2004 Annual Report
FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM

Contents

Statement of the Chairman and CEO ............................................................................................................................................ 1

Farm Credit Administration Organization and Mission ........................................................................................................... 2

The FCA Board ...................................................................................................................................................................... 2

FCA—The Agency .................................................................................................................................................................. 6

Agency Officials................................................................................................................................................................... 10

Farm Credit System—An Overview of Events and Conditions ............................................................................................ 14

FCS Function and Structure ............................................................................................................................................ 14

Financial Condition of the FCS ..................................................................................................................................... 16

Borrowers Served................................................................................................................................................................ 19

Funding for Other Lenders ............................................................................................................................................. 21

FCS Market Share of Farm Debt ..................................................................................................................................22

Farmer Mac Provides a Secondary Market..............................................................................................................22

Maintaining a Dependable Source of Credit for Farmers and Ranchers.......................................................................26

Risk-Based Examination and Supervisory Program ..............................................................................................26

Serving Young, Beginning, and Small Farmers and Ranchers ......................................................................... 31

Helping Farmers through Federal and State Loan Guarantees .......................................................................39

Challenges Facing Agriculture, the Rural Economy, and the FCS .................................................................................... 41

Corporate Activity, Regulatory Guidance, and Other Agency Activities .........................................................................46

FCS Corporate Activity Slows Significantly in FY 2004 ......................................................................................46

Termination of System Status ........................................................................................................................................48

Regulations ............................................................................................................................................................................48

Funding Activity...................................................................................................................................................................52

Data Reporting ....................................................................................................................................................................52

Oversight of Farmer Mac ..................................................................................................................................................................53

Glossary ...................................................................................................................................................................................................58

Employees of the Farm Credit Administration ..........................................................................................................................62

Additional Information........................................................................................................................................................................64

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 1

Statement of the Chairman and CEO

January 2005

Dear Reader,

On behalf of the Farm Credit Administration (FCA or Agency) Board and the dedicated employees of the Agency, I

am pleased to present our 2004 Annual Report on the Farm Credit System.

The FCA is the independent Federal agency responsible for examining and regulating the Farm Credit System (FCS

or System), a nationwide network of borrower-owned financial institutions and service organizations that provide

credit and related services to agricultural producers and their cooperatives.

FCA’s role is to ensure that the System remains a safe, sound, and dependable source of credit for agriculture and

rural communities. We accomplish this by conducting safety and soundness examinations of each System institution,

including an assessment of whether they are meeting their mission to serve agriculture and rural America. The

Agency also develops and adopts regulations and other guidelines that govern the activities of System institutions.

In 2004, the System again achieved an excellent level of performance. FCA examinations concluded that System

institutions are fundamentally sound in all material respects. Capital and earnings reached all-time highs, and asset

quality remained strong.

A matter that caused much discussion in the System, the agricultural community, and Congress was the August 3,

2004 notification to FCA by the Board of Directors of the Farm Credit Services of America, ACA (ACA) of their

intent to terminate the ACA’s status as a System institution to become a subsidiary of Rabobank International. While

unusual, termination of System status is permissible under the Farm Credit Act of 1971, as amended. FCA was fully

prepared to carry out its role under the statute and FCA regulations; however, the ACA board did not proceed with

termination. Nevertheless, we are closely studying the issues that arose from the event.

Throughout my tenure as the Chairman and CEO, I will be a strong advocate for agriculture and rural communities.

Vibrant towns, excellent schools, and a range of opportunities are critical factors in the success of today’s farmers and

ranchers, and in ensuring that young men and women are able to choose agriculture as a profession.

My fellow Board Members and I are committed to ensuring that the Agency remains a strong yet fair regulator for

the System. If you have any comments or questions, please contact me at (703) 883-4008.

 Sincerely,

Nancy C. Pellett

Chairman and Chief Executive Officer

Farm Credit Administration
Farm Credit Administration Organization

and Mission

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The Farm Credit Administration is an independent agency within the executive branch

of the U.S. Government responsible for regulating and supervising the banks, associations, and related entities in the Farm Credit System, including the Federal Agricultural

Mortgage Corporation (Farmer Mac). The FCS is a nationwide network of borrowerowned financial institutions that provide credit to farmers, ranchers, and producers or

harvesters of aquatic products, farm-related service businesses, rural homeowners,

agricultural and aquatic cooperatives, and rural utilities. Farmer Mac is the governmentsponsored enterprise that provides a secondary market for agricultural real estate and

rural housing mortgage loans.

Originally created by a 1933 executive order of President Franklin D. Roosevelt, today’s

FCA derives its powers and authorities from the Farm Credit Act of 1971, as amended

(Farm Credit Act or Act). The U.S. Senate Committee on Agriculture, Nutrition, and

Forestry and the U.S. House of Representatives Committee on Agriculture oversee FCA

and the FCS.

FCA’s mission is to ensure a safe, sound, and dependable source of credit and related

services for agriculture and rural America. We do this in two specific ways. First, we

conduct examinations of Farm Credit System institutions to monitor and oversee the

safety and soundness of their ongoing activities. These examinations also focus on

whether System institutions are meeting their public mandate to serve all eligible

borrowers. Second, we approve corporate charter changes and research, develop, and

adopt rules, regulations, and other guidelines that govern how System institutions

conduct their business and interact with their customers.

If a System institution violates a law or regulation, or its operations are unsafe or

unsound, FCA may use its enforcement authority to ensure that the problem is corrected. FCA also protects the rights of borrowers, issues and changes the charters of

FCS institutions, reports to Congress on the financial condition and performance of the

FCS, and approves the issuance of System debt obligations.

The Agency maintains its headquarters and a field office in McLean, Virginia. It also

has field offices in Bloomington, Minnesota; Dallas, Texas; Denver, Colorado; and

Sacramento, California.

The FCA Board

FCA policy and its regulatory agenda are established by a full-time, three-person Board,

whose members are appointed by the President of the United States with the advice and

consent of the Senate. They serve six-year terms and may not be reappointed after

serving full terms or more than three years of previous members’ terms. The President

designates one member as Chairman of the Board, who serves until the end of his or

her own term. The Chairman also serves as FCA’s Chief Executive Officer (CEO).
Nancy C. Pellett

Chairman and CEO

Nancy C. Pellett is Chairman and CEO of the Farm Credit Administration. Ms. Pellett

was appointed to a six-year term on the three-member FCA Board by President George

W. Bush on November 14, 2002; she was designated Chairman on May 22, 2004. Her

term expires on May 21, 2008.

Ms. Pellett also serves as a member of the Board of Directors of the Farm Credit System

Insurance Corporation. The Insurance Corporation, which is an independent U.S.

Government corporation, is responsible for ensuring the timely payment of principal

and interest on insured notes, bonds, debentures, and other obligations issued on behalf

of Farm Credit System banks. The Insurance Corporation was established on January 6,

1988, with enactment of the Agricultural Credit Act of 1987.

Ms. Pellett brings to her position on the FCA Board extensive experience in production

agriculture and agribusiness. In partnership with her husband, she managed a familyowned cattle farm from 1966 until her appointment to the FCA Board. She served as

vice president and secretary of Prairie Hills, Ltd., a feedlot, cow-calf, and row crop

operation in Atlantic, Iowa, from 1979 until 2002. She also was president and treasurer

of Fredrechsen Farms, Ltd., a family-owned swine and row crop operation in Walnut,

Iowa, for more than 20 years.

A long-time beef industry leader, Ms. Pellett has held state and national leadership

positions in cattlemen’s industry organizations. As a member of the National Cattlemen’s

Beef Association, she has served as chairman of the Check-Off Division, chairman of the

Consumer Marketing Group, and, most recently, as a member of the Cattlemen’s Beef

Board. She also has been president of the Iowa Beef Industry Council.

She is a partner in Premium Quality Foods, Inc., based in Red Oak, Iowa, which markets

branded fresh beef and precooked beef entrees. Previously, she served as president and

consumer marketing director for the company.

Ms. Pellett served a six-year term as a member of the Board of Regents for the State of

Iowa, which oversees the three state universities, as well as the University of Iowa

Hospital and its affiliated clinics. She was also selected as a member of the Governor’s

Student Aid Commission. She is currently on the Iowa State University (ISU) Foundation Board of Governors and has been a member of the advisory committees for the

College of Agriculture and the College of Family and Consumer Sciences. She is past

president of the ISU Alumni Association and was awarded the Alumni Medal in 1987.

The Pellett family was honored as the “Family of the Year” by ISU in 1997.

Dedicated to the future of agriculture, she has worked with 4-H and the National FFA

Organization at the local and state levels, and has served on the Iowa 4-H Foundation

Board. She is a founding member of the 4-H/FFA “Sale of Champions” Committee for

the Iowa State Fair.

A native of Walnut, Iowa, Ms. Pellett holds a B.S. from Iowa State University at Ames.

She and her husband have four children. The Pellett family received the “Friends of

Youth Award” in 2000 from the Knights of AkSarBen, a foundation that supports

education, youth programs, and rural development in Nebraska and western Iowa.

Together with a son and daughter-in-law, Ms. Pellett and her husband operate a fifthgeneration family farm in Atlantic, Iowa.

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Douglas L. “Doug” Flory

Board Member

Douglas L. “Doug” Flory was appointed to the three-member FCA Board by President

George W. Bush on August 1, 2002, for a term that expires on October 13, 2006. He also

serves as Chairman of the Board of Directors of the Farm Credit System Insurance

Corporation. He was elected to this position in December 2002.

Mr. Flory brings extensive experience in production agriculture, agribusiness, and both

commercial bank and Farm Credit lending to his position on the FCA Board. His

farming operation includes Bunker Hill Farm, and he is also a 50 percent owner of

S & F, L.L.C., a beef, turkey, grain, and hay farm in Virginia’s Augusta County.

Before his appointment to the FCA Board, Mr. Flory was a member of the board of

directors of AgFirst Farm Credit Bank in Columbia, South Carolina, and a director of

Farm Credit of the Virginias, ACA, in Staunton, Virginia. He also served as a member of

the Farmer Mac Appraisal Standards Committee.

He was executive vice president of Dominion Bank from 1971 to 1988, and also president, CEO, and director of Dominion Farm Loan Corporation. During his banking

career, he chaired the Virginia Bankers Association Committee on Agriculture and was a

member of the Executive Committee of the American Bankers Association’s agricultural

division. From 1989 to 1992, he was executive vice president, chief operating officer, and

a member of the board of WLR Foods, Inc., a publicly traded poultry food company

(now part of Pilgrim’s Pride).

Mr. Flory has served on several governing boards for the Commonwealth of Virginia.

He was appointed to the Virginia Agricultural Council, a state advisory board, and the

Virginia Agriculture Credit Committee, which he chaired. He also served on the

Virginia Agricultural Development Authority, which uses “aggie bonds” to finance

Virginia farmers.

Mr. Flory has been an active participant in agriculture industry associations. He has

served as president of the Virginia Turkey Association and as president and director of

the Rockingham County Fair Association. He also served as a director of the Virginia

Poultry Federation, the Virginia Agribusiness Council, the Virginia Beef Cattle Association, and the Virginia Sheep Association.

Mr. Flory, a native of Augusta County, Virginia, attended Bridgewater College in

Bridgewater, Virginia, and earned a bachelor’s degree from Virginia Polytechnic Institute

and State University in Blacksburg. He did graduate work at James Madison University

and is a graduate of the Maryland–Virginia School of Bank Management at the University of Virginia. He and his wife, Avery, are the parents of two daughters and a son.
Michael M. Reyna serves as a member of the FCA Board, having completed his term

as Chairman and CEO on May 21, 2004.1 Mr. Reyna was appointed to the threemember FCA Board by then-President William J. Clinton and confirmed by the

United States Senate on October 22, 1998. His term expired May 21, 2004. He also

serves as a member of the Board of Directors of the Farm Credit System Insurance

Corporation.

Before his appointment to the FCA Board, Mr. Reyna served as director of the U.S.

Department of Agriculture’s (USDA) Rural Development (formerly known as

Farmers Home Administration) in California from November 1993 to October 1998.

In this capacity, he was responsible for growing and managing a diversified portfolio

of housing, business, and infrastructure loans totaling more than $2.6 billion. He

implemented a number of significant initiatives in California, including the Northwest Economic Adjustment Initiative, the Rural Empowerment Zone-Enterprise

Community program, the AmeriCorps program, and several Reinventing Government initiatives.

Prior to his Federal service, Mr. Reyna served at the state level for 11 years as a

principal advisor to the California State Legislature, working on financial service

industry regulation and a wide range of issues, including housing, economic development, local government finance, and political reform. He was an appointed member

of several local commissions, including the Sacramento City Planning Commission,

which he served as chairman in 1993. In addition, he was a founding board member

of Meadowview Community Action, a local nonprofit agency. While attending

graduate school in Texas, Mr. Reyna served as a private consultant to Governor Bill

Clements’ long-range strategic planning effort, known as the Texas 2000 Project. In

this capacity, he developed and implemented a computer-based simulation model

that estimated employment and population trends in Texas through the year 2000.

Mr. Reyna is the recipient of the LBJ School of Public Affairs Alumni Association’s

Distinguished Public Service Award for 2003. In 1998 and 1999, he received awards

from the California Rural Builders’ Council, the Rural California Housing Corporation, the California Coalition for Rural Housing, and the Valley Small Business

Corporation in recognition of his leadership and commitment to rural America. In

1996, Mr. Reyna received Vice President Al Gore’s Hammer Award for helping to

reinvent the USDA Rural Development Business and Industry Loan Guarantee

Program. The California State Senate and Assembly also acknowledged his many

contributions while on staff.

Mr. Reyna, a native of Texas, holds a bachelor’s degree in business administration

from the University of Texas at Austin and a master’s degree in public policy from

the LBJ School of Public Affairs at the University of Texas. He and his wife, Karen,

have two sons.

Michael M. Reyna

Board Member

1. Mr. Reyna continued to serve as a Member of

the FCA Board until December 1, 2004, when

he was succeeded by Dallas P. Tonsager.

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FCA—The Agency

The 287 full- and part-time employees2 of the Farm Credit Administration work together

to ensure that the Farm Credit System remains a dependable source of credit for

agriculture and rural America. In the summer, they are supported in FCA’s offices by

interns, who gain valuable government and business experience.

The following paragraphs explain the role of each of the Agency’s offices.

The FCA Board approves the policies, regulations, charters, and enforcement activities

that ensure a strong Farm Credit System. The Board also provides for the examination

and supervision of the FCS, including Farmer Mac, and oversees the FCS Building

Association’s (FCSBA) activities.

The Secretary to the Board ensures that the FCA Board complies with statutory,

regulatory, and internal operation procedures requirements and is the Parliamentarian to

the FCA Board and the Farm Credit System Insurance Corporation Board of Directors.

Other functional responsibilities include Federal Register authorizing, certifying, and

liaison officer duties; creation and maintenance of the Agency’s public rulemaking files;

issuance and maintenance of the FCA Handbook; direct data entry and Agency submission of the Unified Agenda of Federal Regulatory and Deregulatory Actions.

The Office of the Chief Executive Officer (OCEO) enforces the rules, regulations, and

orders of the FCA Board, is responsible for the general management of Agency operating

units, and has broad responsibility for planning, organizing, directing, coordinating, and

controlling the Agency’s day-to-day operations and providing liaison between the FCA

Board and professional staff on policy matters. The office supervises the development

and implementation of operating plans and budgets to ensure streamlined and efficient

operations. The OCEO is composed of the CEO, the Chief of Staff, the Executive

Director for Planning and Projects, and the Equal Employment Opportunity Director

and Ombudsman.

The Office of Congressional and Legislative Affairs directs all Agency congressional

relations activities, informs and advises the FCA Board and senior management of

developments and issues affecting the Agency and the Farm Credit System, drafts

testimony, and coordinates all Agency communication with Congress. The office

conducts briefings and provides information and educational materials to Members of

Congress and their staffs, and monitors and analyzes information obtained from multiple

sources.

The Office of Communications and Public Affairs manages the production of all

information disseminated to the Agency’s various audiences, including FCS institutions

2. As of September 30, 2004.
and borrowers, Congress, the media, other Federal agencies, employees, and the public. It

provides information to external audiences through news releases, information brochures

and fact sheets, the annual FCA Performance and Accountability Report, the FCA Annual

Report on the Farm Credit System, and other publications. The office manages media

relations regarding Agency activities and the content of FCA’s Web site, and provides

graphic design and duplicating services to the Agency. OCPA also coordinates special

meetings, briefings for international visitors, field hearings, and other events and responds to inquiries from the public.

The Office of Examination supervises FCS institutions through examination, comprehensive oversight programs, and regulatory standards that are designed to ensure safe and

sound operations. This allows the System to accomplish its congressional mandate as a

government-sponsored enterprise (GSE) for agriculture and rural America. The office

ensures that FCS institutions comply with applicable laws and regulations, directs a

program of examination policy formulation, and manages the Agency’s enforcement

activities.

The Office of the General Counsel provides the FCA Board and staff with legal counsel,

as well as guidance on general corporate, personnel, ethics, and administrative matters.

The office supports the Agency’s development and promulgation of regulations, civil

litigation, enforcement of applicable laws and regulations, and implementation of

conservatorships and receiverships. The office also handles Freedom of Information Act

requests and matters pertaining to the Government in the Sunshine Act and the Privacy

Act.

The Office of the Inspector General provides independent and objective oversight of

Agency programs and operations through audits, inspections, investigations, and the

review of proposed legislation and regulations.

The Office of Policy and Analysis manages all regulation and policy development

activities that ensure the safety and soundness of the FCS and supports the System’s

mission as a dependable source of credit and related services for agriculture and rural

America. The office monitors economic trends and emerging risk factors that affect the

System and its customers, and collects and analyzes data from FCS institutions. The

office also manages the chartering and other corporate approvals for System institutions,

as well as other statutory, regulatory, and funding approval activities on behalf of the

FCA Board.

The Office of the Chief Administrative Officer oversees and administers the Agency’s

Human Capital Program. It also provides administrative services, including payroll,

training, contracting, procurement, mail, supply, transportation services, and property

management.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 7
The Office of the Chief Information Officer oversees all activities related to planning,

managing, and administering FCA’s information technology (IT). The office ensures

adequate security and integrity of Agency IT. It provides office automation software;

database administration; systems development; customer assistance; and network,

videoconferencing, Web, and e-business services, as well as records management advice

and services and library services.

The Office of the Chief Financial Officer provides financial services to the Agency,

including preparation of the budget, financial reporting, and financial systems operations.

The Office of Secondary Market Oversight provides for the examination, regulation,

and supervision of the Federal Agricultural Mortgage Corporation’s activities to ensure

its safety and soundness and accomplishment of its public policy purpose as authorized

by Congress. It also ensures that Farmer Mac complies with applicable laws and regulations and manages the Agency’s enforcement activities with respect to Farmer Mac.

The Equal Employment Opportunity (EEO) Program directs the Agency’s efforts to

achieve and manage a diverse workforce and encourages awareness of and respect for

diversity in the workplace. The program works to prevent employment discrimination,

handles employee discrimination complaints, and sponsors training and seminars on

EEO issues.

The Ombudsman is a neutral and confidential resource for institutions of the Farm

Credit System and other parties relative to inquiries or complaints they may have with

respect to actions of the Agency; acts to facilitate the resolution of problems or complaints in a fair, impartial, and timely manner; and provides recommendations to the

Chairman and CEO to improve Agency policies, procedures, and practices based on

investigation or analysis of inquiries and complaints.

The Designated Agency Ethics Official (DAEO) administers the provisions of Title I of

the Ethics in Government Act of 1978, as modified by the Ethics Reform Act of 1989,

within FCA. The DAEO coordinates and manages FCA’s ethics program and serves as

liaison to the U.S. Office of Government Ethics with regard to all aspects of the program.

The responsibilities of the position include reviewing financial disclosure reports of FCA

staff and prospective presidential appointees to the FCA Board, conducting FCA’s ethics

training, counseling staff on ethics standards and postemployment conflicts of interest,

and assisting managers and supervisors in understanding and implementing Agency

ethics programs.

Figure 1 shows FCA’s organizational structure as of September 30, 2004.

8 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
Figure 1

Farm Credit Administration

Organizational Structure

As of September 30, 2004

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 9
Agency Officials

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Jeanette C. Brinkley is Secretary to the FCA Board. She joined FCA in November

1982 as a secretary in the Office of Administration. During her tenure with FCA, Ms.

Brinkley has worked in the Office of Examination and Supervision, the Office of

Congressional and Public Affairs, and the Office of the Chief Operating Officer. In

1995, she began working for the Office of the Board as the administrative specialist to

the Secretary to the FCA Board.

