss allowance decreased by $371$9 million from May 31, 20102011 to February 28,August 31, 2011 primarily due to reductions in the charge-offallowance for loan losses held for the general and impaired loan portfolios of $328$6 million related to the transfer of the USVI entities to CAH on October 6, 2010.and $3 million, respectively. See Recovery of Loan Losses in the Results of Operations section for more details aboutfurther discussion. On a quarterly basis, we review all non-performing and restructured borrowers, as well as certain additional borrowers selected based on known facts and circumstances, to determine if the loan loss recovery forloans to the threeborrower are impaired and/or to determine if there are changes to a previously impaired loan. We calculate a borrower’s impairment based on the expected future cash flows or the fair value of the collateral securing our loans to the borrower if cash flow cannot be estimated. As events related to the borrower take place and nine months ended February 28, 2011.economic conditions and our assumptions change, the impairment calculations will change. At February 28,August 31, 2011 and May 31, 2010,2011, there iswas a total specific loan loss allowance balance of $79$33 million and $437$37 million, respectively, related to impaired loans totaling $575$507 million and $1,064$506 million, respectively.
Liabilities and Equity
Outstanding Debt
The following table breaks out our debt outstanding by type of debt:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | | | Increase/ (Decrease) | | | | | | | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 | | Increase/ decrease | | | | | | | | |
Commercial paper (1) | Commercial paper (1) | $ | 3,403,876} | | $ | 2,264,230 | | $ | 1,139,646} | | | | | | | Commercial paper (1) | $ | 2,767,586 | | $ | 3,025,370 | $ | (257,784) | | | | | | | | |
Bank bid notes | Bank bid notes | | 270,000} | | 30,000 | | | 240,000} | | | | | | | Bank bid notes | | 295,000 | | 295,000 | | -} | | | | | | | | |
Collateral trust bonds | Collateral trust bonds | | 5,512,803} | | 5,469,245 | | | 43,558} | | | | | | | Collateral trust bonds | | 5,513,674 | | 5,513,235 | | 439} | | | | | | | | |
Notes payable | Notes payable | | 4,561,455} | | 4,666,518 | | | (105,063) | | | | | | | Notes payable | | 4,633,903 | | 4,633,854 | | 49} | | | | | | | | |
Medium-term notes | Medium-term notes | | 3,513,951} | | 4,230,865 | | | (716,914) | | | | | | | Medium-term notes | | 3,394,045 | | 3,656,274 | | (262,229) | | | | | | | | |
Subordinated deferrable debt | Subordinated deferrable debt | | 186,440} | | 311,440 | | | (125,000) | | | | | | | Subordinated deferrable debt | | 186,440 | | 186,440 | | -} | | | | | | | | |
Membership certificates | Membership certificates | | 646,045} | | 643,211 | | | 2,834} | | | | | | | Membership certificates | | 646,161 | | 646,161 | | -} | | | | | | | | |
Loan and guarantee certificates | Loan and guarantee certificates | | 796,053} | | 769,654 | | | 26,399} | | | | | | | Loan and guarantee certificates | | 733,647 | | 769,241 | | (35,594) | | | | | | | | |
Member capital securities | Member capital securities | | 398,150} | | 397,850 | | | 300} | | | | | | | Member capital securities | | 398,250 | | 398,250 | | -} | | | | | | | | |
Total debt outstanding | Total debt outstanding | $ | 19,288,773} | | $ | 18,783,013 | | $ | 505,760} | | | | | | | Total debt outstanding | $ | 18,568,706 | | $ | 19,123,825 | $ | (555,119) | | | | | | | | |
Percentage of fixed-rate debt (2) | Percentage of fixed-rate debt (2) | | 79 | % | | 81 | % | | | | | | | | | Percentage of fixed-rate debt (2) | | 80 | % | | 79 | % | | | | | | | | | |
Percentage of variable-rate debt (3) | Percentage of variable-rate debt (3) | | 21 | | 19 | | | | | | | | | | Percentage of variable-rate debt (3) | | 20 | | 21 | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Percentage of long-term debt (4) | Percentage of long-term debt (4) | | 81 | % | | 88 | % | | | | | | | | | Percentage of long-term debt (4) | | 84 | % | | 83 | % | | | | | | | | | |
Percentage of short-term debt (4) | | | 19 | | 12 | | | | | | | | | | | | 16 | | 17 | | | | | | | | | | |
(1) Includes $284$345 million and $372$309 million related to the daily liquidity fund at February 28,August 31, 2011 and May 31, 2010,2011, respectively.
(2) Includes variable-rate debt that has been swapped to a fixed rate net of any fixed-rate debt that has been swapped to a variable rate.
(3) The rate on commercial paper and bank bid notes does not change once the note has been issued. However, the rates on new commercial paper notes change daily, and commercial paper notes generally have maturities of less than 90 days. Therefore, commercial paper notes are classified as variable-rate debt. Also includes fixed-rate debt that has been swapped to a variable rate net of any variable-rate debt that has been swapped to a fixed rate.
(4) Debt is classified as long-term or short-term based on its original maturity.
Total debt outstanding increaseddecreased by $506$555 million at February 28,August 31, 2011 as compared with May 31, 2010 primarily due to the $660 million increase to loans outstanding, excluding the $472 million reduction to non-performing loans to ICC2011 as our funding needs declined as a result of a charge-off and assets received as partial settlement for those loans. The increase to debt related to a higher balance of loans outstanding was partially offset by the $114$713 million decrease in cash duringloans outstanding. The reduction in debt was slightly less than the nine months ended February 28, 2011. Commercial paper representeddecrease in the outstanding loan balance largely due to maintaining a higher percentage of the total debt outstandingcash balance at February 28,August 31, 2011 compared with the percentage atto May 31, 2010 as a result2011. During the quarter ended August 31, 2011, we used the excess cash from loan repayments to pay down maturing medium-term notes, including the early redemption of its use to refinance maturing term debt during the period. In July 2010, $400$250 million of variable-rate collateral trust bonds matured, and in October 2010, $500 million of 4.3757.25 percent collateral trust bonds matured. In September 2010, we redeemed $125 million of 6.75 percent subordinated deferrable debt. Additionally, maturities of medium-term notes exceeded new advances by $717 million duringscheduled to mature in March 2012 and to reduce the nine months ended February 28, 2011. These debt maturities were refinanced with a combinationbalance of commercial paper collateral trust bonds and private-placement debt with the Federal Agricultural Mortgage Corporation.
In November 2010, we issued $300 million of 1.125 percent collateral trust bonds due 2013 and $350 million of 1.900 percent collateral trust bonds due 2015. In February 2011, we issued $300 million of 3.050 percent collateral trust bonds due 2016. In September 2010 and October 2010, we issued notes totaling $400 millionfunding. The decrease to the Federal Agricultural Mortgage Corporation at rates ranging from 0.62 percent to 0.67 percent. These notes matured during the third quarter of fiscal year 2011.
The following table provides additional information on the debt instruments we offer at February 28, 2011.
Debt Instrument | Maturity Range | Rate Options | Market | Security |
Daily liquidity fund | Demand note | Rate may change daily | Members | Unsecured |
Bank bid notes | Up to 3 months | Fixed rate (1)
| Bank institutions | Unsecured |
Commercial paper | 1 to 270 days | Fixed rate (1)
| Public capital markets and members | Unsecured |
Collateral trust bonds | Up to 30 years | Fixed or variable rate | Public capital markets | Secured (2)
|
Medium-term notes | Range from 9 months to 30 years | Fixed or variable rate | Public capital markets and members | Unsecured |
Notes payable to the Federal Financing Bank | Range from 3 months to 20 years | Fixed | Private placement | Unsecured (3)
|
Notes payable to Federal Agricultural Mortgage Corporation | Up to 7 years | Fixed or variable rate | Private placement | Secured (4)
|
Other notes payable | Up to 30 years | Fixed or variable rate | Private placement | Varies (5)
|
Subordinated deferrable debt (6)
| Up to 39 years | Fixed or variable rate | Public capital markets | Unsecured (7)
|
Subordinated certificates | Up to 100 years (8)
| Varies | Members | Unsecured (9)
|
| | | | |
(1) The rate on bank bid notes and commercial paper notes does not change once the note has been issued. However, the rates on new bank bid notes and commercial paper notes change daily, and bank bid notes and commercial paper notes generally have maturities of less than 90 days. Therefore, we consider bank bid notes and commercial paper notes to be variable-rate debt in our financial analysis.
(2) Secured by the pledge of permitted investments and eligible mortgage notes from distribution system borrowers in an amount at least equal to the outstanding principal amount of collateral trust bonds.
(3) Represent notes payable issued to the Federal Financing Bank with a guarantee of repayment by RUS under the Guaranteed Underwriter program of the U.S. Department of Agriculture, which supports the Rural Economic Development Loan and Grant program. We are required to maintain collateral on deposit equal to at least 100 percent of the outstanding balance of debt.
(4) We are required to pledge eligible mortgage notes from distribution and power supply system borrowers in an amount at least equal to the outstanding principal amount under note purchase agreements with the Federal Agricultural Mortgage Corporation.
(5) At February 28, 2011, other notes payable include unsecured and secured Clean Renewable Energy Bonds. We are required to pledge eligible mortgage notes from distribution and power supply system borrowers in an amount at least equal to the outstanding principal amount under the Clean Renewable Energy Bonds Series 2009A note purchase agreement. The remaining other notes payable relate to unsecured notes payable issued by NCSC.
(6) We have the right at any time and from time to time during the term of the subordinated deferrable debt to suspend interest payments for a period not exceeding 20 consecutive quarters. We have the right to call the subordinated deferrable debt any time after five years, at par. To date, we have not exercised our option to suspend interest payments.
(7) Subordinate and junior in right of payment to senior debt and the debt obligations we guarantee, but senior to subordinated certificates.
(8) Membership subordinated certificates generally mature 100 years from issuance. Loanloan and guarantee subordinated certificates havewas related to the same maturity asrepayment of loans and, to a lesser extent, the related long-term loan. Some certificates may also amortize annually based on the outstanding loan balance. Member capital securities mature 35 years from issuance. Member capital securities are callable at par by CFC starting five years from the date of issuance and anytime thereafter.
(9) Subordinate and juniorreduction in right of payment to senior and subordinated debt and debt obligations we guarantee.guarantees outstanding.
Equity
At February 28,August 31, 2011, total equity increaseddecreased by $83$133 million from May 31, 20102011 largely due to a net incomeloss of $132$87 million and an increase of $2 million to accumulated other comprehensive income for the ninethree months ended February 28,August 31, 2011 partially offset byand the board-authorized patronage capital retirement of $51$46 million.
In July 2010, CFC’s2011, the CFC Board of Directors authorized the allocation of the fiscal year 20102011 net earnings as follows: $1 million to the cooperative educational fund, $102$92 million to members in the form of patronage capital and $5$80 million to the members’ capital reserve. In July 2010, CFC’s2011, the CFC Board of Directors authorized the retirement of allocated net earnings totaling $51$46 million, representing 50 percent of the fiscal year 20102011 allocation. This amount was returned to members in cash in September 2010.2011. Future allocations and retirements of net earnings may be made annually as determined by CFC’sthe CFC Board of Directors with due regard for CFC’s financial condition. The CFC Board of Directors for CFC has the authority to change the current practice for allocating and retiring net earnings at any time, subject to applicable cooperative law.
