AGNC reported 3Q2010 earnings of $1.69/share and dividend of $1.40/share

AGNC just released it 3Q2010 earnings.  You can read the whole press release at this link http://finance.yahoo.com/news/AGNC-Reports-169-Earnings-Per-prnews-187565066.html?x=0&.v=1

 

Some highlights include:

THIRD QUARTER 2010 FINANCIAL HIGHLIGHTS

• $1.69 per share of net income
  • $1.11 per share, excluding $0.59 per share of other investment related income and $0.01 per share of accrued excise tax
• $1.59 per share of taxable income
• $1.40 per share dividend declared

I find the "other investment related income" interesting.  They sold agency securities.  Did they sell them to lower the dividend payout ratio?

 

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AGNC 3Q2010 earnings release

Press Release Source: American Capital Agency Corp. 

On Tuesday October 26, 2010, 4:20 pm EDT

BETHESDA, Md.

, Oct. 26 /PRNewswire-FirstCall/ -- American Capital Agency Corp. ("AGNC" or the "Company") (Nasdaq:AGNC - News) today reported net income for the third quarter of 2010 of $60.0 million, or $1.69per share, and book value of $23.43 per share.

THIRD QUARTER 2010 FINANCIAL HIGHLIGHTS

• $1.69 per share of net income
  • $1.11 per share, excluding $0.59 per share of other investment related income and$0.01 per share of accrued excise tax
• $1.59 per share of taxable income
• $1.40 per share dividend declared
• $0.99 per share of undistributed taxable income as of September 30, 2010
  • Undistributed taxable income was $39 million as of September 30, 2010, a $2 millionincrease from June 30, 2010
  • $0.74 per share, pro forma, when adjusted for the $328 million follow-on equity offering that settled on October 1, 2010
• $23.43 book value per share as of September 30, 2010
  • $23.78 per share, pro forma, when adjusted for the follow-on equity offering
• 27.9% annualized return on average stockholders' equity ("ROE") for the quarter

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AGNC analysis of the income account> losses of subsidiaries

You should carefully examine the consolidated earnings statements of companies that own subsidiaries and significant interest in other companies.  Some companies in the past have under reported the losses of their subsidiaries and manipulated the surplus account in nefarious ways in order to make their earnings per share look less volatile.  You should adjust the earnings of the company you are analyzing accordingly to determine their true earning power.

American Capital Agency Corp. (AGNC) is a subsidiary of American Capital Ltd (ACAS).  I’m not analyzing the parent company, so I’m not going to go through the pains of investigating American Capital. 

American Capital Agency Corp. (AGNC) owns a single wholly-owned subsidiary called American Capital Agency TRS, LLC.  I learned this from Note 1 in its most recent 10-K filing.

Here is the hierarchy:

American Capital LTD owns American Capital LLC which owns American Capital Agency Corp.

Note 1. Unaudited Interim Consolidated Financial Statements

The interim consolidated financial statements of American Capital Agency Corp. (together with its consolidated subsidiary, is referred throughout this report as the “Company”, “we”, “us” and “our”) are prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and pursuant to the requirements for reporting on Form 10−Q and Article 10 of Regulation S−X. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates.

Our unaudited consolidated financial statements include the accounts of our wholly−owned subsidiary, American Capital Agency TRS, LLC.  Significant intercompany accounts and transactions have been eliminated. In the opinion of management, all adjustments, consisting solely of normal recurring accruals, necessary for the fair presentation of financial statements for the interim period have been included. The current period’s results of operations are not necessarily indicative of results that ultimately may be achieved for the year. There has been no activity in American Capital Agency TRS, LLC during the six months ended June 30, 2010 and 2009.

 

AGNC has consolidated the accounts of its subsidiary into its reported.  I don’t see any manipulation or hiding of losses by AGNC.  No adjustments to the earnings are necessary for the profits/losses of subsidiaries.

Here is the summary paragraph from the end of the section on losses of subsidiaries in the wonderful book Securities Analysis.

