Financial Statements

1996 3 1995
Income
Premiums (Note 4) $ 85,736 $ 79,394
Interest Income 61,471 54,688
Total Income 147,21 $ 134,082
Expenses
Administrative Operating
Expenses (Note 7) $ 1,469 $ 1,379
Provision for Estimated Insurance
Obligations (Note 5) 8,509 (14,329)
Net Income $ 137,229 $ 147,032
Farm Credit Insurance Fund,
Beginning of Year $901,578 $754,546
Farm Credit Insurance Fund,
End of Year $ 1,038,807 $901,578

The accompanying notes are an integral part of these financial statements.



Farm Credit System Insurance Corporation

Investment Portfolio
$ Millions % of Portfolio
Liquidity Pool One Year or Less $ 239 23%
Investment Pool One Year to Five Years $ 764 73%
Five Years to Ten Years $ 49 4%
Total $1,052 100%
Chart 5
Insured Obligations
$ Billions
61

60
59

ss : :
57
56 -
55
54 ~
a $53.7 $54.1
52
51
50 3
1992 1993 1994 1995 1996

Chart 6


Note 3 — Investments

At December 31, 1996, and at December 31, 1995, investments in U.S. Treasury obligations
consisted of the following: ($ in thousands)

Gross Gross Estimated.
December 31, Amortized. Unrealized Unrealized Market
1996 Cost Gains Losses Value
US. Treasury,
Notes $1,051,709 $ 7,396 (83,61. $1,055,494
December 31,
1995
US. Treasury $ 914,643 $15,296 ($596) $ 929,343
Notes

The amortized cost and estimated market value of U.S. Treasury obligations at December 31,
1996, by contractual maturity, are shown below. ($ in thousands)

Estimated
Amortized Market
Cost Value
Due in one year or less $ © 238,721 $ 239,145
Due after one year through five years 764,010 766,272
Due after five years through 10 years 48,978 50.0"

1.051. $_1,055.494



[fo |

Farm Credit System Insurance Corporation

April 18, 1997
Gentlemen:

In accordance with the provisions of section 5.64(a) of the Farm Credit Act of
1971, as amended, the Farm Credit System Insurance Corporation (Corporation)
is pleased to submit its annual report for calendar year 1996.

The report highlights the Corporation’s role as the Federal entity that ensures
the timely payment of principal and interest to the investors in the Farm Credit
System debt obligations. The balance in the Farm Credit Insurance Fund at
December 31, 1996, was $1.039 billion. The Corporation expects to incur

$1.7 million in operating costs during calendar year 1997. On January 31, 1997,
the Corporation collected $85.7 million in premiums from the insured Farm
Credit System banks.

(Cork

Sincerely,

Doyle L. Cook
Chairman

The President of the United States Senate
The Speaker of the United States House of Representatives

McLean, Virginia 22102
(703) 883-4380


Financial Statements

1996 1995

Cash Flows from Operating Activities
Net Income $ 137,229 $ 147,032
Adjustments to Reconcile Net Income
to Net Cash Provided by Operating Activities:

(Increase) in Accrued Interest Receivable (1,760) (1,549)
(Increase) in Premiums Receivable (6,324) (2,836)
Decrease (Increase) in Other Assets 0 5
Net Amortization and Accretion of Investments 13,614 12,090
(Decrease) Increase in Accounts Payable

and Accrued Expenses 64 [Gya)
(ecrease) in Liability for Eligible Borrower

Stock, Richmond PCA 0 (2)
(Decrease) Increase in Liability for Estimated

Insurance Obligations 8,509 14,326

Net Cash Provided by Operating Activities $ 151,332 $ 140,377

Cash Flows from Investing Activities
Payments for Purchase of U.S. Treasury

Obligations (329,135) (311,432)
Proceeds from Redemption of

US. Treasury Obligations 178,455 170,832
Net Cash Used in Investing Activities (450,680) (140,600)
Net Change in Cash and Cash Equivalents 652 (223)
Cash and Cash Equivalents,
Beginning of Year 307 __ 530
Cash and Cash Equivalents,
End of Year 8 959 S$ 307

The accompanying notes are an integral part of these financial statements.



a - aa

Estimated Insurance Obligation

The Corporation estimated the present
value of its liability to provide funds for
payment of the $374 million of 15-year
maturing debt to be approximately
$130 million and $122 million at
December 31, 1996 and 1995, respec-
tively. This liability is reflected in the
accompanying statements of financial
condition. The present value of this
obligation is based on a discount rate
of 7 percent to maturity, which was
established at the time this liability was
originally recorded. In accordance
with SFAS No. 107, the fair value of

this liability has been estimated by
management using discount rates
based upon U.S. Treasury securities of
similar durations (6.5 percent for 1996
and 5.7 percent for 1995). The fair
value was approximately $135 million
and $136 million as of December 31,
1996 and 1995, respectively.

