NATIONAL RURAL UTILITIES COOPERATIVE FINANCE CORP DC

Reported Results

Net Income and TIER

The table below shows our net income and TIER for the periods presented and the variance between these periods. We provide a more detailed discussion of our reported results under the section “Consolidated Results of Operations.” See “Item 7. MD&A—Consolidated Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended May 31, 2023 (“2023 Form 10-K”) for a comparative discussion of our consolidated results of operations between FY2023 and FY2022.

Table 1: Net Income and TIER

(1)Calculated based on net income (loss) plus interest expense for the period divided by interest expense for the period.

FY2024 versus FY2023

The increase in net income was primarily driven by:

•An increase in derivative gains of $106 million, primarily from an increase in the net interest rate received on our pay-fixed swaps, which drove the higher derivative cash settlements income for FY2024;

•A favorable shift from losses to gains recorded on our investment securities of $16 million, primarily due to period-to-period market fluctuations in fair value;

•A favorable shift from provision to benefitfor credit losses of$6 million. We recorded a benefit for credit losses of$5 million for FY2024, resulting primarily from a decrease in the asset-specific allowance, partially offset by an increase in the collective allowance due to loan portfolio growth. In comparison, we recorded a provision for credit losses of$1 million for FY2023, driven primarily by an increase in the asset-specific allowance; and

•An increase in fee and other income of $5 million;

These were partially offset by:

•A decrease in net interest income of $61 million, attributable to a decrease in the net interest yield of 24 basis points, or 24%, to 0.74%, partially offset by an increase in average interest-earning assets of $2,138 million, or 7%; and

•An increase in operating and other expenses of $19 million.

The decrease in TIER for FY2024 compared with FY2023 were primarily driven by increased interest expense during FY2024.

Debt-to-Equity Ratio

Our debt-to-equity ratio decreased to 11.01 as of May 31, 2024, from 12.14 as of May 31, 2023, primarily due to an increase in equity resulting from our reported net income of$554 million for FY2024, which was partially offset by a decrease in equity of $10 million from CFC’s deconsolidation of RTFC and $113 million from the CFC Board of Directors’ authorized patronage capital retirements, of which $72 million was paid to members in September 2023 and$41 million was paid from CFC to RTFC in December 2023 in connection with the RTFC sale transaction, which is discussed further under “Note 1—Summary of Significant Accounting Policies.”

Non-GAAP Adjusted Results

Adjusted Net Income and Adjusted TIER

The table below shows our adjusted net income and adjusted TIER for the periods presented and the variance between these periods. Our financial goals focus on earning an annual minimum adjusted TIER of 1.10. We provide a more detailed discussion of our non-GAAP adjusted results under the section “Consolidated Results of Operations.” See “Item 7. MD&A—Consolidated Results of Operations” in our 2023 Form 10-K for a comparative discussion of our consolidated results of operations between FY2023 and FY2022.

Table 2: Adjusted Net Income and Adjusted TIER

FY2024 versus FY2023

The increase in adjusted net income was primarily driven by:

•An increase in adjusted net interest income of $32 million, driven by the combined impact of an increase in average interest-earning assets of $2,138 million, or 7%, and an increase in the adjusted net interest yield of 3 basis points, or 3%, to 1.11%;

•A favorable shift from losses to gains recorded on our investment securities of $16 million;

•A favorable shift from provision to benefit for credit losses of $6 million; and

•An increase in fee and other income of $5 million;

These were partially offset by:

•An increase in operating and other expenses of $19 million.

Adjusted Debt-to-Equity Ratio

Our financial goals focus on maintaining an adjusted debt-to-equity ratio at approximately 6-to-1 or below. The adjusted debt-to-equity ratio increased to 6.24 as of May 31, 2024 from 6.04 as of May 31, 2023, due to an increase in adjusted liabilities resulting from additional borrowings to fund growth in our loan portfolio, partially offset by an increase in adjusted equity. The increase in adjusted equity was primarily due to our adjusted net income of $289 million for FY2024, partially offset by a decrease in equity of$10 million from CFC’s deconsolidation of RTFC and$113 million from CFC Board of Directors’ authorized patronage capital retirements, as discussed above.