Kathleen V. Buffon is the Designated Agency Ethics Official. She was first appointed to

the position in 1992 when she came to FCA as Associate General Counsel, a position she

continues to hold. Before joining FCA’s Office of General Counsel, she served as

Assistant Director for Credit Practices at the Federal Trade Commission. Following her

graduation from law school, she clerked for the Honorable Henry H. Kennedy, Jr., an

Associate Judge of the Superior Court of the District of Columbia.

Carl A. Clinefelter is Acting Director of the Office of Communications and Public

Affairs and the Office of Congressional and Legislative Affairs.3 Before assuming this

position on September 1, 2004, he was Director of the Office of the Ombudsman. He

also served as Director of the Office of Secondary Market from December 20, 1998, until

March 2, 2003. Since joining FCA in October 1980, he has served as a regional supervisory officer in the Office of Supervision, an Associate Regional Director in the Office of

Examination and Supervision, Acting Director of the Office of Special Supervision and

Corporate Affairs, and Assistant Director of the Office of Policy and Analysis. Concurrent with the latter position, he served as executive assistant for FCA Board Member

Doyle L. Cook. Before joining FCA, he was assistant vice president at the Federal

Intermediate Credit Bank of New Orleans.

W. B. Erwin is the Chief Financial Officer. Before joining FCA in June 2000, he served

as Assistant Chief Financial Officer for Systems for the Department of Housing and

Urban Development. From 1989 to 1997, he was Director of the Office of Finance for

the U.S. Patent and Trademarks Office. He has worked for the Navy, the Air Force, the

Treasury Department, the U.S. Government Printing Office, and the Social Security

Administration. His private industry experience comes from his tenure at Caterpillar

and Cummins. He is a certified public accountant, certified management accountant,

and certified government financial manager.

3. Hal C. DeCell III served as Director of the Office of Congressional and Legislative Affairs and Acting

Director of the Office of Communications and Public Affairs until August 31, 2004.
C. Edward Harshbarger4

 is Acting Director of the Office of Policy and Analysis. Before

being named to this position on September 1, 2004, he was Director of the Risk Analysis

Division in the Office of Policy and Analysis. During his tenure at FCA, he has held

several key positions managing various planning and regulatory programs. He was

instrumental in developing and implementing the Agency’s strategic planning activities.

Before joining FCA in 1983, he was research manager at Farmbank Services, a service

organization of the Farm Credit System. He has also served as an assistant vice president and economist at the Federal Reserve Bank of Kansas City and an assistant professor of agricultural economics at the University of Missouri.

Keith H. Heffernan is the Chief of Staff. Before joining FCA in July 2004, he served as

Chief of Staff for the Under Secretary for Rural Development at the U.S. Department of

Agriculture. His previous experience includes serving as assistant director of the Center

for Agricultural and Rural Development at Iowa State University. From 1983 to 1989, he

served the State of Iowa as deputy director of the Iowa Development Commission, as

administrative assistant to Governor Terry Brandstad, and as director of the Department

of Commerce. He also served as executive director of the Iowa Corn Growers Association, which represents the state’s 100,000 corn producers, from 1977 to 1983.

Eric Howard5 is the Equal Employment Opportunity Director and the Ombudsman. He

joined FCA in 1986 as an examiner in FCA’s Oklahoma City field office. In 1991, he

became a policy analyst for the Policy and Risk Analysis Division in the Office of

Examination in McLean, Virginia. He became a senior policy analyst for the Regulation

and Policy Division of the Office of Policy and Analysis in 1997.

Andrew D. Jacob6

 is Acting Director of the Office of Secondary Market Oversight.

Before assuming this position on August 11, 2004, he served as the assistant director of

the Office of Policy and Analysis. He has held several positions in FCA, beginning as a

credit examiner in the Sacramento field office in 1986. In 1988, he transferred to

McLean as an information systems examiner and then became an FCA examiner in the

Office of Examination in 1990. He transferred to the Office of Policy and Analysis in

1997, where he served as a senior policy analyst and a senior financial analyst before

being named assistant director in 1999.

4. Michael V. Dunn served as Director of the Office of Policy and Analysis until August 31, 2004.

5. Eric Howard assumed the responsibilities of Ombudsman on August 11, 2004.

6. Andrew D. Jacob was named Director of the Office of Secondary Market Oversight on December10, 2004.

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Thomas G. McKenzie is Chief Examiner and Director of the Office of Examination.7

He joined the Agency in 1979 and has served as Director of the Office of Secondary

Market Oversight and Director of the Office of Policy and Analysis; he has also held

regional and division director positions in the Office of Examination and the former

Office of Supervision. He headed the Agency’s regional offices of examination in Denver

and Atlanta, where he oversaw the field offices in Albany, New York; Atlanta; Dallas;

Denver; and Sacramento, California. He began his Federal government career with FCA

as a management specialist and advisor for the Agricultural Bank of Saudi Arabia in

Riyadh. Before joining FCA, he was a regional manager for a Federal Land Bank; a

manager and CEO of a Federal Land Bank Association; and a financial analyst for a

Bank for Cooperatives, where he began his career in agricultural credit in 1971.

Charles R. Rawls is the FCA General Counsel. Before joining FCA in March 2003, he

was general counsel and vice president for legal, tax, and accounting at the National

Council of Farmer Cooperatives. During the consideration of the 2002 farm bill, he

served as the General Counsel of the Senate Committee on Agriculture, Nutrition, and

Forestry. From 1998 until 2001, he was General Counsel for the United States Department of Agriculture. Before that he was Chief of Staff to the Deputy Secretary of

Agriculture from 1993 to 1998. From 1988 to 1993 he was Legislative Director and then

Administrative Assistant to Representative Martin Lancaster (D–North Carolina). From

1985 to 1988 he was Associate General Counsel of the House Committee on Agriculture.

He was Counsel to the House Agriculture Subcommittee on Forests, Family Farms, and

Energy from 1983 until 1985.

Philip J. Shebest is the Chief Administrative Officer. He joined FCA in 1990 as a senior

attorney in the Office of General Counsel. He became the Director of the Human and

Administrative Resources Division in 1996 and in 2000 was selected as Chief Administrative Officer. Before joining FCA, he was a senior attorney-advisor in the Chief

Counsel’s Office of the Drug Enforcement Administration from 1985 until 1990. From

1981 through 1984, he held the rank of lieutenant in the Judge Advocate General Corps

of the U.S. Navy and was stationed in Washington, D.C., as an appellate litigation

attorney.

Roland E. Smith is Executive Director for Planning and Projects. Before being named

to this position on August 11, 2004, he served as Chief Examiner and Director of the

Office of Examination. He joined FCA in 1979 as an examiner in the St. Louis field

office. In 1984, he was promoted to Associate Regional Director. He also managed

FCA’s Oklahoma City field office and later the Denver field office before he became

FCA’s Chief Examiner in October 1996. He began his career with the Farm Credit

System in 1974 as a loan officer for the Production Credit Association in Greenville,

North Carolina. He later served as a loan officer and credit reviewer for the Farm Credit

Banks of Columbia, South Carolina.

7. Thomas G. McKenzie served as Director of the Office of Secondary Market Oversight until he was named

Chief Examiner and Director of the Office of Examination on August 11, 2004.
Stephen G. Smith became the Inspector General in January 2001. He joined FCA in

1981 as a technical specialist. He became an examiner in 1984 and later served as staff

assistant for the Chief Examiner. In 1989, he was named associate regional director for

the Agency’s Albany, New York, field office. He later served as senior staff director for

the Chief Examiner, and was then named director of the Technical and Operations

Division. In 1993, he assumed new responsibilities as director of the Information

Resources Division. He was named Chief Information Officer in 1996, directing all

technology and information operations for FCA. Before joining the Agency, he worked

at the North Central Jersey Farm Credit Associations.

G. Douglas Valcour is the Chief Information Officer. He joined FCA in 1988 as a

computer specialist in the Office of Resources Management. In 1990, he became Chief

of the Systems Development Branch, and he was named Associate Director of the

Information Resources Division and team leader of the Technology Team in 1997.

Before joining FCA, he was a computer specialist for the U.S. Department of Energy

from 1986 until 1988. From 1983 to 1986, he was a computer programmer and analyst

for the Veterans Administration.

David L. Young is Executive Assistant to Chairman Nancy C. Pellett. He has served in

this capacity since Chairman Pellett joined the Agency in November 2002. A commissioned FCA examiner, Mr. Young joined the Agency in 1986, and served most recently

as an examiner in the Bloomington, Minnesota, field office. He was Chairman of FCA’s

EEO and Diversity Committee, and represented the Agency on the Minnesota Federal

Executive Board’s Diversity Council. He is the recipient of the Federal Executive Board’s

“Civil Servant of the Year” Award for his contributions to government and the community. Before joining FCA, Mr. Young worked for the U.S. General Accounting Office

(now the Government Accountability Office) for 12 years. At GAO’s Chicago Field

Office he headed evaluations of Federal natural resource programs, and in the Honolulu

Field Office he led evaluations of U.S. banking, cooperative, and military programs

worldwide. Mr. Young served in the U.S. Army Reserves for 28 years and retired as a

Lieutenant Colonel.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 13
14 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

FCS Function and Structure

The Farm Credit System is a network of

borrower-owned cooperative financial

institutions and related service organizations. It is the largest single agricultural

lender in the country and serves all 50

states and the Commonwealth of Puerto

Rico. Created by Congress in 1916 to

provide American agriculture with a

dependable source of credit, the FCS is the

oldest of the five government-sponsored

enterprises (GSEs).

FCS institutions provide credit and

financially related services to farmers,

ranchers, producers or harvesters of

aquatic products, and farmer-owned

cooperatives. They also make loans for

agricultural processing and marketing

activities; rural housing; certain farmrelated businesses; agricultural and aquatic

cooperatives; rural utilities; and foreign

and domestic entities in connection with

international agricultural trade. The

System raises its loan funds by selling

securities in the national and international

money markets, subject to approval by the

Farm Credit Administration. These

securities are not guaranteed by the U.S.

government. The funds are channeled as

loans to rural America through the FCS

lending institutions.

As of September 30, 2004, the System was

composed of 102 banks and associations.

Five Farm Credit banks provide loan

funds to 84 Agricultural Credit Association

(ACA) parent organizations,8

 two ACAs

without subsidiaries, and 11 Federal Land

Credit Associations (FLCAs). ACAs make

short-, intermediate-, and long-term loans;

FLCAs make only long-term loans; and

Production Credit Associations (PCAs),

which are subsidiaries of ACAs, make only

short- and intermediate-term loans.

One of the five banks is an Agricultural

Credit Bank (ACB), which has a nationwide charter to make loans to agricultural

and aquatic cooperatives and rural

utilities, as well as to other persons or

organizations that have transactions with

or are owned by such cooperatives. The

ACB finances U.S. agricultural exports and

imports and provides international

banking services for farmer-owned

cooperatives. In addition to making loans

to cooperatives, the ACB provides loan

funds to five ACA parent organizations,

which serve New York, New Jersey,

Connecticut, Rhode Island, Maine,

Massachusetts, New Hampshire, Vermont,

Alaska, Oregon, Washington, Montana, and

Idaho.

In addition to the banks and associations

described above, FCA examines and

regulates the following three entities:

The Federal Farm Credit Banks Funding

Corporation (Funding Corporation),

which markets debt securities that the

banks sell to raise loan funds. The

Funding Corporation is owned by the

System banks.

The Farm Credit System Financial

Assistance Corporation,

9

 chartered in

1988, which provided needed capital to the

System through the sale of $1.3 billion in

15-year bonds to the capital markets and

the purchase of preferred stock. This

stock was issued by certain System

institutions that received financial assistance as authorized by the Farm Credit

System Assistance Board.10

The Federal Agricultural Mortgage

Corporation,

11 which provides a secondary market arrangement for agricultural

real estate and rural housing mortgage

loans and provides greater liquidity and

Farm Credit System—An Overview of

Events and Conditions

8. The ACA is the parent company with two wholly

owned subsidiaries, a Production Credit Association and a Federal Land Credit Association. Although legally separated, the ACA, the PCA, and

the FLCA operate an integrated lending business,

with loans made through the subsidiaries appropriate to the authority of each subsidiary. The

ACA, the PCA, and the FLCA are jointly and severally liable on the full amount of the indebtedness to the bank under the bank’s General Financing Agreement. In addition, the three associations

agree to guarantee each other’s debts and obligations, pledge their respective assets as security for

the guarantee, and share each other’s capital. The

three institutions have a common board and

management and a common set of shareholders.

Under the Farm Credit Act, the FLCA is exempt

from Federal income taxes.

9. The Farm Credit System Financial Assistance

Corporation (FAC) will continue in existence

until no later than two years following the maturity and full payment of its outstanding debt securities, which mature, at the latest, in June 2005.

The board of directors of the FAC is the same as

the board of directors of the Funding Corporation.

10. The Farm Credit System Assistance Board was

created by the Agricultural Credit Act of 1987 to

provide assistance to financially troubled FCS

banks, protect the stock of System borrowers, restore FCS banks to economic viability, and preserve their ability to provide credit at reasonable

and competitive rates. The Farm Credit System

Assistance Board terminated on December 31,

1992.

11. Farmer Mac is established in law as a part of the

Farm Credit System. However, Farmer Mac has

no liability for the debt of any other System institution, and the other System institutions have no

liability for Farmer Mac debt. Farmer Mac is organized as an investor-owned corporation, not a

member-owned cooperative. Investors in voting

stock may include commercial banks, insurance

companies, other financial organizations, and

FCS institutions. Nonvoting stock may be owned

by any investor. Farmer Mac is regulated by the

Farm Credit Administration through the Director of the Office of Secondary Market Oversight,

who reports to the FCA Board on matters of

policy.
lending capacity to agricultural lenders.

Under the Farmer Mac I program, Farmer

Mac guarantees prompt payment of

principal and interest on securities

representing interests in, or obligations

backed by, mortgage loans secured by first

liens on agricultural real estate or rural

housing; it also purchases or commits to

purchase qualified loans or securities

backed by qualified loans directly from

lenders. Under the Farmer Mac II

program, it guarantees securities backed by

the “guaranteed portions” of farm ownership and operating loans, rural business

and community development loans, and

certain other loans guaranteed by the U.S.

Department of Agriculture.

FCA also examines and regulates the

following five service corporations

organized under Section 4.25 of the Farm

Credit Act:12

AgVantis, Inc., which provides technology-related and other support services to

the associations affiliated with U.S.

AgBank, FCB. AgVantis, which was

chartered by FCA on August 3, 2001, is

owned by the bank and its affiliated

associations.

Farm Credit Finance Corporation of

Puerto Rico, which uses tax incentives

offered to investors to provide low-interest

funding (other than that from the Funding

Corporation) to the Puerto Rico Farm

Credit, ACA.

Farm Credit Leasing Services Corporation (Leasing Corporation), which

provides equipment leasing services to

eligible borrowers, including agricultural

producers, cooperatives, and rural utilities.

The Leasing Corporation is owned by

CoBank, ACB.

Farm Credit Financial Partners, Inc.,

which provides support services to

CoBank, ACB and its five affiliated

associations, five associations affiliated

with U.S. AgBank, FCB, and one association affiliated with AgriBank, FCB.

FCS Building Association, which acquires,

manages, and maintains facilities to house

FCA’s headquarters and field office staff.

The FCSBA was formed in 1981 and is

owned by the FCS banks. The FCA Board

oversees the FCSBA’s activities on behalf of

its owners.

When Congress established the Farm

Credit System as a government-sponsored

enterprise its purpose was to provide a

permanent, reliable source of credit and

related services to agriculture and aquatic

producers, their cooperatives, and related

businesses in rural America. Congress

intended the farmer-owned cooperative

FCS to improve the income and well-being

of American farmers and ranchers. It

further encouraged farmer- and rancherborrower participation in the management,

control, and ownership of these cooperative institutions to help them remain

focused on serving their members’ needs.

The System meets a broad public need by

preserving liquidity and competition in

rural credit markets in both good and bad

economic times. The accomplishment of

this public goal benefits all eligible

borrowers, including young, beginning,

small, family, minority, female, and socially

disadvantaged farmers, as well as rural

home purchasers.

FCA’s regulations, policy statements,

examinations, chartering activities, and

other regulatory activities (discussed in

later chapters of this report) support and

facilitate the accomplishment of the

System’s mission by ensuring that FCS

12. Section 4.25 of the Farm Credit Act provides that

one or more FCS banks or associations may organize a service corporation to perform functions and services on their behalf. These federally chartered service corporations are prohibited from extending credit or providing insurance services.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 15
16 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

institutions operate in a safe and sound

manner without undue risk to taxpayers,

investors in System securities, or its

borrower-stockholders.

The sections in this chapter first assess the

System’s financial strength and then its

service to rural America. Our discussion

relies on commonly used measures,

including trends in volume by a variety of

loan types, volume of funding for nonSystem rural lenders and participations

with other lenders, and the System’s share

in the marketplace. Discussion in the next

chapter also covers lending activity and

programs that benefit young, beginning,

and small farmers and ranchers and the

use of government guarantee programs in

supporting loans to farmers who are

unable to meet normal underwriting

requirements.

Financial Condition of the FCS13

Farm Credit System loan growth was

moderate for the year ending September

30, 2004. (See “Borrowers Served” on

page 19.) Nonaccrual loans decreased

significantly over the 12-month period,

and asset quality remained high. Interest

rates remained near 45-year lows throughout the past year, ensuring low interest

expense but also contributing to reduced

net interest margins. Continued high

levels of government payments to the

agricultural sector supplemented the

incomes of borrowers. (See page 41 for a

discussion of Challenges Facing Agriculture, the Rural Economy, and the FCS.)

Asset Quality

Loan volume grew moderately, and loan

quality remained high for the year ending

September 30, 2004. Gross loans increased

by 3.9 percent to $94.9 billion.

Nonperforming loans14 dropped substantially to 0.88 percent of gross loans.

Nonaccrual loans were 0.74 percent of

gross loans, compared with 1.17 percent in

September 2003 (see Figure 2). The

allowance for loan losses as a percentage of

gross loans dropped to 2.1 percent. At

September 30, 2004, the allowance for loan

losses represented 242 percent of

nonperforming loans, compared with 171

percent a year earlier. System institutions

are reviewing the methodology used to

determine allowances for loan losses and

have stated that they expect to make

significant reductions in their allowances

in the fourth quarter of 2004.15 One

association completed its study in the

second quarter of 2004, recording a $27

million negative provision for loan losses.

Delinquencies (accrual loans 90 or more

days past due) remained minimal.

Earnings

Favorable credit quality enabled the System

to achieve a record $1.4 billion in earnings

for the nine months ending September 30,

2004 (see Figure 3). Provisions for loan

losses for the first nine months of 2004

were $11 million, down $95 million from

the same period in 2003. The Systemwide

net interest margin declined to 2.52

percent as of September 30, 2004, from

2.62 percent a year earlier. Noninterest

expense during the first nine months of

2004 increased by $68 million (7.5

percent) to $973 million. Noninterest

income for the first nine months of 2004

was $272 million, compared with $291

million for the same period last year.

Capital16

The System continues to build capital

through increased loan volume and

earnings. Total capital increased 10.9

percent to $20.2 billion, which represented

13. The information presented in this section includes that pertaining to all Farm Credit Banks

and the Agricultural Credit Bank and their affiliated associations. The FCS institutions provided the data used in the overall FCS analysis to

the FCA or to the Federal Farm Credit Banks

Funding Corporation. The analysis in this report

is based on publicly available information and,

except where noted, is based on the 12-month

period ending September 30, 2004. See Tables 2

and 3 on pages 24 and 25, respectively, for System measures of financial condition.

14. Nonperforming loans consist of nonaccrual

loans, accruing restructured loans, and accrual

loans 90 or more days past due.

15. In February 2005, the FCS reported a one-time

reversal of the allowance for loan losses of $1.167

billion, net of a related $95 million tax impact, in

connection with the completion of studies to refine the System’s methodologies for determining

the allowance for loan losses.

16. In addition to accumulated surplus and borrower

stock, total capital includes perpetual preferred

stock, restricted capital, and accumulated other

comprehensive income. It does not include mandatorily redeemable term preferred stock or protected capital. Restricted capital ($2.1 billion at

September 30, 2004) represents the total assets

under the control of the Farm Credit System Insurance Corporation, including assets that have

been identified for estimated insurance obligations and the Farm Credit Insurance Fund balance. Accumulated Other Comprehensive Income (negative $227 million at September 30,

2004) for the System consisted mostly of minimum pension liability adjustments and unrealized holding losses on available-for-sale securities. One System bank had outstanding $225 million of Mandatorily Redeemable Term Preferred

Stock. Such stock is not included in “total capital,” though it qualifies for certain regulatory capital purposes. Protected capital ($24 million at

September 30, 2004) consists of borrower stock,

participation certificates, and allocated equities

that were outstanding as of January 6, 1988, or

were issued or allocated before October 8, 1988.