Contractual Obligations
The following table summarizes our long-term contractual obligations at August 31, 2011 and the scheduled reductions for the remainder of theby fiscal year ended May 31, 2011, the next four fiscal years and thereafter as follows:thereafter:
(dollar amounts in millions) | (dollar amounts in millions) | | | | | | | | | | | | | | | (dollar amounts in millions) | | | | | | | | | | | | | | |
Contractual Obligations (1) | Contractual Obligations (1) | | 2011 | | 2012 | | 2013 | | 2014 | | 2015 | | Thereafter | | Total | | Contractual Obligations (1) | | 2012 | | 2013 | | 2014 | | 2015 | | 2016 | | Thereafter | | Total | |
Long-term debt due in less than one year | Long-term debt due in less than one year | | $ | 335 | | $ | 418 | | | $ | - | | | $ | - | | | $ | - | | $ | - | | $ | 753 | | Long-term debt due in less than one year | | $ | 2,158 | | $ | 307 | | | $ | - | | | $ | - | | | $ | - | | $ | - | | $ | 2,465 | |
Long-term debt | Long-term debt | | - | | | 1,804 | | | | 672 | | | | 2,381 | | | | 438 | | | 7,550 | | | 12,845 | | Long-term debt | | - | | | 437 | | | | 2,397 | | | | 446 | | | | 986 | | | 6,823 | | | 11,089 | |
Subordinated deferrable debt | Subordinated deferrable debt | | - | | | - | | | | - | | | | - | | | | - | | | 186 | | | 186 | | Subordinated deferrable debt | | - | | | - | | | | - | | | | - | | | | - | | | 186 | | | 186 | |
Members’ subordinated certificates (2) | Members’ subordinated certificates (2) | | - | | | 2 | | | | 60 | | | | 30 | | | | 32 | | | 1,491 | | | 1,615 | | Members’ subordinated certificates (2) | | - | | | 24 | | | | 12 | | | | 33 | | | | 17 | | | 1,490 | | | 1,576 | |
Operating leases (3) | Operating leases (3) | | 1 | | | 1 | | | | - | | | | - | | | | - | | | - | | | 2 | | Operating leases (3) | | 1 | | | - | | | | - | | | | - | | | | - | | | - | | | 1 | |
Contractual interest on long-term debt (4) | Contractual interest on long-term debt (4) | | 214 | | | 736 | | | | 625 | | | | 556 | | | | 507 | | | 6,558 | | | 9,196 | | Contractual interest on long-term debt (4) | | 551 | | | 637 | | | | 568 | | | | 519 | | | | 499 | | | 6,191 | | | 8,965 | |
Total contractual obligations | | | $ | 550 | | $ | 2,961 | | | $ | 1,357 | | | $ | 2,967 | | | $ | 977 | | $ | 15,785 | | $ | 24,597 | | | | $ | 2,710 | | $ | 1,405 | | | $ | 2,977 | | | $ | 998 | | | $ | 1,502 | | $ | 14,690 | | $ | 24,282 | |
(1) The table does not include contractual obligations of the entities that are included in our foreclosed assets.
(2) Excludes loan subordinated certificates totaling $216$190 million that amortize annually based on the outstanding balance of the related loan. There are many items that affect the amortization of a loan, such as loan conversions, loan repricing at the end of an interest rate term and prepayments; therefore, an amortization schedule cannot be maintained for these certificates. Over the past three years, annual amortization on these certificates has averaged $23 million. In fiscal year 2010,2011, amortization represented 916 percent of amortizing loan subordinated certificates outstanding.
(3) Primarily representsRepresents the payment obligation related to our lease of office space for our previous headquarters facility through the term of the lease endingwhich ends on October 17, 2011.
(4) Represents the interest obligation on our debt based on terms and conditions at February 28,August 31, 2011.
Off-Balance Sheet Obligations
Guarantees
The following table breaks out our guarantees outstanding by type of guarantee and by segment:company:
(dollar amounts in thousands) | | February 28, 2011 | | | May 31, 2010 | | | | Increase/ (Decrease) | | | August 31, 2011 | | May 31, 2011 | | | | Increase/ (decrease) | |
Total by type: | | | | | | | | | | | |
Total by guarantee type: | | | | | | | | | | |
Long-term tax-exempt bonds | $ | 600,665} | | | $ | 601,625 | | | $ | (960) | | $ | 597,915 | | $ | 599,935 | | | $ | (2,020) | |
Indemnifications of tax benefit transfers | | 62,154} | | | 69,982 | | | | (7,828) | | | 58,262 | | 59,895 | | | | (1,633) | |
Letters of credit | | 351,236} | | | 380,076 | | | | (28,840) | | | 327,490 | | 327,201 | | | | 289} | |
Other guarantees | | 118,122} | | | 119,426 | | | | (1,304) | | | 117,228 | | 117,957 | | | | (729) | |
Total | $ | 1,132,177} | | | $ | 1,171,109 | | | $ | (38,932) | | $ | 1,100,895 | | $ | 1,104,988 | | | $ | (4,093) | |
Total by segment: | | | | | | | | | | | |
Total by company: | | | | | | | | | | |
CFC | $ | 1,078,752} | | | $ | 1,128,763 | | | $ | (50,011) | | $ | 1,056,761 | | $ | 1,055,524 | | | $ | 1,237} | |
RTFC | | 821} | | | 636 | | | | 185} | | | 821 | | 821 | | | | -} | |
NCSC | | 52,604} | | | 41,710 | | | | 10,894} | | | 43,313 | | 48,643 | | | | (5,330) | |
Total | $ | 1,132,177} | | | $ | 1,171,109 | | | $ | (38,932) | | $ | 1,100,895 | | $ | 1,104,988 | | | $ | (4,093) | |
40
We guarantee certain contractual obligations
In addition to the letters of credit listed in the table, under master letter of credit facilities in place at August 31, 2011, we may be required to issue up to an additional $640 million in letters of credit to third parties for the benefit of our members somembers. At May 31, 2011, this amount was $700 million. New issuances of letters of credit under these master facilities are subject to material adverse change clauses at the time of issuance. Prior to issuing a letter of credit, we would confirm that they may obtain various formsthere has been no material adverse change in the business condition, financial or otherwise, of financing. We use the sameborrower since the time the loan was approved and confirm that the borrower is currently in compliance with the letter of credit policiesterms and monitoring procedures in providing guarantees as we do for loans and commitments. If a member system defaults on its obligation to pay debt service, then we are obligated to pay any required amounts under our guarantees. Meeting our guarantee obligations satisfies the underlying obligation of our member systems and prevents the exercise of remedies based upon a payment default by a member system.conditions. At February 28,August 31, 2011 and May 31, 2010, 752011, 74 percent and 7375 percent, respectively, of total guarantees were secured by a mortgage lien on substantially all of the system’s assets and future revenue.
The decrease in total guarantees during the ninethree months ended February 28,August 31, 2011 is primarily due to normal amortization of guaranteed debt and maturing letters of credit partially offset by twoseveral new tax-exempt bonds totaling $24 million issued during the period.letters of credit. At February 28,August 31, 2011 and May 31, 2010,2011, we recorded a guarantee liability totaling $23$22 million, which represents the contingent and non-contingent exposure related to guarantees and liquidity obligations associated with members’ debt.
The following table summarizes the off-balance sheet obligations at February 28,August 31, 2011, and the related notional principal amortization and maturities for the remainder of theby fiscal year ended May 31, 2011, the next four fiscal years and thereafter as follows:
| | | Principal Amortization and Maturities of Guaranteed Obligations | | | | Maturities of guaranteed obligations |
| Outstanding | | | | | | | | | | | | | | Outstanding | | | | | | | | | | | | |
(dollar amounts in thousands) | Balance | | 2011 | | 2012 | | 2013 | | 2014 | | 2015 | | Thereafter | | balance | | 2012 | | 2013 | | 2014 | | 2015 | | 2016 | | Thereafter |
Guarantees (1) | $1,132,177 | | $75,271 | | $302,638 | | $136,036 | | $58,710 | | $89,126 | | $470,396 | | $1,100,895 | | $265,116 | | $167,313 | | $58,472 | | $90,379 | | $22,817 | | $496,798 |
(1) On a total of $525For $523 million of tax-exempt bonds, we have unconditionally agreed to purchase bonds tendered or called for redemption at any time if the remarketing agents have not sold such bonds to other purchasers.
Contingent Off-Balance Sheet Obligations
Unadvanced Loan Commitments
At February 28, 2011, our unadvanced loanUnadvanced commitments totaled $13,826 million, a decrease of $368 million over the $14,194 million unadvanced at May 31, 2010. These are unadvanced commitments because werepresent approved and executed loan contracts butfor which the funds have not been advanced. Approximately 62 percent and 64 percent of the unadvanced commitments at February 28,At August 31, 2011 and May 31, 2010, respectively, were for short-term2011, we had the following amount of unadvanced commitments on loans to our borrowers.
(dollar amounts in thousands) | | August 31, 2011 | | % of Total | | | May 31, 2011 | | % of Total | | | | | | |
Long-term | $ | 5,524,092 | | 39 | % | $ | 5,461,484 | | 39 | % | | | | | |
Line of credit | | 8,772,994 | | 61 | | | 8,609,191 | | 61 | | | | | | |
Total | $ | 14,297,086 | | 100 | % | $ | 14,070,675 | | 100 | % | | | | | |
A total of $1,033 million and $999 million of line of credit loans.unadvanced commitments at August 31, 2011 and May 31, 2011, respectively, represented unadvanced commitments related to loans that are not subject to a material adverse change clause at the time of each loan advance. As such, we would be required to advance amounts on these committed facilities as long as the borrower is in compliance with the terms and conditions of the loan. The remaining available amounts at August 31, 2011 and May 31, 2011 are conditional obligations because they are generally subject to material adverse change clauses. Prior to making an advance under the majority of our unadvanced commitments,on these facilities, we confirm that there has been no material adverse change in the borrower’s business condition, financial or financial conditionotherwise, of the borrower since wethe time the loan was approved and confirm that the loan.borrower is currently in compliance with loan terms and conditions.
Unadvanced commitments related to line of credit loans are typically revolving facilities for periods not to exceed five years. It is our experience that unadvanced commitments related to line of credit loans are usually not fully drawn. We believe these conditions will continue for the following reasons:
· | electric cooperatives generate a significant amount of cash from the collection of revenue from their customers, so they usually do not need to draw down on loan commitments to supplement operating cash flow; |
· | the majority of the line of credit unadvanced commitments provide backup liquidity to our borrowers; and |
· | historically, we have experienced a very low utilization rate on line of credit loan facilities, whether or not there is a material adverse change clause at the time of advance. |
In our experience, unadvanced commitments related to term loans may not be fully drawn and that borrowings by members occur in multiple transactions over an extended period of time. We believe these practicesconditions will continue for the following reasons:
· | electric cooperatives typically execute loan contracts to cover multi-year work plans and, as such, it is expected that advances on such loans will occur over a multi-year period; |
· | electric cooperatives generate a significant amount of cash from the collection of revenue from their customers, so they usually do not need to draw down on loan commitments to supplementthus operating cash flow;flow is available to reduce the amount of additional funding needed for capital expenditures and maintenance; |
· | we generally do not charge our membersborrowers a fee on the amount of thelong-term unadvanced commitment;commitments; and |
· | long-term unadvanced commitments generally expire within five years of the first advance on a loan; and |
· | the majority of the short-term unadvanced commitments provide backup liquidity to our borrowers; therefore, we do not anticipate funding most of these commitments.loan. |
Unadvanced commitments that are subject to a material adverse change clause are classified as contingent liabilities. Based on the conditions to advance funds described above, the majority of our unadvanced loan commitments do not represent off-balance sheet liabilities and have not been included with guarantees in the table summarizingour off-balance sheet obligationsdisclosures above. We do, however, record a reserve for credit losses associated with our unadvanced commitments for committed facilities that are not subject to a material adverse change clause. The following table summarizes the available balance under committed lines of credit at August 31, 2011, and the related maturities by fiscal year and thereafter as follows:
| | | Maturities of unadvanced committed lines of credit |
| Available | | | | | | | | | | | | |
(dollar amounts in thousands) | balance | | 2012 | | 2013 | | 2014 | | 2015 | | 2016 | | Thereafter |
Committed lines of credit | $1,032,860 | | $75,000 | | $214,298 | | $335,783 | | $65,875 | | $149,805 | | $192,099 |
Ratio Analysis
Leverage Ratio
The leverage ratio is calculated by dividing the sum of total liabilities and guarantees outstanding by total equity. Based on this formula, the leverage ratio at February 28,August 31, 2011 was 31.71-to-1, a decrease37.36-to-1, an increase from 35.33-to-130.52-to-1 at May 31, 2010.2011. The decreaseincrease in the leverage ratio is due to the increasedecrease of $83$133 million in total equity, and the decrease of $39 million in guarantees,partially offset by the increasedecreases of $537$272 million in total liabilities and $4 million in guarantees as discussed under the Liabilities and Equity section and the Off-Balance Sheet Obligations section of Financial Condition.
