Attached files
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2011
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 333-25029
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
(Exact name of registrant as specified in its charter)
NEW YORK
(State or other jurisdiction of incorporation or organization)
(36-7233686)
(I.R.S. Employer Identification Number)
20701 Cooperative Way, Dulles, VA 20166-6691
(Address of principal executive offices)
(Registrant's telephone number, including area code, is 703-467-1800)
Securities Registered pursuant to Section 12(b) of the Act: None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes x No ¨
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained to the best of the registrant's knowledge in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer ¨ Accelerated filer ¨ Non-accelerated filer x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
The Registrant has no common or voting stock.
Part I
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Item 3.
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Legal Proceedings
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None.
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Item 4.
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Mine Safety Disclosures
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Inapplicable
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Part II
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Item 8.
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Financial Statements and Supplementary Data
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See attached audited financial statements.
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Item 9.
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Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
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None.
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Item 9B.
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Other Information
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Servicing Criteria and Servicer Compliance Statement.
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The Trust, which was created in and has been a reporting entity since 1997, files periodic reports as proposed in connection with a written no-action position obtained from the staff of the Division of Corporation Finance of the Securities and Exchange Commission related to trusts like this Trust. This proposal did not, and therefore the Servicing Agreement and other documentation related to the Trust do not, require the servicer or the trustee to provide a servicer compliance statement or to have an external auditor attest to the servicer’s compliance. As a result, no reports on assessment of compliance with servicing criteria for asset-backed securities or related attestation reports on assessment of compliance with servicing criteria have been included with this report. An annual audit of the financial statements is performed as required by the Trust agreement.
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Part III
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Item 13.
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Certain Relationships and Related Transactions, and Director Independence
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None.
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Part IV
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Item 15.
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Exhibits and Financial Statement Schedules
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(a)
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The following documents are filed as part of this report:
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1.
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Financial Statements
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Report of Independent Registered Public Accounting Firm
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Balance Sheets as of December 31, 2011 and 2010
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Statements of Income and Expenses for the Years Ended December 31, 2011, 2010 and 2009
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Statements of Changes in Deficit for the Years Ended December 31, 2011, 2010 and 2009
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Statements of Cash Flows for the Years Ended December 31, 2011, 2010 and 2009
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Notes to Financial Statements
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2.
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Financial Statement Schedules are omitted because they are inapplicable.
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3.
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Exhibits
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Exhibit
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Number
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Description of Exhibit
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4.1
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Form of Trust Agreement, including the form of Rural Electric Cooperative Grantor Trust Certificate (incorporated by reference to Exhibit 4.1 to Registration Statement on Form S-1 [No. 333-25029]).
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4.2
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First Amendment to Trust Agreement (incorporated by reference to Exhibit 4.2 to Registration Statement on Form S-1 [No. 333-25029]).
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10.1
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Loan Agreement dated as of February 15, 1988 between National Rural Utilities Cooperative Finance Corporation (“CFC”) and the Cooperative (including form of Note and Guarantee) (incorporated by reference to Exhibit 10.1 to Registration Statement on Form S-1 [No. 33-16789 filed on August 27, 1987]).
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10.2
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First Amendment to Loan Agreement (incorporated by reference to Exhibit 10.2 to Registration Statement on Form S-1 [No. 333-25029]).
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10.3
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Loan Guarantee and Servicing Agreement, dated as of February 15, 1988, among the Administrator of the RUS, the Cooperative, the Servicer, the Lender and the Trustee (incorporated by reference to Exhibit 10.2 to Registration Statement on Form S-1
[No. 33-16789 filed on August 27, 1987]).
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10.4
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First Amendment to Loan Guarantee and Servicing Agreement (incorporated by reference to Exhibit 10.4 to Registration Statement on Form S-1 [No. 333-25029]).
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10.5
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Remarketing Agreement (incorporated by reference to Exhibit 10.5 to Registration Statement on Form S-1 [No. 333-25029]).
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10.6
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Swap Agreement (incorporated by reference to Exhibit 10.6 to Registration Statement on Form S-1 [No. 333-25029]).
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10.7
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Liquidity Protection (incorporated by reference to Exhibit 10.7 to Registration Statement on Form S-1 [No. 333-25029]).
