Federal Agricultural Mortgage Corp
NYSE:AGM
Earnings Call Analysis
Q4-2023 Analysis
Federal Agricultural Mortgage Corp
Farmer Mac culminated 2023 on a high note, evidencing exceptional performance and evident momentum across all business segments, particularly AgVantage Securities, Farm & Ranch, Renewable Energy, and Rural Utility. Net volume expansion in Q4 2023 reached $819 million, fuelled by these segments. The outcome of this vigorous activity manifested in a robust net effective spread (NES) growth to 118 basis points ($84.6 million in Q4 and $327 million for the year), significantly above previous years, underscoring the advantageous timing of capital raised, beneficial debt funding strategies, and successful investments in higher spread assets. Core earnings reflected this growth by surging to $171.2 million for the year, translating to $15.65 per share, and notably attributing this double-digit percentage increase to their strategic financial stewardship.
Driving its NES, Farmer Mac capitalized on credit spread widening amidst market volatility across various sectors—telecommunications, real utilities, and renewable energy. The company focused particularly on middle-market transactions, fostering higher NES in the rural infrastructure space. Echoing the company's strategic acumen, incoming 2024 preserves the advantage of stable NES, underscoring management's efforts in laddering investment strategies to mitigate interest rate volatility and locking in favorable conditions born from past capital management prudence.
The credit profile remains solid, downturns negligible, and charge-offs non-existent, with a positive trajectory in delinquency decline and an adequate allowance for loan losses. Despite a 19% increase in expenses from hiring and technology investments essential for scaling and cyber defense, the operational efficiency ratio remains below the strategic threshold of 30%, a testament to the company's revenue strategy and cost of funds management. This disciplined efficiency is expected to continue, although investments may briefly push the ratio beyond the target.
The robust financial performance enabled a $0.30 per share increase in dividends—an indicator of the strong capital position and the company's appreciation for shareholder loyalty. Furthermore, the company intends to lean more heavily on organic growth and quality capital, anticipating a skew towards retained earnings, reducing the reliance on preferred securities and enhancing financial freedom and growth potential amidst uncertain regulatory and legislative landscapes.
In the face of interest rate hikes and reduced liquidity support, Farmer Mac's competitive edge deepened. The AgVantage program, significantly beneficial within Farm & Ranch and rural utilities, exemplified the company's deepened market reach and growing NES. Open discussions with various counterparties signal a strategic shift, with potential transitions from AgVantage facilities to outright loan purchases, thus diversifying and strengthening the company's financial toolkit and liquidity offerings.
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Good morning, ladies and gentlemen, and welcome to the Farmer Mac Fourth Quarter and Full Year 2023 Results Conference Call. [Operator Instructions] This call is being recorded on Friday, February 23, 2024.I would now like to turn the conference over to Jalpa Nazareth. Please go ahead.
Good afternoon, and thank you for joining us for our fourth quarter and full year 2023 earnings conference call. I'm Jalpa Nazareth, Senior Director of Investor Relations and Finance Strategy here at Farmer Mac.As we begin, please note that the information provided during this call may contain forward-looking statements about the company's business, strategies and prospects, which are based on management's current expectations and assumptions. These statements are not a guarantee of future performance and are subject to the risks and uncertainties that could cause our actual results to differ materially from those projected. Please refer to Farmer Mac's 2023 Annual Report on Form 10-K filed with the SEC today for a full discussion of the company's risk factors.On today's call, we will also be discussing certain non-GAAP financial measures. Disclosures and reconciliations of these non-GAAP measures can be found in the 2023 Form 10-K and earnings release posted on Farmer Mac's website, farmermac.com, under the Financial Information portion of the Investors section.Joining us from management this afternoon is our President and Chief Executive Officer, Brad Nordholm, who will discuss 2023 business and financial highlights and strategic objectives; and Chief Financial Officer, Aparna Ramesh, who will provide greater detail on our financial performance. Select members of our management team will also be join us to provide additional information on business trends and credit conditions.At this time, I'll turn the call over to President and CEO, Brad Nordholm. Brad?
Thanks, Jalpa. Good morning, everyone, and thank you for joining us today. 2023 was a remarkable year for Farmer Mac. We produced double-digit earnings growth and record net effective spread, and we substantially grew business volume, all while maintaining credit quality and holding our efficiency ratio below our target of 30%.Our success continues to be driven by our team's execution of our multi-year strategic plan, disciplined asset liability management decisions and funding execution, and successful business development efforts, which have resulted in the diversification of our revenue streams.Our strong capital base and uninterrupted access to the capital markets support our long-term strategic growth objectives, while also providing a buffer against market volatility and changing credit market conditions.So, let me be a bit more specific. In comparison to the prior year, 2022, we concluded 2023 with a 28% growth in net effective spread to $327 million, a 38% growth in core earnings to $171 million, and a 10% growth in outstanding business volume to $28.5 billion.I believe that, it is the combination of our passion for our mission, our expertise, and discipline, coupled with our exceptional access to debt securitization markets and consistent asset liability management that enables us to deliver consistently strong financial results.I fervently believe that passion for mission, the passion from our employees, our board, our executives, I believe that it really turbo charges our expertise and discipline to deliver these exceptional results.As you read in this morning's press release, we announced a 27% $0.30 per share increase in our quarterly common stock dividend to $1.40 per share beginning the first quarter of 2024. This reflects