Lending and Credit Quality

We segregate our loan portfolio into segments based on the borrower member class, which consists of CFC distribution, CFC power supply, CFC statewide and associate, NCSC electric and NCSC telecom. Prior to the RTFC sale transaction on December 1, 2023, NCSC electric and NCSC telecom were referred to as NCSC and RTFC, respectively.

Loans to members totaled $34,542 million as of May 31, 2024, an increase of $2,010 million, or 6%, from May 31, 2023, reflecting net increases in long-term and line of credit loans of $1,710 million and $299 million, respectively. Our loan portfolio composition remained largely unchanged from May 31, 2023 with 78% of loans outstanding to CFC distribution borrowers,16% to CFC power supply borrowers,3%to NCSC electric borrowers,2% to NCSC telecom borrowers, and 1% to CFC statewide and associate borrowers as of May 31, 2024.

We believe the overall credit quality of our loan portfolio remained strong as of May 31, 2024. We had no loan charge-offs during FY2024. We recorded $1 million in net loan recoveries to previously charged-off loan amounts during FY2024. In comparison, we experienced net charge-offs totaling $15 million during FY2023, which resulted in an annualized net charge-off rate of 0.05% for FY2023.

We had one loan totaling $49 million classified as nonperforming as of May 31, 2024. In comparison, we had two loans totaling $89 million classified as nonperforming as of May 31, 2023. The reduction was due to the receipts of$40 million inpayments on nonperforming loans.

Our allowance for credit losses and allowance coverage ratio decreased to $49 million and 0.14%, respectively, as of May 31, 2024, from $53 million and 0.16%, respectively, as of May 31, 2023. The $4 million decrease in the allowance for credit losses reflected a reduction in the asset-specific allowance of $8 million, partially offset by an increase in the collective allowance of $4 million.

Financing and Liquidity

Total debt outstanding increased by $1,719 million, or 6%, to $32,718 million as of May 31, 2024, primarily due to borrowings to fund the increase in loans to our members. We issued an aggregate principal amount of long-term dealer medium-term notes totaling $3,750 million during FY2024, of which $3,150 million was at an average fixed interest rate of 5.05% with an average term of four years and $600 million was at floating interest rates with an average term of two years. We also issued $100 million of 7.125% subordinated deferrable debt due in 2053 during FY2024. Outstanding dealer commercial paper was $505 million as of May 31, 2024.

During FY2024, Fitch Ratings (“Fitch”), S&P Global Inc.(“S&P”) and Moody’s Investors Service (“Moody’s”) affirmed CFC’s credit ratings and stable outlook.

Our available liquidity consists of cash and cash equivalents, investments in debt securities and availability under committed bank revolving line of credit agreements, committed loan facilities under the USDA Guaranteed Underwriter Program and a revolving note purchase agreement with Farmer Mac. As of May 31, 2024, our available liquidity totaled $6,695 million andwas $314 million below our total scheduled debt obligations over the next 12 months of $7,009 million. In addition to our existing available liquidity, we expect to receive $1,552 million from scheduled long-term loan principal payments over the next 12 months.

We believe we can continue to roll over our member short-term investments of $3,328 million based on our expectation that our members will continue to reinvest their excess cash primarily in short-term investment products offered by CFC. Our members historically have maintained a relatively stable level of short-term investments in CFC. Member short-term investments in CFC have averaged $3,530 million over the last 12 fiscal quarter-end reporting periods. Our available liquidity as of May 31, 2024 was $3,014 million in excess of, or 1.8 times, our total scheduled debt obligations, excluding member short-term investments, over the next 12 months of $3,681 million.