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To avoid leaving this point in confusion, we shall summarize our treatment by suggesting:

1.       In the first instance, subsidiary losses are to be deducted in every analysis [of the income account]

2.       If the amount involved is significant, then the analyst should investigate whether or not the losses may be subject to early termination.

3.       If the result of this examination is favorable, the analyst may consider all or part of the subsidiary’s loss as the equivalent of a nonrecurring item.

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AGNC analysis of the income account> Fictitious value placed on stock dividends received

American Capital Agency Corp. (AGNC) does not own any controlling interest in another company’s stock.  Also, it has never received any stock dividends.  Therefore, no adjustments to its earnings are necessary for fictitious value placed on stock dividends received.

Read the relevant section from Securities Analysis below to see how some other companies in the past have padded their earnings with fictitious stock dividend values.

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Fictitious Value Placed on Stock Dividends Received. From 1922 on most of the United Cigar Stores common shares were held by Tobacco Products Corporation, an enterprise controlled by the same interests. This was an important company, the market value of its shares averaging more than $100,000,000 in 1926 and 1927. The accounting practice of Tobacco Products introduced still another way of padding the income account, viz., by placing a fictitious valuation upon stock dividends received.

For the year 1926 the company’s earnings statement read as follows:

Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $10,790,000

Income tax . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 400,000

Class A dividend . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,136,000

Balance for common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,254,000

Earned per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

Market range for common . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 117–95

Detailed information regarding the company’s affairs during that period has never been published (the New York Stock Exchange having been unaccountably willing to list new shares on submission of an extremely sketchy exhibit). Sufficient information is available, however, to indicate that the net income was made up substantially as follows:

Rental received from lease of assets to American Tobacco Co. . . . . . . . . . . $ 2,500,000

Cash dividends on United Cigar Stores common (80% of total paid) . . . . . $ 2,950,000

Stock dividends on United Cigar Stores common

(par value $1,840,000), less expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .$ 5,340,000

Total. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $10,790,000

It is to be noted that Tobacco Products must have valued the stock dividends received from United Cigar Stores at about three times their face value, i.e., at three times the value at which United Cigar charged them against surplus. Presumably the basis of this valuation by Tobacco Products was the market price of United Cigar Stores shares, which price was easily manipulated due to the small amount of stock not owned by Tobacco Products.

When a holding company takes into its income account stock dividends received at a higher value than that assigned them by the subsidiary that pays them, we have a particularly dangerous form of pyramiding of earnings. The New York Stock Exchange, beginning in 1929, has made stringent regulations forbidding this practice. (The point was discussed in Chap. 30.) In the case of Tobacco Products the device was especially objectionable because the stock dividend was issued in the first instance to represent a fictitious element of earnings, i.e., the appreciation of leasehold values. By unscrupulous exploitation of the holding-company mechanism these imaginary profits were effectively multiplied by three.

On a consolidated earnings basis, the report of Tobacco Products for 1926 would read as follows:

American Tobacco Co. lease income, less income tax, etc. . . . . . . . . . . . $2,100,000

80% of earnings on United Cigar Stores common . . . . . . . . . . . . . . . . . .$ 6,828,000*

$7,928,000

Class A dividend . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .$ 3,136,000

Balance for common . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $4,792,000

Earned per share . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $7.27

* Excluding leasehold appreciation.

The reported earnings for Tobacco Products common given as $11 per share are seen to have been overstated by about 50%.

It may be stated as a Wall-Street maxim that where manipulation of accounts is found, stock juggling will be found also in some form or other. Familiarity with the methods of questionable finance should assist the analyst and perhaps even the public, in detecting such practices when they are perpetrated.

AGNC analysis of the income account> morals from foregoing examples

To the best of my present knowledge AGNC has not manipulated it earnings using accounting gimmicks; therefore, you don’t need to avoid it for those reasons alone.  If this is the first post of mine that you are reading, then please type AGNC into the search box near the top of the blog.  That search will return a list of article I’ve written on AGNC.

I have a feeling that I’m not to be as forgiving to AGNC when I examine its assets.  Most of its assets are agency securities that are probably worth a lot less than AGNC claims in their 10-K filings with the SEC.