the 13th consecutive year that Farmer Mac has increased its quarterly dividend. We are resolved to increase our dividend on an annual basis with a policy focused on achieving a targeted payout that balances a reasonable growth of both previous and future earnings, along with maintaining an adequate level of capital to exceed our requirements and support our expectations for our future business volume growth.As I've said for a couple of years, diversifying our loan portfolio and serving more of our clearly defined market segments has been a key priority over the last years, and that diversification is benefiting us through changing market cycles.In 2023, we provided a growth of $8.3 billion in liquidity and lending capacity to lenders serving rural America, reflecting net year-over-year outstanding business volume growth of over $2.5 billion. The rural infrastructure line of business grew $1.4 billion, or 21% year-over-year, to $8 billion as of year end, primarily due to new advantage facilities with existing and new counterparties and growth within the Renewable Energy and Telecommunications portfolios.The agricultural finance line of business increased $1.2 billion, or 6%, year-over-year to $20.5 billion, primarily driven by the acquisition of approximately $600 million of mortgage servicing rights for Farm & Ranch Loans held by and serviced for a third-party, new advantage securities with their longstanding institutional counterparties, and loan purchase growth in Farm & Ranch corporate agribusiness.New AgVantage Securities in the wholesale financing space were a key driver to overall volume growth in both lines of business. The continued demand within the space reflects the comparative competitiveness of Farmer Mac's AgVantage pricing relative to market alternatives.Looking ahead to 2024, we believe, especially given the uncertainty and volatility around the interest rate environment that Farmer Mac will continue to be viewed as a unique relative value and diversifying funding source for many institutional counterparties.Thriving exceptional growth in the rural infrastructure line of business were the Renewable Energy and Telecommunications portfolios. As we predicted on a number of prior calls, our total Renewable Energy segment more than doubled in size during the year.And our telecommunications portfolio grew nearly 60% year-over-year. Given the strong demand for renewable power generation and storage, and growing investment in fiber and broadband in rural America, we continue to focus on strategic talent acquisition in these 2 areas to build our expertise and capacity as market opportunities arise.Our Farm & Ranch segment modestly increased over 2022, primarily because of the higher interest rate environment. There was relatively strong activity in the fourth quarter of 2023, and the higher demand for Farm & Ranch loan purchase product has continued into the first quarter of 2024, further reflecting borrowers' adjustments to the new rate environment. We're cautiously optimistic about the increase in Farm & Ranch loan purchases in 2024.Farmer's generally have strong cash positions, but we have seen a slower increase in land values versus the prior years, and we expect a decline in 2024 farm incomes as input costs remain elevated and commodity prices continue to recede. As we previously mentioned, we acquired $600 million of mortgage servicing rights on Farm & Ranch loans held by and serviced for a third-party in the second quarter of 2023.During 2023, we also purchased servicing rights for approximately $700 million of mortgage servicing rights for Farmer Mac loans owned by Farmer Mac. These transactions have enabled us to expand our servicing portfolio for the first time since we added the servicing function in the third quarter of 2021. This capability gives us more direct oversight and governance of our portfolio, enhanced security, more control over timely access to data, and better visibility into loan performance from inception to maturity.Looking ahead, we will seek to continue to capitalize on this initiative to create a more efficient process for our customers and their borrowers and achieve economies of scale with minimal incremental expense.Another area of significant focus is our Farm securitization program. We have closed a $300 million transaction every year for the last 3 years and expect to be back in the market in the first half of 2024. We're committed to being a regular issuer in the market with a set of securitization products that align with customer, power, and investor interests.Developing this capital flow to agricultural producers, exemplifies Farmer Mac's core mission to lower costs for the end borrower and improve credit availability in rural America, while also creating an underlying agricultural investment opportunity in the capital markets.Looking ahead to 2024, we will strive to continue to be a source of reliable capital for our stakeholders as we navigate the ongoing uncertainty in the broader markets. We want to step-in where we can to be a partner to our customers and more effectively fulfill our role as a secondary market provider of low-cost liquidity and capital efficiency with the ultimate goal of strengthening the rural economy.On prior calls, I've talked about an expansion of our approach to marketing and branding here at Farmer Mac. You will soon begin seeing our efforts to use branding to deepen our connection with our stakeholders in a compelling and uniform way to support the expansion of our mission-driven work that helps build a strong and vital rural America.Initiative is intended to highlight our distinctive position as a secondary market partner that fosters greater connections between Wall Street and Main Street America, as well as across the entire value chain, fuel growth, innovation, and prosperity in America's rural and agricultural communities.In no small part, the fuel for that growth also comes from our active creation of more investment opportunities for the capital markets and strong access to capital. A significant competitive advantage for us is our people and their interwoven connection of mission, expertise, and discipline. I don't believe you can separate those attributes, and how they are committed to accelerate opportunities for rural America.To recognize their contributions and even more fully align these attributes, we have continued to enhance our benefit offerings to include all employees in an Equity for All Program, to make them eligible to receive annual grants of equity-based compensation. I'm extremely proud of our team and all they've accomplished in 2023.Now, I'd like to turn over the call to Aparna Ramesh, our Chief Financial Officer, to discuss our financial results in more detail.
