Good morning, and welcome to the Federal Agricultural Mortgage Corp. First Quarter 2014 Earnings Conference Call. [Operator Instructions] Please also note this event is being recorded..

I would like to turn the conference over to Tim Buzby, President and CEO. Please go ahead. .

Thank you, Nikki. Good morning, I'm Tim Buzby, the President and CEO of Farmer Mac. The Farmer Mac management team and I are pleased to welcome you to our first quarter 2014 investor conference call..

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

Thanks, Tim. Some of the statements made on this conference call may constitute forward-looking statements under the securities laws. We make these statements based on our current expectations and assumptions about future events and business performance. We do not undertake any obligation to update these statements after the date of this call..

We caution you that forward-looking statements are subject to a number of risks and uncertainties. Actual results may differ materially from the results expressed or implied by the forward-looking statements.

In evaluating Farmer Mac, you should consider these risks and uncertainties, as well as those described in our 2013 annual report on Form 10-K, our subsequent quarterly report on Form 10-Q and our other filings with the Securities and Exchange Commission..

Farmer Mac uses core earnings, a non-GAAP financial measure, to measure corporate performance and develop financial plans. In management's view, core earnings is a useful alternative measure for understanding Farmer Mac's economic performance, transaction economics and business trends.

This non-GAAP financial measure may not be comparable to similarly labeled non-GAAP financial measures disclosed by other companies..

Farmer Mac's disclosure of core earnings is intended to be supplemental in nature and is not meant to be considered in isolation from, as a substitute for, or as more important than, the related financial information prepared in accordance with GAAP..

A recording of this call will be available on our website for 2 weeks starting later today. .

Thank you, Steve. During the first quarter, we continue to grow our outstanding business volume. We've reached $14.1 billion, which reflects an annual growth rate of approximately 5%, despite the fact that the first quarter typically has significant prepayments associated with it.

We also increased Farmer Mac's quarterly common stock dividend to $0.14 each quarter, and increased our capital position through the issuance of an additional $75 million of fixed-rate perpetual preferred stock in March.

We completed the capital raise in anticipation of other preferred stock becoming callable next year and it will ultimately reduce the periodic cost of future preferred stock dividends despite adding to the cost of dividends last quarter and for the remainder of 2014..

Core earnings for first quarter 2014 were $11 million or $0.97 per share compared to $11.3 million or $1.01 per share in first quarter 2013. During the quarter, we completed several transactions that helped us retain attractive business and which will help expand spreads going forward.

But the transactions cost a reduction of our reported net effective spread for first quarter. The first series of transactions consisted of the early refinancing of $415 million of AgVantage securities, which helped us retain existing business in a competitive situation.

The second series of transactions consisted of the early recast during the quarter of $242 million of raw utilities loans that were eligible for recasting by the end of March and could've been refinanced with another lender..

Farmer Mac was successful in retaining approximately 80% of these loans, recasting them primarily into longer-term fixed rate loans at increased spreads compared to the original shorter term loans.

The drag on that effective spread in the first quarter from these items due to the funding of the original assets remaining in place through the end of March was approximately $1.3 million, a 4-basis-point impact.

The rationale for all of those transactions was the same, to work with existing customers to extend the relationships far out into the future despite the immediate costs incurred in the current quarter..

General contraction in asset spreads compared to the year-ago quarter and several other items that Dale will discuss later also contributed to the balance of the reduction and net effective spread in core earnings. As we mentioned during the last 2 conference calls, spreads on newly added assets have been stable since last summer.

We believe this should ultimately lead to a firming of overall spreads as we get past the upcoming maturities of AgVantage securities..

GAAP net income attributable to common stockholders for our first quarter was $800,000 or $0.07 per share compared to $16.2 million or $1.45 per share in first quarter 2013.

This decrease was mostly due to changes in the fair value of financial derivatives and hedged assets resulting from a general decline in longer term interest rates, which resulted in an after-tax loss of $2.4 million in first quarter this year, compared to an after-tax gain of $5.7 million in first quarter of last year.