Provisions for changes in the
Corporation’s liability are reflected in
the statements of income and expenses
in the amount of $8.5 million and
($14.3) million for the years ended
December 31, 1996 and 1995, respec-
tively. The ($14.3) million provision
for 1995 reflected a change in manage-
ment’s estimate of the liability. Two
events occurred in 1995 which caused
management to reevaluate this liability.
The January 1995, termination of the
FLBJR receivership resulted in the
transfer of surplus funds in the
receivership estate to the FAC, lower-
ing the total amount of financial assis-
tance provided to the FLBJR. The sec-
ond event was the repositioning of the
FAC Trust Fund investment portfolio
into longer maturity investments.

The Corporation cannot predict the
effects of future events upon System
operations and upon the amount of
the Trust Fund that will ultimately be
available to reduce the Corporation’s
liability for FLBJR-related FAC bonds.
The Corporation will annually reassess
the likelihood of earlier use of the
Trust Fund, changes in ‘Trust Fund
earnings, and other assumptions
underlying its estimate of the liability
for FLBJR-related FAC bonds.

Other Financial Assistance Provided
to System Institutions by the FAC
The 1992 Act expanded the
Corporation’s responsibility to insure
defaults by System institutions on pay-
ments related to other assistance fund-
ed by FAC bonds. These FAC bonds,
aggregating $454 million, were issued
to pay System Capital Preservation
Agreement accruals, to retire eligible
borrower stock of certain liquidating
System institutions, and to pay operat-
ing expenses of the Assistance Board.

Previously, the Corporation had
only been required: (1) to satisfy
defaults on the repayment of Treasury-
paid interest; and (2) to purchase the
preferred stock of an assisted institu-
tion when the institution did not retire
the stock at the maturity of the FAC
bonds issued to purchase it. The 1992
Act made the Corporation responsible
for defaults by System institutions on
obligations related to the remaining
$454 million of FAC bonds and related
interest if such amounts cannot be
recovered from defaulting institutions
by the FAC or the Treasury, as the case
may be, within 12 months.


Sy —-aae

Cash and Cash Equivalents — Cash
and cash equivalents include invest-
ments in U.S. Treasury obligations with
original maturities of 90 days or less.

Investments in U.S. Treasury
Obligations — Section 5.62 of the Act
requires that funds of the Corporation,
not otherwise employed, shall be
invested in obligations of the United
States or in obligations guaranteed as
to principal and interest by the United
States. The Corporation has classified
its investments as held to maturity in
accordance with the Statement of
Financial Accounting Standard (SFAS)
No. 115 and carries them at cost.
Premiums and discounts are amortized
or accreted using the straight-line
method, which approximates the
interest method, over the terms of

the respective issues.

Liability for Estimated Insurance
Obligations — The liability for estimat-
ed insurance obligations is the present
value of estimated probable insurance
payments to be made in the future
based on the Corporation’s analysis of
economic conditions of insured System
banks. (Also see Note 5).

The insured System banks’ primary
lending markets are borrowers
engaged in farming, ranching, and
producing or harvesting of aquatic
products, and their cooperatives.
Financial weaknesses in these market
segments and the effect of general
market conditions on the insured
System banks’ borrowers could
adversely affect the banks’ financial
condition and profitability. Insured
System banks also face risks from

changing interest rate environments
and the need to maintain ongoing
access to financial markets. Adverse
changes in the financial condition and
profitability of insured System banks
resulting from increased levels of
credit, financial, or other risks could
occur in the future which would have
a material effect on the liability for
estimated insurance obligations.

Premiums — Annual premiums are
recorded as revenue during the period
on which the premiums are based.

All premiums are due on or before
January 31 of the year subsequent to
the year in which they are earned.

Retirement Plan — All permanent
Corporation employees are covered
by the Civil Service Retirement System
(CSRS) or the Federal Employees
Retirement System (FERS).

The Corporation’s contribution
to the CSRS plan equals the 7 percent
of base pay contributed by employees
covered by that system. For those
employees covered by FERS, the
Corporation's contribution is 11.4
percent of base pay. In addition, for
FERS-covered employees, the Corpora-
tion automatically contributes 1 percent
of base pay to the employee’s Thrift
Savings Plan account, matches the first
3 percent contributed by the employ-
ee, and matches one-half of the next 2
percent contributed by the employee.

Retirement plan expenses amount-
ed to $88,843 in 1996 and $79,382 in
1995.


Coopers & Lybrand L.L.P.

Coopers
&Lybrand

a professional services firm

Report of Independent Accountants

To the Board of Directors of the
Farm Credit System Insurance Corporation

We have audited the accompanying statements of financial condition of the Farm Credit System
Insurance Corporation as of December 31, 1996 and 1995, and the related statements of income
and expenses and changes in insurance fund, and cash flows for the years then ended. These
financial statements are the responsibility of the Corporation's management. Our responsibility is
to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing standards and generally
accepted government auditing standards. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects,
the financial position of Farm Credit System Insurance Corporation as of December 31, 1996 and
1995, and the results of its operations and its cash flows for the years then ended in conformity

with generally accepted accounting principles.
Coen ¢ Aopauch L LP

Washington, D.C.
February 3, 1997

Coopers & Lybrand LLP. is a member of Coopers & Lybrand Intemational, a limited liability association incorporated in Switzerland.