Thank you, Brad, and good morning, everyone. 2023 was an exceptional year for Farmer Mac. Results were strong across the Board, highlighting a balanced, well-measured approach, excellent credit quality, and resiliency through market cycles. Our performance in fourth quarter 2023 enabled us to finish the year with very strong momentum.Net volume growth in fourth quarter 2023 was $819 million, and this was primarily driven by new AgVantage Securities volume in the rural utilities and Farm & Ranch segments, and strong loan purchase volume across the Farm & Ranch, Renewable Energy, and Rural Utility segments. As Brad mentioned, the improvement in Farm & Ranch loan purchase volumes in the fourth quarter has created positive momentum heading into 2024.Turning to results, core earnings were $44.9 million, or $4.10 per share in fourth quarter 2023, and $171.2 million of $15.65 per share in 2023. And this reflects double-digit year-over-year growth, which was largely driven by record, net effective spread of $84.6 million in fourth quarter 2023, and $327 million for the entire year. The year-over-year 16 basis point improvement in spread to 118 basis points of NES, as of year-end was primarily driven by our low-cost excess capital, our debt funding strategies in previous low-rate environments, and our ability to redeploy both the excess capital and the lower cost of funds into higher-earning assets.This advantage was further enhanced by the continued trend towards higher spread volume that is evident in our new segments like Renewable Energy and Corporate AgFinance. The capital that we raised opportunistically when raised for its historical lows in 2020 and 2021 has reduced the need for us to raise more expensive terms and callable debt in the current rising rate environment.We continue to defensively hold approximately $900 million in cash and other short-term instruments in our liquidity portfolio. Not only does this help us weather potential market disruption, our excess and highly liquid capital generates immediate returns in a high nominal rate environment. While the rise in short-term rates has provided a benefit to earnings, we project limited downside to earnings if rates decline in the future, and this is due to our proactive equity capital allocation strategy, where we're laddering and layering durations to minimize balance sheet and earnings volatility.Specifically, we expect to retain some of this benefit over the medium term, even if rates decline. And to that end, we've started extending maturities in our investment portfolio. Despite the macro headwinds, we continue to see strong access to debt capital markets and a general flight to quality investments, which allows us to be very well positioned to fund new asset opportunities as they arise.Our liquidity and capital positions continue to remain well in excess of all regulatory ratios and our projections show minimal change in our profitability and limited exposure to movement in interest rates where the market protective rates go up or down.Farmer Mac maintained a monthly average of 307 days of liquidity through 2023, and had 319 days as of December 31, 2023. And these numbers reflect resiliency against short and medium-term market disruption.Turning to operating expenses, our operating expenses increased by 19% year-over-year due to increased headcount, increased stock concentrations, and increased spending on software licenses and information technology initiatives, which included consultants to support growth and strategic initiatives.We concluded 2023 with 185 employees. Expenditures associated with the multi-year technology investment, which we've discussed before, in our treasury and cash management systems are being executed against to enhance our trading, hedging, and reporting platforms. And this initiative has contributed significantly to the year-over-year increase in expenses. This modernization effort is expected to position us to more effectively defend against cyber and fraud threats, and also allow us to scale our portfolio and diversify our product offerings that are in this alignment with our business and funding strategies.We also plan to continue to make investments in strategic focus areas, such as Renewable Energy, and be for strong revenue contributors in 2023, and to continue to modernize our infrastructure, including our servicing and loan platforms, to support our growth and strategic objectives.Despite this substantial increase in our expenses year-over-year, operating efficiency held at 27% at year-end, and this is below our long-term strategic plan target of 30%. This result is a testament to our accretive revenue strategy, as well as a substantial reduction in our cost of funds, driven by a disciplined approach to raising capital and managing balance sheet volatility.We'll continue to monitor our efficiency ratio and manage it such that we expect to remain at or below the long-run average of 30%. However, as we make investments in our loan infrastructure and funding platforms and continue to innovate our loan processes using technology to accelerate growth, we may see some temporary increases that could result in the efficiency ratio rising about the 30% level.Our credit profile continues to be very strong in aggregate, despite the economic headwind. 90-day delinquencies were $35 million, or 12 basis points for our entire portfolio, and this reflects a decrease both sequentially and year-over-year. As of December 31st, 2023, the total allowance for losses was $18.3 million, and this reflects a $1.1 million provision compared to year-end 2022, and this is primarily due to a single telecommunications loan that was downgraded to substandard during the year. The provision was partially offset by a release related to a single collateral-dependent agricultural storage and processing loan that fully paid off during the year. We ended the year with no charge-off.Let's turn now to capital. Farmer Mac's $1.5 billion of core capital as of December 31st, 2023 exceeded our statutory requirement by $589 million or 68%. Core capital increased from year-end 2022 primarily due to an increase in retained earnings, which reflects a substantial improvement in both the quantity and the quality of our capital base. And this is reflected in our Tier 1 capital ratio, which improved to 15.4%.Our consistent earnings strongly support the $0.30 per share increase in our quarterly common stock dividend. And we are very pleased that we can offer this return to our shareholders, while maintaining strong capital ratios to defend our balance sheet and also fueling our growth objectives.We will continue to invest significant resources to enhance our infrastructure and engage with our customers and investors to support a robust and liquid market for our Farm securitization product.Securitization has many beneficial aspects for Farmer Mac. It allows us to diversify our funding, enhance and optimize our balance sheet through the efficient deployment of capital, and it can enable our growth strategy by targeting new asset opportunities into our conduit.While we are closely monitoring a changing market dynamic, we fully expect to return to the market in the first half of 2024 with another similar Farm securitization transaction as the previous 3 transactions. As we assess, our strategic objectives for the program, we plan to transform what has been a financing strategy to start to offer this as a vehicle for capital efficiency and growth for our counterparties.So in summary, our entire team delivered exceptionally good quarterly results, whilst fulfilling several important strategic and revenue objectives. We deliver on our key metrics that we report to you on each call. We had record core earnings and continued strong credit performance, and all of this resulted in a 19% return on equity, while holding the efficiency ratio below our 30% target.As the interest rate environment moderates, we remain optimistic that the natural hedges within our business and balance sheet should allow for a more sustainable long-run average in net effective spread. Looking ahead to 2024, we remain well-positioned and more optimistic than ever to deliver on our long-term strategic plan objectives.And with that, Brad, let me turn it back to you.
Thank you, Aparna. We are extremely proud of our financial results for 2023. As Aparna was saying, we believe that we're well positioned heading into 2024 with strong liquidity and capital levels, a diversified business mix, highly effective risk management practices, and an expanded team of dedicated professionals.We're very optimistic about the future and will maintain our singular focus on fulfilling our mission efficiently and innovatively as we navigate the backdrop of broader market uncertainty attributable to interest rates, regulation, and policy change. This is how we believe we can continue to differentiate ourselves and deliver value to our customers and borrowers in rural America.And now, operator, I'd like to see if we have any questions from anyone on the line with us today.
[Operator Instructions] Your first question comes from Bill Ryan with Seaport Research.
