Navient Corporation — 2019 Q3 Form 10-Q Summary
Business context and reporting period
Navient provides education-loan ownership, origination, servicing and asset-recovery services, along with business-processing services for government and healthcare clients. The unaudited filing covers the three and nine months ended September 30, 2019, with comparisons to the corresponding 2018 periods. Reportable segments are Federal Education Loans, Consumer Lending, Business Processing and Other.
Key financial metrics
| Metric | Q3 2019 | Q3 2018 | 9M 2019 | 9M 2018 |
|---|---|---|---|---|
| Total interest income | $1,166 million | $1,241 million | $3,605 million | $3,639 million |
| Net interest income | $312 million | $306 million | $891 million | $932 million |
| Provision for loan losses | $64 million | $85 million | $208 million | $284 million |
| Net interest income after provisions | $248 million | $221 million | $683 million | $648 million |
| Other income | $196 million | $205 million | $637 million | $553 million |
| Operating expenses | $251 million | $255 million | $749 million | $731 million |
| Net income | $145 million | $114 million | $425 million | $323 million |
| Diluted EPS | $0.63 | $0.43 | $1.79 | $1.21 |
| Core Earnings net income | $142 million | $140 million | $454 million | $379 million |
GAAP net interest margin was 1.32% in the quarter and 1.24% year to date, compared with 1.17% in both comparable 2018 periods. Segment GAAP net interest margins were 0.79% for Federal Education Loans and 3.52% for Consumer Lending in Q3 2019. Core Earnings margins were 0.82% and 3.45%, respectively.
- Education loans, net, were $87.9 billion at September 30, 2019, comprising $66.1 billion of FFELP Loans and $21.8 billion of Private Education Loans.
- Business Processing revenue was $66 million in Q3 and $199 million year to date; Q3 EBITDA was $13 million, representing a 20% EBITDA margin.
- Cash and cash equivalents were $1.583 billion, with restricted cash of $2.677 billion. Total cash, cash equivalents and restricted cash ended at $4.260 billion.
- Operating cash flow was $831 million for the first nine months, compared with $655 million in 2018. Investing activities provided $6.406 billion, while financing activities used $8.239 billion.
- Total borrowings were $91.773 billion, including $7.004 billion short-term and $84.769 billion long-term. Unsecured borrowings totaled $10.507 billion; secured borrowings totaled $81.366 billion.
- Primary liquidity sources were $1.583 billion of unrestricted cash and liquid investments plus $206 million of unencumbered FFELP Loans. Management reported $5.8 billion of unencumbered tangible assets and $8.3 billion of encumbered net assets in financing facilities.
Material changes versus the prior comparable period
- Q3 GAAP net income increased 27% and diluted EPS increased 47%, helped by lower loan-loss provisions, fewer diluted shares and lower intangible-asset impairment expense.
- Year-to-date net income increased 32%, despite a 4% decline in net interest income caused primarily by the natural paydown of the education-loan portfolio.
- Q3 loan-loss provisions declined $21 million, while year-to-date provisions declined $76 million. Private Education Loan provisions fell to $56 million from $75 million in Q3 2018.
- FFELP Loans, net, declined from $74.3 billion at September 30, 2018 to $66.1 billion at September 30, 2019. Private Education Loans, net, declined from $22.4 billion to $21.8 billion.
- Asset-recovery and business-processing revenue increased 16% in Q3 and year to date, while servicing revenue declined 14% in Q3 and 13% year to date.
- Private Education Loan originations increased 57% to $1.4 billion in Q3. Private Education Loan refinance originations were $1.420 billion, compared with $903 million in the year-ago quarter.
- FFELP delinquency over 30 days decreased to 10.3% from 11.4% in the year-ago period. Private Education Loan delinquency over 30 days decreased to 4.8% from 6.3%.
- Navient repurchased 9.7 million shares for $130 million in Q3 and 28.7 million shares for $363 million year to date. The quarterly dividend remained $0.16 per share. Remaining authorization under the existing program was $77 million at September 30; an additional $1 billion multi-year program was approved in October 2019.
- Debt repurchase gains were $59 million year to date in 2019, compared with a $9 million loss in 2018. This included repurchases of $184 million of debt.
Guidance, outlook, risks and unusual items
- No formal revenue or earnings guidance is provided in the filing. Management expects the education-loan portfolios to generate significant earnings and cash flow over their remaining lives and estimates approximately $20 billion of cash flows, net of secured financing obligations, over the next 20 years.
- The Current Expected Credit Loss standard becomes effective January 1, 2020. Navient estimated that the allowance for loan losses could increase by approximately $750 million to $850 million, with an estimated after-tax equity reduction of approximately $580 million to $655 million. The estimate was preliminary and subject to change.
- The current Department of Education servicing contract expires in December 2019, and Navient stated that the timing and outcome of the new servicing-platform solicitation could not be predicted.
- Navient faces CFPB, state attorney general and other regulatory litigation involving alleged consumer-protection, servicing and collection violations. The company denies the allegations, has not established reserves for matters where loss is not probable and estimable, and stated that an adverse ruling could materially affect the company.
- An Education Department Special Allowance Payment audit appeal remained pending after an administrative law judge affirmed the audit findings in March 2019. The company had established a reserve and did not currently expect a material adverse effect on the company as a whole.
- Three credit-rating agencies rated Navient’s long-term unsecured debt below investment grade. Key risks include refinancing and liquidity availability, higher financing costs, interest-rate and basis risk, loan-credit performance, regulatory changes, litigation, cybersecurity and changes in student-loan servicing contracts.
- Adoption of ASU 2017-12 changed the presentation of qualifying hedge mark-to-market gains and losses, including $11 million recorded in interest expense in Q3 2019. Core Earnings exclude certain derivative mark-to-market effects and goodwill or acquired-intangible accounting and are not a GAAP measure.
Important facts for investors to verify
- Confirm the final January 1, 2020 CECL adjustment, including its impact on allowances, equity, capital ratios and future earnings volatility.
- Review the outcome and timing of the Department of Education servicing contract solicitation and related effects on servicing revenue, costs and customer volumes.
- Assess the status, potential exposure and indemnification arrangements for CFPB, state attorney general, securities and other litigation.
- Monitor refinancing requirements, including the approximately $1.5 billion of senior unsecured notes maturing within the next twelve months, and available secured-facility capacity.
- Evaluate whether lower delinquencies and provisions are sustainable as the portfolio runs off and as Private Education Loan originations grow.
- Reconcile GAAP results with Core Earnings, particularly derivative valuation effects, intangible-asset charges, regulatory costs and debt-repurchase gains.