Protection of certain borrower capital is provided

under the Farm Credit Act, which requires FCS

institutions, when retiring protected borrower

capital, to retire such capital at par or stated value

regardless of its book value.
Figure 2

Farm Credit System Nonperforming Loans Drop Sharply

As of September 30

Source: Federal Farm Credit Banks Funding Corporation, Quarterly Information Statements, Third Quarter.

Source: Federal Farm Credit Banks Funding Corporation, Quarterly Information Statements, Third Quarter.

Figure 3

Farm Credit System Reports Record Net Income

Nine Months Ending September 30

0

200

400

600

800

1,000

1,200

1,400

1,600

1999 2000 2001 2002 2003 2004

$ in Millions

$1,415 $1,371 $1,340 $1,295

$1,048

$934

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 17
18 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

16.6 percent of total assets (see Figure 4).

Accumulated surplus represents more than

13.1 percent of System assets and 78.9

percent of total capital. For the 12 months

ending September 30, 2004, preferred stock

increased $631 million to $931 million,

representing 4.6 percent of total capital.

Permanent capital ratios (PCRs) at System

associations ranged from a low of 11.8

percent to a high of 31.0 percent—all well

above the 7 percent minimum regulatory

requirement. For System banks, PCRs

ranged from 15.6 percent to 26.6 percent.

All institutions also exceeded their

minimum regulatory requirement core

surplus ratio (3.5 percent) at September

30, 2004.

Funding

The System funds its loans with a combination of consolidated Systemwide debt

and capital. The par value of outstanding

Systemwide debt increased by $3.9 billion

(4.2 percent), while gross loans outstanding increased by $3.6 billion (3.9 percent).

The incremental debt of $300 million and

the increase in capital of $2.0 billion were

used to fund added investments for

liquidity.17

Because of lower interest rates over the

past few years, the System was able to

retire and reissue substantial portions of

its callable debt, resulting in high levels of

debt securities issuance during 2001 and

early 2002. Since then, the System has

gradually extended the maturity date of its

17. System banks, as part of an ongoing effort to ensure their collective ability to meet their obligations under their mutual agreements concerning

joint and several liability on Systemwide debt,

have adopted a Common Liquidity Standard

(Standard). This Standard requires each bank to

maintain a minimum of 90 days of liquidity, assuming no access to the capital markets.

Figure 4

Farm Credit System Capital Continues to Increase

As of September 30

Source: Federal Farm Credit Banks Funding Corporation, Quarterly Information Statements, Third Quarter.

11.52 11.98 12.22 12.52 12.67 13.10

2.00 1.79 1.52 1.39 1.33 1.17

2.06 1.77 1.70 1.92 2.35

1.74

0

2

4

6

8

10

12

14

16

18

1999 2000 2001 2002 2003 2004

0

3

6

9

12

15

18

21

Total Capital Surplus Borrower Stock Other Capital

Capital as Percentage of Total Assets

Total Capital ($ in Billions)
debt. The longer debt maturities, reduced

volume of callable debt, and moderating

loan demand have combined to reduce the

amount of debt issued. For the 12 months

ending September 30, 2004, the System

issued $334 billion in insured debt

securities,18 compared with $332 billion for

the previous 12 months. By comparison,

the System issued $517 billion of insured

debt in the 12 months ending September

30, 2001. The System’s weighted average

remaining maturity for all outstanding

insured debt decreased slightly to 2.2 years

at September 30, 2004, compared with 2.3

years at September 30, 2003, and 1.8 years

at September 30, 2001. The weighted

average yield for the insured debt securities increased from 2.7 percent at September 30, 2003, to 2.9 percent at September

30, 2004.

Borrowers Served

The System fulfills its overall mission by

using its authority to lend to agriculture

and rural America. Through changes in

law since the System’s original authorization in 1916, System lending authorities

have evolved to include providing the

following:

· long-term agricultural real estate loans,

including rural home loans;

· short- and intermediate-term agricultural loans;

· loans to producers and harvesters of

aquatic products;

· loans to certain farmer-owned

agricultural processing facilities and

farm-related businesses;

· loans to farmer-owned agricultural

cooperatives;

· loans that finance agricultural exports

and imports; and

· loans for rural utilities.

Nationwide, the System had $94.9 billion

in gross loans outstanding as of September 30, 2004 (see Table 1, page 20).

Agricultural producers represented by far

the largest borrower group with $76.9

billion, or 81.1 percent of the total dollar

amount of loans outstanding.19 As

required by law, all borrowers are also

stockholder-owners of System institutions.

The System had nearly 712,000 loans and

approximately 445,000 stockholders.

Approximately 83 percent of the stockholders are farmers with voting stock. On

the basis of the 2002 Census of

Agriculture’s expanded count of 3.1

million farm operators (multiple operators

per farm), about 12.0 percent of all U.S.

farmers are stockholders of System

institutions.

More than half of the System’s total loan

volume outstanding (54.6 percent) was in

long-term real estate loans, 26.4 percent in

short- and intermediate-term loans to

agricultural producers, and 16.0 percent in

loans to cooperatives. International loans

(export financing) represented 3.0 percent

of the System’s loan portfolio. As of

December 31, 2003, rural home loans

made up about 2.4 percent of total loans.

(These are part of long-term real estate

loans in Table 1).20 Loans to finance rural

utilities (included in cooperative loans)

were 7.8 percent of overall loan volume;

this segment had increased roughly 50

percent over the previous five years. Lease

receivables (included in both the domestic

cooperatives and the short- and intermediate-term categories) had dipped and

accounted for less than 2.0 percent of the

overall System portfolio as of December

31, 2003.

18. Payment of principal and interest on Systemwide

debt securities is insured by the Farm Credit System Insurance Corporation’s Farm Credit Insurance Fund to the extent provided in the Farm

Credit Act. Some FCS debt—$928 million at

September 30, 2004—was issued by individual

banks of the FCS. These individual banks are

solely liable for this uninsured debt.

19. Some of this total consists of loans to rural

homeowners and leases.

20. More detailed loan category breakouts are reported by the Federal Farm Credit Banks Funding Corporation at calendar year-end for agricultural and cooperative lending; this includes

rural home lending, domestic cooperatives, rural utilities, lease receivables, farm-related businesses, other financing institutions, and other.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 19
20 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

The aggregate total of loans outstanding at

FCS banks and associations (net of intraSystem lending) grew by $3.6 billion, or

3.9 percent, during the year ending

September 30, 2004, and by $25.2 billion,

or 36.2 percent, over the past five years.

Volumes in all loan categories were above

the levels of five years ago, but for the past

two years domestic cooperative and

international loans have declined. The

total number of members served by FCS

associations increased by 1.0 percent to

about 415,400 as of the year ending

September 30, 2004. Of the 97 FCS

associations, 17 experienced double-digit

loan volume growth, and 12 experienced

drops in loan volume for the past year.

The number of loans increased in 37

states, indicating that the System continued to show a strong commitment to its

mission of service to agriculture and rural

communities.

The System’s increased loan volume over

the past 12 months stems from long-term

real estate loans (up $3.0 billion or 6.1

percent) and short- and intermediate-term

loans (up $1.1 billion or 4.5 percent).

Marketing and processing loans continued

to be among the fastest growing subcomponents of these lending categories. Loan

participations and syndications with nonSystem lenders have also been a major

growth area in recent years, but with

changes in reporting for these items as of

March 31, 2004, we do not have comparable data for earlier periods. Lease

receivables reversed the dip of the previous

Table 1

Farm Credit System Gross Loans Outstanding, 1999–2004

As of September 30

Dollars in Millions

Percentage

Change

Loan from

Category 1999 2000 2001 2002 2003 2004 1999

Long-Term

Real Estate1 $34,218 $35,549 $39,722 $44,782 $48,852 $51,849 51.5

Short- and

Intermediate-Term2 18,616 18,917 21,397 23,328 23,990 25,072 34.7

Domestic

Cooperatives3 14,549 15,908 16,298 16,774 15,595 15,157 4.2

International 2,274 2,583 2,679 3,033 2,865 2,821 24.1

Total $69,657 $72,957 $80,096 $87,917 $91,302 $94,899 36.2

1. Includes rural home loans and various loans classified as “other.”

2. Includes a portion of loans classified as “lease receivable” and various loans classified as “other.”

3. Includes loans to rural utilities, rural water and waste facilities, and a portion of loans

classified as “lease receivable.”

Source: Federal Farm Credit Banks Funding Corporation, Quarterly Information Statements, Third Quarter.
fiscal year (up 5.6 percent for the Leasing

Corporation over the 12 months ending

September 30, 2004).

Several factors have facilitated the System’s

strong loan growth. The funding environment has allowed the System to offer

favorable interest rates. Mergers among

System institutions have allowed them to

provide a wider array of services and

products, and System institutions have

mounted effective marketing campaigns.

And with strong capital positions, a

number of System institutions have used

participations and syndications, both

within and outside the System, as a way of

using their capital base while achieving

portfolio diversification and risk reduction.

Funding for Other Lenders

Other Financing Institutions

Under the Farm Credit Act, System banks

may further serve the credit needs of rural

America by providing funding and

discounting services to non-System

lending institutions known as “other

financing institutions” (OFIs). OFIs

include commercial banks, thrifts, credit

unions, trust companies, agricultural credit

corporations, and other specified agricultural lenders. System banks may fund and

discount short- and intermediate-term

loans for OFIs that are significantly

involved in lending to agricultural and

aquatic producers and that demonstrate a

need for additional funding to meet the

credit needs of eligible borrowers. (See

page 49 for a brief discussion of a final

rule on OFIs that became effective July 22,

2004.) As of September 30, 2004, the

number of OFIs served by the System

stood at 24, a drop of one institution from

a year earlier. However, the number and

volume of FCS loans outstanding to OFIs

increased in 2004 by 15 percent and 10.9

percent, respectively. Loan volume to OFIs

at $339.7 million represented 1.35 percent

of the System’s short- and intermediateterm loan volume as of September 30,

2004, off from a high of 1.44 percent on

September 30, 2001.

Improved Reporting Requirements for

Asset Purchases, Sales, and Syndication

Data

Under conditions prescribed by the Farm

Credit Act, System banks and associations

have authority to participate with commercial banks or other financing institutions in making loans to agricultural and

other eligible borrowers in rural America.

Financial institutions primarily use loan

participations and syndications to reduce

interest rate risk and credit risk, but they

also use them to enhance capital, earnings,

and liquidity. Agricultural credit providers

with high commodity concentrations

frequently use participations and syndications to diversify their portfolios or to

fund large loans when they have insufficient capital.

System participations and syndications

with non-System lenders have grown

rapidly in recent years, reflecting changes

in participation rules, as well as favorable

market conditions. In the 2003 FCA

Annual Report, we noted an increase of

such items outstanding of more than $1.1

billion, or 22 percent, to $6.1 billion for

the year ending September 30, 2003, and

by $4.6 billion, or 310 percent, over the

previous five years.21 With our improved

reporting, we no longer gather comparable

information. In March 2004, we provided

new guidance on the reporting of syndicated loans (see page 51), and we changed

our reporting instructions to obtain more

meaningful asset purchases and sales data

21. Up to December 31, 2003, System institutions

combined data on participations and syndications in the Call Reports they submitted to the

Agency. While participations were reported as

being from other System institutions, non-System institutions, or similar entities, participations sold were reported only in total, not separately by type of institution.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 21
22 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

have the largest market share at the end of

2003, their share has slipped since December 31, 2000, dropping by 2.3 percentage

points to 39.7 percent on December 31,

2003.

As of year-end 2003, the System held 37.1

percent of the market in real-estatesecured farm debt, up half a percentage

point during the year. In the non-real

estate market, the System held 22.3

percent, up 0.4 percentage points from the

previous year.

Year-end 2004 loan volume and market

share estimates were not available for this

report. However, FCS loan data through

the third quarter showed continued

moderate growth in the System’s year-overyear farm real estate loan growth (about

5.0 percent) as well as continuing growth

(6.0 percent) in its non-real estate agricultural loan volume. Yearly loan growth

patterns reported for commercial banks’

agricultural lending through the second

quarter show some rebounding (8.3

percent for real estate loans and 2.4

percent for non-real estate loans).24 Both

these sets of lender figures include some

loan volume not counted by USDA as

farm business debt, but these readings

suggest less overall change in market

shares in 2004 between the System and

commercial banks than has occurred in

recent years.

Farmer Mac Provides a

Secondary Market

Farmer Mac was created to provide a

secondary market arrangement for

agricultural real estate and rural housing

mortgage loans and greater liquidity and

lending capacity to agricultural lenders. In

USDA’s estimates of farm sector debt by

between System and non-System institutions.22 Under the new reporting requirements, the System had $5.6 billion in

outstanding loan-type assets that were

purchased from non-System institutions,

and it had sold $0.8 billion of such assets

to non-System institutions. In addition,

the System had $2.0 billion in loan

syndications outstanding as of September

30, 2004. The $7.6 billion in non-System

participations and syndications represented 8.0 percent of the System’s total

outstanding loans as of September 30,

2004. We anticipate increasing collaboration between System and non-System

lenders, thereby expanding the availability

of credit to rural America.

FCS Market Share of Farm Debt

According to USDA’s estimates of farm

sector debt, the System’s growth in loans

outstanding to farming operations slowed

to 4.6 percent during calendar year 2003,

less than half its increase during 2002. Its

growth rate has outpaced that of all other

major farm sector lenders since 2000,

resulting in the System’s share of total farm

business debt jumping from 26.1 percent

at year-end 2000 (see Figure 5) to 30.4

percent on December 31, 2003.23 The

System’s market share of total farm debt

reached a low of 23.9 percent in 1994,

following a cyclical high of 33.6 percent at

year-end 1982. During the later half of

the 1990s, both the System and commercial banks generally experienced small

gains in market share. Market share for

“individuals and others,” as well as USDA’s

Farm Service Agency (FSA) direct lending,

has generally declined in recent years.

Meanwhile, the market share for life

insurance companies has remained

relatively stable over a prolonged period.

Although commercial banks continued to

22. As of March 31, 2004, a new Call Report Schedule RC-O reports up to four types of asset purchases and sales with separate columns for transactions with other System institutions and for

transactions with non-System institutions. The

four asset types reflect statutory authorities: loan

participations, similar entity transactions, lease

interest, and other interest in loans. Loan syndications are a new line item reported on Schedule

RC-1 Memoranda.

23. Market share percentages are for farm business

debt and are based on U.S. Department of Agriculture annual year-end estimates. The historical estimates by lender were revised in October

2003, and final 2003 estimates were issued on

November 9, 2004. These data are available on

the USDA Economic Research Service Web site.

USDA also periodically surveys debt sources

used by farm cooperatives. According to the

most recent survey (1997), the System provided

about 54 percent of the funds borrowed by those

cooperatives surveyed. Market share information is not routinely available on the nonfarmer

segments of the System’s lending activity—

namely, its financing of rural homeowners, marketing and processing firms, rural utilities, and

international farm commodity sales.

24. Agricultural Finance Databook, Board of Governors of the Federal Reserve System, Statistical

Release E.15 (125), Third Quarter 2004.
lender, Farmer Mac’s purchases of farm

real estate loans (about $3.2 billion

outstanding as of September 30, 2004)

from various lenders are included as a

subcategory of the roughly $41 billion

provided in the Individuals and Others

category. Farmer Mac also plays a role in

the farm debt market through its LongTerm Standby Commitment to Purchase

(LTSCP or Standby) product, introduced

in 1999. Using the LTSCP, a financial

institution acquires a Farmer Mac guarantee for an annual fee on a loan pool that

the institution retains. While Farmer

Mac’s LTSCP product is available to

agricultural lenders generally, System

Figure 5

FCS Regaining Market Share of Farm Business Debt, 1984–2003

As of December 31

Note: “Individuals & Others” includes trade credit, seller financing of real estate, Commodity Credit Corporation

storage and drying facility loans, and loans sold to Farmer Mac. Loan volume guaranteed by Farmer Mac, as

well as by the USDA Farm Service Agency, is treated as being with the originating lender or purchaser of the

loan, not the guarantor agency.

Source: USDA, Economic Research Service. Market shares based on farm balance sheet debt estimates by lender

on USDA Web site. Historical series were revised in October 2003, and final 2003 estimates were posted on

November 9, 2004.

0

5

10

15

20

Percentage of Market 25

30

35

40

45

1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Commercial Banks

USDA Farm Service Agency

Individuals & Others

Life Insurance Companies

Farm Credit System

institutions accounted for all ($2.4 billion)

of the outstanding volume in Standby

products as of September 30, 2004.25

Since not all farm mortgages are eligible

for Farmer Mac funding, Farmer Mac

calculates market share achievement by

estimating the portion of the total farm

real estate debt market that would qualify

as eligible mortgages under Farmer Mac’s

underwriting criteria. Viewing activity in

this manner, Farmer Mac estimates

outstanding program volume ($5.6 billion)

to be about 12.0 percent of the eligible

farm real estate debt market.

25. The guaranteed amounts by Farmer Mac are reported in USDA’s farm business debt estimates

as being provided by the originating lender. This

is also how nearly $9 billion in FSA-guaranteed

loans outstanding are treated; that is, the 3.4 percent share shown for USDA/FSA was only for its

$6.7 billion in direct loans outstanding at yearend 2003.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 23
Table 2

Farm Credit System Major Financial Indicators

Year to Date as of September 30

Dollars in Thousands

Farm Credit System Banks1 2000 2001 2002 2003 2004

Gross Loan Volume $65,967,226 $72,046,891 $78,644,139 $81,819,994 $84,034,986

Accruing Restructured Loans2 $179,596 $356,916 $433,659 $14,475 $6,434

Accrual Loans 90 or More Days Past Due $11,539 $18,529 $41,731 $31,698 $20,273

Nonaccrual Loans $493,983 $236,356 $411,164 $419,528 $234,733

Nonperforming Loans/Gross Loans3 1.04% 0.85% 1.13% 0.57% 0.31%

Cash and Marketable Investments $14,361,173 $15,266,188 $15,833,066 $19,894,923 $22,508,538

Capital/Assets4 7.55% 7.51% 7.04% 6.62% 6.91%

Unallocated Retained Earnings/Assets 4.01% 3.89% 3.95% 3.60% 3.61%

Net Income $438,813 $487,314 $575,863 $449,593 $476,585

Return on Assets5 0.73% 0.74% 0.82% 0.59% 0.60%

Return on Equity5 9.55% 9.48% 11.06% 8.93% 8.65%

Net Interest Margin 1.21% 1.20% 1.18% 1.00% 0.93%

Operating Expense Ratio6 0.41% 0.38% 0.35% 0.33% 0.34%

Associations

Gross Loan Volume $50,030,496 $57,482,274 $65,232,842 $70,492,872 $74,709,800

Accruing Restructured Loans2 $81,519 $86,714 $80,255 $95,326 $69,494

Accrual Loans 90 or More Days Past Due $22,707 $36,535 $48,071 $44,940 $34,124

Nonaccrual Loans $443,610 $545,193 $587,629 $651,100 $467,847

Nonperforming Loans/Gross Loans3 1.10% 1.16% 1.10% 1.12% 0.76%

Capital/Assets7 16.86% 16.38% 15.94% 16.00% 16.74%

Unallocated Retained Earnings/Assets 14.03% 13.98% 13.69% 13.95% 14.32%

Net Income $639,383 $866,295 $780,488 $929,011 $1,024,298

Return on Assets5 1.64% 1.94% 1.57% 1.70% 1.78%

Return on Equity5 9.73% 11.98% 9.70% 10.63% 10.59%

Net Interest Margin 2.98% 2.86% 2.72% 2.72% 2.73%

Operating Expense Ratio6 1.57% 1.47% 1.41% 1.49% 1.47%

Total Farm Credit System8

Gross Loan Volume $72,957,000 $80,096,000 $87,917,000 $91,302,000 $94,899,000

Accruing Restructured Loans2 $123,000 $105,000 $98,000 $113,000 $78,000

Accrual Loans 90 or More Days Past Due $34,000 $55,000 $90,000 $75,000 $54,000

Nonaccrual Loans $937,000 $781,000 $1,000,000 $1,070,000 $702,000

Nonperforming Loans/Gross Loans3 1.50% 1.17% 1.35% 1.38% 0.88%

Bonds and Notes $74,369,000 $80,974,000 $87,913,000 $94,002,000 $98,276,000

Capital/Assets9 15.52% 15.80% 15.83% 15.76% 16.62%

Surplus/Assets 11.98% 12.22% 12.52% 12.67% 13.10%

Net Income $1,048,000 $1,295,000 $1,371,000 $1,340,000 $1,415,000

Return on Assets5 1.57% 1.78% 1.75% 1.58% 1.57%

Return on Equity5 10.18% 11.41% 11.01% 10.08% 9.58%

Net Interest Margin 2.74% 2.79% 2.76% 2.62% 2.52%

1. Includes Farm Credit Banks and the Agricultural Credit Bank.

2. Excludes loans 90 days or more past due.

3. Nonperforming Loans are defined as Nonaccural Loans, Accruing Restructured Loans, and Accrual Loans 90 or More Days Past Due.