Congratulations on your 2023 results. Question on the margin, specifically the net effective spread on Renewable Energy and Utilities, both improved quarter-over-quarter, Renewable Energy quite a bit. I believe, Brad, last quarter you talked about maybe some pricing strategies that were being implemented to maybe enhance some of the yields. Could you talk about what the drivers of the margin in the quarter was or the NES in those 2 business lines?
Okay. Bill, we also have Zach Carpenter on, so I'm going to ask Zach to provide you with a little additional color, but I believe on prior calls I talked about how over the last few years we have really tried to move our pricing from being pricing that really achieved the lowest acceptable threshold from Farmer Mac to pricing that reflect more of the market, and that's resulted in more variation between business segments and also within deals within the business segments. So that's part of it.We also are becoming better established in the markets and have a growing reputation among market players, which allows them to see us as a premium player, and that puts us in a position of a bit better negotiating position as well. But let me turn to Zach to really kind of flush this out for you in more detail.
Yes, happy to, Brad, and thanks, Bill. Brad touched on most of the key attributes. I'd highlight 3 main things. You know, focused on real utilities, just remember the telecommunications portfolio is included in that segment. That sector by itself has much higher net effective spread just given the risk profile of those transactions. And again, in that space we're really focused on pricing to market and making sure that the transactions that we're bringing on board reflect the risk that we have in those.I'd say the second is more of a market construct in terms of the volatility we've seen. What that created in 2023 was kind of a widening of credit spreads across, I think, most sectors of Farmer Mac. And so as we execute in all 3 of the spaces, portfolios, telco, real utilities, and renewable energy, we saw a widening of credit spreads in 2023, which also resulted in an increase in net effective spread.And the last thing, I would note is just specifically focused to Renewable Energy. Our primary target and focus is really in that middle market type transactions and not necessarily the largest transactions in the market. And that by itself has focused us more on, I'd say, more creative net effective spreads than some of the other transactions. So I think that the combination of those 3 things is really what caused an accretive net effective spread in the rural infrastructure space.
Okay. One follow-up also related to the net effective spread, but in terms of portfolio re-pricing, we've obviously been in a fairly stable interest rate environment. I think last quarter everybody was expecting a more dramatic reduction in market interest and we talked about the overall margin maybe being a little bit under pressure. But, kind of where we're at right now, you know, it doesn't look like rates are going to go down nearly as much and the portfolio continues to reprice. Are we kind of looking more, you know, let's just say everything held constant at a stable type NES, you know, not adjusted for mix or anything, or with ongoing repricing of the existing portfolio, is there some potential upside to the core margin?
Well, from an asset liability management, the asset liability side are quite well matched. And so unlike banks, when we have a movement in rates, for example, increase in deposit costs, it doesn't put pressure on us. But in terms of the re-pricing of the existing portfolio, that really goes to a prepayment question. Zach, why don't you provide some insight into what's happening with our prepayments as well as the new origination opportunity?
Yes, absolutely. Specifically in the Farm & Ranch segment, rates still remain high comparatively to the last 10 to 15 years. So our prepayments have remained historically low and we continue to expect that to take place, at least for the foreseeable future into 2024. You know, that does -- the new volume that we bring on is not making up for lost refinancing volume. And that would tend us to think that spreads will be relatively stable in the Farm & Ranch line of business.The only other thing I would highlight, and this -- directly goes on the asset side of the book as it pertains to net effective spread, is we have seen a pretty significant tightening of credit spreads across the spectrum heading into 2024. And so as we look at kind of our other products and segments, we'll take that into consideration as we look to deploy more capital. But, again, the volatility in the market kind of moved the other way starting in 2024. And so that could impact certain refinancing activity in some of the other segments. But in our core Farm & Ranch and Corporate Ag segment, I think we're pretty confident that it's going to be relatively stable, at least for the foreseeable future.
Your next question comes from Bose George with KBW.
Just wanted to follow up on the spread question. If the Fed does cut rates in the back half of the year, is the impact mainly on the treasury function, just with your cash there? And in terms of the hedges that you discussed, is it really going to offset the impact, on that part of the liability structure?
Yes, I think we've commented, Bose, on the -- in good morning. I think we've commented on the relative stability of spreads around our loan portfolios. So, Aparna, why don't you, since we do carry a very large investment in liquidity portfolios, why don't you provide some insight into how rates would impact that?
Yes, absolutely, and good morning, everyone. Thank you, Bose, for your question. Let me just comment on that briefly. As we've highlighted, we manage our books such that we have little to minimal volatility, whether rates go up or down. More specifically, as you think about our investment portfolio, something that we've started to do and we actually put in place in the fourth quarter of last year is what I would call a laddering strategy with respect to our duration. So what that really means is that as we look at this $1 billion-plus of what I would call relatively short-term investments, essentially sitting in overnight money, which has been very, very accretive, we've taken aspects or portions of those and really very systematically extended them over a 2, 3, 5-year horizon. And what that will have the effect of doing is in the short run, if the Fed were to continue to raise rates, we'd be giving up that incremental spread that we would have gotten if we hadn't actually extended out.But what it does do is it positions us extremely well, as you noted in the back half of the year, where there is an anticipation that the Fed might start to lower interest rates. It's going to keep us at a point that is going to be quite steady. And what that means is that it will not create a dramatic amount of volatility in our net effective spread and it will actually lock in a lot of the benefits that we have seen over 2023 that has come from having raised extremely accretive capital at very low interest rate environments that have continued to re-price. We've essentially locked in a vast amount of those benefits by extending our duration in what we call an equity allocation strategy.So I hope that helps, but we don't anticipate to see any volatility or minimal volatility as a result of a re-pricing down of interest rates as it pertains to our liability side of the house. And then you heard from Zach, just in terms of how we plan to manage our asset side of the house, but these are some of the natural hedges that we have within our business model where we tend to benefit and we try to manage our volatility whether interest rates go up or down.
Okay, great. That's helpful. And then can you just talk about the possibility or the outlook for generating volumes of some of the other farm credit system banks that you don't work with or you're less active with at the moment?
