As the June Farm Credit Watch first reported, three large, midwest FCS associations are moving forward with their planned merger; regulatory approval by the Farm Credit Administration is almost certain. They are AgStar, serving eastern and southern Minnesota and northwest Wisconsin; Badgerland Financial, which serves southern Wisconsin; and 1st Farm Credit Services, which serves northern and western Illinois. The merged institution will serve 144 counties spreading from the northern tip of Minnesota to just north of St. Louis. Rod Hebrink, the current AgStar CEO, will lead the merged association, which will be called Compeer Financial and headquartered in Sun Prairie, Wisconsin, not far from Badgerland’s present headquarters and about midway, north and south, in the combined territory.
Based on June 30, 2016, numbers, Compeer would have had $18.5 billion in assets, making it the third largest FCS association, behind Omaha-based FCS of America ($25.4 billion in assets) and Louisville-based Farm Credit Mid-America ($22.4 billion). All three associations are funded by AgriBank, which is headquartered in St. Paul. The current CEO of Badgerland said that the goal of the merged association, “is not to be bigger, it is to be better.” However, given its large size and geographic spread, Compeer is a far different animal than the typical FCS association of several decades ago or as still exists in the area from Kansas south to Texas, which is served by 18 associations of varied sizes. Note, too, that the term Farm Credit or Farm Credit Services is absent from Compeer’s name, indicating its likely intent to expand further outside of agricultural lending.
This merger will reduce the FCS to 72 associations, but the then three-largest associations will hold 36 percent of the total assets owned by FCS associations while the ten largest will hold nearly two-thirds of all association assets. Undoubtedly, the FCS merger wave will continue, leading to the formation of a relative handful of very large, multi-state mega-associations bearing no resemblance to the FCS that Congress created 100 years ago or that existed even a few decades ago.
FCS has dramatically increased its share of total farm debt
FCW readers are keenly aware of how rapidly FCS lending has grown in recent years – its total loans more than doubled from year-end 2005 to year-end 2015, rising from $106 billion to $236 billion. Less well understood is the extent to which the FCS has increased its share of total farm debt. As the chart shows, below, since 2000 the FCS share of total farm debt has increased by nearly 50%, rising from 28.3% to 40.4%. The FCS share of debt secured by real estate has risen even higher, to nearly 50%. The higher share attributable to FCS real estate lending, relative to the FCS’s non-real estate lending, reflects the greater tax advantage the FCS as a real estate lender – its profits from real estate lending are exempt from all corporate income taxation while its profits from non-real estate lending are subject to federal corporate income taxes. The leveling off in the growth of the FCS’s market share in recent years probably reflects a narrowing of the funding-cost differential between the FCS and private-sector lenders due to today’s very low level of interest rates. However, the FCS’s funding cost advantage will increase when rates begin to rise.
Essentially, what has happened since 2000 is that the taxpayer-subsidized FCS has increasingly “crowded out” farm lending by taxpaying private-sector lenders. This crowding out has occurred without any public debate as to its desirability. The shift of farm debt from commercial banks to the FCS has had another unintended consequence – it has reduced the amount of loans that rural community banks can put on their books, which has undoubtedly been a factor driving consolidation among rural banks. Put another way, had the FCS’s market share held constant since 2000, commercial banks would be holding another $43 billion of farm loans on their books or servicing farm loans in that amount previously sold to Farmer Mac. How big a lender the FCS should be to American agriculture has become a pressing issue that Congress must address, and the sooner the better.
The FCA adopts important regulatory review projects
Twice a year the FCA updates its Regulatory Projects Plan – the regulations it proposes to study, revise, or even adopt over the next year. Some pending regulatory projects should be of particular interest to bankers.
Bank review of insider loans. This project will “consider whether the current regulations requiring [FCS] bank review of association insider loans is appropriate for the [FCS’s] current structure and serves to ensure compliance with applicable Standards of Conduct regulation.” As reported in the July FCW, I estimate that approximately 1% of the FCS’s total lending is to insiders – senior management and directors. Loans to insiders must be subject to closer scrutiny due to the great potential for abuse.
Financing farm-related service businesses. This review will determine whether these regulations “provide the appropriate framework for determining eligibility and purposes of financing for service providers, including service providers within local food systems.” This regulatory review must be carefully monitored to ensure that in the guise of financing urban farmers the FCA does not open the door to FCS financing of a broader range of service providers who serve non-agricultural customers.
Territorial concurrence. Presently, an FCS association cannot lend in another association’s territory without the other association’s consent. This review would determine whether “requiring notice or concurrence for loans extended in another association’s chartered territory are appropriate for the [FCS’s] current structure, lending practices and operating environment.” This review could revive the Horizons Project of a decade ago, which would have authorized FCS associations to engage in out-of-territory lending, unleashing unhealthy competition between associations.
Similar entity authorities. This study, to be conducted early next year, “would consider whether revised or additional guidance is needed to clarify the authorities of [FCS] banks and associations to participate in similar entity loans.” The FCS’s abuse, especially by CoBank, of its similar-entity authority to lend to Verizon, AT&T, and other investor-owned businesses has sparked great concern among members of the Senate and House Agriculture Committees. It will be interesting to see the extent to which the FCA proposes to rein in FCS lending to “similar entities.”
Attribution rules. This pending study “would consider whether to modify current attribution rules that are applied to determine when loans to a related borrower are combined and attributed to a borrower’s outstanding loans for lending and leasing limit purposes.” Given how credit problems can flow to parties linked by loan guarantees and shared ownership of assets, the FCS should err on the side of conservatism when combining credit exposures for the purpose of limiting credit exposures. “Due to [a] limitation of staff resources,” it appears that this most important project has been placed on hold.