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10.8
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Form of Standby Certificate Purchase Agreement (incorporated by reference to Exhibit 10.8 to Registration Statement on Form S-1 [No. 333-25029]).
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12
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Computations of ratio of margin to fixed charges.
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99
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JP Morgan Chase & Co. (successor to Morgan Guaranty Trust Co. of NY) and Morgan Guaranty Trust Company of New York (Swap Counterparty) Financial Information.
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31.1
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Certification of the Chief Executive Officer required by Section 302 of the Sarbanes-Oxley Act of 2002.
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31.2
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Certification of the Chief Financial Officer required by Section 302 of the Sarbanes-Oxley Act of 2002.
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32.1
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Certification of the Chief Executive Officer required by Section 906 of the Sarbanes-Oxley Act of 2002.
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32.2
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Certification of the Chief Financial Officer required by Section 906 of the Sarbanes-Oxley Act of 2002.
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101.01
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XBRL Instance Document. Includes financial statements from the Annual Report on Form 10-K of the Trust for the year ended December 31, 2011, formatted in XBRL: (i) Balance Sheets, (ii) Statements of Income and Expenses, (iii) Statements of Changes in Deficit, (iv) Statements of Cash Flows and (v) Notes to Financial Statements.
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Supplemental information to be furnished with reports filed pursuant to Section 15(d) of the Act by Registrants which have not registered securities pursuant to Section 12 of the Act.
No annual report, proxy statement, form of proxy or other proxy soliciting material has been sent to Certificate holders, and the Registrant does not presently contemplate sending any such material subsequent to the filing of this report.
Pursuant to the requirements of Section 13 or 15(d) of the Securities Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the County of Fairfax, Commonwealth of Virginia on the 5th day of March, 2012.
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
By:NATIONAL RURAL UTILITIES COOPERATIVE
FINANCE CORPORATION as Servicer
By: /s/ SHELDON C. PETERSEN
Sheldon C. Petersen, Governor and
Chief Executive Officer
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Trustee of
Rural Electric Cooperative Grantor Trust
(KEPCO) Series 1997
Dulles, Virginia,
and
To the Board of Directors of
National Rural Utilities Cooperative Finance Corporation
Dulles, Virginia
We have audited the accompanying balance sheets of Rural Electric Cooperative Grantor Trust (KEPCO) Series 1997 (the “Trust”) as of December 31, 2011 and 2010, and the related statements of income and expenses, changes in deficit, and cash flows for each of the three years in the period ended December 31, 2011. These financial statements are the responsibility of the Trust’s management. Our responsibility is to express an opinion on the financial statements based on out audits.
We conducted our audits in accordance with the standards of Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Trust is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Trust’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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, such financial statements present fairly, in all material respects, the financial position of the Trust as of December 31, 2011 and 2010, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2011, in conformity with accounting principles generally accepted in the United States of America.
/s/ DELOITTE & TOUCHE LLP
McLean, Virginia
March 5, 2012
1
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
BALANCE SHEETS
ASSETS
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DECEMBER 31,
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2011
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2010
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Interest receivable - KEPCO
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$
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171,781
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$
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193,897
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Interest receivable - swap counterparty
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8,040
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21,326
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Notes receivable
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27,540,000
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31,440,000
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Total assets
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$
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27,719,821
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$
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31,655,223
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LIABILITIES AND DEFICIT
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Liabilities
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Interest payable - Grantor Trust Certificates
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$
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8,040
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$
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21,326
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Servicer fees payable
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2,103
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2,374
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Interest payable - swap counterparty
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169,678
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191,523
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Rural Electric Cooperative Grantor Trust Certificates
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27,540,000
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31,440,000
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Derivative liability
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5,731,045
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6,504,121
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Total liabilities
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33,450,866
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38,159,344
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Commitments and contingencies
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Deficit
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Accumulated deficit
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(6,477,062)
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(7,502,775
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)
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Accumulated other comprehensive income
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746,017
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998,654
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Total deficit
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(5,731,045)
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(6,504,121
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Total liabilities and deficit
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$
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27,719,821
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$
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31,655,223
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See accompanying Notes to Financial Statements
2
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
STATEMENTS OF INCOME AND EXPENSES
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YEAR ENDED DECEMBER 31,
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2011
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2010
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2009
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INCOME
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Interest on notes receivable
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$
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2,374,506
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$
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2,641,836
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$
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2,878,778
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Total income
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2,374,506
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2,641,836
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2,878,778
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EXPENSES
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Interest to certificate holders
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(155,118)
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(325,119)
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(692,179)
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Servicer fees
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(29,068)
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(32,340)
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(35,241)
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Total expenses
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(184,186)
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(357,459)
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(727,420)
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Derivative unrealized/realized (loss) gain, net
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(1,164,607)
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(1,775,990)
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1,203,095
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Net income
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$
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1,025,713
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$
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508,387
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$
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3,354,453
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See accompanying Notes to Financial Statements.