The remainder of the GAAP earnings decrease was primarily due to the accelerated amortization of premiums, $7.5 million after-tax related to the recast Rural Utilities loans and the effect of previously mentioned spread compression associated with the early reinvestment of certain AgVantage securities, as well as spread compression in general as compared to the year-ago quarter..

The credit quality of Farmer Mac's portfolio remains strong. As of March 31, only $29 million, or 56 basis points, of our $5.3 billion Farm & Ranch portfolio was 90 days delinquent. That's down from $40 million, or 83 basis points, a year ago..

The Western part of the United States, however, including California, continues to experience severe drought conditions, the water level in many California reservoirs at only half of their average year-to-date water storage levels.

While we have not observed any material effect on our portfolio due to the drought conditions, the continuation of extreme or exceptional drought conditions beyond the 2014 water year could begin to have an adverse affect on delinquency rates and could ultimately produce losses.

That said, we believe Farmer Mac is well collateralized on loans in its Farm & Ranch line of business including those that could be affected by drought conditions..

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

Dale?.

Thanks, Tim. As Tim mentioned earlier, we completed a series of transactions in the first quarter that we believe will position us very well going forward, but which cost some near-term funding friction.

When we reinvested $415 million of certain AgVantage securities and recast $242 million of Rural Utilities loans, the original funding remained mostly in place and essentially created a double funding affect. This double funding effect remained in place through its maturity at the end of March.

However, we believe this is a very attractive investment to make in order to keep this business and actually expand the spreads on these loans. Originally, these loans were 7-year ARMs and these were mostly recast into long-term fixed rate loans with greater spreads..

In terms of the financials, first quarter 2014 core earnings were $11 million or $0.97 per diluted share as compared to $11.3 million or $1.01 per diluted share a year earlier. A $0.3 million decrease in core earnings in first quarter 2014 as compared to first quarter 2013 was primarily driven by several unique items this quarter.

A $1.9 million after-tax reduction in operating revenues; this was primarily due to a $0.8 million after-tax impact of the spread compression Tim discussed related to the early reinvestment of certain assets that created the funding drag we discussed..

Generally, lower assets spreads today as compared to the year-ago quarter, and lastly, a $0.3 million after-tax reduction and late fees, which is within the other income line on the income statement.

This decline on operating revenue was generally offset by several items, including a $0.4 million after-tax decrease in net credit related expenses, a $0.2 million after-tax decrease in operating expenses and a $0.9 million tax benefit associated with gains on investment portfolio assets.

Several unique items also caused the first quarter of this year's core earnings to decrease $4.3 million sequentially from the $15.3 million reported in the fourth quarter 2013.

These factors included a $2.2 million after-tax reduction in net effective spread resulting primarily from a reduction in buyout and yield maintenance interest of $1.1 million after-tax and after-tax solution of $0.8 million associated with run-off business.

Generally, first and third quarters and especially the first, tend to be seasonally more significant in terms of repayments given the typical agricultural loan payment schedules.

In addition to the impact from a decline in net effective spreads, several other items contributed to the sequential decline, including a $1.2 million reduction in tax benefits associated with gains realized on certain investment portfolio assets, increases of $0.4 million associated after-tax -- associated with after-tax net credit related expenses, increases in hedging costs of $0.3 million after-tax and lastly, seasonal increases in operating expenses of about $100,000 after tax..

Now turning to a net effective spread. We had a lot of moving parts this quarter, and what I'd like to do is help you get a more normalized view on net effective spread is and what we expect it to be going forward.

Net effective spread was $23.7 million, or 75 basis points, for first quarter 2014 compared to $27.1 million, or 85 basis points, in fourth quarter 2013. This compares also to $26.3 million, or 90 basis points, in the year-ago quarter.

The year-over-year decrease in net effective spread was in part attributable to the early refinancing of AgVantage and Rural Utilities loans that we've discussed, and that was approximately a 4-basis-point impact.

The rest of the decrease compared to the year-ago quarter was primarily due to a spread compression that we've seen more broadly in the credit markets..

Now turning to the fourth quarter and comparing first quarter to fourth quarter, sequentially, there was a 10-basis-point decline in net effective spread.

