Nelnet, Inc. 2017 Q3 SEC Filing Summary
Business context and reporting period
Nelnet filed an unaudited Form 10-Q for the three and nine months ended September 30, 2017. The company operates student loan servicing, tuition payment processing and campus commerce, communications through Allo, and student loan asset management businesses. Amounts are in thousands except per-share data unless otherwise noted.
Financial performance and key metrics
| Metric | Q3 2017 | Q3 2016 | 9M 2017 | 9M 2016 |
|---|---|---|---|---|
| Total interest income | $196.9 million | $196.2 million | $573.8 million | $574.4 million |
| Net interest income | $75.2 million | $99.8 million | $232.0 million | $293.6 million |
| Net interest income after loan-loss provision | $69.2 million | $93.8 million | $223.0 million | $283.1 million |
| Total other income | $125.2 million | $145.1 million | $322.8 million | $288.4 million |
| Income before taxes | $69.1 million | $132.1 million | $186.5 million | $245.8 million |
| Net income attributable to Nelnet | $46.3 million | $84.3 million | $125.1 million | $158.4 million |
| EPS, basic and diluted | $1.11 | $1.98 | $2.97 | $3.70 |
Q3 2017 net income attributable to Nelnet declined 45% year over year, while nine-month net income declined 21%. Effective tax rates were 35.6% in Q3 and 36.0% for the nine-month period. Reported net income excluding derivative market value and foreign currency transaction adjustments was $41.5 million in Q3 and $139.5 million for nine months, compared with $58.1 million and $167.8 million, respectively, in the prior-year periods.
- Fee-based revenue increased: loan systems and servicing revenue rose to $56.0 million in Q3 and $167.1 million for nine months; tuition payment and campus commerce revenue rose to $35.5 million and $113.3 million; communications revenue rose to $6.8 million and $17.6 million.
- Student loan spread weakened. Core student loan spread was 1.17% in Q3 2017 versus 1.26% in Q3 2016 and 1.22% for the nine-month period versus 1.30%.
- Fixed-rate floor income declined to $24.6 million in Q3 and $84.4 million for nine months from $41.5 million and $131.7 million, respectively, primarily because of higher interest rates.
- Q3 loan-loss provision was $6.0 million, including a $5.0 million additional provision related to a $1.6 billion federally insured loan portfolio acquired in 2014 and 2015.
- Tuition payment and campus commerce pretax margins improved to 26.1% in Q3 and 30.7% for nine months, versus 25.4% and 30.2%.
- Loan systems and servicing pretax margin declined to 14.4% in Q3 and 14.1% for nine months, versus 27.1% and 24.3%, primarily due to GreatNet costs, staffing increases, and the loss of higher-margin guaranty servicing and collection business.
- Allo generated revenue of $6.8 million in Q3 and $17.6 million for nine months but reported net losses of $4.6 million and $11.1 million. Allo EBITDA was negative $2.7 million and negative $6.6 million, respectively.
Cash flow, balance sheet, debt, and liquidity
- Net cash provided by operating activities was $230.3 million for the first nine months of 2017, down from $258.8 million in the prior-year period.
- Investing activities provided $2.52 billion, primarily from student loan repayments and changes in restricted cash. Financing activities used $2.57 billion, principally for debt repayments.
- Cash and cash equivalents were $254.4 million at September 30, 2017, compared with $69.7 million at December 31, 2016. Available-for-sale investments had a fair value of $75.4 million.
- Student loans receivable were $22.5 billion, down from $24.9 billion at year-end 2016. The portfolio is expected to amortize over approximately 25 years.
- Bonds and notes payable were $22.24 billion, down from $24.67 billion at year-end 2016. The company’s $350.0 million unsecured line of credit had $210.0 million outstanding and $140.0 million available.
- FFELP warehouse facilities had $745.1 million outstanding, $454.9 million available, and aggregate maximum capacity of $1.2 billion.
- Forecast undiscounted future cash flows from student loans financed in securitizations were approximately $1.93 billion, including $821.9 million of estimated overcollateralization.
- The company repurchased 1.36 million Class A shares for $63.3 million during the first nine months and paid $17.6 million of dividends, or $0.42 per share.
Material changes, outlook, risks, and unusual items
- Derivative market value and foreign currency adjustments produced net expense of $25.6 million for the first nine months, compared with net expense of $33.4 million in the prior-year period. These items materially affected GAAP earnings and are volatile because most derivatives do not qualify for hedge accounting.
- On October 25, 2017, the company remarketed its Euro Notes, converting the principal to $450.0 million of U.S.-dollar debt based on three-month LIBOR and terminating the related cross-currency swap. The transaction is expected to produce a $10.6 million non-cash pretax expense and eliminate future foreign-currency adjustments on those notes.
- On October 18, 2017, Nelnet agreed to purchase Great Lakes Educational Loan Services for $150.0 million in cash, with closing scheduled for January 1, 2018, subject to customary conditions. Management expects to use existing cash and its unsecured line of credit.
- The Department of Education canceled its procurement process for a single federal servicing platform and plans a new proposal involving separate database housing, system processing, and customer account servicing contracts. Nelnet’s current government servicing contract is scheduled to expire June 16, 2019.
- Allo expects approximately $30.0 million of fourth-quarter 2017 network capital expenditures and approximately $100.0 million in 2018. Management expects the Communications segment to remain dilutive for several years during network expansion.
- Key risks include student loan runoff and prepayments, interest-rate and basis risk, loss of floor income, financing and securitization-market access, changes in government servicing programs, Great Lakes transaction and integration risk, cybersecurity and operational failures, regulatory and litigation exposure, and Allo construction and customer-acquisition risks.
- Management states that a 2-times increase in assumed prepayment rates would reduce the securitization cash-flow forecast by approximately $220 million to $250 million, while a 24-basis-point three-month versus one-month LIBOR spread assumption would reduce it by approximately $95 million to $115 million.
- The filing reports effective disclosure controls and no material changes in internal control over financial reporting. It also reports no material changes to previously disclosed legal proceedings or risk factors.
Most important facts for investors to verify
- Whether the $150.0 million Great Lakes acquisition closes as scheduled and the financial, integration, and servicing-volume effects after closing.
- The renewal or replacement of the Department of Education servicing contract before its June 2019 expiration.
- The sensitivity of earnings and cash flows to interest rates, LIBOR basis spreads, floor-income runoff, prepayments, and loan delinquencies.
- The sustainability of the $1.93 billion securitization cash-flow forecast and the assumptions for prepayments, defaults, and interest rates.
- Allo’s capital requirements, continued operating losses, network expansion progress, and reliance on parent-company funding.
- Available borrowing capacity, warehouse-facility expirations, securitization-market access, debt covenants, and liquidity after the Great Lakes acquisition.
- The effect of volatile derivative accounting and the $10.6 million post-quarter non-cash expense on reported earnings comparability.