3
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
STATEMENTS OF CHANGES IN DEFICIT
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Accumulated
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Other
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Accumulated
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Comprehensive
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Total
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Deficit
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Income
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Deficit
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Balance – December 31, 2008
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$
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(11,365,615)
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$ |
1,585,085
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$ |
(9,780,530)
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Amortization of transition adjustment
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-
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(305,670)
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(305,670)
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Net income
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3,354,453
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-
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3,354,453
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Total comprehensive income
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3,048,783
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Balance – December 31, 2009
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(8,011,162)
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1,279,415
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(6,731,747)
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Amortization of transition adjustment
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-
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(280,761)
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(280,761)
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Net income
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508,387
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-
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508,387
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Total comprehensive income
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227,626
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Balance – December 31, 2010
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(7,502,775)
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998,654
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(6,504,121)
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Amortization of transition adjustment
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-
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(252,637)
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(252,637)
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Net income
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1,025,713
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-
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1,025,713
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Total comprehensive income
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773,076
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Balance – December 31, 2011
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$
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(6,477,062)
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$
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746,017
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$
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(5,731,045)
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See accompanying Notes to Financial Statements.
4
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
STATEMENTS OF CASH FLOWS
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YEAR ENDED DECEMBER 31,
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2011
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2010
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2009
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CASH FLOWS FROM OPERATING ACTIVITIES
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Net income
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$
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1,025,713
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$
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508,387
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$
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3,354,453
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Adjustments to reconcile net income to net cash provided by operating activities:
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Decrease in interest receivable - KEPCO
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22,116
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19,752
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17,621
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Decrease in interest receivable - swap counterparty
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13,286
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22,641
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75,435
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Derivative unrealized gain
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(1,025,713)
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(508,387)
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(3,354,453
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Decrease in interest payable- Grantor Trust Certificates
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(13,286)
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(22,641)
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(75,435
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)
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Decrease in interest payable - swap counterparty
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(21,845)
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(19,510)
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(17,405
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Decrease in servicer fees payable
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(271)
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(242)
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(216
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)
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Net cash provided by operating activities
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-
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-
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-
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CASH FLOWS FROM INVESTING ACTIVITIES
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Principal received on notes receivable
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3,900,000
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3,500,000
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3,100,000
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Net cash provided by investing activities
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3,900,000
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3,500,000
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3,100,000
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CASH FLOWS FROM FINANCING ACTIVITIES
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Principal payment to certificate holders
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(3,900,000)
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(3,500,000)
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(3,100,000
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)
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Net cash used in financing activities
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(3,900,000)
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(3,500,000)
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(3,100,000
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)
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NET INCREASE IN CASH
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-
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-
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-
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CASH - Beginning of Year
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-
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-
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-
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CASH - End of Year
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$
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-
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$
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-
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$
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-
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SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
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Cash paid during the year for interest expense on certificates
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$
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168,404
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$
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347,760
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$
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767,614
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See accompanying Notes to Financial Statements.
5
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2011, 2010 AND 2009
1. ORGANIZATION AND OPERATIONS
Rural Electric Cooperative Grantor Trust (KEPCO) Series 1997 (the “Trust”) was formed under a Trust Agreement dated December 20, 1996, among National Rural Utilities Cooperative Finance Corporation (“CFC”), Kansas Electric Power Cooperative, Inc. (the “Cooperative”) and Bank One, formerly The First National Bank of Chicago (the “Trustee”). The assets of the Trust consist of lender loan notes (the “1997 Notes”) bearing interest at 7.597% and maturing in 2017.