Six basis points of that impact came from buyout interest and yield maintenance payments that were made in the fourth quarter and a 4-basis-point impact came from runoff business, which typically occurs in the first quarter. When you normalize for these items, our net effective spreads in each quarter were both approximately 80 basis points.

The message here is that our overall net effective spread and the absence of all of these unique items this quarter and last quarter are currently stabilized around this 80 point -- basis point average. This is a healthy spread amount that will allow us to bring good attractive returns on equity over time.

I'll further note that we've mentioned in the past and in our filings that in the fourth quarter, our CoBank preferred stock is likely to be called and the impact of that on core earnings and net effective spread has been documented in our various filings. I'd point you to those filings for those amounts. .

As I mentioned earlier, although the refinancing and recasting of certain business resulted in a decrease in net effective spread for the current quarter because original funding, these -- the new loans are generally expected to produce greater spreads over time.

The original loans were 7-year ARMs and the new loans are primarily 15-year fixed-rate loans.

Over time, our spread should expand on these loans by approximately 20 basis points associated with this recasting, and initially, in the first couple of years of these loans, we expect the accretion to be roughly 30 basis points better and spreads on these new loans as compared to the original loans..

Regarding our business segments, management has determined that Farmer Mac's operations are most easily analyzed and managed as 4 rather than 3 reportable operating segments effective January 1. The 4 segments are Farm & Ranch, USDA Guarantees, Rural Utilities and a newly designated Institutional Credit segment.

The Institutional Credit segment is comprised of all of Farmer Mac's AgVantage securities, which were previously included as components of the Farm & Ranch and Rural Utilities segments..

Net effective spread by business segment for the first quarter 2014 was $7.6 million or 163 basis points for Farm & Ranch, $3.4 million or 81 basis points for USDA Guarantees, $2.2 million or 81 basis points for Rural Utilities, and $6.3 million or 50 basis points for the Institutional Credit segment..

From a credit perspective, total allowances and reserves for losses were $14.0 million or 26 basis points of a total $5.3 billion Farm & Ranch loan portfolio at the end of March, compared to $14.3 million or 30 basis points of the total Farm & Ranch loan portfolio as of the year-ago quarter..

Total net provisions were $0.7 million for first quarter, compared to a provision of $1.2 million in the prior year's first quarter. Charge-offs were just $29,000 in this quarter, down from $3.8 million in the year-ago quarter.

That charge-off amount had been related to 1 ethanol loan that transitioned to REO status, real estate owned, during the first quarter 2013 and for which Farmer Mac had previously provided a specific allowance..

For Farmer Mac's other lines of business, there are currently no delinquent AgVantage securities or Rural Utilities loans, and the USDA securities are backed by the full faith and credit of the United States.

As a result, across all of Farmer Mac's lines of business, the overall level of 90-day delinquency is represented just 0.21% or 21 basis points of our total volume at the end of the first quarter compared to 20 basis points at year end, and 30 basis points for the year-ago quarter..

We achieved $729 million of new business this quarter. Farm & Ranch loans purchases and Farm & Ranch loans under standbys were higher than the prior year's amounts, while AgVantage and USDA securities were materially less..

The decrease in USDA securities volume was the result of more lenders retaining these guaranteed assets in their portfolio in the first quarter 2014 as compared with the higher than expected purchases experienced in the year-ago quarter.

The AgVantage transactions, which are driven by large deals and unevenly spread throughout the year, were approximately $200 million less than the year-ago quarter..

Let's break down the volume for this quarter's business. We did $192 million of Farm & Ranch loan purchases, $186 million of Farm & Ranch standbys, $68 million of USDA securities, $54 million in Rural Utility loans purchases and $229 million of AgVantage securities..

After repayments, our net outstanding business volume grew $158 million in the first quarter. The increase in Farm & Ranch loan purchase volume for the 3 months ended March 31, 2014 compared to the same period in 2013, resulted primarily from borrowers seeking longer-term financing at fixed rates or longer-term adjustable rate mortgages..

The increase in Farm & Ranch standby volume resulted primarily from the increased participation and the standby product among Farmer Mac's existing customer base..