4. Capital excludes madatorily redeemable preferred stock.

5. Income ratios are annualized.

6. Operating expenses divided by average gross loans.

7. Capital excludes protected borrower capital.

8. Cannot be derived through summation of above categories because of intradistrict and intra-System eliminations used in the Reports to Investors.

9. Capital includes restricted capital (amount in Farm Credit Insurance Fund), excludes mandatorily redeemable preferred stock and protected borrower capital.

Source: Call Reports received from the Farm Credit System and the Federal Farm Credit Banks Reports to Investors of the Farm Credit System.

24 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
Table 3

Farm Credit System Major Financial Indicators, by District1

As of September 30, 2004

Dollars in Thousands

Allowance Cash

Gross for and

Total Loan Nonaccrual Loan Marketable Capital Total

Assets Volume Loans Losses Investments Stock2 Surplus3 Capital4

Farm Credit System Banks

AgFirst $ 16,716,543 $12,778,793 $ 27,523 $ 30,298 $ 3,752,614 $ 379,296 $ 726,586 $ 1,090,551

AgriBank 35,913,355 28,341,946 12,966 72,178 7,351,845 832,122 1,183,820 2,004,305

CoBank 30,027,587 23,268,708 188,318 431,450 6,889,055 1,725,396 1,143,573 2,869,656

Texas 8,454,371 6,633,961 3,088 5,817 1,790,425 208,432 299,887 504,274

U.S. AgBank 15,871,707 13,011,578 2,838 21,366 2,724,599 455,278 521,283 921,503

Total $ 106,983,563 $84,034,986 $ 234,733 $ 561,109 $22,508,538 $3,600,524 $ 3,875,149 $ 7,390,289

Associations

AgFirst $ 13,502,259 $13,188,519 $ 76,278 $ 282,048 $ 13,339 $ 176,568 $ 1,887,461 $ 1,991,705

AgriBank 33,333,077 31,906,636 181,694 623,815 42,946 180,682 5,328,905 5,520,861

CoBank 8,025,077 7,623,386 55,993 165,946 27,664 49,642 1,303,156 1,345,471

Texas 7,553,210 7,406,432 42,449 153,061 15,696 96,348 1,172,999 1,269,347

U.S. AgBank 15,605,005 14,584,827 111,433 226,825 418,976 287,381 2,648,271 2,930,005

Total $ 78,018,628 $74,709,800 $ 467,847 $1,451,695 $ 518,621 $ 790,621 $12,340,792 $ 13,057,389

Total Farm

Credit System $121,255,000 $94,899,000 $ 702,000 $2,019,000 $23,446,000 $1,416,000 $15,890,000 $20,152,000

1. Aggregations of district data may not equal totals because of eliminations.

2. Includes capital stock and participation certificates, excludes madatorily redeemable preferred stock and protected borrower capital.

3. Includes allocated and unallocated surplus.

4. Includes capital stock, participation certificates, perpetual preferred stock, surplus, accumulated other comprehensive income, and restricted capital (amount in

the Farm Credit Insurance Fund for Farm Credit System total only). Excludes mandatorily redeemable preferred stock and protected borrower capital.

Source: Call Reports received from the Farm Credit System and the Federal Farm Credit Banks Reports to Investors of the Farm Credit System.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 25
26 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

Maintaining a Dependable Source of Credit for

Farmers and Ranchers

As federally chartered agricultural lending

cooperatives, the institutions of the Farm

Credit System are single-purpose lenders

exposed to risk in making loans to benefit

their borrower-stockholders and meet

their public mission. While the FCS

benefits from preferred access to the

capital markets as a government-sponsored

enterprise, the Federal government does

not subsidize it directly.

For FCS institutions to maintain their

presence in the marketplace as a dependable source of credit and financially related

services for rural America, they must

operate profitably as well as manage and

control risk. Accordingly, FCA continues

to deploy examination and supervisory

resources based on the risk in each

institution. This “risk-based” examination

and supervisory program requires examiners to determine how certain existing or

emerging issues facing an institution or

the agriculture industry affect the nature

and extent of risks in that institution. On

the basis of that risk evaluation, examiners

establish examination plans and actions.

To evaluate whether an institution is

meeting its pubic mission, examiners

determine whether it is operating in

compliance with the laws and regulations

and whether it is responsive to the credit

needs of all types of agricultural producers

who have a basis for credit. As a part of

their mission, direct-lender associations

are obligated to establish programs that

respond to the credit and related services

needs of young, beginning, and small

farmers and ranchers (YBS).

Risk-Based Examination and

Supervisory Program

Examinations of FCS institutions must be

consistent with Agency authorities and

statutory requirements. Within those

parameters, the amount of examination

review and testing that an institution

receives depends on the level of institutional risk reflected by the institution’s

CAMELS-based rating26 assigned under

FCA’s Financial Institution Rating System

(FIRS).

The FIRS rating is the primary risk

designation FCA uses internally to indicate

the safety and soundness threats in an

institution. FCA discloses the composite

and component ratings to the institution’s

board to provide a better sense of where

the institution stands relative to the

seriousness of examination issues. In

addition, each report of examination

provides the institution board with a

detailed assessment of management’s

performance, the quality of assets, and the

financial condition and performance of

the institution.

Through its risk-based examination and

supervisory programs, the FCA generally

devotes fewer resources to institutions that

are found to be in compliance with

statutory and regulatory requirements and

operating in a safe and sound manner.

The scope and depth of examinations are

based on statutory and regulatory compliance, as well as the risk identified, or

reasonably anticipated, in the institution.

The factors that determine the scope and

depth of an examination include the

effectiveness of the institution’s internal

controls, the examiners’ judgment in

considering the results of previous

examinations, the composite and compo26. CAMELS is an acronym for the six general section headings of FCA examinations: capital, asset quality, management performance (including the board of directors), earnings, liquidity,

and sensitivity to interest-rate risk.
nent FIRS ratings, changes that have taken

place in the institution since the preceding

examination (especially implementation of

new programs by the institutions), and

guidance provided by field and senior

management on areas of risk that should

be given special emphasis.

Finally, examiners review the work

performed by others, such as internal and

external auditors or reviewers. The degree

of reliance on this work is based on the

examiners’ judgment of the competence

and independence of the auditors or

reviewers, as well as the scope of the audit

or review.

Meeting Statutory Examination

Requirements

The Farm Credit Act requires FCA to

examine each FCS institution at least once

every 18 months. However, we conduct

ongoing monitoring and interim examinations as risk and circumstances warrant in

each institution. Generally, FCA examines

all System banks and direct-lender

associations with more than $1 billion in

total assets at least once every 12 to 15

months because of these institutions’

relative importance to the overall financial

soundness of the System.

FCA conducted 81 examinations in fiscal

year (FY) 2004, including examinations of

71 FCS direct-lender associations, four

Farm Credit Banks, three service corporations, one Agricultural Credit Bank,

Farmer Mac, and the National Cooperative

Bank, which is not an FCS institution.27

The Small Business Administration (SBA)

and the U.S. Department of Agriculture

continued to use the FCA’s examination

expertise in 2004. SBA contracted with

FCA to conduct examinations of financial

companies licensed by SBA to make

guaranteed loans to small businesses.

USDA contracted with FCA to conduct

examinations of financial companies

authorized by USDA to make guaranteed

loans under USDA’s Business and Industry

(B&I) Guaranteed Loan program. Also,

FCA examiners completed reviews of B&I

program operations at selected USDA state

offices. While the safety and soundness of

the System remains our principal focus

and responsibility, the use of FCA examination expertise to assist SBA and USDA

is a positive reflection on the professionalism of FCA examiners and serves to

broaden FCA’s examination skills while

increasing job satisfaction and employee

retention. Reimbursable fees earned from

SBA and USDA reduce assessments on

FCS institutions.

Measuring the System’s Safety and

Soundness

Through our continuous monitoring and

oversight programs, examiners evaluate the

risk in each bank and direct-lender

association at least every 90 days on the

basis of quantitative and qualitative

benchmarks to ensure that assigned FIRS

ratings reflect current risk and conditions

in the FCS. The FIRS provides a general

framework for assimilating and evaluating

all significant financial, asset quality, and

management factors to assign a composite

rating to each institution on a scale of 1 to

5. A 1 rating means an institution is

sound in every respect. A rating of 3

means an institution displays a combination of financial, management, or compliance weaknesses ranging from “moderately

severe” to “unsatisfactory.” A 5 rating

signals an extremely high, immediate, or

near-term probability of failure.28

27. The National Consumer Cooperative Bank Act

of 1978, as amended, provides for FCA to examine and report on the condition of the National

Cooperative Bank(NCB). Since the passage of

this law, FCA has conducted safety and soundness examinations of the NCB and issued reports

of examination to the NCB’s board.

28. See the Glossary for a complete description of

the FIRS ratings.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 27
28 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

Throughout FY 2004, FIRS ratings as a

whole continued to reflect the stable

financial condition of the Farm Credit

System; as Figure 6 reflects, the overall

trend in FIRS ratings continued to be

overwhelmingly positive. At September 30,

2004, there were nearly three times as

many 1-rated institutions (77, or 75

percent) as 2-rated institutions (26, or 25

percent). There were no 3-, 4-, or 5-rated

institutions at September 30, 2004. These

ratings reflect a financially safe and sound

Farm Credit System, thanks in part to

continuing government support program

payments, which enable many borrowers

to meet debt obligations when market

prices for commodities are low. The

overall financial strength maintained by

the System reduces the risk to investors in

FCS debt, the Farm Credit System Insurance Corporation, and FCS institution

borrower-stockholders.

Identifying Potential Threats to Safety

and Soundness

Every six months, the FCA’s Office of

Examination uses a financial forecasting

model to identify and evaluate prospective

risk in institutions over the upcoming 12-

and 24-month periods under “most likely”

and “worst case” scenarios, respectively. By

evaluating each institution’s financial

condition and performance under various

scenarios, we can identify institutions with

emerging adverse trends and risk-bearing

capacity. This evaluation helps FCA carry

out its risk-based supervision program to

ensure that FCS institutions address and

correct problems before irreparable harm

to their financial conditions occurs. Our

current financial forecasting analysis

(based on December 31, 2003, Call Report

data) projects that the financial condition

of the FCS will remain sound through

December 31, 2004, and December 31,

Figure 6

Farm Credit System FIRS Composite Ratings Steadily Improve

As of September 30

Note: FIRS ratings are based on capital, asset quality, management performance (including the board of directors), earnings, liquidity, and sensitivity to interest-rate risk. Ratings range from 1 (a sound institution) to 5

(an institution that is likely to fail).

Source: Farm Credit Administration Reports of Examination.
2005, under “most likely” and “worst case”

scenarios, respectively. These projections

assume that current government support

programs will continue.

In addition to stress testing, we perform

an analysis of new money, refinancing, and

rollover trends to identify the potential for

transfer of risk from other lenders to FCS

institutions (especially during stressful

times in agriculture). We also maintain a

database of FCS institutions’ loan underwriting standards to analyze whether FCS

institutional boards are properly adjusting

standards in response to changing risk.

During FY 2004, the results of these

analyses indicated that the use of loan

underwriting standards by System institutions has become more widespread,

dynamic, and tailored by industry, which

we believe will contribute to the System

remaining financially sound and wellpositioned to fulfill its mission through

good and bad times.

Differential Supervision and

Enforcement

Risks are inherent in lending, and lending

to a single sector of the economy, such as

agriculture, is particularly risky. If

examiners discover unwarranted risks, they

work with an institution’s board and

management to establish a plan of action

to mitigate or eliminate those risks.

Appropriate actions may include reducing

exposures, increasing capital, or strengthening risk management.

When an institution is not properly

managing its risks or complying with laws

and regulations, our goal is to use the

most appropriate means to influence the

institution’s board of directors to adjust its

polices and practices. When examiners

discover unsafe or unsound conditions or

violations of laws or regulations, we

require, through the report of examination, the institution’s board to take

corrective actions. The board must

provide FCA with a written response that

addresses how the problems will be

corrected, including specific time frames

for correction. Twenty-seven percent of

the reports of examination issued in FY

2004 required corrective actions. This

follows noticeable increases in 2002 and

2003, when 39 and 87 percent, respectively,

of reports required corrective actions, after

a three-year declining trend in required

actions through 2001. While the percentage of reports requiring corrective actions

in 2004 is much lower than it was in 2003,

the requirements continued to occur

largely in regulatory compliance. Regulatory compliance includes such areas as ecommerce regulation compliance, eligibility and scope of financing, and consumer

protection regulations. While not directly

affecting safety and soundness, these areas

are subject to clear regulatory criteria that

warrant FCA’s requiring institution boards

to take corrective actions.

FCA uses a three-tiered supervision

program (normal, special, and enforcement) to distinguish the risks and special

oversight needs of institutions. Institutions under normal supervision are

generally performing in a safe and sound

manner and are operating in compliance

with applicable laws and regulations.

These institutions have demonstrated they

can correct identified weaknesses in the

normal course of business. Nonetheless,

our examinations may identify violations

of laws or regulations or potentially unsafe

or unsound practices that require the

attention of management and boards and

follow-up corrective actions. In addition

to required actions, we regularly recommend to institution boards ways to

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 29
improve the efficiency or effectiveness of

their risk management processes and

controls to maintain financial stability.

This practice of requiring corrective

actions and recommending improvements

to processes and controls is critical to our

success in preemptively supervising

regulatory compliance and the safety and

soundness of FCS institutions.

For institutions displaying conditions that

are serious but do not necessarily critically

impair their safety and soundness, we

increase the concern from normal supervision to special supervision, and our

examination oversight increases accordingly. Special supervision gives the

institution’s board and management the

opportunity to correct the problems

discovered during the examination or

oversight process before irreparable harm

occurs. This process has been successful

where the institution’s board and management are both willing and able to correct

the identified problems. The institution is

allowed time to correct identified weaknesses before enforcement actions by the

Agency become necessary.

A formal enforcement action may be

necessary if an institution is financially

threatened, engages in unsafe or unsound

practices, violates laws or regulations, or

exhibits excessive risk, or if its board and

management are unable or unwilling to

correct the problems. After exhausting less

formal supervisory approaches, FCA uses

its enforcement authorities to ensure that

the operations of FCS institutions are safe

and sound, and comply with applicable

laws and regulations. Our authorities

include the power to enter into formal

agreements, issue orders to cease and

desist, levy civil money penalties, and

suspend or remove officers, directors, and

any other persons, or forbid them from

engaging in FCS institutions’ affairs. If the

FCA Board votes to take an enforcement

action, FCS institutions operate and report

under our enforcement supervision

program, and our examiners oversee their

performance to ensure compliance with

the enforcement action.

Working with Financially Stressed

Borrowers

Agriculture is a risky business that can be

affected by adverse weather; changes in

imports, exports, and the Farm Program;

and local supply and demand, sometimes

causing borrowers difficulty in repaying

their loans. Unlike other lenders, the FCS

(under provisions of the Farm Credit Act)

gives borrowers certain rights when they

apply for loans and when they have

difficulty repaying loans. For example, the

Act requires FCS institutions to consider

restructuring an agricultural loan before

initiating foreclosure. The Act also

provides borrowers an opportunity to seek

review of certain credit and restructuring

decisions. If a loan is foreclosed, the Act

gives borrowers the opportunity to buy

back their property at the fair market

value.

FCA enforces the borrower rights provisions of the Act. FCA examiners typically

include a review of borrower rights

compliance in examinations of FCS

institutions. Further, FCA receives and

reviews complaints from borrowers

regarding their borrower rights. Through

these efforts, FCA ensures compliance with

the law and helps the FCS institutions

continue to provide sound and constructive credit and related services to farmers

and all types of agricultural producers.

30 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
Serving Young, Beginning, and

Small Farmers and Ranchers29

Providing financially sound and constructive credit and related services to borrowers identified as young, beginning, and

small farmers and ranchers is a legislated

mandate and a high priority for the

System. Loans to YBS borrowers help

ensure a smooth transition of agribusiness

to the next generation and a continued

diversified customer base for the FCS that

includes all sizes of farm operators.

The percentage of retirement-age farm

operators continues to rise, increasing the

importance of the Farm Credit System’s

role in helping young and beginning

farmers finance the purchase of land sold

by those who are exiting the business.

The 2002 Census of Agriculture found that

26.2 percent of principal operators are age

65 or older, compared with 21.4 percent in

1987. The census also reported a continuing sharp decline in the percentage of

young operators (principal operators age

34 or younger), dropping from 13.3

percent in 1987 to 5.8 percent in 2002.

Transitions out of and into the capitalintensive farming business involve credit

decisions that are compounded by the

volatile nature of agricultural production

and prices, as well as shifts in the products

consumers desire. System lenders prudently weigh the risks and rewards of

extending credit to new customers by

assessing their long-term earnings potential and risk management ability.

The Farm Credit System with its GSE

status is in a unique position to develop

YBS programs, coordinate those programs

with other government programs that can

spread risks, and make a continuing

commitment in lending to YBS borrowers.

Many borrowers are assisted by the

various state and Federal programs that

provide interest rate reductions or guarantees to help commercial lenders and FCS

institutions reduce credit risks for borrowers. Without such concessions and

guarantees, credit would not be extended

to some YBS borrowers because of

repayment risks.

Section 4.19 of the Farm Credit Act and

FCA Regulation 614.4165 require each

System bank and association board to

have a program in place for furnishing

sound and constructive credit and

financially related services to YBS borrowers. YBS programs are to be made

available in coordination with those of

other System institutions and with other

government and private sources of credit.

In addition, each institution is required to

report yearly on operations and achievements under its YBS program.

FCA Adopts New YBS Rule

In March 2004, FCA approved a final rule

designed to enhance the System’s service

to YBS farmers and ranchers. The rule

amends existing regulations to provide

clear, meaningful, and results-oriented

guidelines for the YBS policies and

programs of the System’s institutions. It

also provides for enhanced reporting and

disclosure to the public on the System’s

performance and compliance with its

statutory YBS mission. While the rule

provides for additional guidance, it also

allows System direct-lender associations

the flexibility to design YBS programs

unique to the needs of their territories and

within their risk-bearing capacities. (See

page 48 for a summary discussion of the

new YBS regulation.)

29. The System’s YBS mission is to the three separate borrower categories (young, beginning, and

small), not to a combined characteristic YBS

borrower. Thus, when we use the term YBS, we

are referring to the service to each component.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 31
The YBS rule was the first substantive

mission-related regulation adopted by the

FCA Board. It was developed with

considerable public participation that was

achieved through a public meeting

(November 2002) and requests for written

responses to a proposed rule in the Federal

Register (September 2002 and September

2003).30 We heard testimony from 24

interested parties at the public meeting

and received 52 comment letters in

response to the proposed rule. We believe

the rule is well-balanced and satisfies the

recommendations in a General Accounting

Office (GAO)31 report of March 2002 on

the FCA’s oversight of the System’s special

mission to serve YBS farmers and ranchers.32

Over the past six years, the Agency has

taken a number of actions designed to

provide additional emphasis and guidance

to System institutions as they lend to YBS

borrowers. The first major action was a

policy statement (FCA-PS-75) on YBS

farmers and ranchers adopted by the FCA

Board in December 1998. The policy

statement emphasized the need for each

System institution to renew its commitment to be a reliable, consistent, and

constructive lender for YBS borrowers.

The statement was implemented with a

Bookletter (BL-040) to the System in

December 1998 that provided guidance in

the form of new YBS reporting definitions

and reporting procedures that were fully

phased in by January 1, 2001.

The new rule rescinds and replaces the

December 1998 FCA Board policy

statement on YBS farmers and ranchers. It

retains the YBS reporting definitions in

the December 1998 Bookletter to the

System that were fully phased in by

January 1, 2001. Additional guidance on

YBS programs and reporting requirements

of the new rule will be communicated to

reporting institutions through our regular

Call Report instructions.

A number of developments have improved

our ability to analyze and report on the

System’s service to all YBS borrowers.