For covenant compliance on our revolving credit agreements and for internal management purposes, the leverage ratio calculation is adjusted to exclude derivative liabilities, debt used to fund loans guaranteed by RUS, subordinated deferrable debt and subordinated certificates from liabilities; uses members’ equity rather than total equity; and adds subordinated deferrable debt and subordinated certificates to calculate adjusted equity.
At February 28,August 31, 2011 and May 31, 2010,2011, the adjusted leverage ratio was 6.68-to-1 and 6.34-to-1, respectively.6.48-to-1. See Non-GAAP Financial Measures for further explanation and a reconciliation of the adjustments we make to our leverage ratio calculation. The increase in the adjusted leverage ratio is due to the increasedecreases of $704$369 million in adjusted liabilities and $4 million to guarantees were offset by the $57 million decrease of $43 million in adjusted equity offset by the decrease of $39 million to guarantees as discussed under the Liabilities and Equity section and the Off-Balance Sheet Obligations section of Financial Condition. In addition to the adjustments made to the leverage ratio in the Non-GAAP Financial Measures section, guarantees to member systems that have certain investment-grade ratings from Moody’s Investors Service and Standard & Poor’s Corporation are excluded from the calculation of the leverage ratio under the terms of the revolving credit agreements.
Debt-to-Equity Ratio
The debt-to-equity ratio is calculated by dividing the sum of total liabilities outstanding by total equity. The debt-to-equity ratio based on this formula at February 28,August 31, 2011 was 30.02-to-1, a decrease35.38-to-1, an increase from 33.33-to-128.92-to-1 at May 31, 2010.2011. The decrease
increase in the debt-to-equity ratio is due to an increasethe decrease of $83$133 million in total equity, partially offset by an increasethe decrease of $537$272 million in total liabilities as discussed under the Liabilities and Equity section of Financial Condition.
For internal management purposes, the debt-to-equity ratio calculation is adjusted to exclude derivative liabilities, debt used to fund loans guaranteed by RUS, subordinated deferrable debt and subordinated certificates from liabilities; uses members’ equity rather than total equity; and adds subordinated deferrable debt and subordinated certificates to determine adjusted equity. At February 28,August 31, 2011 and May 31, 2010,2011, the adjusted debt-to-equity ratio was 6.27-to-16.08-to-1 and 5.93-to-1,6.09-to-1, respectively. See Non-GAAP Financial Measures for further explanation and a reconciliation of the adjustments made to the debt-to-equity ratio calculation. The increasedecrease in the adjusted debt-to-equity ratio is due to the increasedecrease of $704$369 million in adjusted liabilities, andmostly offset with the decrease of $43$57 million in adjusted equity.
Liquidity and Capital Resources
The following section discusses our expected sources and uses of liquidity. At February 28,August 31, 2011, we expect that our current sources of liquidity will allow us to issue the debt required to fund our operations over the next 12 to 18 months.
The table below shows the projected sources and uses of cash by quarter through August 31, 2012.February 28, 2013. In analyzing our projected liquidity position, we track key items identified in the chart below. The long-term debt maturities represent the scheduled maturities of our outstanding term debt for the period presented. The long-term loan advances represent our current best estimate of the member demand for our loans, the amount and the timing of which are subject to change. The long-term loan amortization and prepayments represent the scheduled long-term loan amortization for the outstanding loans at February 28,August 31, 2011, as well as our current estimate for the prepayment of long-term loans. The estimate of the amount and timing of long-term loan prepayments is subject to change. We assumed the issuance of commercial paper, medium-term notes and other long-term debt, including collateral trust bonds and private placement of term debt, to maintain matched funding within our loan portfolio and to allow our revolving lines of credit to provide backup liquidity for our outstanding commercial paper. Commercial paper repayments in the table below do not represent scheduled maturities but rather the assumed use of excess cash to pay down the commercial paper balance.
| | Projected Uses of Liquidity | | | | Projected Sources of Liquidity | | | | | | Projected uses of liquidity | | | | Projected sources of liquidity | | | | |
| | | | | | | | | | | | Debt Issuance | | | | Cumulative | | | | | | | | | | Long-term | | Debt Issuance | | | | Cumulative |
(dollar amounts in millions) | | Long-term debt maturities | | Debt repayment-commercial paper | | Long-term loan advances | | Total uses of liquidity | | amortization & prepayment | | Commercial paper | | Other long-term debt | | Medium-term notes | | Total sources of liquidity | | over uses of liquidity | | Long-term debt maturities | | commercial paper | | Long-term loan advances | | Total uses of liquidity | | loan amortization & prepayment | | Commercial paper | | Other long-term debt | | Medium term notes | | Total sources of liquidity | | over uses of liquidity |
3Q11 | | | | | | | | | | | | | | | | | | | | $ 399 | |
4Q11 | | $ 334 | | $ 150 | | $ 282 | | $ 766 | | $ 326 | | $ - | | $ 150 | | $ 250 | | $ 726 | | 359 | |
1Q12 | | 120 | | 150 | | 276 | | 546 | | 481 | | - | | - | | 100 | | 581 | | 394 | | | | | | | | | | | | | | | | | | | | $ 568 | |
2Q12 | | 191 | | 275 | | 149 | | 615 | | 494 | | - | | - | | 100 | | 594 | | 373 | | $ 441 | | $ 100 | | $ 194 | | $ 735 | | $ 541 | | $ - | | $ - | | $ 100 | | $ 641 | | 474 | |
3Q12 | | 99 | | - | | 194 | | 293 | | 337 | | - | | 350 | | 350 | | 1,037 | | 1,117 | | 364 | | - | | 351 | | 715 | | 389 | | - | | - | | 250 | | 639 | | 398 | |
4Q12 | | 1,804 | | - | | 291 | | 2,095 | | 339 | | 300 | | 400 | | 350 | | 1,389 | | 411 | | 1,353 | | - | | 163 | | 1,516 | | 350 | | 400 | | 450 | | 350 | | 1,550 | | 432 | |
1Q13 | | 261 | | - | | 309 | | 570 | | 287 | | - | | 150 | | 100 | | 537 | | 378 | | 307 | | - | | 303 | | 610 | | 336 | | - | | 150 | | 100 | | 586 | | 408 | |
2Q13 | | | 272 | | - | | 128 | | 400 | | 263 | | - | | - | | 100 | | 363 | | 371 | |
3Q13 | | | 36 | | 350 | | 98 | | 484 | | 403 | | - | | - | | 100 | | 503 | | 390 | |
Totals | | $ 2,809 | | $ 575 | | $ 1,501 | | $ 4,885 | | $ 2,264 | | $ 300 | | $ 1,050 | | $ 1,250 | | $ 4,864 | | | | $ 2,773 | | $ 450 | | $ 1,237 | | $ 4,460 | | $ 2,282 | | $ 400 | | $ 600 | | $ 1,000 | | $ 4,282 | | | |
The above chart represents our best estimate of the funding requirements and how we expect to manage such funding requirements through August 31, 2012.February 28, 2013. These estimates will change on a quarterly basis based on many factors.
Sources of Liquidity
Capital Market Debt Issuance
As a well-known seasoned issuer, we have the following effective shelf registration statements on file with the U.S. Securities and Exchange Commission for the issuance of debt:
· | unlimited amount of collateral trust bonds until September 2013; |
· | unlimited amount of medium-term notes, member capital securities and subordinated deferrable debt until November 2011;2011 (at which time we expect to file a new registration statement that will be effective until November 2014); and |
· | daily liquidity fund for a total of $20,000 million with a $3,000 million limitation on the aggregate principal amount outstanding at any time until April 2013. |
In November 2010, we issued $300 million of 1.125 percent collateral trust bonds due 2013 and $350 million of 1.900 percent collateral trust bonds due 2015. In February 2011, we issued $300 million of 3.050 percent collateral trust bonds due 2016. In March 2011, we issued $250 million of nine-month floating-rate medium-term notes in a registered offering.
In addition, we have a commercial paper program to sell commercial paper to investors in the capital markets. We limit the amount of commercial paper that can be sold to the amount of backup liquidity available under our revolving credit agreements. Commercial paper issued through dealers and bank bid notes totaled $2,145$1,367 million and represented 117 percent of total debt outstanding at February 28,August 31, 2011. We intend to maintain the balance of dealer commercial paper and bank bid notes at 15 percent or less of total debt outstanding during fiscal year 2011.
During the second quarter of fiscal year 2011, we elected to re-enter the retail notes market. Additional market funding through the issuance of retail notes had been unnecessary since November 2009 when the outstanding balance had reached $1,093 million. We plan to use retail notes as a supplemental source of unsecured funding through the remainder of fiscal year 2011. The total balance of retail notes outstanding was $555 million at February 28, 2011.2012.
Private Debt Issuance
We have access to liquidity from private debt issuances through a note purchase agreementsagreement with the Federal Agricultural Mortgage Corporation. AllAt August 31, 2011 and May 31, 2011, we had secured notes payable of $1,411 million outstanding to the Federal Agricultural Mortgage Corporation under a note purchase agreement totaling $3,900 million. Under the terms of our March 2011 note purchase agreement, we can borrow up to $3,900 million at any time from the date of the note purchase agreementsagreement through January 11, 2016 and thereafter automatically extend the agreement on each anniversary date of the closing for an additional year, unless prior to any such anniversary date, the Federal Agricultural Mortgage Corporation provides CFC with a notice that the draw period will not be extended beyond the then remaining term. The agreement with the Federal Agricultural Mortgage Corporation areis a revolving credit facilitiesfacility that allowallows us to borrow, repay and re-borrow funds at any time priorthrough maturity or from time to the maturity date of the applicable agreement,time as market conditions permit, provided that the principal amount at any time
outstanding under eachthe note purchase agreement is not more than the total available under suchthe agreement. Each borrowing under a note purchase agreement is evidenced by a secured note setting forth the interest rate, maturity date and other related terms as we may negotiate with the Federal Agricultural Mortgage Corporation at the time of each such borrowing. Repayment and re-borrowing of funds is subject to the maturity date and prepayment terms of each secured note payable. In September 2010 and October 2010, we issued notes totaling $400 million to the Federal Agricultural Mortgage Corporation. These notes matured during the third quarter of fiscal year 2011.