Now turning to capital. As of the end of the first quarter, Farmer Mac's $664 million of core capital exceeded the statutory minimum capital requirement of $403 million by $261 million, or by 65%. This compares to 109 -- excuse me, $192 million of capital above the statutory minimum capital at year end.

As Tim mentioned, we increased our capital position this past quarter through the issuance of $75 million of noncumulative preferred stock in March..

In terms of liquidity, the FCA regulations in place during the first quarter of 2014 required Farmer Mac to hold a minimum of 60 days of liquidity. At the end of the quarter, Farmer Mac had 127 days of liquidity according to this methodology, down from 134 days at the end of the year.

FCA recently adopted a final rule which became effective on April 30, revising its regulations governing the management of liquidity risk at Farmer Mac and requiring that Farmer Mac maintain a minimum of 90 days of liquidity and use a different methodology for calculating the available days.

Farmer Mac does not expect that this change will have a material effect on its operations nor on its financial condition. More complete information about Farmer Mac's performance for the first quarter set forth in our 10-Q, which we filed this morning with the SEC..

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

Thanks, Dale. As you saw, we experienced some volatility in our non-GAAP core earnings this quarter due to near term costs associated with several initiatives that we believe position us well for the long term.

We continue to manage our business to fulfill our mission of increasing the availability of credit to maintain a strong and vibrant rural America and to focus on the fundamentals that will build long-term value for our stockholders.

It is the fundamental principle of achieving prudent growth coupled with high credit quality standards that we believe will provide attractive returns resulting in growth in earnings and capital. We believe we are off to a good start in 2014 and are excited about our prospects for the rest of the year..

And at this time, we're glad to answer any questions you may have. .

[Operator Instructions] The first question comes from Bose George with KBW. .

Actually, I just wanted to start off with just another question on the spread.

I know that the future spread varies by the mix, et cetera, but you guys noted that the spreads and the market has stabilized, and if the mix doesn't change and assets pay off and come back into sort of similar assets, is there a way to kind of think about where the spread trends over the next few quarters?.

Well, I think Dale in his remarks indicated that when you normalize for some of the friction that occurred in fourth quarter and in first quarter, we were at roughly 80 basis points in both of the quarters.

I think, generally, based on the current balance sheet and as you said with new assets coming on and not the mix of -- business mix changing a whole lot, I think that 80 basis points is a good proxy, with the exception of what we expected both third and fourth quarters of this year to sort of be normalized by the maturation of that CoBank preferred stock that we own.

One of the things we tried to do in our disclosure this quarter was to show the 4 business lines as opposed to 3, and I think that will ease some of the analysis.

I think in prior quarters, what we would see is 1 or 2 large transactions adjusting those spreads in any one particular quarter and making it very difficult to explain or to see what the impacts where or what parts of business that was coming from.

So I think breaking out the institutional credit sector or segment, I think, will ease some of that analysis going forward. But then again, that being said, there probably will be some noise each quarter, positive or negative, that we'll definitely call out when we see it. .

And Bose, just to add to that, Tim's comments, a couple of specific things I'd say. The new breakouts, the Farm & Ranch loans that are really just loan assets now and you can look at the 163 basis points we had this quarter, if you look at the previous quarter, it was over 2%, it's 2.2%.

When you see our filings, pay attention to certain things we discuss in there. Some periods, we get buyout interest or yield maintenance payments which can be lumpy. The vast preponderance of that decline sequentially was due to just that, the yield maintenance and buyout interest in the fourth quarter that did not reoccur in the first quarter.

If you look generically, our Farm & Ranch loans, our spreads are pretty stable, and so it's going to be based on business mix between arms or longer-term fixed rate loans. So when you look at that segment, you can kind of say that, "You know what? I can kind of model that.

I can normalize for the yield maintenance and come out and say, 'Well, the spreads or somewhere around 2% on these loans, 1.8%, 1.9%, 2%.'" If you look at the USDA, those spreads are stable as well, Rural Utilities loans are stable the only change is going to be driven by business mix.

Now on AgVantage bonds within the institutional segment, here's one interesting way to think about it, as we've reinvested those maturing AgVantage bonds, their dilution from the spread compression has been running about 10 to 15 basis points.

