By Bert Ely
CoBank, the Farm Credit System’s sole authorized lender to utility and agricultural cooperatives, has ranged further afield in lending to investor-owned utilities and energy companies, and taking on more credit risk in doing so. As I have reported in the past, CoBank has purchased participations in debt raised by large, well-known investor-owned telecommunication companies – Verizon, AT&T, U.S. Cellular and Frontier Communications. CoBank lent a total of $1.5 billion to these companies. I am now learning that CoBank also has been lending to smaller, less credit worthy investor-owned companies.
In April, CoBank provided $50 million of a new $300 million unsecured two-year term loan to Black Hills Corp., rated BBB. The interest rate on the loan is LIBOR plus 90 basis points. Since the FCS can borrow for approximately 10 basis points below one-month LIBOR, CoBank’s spread on this loan is about 100 basis points. Black Hills serves 785,000 natural gas and electric utility customers in seven western states. It also generates wholesale electricity and produces natural gas, oil and coal. Leaving aside whether CoBank should provide taxpayer-subsidized credit to any investor-owned company, the underlined activities hardly fit within the scope of the activities the FCS is authorized to finance.
Much more questionable is CoBank’s long-term lending relationship with Otelco, Inc., a NASDAQ-listed telephone company with operations in seven states scattered from Maine to Missouri. CoBank’s Otelco loan came to my attention due to a disclosure in a recent Otelco SEC filing that it had received a $1.1 million patronage dividend for 2014 from CoBank. According to other SEC filings, CoBank’s lending to Otelco dates to before October 2008, for that is when CoBank nearly doubled its credit exposure to Otelco, to $55 million, as a participant in a senior credit facility led by GE Capital. CoBank also provided a $5 million revolving loan commitment. At that time, Otelco was leveraged 12.6 to 1 on a GAAP-accounting basis, its profits were weak, and it had a negative tangible capital of $125 million, due to goodwill and other intangible assets accounting for $143 million of its total assets of $228 million. By May 2013, when Otelco went through a Chapter 11 bankruptcy reorganization, CoBank held a 31.4% ($41.85 million) participation in Otelco’s senior credit facility. CoBank was lucky as the credit facility was restructured with no loss of principal. Periodic principal payments should reduce CoBank’s credit exposure to $36.6 million when the facility matures on April 30, 2016.
Whether Otelco will be able in April 2016 to repay or refinance its remaining senior debt of $116.64 million, including the $36.6 million owed to CoBank, is questionable given Otelco’s current financial condition. At March 31, 2015, Otelco had total assets of $121 million, long-term notes totaling $109 million, and a negative GAAP net worth of $21.7 million. Worse, Otelco had $48 million of goodwill and other intangible assets on that date, so its tangible net worth was a negative $69.6 million. Quite troubling, over the 2010-14 period, Otelco’s revenues declined from $104 million to $74 million and declined again in the first quarter of 2015 compared to first quarter of 2014. Although the company has been modestly profitable since its Chapter 11 restructuring, it is highly unlikely to regain a positive net worth by next April, when its debt to CoBank comes due. Consequently, Otelco could generate a large loss on a loan CoBank should never have made. The extent to which CoBank has lent to other smaller, riskier investor-owned utilities is unknown at this time but it is an issue Congress should explore.
Cracker Barrel is an eligible FCS borrower?
CoBank is not the only FCS institution lending to investor-owned companies – FCS associations have lent to Cracker Barrel Old Country Store, Inc., which operates over 600 stores. In its last fiscal year, ended Aug. 1, 2014, Cracker Barrel reported sales of $2.68 billion and after-tax profits of $132 million. It had total assets on that date of $1.43 billion and shareholders’ equity of $529 million. Cracker Barrel clearly is strong financially and it is hardly an agricultural business, unless McDonald’s, Burger King, and other restaurant chains could be viewed as such because they sell prepared food, too.
According to a Jan. 9, 2015, news release, Cracker Barrel negotiated a five-year, $750 million revolving line-of-credit with 15 financial institutions, including Greenstone FCS, which serves Michigan and part of Wisconsin. The credit agreement for this line-of-credit did not list participation amounts for the fifteen institutions but with an average of $50 million, it is reasonable to assume that Greenstone is in this deal for at least $25 million. An earlier 2011 line-of-credit had many of the same participants as the 2015 line-of-credit with one notable exception – the 2011 line-of-credit included three other FCS institutions beside Greenstone that did not participate in the 2015 line of credit – 1st FCS, AgChoice and FCS Financial. Why those three are not in the 2015 line-of-credit was not disclosed. It would be reasonable for Congress to ask how many other large, non-agricultural, investor-owned corporations are borrowing from the FCS. Such loans clearly are not authorized by the Farm Credit Act that the Farm Credit Administration is charged with enforcing.
One other point is worth mentioning – Greenstone is listed in the news release announcing the 2015 agreement as “Greenstone Farm Credit Services ACA/FLCA,” which suggests that Greenstone is putting loans under this credit agreement in its tax-exempt Federal Land Credit Association (FLCA) subsidiary, which is limited to loans secured by real estate. As best I can determine, the 2015 line-of-credit is not directly secured by Cracker Barrel real estate, which suggests that any FCS loan to Cracker Barrel cannot be put on the books of an FCS association’s tax-exempt FLCA subsidiary.
Fitch Ratings tells the truth: FCS debt is government-backed
On April 21, Fitch Ratings, one of the three major credit-rating organizations, affirmed the FCS’s long-term and short-term “issuer default ratings,” or IDR, as AAA/F1+, Fitch’s highest credit ratings. Fitch also assigned AA-/F1+ IDRs to the FCS’s four banks – AgFirst, AgriBank, CoBank and Farm Credit Bank of Texas. “These rating actions follow Fitch’s affirmation of the U.S. Government’s ‘AAA’ IDR and Stable Outlook.” The Fitch news release then stated what bankers have long known: “the FCS benefits from implicit government support. Therefore, the ratings and Outlook of the FCS are directly linked to the U.S. Sovereign rating. . . and will continue to move in tandem.”
Most importantly, Fitch stated: “if at some point in the future, Fitch views government support [of the FCS] as being reduced, the ratings of the GSEs may be delinked from the sovereign and downgraded.” This statement reinforces a key aspect of the competitive edge the FCS has over taxpaying banks, especially in financing long-term, fixed-rate real estate loans – the FCS can borrow cheaply only because it is a taxpayer-backed GSE. The high (AA-) credit rating Fitch gave the FCS banks reflects its assessment that “the likelihood of support at the [FCS] bank level to be incrementally greater than for systemically important commercial banks given the banks’ public mission and GSE status.”