In January 2011, we entered into a $1,500 million revolving note purchase agreement with the Federal Agricultural Mortgage Corporation. Under the terms of this note purchase agreement, we can borrow up to the available amount at any time during the draw period, which is initially five years from the closing date and thereafter automatically extended on each anniversary date of the closing for an additional year, unless prior to any such anniversary date, the Federal Agricultural Mortgage Corporation provides CFC with a notice that the draw period will not be extended beyond the then-remaining term. We may select a fixed rate or variable rate at the time of each advance with a maturity as determined in the applicable pricing agreement. No amounts have been advanced under the $1,500 million note purchase agreementAt August 31, 2011 and through the filing date of this report. As a result,filing, we have $2,413up to $2,489 million available under revolving note purchase agreements with the Federal Agricultural Mortgage Corporation through the filing date,this agreement, subject to market conditions for debt issued by the Federal Agricultural Mortgage Corporation at favorable pricing.Corporation.
In November 2010,At August 31, 2011 and May 31, 2011, we closed onhad $3,150 million of unsecured notes payable outstanding under a bond purchase agreement with the Federal Financing Bank and a bond guarantee agreement with RUS issued under the Guaranteed Underwriter program of the U.S. Department of Agriculture, which supports the Rural Economic Development Loan and Grant program and provides guarantees to the Federal Financing Bank. As part of this program, we had up to $350 million available under a $500 million committed loan facility from the Federal Financing Bank with a guarantee of repayment by RUS as part of the funding mechanism for the Rural Economic Development Loanat August 31, 2011 and Grant program.May 31, 2011. Under this facility, CFC is able to borrow up to the committed amount any time before October 15, 2013, with each advance having a final maturity not longer than 20 years from the advance date. Subsequent to February 28,In September 2011, we borrowed $150received an additional commitment from the Federal Financing Bank to provide funding up to $499 million under this facility at a weighted average interest rate of 2.726 percent with a repricingguarantee of repayment by RUS. Under this Federal Financing Bank loan facility, we can borrow up to an additional $499 million with a 20-year maturity during the three-year period ranging from five to 12 years and a final maturityfollowing the date of 20 years.closing.
Member Loan Repayments
We expect long-term loan repayments from scheduled loan amortization and prepayments to be $1,638$1,616 million over the next 12 months.
Member Loan Interest Payments
During the ninethree months ended February 28,August 31, 2011, interest income on the loan portfolio was $747$244 million, representing an average yield of 5.165.11 percent compared with 5.255.12 percent for the ninethree months ended February 28,August 31, 2010. For the past three fiscal years, interest income on the loan portfolio has averaged $1,043$1,030 million. At February 28,August 31, 2011, 8588 percent of the total loans outstanding had a fixed rate of interest, and 1512 percent of loans outstanding had a variable rate of interest. At February 28,August 31, 2011, 3 percent of loans outstanding were on non-accrual status.
Bank Revolving Credit Agreements
The following is a summary of the amounts available under our revolving credit agreements:
(dollar amounts in thousands) | (dollar amounts in thousands) | | February 28, 2011 | | May 31, 2010 | | Termination Date | | Facility fee per year (1) | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 | | Termination date | | Facility fee per year (1) | |
Five-year agreement | Five-year agreement | $ | 967,313 | | $ | 967,313 | | March 22, 2011 | | 6 basis points | Five-year agreement | $ | 1,049,000 | | $ | 1,049,000 | | March 16, 2012 | | 6 basis points | |
Five-year agreement | | 1,049,000 | | 1,049,000 | | March 16, 2012 | | 6 basis points | |
Three-year agreement (2) | | Three-year agreement (2) | | 1,376,364 | | 1,370,526 | | March 8, 2013 | | 25 basis points | |
Three-year agreement (2)(3) | Three-year agreement (2)(3) | | 1,369,919 | | 1,334,309 | | March 8, 2013 | | 25 basis points | Three-year agreement (2)(3) | | 1,125,000 | | 1,125,000 | | March 21, 2014 | | 15 basis points | |
Total | | $ | 3,386,232 | | $ | 3,350,622 | | | | | | $ | 3,550,364 | | $ | 3,544,526 | | | | | |
(1) Facility fee determined by CFC’s senior unsecured credit ratings based on the pricing schedules put in place at the inception of the related agreement.
(2) We may request letters of credit for up to $100 million under this agreement, which then reduces the amount available under the facility. The available amount presented at February 28,August 31, 2011 and May 31, 20102011 is reduced by total letters of credit outstanding of $15.1$8.6 million and $0.7$14.5 million, respectively.
Effective November 15, 2010, we exercised our right(3) We may request letters of credit for up to increase$100 million under this agreement, which then reduces the aggregate amount of the commitmentavailable under the three-year revolvingfacility. At August 31, 2011 and May 31, 2011, there were no letters of credit agreement expiring on March 8, 2013 by $50 million to a total of $1,385 million.
On March 21, 2011, we replaced the $967 million, five-year revolving credit agreement that terminated on March 22, 2011 with a new $1,125 million, three-year agreement that expires on March 21, 2014. As a result, the total committed credit availableoutstanding under our three current facilities was $3,544 million at March 21, 2011.this facility.
The revolving credit agreements do not contain a material adverse change clause or ratings triggers that limit the banks’ obligations to fund under the terms of the agreements, but we must be in compliance with their other requirements, including financial ratios, to draw down on the facilities. SeeFor further discussion undersee the Compliance with Debt Covenants section below.section.
Member Investments
The table below shows the components of our member investments included in total debt outstanding:
| | February 28, 2011 | | | May 31, 2010 | | | Increase/ | | | August 31, 2011 | | | May 31, 2011 | | Increase/ | |
(dollar amounts in thousands) | | Amount | | % of Total (1) | | | Amount | | % of Total (1) | | | (Decrease) | | | Amount | | % of Total (1) | | | Amount | | % of Total (1) | | (decrease) | |
Commercial paper (2) | $ | 1,459,337 | | 43 | % | $ | 1,371,159 | | 61 | % | $ | 88,178} | | $ | 1,641,882 | | 59 | % | $ | 1,498,495 | | 50 | % | $ | 143,387} | |
Medium-term notes | | 445,387 | | 13 | | | 634,401 | | 15 | | | (189,014) | | | 364,922 | | 11 | | | 371,961 | | 10 | | (7,039) | |
Members’ subordinated certificates | | 1,840,248 | | 100 | | | 1,810,715 | | 100 | | | 29,533} | | | 1,778,058 | | 100 | | | 1,813,652 | | 100 | | (35,594) | |
Total | $ | 3,744,972 | | | | $ | 3,816,275 | | | | $ | (71,303) | | $ | 3,784,862 | | | | $ | 3,684,108 | | | | $ | 100,754} | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Percentage of total debt outstanding | | 19 | % | | | | 20 | % | | | | | | | 20 | % | | | | 19 | % | | | | | |
(1) Represents the percentage of each line item outstanding to our members.
(2) Includes $284$345 million and $372$309 million related to the daily liquidity fund at February 28,August 31, 2011 and May 31, 2010,2011, respectively.
Member commercial paper investments averaged $1,172$1,122 million outstanding duringover the last three fiscal years and the nine months ended February 28, 2011.years. We view member commercial paper investments as a more stable source of funding than investor-purchased commercial paper.
Cash Flows from Operations
For the ninethree months ended February 28,August 31, 2011, cash flows provided by operating activities were $185$131 million compared with $169$124 million for the prior-year period. Our cash flows from operating activities are driven primarily by a combination of cash flows from operating income and the timing and amount of loan interest payments we received compared with interest payments we made on our debt.
Compliance with Debt Covenants
At February 28,August 31, 2011, and May 31, 2010, we were in compliance with all covenants and conditions under our revolving credit agreements and senior debt indentures.
The following represents our required and actual financial ratios under the revolving credit agreements:
| | | | | Actual | | | | | | Actual | |
| | | Requirement | | February 28, 2011 | | May 31, 2010 | | | | Requirement | | August 31, 2011 | | May 31, 2011 | |
| | | | | | | | | | | | | | | | |
Minimum average adjusted TIER over the six most recent fiscal quarters | Minimum average adjusted TIER over the six most recent fiscal quarters | 1.025 | | 1.14 | | 1.25 | | Minimum average adjusted TIER over the six most recent fiscal quarters | 1.025 | | 1.19 | | 1.19 | |
| | | | | | | | | | | | | | | | |
Minimum adjusted TIER for the most recent fiscal year (1) | Minimum adjusted TIER for the most recent fiscal year (1) | | 1.05 | | 1.12 | | 1.12 | | Minimum adjusted TIER for the most recent fiscal year (1) | | 1.05 | | 1.21 | | 1.21 | |
| | | | | | | | | | | | | | | | |
Maximum ratio of adjusted senior debt to total equity | | | 10.00 | | 6.46 | | 6.15 | | | | 10.00 | | 6.26 | | 6.26 | |
(1) We must meet this requirement to retire patronage capital.
The revolving credit agreements prohibit liens on loans to members except liens:
· | related to taxes that are not delinquent or contested, |
· | stemming from certain legal proceedings that are being contested in good faith, |
· | created by CFC to secure guarantees by CFC of indebtedness the interest on which is excludable from the gross income of the recipient for federal income tax purposes, |
· | granted by any subsidiary to CFC, and |
· | to secure up to $7,500 million on any other indebtedness of CFC. Such amount under our revolving credit agreement that terminated on March 22, 2011 was limited to $7,000 million. As of February 28,August 31, 2011, the amount of our secured borrowings as defined under all three revolving credit agreements was $4,512$4,586 million. |
The revolving credit agreements limit new investments in the USVIICC operating entities obtained by CAH as foreclosed assets to $275 million without consent by the required banks. NewThese investments in the USVI entities at February 28,August 31, 2011 did not exceed this limit.
The following represents our required and actual financial ratios as defined under our 1994 collateral trust bonds indenture and our medium-term notes indentures in the United States markets:
| | | | Actual | |
| | | | 1994 Collateral Trust Bonds and U.S. Medium-Term Notes Indentures | |
| | Requirement | | February 28, 2011 | | May 31, 2010 | |
Maximum ratio of adjusted senior debt to total equity | 20.00 | | 7.04 | | 6.78 | |
| | | | Actual | |
| | | | 1994 collateral trust bonds and U.S. medium-term notes indentures | |
| | Requirement | | August 31, 2011 | | May 31, 2011 | |
Maximum ratio of adjusted senior debt to total equity | 20.00 | | 7.35 | | 6.98 | |
We are required to pledge collateral equal to at least 100 percent of the outstanding balance of debt issued under our collateral trust bond indentures and note purchase agreements with the Federal Agricultural Mortgage Corporation. We pledge distribution mortgage loans and permitted investments under our collateral trust bond indentures. We pledge distribution and power supply mortgage loans under the note purchase agreements with the Federal Agricultural Mortgage Corporation, which permit up to 20 percent of loans pledged to be from power supply systems. In addition, we are required to maintain collateral on deposit equal to at least 100 percent of the outstanding balance of debt outstanding to the Federal Financing Bank under the Guaranteed Underwriter program of the U.S. Department of Agriculture, which supports the Rural Economic Development Loan and Grant program, for which distribution and power supply loans may be deposited.