Beginning in 1999, our examinations of

System institutions included a focus on

YBS programs, reviewing bank policy

statements, data collection, and reporting

to the institution’s board. The GAO report

of March 2002 recommended that the

Agency strengthen its oversight role of the

System’s YBS lending, promote YBS

compliance, and highlight the System’s

efforts to provide service to YBS farmers

and ranchers in the following ways:

1. Promulgate a regulation that outlines

specific activities and standards that

constitute an acceptable program to

implement the YBS statutory requirement;

2. Ensure that examiners follow the

guidance and complete the appropriate examination procedures related to

YBS and adequately document the

work performed and conclusions

drawn during examinations; and

3. Publicly disclose the results of

examinations for YBS compliance for

individual System institutions.

The immediate FCA response was to

develop a comprehensive YBS examination

program and issue additional guidance for

System institutions in the form of a YBSrelated self-audit program. The guidance

encouraged System institutions to adopt

clearly stated policies for serving YBS

borrowers and to develop and use a

variety of management controls over

program operations to help ensure the

32 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

30. See the Federal Register (69 FR 16470, March 30,

2004) for the final rule, with background and a

discussion of comments received.

31. Effective July 7, 2004, GAO’s legal name became

the Government Accountability Office.

32. “Farm Credit Administration: Oversight of Special Mission to Serve Young, Beginning, and

Small Farmers Needs to Be Improved,” GAO-02-

304, March 8, 2002.
effectiveness of their YBS programs. A

subsequent GAO report on this area found

FCA’s lead sheet for YBS examinations to

be “a useful tool for FCA in examining

institutions for compliance with the special

mission requirement of serving YBS

farmers and ranchers.”

These FCA actions have encouraged

System institutions to evaluate their

performance in YBS lending by analyzing

their lending markets and assessing their

own market penetration. If this assessment suggests that an association needs to

penetrate the YBS market further, we

encourage the association’s board of

directors to develop new programs,

strengthen existing programs, or provide

added incentives to contribute to the

success of their marketing programs to

these farmers. Thus, FCA’s oversight

increases awareness of the mission in this

area and prompts associations to provide

added resources to serve this market

segment. FCA has also developed a

mission-related performance measure for

YBS programs based on an evaluation of

the effectiveness of every direct-lender

association’s YBS program. This measure

allows us to evaluate our success in

ensuring that associations maintain

adequate YBS lending programs.

In establishing their YBS programs,

institutions may use a variety of tools to

carry out their commitment to YBS

lending. For example, associations may

offer less stringent underwriting standards

or reduced interest rates to make it easier

for potential YBS borrowers to qualify for

loans. Some institutions establish special

risk pools in which capital is set aside to

support YBS lending. Almost all programs

provide for coordination with Federal or

state sources to obtain guarantees on loans

to qualifying YBS borrowers. Many YBS

programs provide for financial or leadership training or related services for YBS

borrowers. In addition, associations

donate to or sponsor special events for

local, regional, and national young or

beginning farmer groups.

YBS Loans and Commitments

Outstanding

YBS loans and loan commitments outstanding provide a view of loans on the

books of System institutions at the end of

the year. As of year-end 2003,33 17.0

percent of the number of the System’s

loans outstanding to farmers and ranchers

were to young borrowers, defined as those

35 years old or younger (see Table 4,

page 34). Beginning borrowers (those

with 10 or fewer years of farming experience) accounted for 21.8 percent of loans.

Loans to small farmers (those with annual

sales of less than $250,000) accounted for

59.7 percent.34 The corresponding

percentage figures for the total dollar

volume of loans outstanding were 12.9,

18.7, and 31.8 percent. The System’s 2003

percentages in all but the first of these six

categories were slightly higher than for

2002, and all six of the 2003 percentages

were higher than those at year-end 2001.

Average loan sizes for YBS loans outstanding varied from $68,357 for small farmers

to $110,169 for beginning farmers.

YBS Loans and Commitments

Loans and commitments made offer a

view of lending activity during the year,

providing a measure of the System’s

current performance in serving YBS

borrowers. FCS institutions made 150,093

loans to small farmers in 2003, 58.7

percent of the number of all new loans

made to farmers that year. A total of $11.0

billion in loans was made to small farmers

33. System data on service to YBS farmers and

ranchers cover the calendar year and are reported

at year-end. The 2004 data will be available in

April 2005.

34. YBS data are reported for individual young, beginning, or small categories. It is not meaningful

to add two or three YBS categories together, since

the categories are not mutually exclusive. Depending on borrower characteristics, a borrower

may be counted in two or even all three categories (e.g., many borrowers are likely to fall into

all three categories—young, beginning, and

small). The data on loan numbers are not the

same as counting the number of farmers, since

it is not unusual for individual member-borrowers to have multiple loans.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 33
34 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

Table 4

Loans Outstanding at December 31, 2003, Benefiting Young,

Beginning, and Small Farmers and Ranchers1

Number Percentage Volume Percentage Average

of of Total of Loans of Total Loan

Loans Number ($ millions) Volume Size

Young Farmers and Ranchers 119,121 17.0 $11,587 12.9 $97,271

Beginning Farmers and Ranchers 153,225 21.8 $16,881 18.7 $110,169

Small Farmers and Ranchers, by Loan Size

$50,000 or less 249,043 65.9 $ 4,742 66.0 $ 19,042

$50,001–$100,000 89,254 62.8 6,243 62.8 69,944

$100,001–$250,000 63,384 53.4 9,354 51.4 147,582

More than $250,000 17,541 27.7 8,317 15.2 474,154

Total Loans to Small

 Farmers and Ranchers 419,222 59.7 $28,657 31.8 $ 68,357

1. A young farmer is defined as 35 years old or younger when the loan is made; a beginning farmer has 10 years or

fewer of farming or ranching experience; a small farmer is one who typically generates less than $250,000 in

annual sales of agricultural or aquatic products. Since the totals are not mutually exclusive, one cannot add

across young, beginning, and small categories to count total YBS lending.

Source: Annual Young, Beginning, and Small Farmer Reports submitted by each Farm Credit System lender through

the Farm Credit banks.

Loan Type

Table 5

Loans Made During 2003 Benefiting Young, Beginning,

and Small Farmers and Ranchers1

As of December 31

Number Percentage Volume Percentage Average

of of Total of Loans of Total Loan

Loans Number ($ millions) Volume Size

Young Farmers and Ranchers 39,033 15.3 $4,353 12.0 $111,510

Beginning Farmers and Ranchers 50,726 19.9 $6,545 18.1 $129,023

Small Farmers and Ranchers, by Loan Size

$50,000 or less 88,078 67.4 $1,688 67.0 $ 19,164

$50,001–$100,000 31,067 60.2 2,183 63.9 70,260

$100,001–$250,000 23,749 52.6 3,608 52.6 151,905

More than $250,000 7,199 25.6 3,497 14.9 485,756

Total Loans to Small

 Farmers and Ranchers 150,093 58.7 $10,975 30.3 $ 73,123

1. A young farmer is defined as 35 years old or younger when the loan is made; a beginning farmer has 10 years or

fewer of farming or ranching experience; a small farmer is one who typically generates less than $250,000 in

annual sales of agricultural or aquatic products. Since the totals are not mutually exclusive, one cannot add

across young, beginning, and small categories to count total YBS lending.

Source: Annual Young, Beginning, and Small Farmer Reports submitted by each Farm Credit System lender through

the Farm Credit banks.

Loan Type
in 2003, 30.3 percent of the dollar volume

of loans made during the year. The

average loan size of small farmer loans

made during 2003 was $73,123. Because

of the much greater credit needs of larger

farmers, the average size for all System

farm loans made was about twice the

average for small farmer loans. (See Table

5 for percentages and averages for young

and beginning farmers.)

Assessment of YBS Results for

Individual Associations and the System

As in the previous two years, individual

associations vary significantly in their YBS

lending results. No single association has

the highest System percentage in all three

or even two of the YBS categories. Table 6

(see page 36) shows the wide range in the

2003 results for individual associations

using percentage-of-loan numbers for each

YBS category for loans made and outstanding loans. A similar range occurs in

the loan volume data. These wide ranges

also occurred in the 2001 and 2002

results.35

The range in association results for the

number of loans to small farmers is much

greater than for young or beginning

farmers (from a low of 14.4 percent of

loans made to a high of 92.6 percent). For

young farmers, the range is considerably

smaller, from 6.5 percent to 28.8 percent

of loans made, while for beginning farmers

the corresponding range is from 7.6

percent to 69.6 percent. In general, we

would expect loan portfolios to have the

highest percentage in the “small” category.

The 2002 Census of Agriculture classified

about 93 percent of all farms as small,

using the same definition for a small farm

as that used for YBS reporting. With the

System’s overall average at just under 60

percent for the number of loans outstanding, this result seems relatively low. But

note that the 2002 Census of Agriculture

found that nearly 39 percent of all farms

had sales of $2,500 or less. The Census of

Agriculture also reported that less than

half of all small farms had interest paid as

a farm business expense. Thus, the 60

percent may be a strong rather than weak

result.

Significant differences in results among

institutions are to be expected given the

significant differences in farming operation

sizes and farmer demographics across the

United States. For example, in 2003, farms

in California had average annual sales of

$354,200, compared with $26,900 in

Tennessee (7.6 percent of the California

average). It is no surprise that results for

small farmer portfolio concentrations in

these states tend to reflect these differences. Census of Agriculture data also

show that the average age of farmers varies

considerably from state to state. Such

differences make comparisons among

individual associations difficult and

explain why the new YBS rule does not

specify fixed goals. Other factors—such

as the competitiveness of the local lending

market and the availability of USDA Farm

Service Agency guarantees—play a role in

individual association results.

Despite all these factors, however, institutions with young, beginning, or small

farmer or rancher portfolio percentages at

the low end of the range are carefully

reviewed during the examination process

to assess the role of local demographic or

economic factors versus the role of

management in determining YBS outcomes. The trend in YBS results within an

institution is an important factor in

assessing the success of YBS programs.

Examination follow-up focus is on cases in

which improvements in management can

play a key role in increasing YBS lending.

Three Years of Comparable YBS Data

We now have three years of System YBS

results under the definitions and reporting

requirements that became mandatory in

2001. In addition, all institutions have had

thorough examination reviews of their

YBS reporting. In some cases, these

reviews have resulted in corrections of

previously reported YBS data. As illustrated in Figure 7 (see page 36) and Figure

8 (see page 37), fairly strong upward

trends have occurred in both the numbers

and loan volumes made for each of the

three program areas over the 2001–2003

period. Similar results exist for the

numbers and volumes of loans outstanding. These results are for the actual counts

35. Additional YBS data by institution, district, and

the System beginning with 1999 are available on

FCA’s Web site, www.fca.gov.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 35
36 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

Table 6

Wide Range in YBS Program Results by Association1

Range by Association Overall

Program Loans Low High Average

Young Outstanding 7.7 28.0 17.0

Made 6.5 28.8 15.3

Beginning Outstanding 10.1 56.2 21.8

Made 7.6 69.6 19.9

Small Outstanding 13.5 92.1 59.7

Made 14.4 92.6 58.7

1. A young farmer is defined as 35 years old or younger when the loan is made; a beginning farmer has 10 years

or fewer of farming or ranching experience; a small farmer is one who typically generates less than $250,000

in annual sales of agricultural or aquatic products.

2. The percentages shown are of total loan numbers outstanding as of December 31, 2003, and of total number

of loans made in 2003.

Source: Annual Young, Beginning, and Small Farmer Reports submitted by each Farm Credit System lender through

the Farm Credit banks.

As of December 31, 2003

Percentage of Total Loan Numbers2

Figure 7

Number of YBS Loans Made Each Year Steadily

Increases, 2001–2003

As of December 31

Loan Count in Thousands

Source: Annual Young, Beginning, and Small Farmer Reports submitted by each Farm Credit System lender through

the Farm Credit banks.
and dollar volumes. If the results are

expressed as a percentage of total loans

made or outstanding, the uniform patterns

of increase change marginally. Slight dips

occurred in the percentages of total loan

numbers made and outstanding for young

farmers. The 2003 percentages cited in

Table 6 (15.3 and 17.0) for loans made and

outstanding were 15.7 and 17.1, respectively, in 2002. But even with these small

declines, the results appear to be solid

performances, given the steep downward

trend in the percentages of young farm

operators noted in recent Census of

Agriculture reports (age groups and

measurements differ somewhat).

Notwithstanding the overall favorable YBS

results for the System, a number of

individual institutions experienced

declines in their percentages for the

various YBS measures. For example, of 99

associations at year-end 2003 (and

comparing their 2003 results with their

equivalent 2001 results), 55 showed

declines in the percentage of the number

Figure 8

Dollar Volume of YBS Loans Made Each Year Grows, 2001–2003

As of December 31

Dollars in Billions

Source: Annual Young, Beginning, and Small Farmer Reports submitted by each Farm Credit System lender through

the Farm Credit banks.

of loans made to young farmers, 33

showed declines in loans to beginning

farmers, and 26 showed declines in loans

to small farmers. However, one could also

say that, with the exception of number of

young farmers, more than half the System’s

associations had positive three-year trends

in loans made. Further, more than half

had positive trends in YBS volume, as well

as in the six categories for outstanding

loans to YBS farmers. It is important to

note, however, that comparisons over only

three years do not establish a firm trend.

In addition, results are affected by ongoing

YBS examinations that have, in many

cases, resulted in examiners requiring

associations to correct deficiencies in their

YBS reporting and, in a few cases, caused

them to restate their 2001 and 2002 results.

Comparisons in YBS lending cannot be

made between FCS institutions and other

lenders because other Federal regulators do

not require reporting on young and

beginning farmer loans. While large banks

are required to report on small farm loans,

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 37
38 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

small farm lending is defined in terms of

loan size (a loan less than $500,000) rather

than in terms of the borrower’s annual

sales. In addition, because of differences

in data definitions and data collection

methods, annual YBS data are not comparable to Census of Agriculture data, which

are collected only once every five years.

YBS Programs

Each FCS association responds to an

annual Agency questionnaire on the

content of its YBS program. While we

typically modify or refine the questions

each year, the survey basically covers

program goals, board reporting, YBS credit

provisions, use of government guarantee

programs, and use of training or other

related services. By year-end 2003, the

number of institutions with specific YBS

goals had increased significantly to 96

percent of all associations, compared with

53 percent in 2001. This percentage has

increased in part as a result of the

Agency’s strong encouragement that all

institutions have quantitative YBS goals.

Goals are required by the new regulation,

as are demographic comparisons. As

noted earlier, goals are not set by FCA but

by each institution based on local conditions. The goals are typically stated as a

specific percentage of outstanding loans in

each young, beginning, or small farmer or

rancher category reflecting the institution’s

demographic studies. In the future, FCA

examinations will focus on the quality of

the goals.

Another question concerns association

board oversight and frequency of board

reporting. In 2003, all associations

reported to their boards on YBS performance at least annually; more than 70

percent reported quarterly or more often.

In 2001, only 63 percent of the associations reported to their boards annually,

and some did not have regular reports on

YBS results. The new regulation requires a

quarterly reporting cycle, highlighting the

importance of YBS activities at the board

level and enabling a board to take timely

corrective action if an association’s YBS

goals are not being realized.

YBS programs at many System associations make loan qualification easier by

applying differential underwriting standards or allowing exceptions to normal

underwriting standards. The differential

underwriting standards often include

higher loan-to-market value ratios or

lower debt requirements for YBS

borrowers.

During 2003, 71 percent of the associations offered differential underwriting

standards, or exceptions, for YBS borrowers, up from 60 percent in 2001. Also,

some associations reduced borrowing costs

through lower interest rates or fees. More

than half (58 percent) had programs that

offered lower interest rates, and nearly 40

percent offered lower loan fees for YBS

borrowers. In most cases, institutions

used more than one credit enhancement

program.

As noted, the Farm Service Agency is the

primary agency offering governmentguaranteed loans for farmers, although a

small portion of guaranteed loans is made

through the Small Business Administration

and various state programs. System

lending institutions often use the FSA’s

guaranteed lending program, especially for

YBS lending. In our 2003 survey, we

asked the System for specific figures on

the use of FSA guarantees for separate YBS

loan categories. The counts and volumes

of YBS loans with FSA guarantees during

2003 and at year-end represent significant

proportions of the System’s overall FSA

guarantees. About one-fourth of the

overall number of the System’s FSAguaranteed loans outstanding were to

young farmers; one-fourth were to
beginning farmers; and more than half

were to small farmers (numbers are not

additive).

An increasing number of associations offer

a growing array of training programs or

other services that benefit YBS farmers

and ranchers. The most common training

program focuses on leadership; 60 percent

now offered this training. Approximately

65 percent offered training in business and

financial management skills. Most

associations also offer other financial

services programs, including estate

planning, recordkeeping, tax planning and

preparation, and farm business consulting.

Sometimes associations discount or waive

the cost of these programs for YBS

farmers and ranchers.

Other outreach activities are offered in

conjunction with organizations such as

state or national young farmer groups,

colleges of agriculture, state or national

cooperative association leadership programs, and local chapters of 4-H or the

National FFA Organization. Many

associations also provide financial support

for scholarships, FFA, 4-H, and other

agricultural organizations.

Helping Farmers through Federal

and State Loan Guarantees

Use of USDA’s guaranteed farm loan

programs, administered by the Farm

Service Agency, has been increasing among

System institutions.36 The programs give

lenders an opportunity to reduce their

credit risk while making loans to borrowers who would not otherwise meet the

underwriting standards. The programs

also make it easier for lenders to continue

financing existing borrowers who may be

relatively new to farming or may be facing

financial hardship. A number of states

also offer programs to help these farmers,

including linked deposit accounts, Aggie

Bonds, and other low-interest programs, as

well as guarantees, direct loans, and loan

participation programs.37 While FSA

guarantees account for the vast majority of

government-guaranteed farm loans, the

following discussion also includes results

from state agency farm loan guarantee

programs.

The FCA encourages Farm Credit System

lenders to use government-guaranteed

farm lending programs to help expand

YBS lending and meet the needs of other

eligible borrowers in the agricultural

community. Guaranteed loans reduce

lending risk and are given preferential

treatment in the application of risk rating

systems and in determining their regulatory capital ratios. Normally, loans

guaranteed by USDA or other U.S.

government agencies that are performing

as expected are classified as acceptable/

performing loans. Also, even though

repayment problems or other credit

weaknesses may exist, examiners do not

take exception if the institution maintains

the loan in an accrual accounting status.

Further, institutions are not required to

maintain as much capital for guaranteed

loans (20 percent risk weight versus 100

percent for nonguaranteed loans) when

determining their regulatory capital ratios.

Although System institutions take advantage of the FSA and state guarantee

programs to help a wide range of borrower types, the largest group of borrowers

assisted is the System’s young, beginning,

and small farmers and ranchers. Roughly

twice as many YBS loans carry FSA or

state guarantees as does the overall

portfolio of the System’s direct lenders.

Over the five-year period ending September 30, 2004, total loans outstanding to

farmers with FSA or state guarantees

increased by $1.13 billion to $2.27 billion,

or about 100 percent. As illustrated in

36. FSA typically guarantees 90 percent of the loan

principal. To qualify, borrowers must be unable

to obtain sufficient credit elsewhere at reasonable

rates and terms and must meet minimum cash

flow requirements. Lenders must pay a 1 percent

guarantee fee that can be passed on to the borrower.

37. See the Web site www.stateagfinance.org for more

information and a list of states offering the various types of programs.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 39
Figure 9, the System’s volume under

guaranteed loan programs is increasing

relative to its overall loan volume. As of

September 30, 2004, 14,978 of the System’s

loans to farmers (2.95 percent of its

volume) were reported as having FSA or

state guarantees, compared with 10,252

loans (2.20 percent of its volume) five

years earlier.38 The System has also been

steadily increasing its share of all FSAguaranteed loans, from 15.1 percent five

years ago to 24.6 percent as of September

30, 2004. However, the System’s share of

FSA guarantees is below its overall market

share of farm debt.

Most (93 of 97) System associations

participate in the FSA or state guarantee

programs, with 74 institutions having 20

or more loans in these programs. Use at

individual associations continues to vary

widely: 28 associations had FSA- or stateguaranteed volumes of more than 6

percent of their total lending volume as of

September 30, 2004; however, almost as

many (24) had guaranteed lending

volumes of 1 percent or less of their

outstanding loan volume. The top 10

associations in terms of dollar volume

guaranteed account for 46 percent of the

System’s FSA- or state-guaranteed loans.