Sure. I think we've previously mentioned that our relationship with Farm Credit System banks and associations is very important here at Farmer Mac. We have remarkably common missions and we are already doing business with a couple of the banks and a number of associations. I'll turn to Zach to give you more color on our outreach, but it remains an area of high focus and our expectation is that over the next couple of years we will find new ways of doing more types of business with more farm credit associations and banks. But Zach, maybe you could offer some specifics on where we are with standbys, for example, and purchase participations.
Yes, absolutely. The focus on our relationship with the Farm Credit System is very strong right now. We're engaging across many different banks and associations. About 90% of our long-term standby purchase commitment product is supporting the system and we'll continue to invest in that product as certain institutions find holder concentration limits.The one thing I would highlight, a lot of the transaction growth, specifically in Corporate Ag Finance, telecommunications, is in conjunction with Farm Credit System institutions. We're either partnering in transactions where a farm credit entity has included Farmer Mac as a secondary market. Our telecommunications portfolio is predominantly in the primary space done with CoBank, one of the largest entities in the system. We continue to invest in outreach across the system, both with banks and associations, and so we're very happy with where we've evolved in our relationship with the system. Frankly, given the growth and focus we have in some of our new areas or new portfolios, we believe we'll have more opportunities to support the system in 2024 and beyond.
Your next question comes from Gary Gordon.
2 questions, 1 small one. I just focused on the utilities margin in this release. It's about 40 basis points, well below your other business units. Why is it so low, or why isn't this business re-priced? Are there other benefits missing?
Gary, a couple things. One is that, it's true that the way we measure that margin associated with that portfolio does show a small level. But keep in mind a couple things. One, many of the borrowers in that portfolio are investment grade, and some of them are even high investment grade. So we are pricing appropriately, we believe.Also keep in mind, if you look at kind of where that's been trending over the last couple years, it's been trending in a positive direction. It started even lower. And so some of the efforts that we mentioned at the beginning of the call to price more to market as an example, are reflected even in that 40 basis points.And third, those that are the lowest margin are absolutely essential parts of the infrastructure of rural America. At the end of the day, the rural electric cooperatives are owned by farmers and rural Americans. They generate and transmission electric cooperatives owned by rural electric associations. It becomes very, very mission centric for us to help them. And whether we're helping them through market priced Farm & Ranch loan purchase, or helping them through a market priced rural utility, rural electric cooperative loan purchase, the benefit is ending up in the same place.The final point, I'd make about that is that when you think about that portfolio, we've had no charges, we've actually had no delinquencies ever. And that's also reflective of the fact that the capital consumption, the equity capital consumption for that portfolio is actually very low. So when we do adjust for a return on capital, those numbers look actually pretty good.
Okay, good. Second question is on to the implications of this large dividend increase. By the way, thank you very much. So you've talked about a 35% payout over the long run. So a $5.60 dividend implies $16 in earnings. Now, you're not getting to $16 in earnings with your traditional target for your spread, which is about 95 basis points. Is it safe to assume that what you would consider your normal or let's say for the foreseeable future spread that it's reasonable to talk about a materially higher number?
Yes, I mean, we're not going to provide content on that, but a couple of comments. One is that that 95 basis point NES is a part that, Zach highlighted in talking about pricing pressures and asset liability management strategy. Over the next 1 to 2 year horizon, we don't think we're going to see that 95 basis points at all. We may see a single digit softening, but certainly not 95 basis points.The second thing that, I would mention about that is that during the call, I talked about regulatory uncertainty, talked about legislative uncertainty. We're going into a year 2024 when we are extremely well positioned. But we have a Farm Bill that should have been done at the end of last year that was not. Hopefully, it'll get done this year. That brings a bit of uncertainty to some of the underlying fundamentals of American agriculture. We want to see it passed. We also have new Basel regulatory environment, which may have some implications for capital.And so while we are very, very excited about the opportunities that we see, the business opportunities, and extremely pleased with the soundness of Farmer Mac. Those uncertainties just inject a little bit of a note of caution into our decision making process as it relates to dividends. So we landed on a place that we thought really reflected our future growth potential, that uncertainty that I just discussed, as well as something that rewards our shareholders for sticking with us in a very, very handsome way. And as you know, it's a balancing act.
Brad, if I might just add an additional point, and that has to do with what we've mentioned around the quality as well as the quantity of capital. Gary, where we want to head is really to have our capital stack, skew more heavily towards retained earnings that comes from organic growth and maintaining our credit quality. It reduces the need for us to go into the preferred markets, as we have done. It's proven very, very beneficial to us. But we do have a scenario where we have some expensive preferreds that could be re-pricing. And by really making sure that we're maintaining our capital base such that we're skewing more towards quality of capital with retained earnings, it gives us more degrees of freedom in terms of letting some of those expensive preferreds go and not have to really worry about going into the market at a time that might not be accretive for us. So it's really just a balancing act for us in terms of managing our capital stack as well as fueling our balance sheet for additional growth.
Your next question comes from Brendan McCarthy with Sidoti.
Just wanted to start off looking at the wholesale financing business. I understand the value proposition has really increased for institutional counterparties in the elevated interest rate environment. But just wondering if you can expand on where the benefits have flowed through on the segment level.
Yes, and I'll ask Zach -- Zach to give you some specific color on that. But just generally speaking, as you noted, the higher interest rate environment, and frankly, the absence of Federal Reserve Bank support of liquidity facilities for financial institutions, has created more of a comparative competitive advantage for us, as we noted in our comments. And that's driving new opportunity. Some of that opportunity is with customers we had in the past, and we let go because we didn't like the pricing. But some of it is new opportunity as well. But Zach, you might just kind of explain where this is all coming from.