Although not required, we typically maintain pledged collateral See Pledging of Loans and collateralLoans on deposit Deposit in excess of the required 100 percent of the outstanding balance of debt issued. However, our revolving credit agreements limit pledged collateral to 150 percent of the outstanding balance of debt issued. The excess collateral ensures that required collateral levels are maintainedNote 2, Loans and when an opportunity exists, facilitates timely execution of debt issuances by reducing or eliminating the lead time required to pledge collateral. Collateral levels fluctuate because:
· | distribution and power supply loans typically amortize, while the debt issued under secured indentures and agreements have bullet maturities; |
· | individual loans may become ineligible for various reasons, some of which may be temporary; and |
· | distribution and power supply borrowers have the ability to prepay their loans. |
We may request the return of collateral pledged or held on deposit in excess of the 100 percent of the principal balance requirement or may move the collateral from one program to another to facilitate a new debt issuance, provided that all conditions of eligibility under the different programs are satisfied.
The $3,000 million of notes payable to the Federal Financing Bank as part of the funding mechanismCommitments, for the Rural Economic Development Loan and Grant program at February 28, 2011 contain a rating triggeradditional information related to our senior secured credit ratings from Standard & Poor’s Corporation and Moody’s Investors Service. A rating trigger event occurs if our senior secured debt does not have at least two of the following ratings: (i) A- or higher from Standard & Poor’s Corporation, (ii) A3 or higher from Moody’s Investors Service and (iii) an equivalent rating from a successor rating agency to any of the above rating agencies. If our senior secured credit ratings fall below the levels listed above, the mortgage notes on deposit at that time, which totaled $3,438 million at February 28, 2011, would be pledged as collateral rather than held on deposit. Also, if during any portion of a fiscal year our senior secured credit ratings fall below the levels listed above, we may not make cash patronage capital distributions in excess of 5 percent of total patronage capital. At February 28, 2011, our senior secured debt ratings from Standard & Poor’s Corporation and Moody’s Investors Service were A+ and A1, respectively. At February 28, 2011, both Standard & Poor’s Corporation and Moody’s Investors Service had our ratings on stable outlook.collateral.
The following table summarizes the amount of collateral pledged or on deposit as a percentage of the related debt outstanding under the debt agreements noted above:
| | | Requirement | | Actual | | | Requirement | | Actual |
Debt agreement | Debt agreement | | Debt Indenture Minimum | | Revolving Credit Agreements Maximum | | February 28, 2011 | | May 31, 2010 | Debt agreement | | Debt indenture minimum | | Revolving credit agreements maximum | | August 31, 2011 | | May 31, 2011 |
Collateral trust bonds | Collateral trust bonds | | 100% | | 150% | | 117 | % | | 114% | Collateral trust bonds | | 100% | | 150% | | 115 | % | | 115% |
Federal Agricultural Mortgage Corporation | Federal Agricultural Mortgage Corporation | | 100 | | 150 | | 128 | | | 132 | Federal Agricultural Mortgage Corporation | | 100 | | 150 | | 125 | | | 127 |
Clean Renewable Energy Bonds Series 2009A (1) | Clean Renewable Energy Bonds Series 2009A (1) | | 100 | | 150 | | 120 | | | 125 | Clean Renewable Energy Bonds Series 2009A (1) | 100 | | 150 | | 116 | | | 118 |
Federal Financing Bank (2) | | | 100 | | 150 | | 115 | | | 119 | | | 100 | | 150 | | 115 | | | 115 |
(1) The limit of 150 percent on collateral pledged under the revolving credit agreements excludes cash pledged as collateral of $10 million and $13$8 million as of February 28,August 31, 2011 and May 31, 2010, respectively.2011.
(2) Represents collateral on deposit as a percentage of the related debt outstanding.
Uses of Liquidity
Loan Advances
Loan advances are either from new loans approved to membersborrowers or from the unadvanced portion of loans previously approved. At February 28,August 31, 2011, unadvanced loan commitments totaled $13,826$14,297 million. WeOf that total at August 31, 2011, $1,033 million represented unadvanced commitments related to line of credit loans that are not subject to a material adverse change clause at the time of each loan advance. As such, we would be required to advance amounts on these committed facilities as long as the borrower is in compliance with the terms and conditions of the loan. New advances under 49 percent of these committed facilities would be advanced at CFC’s standard rates and, therefore, any increase in CFC’s costs to obtain funding required to make the advance could be passed on to the borrower. The remaining $13,264 million of unadvanced loan commitments at August 31, 2011 were generally subject to material adverse change clauses. Prior to making an advance on these facilities, we would confirm that there has been no material adverse change in the borrowers’ business or financial condition since the time the loan was approved and confirm that the borrower is currently in compliance with loan terms and conditions.
Since we generally do not expectcharge a fee for the borrower to advancehave an unadvanced amount on a loan facility that is subject to a material adverse change clause, our borrowers tend to request amounts in excess of their immediate estimated loan requirements. It has been our history that we do not see significant loan advances from the fulllarge amount of long-term unadvanced loan amounts that are subject to material adverse change clauses at the time of the loan advance. We have a very low historical average utilization rate on all our line of credit unadvanced commitments.loans, including committed line of credit facilities. Unadvanced commitments generallyrelated to line of credit loans are typically revolving facilities for periods not to exceed five years. Unadvanced commitments for long-term loans typically expire within five years of the first advance on a loan andadvance. The above items all contribute to our expectation that the majority of short-termthe unadvanced commitments are used as backup liquidity for member operations. Approximately 62 percent ofreported will expire without being fully drawn upon and that the outstanding commitmentstotal commitment amount does not necessarily represent future cash funding requirements at February 28, 2011 were for short-term line of credit loans. August 31, 2011.
We currently expect to fundmake long-term loan advances totaling $901approximately $1,011 million to our members over the next 12 months either from new loans approved to members or from unadvanced commitments.months.
Interest Expense on Debt
For the ninethree months ended February 28,August 31, 2011, interest expense on debt was $623$194 million, representing an average cost of 4.504.18 percent compared with 4.724.71 percent for the prior-year period.three months ended August 31, 2010. For the past three fiscal years, interest expense on debt has averaged $907$875 million. At February 28,August 31, 2011, 7980 percent of outstanding debt had a fixed interest rate and 2120 percent had a variable interest rate.
Principal Repayments on Long-Term Debt
The principal amount of medium-term notes, collateral trust bonds, long-term notes payable, subordinated deferrable debt and membership subordinated certificates maturing for the remainderin each of the year ended Mayfive fiscal years following August 31, 2011 the next four full fiscal years and thereafter is as follows:
| | | Amount | | | | Amount | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | Maturing (1) | | (dollar amounts in thousands) | | maturing (1) | |
May 31, 2011 | $ | 334,862 | | |
May 31, 2012 | May 31, 2012 | | 2,224,764 | | May 31, 2012 | $ | 2,157,686 | |
May 31, 2013 | May 31, 2013 | | 731,761 | | May 31, 2013 | | 768,172 | |
May 31, 2014 | May 31, 2014 | | 2,410,559 | | May 31, 2014 | | 2,408,936 | |
May 31, 2015 | May 31, 2015 | | 469,927 | | May 31, 2015 | | 478,480 | |
May 31, 2016 | | May 31, 2016 | | 1,002,739 | |
Thereafter | Thereafter | | 9,227,550 | | Thereafter | | 8,499,995 | |
Total | | $ | 15,399,423 | | | $ | 15,316,008 | |
(1) Excludes loan subordinated certificates totaling $216$190 million that amortize annually based on the outstanding balance of the related loan. There are many items that affect the amortization of a loan, such as loan conversions, loan repricing at the end of an interest rate term and prepayments; therefore, an amortization schedule cannot be maintained for these certificates. Over the past three years, annual amortization on these certificates has averaged $23 million. In fiscal year 2010,2011, amortization represented 916 percent of amortizing loan subordinated certificates outstanding.
Patronage Capital Retirements
CFC has made annual retirements of allocated net earnings in 3132 of the last 3233 years. In July 2010,2011, the CFC Board of Directors approved the allocation of $102$92 million from fiscal year 20102011 net earnings to CFC’s members. CFC made a cash payment of $51$46 million to its members in September 20102011 as retirement of 50 percent of allocated net earnings from the prior year as approved by CFC’sthe CFC Board of Directors. The remaining portion of allocated net earnings will be retained by CFC for 25 years under guidelines adopted by CFC’sthe CFC Board of Directors in June 2009.
Market Risk
Our primary market risks are liquidity risk, interest rate risk and counterparty risk as a result of entering into derivative financial instruments.
Liquidity Risk
We face liquidity risk in funding our loan portfolio and refinancing our maturing obligations. Our Asset Liability Committee monitors liquidity risk by establishing and monitoring liquidity targets, as well as strategies and tactics to meet those targets, and ensuring that sufficient liquidity is available for unanticipated contingencies.
We face liquidity risk in the funding of our loan portfolio based on member demand for new loans, although as presented in our projected sources and uses of liquidity chart on page 43, we expect over the next six quarters that repayments on our long-term loans will exceed long-term loan advances by an estimated $1,045 million.
At February 28,August 31, 2011, we had $3,674$3,063 million of commercial paper, daily liquidity fund and bank bid notes scheduled to mature during the next 12 months. Based on past history, we expect to continue to maintain member investments in commercial paper and the daily liquidity fund at approximately the current level of $1,459$1,642 million at February 28,August 31, 2011, which represents an increase of $88$144 million from the balance at May 31, 2010.2011. Dealer commercial paper and bank bid notes increaseddecreased from $870$1,767 million at May 31, 20102011 to $2,145$1,367 million at February 28,August 31, 2011. TheWe expect the dealer commercial paper balance will fluctuate to offset changes in demand from our members. We intend to maintain the current balancelevel of commercial paper issuanceoutstanding while favorable market conditions exist. We intend to limit the balance of dealer commercial paper and bank bid notes outstanding to 15 percent or less of total debt outstanding. At February 28,August 31, 2011, 15 percent of total debt outstanding was $2,893$2,785 million. In order to access the commercial paper markets at current levels, we believe we need to maintain our current ratings for commercial paper of P1 from Moody’s Investors Service and A1 from Standard & Poor’s Corporation.
We also limit dealer and member commercial paper to the amount of our bank lines of credit available to provide backup liquidity. At February 28,August 31, 2011, we had $3,386$3,550 million in available lines of credit with financial institutions. On March 21, 2011, we replaced the $967 million, five-year revolving credit agreement that terminated on March 22, 2011 with a new $1,125 million, three-year agreement that expires on March 21, 2014. As a result, the total committed credit available under our three current facilities increased $158 million to $3,544 million at March 21, 2011. We expect to be in compliance with the covenants under our revolving credit agreements; therefore, we could draw on these facilities to repay any amount of dealer or member commercial paper that cannot be rolled over in the event of market disruptions. We anticipate closing two new revolving credit facilities in October 2011. The two new facilities will replace the $1,049 million facility maturing in March 2012 and the $1,376 million facility maturing in March 2013, both of which will be terminated early. The two new facilities will mature in October 2015 and 2016. The fees on the new agreements are expected to be lower resulting in savings to us. We expect a reduction of approximately $700 million to our total revolving lines or credit as a result of the refinancing, which will also reduce the total amount of commercial paper that we can issue. We currently have
excess commercial paper issuance authority and we expect our total outstanding loan balance to decline through the rest of fiscal year 2012, which will result in a lower level of demand for commercial paper funding.