Electric Cooperative Industry Trends and Developments

Emerging developments and trends in the electric cooperative sector continue to present opportunities as well as challenges for our electric cooperative members. These trends include (i) increased federal government programs and policies for electric utilities; (ii) increased electricity demand; (iii) grid reliability risk; (iv) increased focus on enhancing electric system resiliency and reliability; (v) evolving cooperative focus on clean energy supply investments; and (vi) expanded investments by many electric cooperatives to deploy broadband services.

Increased Federal Government Programs and Policies

The federal government has created various funding opportunities that electric cooperatives may take advantage of when deploying renewable energy and other clean energy technologies. The 2022 Inflation Reduction Act (“IRA”) included programs such as the USDA Empowering Rural American (“New ERA”) program, the Powering Affordable Clean Energy (“PACE”) program and a direct-pay tax credits for electric cooperatives. The New ERA program currently provides $9.7 billion specifically for electric cooperatives to build new clean energy systems.

The federal government has also finalized rules on the EPA greenhouse gas emission requirements for new and existing coal and natural gas power plants. CFC and electric cooperative partners are monitoring the potential impact to cooperatives. It is highly likely that the rule will be litigated similar to the Obama Administration’s Clean Power Plan.

Increased Electricity Demand

According to S&P, electricity demand is forecasted to grow substantially in all U.S. regions through 2040. Demand growth is driven primarily by new data centers and new manufacturing facilities in the coming decade followed by strong electric vehicle growth and beneficial electrification trends.

Rural electric cooperatives have become increasingly supportive of beneficial electrification, which refers to the replacement of fossil fuel-powered systems with electrical ones such as electric vehicles and heat pumps in a way that reduces overall emissions, while providing benefits to the environment and to households. The increased support among electric cooperatives reflects an expectation that beneficial electrification will result in increased sales, while also saving money for members and reducing carbon emissions.

Certain areas of the country will experience more growth than others, but we can expect significant investments in new power supply, transmission, and other related infrastructure in order to meet this expected demand.

Grid Reliability Risk

The 2023 Long-Term Reliability Assessment by the North American Electric Reliability Corporation (“NERC”) highlights the key risks to grid reliability. The report emphasizes challenges such as extreme weather events, including hurricanes, winter storms, and heatwaves, which can strain grid infrastructure and cause widespread outages. Additionally, the transition to cleaner energy sources presents reliability concerns due to the intermittent nature of renewable generation and its impact on grid stability. Cybersecurity threats also loom large, with increasing sophistication in attacks targeting critical infrastructure.

Increased Focus on Enhancing Electric System Resiliency and Reliability

We have observed an increase in capital investments by electric cooperatives to proactively strengthen existing electric systems as well as replace systems in the aftermath of damages from weather-related incidents, including hurricanes, winter storms and wildfires. The adverse impact on electric systems from weather-related incidents has resulted in a heightened awareness by electric cooperatives of the need to focus attention on making infrastructure upgrades to improve both the resiliency and reliability of electric systems.

Evolving Cooperative Focus on Clean Energy Supply Investments

Many electric power supply and electric distribution cooperatives are increasingly focused on efforts to identify potential opportunities to increase investments in renewable power supply, transmission and storage. This includes both on-balance sheet construction of renewable generation and off-balance sheet acquisition of renewable power through power purchase agreements. According to a report published in April 2024 by NRECA, electric cooperatives have nearly doubled their renewable capacity from 8.2 gigawatts to 15.8 gigawatts since 2016, including adding over 1.3 gigawatts of renewable capacity in 2023 alone.