Yes, happy to. Not to reiterate a lot of what Brad said, but I think one of the key drivers is, clearly the volatility in the market and a lot of these large corporate institutional counterparties are looking to just diversify, you know, all the different funding sources they have. If you're in the public bond market, you see significant increase in gap and added credit spreads, which we did last year. Farmer Mac and our secured AgVantage facility is a relatively comparative and better advantage to those counterparties.To your question on where you see these benefits in our segment reporting, you know, you're predominantly going to see them in AgVantage within the Farm & Ranch segment, as well as in the rural utility segment. So those are our 2 large corporate institutional counterparty line items. You can see the significant growth year-over-year, especially in rural utilities, as well as in Farm & Ranch.And so that's generally where we saw, at least in 2023, the growth opportunity and the increase in net effective spread that rolls up into those segments. And then heading into 2024, we anticipate a broader discussion with numerous other counterparties in terms of the benefits we could provide, given the aforementioned comments.
Yes. Brendan, one other thing I'd just like to add to this is that there's a strategic aspect of this as well, because when we have an AgVantage facility, we are evaluating the underlying collateral that's being pledged. And that underlying collateral are typically loans that as an alternative we'd like to own, that we'd like to purchase. And I think over the last 6 to 9 months, we've probably been able to initiate more discussions with some of those AgVantage counterparties about their strategic objectives and whether a sale for them, a purchase by us, of some of those underlying loans fits their strategic objectives better.And too early to say that that's going to yield results, but we're encouraged that we're engaged at such a strategic thought level with so many of these counterparties and are optimistic that at some point in the future, we will show that we can provide another source of liquidity to them through a different type of facility, a loan purchase rather than an AgVantage facility.
Great, great. That's very helpful. And I know you mentioned a big part of that story has been business development efforts and branding and just kind of marketing efforts as well. Can you specify what exactly has kind of driven that diversification of counterparties?
Well, let me just jump in ahead of Zach. He's modest, but it is all of those things. But it absolutely begins with having high-quality people with the relationships and experience that motivate those counterparties to engage in these discussions. And we have hired some absolutely -- Zach has really hired some absolutely outstanding people over the last couple of years that are enabling us to do that.
Got it, got it. And kind of switching gears here to the outlook on prepayment risk. I understand, should we see a potential decline in rates in the back half of the year? Obviously, I assume prepayments will pick up in the core Farm & Ranch business. But can you touch on the prepayment outlook for the other segments? I know prepayment risk is very low in the rural utility segment, but maybe you can expand on the other business lines?
Yes, Zach, can you just run through all the segments?
Yes, happy to. You're spot on in the rural infrastructure side of the house. We don't anticipate much, if any, prepayment risk. Maybe some modest risk in the telecommunications portfolio. Generally speaking, those are all floating rate, but those are going to turn on a weighted average life of 3 to 4 years anyways. But the rate environment isn't going to really increase that. In Corporate AgFinance, those are just lumpy transactions in general. So the prepayment concept really isn't conducive in that segment. These are more M&A type transactions where you may get paid off, or you could participate in a larger facility.So really, when you think about our overall portfolios or lines of business, really the prepayment component is akin to Farm & Ranch and USDA. And if we see some rate compression in the back half of the year, I think, as Aparna mentioned, we anticipate an increase in loan purchase, and we're kind of setting ourselves up to take advantage of a potential refinance opportunities.And remember, we've said this on prior quarters, a lot of our customers or community and regional banks are keeping those loans on the balance sheet to manage through a higher deposit payout environment. That being said, liquidity and capital efficiency is now becoming a more focus in the banking sector, which we believe as those loans kind of re-price on their balance sheet creates an enhanced opportunity for us, especially in Farm & Ranch and USDA, to take advantage in a rate decline scenario. So yes, probably more prepayment risk in Farm & Ranch and USDA, but we're more than confident that we'll make it up in new volumes.
If I might just add one point as well, Brendan, we are fairly agnostic in terms of prepayment risk, and this has to do with how we manage our balance sheet from a hedging standpoint. So something that we've noted before, we tend to layer in callables such that they're fairly duration matched as we look ahead and think about prepayment risk. So even if we were to have prepayments, it wouldn't necessarily affect our margins very substantially.So, everything that, Zach highlighted, prepayment risk is low across the segments, but in addition to that, from a funding standpoint, we're extremely well hedged where we could simply call expensive debt and reprice that downwards such that we're maintaining our margins.
Understood. That's helpful. And one more question for me just on the farm economy as a whole. I know you mentioned, land values have moderately declined and farm net income appear to be, reverting more towards historical averages, but can you just kind of talk on, your outlook for the farm economy and how it impacts Farmer Mac?
That's a big question, because the decline in land values actually is pretty isolated. We've been doing a lot of work on that recently. Permanent crops in California are one place where there have been headlines about modest decreases, and those tend to be almonds and other permanent crops where there are not multiple sources of water, where there may be some pressure on water availability, as well as the combination with low commodity prices. But we're not seeing it across the Board. And, as, our loan to current value on just about everything in our portfolio is extremely modest, well south of 50% on the portfolio as it stands.But, yes, we're expected to see softening in farm income. Of course, that's an aggregate number for the entire sector, and we are an organization with 17,000 borrowers, each one of them with their own situation. But input prices are generally staying sticky and high, while commodity prices for major crops have been softening. And so, we're looking at projected net farm incomes for the sector again this next year that will be somewhere in the neighborhood of 20% less than it kind of was at the peak.The first thing that that will do is put a little, it will cause some drawdown of liquidity. Farmers have been holding a lot of liquidity, and it'll cause some drawdown of that. We think that it may, especially if we have slightly lower interest rates later in the year, it'll start stimulating some additional borrowing activity. As Zach has mentioned, Farm & Ranch originations were slow, at least through the 3 months quarters of 2023, a little bit of pickup in fourth quarter. But that will cause some further pickup in the year.In terms of other segments of the farm economy, it probably tips them to a bit more borrowing, which could benefit us. We'll be continuing to apply the very, very disciplined credit standards that we have for many years here at Farmer Mac, so that we're continuing to make prudent credit decisions. So you put it all together, and it's probably a slight positive for Farmer Mac, even if it is a source of concern for our key constituents in rural America.