The 1997 Notes originated from a transaction whereby CFC refinanced loans from the Federal Financing Bank, guaranteed by the Rural Utilities Service (“RUS” – previously Rural Electrification Administration) and in exchange CFC received from the Cooperative the 1997 Notes which CFC subsequently placed into two trusts, K-1 and K-2 that have since been terminated and replaced by the Series 1997 Trust. The 1997 Notes are guaranteed (the “Guarantee”) as to timely payment of principal and interest by the United States of America, acting through the Administrator of RUS. The General Counsel of the United States Department of Agriculture has issued an opinion that the Guarantee is supported by the full faith and credit of the United States of America. The Trust issued Certificates of beneficial interest (the “Series 1997 Certificates”) which bear interest at a variable rate and mature in 2017. In the course of refinancing, certificates of beneficial interest were sold to third party investors. CFC no longer holds a continuing interest in the Trust.
Effective September 2, 2004, U. S. Bank Trust National Association (“U.S. Bank”) replaced Bank One as Trustee.
The Trust also holds certain rights the Cooperative assigned to the Trust under an interest rate swap agreement. The swap agreement was put into place in order to mitigate the interest rate risk inherent in the Trust, which holds a fixed rate asset (the 1997 Notes) and a variable rate obligation. The counterparty to the swap is JP Morgan Chase & Co. (“JP Morgan”). Pursuant to the swap agreement, the Trust pays to JP Morgan a fixed rate of interest on the outstanding notional amount, and JP Morgan pays the Trust a variable rate of interest on the outstanding notional amount. The structure is designed such that the interest amounts paid by the Cooperative to the Trust are the same amounts paid to JP Morgan, pursuant to the swap agreement, plus the amounts payable to CFC, as servicer. The amounts JP Morgan pays to the Trust under the swap agreement are the same amounts as the interest payable by the Trust to the Series 1997 Certificate holders.
The notional amount of the swap agreement (which is not included on the Trust’s balance sheet) was established at $57,390,000 and declines in amount over time such that the outstanding notional amount is always equal to the outstanding balance of the 1997 Notes and the Series 1997 Certificates. The swap agreement terminates in 2017, but is subject to early termination upon the early redemption of the Series 1997 Certificates.
JP Morgan provides a liquidity facility with respect to the Series 1997 Certificates until such time as all outstanding Series 1997 Certificates have been paid in full. Investors have the right to put the certificates back to the remarketing agent in the event they are unable to resell the certificates. The remarketing agent is Goldman Sachs & Co. as successor to the original remarketing agent, Alex Brown & Sons.
Basis of Presentation
The accompanying financial statements are prepared under the accrual method of accounting in conformity with accounting principles generally accepted in the United States of America.
Use of Estimates
The preparation of financial statements requires the Trust’s management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reported period. The estimates involve judgments with respect to, among other things, various future factors which are difficult to predict and are beyond the control of the Trust. Actual amounts could differ from these estimates. Areas in which estimates have been made include, but are not limited to, the fair value of derivative financial instruments.
6
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2011, 2010 AND 2009
Notes Receivable, Interest, and Servicer Fee Accounting
The Trust accounts for its notes receivable at cost. No allowance for loan losses has been recorded due to the guarantee provided by the United States of America.
The Trust records interest income as it is earned and accrues interest expense and servicer fees as they are incurred. Servicer fees are accrued at 0.093% of the outstanding principal balance of the Note.
Fair Value of Financial Instruments
The carrying amounts reported for interest receivable, interest payable, and servicer fees payable approximate fair values due to the short-term maturity of these instruments. See Note 4, Fair Value of Financial Instruments for additional information.
Derivative Financial Instruments
The Trust uses an interest rate swap to mitigate variability in its interest rate risk. The cash flows associated with the swap are determined by any changes in the underlying interest rates.
The Trust is neither a dealer nor a trader in derivative financial instruments.
Comprehensive Income
Comprehensive income includes other comprehensive income related to the transition adjustment recorded upon adoption of the accounting guidance related to derivative financial instruments. The transition adjustment represents the difference between the derivative’s carrying amount prior to adoption of the accounting guidance related to derivative financial instruments and its fair value after adoption.
Tax Status of the Trust
It is expected that the Trust will not have any liability for federal or state income taxes for the current or future years because the Trust is a pass-through entity that is not subject to income taxes.