Expanded Investments to Deploy Broadband Services

Many rural electric distribution cooperatives have made or are making infrastructure investments that include building fiber optic lines to improve electric grid system reliability, efficiency and cost savings, as fiber operations offer enhanced communication to monitor electric systems, identify outages and speed restoration. Some of these electric cooperatives are leveraging these fiber assets to offer access to broadband services to the communities they serve, either directly or by partnering with local telecommunication companies and others. We are currently aware of 212 broadband projects by different CFC member cooperatives, and we financed or are financing 125 of these 212 broadband projects. Capital expenditures for the completion of these 212 broadband projects are expected to total approximately $12,834 million. We believe that the capital expenditures for the completion of the broadband projects that we financed or are financing will total approximately $5,197 million. Our aggregate loans outstanding to CFC electric distribution cooperative members relating to broadband projects, which we started tracking in October 2017, increased to approximately $3,103 million as of May 31, 2024, from approximately $2,355 million as of May 31, 2023. The three states with the largest CFC loans outstanding for broadband projects were Arkansas, Missouri and Indiana, and broadband loans outstanding for these states totaled $396 million, $337 million and $334 million, respectively, as of May 31, 2024. Many of these broadband projects are also financially supported by various states and the federal government through grant programs, which reduces the investment risk for our electric cooperative members. We expect our member electric cooperatives to continue in their efforts to expand broadband access to unserved and underserved communities.

We believe the above trends and current investment priorities of our electric cooperative members will require funding and may result in an increased demand for capital from CFC.

Outlook

As further described below in the “Liquidity Risk—Projected Near-Term Sources and Uses of Funds” section, we currently anticipate net long-term loan growth of $1,628 million over the next 12 months. We also expect that our variable-rate line of credit loans outstanding will remain at approximately the current level over the same period.

Macroeconomic Outlook

In June 2024, the Federal Open Market Committee (“FOMC”) of the Federal Reserve signaled the expectation of no additional increases in the federal funds rate. The FOMC expects the U.S. economy to remain strong in 2024, with the median projected gross domestic product (“GDP”) growth rate at 2.1%, unchanged from its March 2024 projection. In addition, the Federal Reserve revised higher its inflation expectations again, with the Personal Consumption Expenditures(“PCE”) inflation for December 2024 now expected at +2.6% (up from +2.4% in March). The FOMC projection for U.S. unemployment in 2024 remains unchanged at 4%. Despite a fairly positive economic outlook and inflation remaining above the 2% long-term target, the FOMC projects 25 basis points of federal funds rate cuts in 2024, bringing the target rate to 5.00% - 5.25% by December 31, 2024, down from 75 basis points in federal funds rate cuts in 2024 that the committee projected in March. Further, the FOMC projects additional federal funds rate cuts in 2025, bringing the target rate to 4.00% - 4.25% by December 2025. Consensus market outlook for interest rates indicates declining interest rates across the yield curve in 2024 and 2025. Although the yield curve is expected to remain inverted throughout calendar year 2024, given the expected drop in short-term interest rates, the yield curve inversion is expected to narrow in 2024 and end in 2025.

Projected Reported Results

Based on our current forecast assumptions, including the yield curve forecast noted above, we project increases in our reported net interest income and net interest yield over the next 12 months compared with the 12-month period ended May 31, 2024. See “Market Risk—Interest Rate Risk Assessment” for an additional discussion.

Projected Non-GAAP Adjusted Results

Based on our current forecast assumptions, including the yield curve forecast noted above, we project:

•Decreases in our adjusted net interest income and adjusted net interest yield over the next 12 months relative to the 12-month period ended May 31, 2024, primarily due to the current yield curve assumptions and our balance sheet position. See “Market Risk—Interest Rate Risk Assessment” for an additional discussion.

•Decreases in our adjusted net income and adjusted TIER over the next 12 months, primarily attributable to increased operating expenses and a projected decrease in adjusted net interest income.

•Our adjusted debt-to-equity ratio will remain above our target of 6-to-1, primarily due to the projected increase in total debt outstanding to fund anticipated growth in our loan portfolio.

As stated above, we exclude the impact of unrealized derivative forward fair value gains and losses from our non-GAAP financial measures. As the majority of our swaps are long-term with an average remaining life of approximately 14 years as of May 31, 2024, the unrealized periodic derivative forward value gains and losses are largely based on future expected changes in longer-term interest rates, which we are unable to accurately predict for each reporting period over the next 12 months. Due to the difficulty in predicting these unrealized amounts, we are unable to provide without unreasonable effort a reconciliation of our forward-looking adjusted financial measures to the most directly comparable GAAP financial measures.