Growth in the Insurance Fund

$ Millions
1,200
1,000
800
600
400
-aikh

0

May Jan Jan Jan Jan Jan Jan Jan Jan

1989 1990 1991 1992 1993 1994 1995 1996 1997

HB Total Assets insurance Fund

Chart 1


References

or additional information about the Farm Credit System, its financial
condition and performance, and activities of the Farm Credit
Administration, the following publications are recommended.

Farm Credit System Annual Reports to
Investors and Quarterly and Annual
Information Statements for the current
fiscal year and the 2 preceding fiscal
years. These are available without

charge from:

Federal Farm Credit Banks
Funding Corporation

10 Exchange Place

Suite 1401

Jersey City, NJ 07302

(201) 200-8000

Annual Reports of the Farm Credit
Administration for the past 5 fiscal
years. These are available without
charge from:

Farm Credit Administration

Office of Congressional and
Public Affairs

1501 Farm Credit Drive

McLean, VA 22102-5090

(703) 883-4056

Production of the 1996 Annual Report of
the Farm Credit System Insurance
Corporation coordinated by Anna Lacey
with assistance from Barbara Shaffer and
Christine Quinn.


Corporate Officers

Mary A. Creedon
Chief Operating Officer

Dennis M. Pittman
Director of Risk Management

Alan J. Glenn
Chief Financial Officer

Dorothy L. Nichols
General Counsel

C. Richard Pfitzinger
Asset Assurance Manager

Floyd Fithian
Secretary to the Board

Corporate Office

Farm Credit System Insurance
Corporation

1501 Farm Credit Drive

McLean, VA 22102

(703) 883-4380

FAX (703) 790-9088



2 --- aa

Board of Directors

he Farm Credit System Insurance Corporation (Corporation) is man-
aged by a three-member board of directors composed of the members
of the Farm Credit Administration (FCA) Board. The Chairman of the
Corporation’s Board of Directors, however, must be a Board Member
other than the Chairman of the FCA Board. One position on the Board of
Directors is vacant following the March 31, 1995 resignation of Gary C. Byrne.

Doyle L. Cook joined the
Corporation’s Board in October 1994
and was elected Chairman in March
1995. He brings to this position 32
years of experience in agricultural
lending, 19 of which were with various
Farm Credit System institutions.
Preceding his appointment to the
Board, Mr, Cook served as President
and Chief Executive Officer of the
Farm Credit Bank of Spokane and as an
active participant on various committees
of the banks of the Farm Credit System,
a director of the Federal Agricultural
Mortgage Corporation, and a member
of the Chicago Mercantile Exchange
Lender Advisory Committee.
Previously, he served as President and
Chief Executive Officer of Farm Credit
Services of Mid-America, Senior Vice
President for Credit for the Federal
Intermediate Credit Bank of Texas, and
Senior Vice President of the Federal
Intermediate Credit Bank of Louisville.
He began his career with Ralston
Purina, where he worked in credit,
marketing, finance, and general man-
agement for 13 years before joining

the Farm Credit System. Mr. Cook, a
native of Star City, Arkansas, holds a
B.S. in agricultural business and an M.S.
in agricultural economics from the
University of Arkansas.

Marsha Pyle Martin, a member of
the Corporation's Board since October
1994, is also Chairman and Chief
Executive Officer of the Farm Credit
Administration. She brings to her posi-
tion 35 years of experience in agricul-
ture and agricultural finance. The Texas
native, who holds a B.A. from Texas
Woman's University and an M.S. from
Texas A&M University, joined the
Federal Intermediate Credit Bank of
Texas in 1970 and in 1979 earned the
distinction of being the first woman
appointed to a senior officer position.
During her career with the Farm Credit
Bank of Texas she gained broad man-
agement experience, providing leader-
ship and direction for the bank’s corpo-
rate relations, legal, operations and
supervision, management information,
human resources, marketing, and public
and legislative affairs departments.

She has held leadership positions with
various agricultural councils and adviso-
ry committees in the State of Texas.

In 1995, she received the Academy of
Honor in Agricultural Credit, awarded
the Texan making the most significant
contribution to agricultural credit.

She holds the Texas Woman’s University
Distinguished Alumna Award for 1996
and was the 1990 recipient of the
Cooperative Communicators Associa-
tion’s H.E. Klinefelter Award, the associ-
ation’s highest honor, in recognition

of her distinguished contributions to
cooperative communications.


Financial Statements

1996 1995
Assets
Cash and Cash Equivalents $ 959 $ 307
Investments in U.S. Treasury Obligations
(Note 3) 1,051,709 914,643
Accrued Interest Receivable 30,771 29,011
Premiums Receivable (Note 4) ___ 85,716 ___79,392
Total Assets $1,169,155 1,02,
Liabilities and Insurance Fund
Accounts Payable and
Accrued Expenses (Note 7) $ 275 $ 2u1
Liability for Estimated Insurance
Obligations (Note 5) 130,073 121,564
Farm Credit Insurance Fund 1,038,807 —— 901,578,
Total Liabilities and Insurance Fund $ 1,169,155, $ 1,023,353

The accompanying notes are an integral part of these financial statements.



Legislation

ajor legislation affecting the Corporation was enacted in early 1996.