Your next question comes from DeForest Hinman with Bumbershoot Holdings.
You're kind of beating around the bush on the loan growth outlook. There's a lot of moving parts, but I mean, simplistically, Farm & Ranch loans, high singles growth in 2021, about 10% growth in 2022, 8% growth in 2023. Is it still in that ballpark, or is it kind of a mid-single-digit growth outlook for 2024 when we look at all these moving pieces? That's the first question.
Yes. I mean, we're not going to provide a precise forecast. But, Zach, you want to try to give a little bit more color on that one?
Yes. I mean, I think the confluence of factors in the market is leading to us being more optimistic in loan purchase activity in Farm & Ranch than we were in 2023. I mean, I noted earlier in a comment on the regional and community banking dynamic, managing capital, liquidity, deposits. That's having a real impact on those institutions, which, as their loan portfolio re-prices, we think creates a great opportunity for Farmer Mac.Low prepayment speeds, again, solidifies the portfolio. So, we're able to take advantage of some of these dynamics. We're not making up any refinancings lost on our portfolio. Limited supply of new land and farm incomes, as Brad just mentioned in the prior question. It's going to come down. There's going to be stress in working capital. And I think there's going to be interest in tapping into that equity.Compare year-over-year and stepping into 2024, as we made in our prepared comments. Yes, I think we're more optimistic that there is a greater chance of enhanced growth in 2024 versus 2023. That being said, lots of things can change, be it the Farm Bill, be it a political year, be it interest rates. So, it's hard to really pinpoint that, but I think we're stepping into more optimism than we were stepping into 2023.
Okay, that's helpful. Renewable loan growth, very positive. You had 153% growth in 2022, 100% growth in 2023. We talked about the outreach on the syndication side, adding some head count. I don't think all those initiatives are in place. We grew that loan growth to 100% and it's over $400 million. I think in the past we talked about the idea of that being a $1 billion portfolio at some point. Can you just help us understand how that loan book looks going into 2024 and where could that end up? And then maybe even where could that be in 2025, some of these initiatives gain traction?
Yes. Zach has done a lot of infrastructure building here with policies, Marc Crady with credit policies, Zach with key hires. So, we saw that pick up in 2023. It really accelerated in the back half of 2023. Going into 2024, the pieces are all in place to continue that very strong momentum. So, a $1 billion number, it's very realistic that that could happen sometime in 2025. I think that gives you kind of a slope that you can work on.
Okay. And then I hadn't heard this from Aparna, but this comment on some of the higher cost preferreds, you guys are in the market for a number of years, but I do see that I think the Series C are actually redeemable in 2024. I mean, is that a preferred we'd be looking to remove? And then I think on a bigger picture question, is there any benefit to leaving the preferreds in place as it relates to how the regulators calculate your capital ratios? Are we pretty clearly saying we'd like to remove those preferreds over time? And then as a result of that, it actually improves the dividend capacity to the common holders. So, maybe just some more color there and should we be expecting those preferreds to be removed over time with those call provisions?
Yes. So, I think that's an excellent question. It's something that we really think about in entirety. We don't really distinguish between our sources of capital, but we do make a slight distinction in our own minds as we think about the quality of capital and the quality of capital being organic and retained earnings, because that then allows us to have a base of capital that we can very efficiently deploy for growth, but also in terms of really rewarding our shareholders in the here and now. So, that's really the big picture in terms of how we think about our capital.In terms of preferreds, preferreds are an excellent source of capital for us. We have access to the preferred market. The way we think about our preferred issuances DeForest is we try to do that opportunistically. So, in 2020 and 2021, we were able to tap the retail preferred market and issue preferreds that were sub-5% and sub-6%. And so, we did that. And if we were ever able to do that again, that's exactly what we would do. These are fixed rate preferreds where we really hold a call option.The CBC that you note, you're absolutely right, that has an option where we can redeem it. And if we did not, then it would convert to floating. And as you know, in the current rate environment, that would result in additional costs approximately to the tune of about $2 million per year. We haven't really made a decision as yet. But what I would say is just given our various degrees of freedom plus our excellent credit quality, the fact that we've got really a very big and growing share of our capital stack coming from retained earnings, it's highly probable that it is something that we will look at.But preferreds are very much an option for us, and it will continue to be an option for us. But we look at it in terms of an expensive option versus something that's really opportunistic. So, in this particular case, you're right, it is redeemable, and it does convert to floating. So, it's probably something that we'll take a very close look at as we approach the redemption date to consider whether we want to let that go. And if we want to issue something, possibly when the markets are favorable to us in the fixed rate environment.
Yes. I'd just like to add, Aparna has talked about the optionality that we have, and whether we choose to redeem that in July or not will depend on factors that we're not looking at today. They will depend on factors that we're looking at in the second quarter. We'll be revisiting growth, we'll be revisiting Basel, we'll be revisiting Farm Bill, and taking into consideration all the things that you would expect management to be looking at before coming up with a position on that. But I would add, the other part of your question was, how do we stand with the regulators? Simply put, our levels of capitalization by every measure have never been stronger, and we far exceed all regulatory requirements. We do regular stress testing with regulators, we do well under that stress testing with our capital. Farmer Mac has never been stronger.When you consider the financial results, return on equity of 19%, almost 19%, you consider the growth in earnings, you consider dividends, you consider the growth in the overall volume of Farmer Mac, that we have done that while also increasing capital, makes it even more remarkable. Because oftentimes there's a trade-off. For us, there's not been a trade-off. That gives us just a lot of flexibility, a lot of options to run this business to even greater success in the future. We're not constrained by capital.
And I'll just add that securitization is another level, which is another capital efficient tool that we will throw into the mix as we think about retained earnings preferred and now securitization in terms of thinking about our leverage ratios and our Tier 1 ratio. So that's just another thing that we throw into the mix.