Each of these associations had more than

350 FSA guaranteed loans, and they are

FSA Preferred Lenders.39

Institutions that are heavy users of the

FSA or state guarantee loan programs note

that guarantees reduce portfolio credit

risks and are especially helpful in promoting lending to YBS borrowers. These

institutions have made the extra effort to

learn about the FSA and state guarantee

loan programs and to develop procedures

to participate in them. They also typically

have good relationships with FSA and

state agency personnel in their areas.

Nearly 40 FCS associations increased their

FSA- or state-guaranteed lending volume

by 10 percent or more as of September 30,

2004. Even so, roughly 45 percent of all

associations had either no change or a

decrease in their guaranteed volume. On

average, this group had 2 percent of their

loan volume under FSA or state guarantee

programs, suggesting that the System has

significant potential for expanded use of

such programs.

Figure 9

FCS Increases Use of Guaranteed Farm Loans, 1999–2004

As of September 30

Source: FCA Loan Account Reporting System.

40 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

38. Loans to farmers include rural housing loans

(some of which are to nonfarmers), marketing

and processing loans, farm-related business

loans, and miscellaneous loans. A small additional volume of Federal guaranteed lending is

under other programs. The System also had $2.4

billion guaranteed under Farmer Mac’s LongTerm Standby Commitment to Purchase program as of September 30, 2004.

39. The FSA Preferred Lender Program (PLP) allows

better performing lenders to make efficient use

of the FSA guarantee program through reduced

paperwork requirements; as of September 30,

2004, FSA reported that 57 FCS institutions had

PLP status.
Challenges Facing Agriculture, the

Rural Economy, and the FCS

west. Labor-saving technology, job

outsourcing, and the high cost of health

insurance and retirement benefits are

constraining the employment rebound and

are key factors that will determine the

ability of U.S. businesses to remain

competitive in the future. Off-farm

employment is a key source of income for

many farm families: More than half of

farm operators and their spouses work off

the farm today. Nonfarm income accounts

for more than 90 percent of farm family

household income on average, and nearly

50 percent for large family farms (those

with annual sales between $250,000 and

$499,999).

Rising employment and income levels

should lead to higher spending for food

items, particularly for higher valued meats,

dairy products, and horticultural products,

as well as for more eating out. The rising

demand for meat and dairy products will

expand the feed use of grains and protein

crops, while recent concerns over obesity

and the popularity of specialized diets

have reduced the consumption of starchy

foods and certain confectionary products.

If the current diet trend becomes more

than a passing fad, producers of food

grains and sugar crops could see a further

dwindling of their markets, which would

require an adjustment to their product

mix to remain profitable.

Oil Markets Unsettled

Inflation is expected to ease somewhat in

2005, with slower growth in consumption

and business spending, along with

moderation in prices for both food and

energy because of improved supply

conditions. However, a major risk to this

outlook is the unsettled situation in the

world petroleum market. Crude oil

futures prices breached the psychological

Farm Credit System institutions and their

borrowers face a variety of challenges,

both domestic and foreign, that can affect

their performance and viability. The FCA

monitors and analyzes a wide range of

factors that influence the agricultural

economy and the financial sector and that

could pose significant risks to farmers,

ranchers, aquatic producers, agricultural

cooperatives, the institutions that comprise

the Farm Credit System, and rural communities in general. While System

institutions have exhibited favorable credit

quality and maintained satisfactory

earnings to strengthen capital positions

during 2004, a number of risks and

uncertainties remain largely beyond the

control of the System and FCA.

Mixed Outlook for the General Economy

The U.S. economy continued to expand in

2004, as the consumer-led recovery in the

first half of the year gave way to an

investment-led growth phase in the second

half of the year. Rising consumer demand

encouraged producers to invest in new

plant and equipment and hire more

workers, which reduced the unemployment

rate to the lowest level since 2001. Rising

costs for energy, food, housing, and

consumer goods in general resulted in a

slight increase in inflation for 2004.

However, price increases remain low by

post-World War II standards.

The outlook for the U.S. economy in 2005

is for a continued expansion but at a more

sustainable level than the robust growth

that occurred in 2004. More hiring by

businesses is expected to further reduce

the unemployment rate in 2005, but the

improved job picture will vary by region

and state, with the strongest improvements

likely to occur in the South and the West,

followed by the Northeast and the MidFARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 41
rate environment contributed to a refinancing boom at Farm Credit System

institutions and other agricultural lenders

over the past three years and improved

financial positions for farmers and

ranchers, who were able to cut costs by

reducing debt payments. It also provided

opportunities for those wishing to begin

or expand a farming operation.

The favorable level of credit quality that

characterized FCS institutions in recent

years continued in 2004, enabling them to

strengthen their portfolios and further

build their capital bases. Interest rates—

and, therefore, System debt cost and loan

rates—are expected to rise in 2005 as the

economy continues to grow but are

expected to remain low by historical

standards. Borrowers with variable-rate

loans will see their debt costs rise, although at a manageable pace (except for

the most heavily leveraged operations).

Record Farm Income Could Slip in 2005

Robust demand (both at home and

abroad), smaller foreign supplies, and

record prices for crops and livestock

products propelled U.S. farm income to a

record-setting level in 2004. Net farm

income for 2004 is estimated to reach

$73.7 billion, nearly 25 percent above the

previous record set last year and around

50 percent above the most recent 10-year

average. On the flip side, higher prices for

animal feed, petroleum products, and

fertilizers contributed to a record level for

production expenses in 2004.

Direct government payments to farmers

are estimated at $15.7 billion in 2004, only

slightly below the $15.9 billion farmers

received in 2003. The weakening of

program crop prices around harvest time

resulted in higher government payments

than previously expected. Government

payments as a share of net farm income

are estimated around 21 percent for 2004,

barrier of $50 a barrel in late September

2004, as traders cited political instability in

the Middle East and Nigeria and disruptions to oil supplies in the Gulf of Mexico

from a very active hurricane season.

However, in inflation-adjusted terms, the

price of crude oil today is about 25

percent less than the record price set in

1981. Petroleum prices fell below $50 a

barrel in November 2004 but could easily

rise above that level again, depending on

developments in the Middle East.

The United States continues to increase its

dependence on imported petroleum, with

imports as a share of total supply increasing from 47 percent in 1991 to an estimated 68 percent in 2004. Around 20

percent of U.S. imported petroleum comes

from Persian Gulf countries (mainly Saudi

Arabia and Iraq), and another 10 percent

comes from Africa (mainly Nigeria and

Algeria), a fact that underscores U.S.

vulnerability to oil price shocks. On a

more positive note, the ban on the fuel

additive methyl tertiary butyl ether in

California, which took effect on January 1,

2004, has given a boost to the ethanol

industry as well as to corn growers. As the

automotive fuel industry makes the switch

to an alternative fuel additive to reduce

auto emissions, demand prospects for U.S.

grain producers will strengthen.

Interest Rates on the Rise

With the economy expanding at a fairly

solid pace, improving labor market

conditions, and slightly elevated inflation,

the Federal Reserve Open Market Committee began a series of quarter-percent

increases in its Federal funds rate beginning on June 30, 2004; this pace is

designed to both sustain growth and

maintain price stability. The Fed’s action

represented the first rate increase in more

than four years and marked the end of an

era that saw interest rates drop to their

lowest level since 1958. The low interest

42 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
down sharply from a high of 48 percent in

2000 but still high compared with payments in 1996, when they accounted for

just 13 percent of net farm income.

The outlook for 2005 is for larger crop

supplies and stiffer competition from

foreign exporters, leading to a decline in

commodity prices, cash receipts, and farm

income, though these are all expected to

remain at high levels by historical standards. Lower commodity prices in 2005

are expected to lead to higher

countercyclical government payments.

The downside risk to borrowers and their

lenders in the future would be reductions

in government payments as part of the

U.S. commitment to the multilateral trade

talks of the World Trade Organization

(WTO). The WTO ruled in June 2004

that U.S. subsidies to cotton producers

were in violation of international trade

rules and would have to be modified. The

case was officially filed by Brazil but had

the backing of cotton-producing countries

in Africa, environmental groups, and

development organizations. While no

immediate change in U.S. cotton programs

is expected, the ruling should be viewed as

a warning about the future of government

support programs.

Farm Real Estate Values

Real estate makes up the bulk of farm

business assets in the United States,

accounting for about 80 percent of total

assets in recent years. U.S. farm real estate

values continued their upward climb in

2004, the 17th annual increase since the

collapse of the farmland market in the

mid-1980s. Persistently strong demand for

farmland for nonfarm uses, record profits

in some segments of the agricultural

sector, and historically low interest rates

have led to a robust farmland market in

recent years.

The average value of farm real estate (all

land and buildings on farms, excluding

Alaska and Hawaii) reached $1,360 per

acre as of January 1, 2004, an increase of

$90 per acre (7.1 percent) from a year

earlier. This is the largest percentage

increase in farm real estate values since

1994 and the second largest increase in 23

years. In inflation-adjusted dollars, farm

real estate values are still about 14 percent

shy of the peak reached in 1981. Farm

real estate values have been growing at an

average annual rate of 5.9 percent in

nominal terms over the past five years

(2000–2004) and 4 percent in inflationadjusted terms.

While there is no expectation of a sudden

drop in farm real estate values, a number

of factors, such as lower commodity prices,

higher interest rates, lack of irrigation

water, and reduced government payments,

could slow their rise or even reduce them

in some of the more remote rural areas.

However, farmers and lenders are in a

generally better financial position today

than in the past two decades and should

be able to withstand at least minor market

corrections to farmland values, if they

occur.

After Record Year, Agricultural Exports

Expected to Decline

U.S. agricultural exports reached a record

$62.3 billion for fiscal year 2004 (October

2003 through September 2004), up nearly

11 percent from last year and exceeding

the previous record in fiscal year 1996 by

4 percent. Export growth in FY 2004

reflects higher volumes and higher prices

for feed grains, rice, cotton, beef, and

many horticultural products. The improved performance was due to the weaker

value of the dollar; strong global economic

growth; reduced competition for wheat,

corn, and cotton markets; and China’s

robust demand for oilseeds and cotton.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 43
The strong export showing occurred

despite trade bans by various countries

over animal disease outbreaks in the

United States—the discovery in December

2003 of a single cow infected with bovine

spongiform encephalopathy (BSE), and the

discovery of avian influenza in a few

poultry flocks in Delaware, New Jersey,

Pennsylvania, and Texas in early 2004.

Fiscal year 2005 exports are forecast to

decline about 10 percent to $56 billion.

The expected drop is attributed to a

slowdown in global economic activity in

2005, high transportation costs associated

with rising oil prices, increased foreign

competition, and lower prices for cotton,

wheat, and soybeans owing to a rebound

in global supplies. Trade disputes over

animal and plant health issues could also

constrain export potential in 2005.

On the other side of the trade ledger, U.S.

agricultural imports jumped 15 percent to

a record $52.7 billion in FY 2004, the 17th

consecutive increase and the largest

increase since 1984. Agricultural imports

are forecast to reach another record in FY

2005 and could match exports at $56

billion. The recent accelerated import

growth (27 percent over the past two

years) is attributed to an abundant variety

of processed food products and fresh

produce from abroad, along with U.S.

consumers’ strong appetite for imported

specialty foods, beer, and wine. Horticultural products account for nearly half the

growth in recent years; the bulk of these

products come from Central America and

from Asian countries. Other major

suppliers of food and beverage products to

the U.S. market include the European

Union (EU), Canada, and Australia. The

competitive pressure is being felt by fruit

and vegetable producers across America,

particularly by the smaller high-cost

producers, who have seen an erosion of

their markets by less expensive imports.

This situation calls into question the

future viability of some of these operations, which will need to adapt to the

changing landscape or sell out to larger,

more efficient operations.

The agricultural trade balance (exports

minus imports) fell to just $9.6 billion in

FY 2004, the lowest surplus since 1987.

With the current forecast showing U.S.

agricultural trade in a virtual balance, the

United States could become a net importer

of agricultural products for the first time

since 1959. The United States may no

longer be able to rely on an agricultural

trade surplus to help offset the trade

deficit in petroleum and manufactured

products.

Food Safety and Security Concerns

The financial health of farmers, ranchers,

and their credit providers depends on the

continue recognition of the United States

as a world leader in food safety and

security. Outbreaks of animal and plant

diseases, incidences of microbial pathogens

in the food supply, consumer resistance to

biotechnology, and concerns over possible

terrorist attacks on the food supply have

prompted the United States to augment its

surveillance and safety procedures in

recent years. The discovery of a single

case of BSE in late December 2003 caused

a sharp decline in U.S. beef exports in

2004, as most importing countries banned

U.S. beef products and live animals. The

U.S. Department of Agriculture and the

Food and Drug Administration responded

by implementing a series of Federal

measures this year to strengthen safeguards put in place in 1989 to mitigate the

risk of BSE entering the U.S. food chain.

Consumer response to these measures has

44 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
been generally favorable, and beef consumption increased in 2004, following a

decline in 2003. A second positive test

result for BSE in the future would likely

delay the resumption of U.S. beef export

trade and could generate a much more

negative consumer response.

Another food safety challenge during 2004

was the discovery in February of avian

influenza in a limited number of poultry

operations in four states: Delaware, New

Jersey, Pennsylvania, and Texas. The strain

of virus posed no threat to humans but

resulted in temporary trade bans by some

countries. U.S. poultry exports declined

somewhat in 2004, while domestic

consumption increased. U.S. farmers will

need to remain vigilant in protecting their

flocks from infectious diseases if they are

to regain the record level of exports they

enjoyed in 2001.

During November and December 2004,

the USDA confirmed for the first time the

presence of the highly contagious Asian

soybean rust in a number of Southeastern

and lower Midwestern states. The plant

disease poses no health risk to humans but

can sharply reduce soybean yields.

Fortunately, the disease had virtually no

impact on the 2004 crop, as it came near

the end of the harvest season. Scientists,

who anticipated the disease’s arrival from

South America, believe it came to the

United States as a result of a very active

hurricane season this year. The USDA,

along with the state extension services, has

launched an aggressive information

campaign for producers about effective

surveillance and fungicide application

methods. The cost of treatment is

estimated at about $25 an acre on average,

or about a 15 percent increase in costs.

According to USDA’s Risk Management

Agency, production losses from soybean

rust are an insurable event, provided the

insured producer can verify that the cause

was natural (not agroterrorism) and that

available control measures were properly

applied. There is likely to be some shift

out of soybean acreage in 2005 as some

farmers choose to limit their exposure to

the rust rather than spray for the disease.

The extent of the acreage shift will not be

known until late in the spring. The trade

impacts from the discovery of Asian

soybean rust probably will be minimal, as

the pathogen exists in most soybeanproducing countries.

Agricultural biotechnology is a collection

of scientific techniques used to improve

plants, animals, and microorganisms to

benefit the food and agriculture system

through reduced chemical and fuel use,

enhanced nutrition, and economic benefits

for producers. However, these technologies are not without risk. Since 1987, the

United States has tested more than 10,000

genetically engineered organisms and has

deregulated only 60 products. Biotech

varieties of corn, cotton, and soybeans

have been commercially available since

1996, with their use climbing in most

years. The EU imposed a moratorium in

1998 on approving agricultural biotech

products for import or use, thereby

restricting U.S. exports to that market.

Other countries, particularly foodimporting developing countries with

strong ties to the EU, have also restricted

imports of biotech products. In May 2004,

the EU approved its first biotech product

in six years, a variety of sweet corn, which

will have to be clearly labeled as a biotech

product. However, consumer resistance in

Europe to biotech products remains

strong, so the export potential of biotech

products to the EU market is uncertain.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 45
Summary of Activity

The number of corporate applications

submitted for FCA Board approval

declined from the previous year. In FY

2004, we analyzed and approved seven

applications, compared with eight applications processed in 2003. The applications

processed were for

· the restructuring of two ACAs to

establish a PCA and an FLCA as

wholly owned subsidiaries of each

ACA;

· a merger of two ACAs;

· a merger of two FLCAs;

· amendments to the charters of an

ACA and its FLCA subsidiary

authorizing them to provide longterm real estate mortgage loans in the

territory where the ACA was previously limited to short- and intermediate-term lending and where the FLCA

had no lending authority;

· a conversion of an FLCA to an ACA

through creation of a PCA with which

the FLCA consolidated to establish the

ACA with a parent/subsidiary

structure; and

· an amendment to the articles of

incorporation for a service corporation.

The total number of associations decreased from 99 on September 30, 2003, to

97 on September 30, 2004. The number of

banks remains at five. This number

reflects the merger of Western Farm Credit

Bank into the Farm Credit Bank of

Wichita to form U.S. AgBank, FCB, which

occurred October 1, 2003, and was

summarized in last year’s Annual Report.

Figure 10 shows the chartered territory of

each FCS bank. More details about

specific corporate applications in FY 2004

are available on FCA’s Web site,

www.fca.gov.

Corporate Activity, Regulatory Guidance, and

Other Agency Activities

FCS Corporate Activity Slows

Significantly in FY 2004

In FY 2004, the level of corporate activity

among associations subsided from that of

previous years. An Agricultural Credit

Association with wholly owned Production

Credit Association and Federal Land

Credit Association subsidiaries (the ACA

parent/subsidiary structure) remained the

dominant association structure in the

System and accounted for 87 percent of all

associations as of September 30, 2004.40

Under this structure, the ACA and its

subsidiaries operate with a common board

of directors and joint employees and are

obligated on each other’s debts and

liabilities. The structure allows the ACA

to build capital more efficiently and

enables customers to be stockholders of

one entity—the ACA—and borrowers

from the ACA or either or both subsidiaries. This structure gives the ACA and its

subsidiaries greater flexibility in serving

their customers and allows credit and

related services to be delivered to borrowers more efficiently. Of the 86 ACAs, only

two have not yet adopted the ACA parent/

subsidiary structure. However, in FY 2004,

these two ACAs received preliminary

approval from the FCA Board to restructure. If their stockholders approve and

FCA grants final approval, they will

operate under the ACA parent/subsidiary

structure beginning January 1, 2005.41

Also, 11 FLCAs, which are authorized to

provide long-term credit, continue as

independent associations. This section

describes the changes in the FCS structure

that occurred during FY 2004.

46 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

40. FCA, in approving the ACA parent/subsidiary

structure, views the ACA and its wholly owned

operating subsidiaries as a single entity for most

regulatory and examination purposes based on

their common ownership and control and crossguarantees between and among the entities, with

each entity responsible for the debts of the others and their capital and assets combined to absorb any losses.

41. Stockholders of these two ACAs approved the

restructurings, which became effective January

1, 2005.
Figure 10

Farm Credit System Banks Chartered Territories

As of September 30, 2004

FARM•CREDIT•ADMIN ISTRATION•2004•ANNUAL•REPORT•ON•TH E•FARM•CREDIT•SYSTEM 47
Termination of System Status

In July 2004, FCA was notified by Farm

Credit Services of America, ACA (FCSA),

an association with total assets of $7.8

billion, that it planned to terminate its

status as a System institution, as permitted

by the Farm Credit Act and FCA regulations. As of June 30, 2004, FCSA provided

credit and related services to 48,361

stockholders in Iowa, Nebraska, South

Dakota, and Wyoming. It operates as an

ACA parent with subsidiaries. On August

3, 2004, FCA received FCSA’s commencement resolution, which the board of

directors of the ACA and its subsidiaries

adopted on July 30, 2004. The commencement resolution is required by FCA

regulations and signifies that the board has

directed management to begin the

termination process. The resolution

indicated that FCSA had approved a plan

of merger under which it would be

acquired by a subsidiary of Rabobank, a

Dutch-owned financial services corporation. The successor institution would be

organized as a Nebraska corporation.

FCSA also notified its equity holders that

it was taking steps to terminate its System

status. As FCA regulations require, the

notice briefly described the termination

process, the expected effect of the termination on equity holders, and the type of

charter that the successor institution

would have. FCA did not receive a

termination application from FCSA. On

October 19, 2004, the FCSA board of

directors reversed its decision to seek a

termination of System status; the board

advised FCA of its action on October 20,

2004. Simultaneously, the FCSA board

also rejected a merger offer tendered by

another System association.

Regulations

FCA routinely issues regulations, policy

statements, and regulatory positions to

ensure that the Farm Credit System

complies with the law, operates in a safe

and sound manner, and efficiently carries

out its statutory mission. The following

paragraphs describe some of our efforts

during FY 2004.

Young, Beginning, and Small Farmers

and Ranchers

We completed our final rule that amends

our regulations governing the Farm Credit

System’s mission to provide sound and

constructive credit and services to young,

beginning, and small farmers and ranchers

and producers or harvesters of aquatic

products (YBS farmers and ranchers, or

YBS). The farmers and ranchers rule

requires System banks to ensure that their

affiliated direct-lender associations adopt

YBS programs, as required by statute,

under the policies of the System banks.