Grantor Trust Certificates
Principal payments on the Trust Certificates began in 1998 and will extend over a period of twenty years. The principal payments over the next six years through maturity of the loan in 2017, are as follows:
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Years Ending December 31,
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2012
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$4,300,000
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||
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2013
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4,800,000
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||
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2014
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5,300,000
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2015
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5,900,000
|
||
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2016
|
4,000,000
|
||
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2017
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3,240,000
|
||
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Total
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$27,540,000
|
||
7
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2011, 2010 AND 2009
The Certificates are subject to redemption by the Cooperative, through the Trust, at any time at the remaining principal amount plus accrued interest. In the event of a continuing default, the RUS, as guarantor, may prepay or purchase the 1997 Notes at that time. The principal payments received on the 1997 Notes from the Cooperative coincide with the payments due to the Series 1997 Certificate holders.
Each Series 1997 Certificate represents an undivided fractional interest in the Trust. CFC is the depositor of the Trust and acts as servicer of the 1997 Notes.
New Accounting Pronouncements
In June 2011, the Financial Accounting Standards Board issued Accounting Standard Update No 2011-05, Presentation of Comprehensive Income, which clarifies the new accounting guidance on the presentation of comprehensive income in financial statements. The new guidance requires entities to report components of comprehensive income in either a continuous statement of comprehensive income or two separate but consecutive statements. This new accounting guidance will be effective for the Trust for fiscal years beginning after December 15, 2011. The adoption of this guidance, which involves disclosures only, is not expected to have any impact on our financial position and results of operations. In December 2011 the board issued Accounting Standard Update No. 2011-12, Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05, which defers the presentation requirements for reclassification adjustments and the needs for additional information about reclassification adjustments, but entities should continue to report reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before Update No. 2011-05. All other requirements in Update No. 2011-05 are not affected by Update No. 2011-12.
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2.
|
DERIVATIVE
|
On January 1, 2001, the Trust recorded a derivative asset of $4,628,105 with a corresponding credit to other comprehensive income representing a transition adjustment upon the adoption of the accounting guidance related to derivative financial instruments. The interest rate swap agreement was recorded at fair value on the balance sheet. The interest rate swap was not designated as a hedge on January 1, 2001, and has not been designated as a hedge since that date. Therefore, all changes in the fair value of the interest rate swap subsequent to January 1, 2001 have been recorded through earnings as an unrealized gain (loss).
The interest rate swap had a negative fair value of $5,731,045 and $6,504,121 and is reflected on the balance sheet as a derivative liability as of December 31, 2011 and 2010, respectively. For the years ended December 31, 2011, 2010 and 2009, respectively, the Trust recorded mark-to-market adjustments of $1,025,713, $508,387 and $3,354,453, respectively, which decreased expenses and are reflected in the statements of income and expenses as a component of derivative unrealized/realized (loss) gain, net. For the years ended December 31, 2011, 2010 and 2009, respectively, the Trust recorded income on interest from swap counterparty of $155,118, $325,119 and $692,179 for the receive variable leg of the interest rate swap and recorded expenses on interest to swap counterparty of and $2,345,438, $2,609,496 and $2,843,537 for the pay fixed leg of the interest rate swap. In addition, amortization of $252,637, $280,761 and $305,670 related to the transition adjustment from other comprehensive income was recorded for the years ended December 31, 2011, 2010, and 2009, respectively. A total of $221,298 is expected to be amortized over the next twelve months. The transition adjustment will continue to be amortized over the life of the interest rate swap, which matures on December 4, 2017.
Income and losses recorded for our interest rate swap are summarized below for the years ended December 31:
|
2011
|
2010
|
2009
|
|||||||||
|
Statement of income and expenses:
|
|||||||||||
|
Agreements that do not qualify for hedge accounting
|
|||||||||||
|
Derivative realized loss (1)
|
$
|
(2,190,320
|
) |
$
|
(2,284,377
|
) |
$
|
(2,151,358
|
) | ||
|
Derivative unrealized gain (2)
|
1,025,713
|
508,387
|
3,354,453
|
||||||||
|
Derivative unrealized/realized (loss) gain, net
|
$
|
(1,164,607
|
) |
$
|
(1,775,990
|
) |
$
|
1,203,095
|
(1) Represents the net amount of interest received from the swap counterparty and interest paid to the swap counterparty.
(2) Includes amortization of transition adjustment (see statements of changes in deficit).