The Farm Credit System Reform Act of 1996 (1996 Act) includes

several major provisions that provide the Corporation with additional

authorities. The 1996 Act also repeals the requirement for an inde-
pendent three-member, full-time Board of Directors for the Corporation, which
was authorized beginning in 1996. The Corporation will continue to be governed
by its current Board structure, composed of the FCA Board Members.

New authorities provided in the Act
include the flexibility to reduce insur-
ance premium rates and to segregate
excess Insurance Fund balances for the
benefit of System banks and the Farm
Credit System Financial Assistance
Corporation (FAC) stockholders.
Excess Insurance Fund balances may
be paid to System banks and FAC
stockholders beginning at least eight
years after the Insurance Fund reaches
2 percent of the insured obligations,
but not before 2005. The law provides
for these new authorities to be exer-
cised at the sole discretion of the
Corporation’s Board.

The law also provides the Corpora-
tion with the authority to regulate
“golden parachute” arrangements and
certain indemnification payments
made by troubled System institutions.
The Corporation’s authority to provide
financial assistance to open System.
institutions was changed so that any
assistance must be the “least costly”
approach of all alternatives available
to the Corporation in all cases.


a — aa)

Note 4 — Premiums

Each System bank which issues
insured obligations under subsection
(©) or Cd) of section 4.2 of the Act is an
insured System bank and is required to
pay premiums to the Corporation.

In accordance with the Act, the
annual premium due from each
insured System bank for the calendar
year is equal to the sum of: (1) the
annual average principal outstanding
for the year on loans made by the
bank that are in accrual status, other
than the guaranteed portions of
Government-guaranteed loans, multi-
plied by 0.0015; (2) the annual average
principal outstanding for the year on
loans made by the bank that are in
nonaccrual status multiplied by 0.0025;
(3) the annual average principal out-
standing for the year on the guaran-
teed portions of Federal Government-
guaranteed loans of the bank that are
in accrual status, multiplied by 0.00015;
and (4) the annual average principal
outstanding for the year on the guaran-
teed portions of state government-
guaranteed loans of the bank that are
in accrual status, multiplied by 0.0003.

Beginning in 1996, the Act was
amended to allow the Corporation, in
its sole discretion, to reduce insurance
premium rates from the statutory
percentages by a percentage
uniformly applied to all System banks.
In August, the Corporation’s Board
approved a reduction in the rates on
loans guaranteed by the Federal and
state governments to zero for the sec-
ond half of 1996. In January 1997,
the Board approved a reduction in the
premium rates on accrual loans from

0.0015 to 0.0012 effective for the first
six months of 1997. The Board also
approved leaving premium rates for
1997 on nonaccrual loans at 0.0025
and for Government-guaranteed loans
at zero.

Each insured System bank will
continue to make annual premium
payments until the aggregate amount
in the Insurance Fund exceeds the
secure base amount. The secure base
amount is equivalent to 2 percent of
the aggregate outstanding insured
obligations of all insured System banks
(adjusted downward by a percentage
of the guaranteed portions of principal
outstanding on Government-guaran-
teed loans in accrual status) or such
other percentage or amount deter-
mined by the Corporation, in its sole
discretion, to be actuarially sound.
When the amount of the Insurance
Fund exceeds the secure base amount,
the Corporation is required to reduce
the premiums, but it still must ensure
that reduced premiums are sufficient
to maintain the level of the Insurance
Fund at the secure base amount.

At December 31, 1996, the Insurance
Fund was 1.8 percent of adjusted
insured obligations outstanding.

Note 5 — Financial Assistance to
System Banks and Estimated
Insurance Obligations

Financial Assistance to Certain
System Banks

The 1987 Act required that the FCA
charter the Farm Credit System
Assistance Board (Assistance Board)
and the FAC (see Note 1) to provide



io Le

Farm Credit
System
Insurance
Corporation

1996 ANNUAL REPORT



Farm Credit System Insurance Fund
in Relation to the Secure Base Amount

$ Billions
1.20
1.00
0.80
0.60
0.40

0.20

0.00

May Jan Jan Jan Jan Jan Jan Jan Jan
1989 1990 1991 1992 1993 1994 1995 1996 1997

BBB Secure Base Amount A Insurance Fund Balance

Chart 3


fw |

Insurance
Fund
Management

Corporate Activities

Growth in the Insurance Fund
The Corporation had net income for
1996 of $137 million. The Insurance
Fund balance at December 31, 1996,
was $1.039 billion, an increase of 15
percent from 1995. The Insurance
Fund represents the Corporation’s
equity, i.e., the difference between its
total assets ($1.169 billion) and its
total liabilities, including its insurance
obligations ($130 million). Chart 1
depicts the growth in the Corporation’s
total assets and the Insurance Fund.
The Corporation's principal liability
for insurance obligations at December
31, 1996, was $130 million, which
represents the liability to repay the
FAC for financial assistance to the
Federal Land Bank of Jackson in
Receivership (FLBJR).

Corporation Revenues

The Corporation’s revenues are derived
from two sources, premiums collected
from insured System banks and interest
income earned on the Corporation’s
investment portfolio. Total revenues
increased 10 percent, from $134 mil-

lion in 1995 to $147 million in 1996.
Revenues for the past five years are
depicted in Chart 2.