If investors would have followed the advice below they would save themselves the misery of owning Enron and MCI World Com to name just a few epic failures.

 

Here is the relevant excerpt from Securities Analysis:

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Moral Drawn from Foregoing Examples. A moral of considerable practical utility may be drawn from the United Cigar Stores example.  When an enterprise pursues questionable accounting policies, all its securities must be shunned by the investor, no matter how safe or attractive some of them may appear. This is well illustrated by United Cigar Stores Preferred, which made an exceedingly impressive statistical showing for many successive years but later narrowly escaped complete extinction.  Investors confronted with the strange bookkeeping detailed above might have reasoned that the issue was still perfectly sound, because, when the 

overstatement of earnings was corrected, the margin of safety remained more than ample. Such reasoning is fallacious. You cannot make a quantitative deduction to allow for an unscrupulous management; the only way to deal with such situations is to avoid them.

Politicians Exploit Economic Ignorance

by Walter E. Williams

Recently by Walter E. Williams: Liberals Confuse Me

One of President Obama's campaign promises was not to raise taxes on middle-class Americans. So here's my question: If there's a corporate tax increase either in the form of "cap and trade" or income tax, does it turn out to be a middle-class tax increase? Most people would say no but let's look at it.

There's a whole subject area in economics known as tax incidence – namely, who bears the burden of a tax? The first thing that should be recognized is that the burden of a tax is not necessarily borne by the party upon whom it is levied. That is, for example, if a sales tax is levied on gasoline retailers, they don't bear the full burden of the tax. Part of it is shifted to customers in the form of higher gasoline prices.

Suppose your local politician tells you, as a homeowner, "I'm not going to raise taxes on you! I'm going to raise taxes on your land." You'd probably tell him that he's an idiot because land does not pay taxes; only people pay taxes. That means a tax on your land is a tax on you. You say, "Williams, that's pretty elementary, isn't it?" Not quite.

What about the politician who tells us that he's not going to raise taxes on the middle class; instead, he's going to raise corporate income taxes as means to get rich corporations to pay their rightful share of government? If a tax is levied on a corporation, and if it is to survive, it will have one of three responses, or some combination thereof. One response is to raise the price of its product, so who bears the burden? Another response is to lower dividends; again, who bears the burden? Yet another response is to lay off workers. In each case, it is people, not some legal fiction called a corporation, who bear the burden of the tax.

Because corporations have these responses to the imposition of a tax, they are merely government tax collectors. They collect money from people and send it to Washington. Therefore, you should tell that politician, who promises to tax corporations instead of you, that he's an idiot because corporations, like land, do not pay taxes. Only people pay taxes.

Here's another tax question, even though it doesn't sound like it. Which workers receive higher pay: those on a road construction project moving dirt with shovels and wheelbarrows or those moving dirt atop a giant earthmover? If you said the worker atop the earthmover, go to the head of the class. But why? It's not because he's unionized or that construction contractors have a fondness for earthmover operators. It's because the worker atop the earthmover is working with more capital, thereby making him more productive. Higher productivity means higher wages.

It's not rocket science to conclude that whatever lowers the cost of capital formation, such as lowering the cost of investing in earthmovers, enables contractors to purchase more of them. Workers will have more capital to work with and as a result enjoy higher wages. Policies that raise the cost of capital formation such as capital gains taxes, low depreciation allowances and corporate taxes, thereby reduce capital formation, and serve neither the interests of workers, investors nor consumers. It does serve the interests of politicians who get more resources to be able to buy votes.

You might wonder how congressmen can get away with taxes and other measures that reduce our prosperity potential. Part of the answer is ignorance and the anti-business climate promoted in academia and the news media. The more important reason is that prosperity foregone is invisible. In other words, we can never tell how much richer we would have been without today's level of congressional interference in our lives and therefore don't fight it as much as we should.

October 5, 2010

Walter E. Williams is the John M. Olin distinguished professor of economics at George Mason University, and a nationally syndicated columnist. To find out more about Walter E. Williams and read features by other Creators Syndicate columnists and cartoonists, visit the Creators Syndicate web page.

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