The final rule will, among other things, (1)

require Farm Credit bank policies on YBS

programs to focus on ensuring that directlender associations adopt YBS programs in

fulfillment of the explicit requirements of

§ 4.19 of the Act; (2) establish minimum

components that each direct-lender

association must have in its YBS program,

including a YBS mission statement,

quantitative targets, qualitative goals, and

risk management methods to ensure safety

and soundness; (3) require each association to include YBS program quantitative

targets and qualitative goals in its operational and strategic business plan; and (4)

require System banks and associations to

disclose YBS performance information in

their published annual reports. The rule

gives System associations the flexibility to

design programs unique to the needs of

48 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
the YBS borrowers in the territories they

serve. (Adopted March 11, 2004; published March 30, 2004 [69 FR 16460];

effective May 10, 2004.)

Other Financing Institutions

We completed a final rule that amends our

regulations governing the funding and

discounting of loans for non-System other

financing institutions (OFIs) by the Farm

Credit banks. The final rule on OFIs will

ensure that farmers and ranchers have

broader access to competitive and reliable

credit. The final rule is designed to make

it easier for OFIs to obtain funding for

short- and intermediate-term loans to

farmers, ranchers, aquatic producers and

harvesters, and rural homeowners through

System banks. The rule streamlines the

existing regulations to increase the flow of

credit, removes provisions that do not

enhance safety and soundness, and

amends existing capital adequacy regulations for OFIs. The final rule makes it

easier for OFIs to fund and discount loans

with a Farm Credit bank of its choice.

FCA also strengthened provisions of the

regulations that require Farm Credit banks

to treat their OFIs and associations

equitably. The final rule complements

other efforts we are exploring to increase

the flow of credit to agriculture and rural

America by promoting greater cooperation

between System and non-System lenders.

(Adopted April 22, 2004; published May

26, 2004 [69 FR 29852]; effective July 22,

2004.)

Investments in Farmers’ Notes

We issued a reproposed rule that would

amend our regulations governing the

System’s investments in Farmers’ Notes and

related capital risk-weighting requirements.

The rule is designed to increase the flow

of credit to farmers, ranchers, aquatic

producers and harvesters, and farm-related

businesses by promoting greater cooperation between System and non-System

lenders through the removal of unnecessary regulatory restrictions. The proposed

rule would make significant revisions to

our Farmers’ Notes regulations. If

adopted, the rule will expand the Farmers’

Notes program to more non-System

lenders and allow all System associations

to invest, for the first time, in both longand short-term loans between these other

lenders and eligible farmers and ranchers.

The new rule also would allow obligations

of aquatic producers and harvesters and

farm-related businesses to qualify for the

Farmers’ Notes program for the first time.

The proposed rule, in combination with

other powers, would give System associations more flexibility to meet the funding

needs of a wide variety of non-System

lenders that finance agriculture. The rule,

in conjunction with new OFI regulations,

would enhance the ability of non-System

lenders to access any one or a combination

of the System’s funding programs, depending on their individual needs. The rule

would enhance the System’s ability to

fulfill its mission to finance agriculture by

serving as a steady source of funding and

liquidity for other lenders. In addition,

the rule would differentiate the capital risk

weighting of System institutions’ investments in Farmers’ Notes, depending on the

structure and risk-mitigating characteristics of the non-System financial institutions. The rule could lower credit costs

and provide more credit options for

farmers, ranchers, aquatic producers and

harvesters, and farm-related businesses.

(Adopted August 12, 2004; published

September 14, 2004 [69 FR 55362];

comment period ended October 14, 2004.)

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 49
Distressed Loan Restructuring

We completed a final rule that amends

portions of our borrower rights regulations governing (1) an applicant’s or

borrower’s right to review certain loan

decisions; (2) a borrower’s right to receive

notice when a loan becomes distressed

and the opportunity to request a restructuring of a distressed loan; and (3) the

right of first refusal to repurchase or lease

agricultural real estate following foreclosure or voluntary conveyance. Since our

initial publication of borrower rights rules

on September 14, 1988, we have observed

differences in how FCS institutions apply

these regulations and have reviewed

complaints from applicants and borrowers

regarding their rights. We also have

received comments from FCS institutions

and the public on our borrower rights

regulations in response to a June 23, 1993,

regulatory burden solicitation. As a result

of our deliberation, we believe the final

rule clarifies existing provisions, responds

to comments, and reorganizes the rule into

one distinct section of our regulations.

This final rule will help agricultural

borrowers and System institutions better

understand the rights Congress has

afforded applicants and FCS borrowers.

The final rule places all borrower rights

provisions in one part of our regulations

in an enhanced, user-friendly format that

borrowers can use to better understand

requirements for their treatment. (Adopted

February 10, 2004; published March 9,

2004 [69 FR 10901]; effective April 19,

2004.)

Effective Interest Rate Disclosure

We adopted a final rule that amends our

regulations governing disclosure of

effective interest rates (EIRs) and related

information on loans. The final rule

clarifies the current rule as to when and

how (1) qualified lenders must disclose the

EIR and other loan information to

borrowers; (2) the cost of System borrower

stock must be disclosed to borrowers; and

(3) loan origination charges and other

loan information must be disclosed to

borrowers. The final rule requires lenders

to use a discounted cash flow method in

determining the EIR to provide meaningful disclosures to borrowers but, in

keeping with our Agency’s regulatory

philosophy, does not prescribe detailed

calculation procedures. The rule also

clarifies how effective interest rates on

loans should be determined. The final

rule has rewritten the existing EIR

regulations in plain language and in a

question-and-answer format to make them

easier for borrowers and lenders to

understand, and it updates and clarifies

FCA regulations to ensure that System

borrowers receive the rights and protections granted by Congress while not

placing unnecessary burdens on FCS

institutions. (Adopted March 11, 2004;

published March 30, 2004 [69 FR 16455];

effective May 10, 2004.)

Credit and Related Services

We adopted final amendments to our

regulations governing domestic and

international lending, certain intra-System

agreements concerning similar entity

participation transactions, provisions of

general financing agreements, and related

services. These amendments bring our

regulations into conformity with changes

in the Farm Credit Act resulting from the

2002 Farm Bill; address comments we

received requesting that FCA reduce

regulatory burden; ensure compliance with

the Act; and clarify certain provisions in

our existing regulations. (Adopted June

10, 2004; published July 21, 2004 [69 FR

43511]; effective November 19, 2004.)

50 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM
Capital Adequacy—Risk-Weighting

Revisions

We completed a proposed rule that would

amend certain capital adequacy regulations

for FCS institutions to help ensure the

long-term safety and soundness of the

System by more closely aligning capital

requirements with risk. The proposed rule

would amend our risk-based capital

treatment of FCS recourse obligations,

direct credit substitutes, residual interests,

asset- and mortgage-backed securities,

guarantee arrangements, claims on

securities firms, and certain qualified

residential loans. The rule would also

make our regulatory capital treatment for

FCS institutions more consistent with the

guidance of other financial regulatory

agencies, thus reflecting changes in the

financial marketplace. (Adopted June 10,

2004; published August 6, 2004 [69 FR

47983]; comment period ended November

4, 2004.)

Capital Adequacy—Preferred Stock

We adopted a proposed rule that would

amend the regulatory capital treatment of

preferred stock issued by FCS institutions

and place certain restrictions on the

retirement of preferred stock. The

proposed rule would require greater board

oversight in the retirement of preferred

stock, enhance the current standards-ofconduct regulations to address certain

preferred stock transactions, and require

disclosure of senior officer and director

preferred stock transactions. (Adopted

April 22, 2004; published June 4, 2004 [69

FR 31541]; comment period ended August

3, 2004.)

Farmer Mac Nonprogram Investment

and Liquidity

We proposed regulations governing the

Federal Agricultural Mortgage Corporation

in the areas of nonprogram investments

and liquidity. Our proposed regulations

would ensure that Farmer Mac holds only

high-quality liquid investments to maintain a sufficient liquidity reserve, invest

surplus funds, and manage interest-rate

risk, while not holding excessive amounts

of nonprogram investments considering

Farmer Mac’s status as a governmentsponsored enterprise. (Adopted April 22,

2004; published June 14, 2004 [69 FR

32905]; comment period ended August 13,

2004.)

Loan Syndications

After soliciting public comment about the

proper regulatory treatment of System loan

syndication transactions, we issued a final

notice with the guidance that the System

requested about the regulatory treatment

of syndicated loans to eligible borrowers.

The final notice reaffirmed our longstanding interpretation that syndicated

loans to eligible borrowers come within

System banks’ and associations’ lending

powers, not their loan participation

authorities. The guidance in the final

notice informs System institutions that

take part in syndicated loans to eligible

borrowers that they must comply with all

applicable provisions of the Farm Credit

Act and regulations that govern direct

loans. Only FCS banks and associations

that are direct lenders can take part in

syndications. Borrower rights and

territorial concurrence apply to FCS

associations that are involved in syndications. CoBank and FCS associations must

sell stock to the borrower on syndicated

loans, and they must maintain a first lien

on the stock. System lenders cannot buy

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 51
assignments in syndicated loans from nonSystem lenders after closing. The guidance

states that, from a safety and soundness

perspective, each System institution must

understand the risks associated with

syndications, and the policies of its board

must establish methods for measuring and

managing these risks. (Adopted February

10, 2004; published February 24, 2004 [69

FR 8407].)

Funding Activity

The FCS raises funds for loans by the sale

of debt securities through the Federal

Farm Credit Banks Funding Corporation,42

the fiscal agent for the Farm Credit banks.

Through this conduit, funds flow from

worldwide capital market investors to

agriculture and rural communities,

providing them with efficient access to

global resources. Systemwide debt

securities are issued as discount notes,

master notes, bonds, designated bonds, or

global debt securities.

As required by the Farm Credit Act, the

System must obtain FCA approval for all

funding requests. For the 12 months

ending September 30, 2004, the FCS issued

$334 billion in debt, in line with the $332

billion issued during the same period in

2003 but well below the $448 billion issued

in 2002. Overall issuance has declined as a

result of the Farm Credit banks’ extension

of the maturity of their debt. This debt

extension was in response to a new

internal minimum liquidity standard that

each Farm Credit bank agreed to achieve,

and to the banks taking advantage of the

historically low interest rate levels.

Data Reporting

During the year, we maintained financial

and operational information about Farm

Credit System institutions that was easily

accessible to the public through the

Agency’s Web site. We continued to

provide electronic access to each System

institution’s quarterly Call Report submission, which provides financial and operational information in the form of a

balance sheet, an income statement, and a

series of supporting schedules. Along with

Call Report information, we provided

public access to various analytical reports43

and additional operational data, including

the following:

· the Uniform Peer Performance Report,

which is a comparison report of one

FCS institution to a group of FCS

institutions of similar asset size;

· the Six-Quarter Trend Report and the

Six-Year Trend Report, which show

trend information for individual FCS

institutions;

· the Institution Comparison Report,

which is a comparison report of up to

six selected FCS institutions; and

· the YBS Report, which provides

annual data on the lending activities

of FCS institutions for young, beginning, and small farmers and ranchers.

In FY 2004, the Agency continued its

effort to reevaluate the collection of loanlevel data in a systematic and uniform

manner from all System institutions. The

Agency currently collects loan-level data

consistent with Loan Account Reporting

System-Modified (LARS-M) requirements.

LARS-M, however, does not reflect

significant technological advancements in

the collection of loan-level data by System

institutions that have occurred since

LARS-M was implemented. The Agency is

considering ways to enhance the collection

of loan-level data for regulatory and

supervisory oversight purposes.

52 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

42. Headquartered in the greater New York City area,

the Funding Corporation’s primary function is

to issue, market, and handle debt securities on

behalf of the System banks. In addition, the

Funding Corporation assists the System banks

with respect to a variety of asset/liability management and specialized funding activities. The

Funding Corporation is the financial spokesperson for the Farm Credit System and is responsible for financial disclosure and the release of

public information concerning the financial condition and performance of the System as a whole.

43. The reports present information in various relational formats, including key financial ratios,

percentages, and dollar amounts. The reports

show a condensed balance sheet and income

statement, as well as other areas on capital, assets, earnings and profitability, and liquidity.
Oversight of Farmer Mac

the examination and general supervision

of Farmer Mac’s safe and sound performance of its powers, functions, and duties.

The statute requires that OSMO constitute

a separate office, reporting to the FCA

Board, and that its activities, to the extent

practicable, be carried out by individuals

not responsible for the supervision of the

banks and associations of the FCS.

The Agency, through OSMO, performs

annual comprehensive CAMELS-based

examinations and supervision of Farmer

Mac’s operations and condition for safety

and soundness and mission achievement.

This examination and supervision work

includes the ongoing review of Farmer

Mac’s compliance with the risk-based

capital regulations and ongoing supervision of its operations and condition

throughout the year. Table 7 summarizes

Farmer Mac’s balance sheet at the end of

the third quarter for six years.

Table 7

Farmer Mac Condensed Balance Sheets, 1999–2004

As of September 30

Dollars in Millions

Growth

Rate

1999 2000 2001 2002 2003 2004 2003–2004

Total

Assets $2,681.5 $3,035.1 $3,337.2 $4,031.6 $4,196.4 $3,784.9 -10%

Total

Liabilities $2,594.0 $2,935.5 $3,247.5 $6,836.1 $3,992.3 $3,556.8 -11%

Net Worth or

Equity Capital $87.4 $99.6 $129.7 $195.5 $204.1 $228.1 12%

Source: Farmer Mac’s Third Quarter Security and Exchange Commission Form 10-Q.

Farmer Mac is a stockholder-owned,

federally chartered instrumentality of the

United States, created in 1988 to establish

a secondary market for agricultural real

estate and rural housing mortgage loans.

Farmer Mac conducts its business primarily through two core programs: Farmer

Mac I and Farmer Mac II. Under the

former, Farmer Mac purchases, or commits

to purchase, qualified loans or obligations

backed by qualified loans that are not

guaranteed by any instrumentality or

agency of the United States. Under the

latter, Farmer Mac purchases the guaranteed portions of farm ownership and farm

operating loans, rural business and

community development loans, and

certain other loans guaranteed by USDA.

Farmer Mac is regulated by FCA through

the Office of Secondary Market Oversight

(OSMO), which was established in 1992 by

Public Law 102-237. OSMO provides for

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 53
Capital

By statutory design, secondary market

government-sponsored enterprises, such as

Farmer Mac, operate with lower statutory

capital margins than primary market

lenders. Accordingly, monitoring the

capital levels of Farmer Mac is a central

component of FCA’s oversight programs.

On September 30, 2004, Farmer Mac’s net

worth (i.e., generally accepted accounting

principles (GAAP) equity capital) was

$228.1 million, compared with $204.1

million a year earlier. Net worth was 6.0

percent of on-balance-sheet assets as of

September 30, 2004. When Farmer Mac’s

off-balance-sheet program assets (i.e.,

guarantee obligations) are added to total

on-balance-sheet assets, capital coverage is

3.2 percent. In August 2004, Farmer Mac

announced a new common stock dividend

policy and a stock repurchase program.

While these policies will affect earnings

and outstanding common shares, Farmer

Mac is expected to continue to meet

statutory and regulatory capital requirements.

Farmer Mac’s core capital (the sum of the

par value of outstanding common stock,

the par value of outstanding preferred

stock, paid-in capital, and retained

earnings) remained above the statutory

minimum requirement, and its regulatory

capital (core capital plus allowance for

losses) exceeded the required amount of

regulatory capital as determined by the

risk-based capital stress test. Farmer Mac’s

core capital continued its upward trend

and, at September 30, 2004, totaled $233.6

million, exceeding the statutory minimum

capital requirement44 of $128.1 million by

$105.5 million. Farmer Mac’s regulatory

capital totaled $256.1 million at September

30, 2004, exceeding the regulatory riskbased capital requirement of $43.5 million

by $212.6 million. Regulatory capital was

5.3 percent of total Farmer Mac I program

volume (on- and off-balance sheet). Table

8 offers a historical perspective on capital

and capital requirements for the past six

years at the quarter ending September 30.

In the coming year, FCA plans to publish

proposed revisions to the risk-based

capital regulations that became effective in

2002.

In addition to program assets, Farmer

Mac’s capital supports nonprogram

investment needs. Nonprogram investments provide liquidity in the event of a

short-term disruption in the capital

markets that prevents Farmer Mac from

issuing new debt. Nonprogram investments are investment securities, cash, and

cash equivalents. Farmer Mac’s policy is

to maintain nonprogram investments at

levels that provide liquidity for a minimum of 60 days of maturing obligations,

with a target of 90 days. Farmer Mac was

in compliance with its liquidity policy

throughout the year.

Program Activity

Farmer Mac’s total program activity

dropped slightly over the past year, to $5.5

billion on September 30, 2004, from $5.6

billion a year earlier (see Figure 11).

Farmer Mac attributes the slowing growth

to increased liquidity levels of rural banks

and Farm Credit System associations; a

reduced level of mortgage refinancing

activity owing to the rising interest rate

environment; and the cautionary guidance

the Farm Credit Administration and the

Farm Credit System Insurance Corporation provided to FCS institutions regarding counterparty risk.

Before the recent downward trend in

program activity, Farmer Mac’s Long-Term

Standby Commitment to Purchase (LTSCP

or Standby) product was the primary

source of growth in program activity over

the past four years. Under Farmer Mac

Standbys, a financial institution pays an

annual fee in return for Farmer Mac’s

commitment to purchase loans in a

specific pool under specified conditions at

the option of the institution. The Standby

product has grown rapidly since its

introduction in 1999, from $862.8 million

at December 31, 2000, to $2.4 billion at

September 30, 2004. Standby volume now

accounts for 42.9 percent of Farmer Mac’s

total program activities.

54 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

44. The statute requires 2.75 percent capital coverage for on-balance-sheet assets and 0.75 percent

for off-balance-sheet obligations.
Figure 11

Farmer Mac Program Activity and Nonprogram Investment

Trends, 1999–2004

As of September 30

Source: Farmer Mac’s Third Quarter Security and Exchange Commission Form 10-Q.

0

1

2

3

4

5

6

1999 2000 2001 2002 2003 2004

Total Program Activity

Dollars in Billions

Program Assets On-balance Sheet

Program Activity Off-balance Sheet Nonprogram Investments

Table 8

Farmer Mac Capital Positions, 1999–2004

As of September 30

Dollars in Millions

1999 2000 2001 2002 2003 2004

GAAP Equity $87.4 $99.6 $129.7 $195.5 $204.0 $228.1

Core Capital $88.8 $98.3 $116.3 $181.1 $206.4 $233.6

Statutory

Requirement $79.8 $93.6 $108.1 $129.7 $137.7 $128.1

Regulatory

Requirement NA NA NA $59.4 $45.5 $43.5

Excess over

Statutory or Regulatory

Requirement1 $9.0 $4.7 $8.2 $51.4 $68.7 $105.5

Capital Margin

Excess > Minimum 11.2% 5.0% 7.6% 39.6% 49.9% 82.4%

1. Farmer Mac is required to hold capital at the higher of the statutory minimum capital requirement or the

amount required by FCA regulations as determined by the Risk-Based Capital Stress Test model.

NA = Not Available

> = Greater Than

Source: Farmer Mac’s Third Quarter Security and Exchange Commission Form 10-Q.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 55
Off-balance-sheet program activity is

comprosed of agricultural mortgagebacked securities (AMBS) held by investors (AMBS sold) and Standbys. At the

end of September 2004, 60.3 percent of

program activity was off-balance-sheet

obligations (see Figure 12).

Asset Quality

On September 30, 2004, the portion of the

Farmer Mac I program portfolio that was

nonperforming was $75.0 million in loan

principal, or 1.58 percent of the principal

balance of all loans purchased, guaranteed,

or committed to be purchased since

enactment of the Farm Credit System

Reform Act of 1996 (1996 Act).45 This

compares with $84.6 million, or 1.74

percent, on September 30, 2003.

Nonperforming assets are those that are 90

or more days past due, in foreclosure, or in

bankruptcy, or real estate owned, that is,

property acquired by Farmer Mac through

foreclosure. Real estate owned at September 30, 2004, was $7.3 million, down

significantly from $16.4 million a year

earlier. Farmer Mac attributes the decreasing trend in the total dollar amount of

nonperforming assets over the past year to

the maturing of a significant segment of

its portfolio beyond the peak default years.

On September 30, 2004, Farmer Mac’s

allowance for losses totaled $22.5 million,

compared with $22.7 million on September 30, 2003. Of the $22.5 million

allowance, $1.3 million represents specific

allowances related to undercollateralized

nonperforming assets. Figure 13 shows

the level of Farmer Mac’s allowance and

nonperforming assets relative to outstanding post-1996 Act program volume. Post1996 Act volume is used in the figure in

consideration of the minimal risk associated with pre-1996 Act program activity.