Premium Collection and

Secure Base Amount

Premium revenue increased by 8 per-
cent in 1996 to $85.7 million, reflecting
continued growth in the volume of
System loans outstanding. Premiums
are collected annually from System
banks based on the retail loan volume
at each bank and its related associa-
tions. See Note 4 to the Corporation’s
financial statements. Premium revenue
is accrued at December 31, 1996,
representing the estimated premiums
that were earned but not yet collected
for calendar year 1996; these premiums
were collected on January 31, 1997.

All insured System banks will con-
tinue to pay insurance premiums until
the aggregate amount in the Insurance
Fund reaches the secure base amount.
The secure base amount is 2 percent
of the insured obligations issued and
outstanding by all System banks or
such other percentage determined by

| | Premiums

: a
a

i a
a

9:

0 20 40 60 80
$ Millions

Corporation Revenues

$147
$134
$123
$115

$111

100 120 140 160 180

[Bl interest income

Chart 2



x aaa

Overview

he Farm Credit System Insurance Corporation was established by the

Agricultural Credit Act of 1987 (1987 Act) as an independent U.S.

Government-controlled corporation. The Corporation’s primary 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.

(System) banks.

The System is a privately owned
nationwide financial cooperative that
lends to agriculture and rural America.
By ensuring the repayment of System
debt securities to investors, the
Corporation helps to maintain a
dependable source of funds for the
farmers, ranchers, and other borrowers
of the System. The 1987 Act provided
for all System banks to be insured.

At yearend 1996, there were eight
insured System banks paying premi-
ums to the Corporation.

During the past year, the System
continued to grow, increasing insured
debt obligations outstanding by $2
billion or 4 percent. System institutions
also increased the resources available
to cushion any potential loss to the
Insurance Fund. The System, with
$74 billion in assets on a combined
basis, achieved $1.2 billion in net
income. Surplus as a percentage of
total assets increased from 9.4 percent
in 1995 to 10.1 percent at yearend.
System asset quality also improved,
with nonperforming assets declining
from 2.1 percent of total loans and
other property owned in 1995 to
1.6 percent at yearend.

Other significant highlights for
1996 include:

e Implementation of new statutory
authority to adjust insurance premiums;

e Revision of the Corporate
Investment Policy linking it with
the risk management process and
allowing for investment in longer
term maturities;

e Growth in the Insurance Fund to
more than $1 billion (more than 90
percent of the amount targeted in the
law establishing the Fund),

e Conversion of the Corporation’s
computer system to a network system,
improving staff efficiency; and

e Enhanced operation of the insurance
risk simulation model.


ae

As of
December 31, 1996
and 1995

Notes to Financial Statements

Note 1 — Insurance Fund:
Statutory Framework

The Agricultural Credit Act of 1987
(1987 Act) established the Farm
Credit System Insurance Corporation
(Corporation) for the purpose of
ensuring the timely payment of
principal and interest on notes, bonds,
debentures, and other obligations
issued under subsection (c) or (d)

of section 4.2 of the Farm Credit Act
of 1971 (Act) (insured obligations).
Each bank in the Farm Credit System
(System) participating in insured
obligations is an insured System bank.
At December 31, 1996, there were
eight insured System banks and 158
direct lender associations.

The Corporation is managed by
a board of directors consisting of the
same individuals as the Farm Credit
Administration (FCA) Board except that
the Chairman of the FCA Board may
not serve as the Chairman of the
Corporation’s Board of Directors.

The Corporation has the responsi-
bility to expend amounts to the
extent necessary to:

1. Ensure the timely payment of
interest and principal on insured
obligations in the event of default
by an insured System bank;

2. Satisfy, pursuant to section
6.26(d)(3) of the Act, defaults by
System banks on obligations related
to the issuance of U.S. Treasury-
guaranteed bonds by the Farm
Credit System Financial Assistance
Corporation (FAC) (FAC bonds)
(see Note 5); and

3. Ensure the retirement of eligible
borrower stock at par value.

The Corporation, in its sole discretion,
is authorized to expend amounts to
provide financial assistance to certain
insured institutions.

The balances outstanding at
December 31, 1996, for each of the
components of the Corporation’s insur-
ance responsibilities were $60.7 billion
of insured obligations, $1.3 billion of
FAC bonds (of which $0.7 billion in
repayments have been provided for),
and $131 million of eligible borrower
stock.

If the Corporation does not have
sufficient funds to ensure payment on
insured obligations, System banks will
be required to make payments under
joint and several liability.

Under section 5.63 of the Act, the
Corporation is exempt from all Federal,
state, and local taxes with the excep-
tion of real property taxes.

Note 2 — Summary of
Significant Accounting Policies

Accounting Principles and
Reporting Practices — The accounting
and reporting policies of the Corpora-
tion conform to generally accepted
accounting principles and, as such,

the financial statements have been
prepared using the accrual basis of
accounting. The preparation of
financial statements in conformity

with generally accepted accounting
principles requires management to
make estimates and assumptions that
affect the reported amount of assets
and liabilities at the date of the finan-
cial statements and the reported
amount of revenues and expenses dur-
ing the reporting period. Actual results
could differ from those estimates.