At February 28,August 31, 2011, we had long-term debt maturing in the next 12 months totaling $753$2,465 million. In addition to our access to the dealer and member commercial paper markets as discussed above, we believe we will be able to refinance these maturing obligations because:
· | Based on past history, we expect to maintain the ability to roll over our short-term medium-term notes sold through dealers (primarily retail notes) of $315 million at February 28, 2011. The total balance of retail notes outstanding was $555 million at February 28, 2011. Additional market funding through the issuance of retail notes has been unnecessary since November 2009 when the outstanding balance had reached $1,093 million; however, during the second quarter of fiscal year 2011, we elected to re-enter the retail market. Based on past history, as well as recent retail note issuances totaling $54 million during the nine months ended February 28, 2011, we believe such market funding is available to us on a supplemental basis. |
· | Based on past history, we expect to maintain the ability to roll over our short-term medium-term notes sold to members of $340 million at February 28, 2011 if we need this funding in the future. |
· | We expect to maintain the ability to obtain funding through the capital markets. In November 2010,During fiscal 2011, we issued $950 million of collateral trust bonds and $250 million of medium-term notes through registered offerings. |
$300 million of 1.125 percent collateral trust bonds due 2013 and $350 million of 1.900 percent collateral trust bonds due 2015. In February 2011, we issued $300 million of 3.050 percent collateral trust bonds due 2016.
· | In January 2011, we entered intoWe can borrow up to $3,900 million under a $1,500 million revolving note purchase agreement with the Federal AgriculturalAgriculture Mortgage Corporation. Under the terms of this note purchase agreement we can borrow up to the available amountCorporation at any time during the draw period, which is initially five years from the closing date and thereafter automatically extended on each anniversary date of the closingthrough January 11, 2016, subject to market conditions for an additional year, unless prior to any such anniversary date,debt issued by the Federal Agricultural Mortgage Corporation provides CFC with a notice thatCorporation. We have up to $2,489 million available under this revolving note purchase agreement at August 31, 2011 and through the draw period will not be extended beyond the then-remaining term. We may select a fixed rate or variable rate at the time of each advance with a maturity as determined in the applicable pricing agreement. No amounts have been advanced under thefiling date. |
$1,500 million note purchase agreement through the filing date of this report. As a result, we have $2,413 million available under revolving note purchase agreements with the Federal Agricultural Mortgage Corporation through the filing date, subject to market conditions.
· | In November 2010,During fiscal year 2011, we closed on a $500 million committed loan facility from the Federal Financing Bank with a guarantee of repayment by RUS as part of the funding mechanism for the Rural Economic Development Loan and Grant program. Under this facility, CFC is able to borrow up to the committed amount any time before October 15, 2013, with each advance having a final maturity not longer than 20 years from the advance date. SubsequentAt August 31, 2011 and through the date of this filing, up to February 28,$350 million remains available under this facility. |
· | In September 2011, we borrowed $150received an additional commitment from the Federal Financing Bank to provide funding up to $499 million underwith a guarantee of repayment by RUS. Under this Federal Financing Bank loan facility we can borrow up to an additional $499 million with a 20-year maturity during the three-year period following the date of closing. |
· | Based on past history, we expect to maintain the ability to roll over our medium-term notes sold to members of $248 million that mature over the next 12 months if we need this funding in the future. |
· | Based on our funding sources available, we believe we will meet our obligations to pay down our medium-term notes sold through dealers of $1,697 million that mature over the next 12 months. This amount includes two notes totaling $1,500 million scheduled to mature in the third and fourth quarters of fiscal year 2012. On September 19, 2011, CFC provided notice to investors that it will redeem $250 million of this amount at a weighted average interest ratepremium on October 21, 2011. Both the premium and the unamortized issuance costs, estimated to total $6 million, will be recorded as a loss on extinguishment of 2.726 percentdebt during the second quarter of fiscal year 2012. With the exception of these two medium-term notes and $496 million of secured notes payable to the Federal Agriculture Mortgage Corporation, our funding requirement for term debt is limited during fiscal year 2012. Our loan volume is anticipated to decrease over the next 12 months; therefore, we do not expect that we will need to refinance the full amount of these notes. The remaining balance of dealer medium-term notes that mature over the next 12 months represents $198 million of retail notes. Based on past history, we believe we can refinance these retail notes and supplement our other sources of funding as described above with a repricing period ranging from five to 12 years and a final maturity of 20 years.new retail note issuances. |
We face liquidity risk in the funding of our loan portfolio based on member demand for new loans, although as presented in our projected sources and uses of liquidity chart on page 51, we expect over the next six quarters, repayments on our long-term loans to exceed long-term loan advances by $763 million. At February 28,August 31, 2011, we are the guarantor and liquidity provider for $525$523 million of tax-exempt bonds issued for our member cooperatives. During the ninethree months ended February 28,August 31, 2011, we were not required to purchase any tax-exempt bonds pursuant to our obligation as liquidity provider.
We expect that our $399current sources of liquidity, along with our $568 million of cash on hand and our current sources of liquidity at February 28,August 31, 2011, will allow us to issue the debt requiredmeet our obligations and to fund our operations over the next 12 to 18 months.
Interest Rate Risk
Our interest rate risk exposure is related to the funding of the fixed-rate loan portfolio. Our Asset Liability Committee monitors interest rate risk by meeting at least quarterly to review the following information: national economic forecasts, forecasts for the federal funds rate and the interest rates that we set, interest rate gap analysis, liquidity position, schedules of loan and debt maturities, short- and long-term funding needs, anticipated loan demands, credit concentration status, derivatives portfolio and financial forecast. The Asset Liability Committee also discusses the appropriatenesscomposition of fixed-rate versus variable-rate lending, new funding opportunities, changes to the nature and mix of assets and liabilities for structural mismatches and interest rate swap transactions.
Matched Funding Practice
OurWe provide our members with many options on loans with regard to interest rates, the term for which the selected interest rate risk exposure is relatedin effect, and the ability to convert or prepay the funding of the fixed-rate loan portfolio. We allow borrowers flexibility when choosing the period a fixed interest rate will be in effect.loan. Long-term loans typically have maturities of up to 35 years. Borrowers may select fixed interest rates for periods of one year through the life of the loan. Each time borrowers select a rate, it is at our current market rate for that type of loan.
We do not match fund the majority of our fixed-rate loans with a specific debt issuance at the time the loans are advanced. To monitor and mitigate interest rate risk in the funding of fixed-rate
loans, we perform a monthly interest rate gap analysis, a comparison of fixed-rate assets repricing or maturing by year to fixed-rate liabilities and members’ equity maturing by year (see table on page 58)below). Fixed-rate liabilities include debt issued at a fixed rate as well as variable-rate debt swapped to a fixed rate.rate using interest rate swaps. Fixed-rate debt swapped to a variable rate using interest rate swaps is excluded from the analysis since it is used to match fund the variable-rate loan pool. With the exception of members’ subordinated certificates, which are generally issued at rates below our long-term cost of funding and with extended maturities, and commercial paper, our liabilities have average maturities that closely match the repricing terms (but not the maturities) of our fixed-interest rate loans.
We fund the amount of fixed-rate assets that exceed fixed-rate debt and members’ equity with short-term debt, primarily commercial paper. We also have the option to enter pay fixed-receive variable interest rate swaps. Our funding objective is to manage the matched funding of asset and liability repricing terms within a range of 5 percent of total assets excluding derivative assets. We provideHowever, due to the flexibility we offer our members with many options on loans with regard to interest rates, the term for which the selected interest rate is in effect, and the ability to convert or prepay the loan. As a result,borrowers, there is a possibility of significant changes in the composition of the fixed-rate loan portfolio, and the management of the interest rate gap is very fluid. We may use interest rate swaps to adjust the interest rate gap based on our needs for fixed-rate or variable-rate funding as changes arise. The interest rate risk is deemed minimal on variable-rate loans since the loans may be repriced either monthly or semi-monthly therefore minimizing the variance to the cost of variable-rate debt used to fund the loans. At August 31, 2011 and May 31, 2011, 12 percent and 14 percent, respectively, of loans carried variable interest rates.
The scheduleOur interest rate gap analysis also allows us to analyze the effect on the overall adjusted TIER of issuing a certain amount of debt at a fixed rate for various maturities before the issuance of the debt. See Non-GAAP Financial Measures for further explanation and a reconciliation of the adjustments to TIER.
The interest rate risk is deemed minimal on variable-rate loans since the loans may be repriced either monthly or semi-monthly therefore minimizing the variance to the cost of variable-rate debt used to fund the loans. At February 28, 2011 and May 31, 2010, 15 percent and 19 percent, respectively, of loans carried variable interest rates.
The following table shows the scheduled amortization and repricing of fixed-rate assets and liabilities outstanding at February 28,
August 31, 2011.
Interest Rate Gap Analysis |
(Fixed-Rate Assets/Liabilities) |
As of February 28,August 31, 2011 |
| May 31, | | June 1, | | June 1, | | June 1, | | June 1, | | | | | | |
| 2011 | | 2011 to | | 2013 to | | 2015 to | | 2020 to | | Beyond | | | | |
| Or | | May 31, | | May 31, | | May 31, | | May 31, | | June 1, | | | | |
(dollar amounts in millions) | Prior | | 2013 | | 2015 | | 2020 | | 2030 | | 2030 | | Total | | | May 31, 2012 or prior | | June 1, 2012 to May 31, 2014 | | | June 1, 2014 to May 31, 2016 | | June 1, 2016 to May 31, 2021 | | | June 1, 2021 to May 31, 2031 | | Beyond June 1, 2031 | | | Total |
| | | | | | | | | | | | | | | | | | | | | | |
Assets amortization and repricing | $ | 451 | | $ | 5,167 | | | $ | 3,150 | | | $ | 4,095 | | | $ | 2,764 | | | $ | 1,034 | | | $ | 16,661 | | $ | 2,226 | | $ | 4,373 | | $ | 2,762 | | $ | 3,612 | | $ | 2,635 | | $ | 857 | | $ | 16,465 |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Liabilities and members’ equity: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Long-term debt | $ | 190 | | $ | 3,977 | | | $ | 2,564 | | | $ | 4,785 | | | $ | 707 | | | $ | 688 | | | $ | 12,911 | | $ | 1,493 | | $ | 3,485 | | $ | 2,535 | | $ | 3,928 | | $ | 704 | | $ | 662 | | $ | 12,807 |
Subordinated certificates | | 8 | | 78 | | | 54 | | | | 79 | | | 1,366 | | | 212 | | | 1,797 | | | 28 | | | 51 | | | 40 | | 153 | | | 1,232 | | 206 | | | 1,710 |
Members’ equity (1) | | - | | - | | | - | | | | 26 | | | 219 | | | 492 | | | 737 | | | - | | | - | | | - | | 39 | | | 237 | | 451 | | | 727 |
Total liabilities and members’ equity | $ | 198 | | $ | 4,055 | | | $ | 2,618 | | | $ | 4,890 | | | $ | 2,292 | | | $ | 1,392 | | | $ | 15,445 | | $ | 1,521 | | $ | 3,536 | | $ | 2,575 | | $ | 4,120 | | $ | 2,173 | | $ | 1,319 | | $ | 15,244 |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Gap (2) | $ | 253 | | $ | 1,112 | | | $ | 532 | | | $ | (795 | ) | | $ | 472 | | | $ | (358 | ) | | $ | 1,216 | | $ | 705 | | $ | 837 | | $ | 187 | | $ | (508 | ) | $ | 462 | | $ | (462 | ) | $ | 1,221 |
Cumulative gap | | 253 | | 1,365 | | | 1,897 | | | | 1,102 | | | 1,574 | | | 1,216 | | | | | | 705 | | | 1,542 | | | 1,729 | | 1,221 | | | 1,683 | | 1,221 | | | |
Cumulative gap as a % of total assets | | 1.22 | % | | 6.57 | % | | 9.14 | % | | | 5.31 | % | | 7.58 | % | | 5.86 | % | | | | | 3.50 | % | | 7.65 | % | | 8.58 | % | | 6.06 | % | | 8.35 | % | | 6.06 | % | | |
Cumulative gap as a % of adjusted total assets (3) | Cumulative gap as a % of adjusted total assets (3) | 1.24 | | | 6.68 | | | 9.29 | | | | 5.40 | | | 7.71 | | | 5.95 | | | | | Cumulative gap as a % of adjusted total assets (3) | 3.56 | | | 7.79 | | | 8.74 | | | 6.17 | | | 8.50 | | | 6.17 | | | |
(1) Includes the portion of the loan loss allowance and subordinated deferrable debt allocated to fund fixed-rate assets and excludes non-cash adjustments from the accounting for derivative financial instruments.
