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| Publication
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15-Jul-2003 |
| Credit Analyst: |
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Jeffrey Wolinsky, CFA, New York (1) 212-438-2117;
William H Chew, New York (1) 212-438-7981 |
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| Credit Rating: |
A/Stable/A-1 |
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 Rationale
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Standard & Poor's Ratings Services changed its outlook
on National Rural Utilities Cooperative Finance Corp. (CFC) to
stable from negative. All associated ratings are affirmed (see
list below).
The change in outlook is due to CFC successfully meeting
the financial targets Standard & Poor's set when the
ratings were lowered to their current level in April 2001. The
rating targets include bringing commercial paper levels to
less than 22.5% of total debt (9% as of Feb. 28, 2003);
reducing the debt to equity ratio to 6x (5.89x as of Feb. 28,
2003); reducing exposure to large speculative-grade loans,
particularly in the telecommunications sector through
amortization of existing loans, loan syndications and minimal
new loans to these entities; and setting reserves at a level
appropriate for the risks associated with the portfolio.
Regarding the level of reserves, Standard & Poor's has
reviewed CFC's new reserve methodology and concludes that both
the methodology and the current allocated reserves are
appropriate for the current ratings and stable outlook.
CFC's ratings continue to be supported by its ability to
increase margins and pass through increases in funding costs
to borrowers on a historical basis, consistent and sound
financial performance, strong security provisions,
historically good asset performance, and a strengthened
financial position.
CFC's credit strength is offset by credit weakness among
some of its top borrowers. Although all borrowers are
currently servicing their debt according to the terms of their
loan documents, some face credit pressures. Uncertainty
remains regarding the impairment of the $304 million real
estate loan portfolio, which CFC received in the bankruptcy
settlement with Coserv at a fair value of $325 million.
Although CFC believes that the write down will cover the
impairment, Standard & Poor's believes that there is
additional potential impairment that may not be covered by the
write down. CFC's loan portfolio continues to exhibit high
credit concentration in CFC's top 10 borrowers, and rural
telecommunication company concentration among its top 10. The
top 10 borrowers constituted 24% of total loans, and loans to
rural telecom companies accounted for 25% of total loans as of
Feb. 28, 2003, down from 27% at fiscal year-end 2001.
CFC's top 10 borrowers consist of five rural local exchange
telecom companies, two generation and transmission (G&T)
cooperatives, two electric distribution cooperatives, and one
associate member. Standard & Poor's has evaluated CFC's
top 10 borrowers and concluded that, though they are current
on debt service, half exhibit speculative-grade
characteristics. CFC had reserves for 1.63% of its general
portfolio of loans--those loans not classified as impaired or
high risk--as of Feb. 28, 2003. In addition, CFC had reserves
of 2.6% of its total loans and guarantees outstanding.
Liquidity.
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Liquidity should continue to be strong. CFC practices
moderate financial policies and has done much to
strengthen its financial flexibility over the past year,
particularly decreasing its reliance on the commercial
paper (CP) market by paying down $3 billion in CP with
long-term debt. CFC's goal is to maintain dealer CP at
levels below 15%-20% of total debt and to maintain
liquidity backup of 100% of CP plus tax-exempt standby
liquidity. As of Feb. 28, 2003, CFC had about $298
million of cash and short-term investments. In addition,
CFC had three lines of credit totaling $3.8 billion as
of March 6, 2003. The lines consist of two 364-day
facilities as well as a $1 billion three-year agreement
that terminates in August 2004. There are currently no
draws against the credit agreements, but they are used
to backstop commercial paper. Pricing on the three
credit agreements is based on LIBOR and the credit
rating of CFC. To secure borrowings under the credit
agreements, CFC's minimum TIER must be 1.025 over the
previous six quarters and leverage must be under 10x. As
of Feb. 28, 2003, CFC was in compliance with all
covenants and conditions under the agreements. The
credit agreements do not include a material adverse
change clause.
There are ratings triggers associated with CFC's
$10.3 billion of interest rate exchange agreements. If
CFC's or its counterparty's ratings were to fall to
'BBB+', either counterparty may terminate the agreements
with a notional amount of $2.1 billion. If either
counterparty's ratings were to fall below 'BBB+', either
counterparty may terminate the agreements with a
notional amount of $8.2 billion. Upon termination, there
may be a payment due from one counterparty to the other,
based on the underlying value of the derivative
instrument.
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Outlook
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The stable outlook reflects the appropriate capital
structure and level of reserves for the rating. The rating is
expected to remain stable over the near-term, as the portfolio
asset quality is expected to remain stable the capital
structure is expected to remain at current levels. Over time,
the rating could be raised if the portfolio quality improves
and exposure to telecom loans falls below 20% and the current
capital structure is maintained. Conversely, because of the
concentration of the portfolio among the top ten borrowers, a
default of multiple large borrowers or significant
deterioration in the capital structure could cause a
downgrade.
Rating List
AFFIRMED/OUTLOOK STABLE
National Rural Utilities Cooperative Finance Corp.
Corporate credit rating A/A-1
Sr. secured debt A+
Sr. unsecured debt A
Preferred stock (QUICS) BBB+
Commercial paper A-1
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