Figure 12

Farmer Mac’s Total Program Activity

As of September 30, 2004

Source: Farmer Mac’s Third Quarter Security and Exchange Commission Form 10-Q.

56 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

45. Farmer Mac assumes 100 percent of the credit

risk on post-1996 Act loans, whereas pre-1996

Act loans are supported by mandatory 10 percent subordinated interests that mitigate Farmer

Mac’s exposure. For that reason, pre-1996 Act

loans are excluded from analysis for comparison

purposes.
Figure 13

Allowance and Nonperforming Asset Trends, 1999–2004

As of September 30

Source: Farmer Mac’s Third Quarter Security and Exchange Commission Form 10-Q.

Table 9

Farmer Mac Condensed Statements of Operations, 1999–2004

For the 9 Months Ending September 30

Dollars in Millions

Growth

Rate

1999 2000 2001 2002 2003 2004 2003 to 2004

Total Revenues 16.5 21.8 30.4 43.6 41.8 44.5 6.5%

Total Expenses 11.4 14.2 19.6 25.1 21.6 26.1 20.5%

Net Income

Available to

Shareholders 5.0 7.6 10.8 18.5 20.1 18.4 -8.7%

Core Earnings NA NA 12.3 17.0 17.2 17.5 1.9%

NA = Not Available

Source: Farmer Mac’s Third Quarter Security and Exchange Commission Form 10-Q.

Earnings

GAAP net income available to common

stockholders for the nine months ending

September 30, 2004, was $18.4 million,

down $1.7 million (8.7 percent) from the

same period in 2003. Core earnings46 for

the first nine months of 2004 were $17.5

million, an increase of 1.9 percent over

the same period in 2003. Net interest

income, which excludes guarantee fee

income, was $22.9 million net of the

provision for loan losses for the first

nine months of 2004, slightly higher

than in 2003. Guarantee fee income was

also slightly higher at the end of

September 2004 than it was at the end of

September 2003, at $15.7 million.

Nonprogram investments accounted for

an estimated 23 percent of interest

income for the three quarters ending

September 30, 2004, up from 22 percent

for the first three quarters of 2003. Table

9 shows trends in key income components since September 30, 1999.

46. Core earnings is a non-GAAP measure of financial results that excludes the effects of certain unrealized gains and losses and nonrecurring items.

Farmer Mac began reporting core earnings to

present an alternative measure of earnings performance. The components included in core earnings

calculations are at the reporting entity’s discretion.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 57
Glossary

58 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

A

Agricultural Credit Association (ACA)

— An ACA results from the merger of a

Federal Land Bank Association or a

Federal Land Credit Association and a

Production Credit Association, and has the

combined authority of the two institutions.

An ACA borrows funds from a Farm

Credit Bank or Agricultural Credit Bank to

provide short-, intermediate-, and longterm credit to farmers, ranchers, and

producers and harvesters of aquatic

products. It also makes loans to these

borrowers for certain processing and

marketing activities, to rural residents for

housing, and to certain farm-related

businesses.

Agricultural Credit Bank (ACB) — An

ACB results from the merger of a Farm

Credit Bank and a Bank for Cooperatives,

and has the combined authorities of those

two institutions. An ACB is also authorized to finance U.S. agricultural exports

and provide international banking services

for farmer-owned cooperatives. CoBank is

the only ACB in the Farm Credit System.

B

Bank for Cooperatives (BC) — A BC

provides lending and other financial

services to farmer-owned cooperatives,

rural utilities (electric and telephone), and

rural sewer and water systems. It is also

authorized to finance U.S. agricultural

exports and provide international banking

services for farmer-owned cooperatives.

The last remaining BC in the Farm Credit

System, the St. Paul Bank for Cooperatives,

merged with CoBank on July 1, 1999.

F

Farm Credit Act — The Farm Credit Act

of 1971, as amended, is the statute under

which the Farm Credit System operates.

The Farm Credit Act recodified all

previous acts governing the Farm Credit

System.

Farm Credit Bank (FCB) — FCBs

provide services and funds to local

associations that, in turn, lend those funds

to farmers, ranchers, producers and

harvesters of aquatic products, rural

residents for housing, and some agriculture-related businesses. On July 6, 1988,

the Federal Land Bank and the Federal

Intermediate Credit Bank in 11 of the 12

then-existing Farm Credit districts merged

to become FCBs. The mergers were

required by the Agricultural Credit Act of

1987. As of September 30, 2004, there

were four FCBs: AgFirst Farm Credit

Bank; AgriBank, FCB; Farm Credit Bank

of Texas; and U.S. AgBank, FCB.

Farm Credit Leasing Services Corporation (Leasing Corporation) — The

Leasing Corporation is a service entity

owned by CoBank, ACB. It provides

equipment leasing and related services to

eligible borrowers, including agricultural

producers, cooperatives, and rural utilities.

Farm Credit System Insurance Corporation (FCSIC) — The FCSIC was established by the Agricultural Credit Act of

1987 as an independent U.S. government–

controlled corporation. Its purpose is to

ensure the timely payment of principal

and interest on insured notes, bonds, and

other obligations issued on behalf of Farm
Credit System banks and to act as conservator or receiver of FCS institutions. The

FCA Board serves ex officio as the Board

of Directors for FCSIC; however, the

Chairman of the FCA Board is not

permitted to serve as the Chairman of the

FCSIC Board.

FCA Financial Institution Rating System

(FIRS) — The FIRS is similar to the

Uniform Financial Institutions Rating

System used by other Federal banking

regulators. However, it has been modified

by FCA to reflect the nondepository

nature of Farm Credit System institutions.

The FIRS provides a general framework

for assimilating and evaluating all significant financial, asset quality, and management factors to assign a composite rating

to each System institution. The ratings are

described below.

Rating 1 — Institutions in this group

are basically sound in every respect;

any negative findings or comments are

of a minor nature and are anticipated

to be resolved in the normal course of

business. Such institutions are well

managed, resistant to external economic and financial disturbances, and

more capable of withstanding the

uncertainties of business conditions

than institutions with lower ratings.

These institutions exhibit the best

performance and risk management

practices relative to the institution’s

size, complexity, and risk profile. As a

result, these institutions give no cause

for regulatory concern.

Rating 2 — Institutions in this group

are also fundamentally sound but may

reflect modest weaknesses correctable

in the normal course of business. The

nature and severity of deficiencies are

not considered material and, therefore,

such institutions are stable and able to

withstand business fluctuations.

Overall risk management practices are

satisfactory relative to the institution’s

size, complexity, and risk profile.

While areas of weakness could

develop into conditions of greater

concern, regulatory response is limited

to the extent that minor adjustments

are resolved in the normal course of

business and operations continue in a

satisfactory manner.

Rating 3 — Institutions in this

category exhibit a combination of

financial, management, operational, or

compliance weaknesses ranging from

moderately severe to unsatisfactory.

When weaknesses relate to asset

quality and/or financial condition,

such institutions may be vulnerable to

the onset of adverse business conditions and could easily deteriorate if

concerted action is not effective in

correcting the areas of weakness.

Institutions that are in significant

noncompliance with laws and regulations may also be accorded this rating.

Risk management practices are less

than satisfactory relative to the

institution’s size, complexity, and risk

profile. Institutions in this category

generally give cause for regulatory

concern and require more than

normal supervision to address

deficiencies. Overall strength and

financial capacity, however, still make

failure only a remote possibility if

corrective actions are implemented.

Rating 4 — Institutions in this group

have an immoderate number of

serious financial or operating weaknesses. Serious problems or unsafe

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 59
60 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

and unsound conditions exist that are

not being satisfactorily addressed or

resolved. Unless effective actions are

taken to correct these conditions, they

are likely to develop into a situation

that will impair future viability or

constitute a threat to the interests of

investors, borrowers, and stockholders.

Risk management practices are

generally unacceptable relative to the

institution’s size, complexity, and risk

profile. A potential for failure is

present but is not yet imminent or

pronounced. Institutions in this

category require close regulatory

attention, financial surveillance, and a

definitive plan for corrective action.

Rating 5 — This category is reserved

for institutions with an extremely

high, immediate or near-term probability of failure. The number and

severity of weaknesses or unsafe and

unsound conditions are so critical as

to require urgent external financial

assistance. Risk management practices are inadequate relative to the

institution’s size, complexity, and risk

profile. In the absence of decisive

corrective measures, these institutions

will likely require liquidation or some

form of emergency assistance, merger,

or acquisition.

Federal Agricultural Mortgage Corporation (Farmer Mac) — Farmer Mac was

created with the enactment of the Agricultural Credit Act of 1987 to provide a

secondary market for agricultural real

estate and rural housing mortgage loans.

Federal Farm Credit Banks Funding

Corporation (Funding Corporation) —

The Funding Corporation, based in Jersey

City, New Jersey, manages the sale of

Systemwide debt securities to finance the

loans made by Farm Credit System

institutions. The Funding Corporation

uses a network of bond dealers to market

its securities.

Federal Intermediate Credit Bank

(FICB) — The Agricultural Credits Act of

1923 provided for the creation of 12 FICBs

to discount farmers’ short- and intermediate-term notes made by commercial banks,

livestock loan companies, and thrift

institutions. The Farm Credit Act of 1933

authorized farmers to organize Production

Credit Associations (PCAs), which could

discount notes with FICBs. As a result,

PCAs became the primary entities for

delivery of short- and intermediate-term

credit to farmers and ranchers. On July 6,

1988, the FICB and the Federal Land Bank

in 11 of the 12 Farm Credit districts

merged to become Farm Credit Banks.

The mergers were required by the Agricultural Credit Act of 1987.

Federal Land Bank (FLB) — The Federal

Farm Loan Act of 1916 provided for the

establishment of 12 FLBs to provide longterm mortgage credit to farmers and

ranchers, and later to rural home buyers.

On July 6, 1988, the FLB and the Federal

Intermediate Credit Bank in 11 of the 12

Farm Credit districts merged to become

Farm Credit Banks. The mergers were

required by the Agricultural Credit Act of

1987.
Federal Land Bank Association (FLBA)

— FLBAs were lending agents for Farm

Credit Banks. FLBAs made and serviced

long-term mortgage loans to farmers,

ranchers, and rural residents for housing.

FLBAs did not own loan assets but made

loans only on behalf of the Farm Credit

Bank with which they were affiliated. As

of October 1, 2000, there were no remaining FLBAs.

Federal Land Credit Association (FLCA)

— An FLCA is a Federal Land Bank

Association that owns its loan assets. An

FLCA borrows funds from a Farm Credit

Bank to make and service long-term loans

to farmers, ranchers, and rural residents

for housing.

G

Government-sponsored enterprise (GSE)

— A GSE is a federally chartered corporation that is privately owned, designed to

provide a source of credit nationwide, and

limited to servicing one economic sector.

Each GSE has a public or social purpose:

to improve the availability of credit to

agriculture, education, or housing. GSEs

are usually created because the private

markets did not satisfy a purpose that

Congress deems worthy—either to fill a

credit gap or to enhance competitive

behavior in the loan market. Each is given

certain features or benefits (called GSE

attributes) to allow it to overcome the

barriers that prevented purely private

markets from developing. In some cases,

the GSE receives public assistance only to

get started; in other cases, the assistance is

ongoing.

P

Production Credit Association (PCA) —

PCAs are Farm Credit System entities that

deliver only short- and intermediate-term

loans to farmers and ranchers. A PCA

borrows money from its Farm Credit Bank

to lend to farmers. PCAs also own their

loan assets. As of January 1, 2003, all

PCAs were eliminated as independent,

stand-alone, direct-lender associations

when they merged and became ACA

subsidiaries.

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 61
A final word of thanks to our employees, whose dedication to excellence and hard work contribute to the accomplishment of the

Agency’s mission to ensure a safe, sound, and dependable source of credit and related services for agriculture and rural America.

62 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

Employees of the Farm Credit Administration

Amir Abdel-Wahab • Susan Adams • Jack Ahlstrom • Douglas Alford • Kamika Allen • Jeremias Alvarez • Dale

Anderson • Kenneth Anderson • Michael Anderson • Robert Andros • David Antolini • Daniel Arendt • Dale

Aultman • Rachael Bambenek • Melissa Bannister • Mary Beth Barbagallo • Dianna Becerra • Christel Beckers •

Curtis Bednarz • Joseph Beltramo • William Benton • Winston Black • Julie Blacklock • Irma Blankenship •

David Blanton • Karen Blue • Richard Bodine • Ronald Boehr • Melissa Boss • Anita Brice • Jeanette Brinkley •

Debra Buccolo • Kathleen Buffon • Kathryn Burcham • Laura Burke • Joy Burr • Regina Cacciavillani • Gaye

Calhoun • Dennis Carpenter • Tong Ching Chang • Mary Chatman • Heriberto Chavarria • Paul Cheng •

Donald Clark • Carl Clinefelter • Pamela Cochran • Victor Cohen • Jennifer Cohn • Robert Coleman • Susan

Coleman • David Collins • Nicole Conner • Joseph Connor • Louise Conoboy • Elvis Cordova • Raquel Corona

• Sarah Cortese • Vickie Cosentino • Matthew Crowell • Thomas Dalton • Damon D’Arienzo • April Davis •

Elizabeth Dean • Hal DeCell • Billy Decker • Luis De La Mora • Sharee Derocher • Hal Derrick • Kristine

Detar • Mildred Dickens • William Dickinson • Vicki Dolezilek • Robert Donnelly • Lucille Dore • Michael

Duffy • Myles Duffy • Michael Dunn • William Dunn • Gaylon Dykstra • Anjeanette Earhart • Darren Edwards

• James Enzler • W.B. Erwin • Christine Evert • Tammy Fancher • Scott Fatula • Daniel Fennewald • John Floyd

• Leslie Fridley • Stephen Frimpong • Douglas Gandy • Walter Gardiner • Shirley Garland • Mary Garver •

Eugene Geschwend • Randy Gibson • Thomas Gist • Thomas Glenn • Sara Glover • Janet Goktepe • Marla

Goodwin • Keta Gray • Steven Green • Joan Greene • Ralph Greenway • Kristen Grifka • Carl Grilliot • Steven

Guebert • David Hale • Deborah Halling • Tim Halstrom • Gordon Hanson • Brian Harrington • Carol Harrod

• Edward Harshbarger • Gail Hart • Keith Heffernan • Heidi Heinsohn • Terrence Helwig • Donnie Herrera •

Patricia Hickerson • Audrey Hicks • Damien Hill • Shirley Hixson • William Hoffman • Betty Holden • Dorie

Holland • Thomas Holland • Gregory Hosford • Eric Howard • Melinda Huber • Bruce Hudson • Jon

Hutchinson • Salvatore Iannetta • Michael Inlow • Shamica Jackson • Andrew Jacob • Margaret Janssen • Linda

Jew • Jeffery Jewell • Mark Johansen • Dawn Johnson • Michael Johnson • Marc Jones • Jonathan Joy • Kristi

Katsanis • Richard Katz • Douglas Keins • Camille Keith • Benjamin Kidder • Steven Kim • Erica King • Tony

Kirkham • Jo Ann Kissal • Kenneth Klein • Deborah Kleinwachter • Heather Kmak • Jeffrey Kostelecky • Mary

Beth Krause •Hu Sarah Kreger • David Kuhler • Douglas Kuplic • Wendy Laguarda • Dana Durst Lawrence •

Michael Lee • Mark Leonard • Rosa Lerma • Robert Lescano • David Lewandrowski • John Lightner • Jerry
Lindlauf • Kay Livingston • Robert Loewe • Elna Luopa • Cheryl Tates Macias • Kelli MacLean • Michael

MacLean • Sara Lynn Major • Barry Mardock • Alan Markowitz • Lori Markowitz • Ira Marshall • Cecilia

Martinez • Patrick Mawyer • John May • Lynn May • Kevin McAdoo • Mark McBeth • Veronica McCain •

Laura McFarland • Jeffrey McGiboney • Lori McGuin • Thomas McKenzie • Edna McLean • Peter McLean •

Rebecca McLeod • Daniel McLerran • Thomas McLey • Benjamin McMahan • Jacqueline Melvin • Darrin

Mercer • John Messing • Charlotte Miller • Steven Mitchell • Allen Moore • John Moore • James Morris • Fred

Mueller • Jody Muller • Rogelio Munoz • Timothy Nerdahl • Nancy Nevin • Lun Van Nguyen • Cynthia

Nicholson • Kathleen O’Dowd • Joan Dec Ohlstrom • Douglas Olivas • Orlando Olona • Beverly Olson •

Shirley Olson • Rebecca Orlich • Robert Orrick • Eric Ovsiew • Brett Parris • Irene Parungo • Roger Paulsen •

Ricky Pederson • Leonard Peterson • Allen Pexa • Tuyen Pham • Joel Phelps • Carl Premschak • Christine

Quinn • Shanon Ratliff • Charles Rawls • Laurie Rea • Kathleen Reddaway • Shawn Reeves • Tracy Reeves •

Robert Reinke • Christopher Riccobono • Nicholas Riccobono • Thomas Risdal • James Ritter • Samuel

Roberson • Eric Rodney • Eduvina Rodriguez • Fernando Rodriguez • Roberto Romero • Patricia Roney •

Regena Rose • Howard Rubin • Louise Ruhf • Claire Donovan Rusk • Maria Saavedra • Ross Sargent • Aram

Sarhadian • Ryan Schumacher • James Schuyler • Earl Screven • Anita Sewell • Ralph Shafer • Jeannie Shaffer •

Philip Shebest • Linda Sherman • Shay Shimic • Georgellen Shoger • Brenda Silka • Jesse Singh • Chester

Slipek • Roland Smith • Stephen Smith • Kim Snow • Laura Spagnolo • Rhonda Spraktes • Werner Stadel •

Dennis Stephen • David Stephens • Robert Stricker • Joy Strickland • Donald Sullivan • Deborah Sulton-Brown

• Ruth Surface • Robert Taylor • Patricia Telford • Rajkumar Thangavelu • Cheryl Thomas • Linda Thorne •

Linda Toki • Jessica Tomlinson • Arthur Townsend • Sadie Uomoleale • Doug Valcour • Alison Valdes • Ramiro

Valdez • Gary Van Meter • Ronald Vannier • Gretchen Vasquez • Jane Virga • John Von Reyn • Elton Waldrop •

Michael Walls • Jeffrey Walker • Sonny Wan • Joseph Washington • Lovi Washington • Melanie Watson • John

Weaver • Jean Weaver • Donna Weigel • Steven Weisz • Kenneth Wells • Yingchan Weng • Blake Werner • Douglas Wheeler • Linda White • Barbara Whitelaw • Thomas Wild • Sharon Wilhite • Christopher Wilson •

Michael Wilson • James Wingfield • Gordon Wolfe • David Woltman • Craig Wondra • Timothy Wooten • Dana

Wyckoff • Wade Wynn • Mania Wysolmerski • Peng Xu • Nancy Yeager • David Young • Woodrow Young •

Gregory Yowell

FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•REPORT•ON•THE•FARM•CREDIT•SYSTEM 63
Additional Information

64 FARM•CREDIT•ADMINISTRATION•2004•ANNUAL•R EPORT•ON•THE•FARM•CREDIT•SYSTEM

The Farm Credit Administration 2004 Annual Report is available on FCA’s Web site at

www.fca.gov. While supplies last, printed copies of this publication can be obtained

without charge from

Office of Communications and Public Affairs

Farm Credit Administration

1501 Farm Credit Drive

McLean, VA 22102-5090

Telephone: 703-883-4056

Fax: 703-790-3260

E-mail: info-line@fca.gov

The Federal Farm Credit Banks Funding Corporation prepares the financial press

releases, the System’s Annual and Quarterly Information Statements, and the System’s

combined financial statements contained therein, with the support of the System banks.

Copies are available on the Funding Corporation’s Web site at www.farmcredit-ffcb.com

or from

Federal Farm Credit Banks Funding Corporation

10 Exchange Place

Suite 1401

Jersey City, NJ 07302

Telephone: 201-200-8000

The Farm Credit System Insurance Corporation publishes an annual report. Copies are

available on FCSIC’s Web site at www.fcsic.gov or from

Farm Credit System Insurance Corporation

1501 Farm Credit Drive

McLean, VA 22102

Telephone: 703-883-4380

In addition, FCS banks and associations are required by regulation to prepare annual

and quarterly financial reports. Copies of these documents are available for public

inspection at FCA headquarters in McLean, Virginia.
Office of Communications and Public Affairs