(2) Assets less liabilities and members’ equity.
(3) Adjusted total assets represent total assets in the condensed consolidated balance sheet less derivative assets.
At February 28,August 31, 2011, we had $16,661$16,465 million of fixed-rate assets amortizing or repricing, funded by $12,911$12,807 million of fixed-rate liabilities maturing during the next 30 years and $2,534$2,437 million of members’ equity and members’ subordinated certificates, a portion of which does not have a scheduled maturity. The difference of $1,216$1,221 million, or 5.866.06 percent of total assets and 5.956.17 percent of total assets excluding derivative assets, represents the fixed-rate assets maturing during the next 30 years in excess of the fixed-rate debt and members’equity. We fund the amount of fixed-rate assets that exceed fixed-rate debt and members’ equity with short-term debt, primarily commercial paper. We also have the option to enter pay fixed-receive variable interest rate swaps.
We exceeded ourOur objective is to manage our matched funding within a range of 5 percent at February 28, 2011of total assets less derivative assets plus known changes to occur over the next 120 days to allow the flexibility to maximize funding opportunities in the current low interest rate environment. Our current position of fundingFunding fixed-rate loans with short-term debt presents a liquidity risk of being able to roll over the short-term debt until we issue term debt to fund the fixed-rate loans through their repricing or maturity date. Factors that mitigate this risk include our maintenance of backup liquidity through committed revolving credit agreements with domestic and foreign banks and a large volume of scheduled principal repayments on long-term loans estimated to exceed long-term loan advances by $572 million through the end of fiscal year 2012. Additionally, we receive on an annual basis.can borrow up to $2,489 million under our note purchase agreement with the Federal Agricultural
Mortgage Corporation, subject to market conditions, and up to $350 million under a committed loan facility from the Federal Financing Bank at August 31, 2011 and through the filing date.
Derivative Financial Instruments
We are neither a dealer nor a trader inan end-user of financial derivative financial instruments. We use derivatives such as interest rate swaps, treasury locks for forecasted transactions, cross-currency swaps and cross-currency interest rate swaps to manage ourmitigate interest rate and foreign currency exchange risk. These interest rate swapsderivatives are used when they provide a lower cost of funding or minimize interest rate risk as part of our overall interest rate matching strategy. We have not entered into derivative financial instruments for trading purposes in the past and do not anticipate doing so in the future. At February 28,August 31, 2011 and May 31, 2010,2011, there were no foreign currency derivative instruments outstanding. At August 31, 2011 and May 31, 2011, we did not have any interest rate exchange agreements that were accounted for using hedge accounting. Cash settlements that we pay and receive for derivative instruments that do not qualify for hedge accounting are recorded in the derivative losses line in the consolidated statements of operations.
Counterparty Risk
We are exposed to counterparty risk related to the performance of the parties with which we entered into derivative instruments. To mitigate this risk, we only enter into these agreements with financial institutions with investment-grade ratings. At February 28,August 31, 2011 and May 31, 2010,2011, the highest percentage concentration of total notional exposure to any one counterparty was 13 percent and 12 percent of total derivative instruments, respectively.instruments. At the time counterparties are selected to participate in our exchange agreements, the counterparty must be a participant in one of our revolving credit agreements. In addition, the derivative instruments executed for each counterparty are based on key characteristics such as the following: notional concentration, credit risk exposure, tenor, bid success rate, total credit commitment and credit ratings. At the date of this filing, our derivative instrument counterparties had credit ratings ranging from AAA to BBB+ as assigned by Standard & Poor’s Corporation and Aaa to Baa1 as assigned by Moody’s Investors Service. Based on the fair market value of our derivative
instruments at February 28,August 31, 2011, there were sevenfive counterparties that would be required to make a payment to us totaling $56$70 million if all of our derivative instruments were terminated on that day. The largest amount owed to us by a single counterparty was $26$31 million, or 4744 percent of the total exposure to us, at February 28,August 31, 2011.
Rating Triggers
Some of our interest rate swaps have credit risk-related contingent features referred to as rating triggers. Rating triggers are not separate financial instruments and are not required to be accounted for separately as derivatives.
At February 28,August 31, 2011, the following notional amounts of derivative instruments had rating triggers based on our senior unsecured credit ratings from Moody’s Investors Service or Standard & Poor’s Corporation falling to a level specified in the applicable agreements and are grouped into the categories below. In calculating the payments and collections required upon termination, we netted the agreements for each counterparty, as allowed by the underlying master agreements. At February 28,August 31, 2011, our senior unsecured credit ratingratings from Moody’s Investors Service and Standard & Poor’s Corporation waswere A2 and A, respectively. At February 28,August 31, 2011, both Moody’s Investors Service and Standard & Poor’s Corporation had our ratings on stable outlook.
| | | Notional | | Our Required | | Amount We | | Net | | | | Notional | | Our required | | Amount we | | Net | |
(dollar amounts in thousands) | (dollar amounts in thousands) | | Amount | | Payment | | Would Collect | | Total | | (dollar amounts in thousands) | | amount | | payment | | would collect | | total | |
Mutual rating trigger if ratings: | Mutual rating trigger if ratings: | | | | | | | | | Mutual rating trigger if ratings: | | | | | | | | |
fall to Baa1/BBB+ (1) | fall to Baa1/BBB+ (1) | $ | 1,380,421} | | $ | (413) | | $ | 26,445} | | $ | 26,032} | | fall to Baa1/BBB+ (1) | $ | 1,390,263 | | $ | (348) | | $ | 30,751} | | $ | 30,403} | |
fall below Baa1/BBB+ (1) | fall below Baa1/BBB+ (1) | | 6,811,682} | | (75,313) | | 24,201} | | (51,112) | | fall below Baa1/BBB+ (1) | | 6,803,478 | | (200,241) | | 36,012} | | (164,229) | |
Total | | $ | 8,192,103} | | $ | (75,726) | | $ | 50,646} | | $ | (25,080) | | | $ | 8,193,741 | | $ | (200,589) | | $ | 66,763} | | $ | (133,826) | |
(1) Stated senior unsecured credit ratings are for Moody’s Investors Service and Standard & Poor’s Corporation, respectively. Under these rating triggers, if the credit rating for either counterparty falls to the level specified in the agreement, the other counterparty may, but is not obligated to, terminate the agreement. If either counterparty terminates the agreement, a net payment may be due from one counterparty to the other based on the fair value, excluding credit risk, of the underlying derivative instrument.
In addition to the rating triggers listed above, at February 28,August 31, 2011, we had a total notional amount of $868 million of derivative instruments with one counterparty that would require the pledging of collateral totaling $18$20 million (the fair value of such derivative instruments excluding credit risk) if our senior unsecured ratings from Moody’s Investors Service were to fall below Baa2 or if our ratings from Standard & Poor’s Corporation were to fall below BBB. The aggregate fair value of all interest rate swaps with rating triggers that were in a net liability position at February 28,August 31, 2011 was $92$216 million.
For additional information about the risks related to our business, see Part II, Item 1A. Risk Factorsin this Form 10-Q..
Non-GAAP Financial Measures
We make certain adjustments to financial measures in assessing our financial performance that are not in accordance with GAAP. These non-GAAP adjustments fall primarily into two categories: (i) adjustments related to the calculation of the TIER ratio and (ii) adjustments related to the calculation of the leverage and debt-to-equity ratios. These adjustments reflect management’s perspective on our operations, and in several cases, adjustments used to measure covenant compliance under our revolving credit agreements. Therefore, we believe these are useful financial measures for investors. We refer to our non-GAAP financial measures as “adjusted” throughout this document.
Adjustments to Net Income and the Calculation of the TIER Ratio
The following table provides a reconciliation between interest expense, net interest income and net income and these financial measures adjusted to excludeinclude the effectimpact of derivatives for the three and nine months ended February 28, 2011 and 2009.derivatives. Refer to Non-GAAP Financial Measures in Item 7,7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, in our Form 10-K for the year ended May 31, 20102011 for an explanation of why these adjustments to net income and the calculation of the TIER ratio reflect management’s perspective on our operations and why we believe these are useful financial measures for investors.
| | Three months ended February 28, | | | | Nine months ended February 28, | | | | | | | For the three months ended August 31, | | | | | | | | | |
(dollar amounts in thousands) | | 2011 | | 2010 | | | 2011 | | | | 2010 | | | | | | | 2011 | | 2010 | | | | | | | | | |
Interest expense | $ | (206,333) | | $ | (221,898 | ) | | $ | (638,246) | | | $ | (691,504 | ) | | | | | $ | (202,044) | | $ | (219,512 | ) | | | | | | | | |
Derivative cash settlements | | (850) | | (5,636 | ) | | | (5,685) | | | | (19,836 | ) | | | | | |
Plus: Derivative cash settlements | | | 168} | | (4,462 | ) | | | | | | | | |
Adjusted interest expense | $ | (207,183) | | | $ | (227,534 | ) | | $ | (643,931) | | | $ | (711,340 | ) | | | | | $ | (201,876) | | $ | (223,974 | ) | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Net interest income | $ | 47,969} | | | $ | 34,621 | | $ | 117,627} | | | $ | 99,391 | | | | | | $ | 45,206} | | $ | 31,541 | | | | | | | | | | |
Derivative cash settlements | | (850) | | (5,636 | ) | | | (5,685) | | | | (19,836 | ) | | | | | |
Plus: Derivative cash settlements | | | 168} | | (4,462 | ) | | | | | | | | |
Adjusted net interest income | $ | 47,119} | | | $ | 28,985 | | | $ | 111,942} | | | $ | 79,555 | | | | | | $ | 45,374} | | $ | 27,079 | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Net income prior to cumulative effect of change in accounting principle | $ | 83,652} | | | $ | 54,933 | | | $ | 131,979} | | | $ | 93,785 | | | | | | |
Derivative forward value | | (54,198) | | (28,207 | ) | | | (28,090) | | | | (24,935 | ) | | | | | |
Net loss prior to cumulative effect of change in accounting principle | | $ | (86,622) | | $ | (42,345 | ) | | | | | | | | | |
Less: Derivative forward value | | | 111,739} | | 73,792 | | | | | | | | | |
Adjusted net income | $ | 29,454} | | $ | 26,726 | | | $ | 103,889} | | | $ | 68,850 | | | | | | $ | 25,117} | | $ | 31,447 | | | | | | | | | | | |
TIER using GAAP financial measures is calculated as follows:
| | Interest expense + net income prior to cumulative | |
| TIER = | effect of change in accounting principle | |
| | Interest expense | |
Our adjusted TIER is calculated as follows:
| Adjusted TIER = | Adjusted interest expense + adjusted net income | |
| | Adjusted interest expense | |
The following table presents our TIER and adjusted TIER ratios:TIER:
| | Three months ended February 28, | | Nine months ended February 28, | | | | | For the three months ended August 31, | | | | | | | |
| | 2011 | | 2010 | | 2011 | | 2010 | | | | | 2011 | | 2010 | | | | | | | |
TIER(1) | TIER(1) | | 1.41} | | | | 1.25 | | | | 1.21} | | | | 1.14 | | | | | | TIER(1) | | -} | | | - | | | | | | | | | |
Adjusted TIER | | | 1.14} | | | | 1.12 | | | | 1.16} | | | | 1.10 | | | | | | | | 1.12} | | | | 1.14 | | | | | | | | | | | | |
(1) For the three months ended August 31, 2011 and 2010, earnings were insufficient to cover fixed charges by $87 million and $42 million, respectively, and, therefore, the TIER calculations for those periods result in a value below 1.00.