Yes, Brad, I agree. You've done a phenomenal job. I like the slide too with dividend CAGR. I think we've talked about this in the past. I don't know if there's any company that's had a faster dividend growth than yours in the financial space. It's astounding. And the spreads continue to hold up. And you continue to see most financial companies be dealing with spread compression. And you didn't really add very much. You had, like you said, 19% ROE. That's incredibly attractive, especially from a consistency perspective. And we've talked about this before. The stock's still probably undervalued. But continuing to increase the dividend hopefully gets more people to look at the stock.Final question is and I've asked this many times before, just hiring. We added quite a few people in 2023. So can you update us on who do we need to hire in 2024? Where does that stand in terms of getting those people in place? And then can you give us an update on any of the IT initiatives that we've been putting in place? Are they partially done? Are they completed? Or is there more work to be done? And that's it.
Sure, of course. Yes. We have expanded our employee base. I think we ended up in 2023 with 184, 186 employees, something like that. And over the last couple of years, it's been a balance of funding and ALM-related, business development-related, core control and risk management-related across the organization, compliance. You think about an organization with aggregate volume approaching $30 billion that has only 184 employees. We have to have a full suite of very, very talented people doing a lot of functions that banks our size do with literally thousands of employees. So, we feel very good about the additional depth that we've built in our organization.As we go into 2024 and through our budgeting process, it's pretty simple. A little bit of emphasis on our branding and communications in terms of headcount, just a bit on IT, and the rest really is business development. We feel that we have built very, very strong origination, credit approval, credit administration, credit policy, funding platforms here at Farmer Mac. And now let's work to put more volume through them. So that's kind of reflected in our choice of how we're allocating increases in headcount. The increases in headcount in '24 will be slower than they have been each of the last couple of years, we believe.As it relates to IT initiatives, there's a tremendous amount going on. Sean Datcher joined us as CIO in the second quarter of 2023. It feels like he's been here for over a year. He's gotten a tremendous amount done. He's brought a lot of organization to that team. And they're currently focused on many tactical projects, but 2 huge strategic projects. And I'll let Aparna and Zach comment on them.The first is what we call STARS, which we expect to finish this year, maybe even halfway through the year. And the other is an update to a hugely important and huge legacy platform here at Farmer Mac called AgPower. But Aparna, you want to provide an update on that and why it's so important? And then Zach, you too?
Yes, sure. Let me give you a bit of a sense about this treasury platform that we're embarking on. It is the most significant overhaul, I would say, of platforms at Farmer Mac. It impacts about 2/3s of the balance sheet, both on the asset side as well as the liability side. Something that most people don't know is that we have a significant amount of payments that really course through loan payments as well as debt holders. So we actually transact anywhere between $0.5 trillion to $0.75 trillion in terms of just payments. In addition to different securities, we have hedging and reporting, et cetera, as well as what we do with our wholesale financing. All of that really goes through these platforms.These have been platforms that have been in existence and really commend the team at Farmer Mac, the founding team that has really layered on and built these functions. But today we have options and we have commercial products that are out there. So we've been working with a consultant who's helped us through this journey over the last 2 years. And we've really selected 2 key vendors who are going to really provision platforms for both our front end, our middle office, as well as our cash management systems. And this is going to create a lot of dependencies internally in terms of overhauling how our data flows through, as well as how our different capabilities with respect to hedging and reporting really connect in.So it's a massive effort with lots of people, touches a lot. And this is an initiative that I'll just say is anywhere between, we foresee somewhere between $16 million to $20 million in cash expenses. Obviously, it gets capitalized and there's a P&L impact that we continually recalibrate towards. But as Brad mentioned, it's going very well, as any large scale initiative might. And we expect to see this come to fruition optimistically in the middle of this year, but certainly no later through, I would say the third quarter or so. But tremendous partnership across the organization. And I echo Brad. Sean has been a tremendous addition to the executive team and a tremendous partner as well on this initiative.And then the second initiative is really the loan origination platform. So I'll just turn to Zach. He can give you a little bit more color on how we're really innovating around some of those technologies that drive our business lines.
Yes, DeForest, I'll be quick. But Brad mentioned AgPower. That's our infrastructure that our community banks and our sellers use to interact and transact with Farmer Mac. Our goal is to dramatically change that infrastructure to be cheaper, more customer friendly, more effective and drive down the time of us purchasing a loan from our sellers as quickly as possible. So that's better technology, that's more efficiencies, that's leveraging collateral enhancements and really providing a state-of-the-art infrastructure platform that all of our sellers can use, that can transact as easily as possible with Farmer Mac.And on the positive side, I think Sean and I feel by end of 2024, we'll be rolling something out. And I think we're very excited and we're receiving a lot of positive reinforcement from our customers. So again, this is to be a state of the art infrastructure loan origination platform for our sellers.
Okay, great. And then just a final comment. The idea of adding equity compensation across the entire employee base, I think you said that that's a very good idea and should probably help with retention and your mission based focus. That's very helpful. So thanks for taking all the questions.
Yes, we appreciate that sentiment very much. We do think it's important. It resulted in about a doubling. When we went to equity for all, it was about a doubling in the number of employees who were eligible for awards. And it allows us to have conversations about stock performance, the relation of that to overall financial performance and the relation of that to overall service of mission. So we think that, it's just one more thing that contributes to a really healthy and very passionate mission focused culture at Farmer Mac.
There are no further questions at this time. I would now like to turn the call over to Brad Nordholm. Please go ahead.
Great. Well, thank you, everyone, for joining us today. We really appreciate your participation, your interest, and many great questions, which we hope we've addressed to your satisfaction. If you have follow-ups, of course, get in touch with Jalpa. But otherwise, we will be having our next quarterly scheduled call in May to report our first quarter 2024 results, and we look forward to that very much. Hope you have a great day, and please stay in touch. Thank you.
Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and ask that you please disconnect your lines.