Farm Credit Watch: FCS Reduces Lending to Smaller Borrowers Even as It Grows

Despite the Farm Credit System’s supposed emphasis on lending to young, beginning and small farmers and ranchers, data in the FCS’s annual information statement for 2017 documents the declining importance of small borrowers to the FCS over the last several years. Although total FCS lending from year-end 2015 to year-end 2017 increased $22.9 billion, or 9.7 percent, the total amount lent to those who borrowed less than $250,000 was essentially flat, rising to $32.93 billion at year-end 2016 from $32.64 billion at the prior year-end (13.8 percent of total FCS lending) and then dropping to $32.85 billion at the end of 2017, just 12.7 percent of total FCS lending. The FCS had 423,591 borrowers in this loan-size category at year-end 2017. However, a substantial portion of the $208 million increase in borrowings under $250,000 over that two-year period may have been accounted for by the $144 million increase in FCS rural home loans as most of those loans should have been under $250,000.

FCS lending in the next two borrower-size categories — $250,000 to $500,000 and $500,000 to $1 million — showed a similar flatness in outstanding loans. Total loans in the smaller of these two categories grew just $614 million, or 2.9 percent, over the two-year period, while total loans in the larger category grew $753 million, or 3.1 percent. Some of the borrowers in these categories may have moved into the larger loan categories as they grew their farming or agribusiness operations.

Over that same two-year period, though, FCS lending to its largest borrowers — fewer than 1,000 — increased dramatically. At the end of 2015, the FCS had just 804 borrowers with at least $25 million in loans outstanding. Collectively, they had borrowed $71.3 billion, 30.2 percent of all FCS lending. Two years later, at the end of 2017, the FCS had 982 borrowers who had borrowed at least $25 million, for total borrowings of $85.26 billion, 32.9 percent of total FCS lending. Not only are the FCS’s largest borrowers becoming more numerous — a 22 percent increase in just two years — but their share of FCS borrowing increased by 2.7 percentage points. I suspect many of these large borrowers are agribusinesses and utilities, not farmers or ranchers.

The next smaller loan-size category — $5 million to $25 million — showed a similar result, an increase of 311 borrowers, to 3,965, at year-end 2017 from 3,654 at year-end 2015. Their borrowings rose less dramatically, from $35.95 billion at year-end 2015 to $38.84 billion two years later, accounting for 15 percent of total FCS lending. This contrast shows the extent to which the FCS is increasingly focused on lending to the largest farming and agribusiness operations in the United States, the farms, ranches, and businesses least in need of the taxpayer subsidy provided by the FCS. There is some good news, though — the FCS only had one credit exposure in the $1 billion to $1.5 billion size range at the end of 2017, down from two such exposures at the end of 2016.

FCS YBS lending data reported by the Funding Corporation tries to tell a different story, keeping in mind that the FCS erroneously reports YBS data. For example, a loan to a young (Y) farmer (under 35) who has been farming less 10 years or less (B) and has less than $250,000 in annual gross sales of agricultural products (S) will get counted three times in the YBS data — once as a Y, once as a B, and again as an S. If he or she has three FCS loans outstanding, say a real estate loan, an operating loan, and an equipment loan, that person will be counted nine times in the FCS’s YBS data even though that borrower would get counted just once in the lending data cited in the preceding paragraphs.

This multiple counting severely exaggerates the extent of the FCS’s YBS lending. For example, the FCS reports that the aggregate amount of individual loans to young farmers and ranchers increased 4.7 percent from year-end 2016 to year-end 2017; loans to the overlapping group of beginning farmers increased 4.4 percent over the same time period; and loans to small farmers increased 2 percent. The differences between the more favorable YBS data and loan data by the size of the total amount borrowed strongly suggests that the FCS needs to begin aggregating the total amount borrowed by a particular borrower when reporting on its YBS lending.

Lone Star Ag Credit issues 2017 annual report
As I first reported in last August’s FCW, on Aug. 9, 2017, Lone Star Ag Credit, headquartered in Fort Worth and serving portions of central and north Texas, issued a “Notification of Non-Reliance on Previously Issued Financial Statements” for 2016 and the first quarter of 2017 due to just-discovered “appraisal and accounting irregularities.” At the same time, the Farm Credit Administration (FCA) pulled from its website all call reports Lone Star had filed after the fourth quarter of 2015. On May 3, Lone Star issued its 2017 annual report. It does not make for pretty reading.

According to the report, a financial restatement reduced Lone Star’s 2016’s net income by $8.12 million. Losses causing that reduction “were the result of the activities of a former loan officer who breached [Lone Star’s] policies and procedures and engaged in improper conduct that included improperly advancing funds without appropriate approvals, offering unauthorized loan terms to borrowers, originating loans to fictitious borrowers, and originating loans and advancing funds on fabricated documentation.” These activities seem criminal to me, but I could find no indication in the annual report that Lone Star had filed a criminal complaint nor did a Google search turn up anything.

In addition to the decrease in 2016’s net income, the accounting adjustments and additional expenses triggered by the restatement cost Lone Star another $19.83 million in 2017 and $1.43 million so far this year. But the hit was even worse — its combined net income for 2016 and 2017 was $30.30 million, not that much more than 2015’s net income of $27.57 million. Additionally, Lone Star paid no patronage dividend for 2017 after paying $26.75 million out of the prior two years’ earnings. It member/borrowers must not be too happy about that! Fortunately, Lone Star remains well capitalized.

The most interesting question that arises, and is barely touched on in the report, is how did an accounting mess of this magnitude occur, why did it mushroom to the size that it did, why did it persist as long as it did, and who was slow to discover these obvious lending and financial control issues given that Lone Star has a chief financial officer, has an annual audit, and is subject to periodic examination by FCA examiners working out of an FCA regional office just a 29-mile drive away? Additionally, Lone Star’s funding bank, the Farm Credit Bank of Texas, which had lent Lone Star $1.23 billion as of the end of 2015, and presumably provides some oversight of Lone Star by virtue of being its primary creditor, appears not to have provided sufficient oversight. Lone Star’s accounting and control issues seem similar to the problems that erupted at Arizona’s FCS Southwest in 2014 that in turn led to its acquisition by Farm Credit West in 2015. Perhaps Congress should direct the General Accounting Office to examine what happened at the two associations, and why.

About Bert Ely

Bert Ely
Bert Ely is a consultant specializing in banking issues. He writes ABA's monthly Farm Credit Watch email bulletin.