Adjustments to the Calculation of Leverage and Debt-to-Equity Ratios
The following table provides a reconciliation between the liabilities and equity used to calculate the leverage and debt-to-equity ratios and these financial measures adjusted to exclude the non-cash effects of derivatives and foreign currency adjustments, to subtract debt used to fund loans that are guaranteed by RUS from total liabilities, and to subtract from total liabilities, and add to total equity, debt with equity characteristics.
Refer to Non-GAAP Financial Measures in Item 7,7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, in our Form 10-K for the year ended May 31, 20102011 for an explanation of why these adjustments to the calculation of leverage and debt-to-equity ratios reflect management’s perspective on our operations and why we believe these are useful financial measures for investors.
(dollar amounts in thousands) | (dollar amounts in thousands) | | | February 28, 2011 | | May 31, 2010 | | | | | | (dollar amounts in thousands) | | August 31, 2011 | | May 31, 2011 | | | | | | | | |
Liabilities | Liabilities | | $ | 20,093,226} | | $ | 19,556,448 | | | | | | Liabilities | | $ | 19,602,288} | $ | 19,874,313 | | | | | | | | | | |
Less: | Less: | | | | | | | | | | | Less: | | | | | | | | | | | | | | | |
Derivative liabilities | Derivative liabilities | | | (421,000) | | (482,825 | ) | | | | | | Derivative liabilities | | | (611,326) | | (477,433 | ) | | | | | | | | | |
Debt used to fund loans guaranteed by RUS | Debt used to fund loans guaranteed by RUS | | | (227,794) | | (237,356 | ) | | | | | | | | | | | Debt used to fund loans guaranteed by RUS | | | (225,581) | | (226,695 | ) | | | | | | | | | | | |
Subordinated deferrable debt | Subordinated deferrable debt | | | (186,440) | | | (311,440 | ) | | | | | | Subordinated deferrable debt | | | (186,440) | | (186,440 | ) | | | | | | | | | | |
Subordinated certificates (1) | Subordinated certificates (1) | | | (1,840,248) | | (1,810,715 | ) | | | | | | Subordinated certificates (1) | | | (1,778,058) | | (1,813,652 | ) | | | | | | | | | |
Adjusted liabilities | Adjusted liabilities | | $ | 17,417,744} | | $ | 16,714,112 | | | | | | Adjusted liabilities | | $ | 16,800,883} | $ | 17,170,093 | | | | | | | | | | |
Total equity | Total equity | | $ | 669,429} | | $ | 586,767 | | | | | | | | | | Total equity | | $ | 554,106} | $ | 687,309 | | | | | | | | | | |
Less: | Less: | | | | | | | | | | | Less: | | | | | | | | | | | | | | | |
Prior-year cumulative derivative forward | | | | | | | | | | | |
Prior year cumulative derivative forward | | Prior year cumulative derivative forward | | | | | | | | | | | | | | | |
value and foreign currency adjustments | value and foreign currency adjustments | | | 118,864} | | 121,560 | | | | | | value and foreign currency adjustments | | | 142,252} | | 118,864 | | | | | | | | | | |
Year-to-date derivative forward value gain | (28,090) | | (2,696 | ) | | | | | | | | | | | |
Year-to-date derivative forward value loss | | Year-to-date derivative forward value loss | | 111,739} | | 23,388 | | | | | | | | | | |
Accumulated other comprehensive income (2) | Accumulated other comprehensive income (2) | | | (9,526) | | (7,489 | ) | | | | | | | | Accumulated other comprehensive income (2) | (9,021) | | (9,273 | ) | | | | | | | | | | | |
Plus: | Plus: | | | | | | | | | | | Plus: | | | | | | | | | | | | | | |
Subordinated certificates (1) | Subordinated certificates (1) | | | 1,840,248} | | 1,810,715 | | | | | | Subordinated certificates (1) | | 1,778,058} | | 1,813,652 | | | | | | | | | | |
Subordinated deferrable debt | Subordinated deferrable debt | | | 186,440} | | 311,440 | | | | | | Subordinated deferrable debt | | | 186,440} | | 186,440 | | | | | | | | | | |
Adjusted equity | Adjusted equity | | $ | 2,777,365} | | $ | 2,820,297 | | | | | | Adjusted equity | | $ | 2,763,574} | $ | 2,820,380 | | | | | | | | | | |
Guarantees | | | $ | 1,132,177} | | $ | 1,171,109 | | | | | | | | $ | 1,100,895} | $ | 1,104,988 | | | | | | | | | | |
(1) At February 28,August 31, 2011 and May 31, 2011, includes $10$12 million of subordinated certificates classified in short-term debt.
(2) Represents the accumulated other comprehensive income related to derivatives. Excludes $0.7 million and $0.5 million of accumulated other comprehensive income related to the unrecognized gains on our investments at February 28,August 31, 2011 and May 31, 2010, respectively.2011.
The leverage and debt-to-equity ratios using GAAP financial measures are calculated as follows: |
| Leverage ratio = | Liabilities + guarantees outstanding | |
| | Total equity | |
| | | |
| Debt-to-equity ratio = | Liabilities | |
| | Total equity | |
The adjusted leverage and debt-to-equity ratios are calculated as follows:
| Adjusted leverage ratio = | Adjusted liabilities + guarantees outstanding | | |
| | Adjusted equity | | |
| Adjusted debt-to-equity ratio = | Adjusted liabilities | | |
| | Adjusted equity | | |
The following table provides the calculated ratio for leverage and debt-to-equity, as well as the adjusted ratio calculations.
| | | February 28, 2011 | | May 31, 2010 | | | | | August 31, 2011 | | | May 31, 2011 | | | | | | | |
Leverage ratio | | | 31.71 | | | 35.33 | | | | | | 37.36 | | | | 30.52 | | | | | | | | | | |
Adjusted leverage ratio | | | 6.68 | | | 6.34 | | | | | | 6.48 | | | | 6.48 | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Debt-to-equity ratio | | | 30.02 | | | 33.33 | | | | | | 35.38 | | | | 28.92 | | | | | | | | | | |
Adjusted debt-to-equity ratio | | | 6.27 | | | 5.93 | | | | | | 6.08 | | | | 6.09 | | | | | | | | | | |
Item 3. Quantitative and Qualitative Disclosures About Market RiskItem 3. | Quantitative and Qualitative Disclosures About Market Risk. |
See Market Risk discussion beginning on page 55.47.
Item 4. Item 4. | Controls and Procedures |
SeniorAt the end of the period covered by this report, senior management, including the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (“the Exchange Act”). At the end of the period covered by this report, basedBased on this evaluation process, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective. There were no changes in our internal control over financial reporting that occurred during our last fiscal quarterthe three months ended August 31, 2011 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II. | OTHER INFORMATION |
You should understand and consider the following risks and uncertainties in additionRefer to those described in Part I, Item 1A. Risk Factors in our Form 10-K for the year ended May 31, 2010.2011 for information regarding factors that could affect our results of operations, financial condition and liquidity. There have been no material changes to our risk factors described in our Form 10-K for the year ended May 31, 2011.
Our elected directors also serve as officers or directors of certain of our individual member cooperatives, which may result in a potential conflict of interest with respect to loans, guarantees and extensions of credit that we may make to or on behalf of such member cooperatives.
In accordance with our charter documents and the purpose for which we were formed, we lend only to our members and associates. CFC’s directors are elected or appointed from our membership, with 10 director positions filled by directors of members, 10 director positions filled by general managers or chief executive officers of members, two positions appointed by the National Rural Electric Cooperative Association and one at-large position that must, among other things, be a director, financial officer, general manager or chief executive of one of our members. To mitigate the conflict of interest inherent in our credit and lending activities with respect to any member that has one of its officers or directors sitting on CFC’s Board of Directors, all loans, guarantees and other extensions of credit to such member are required to be approved by a majority of CFC’s Board of Directors or a majority of the loan committee of CFC’s Board of Directors, with the interested director being recused from both the discussions and the vote on the approval of the proposed loan, guarantee or extension of credit. In addition, all such loan requests are required to go through the same underwriting process and review as other loan requests before being submitted to the CFC Board of Directors or loan committee for approval. Unlike FDIC-insured banking institutions, we are not subject to federal or state regulation, examination or oversight with regard to our lending activity.
None.
3.2 | – | Amended Bylaws as approved by CFC’s Board of Directors and members on March 7, 2011. |
| | |
4.1 | – | Amendment No. 4 dated February 19, 2009 to the Revolving Credit Agreement dated March 16, 2007 expiring on March 16, 2012. |
| | |
4.2 | – | Amendment No. 6 dated February 19, 2009 to the Revolving Credit Agreement dated March 22, 2006 expiring on March 22, 2011. |
4.3 | – | Revolving Credit Agreement dated March 21, 2011 for $1,125 million expiring on March 21, 2014. |
| | |
4.4 | – | Amended and Restated Master Note Purchase Agreement dated March 24, 2011, between the Registrant and Federal Agricultural Mortgage Corporation. |
| | |
4.5 | – | Amended, Restated and Consolidated Pledge Agreement dated March 24, 2011, between the Registrant, Federal Agricultural Mortgage Corporation and U.S. Bank Trust National Association. |
| | |
4.6 | – | First Supplemental Note Purchase Agreement dated March 24, 2011 for $3,900,000,000 between the Registrant and Federal Agricultural Mortgage Corporation. |
| | |
31.1 | – | Certification of the Chief Executive Officer required by Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
31.2 | – | Certification of the Chief Financial Officer required by Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
32.1 | – | Certification of the Chief Executive Officer required by Section 906 of the Sarbanes-Oxley Act of 2002. |
| | |
32.2 | – | Certification of the Chief Financial Officer required by Section 906 of the Sarbanes-Oxley Act of 2002. |
| | |
31.1 | – | Certification of the Chief Executive Officer required by Section 302 of the Sarbanes-Oxley Act of 2002. | |
| | | |
31.2 | – | Certification of the Chief Financial Officer required by Section 302 of the Sarbanes-Oxley Act of 2002. | |
| | | |
32.1 | – | Certification of the Chief Executive Officer required by Section 906 of the Sarbanes-Oxley Act of 2002. | |
| | | |
32.2 | – | Certification of the Chief Financial Officer required by Section 906 of the Sarbanes-Oxley Act of 2002. | |
| | | |
| | | |
|
|
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
NATIONAL RURAL UTILITIES COOPERATIVE
FINANCE CORPORATION
/s/ STEVEN L. LILLY
Steven L. Lilly
Chief Financial Officer
/s/ ROBERT E. GEIER
Robert E. Geier
Controller
(Principal Accounting Officer)
April 13,October 14, 2011