|Shares Out. (in M):||10||P/E||N/A||N/A|
|Market Cap (in $M):||91||P/FCF||N/A||N/A|
|Net Debt (in $M):||4,900||EBIT||0||0|
Most of us know Farmer Mac for the events of 2002. The management team from back then has been kicked out due to recent events; events which have taken the stock from $30 to $2. AGM is now back over $8 but I believe it is worth high teens. They report earnings as early as 4pm tonight and this has good chances of being a major catalyst, so I am writing this up very quickly.
Farmer Mac is mainly a plain vanilla business, small private "instrumentality of the United States" that does the same thing as Fannie and Freddie but with agricultural/rural mortgages (they buy loans for themselves, they securitize loans, or they guarantee loans for a G-fee). They also play around with these things in other ways, more details later. Last year they got a go-ahead to provide liquidity in the rural utility loan sector too, i.e. they were literally handed a bunch of additional earning power with the stroke of a government pen. Credit performance for farms (or homes that sit on farms) is not really suffering like the rest of the economy until now. There's always a couple of agricultural sectors that are having problems (recently dairy) and geographical regions that have drought (recently Cali) but that's normal. The only abnormal part of their portfolio has been ethanol, but they have allowed for significant loan losses and I think it's mostly priced in.
On its balance sheet AGM also invests in fixed-income securities of GSEs and big financial houses. Before September they had 2 positions which were about to become worthless: FNM pfd's and Lehman bonds. When the storm hit, the stock cratered and bk was feared. Their capital levels needed urgent padding. At the same time as all this, ethanol loans got progressively problematic. So the CEO/CFO were kicked out and the new guys have cleaned house by reviewing the investment portfolio and selling risky stuff, as well as raising capital and cancelling any future plans to lend in the ethanol sector. AGM has also had the wind at its back with the yield curve. So the turnaround hasn't required rocket scientists because the underlying business is good. 3 months ago the company announced earnings. In the days prior to the Q, the stock creeped up, and then more than doubled upon the release: no problems at all were reported and core earnings (their measure of normalized profit were 4.8mm in Q1 vs. an approximate 40mm market cap. (a P/E of 2). Since then, the stock has declined on no good reason. There may have been fears they lost on their CIT bonds, but they didn't. Last month they also had the maturation of their SLM bonds, which basically ends their exposure to so-so credits. In the past few days the stock has been vigorously rising to a new 52-week high but I still believe core earnings deserve to be in the $15-20mm range annually, and therefore that the market cap should be at least $150mm. If the earnings are as boringly flawless as last time, they will be a catalyst. If not, valuation will be its own catalyst.
Breakdown of business lines:
- Farmer Mac I program
- Farmer Mac II program
- Rural Utilities program
Farmer Mac I program
This program is for first lien agricultural real estate loans (farmland of homes on that land). Methods of participation: invest/ trade in these loans; issuing long-term standby purchase commitments ("LTSPCs") for these loans (meaning, for a fee, they will stand ready to buy them); guaranteeing either the debt of equity of securitizations made up of these loans; do the same for AgVantage securitizations (explained below); and invest/trade in pieces of the above-mentioned securitizations. Obviously some of the loans they buy are 'forced' unto them (loans underlying the secutirizations/LTSPCs which are 90+ days delinquent). AgVantage is a process whereby Farmer Mac guarantees a bond issued by a financial institution. That bond is backed by a Farmer Mac securitization of loans that the institution originated.
- For a Farmer Mac I eligible agricultural mortgage loan secured by more than 1,000 acres of agricultural real estate, the Act authorizes a maximum loan size of $9.8 million (adjusted annually for inflation), which Farmer Mac currently further limits to $9.0 million
- The current maximum purchase price or current appraised value for a dwelling, excluding the land to which the dwelling is affixed, that secures a rural housing loan is $269,807
- In addition to the dwelling itself, an eligible rural housing loan can be secured by land associated with the dwelling having an appraised value of no more than 50 percent of the total appraised value of the combined property. As of December 31, 2008, rural housing loans did not represent a significant part of Farmer Mac's business.