So if you look at that and you say we have upcoming maturities and you want to model how things look going forward, if the future looks the same as the past, you might expect that the dilution on those upcoming assets could be 10 to 15 basis points.

Now that's a manageable amount and that tends to get lost in the shuffle as we continue to grow the program business. So those, hopefully, that will help you as you kind of model it. .

Okay. That is very helpful. Switching to the AOCI. You guys had a pretty positive move there.

Just conceptually, when you're thinking about that, a, what drove that, and then, when you think about the hedges -- the hedge sort of moves that flow-through income statement, are -- conceptually, are those kind of offsets to the AOCI?.

Generally, yes, it all depends on whether we have certain assets in designated hedge relationships or not. The movement in AOCI that you see is largely a mark-to-market on the assets that are in the portfolio. The financial derivatives that often times correspond with some of those assets may or may not be in hedge relationship.

So we do expect to see movement in AOCI as interest rates do move around. One of the reasons that we focus on core earnings as opposed to GAAP earnings, as we've disclosed, is because those moments are generally temporary, and we would look on the balance sheet at AOCI in the same way, that those movements are temporary. .

The next question comes from John Dunn of Sidoti & Company. .

I want to see if just generally, maybe if you could give us an update on your outlook for growth, say, through 2015? And if you had to force rank what you're most excited about, maybe you could just give us an update there?.

Sure. I think we continue to see demand in the Farm & Ranch loan purchase business, that's continued. While we had a very strong year last year in those purchases, we expected that we could see that slow down a bit. We haven't seen much of a slowdown in that yet, so I think that bodes well for the future.

We also continue to add new customers, new institutions to sell loans to us. So that looked -- future looks bright as well. The AgVantage business, we have about $700 million of that maturing this year and another $700 million maturing again next year. We have been somewhat successful in refinancing as those maturities come forward, as you've seen.

So from that perspective, we look to have those customers that are currently doing business with us in that product line. As their businesses grow, we would expect that there is the potential for our business to grow there as well, and that's in both the Farm & Ranch and Rural Utilities business.

The USDA securities, Dale noted that, that is, business has slowed down a little bit. That is probably going to be steady throughout the remainder of the year. I don't -- wouldn't anticipate that we would see that pick up significantly.

So I think as we look at all the different lines of business, the 3 institutional credit Farm & Ranch and Rural Utilities loans are the areas where I'd see the upside potential. The USDA securities' less so. .

Got you.

And then can you give us an update on what your ag lender customers are saying about the regulators coming in and potentially making them divest certain assets around concentration risk and things like that?.

Well, they have generally seen heightened activity by the regulators for the last several years. Part of that is looking at their mix of business in their portfolio, their concentrations. Sometimes just in agriculture and sometimes also with individual operators, or individual exposures that we may have.

Some of that pressure, too, it's not just from regulators, it's also just internally from boards and management teams who are looking at their -- the risks of their business on the heels of the financial crisis and looking at where they want to be exposed and where they maybe want less exposure.

So I think it's a combination of regulation and just people looking at their balance sheets. Similarly, they're looking at credit quality. We have seen softening in land value, price appreciation.

I think that, too, is causing some vendors to take a look at their exposures and looking at opportunities for additional ways to manage their risks and Farmer Mac is available to them for that. .

Got you. And then on the Farm & Ranch standbys, you guys had some nice growth there, and you talked about just increased participation.

What are some of the things that drive that and those decisions?.

Similarly, with some of the loan purchases, it's people looking at their portfolio and looking at, commodity concentrations and managing that downward as they're looking to serve new customers within a commodity.

If they feel from a risk management standpoint, they have sufficient or excess exposure to that commodity and wanting to serve new customers and additional customers, they may look to manage their existing book of business. .

[Operator Instructions] And we're showing no further questions, this does conclude our question-and-answer session. I would like to turn the conference back over to Mr. Buzby for any closing remarks. .

Thank you, Nikki. Thank you, everyone, for listening this morning and for participating. I look forward to our next call to report the second quarter 2014 results in August. Thank you. .

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