8
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2011, 2010 AND 2009
|
3.
|
FAIR VALUE MEASUREMENTS
|
The Trust makes estimates regarding valuation of assets and liabilities measured at fair value in preparing the financial statements. Fair value accounting guidance requires the Trust to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.
Fair value measurement accounting guidance established the following fair value hierarchy:
· Level 1 — Quoted prices for identical instruments in active markets.
· Level 2 — Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.
· Level 3 — Instruments whose significant value drivers are unobservable.
The Trust’s only asset or liability that is measured at fair value on a recurring or nonrecurring basis is the derivative instrument. The fair market value is provided by the swap counterparty and is estimated taking into account the current market rate of interest.
The Fair Value Option for Financial Assets and Financial Liabilities established the fair value option, which permits entities to choose to measure eligible financial instruments at fair value. The Trust elected not to measure eligible financial instruments at fair value and, therefore, the adoption of this guidance did not have an impact on the Trust’s financial statements.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The Trust accounts for its interest rate swap in accordance with the accounting guidance for derivative financial instruments, which establishes accounting and reporting standards requiring that derivative instruments (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at fair value. Because there is not an active secondary market for the type of derivative instrument the Trust uses, it obtains market quotes from the derivative counterparty to record the derivative at fair value. The market quote is based on expected future cash flows and estimated yield curves.
The Trust performs its own analysis to validate the market quotes obtained from the derivative counterparty. The Trust entered into the interest rate swap agreement with a highly rated counterparty that participates in the Servicer’s revolving credit agreements. The interest rate swap agreement contains master netting arrangements as part of the ISDA agreement.
The Trust records the change in the fair value of its derivative for each reporting period in the derivative unrealized/realized gain (loss), net line item on the statement of income and expenses as the derivative does not qualify for hedge accounting.
The Trust’s valuation technique for derivatives is based upon observable inputs, which reflect market data. Fair value for the Trust’s derivative instruments falls under Level 2, as described above.
The following table presents the Trust’s liabilities measured at fair value on a recurring basis at December 31:
|
2011
|
2010
|
||||||
|
Level 1
|
Level 2
|
Level 3
|
Level 1
|
Level 2
|
Level 3
|
||
|
Liabilities
|
|||||||
|
Derivative liability
|
$ -
|
$ 5,731,045
|
$ -
|
$ -
|
$ 6,504,121
|
$ -
|
|
9
RURAL ELECTRIC COOPERATIVE GRANTOR TRUST (KEPCO) SERIES 1997
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2011, 2010 AND 2009
4. FAIR VALUE OF FINANCIAL INSTRUMENTS
Notes Receivable
Fair value is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.
Rural Electric Cooperative Grantor Trust Certificates
The Series 1997 Trust Certificates pay a variable rate of interest that is reset weekly, and as such are considered to be carried at fair value.
Derivative Liability
The fair market value is provided by the swap counterparty and is estimated taking into account the current market rate of interest.
The carrying and estimated fair values of the Trust’s financial instruments as of December 31, 2011 and 2010 are as follows:
|
2011
|
2010
|
||||||||
|
Carrying
|
Fair
|
Carrying
|
Fair
|
||||||
|
Value
|
Value
|
Value
|
Value
|
||||||
|
Assets:
|
|||||||||
|
Interest receivable - KEPCO
|
$
|
171,781
|
$
|
171,781
|
$
|
193,897
|
$
|
193,897
|
|
|
Interest receivable – swap counterparty
|
8,040
|
8,040
|
21,326
|
21,326
|
|||||
|
Notes receivable
|
27,540,000
|
32,934,346
|
31,440,000
|
37,625,617
|
|||||
|
Liabilities:
|
|||||||||
|
Interest payable – Grantor Trust Certificates
|
$
|
8,040
|
$
|
8,040
|
$
|
21,326
|
$
|
21,326
|
|
|
Servicer fees payable
|
2,103
|
2,103
|
2,374
|
2,374
|
|||||
|
Interest payable – swap counterparty
|
169,678
|
169,678
|
191,523
|
191,523
|
|||||
|
Rural Electric Cooperative
|
|||||||||
|
Grantor Trust Certificates
|
27,540,000
|
27,540,000
|
31,440,000
|
31,440,000
|
|||||
|
Derivative liability
|
5,731,045
|
5,731,045
|
6,504,121
|
6,504,121
|
|||||
10