The 1992 Act also expanded the
potential uses of the Trust Fund to
satisfy System institution defaults on
the principal and interest of other
FAC obligations and required System
banks to make annual annuity pay-
ments to the FAC to provide funds
for the retirement of the Capital
Preservation Agreement-related FAC
bonds aggregating $417 million and
Treasury-paid interest at maturity.
The Corporation is also required to
satisfy defaults on the annual payments
to the FAC to permit the repayment
of Treasury-paid interest. During 1992
through 1996, all System banks made
their annual annuity payments as
scheduled. The Corporation is not
aware of any events or circumstances
which will prevent System banks
from meeting their FAC obligations.
The Corporation actively monitors
the creditworthiness and financial
position of the insured System banks.
Other than obligations that have
occurred as a result of resolving the
FLBJR, as described above, manage-
ment is not aware of any events or
circumstances at this time which
would require a liability for estimated
insurance obligations to be recorded.

Note 6 — Operating Lease

On September 2, 1993, the
Corporation’s lease agreement with
the Farm Credit System Building
Association for office space was
modified to extend the term to
September 30, 1996. The terms of
the lease provide for further extension
after September 30, 1996, on a year to
year basis for an additional three years.
The Corporation exercised this option
effective October 1, 1996. The agree-
ment requires payment of an annual
base rent for office space, with fixed
annual increases of 2 percent.

The Corporation recorded $65,071
and $76,146 in operating expenses
related to the lease in 1996 and 1995,
respectively.

Note 7— Related Parties

The Corporation purchases services
from the FCA under an Inter-Agency
Agreement. These include examina-
tion and administrative support
services. The Corporation had
payables due to the FCA of $89,907
at December 31, 1996, and $62,479
at December 31, 1995. The Corpora-
tion purchased services for 1996
which totaled $180,543 compared
with $263,479 for 1995.


Mission Statement

s an independent entity, the Farm
Credit System Insurance Corporation shall:

Protect investors in insured Farm Credit
System obligations and taxpayers through
sound administration of the Farm Credit
Insurance Fund (Insurance Fund);

Exercise its authorities to minimize loss
to the Insurance Fund; and

Help ensure the future of a permanent
system for delivery of credit to agricultural
borrowers.



. fee

a result of the slightly longer weighted
average portfolio maturity maintained
by the Corporation during the period.
During 1995 and 1996, the yield differ-
ence narrowed as more of the peer
group’s shorter maturity portfolios were
reinvested at the higher interest rates
prevailing throughout 1994 and early
1995. The Corporation maintains an
investment strategy of purchasing a
ladder of maturities and holding invest-
ments to maturity, while several of

the funds in the peer group trade their
securities before maturity.

At their July meeting, the Corpora-
tion’s Board approved revisions to the
investment policy. The policy changes:
e Establish a liquidity pool and an
investment pool;

e Link investment decisions with the
Corporation’s risk assessment process,
requiring the Investment Committee to
consider emerging trends in the finan-
cial condition of the System and the
effect on liquidity before investments
can be made;

e Modify the portfolio maturity limits
to provide the opportunity for higher
investment returns; and

e Add flexibility to invest limited
amounts in Treasury securities with
maturities from five to 10 years.

The liquidity pool may only be
invested in U.S. Treasury securities with
one year or less to maturity and must
be no less than 15 percent or more than
25 percent of total investments. The
investment pool consists of the balance
of the portfolio and may be invested in
USS. Treasury securities with maturities
from one to 10 years, with the limit that
no more than 25 percent of the invest-
ment pool may be invested longer than
five years.

Chart 5 shows the balances and
maturities of the liquidity pool and
investment pool at December 31, 1996.
The weighted average portfolio maturity
at yearend was 2.4 years.

Insured and Other Obligations
Obligations insured by the Corporation
are statutorily defined as any note,
bond, debenture, or other obligation
issued on behalf of insured System
banks under subsection (c) or (d) of
section 4.2 of the Act, 12 U.S.C. 2153.
Section 4.2(c) authorizes a System bank
to join with any or all banks organized
and operating under the same title of
the Act to issue consolidated notes,
bonds, debentures, or other obligations.
Section 4.2(d) authorizes a System bank
to join with the other banks of the
System to issue Systemwide notes,
bonds, debentures, or other obligations.
Insured obligations are issued through
the Federal Farm Credit Banks Funding
Corporation on behalf of the System
banks. The outstanding principal and
accrued interest balances of insured
obligations at December 31 for the past
five years are shown in Chart 6.

During 1996, the level of insured
obligations increased 4 percent follow-
ing an 8 percent increase in 1995. The
growth in insured obligations was used
primarily to finance higher levels of
System loan and investment assets.

The Corporation is also required
by statute to use the Insurance Fund
to satisfy System institution defaults on
obligations related to FAC-issued bonds
under section 6.26(d)(3) of the Act
and ensure the retirement of eligible
borrower stock. The outstanding
balances of these obligations at
December 31 for the past five years
are illustrated in Chart 7.