- LTV of any loan cannot exceed 70 percent, with the exception of a loan secured by a livestock facility and supported by a
contract with an approved integrator may have an LTV of up to 80 percent. Rural housing loans and agricultural real estate mortgage loans secured primarily by owner-occupied residences may only have LTVs of up to 80 percent.
- During the latter part of 2008, Farmer Mac began requiring a more stringent total debt service coverage ratio for farm and ranch loans with LTVs between 60 percent and 70 percent. (new management)
- As of December 31, 2008, the weighted-average original LTV for loans held and loans underlying LTSPCs and Farmer Mac I Guaranteed Securities (excluding AgVantage securities) was 50 percent, and the weighted-average original LTV for all non-performing assets was 60 percent.
- In AgVantage securitizations, AGM can require the issuer to remove from the pool any loan 30+ days delinquent and to substitute an eligible loan. As of December 31, 2008, Farmer Mac had not experienced any credit losses, nor had it been called upon to make a guarantee payment, on any of its AgVantage securities.
- For AgVantage, Farmer Mac is not only exposed to mortgage credit risk but the institution's credit risk. AGM requires the obligation to be overcollateralized, either by more eligible loans or cash, treasuries, GSE MBS etc'.
Farmer Mac II program
This part of the business is more boring. AGM buys government guaranteed portions of various USDA-backed loans and securitizes them. The resulting paper is guaranteed by AGM (not that such guarantee is really needed of anything) and some of it is sold to investors, while most of it stays in AGM's own portfolio. The USDA-guaranteed portions represent up to 95 percent of principal of these loans. As of December 31, 2008, Farmer Mac had experienced no credit losses on any of its
Farmer Mac II Guaranteed Securities.
Rural Utilities program
Under this new program, AGM usually lends to rural electricity cooperatives as a 1st lien senior lender secured by all assets. It also creates AgVantage securities for institutions who lend to such co-ops, with the proper OC levels. Each borrower has to be eligible to receive such a loan under the Rural Electrification Act, which is managed by a sub-department of the USDA. The maximum cumulative direct credit exposure on eligible rural utilities loans (e.g., purchases of loans or securities representing interests in loans) to any one borrower or related borrowers is $20.0 million. For indirect credit exposures on rural utilities loans (e.g., AgVantage transactions) the maximum loan exposure to any one borrower or related borrowers is $35.0 million
Permitted investments: treasuries, GSEs, munis, development bank obligations, money market instruments, diversified investment funds, ABS, corporate debt, mortgage securities. With respect to corporate securities, as I said before, no more SLM and CIT bonds. What's left? Goldman, HSBC, Merrill, MS, credit Suisse, John Deere. So it's not a huge risk.
Funding and interest rate management
AGM funds itself manly in the debt markets with all kind of notes. There are also various classes of pfd's and common. They have their elaborate machine for matching durations, dealing with prepayment risk, interest rate shock risk, swapping fixed-to-variable of course... and all the rest. The 10-K goes over that in great detail and more detail than the previous management team, both in terms of the economics and accounting. I think the key is that they are a small-cap company. Fannie/Freddie probably need to put much more work into their interest rate management.
If you take out hedge accounting and one-time losses (I believe ethanol is a one-time mistake), core annual earnings should be higher than the $8mm implied by a 10x multiple on today's price, perhaps much higher. This was a profitable stable company before and it is becoming that again. The only lost value is the dilution from recent stock issuances, necessary to pad up capital levels. But that dilution doesn't justify the stock trading at 1/3 of what it was, especially that they now have Rural Utilities and a better management team. This is a company that does what the government mandated it to do, with a steep yield curve. The turnaround should be clear to more people.
Oh...and it has no analyst coverage - yet?
maybe analyst coverage
conference calls, better communication with investors
valuation itself. Now approximately 3-5x core earnings.