Other obligations continued to
decline during 1996 as a result of the
further retirement of outstanding eligible
borrower stock. In addition, System
banks have been providing for the
repayment of outstanding FAC assis-
tance bonds. At December 31, 1996,
the System had provided for the repay-
ment of approximately $0.7 billion of
the $1.3 billion FAC assistance bonds
outstanding.


a —-aaae|

Risk
Management

Corporate Activities

he Corporation’s program

to identify and manage risk

to the Insurance Fund is

designed to minimize the
Fund's exposure to potential losses
through early detection. Corporation
staff uses special examination proce-
dures to evaluate the condition of
weaker System institutions, FCA exam-
ination staff performs these special
examinations on a reimbursable basis.
In addition, the Corporation assesses
risk exposure to the Insurance Fund
through its ongoing review and analy-
sis of the financial condition of System
institutions, operation of the insurance
risk simulation model, review of
corporate actions approved by FCA
for System institutions, Reports of
Examination of System institutions,
and by serving as a nonvoting pattici-
pant on FCA’s enforcement committee.
Corporation staff also monitors the
development of legislative, judicial,
regulatory, and economic trends that
could impact the various risks to the
Insurance Fund.

During 1996, the Corporation iden-
tified certain risk factors that are regu-
larly reviewed in connection with its
insurance premium adjustments policy
and the semiannual determination of
premium rates. The Corporation also
added more risk screening criteria to its
procedure for determining allowances
for Insurance Fund losses.

Financial Assistance and
Receivership Capability

The Insurance Corporation is autho-
tized to provide assistance to a Farm
Credit System institution to prevent
default, restore it to normal operations,
or to facilitate a merger or consolida-
tion. At the present time, no assistance
agreements are outstanding. This past
year, the Corporation revised its assis-
tance policy statement to reflect
changes contained in the 1996 Act.

The Corporation has developed a
program for managing receiverships
and conservatorships. To contain costs
while providing the statutorily mandat-
ed capacity to deal effectively with any
potential receiverships or conservator-
ships, the Corporation has qualified a
pool of private sector vendors who can
be called upon to provide specialized
support if needed. These contractual
arrangements effectively leverage
permanent staff resources while
maintaining low overhead during
periods of limited or no activity.

In addition, the Corporation initiat-
ed a training program designed to
increase risk identification and case
resolution skills. It is anticipated that
future program sessions will involve
Corporation staff, FCA employees,
and Corporation contractors. The first
training session was held in January
1997.



bm
Y


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assistance to System institutions experi-
encing financial difficulty. In order to
raise funds to provide this assistance,
the FAC had the authority to issue debt
obligations with a maturity of 15 years.
Subject to Assistance Board approval,
these funds were used by the FAC to
purchase preferred stock issued by an
institution experiencing financial diffi-
culty.

During the period from 1988 to
1992, assistance was provided to four
open banks through the purchase by
the FAC of $419 million in preferred
stock issued by these institutions.
Similar assistance was provided to
the Federal Land Bank of Jackson in
Receivership.

Prior to the maturity of the related
15-year debt obligations, each institu-
tion can redeem its preferred stock,
pursuant to Section 6.26 of the Act, so
as to allow the FAC to pay the princi-
pal of the maturing obligation. While
an institution that issues preferred
stock to the FAC is primarily responsi-
ble for providing funds for payment
of the FAC bonds (through redemption
of the preferred stock purchased with
the proceeds of the FAC bonds), the
institution may be prohibited from
redeeming, or may elect not to
redeem, the preferred stock pursuant
to section 6.26 of the Act. If this
occurs, then the FAC must use funds
from its trust fund, to the extent avail-
able, to retire the debt. The FAC Trust
Fund (Trust Fund) represents the funds
received from System institutions’ pur-
chase of stock in the FAC. The Trust
Fund totaled approximately $89 million
and $83 million at December 31, 1996
and 1995, respectively. If the Trust

Fund is not sufficient to retire the debt,
then the Corporation must purchase
preferred stock from the FAC to pro-
vide funds to retire such debt. If the
Corporation does not have sufficient
funds, the U.S. Treasury must retire the
debt. If this should occur, the Corpora-
tion is required to repay the U.S.
Treasury as funds become available
from the payment of premiums. At
December 31, 1996, the only preferred
stock held by the FAC was associated
with the assistance provided to the
Federal Land Bank of Jackson.

On May 20, 1988, the FCA placed
the Federal Land Bank of Jackson and
the Federal Land Bank Association of
Jackson in receivership (collectively
the FLBJR) and appointed a receiver to
liquidate their assets. As of April 27,
1990, the FCA, the Receiver of the
FLBJR, the FAC, the System banks, the
Assistance Board, and the Corporation
entered into an agreement which
called for the FAC to issue 15-year U.S.
Treasury-guaranteed bonds to purchase
preferred stock in the FLBJR. Upon
the maturity of the FAC bonds used to
purchase preferred stock in the FLBJR
in 2005, the Corporation will provide
funds to repay the principal of these
debt obligations, to the extent that the
Trust Fund is not sufficient for such
purpose. In January 1995, the FLBJR
was terminated by the FCA and the
receiver was discharged after transfer-
ring the remaining receivership assets
to the FAC. The final amount of assis-
tance provided to the FLBJR by the
FAC totaled $374 million.



Contents

Mission / 2

Letter from the Chairman / 3

Board of Directors / 4

Corporate Officers / 5

Overview / 6

Legislation / 7

Corporate Activities / 9
Insurance Fund Management / 9
Risk Management / 15

Report of Independent Public Accountants / 16

Financial Statements / 17

Notes to Financial Statements / 20

References / 28



Income and Expenses
Farm Credit System Insurance Corporation By Year
($ in thousands)

Expenses

Provision for Administrative
Insurance and Operating
Obligations Expenses

$65,000 $16,041 - $118 $80,923
$72,000 $25,705 $140,000 $243 ($42,538)
$77,463 $31,483 $15,555 $953 $92,438
$73,902 $37,198 $12,062 $1,200 $97,838

$74,100 $41,277 ($39,444) $1,278 $153,543
$76,526 $46,389 $8,890 $1,482 $112,543
$79,394 $54,688 ($14,329) $1,379 $147,032
$85,736 $61,471 $8,509 $1,469 $137,229

1 In 1993, the FAC Trust Fund was initially considered available to pay a portion of the Insurance Corporation's
FAC obligation for assistance to the FLB of Jackson.

2 In 1995, this provision was adjusted to reflect a change in the FAC Trust Fund's investment strategy and the
termination of the FLB Jackson receivership making available additional funds to reduce the Insurance Corporation's
related FAC obligation.



>. aa

the Corporation, in its sole discretion, to
be actuarially sound. Chart 3 compares
the growth in the Insurance Fund toward
the secure base amount since inception.
In late 1995, the volume of insured
System debt outstanding began to rise,
reflecting growth in loans to System bor-
rowers. This growth caused a corre-
sponding increase in the secure base
amount.
The Farm Credit System Reform

Act of 1996 (1996 Act) provided the
Corporation’s Board with the flexibility to
reduce insurance premium rates prior to
reaching the secure base amount. In
July 1996, the Corporation’s Board adopt-
ed a Policy Statement Concerning
Adjustments to Insurance Premiums.
The Policy Statement provides for a
review to be conducted semiannually
and sets out five factors the Board will
consider in determining whether to
adjust premiums.

The five factors include:
e Level of the Insurance Fund relative to
outstanding debt obligations;
e Any projected losses to the Insurance
Fund;
e Condition of the Farm Credit System;
e Health of the agricultural economy;
and
e Any risks in the financial environment.

In August, the Board completed the
first semiannual review and approved a
reduction in the insurance premium rates

on Federal and state government guaran-
teed accrual loans to zero, effective July
1, 1996. At yearend 1996, the Board
completed its second semiannual review
of insurance premium rates and reduced
the insurance premium rates on non-
guaranteed accrual loans from 15 to 12
basis points beginning January 1, 1997.

Investment of Insurance
Fund Assets
The Corporation had cash and invest-
ments of $1.052 billion at December 31,
1996, up 15 percent from yearend 1995.
Funds are invested in U.S. Treasury secu-
rities in accordance with section 5.62 of
the Farm Credit Act of 1971, as amended
(Act), 12 U.S.C. 2277a-11, and the
Corporation’s investment policy. The
policy provides that the Corporation will
seek the maximum return consistent with
its liquidity needs and a minimum expo-
sure to loss of principal. The average
portfolio yield for 1996 was 6 percent.

As a measure of investment manage-
ment performance, the Corporation's
average yield was compared with the
interest yield of five comparable invest-
ment funds available in the private sec-
tor. These funds were selected because
they invest in short-term U.S. Treasury
securities. This comparison for the past
five years is shown in Chart 4.

The Corporation’s average yield is
higher than the peer group, primarily as

Percent
8%

6%
4%
2
0%
1992

1993
Ei Fesic interest Yield

with Similar Bond Funds’ Interest Yield

1994

FCSIC Interest Yield Compared

1995 1996

[BB Treasury Bond Funds

Chart 4


= — ae

$ Billions
2.50
2.00
1.50
1.00

0.50

Other Obligations

0.00
1991 1992 1993 1994 1995 1996
Hl Eligible Borrower Stock IB Fac Assistance Bonds
Chart 7
Operations

The Corporation operated with a staff
of 10 employees in 1996. The small
staff leverages its resources by using
the Farm Credit Administration for
examination and certain other services.
Other specialized services are available
through contractual arrangements on an
as-needed basis. The Corporation had
$1.5 million in operating costs for 1996,
representing 0.13 percent of average
Of this amount, the Corpora-

s fixed costs for its permanent staff,

travel, rent, and miscellaneous expenses
totaled $1.2 million. Contract services
represented the balance of operating
expenses of $0.3 million. These
expenses include amounts reimbursed
to the FCA for examination and other
support and amounts paid to other
contractors for services.

The Corporation’s operating costs
as a percentage of average assets have
declined over the past five years as
shown in Chart 8.

Corporation Operating Expenses as a Percentage of Assets
Percent

04
0.3
02
: i ‘ 5 le «

0

1992 1993 1994 1995 1996
Chart 8