Navient Corporation 2016 Form 10-K Summary
Business context and reporting period
Navient filed its annual report for the fiscal year ended December 31, 2016. The company provides education-loan asset management, loan servicing, asset recovery, and business-processing services to education, health-care, federal, state, and local-government clients. Its principal reportable segments are FFELP Loans, Private Education Loans, and Business Services, with an Other segment for corporate and wind-down activities.
At year-end, Navient held $87.7 billion of FFELP Loans and $23.3 billion of Private Education Loans, and serviced more than $300 billion of education loans for over 12 million customers. Its contract with the U.S. Department of Education covered approximately 6.2 million accounts, or $197.0 billion of loans, at December 31, 2016.
Financial performance and key metrics
| Metric | 2016 | 2015 | Change |
|---|---|---|---|
| Net interest income | $1.705 billion | $2.221 billion | Down 23% |
| Net interest income after loan-loss provisions | $1.276 billion | $1.640 billion | Down 22% |
| Total other income | $819 million | $902 million | Down 9% |
| Operating expenses | $951 million | $918 million | Up 4% |
| GAAP net income | $681 million | $984 million | Down 31% |
| Diluted EPS | $2.12 | $2.58 | Down 18% |
| Core Earnings net income | $587 million | $681 million | Down 14% |
| Core Earnings diluted EPS | $1.82 | $1.79 | Up 2% |
| Net interest margin | 1.38% | 1.64% | Down 26 basis points |
| Return on assets | 0.55% | 0.73% | Down 18 basis points |
Fourth-quarter 2016 GAAP net income was $145 million, compared with $283 million in the fourth quarter of 2015. Fourth-quarter net interest income was $378 million, provisions for loan losses were $102 million, and diluted EPS was $0.48.
Cash flow from operating activities was $1.357 billion in 2016, compared with $1.910 billion in 2015. Investing activities provided $11.411 billion, primarily reflecting loan repayments and other reductions in education loans. Financing activities used $13.109 billion.
Total assets were $121.136 billion at December 31, 2016, down from $134.046 billion. Total education loans, net, declined to $111.070 billion from $122.796 billion. Total borrowings declined to $114.702 billion from $127.403 billion, including a reduction in senior unsecured debt to $13.746 billion from $15.096 billion. Navient Corporation stockholders’ equity was $3.699 billion, compared with $3.909 billion.
- FFELP Loans net interest margin on a Core Earnings basis was 0.85%, compared with 0.84% in 2015.
- Private Education Loans net interest margin on a Core Earnings basis was 3.41%, compared with 3.67% in 2015.
- FFELP Loan provisions were $43 million, compared with $46 million; Private Education Loan provisions were $383 million, compared with $538 million.
- Private Education Loan net charge-offs, excluding the 2015 charge-off-rate adjustment, were $513 million, compared with $659 million. Delinquencies declined to $1.64 billion from $1.77 billion, although the delinquency rate increased modestly to 7.4% from 7.2%.
- FFELP Loan delinquencies declined to 12.2% of loans in repayment from 15.2%; greater-than-90-day delinquencies declined to 6.3% from 8.2%.
Material changes versus the prior comparable period
- Net interest income declined primarily because the education-loan portfolio amortized and funding costs and credit spreads increased. The widening between one-month and three-month LIBOR also pressured margins.
- Lower Private Education Loan balances and improved credit trends reduced loan-loss provisions by $152 million.
- Servicing revenue declined $36 million, while asset recovery and business-processing revenue increased $23 million, supported by Gila LLC and Xtend Healthcare.
- Business Services revenue was approximately $1.01 billion, compared with $1.02 billion. Non-education asset recovery revenue rose 77%, from $99 million to $174 million.
- Operating expenses increased $33 million, including higher costs from acquired businesses and approximately $25 million of additional legal contingency expense. Restructuring expense fell to zero from $32 million.
- GAAP earnings included $212 million of derivative-accounting gains excluded from Core Earnings, versus $543 million in 2015. Core Earnings therefore provide a materially different view from GAAP results.
- Navient acquired $3.7 billion of education loans, including $3.5 billion of FFELP Loans and $225 million of Private Education Loans.
- The company repurchased 59.6 million common shares for $755 million and paid $201 million of common dividends. The quarterly dividend remained $0.16 per share, and a new $600 million repurchase authorization became effective January 1, 2017.
Guidance, outlook, commentary, risks, and unusual items
Management expects earnings and cash flows from the education-loan portfolios to remain significant but to decline as the portfolios amortize. FFELP originations ended in 2010, and Navient is restricted from originating certain Private Education Loans until January 1, 2019. The company therefore expects declining interest and servicing revenue unless it acquires additional portfolios or develops replacement businesses.
Navient expected to fund the repayment of approximately $0.7 billion of senior unsecured notes maturing in 2017 through cash and investments, operating cash flow, repayments on unencumbered loans, securitization-trust distributions, secured facilities, additional asset-backed securities, or additional unsecured debt. Primary liquidity at year-end was $1.615 billion, consisting of $1.256 billion of unrestricted cash and liquid investments and $359 million of unencumbered FFELP Loans. Additional capacity under FFELP facilities was approximately $2.2 billion, and available capacity under the Private Education Loan ABCP facility was $285 million.
Liquidity and funding remain significant risks. Navient’s long-term unsecured debt was rated below investment grade by Moody’s, S&P, and Fitch. Rating downgrades, disruptions in the asset-backed securities markets, higher funding spreads, collateral requirements, or inability to refinance could materially affect liquidity and earnings. Rating agencies also raised concerns that certain FFELP securitization trusts might not repay bonds by their legal final maturities; as of January 31, 2017, billions of FFELP ABS had been downgraded or remained on credit watch.
Material legal and regulatory matters include the CFPB lawsuit and lawsuits by the Illinois and Washington Attorneys General, initiated January 18, 2017. The company stated that exposure could not be estimated and that no reserves had been established for those matters; an adverse outcome could materially affect financial condition, liquidity, earnings, or cash flows. Navient also remains subject to the ED Special Allowance Payment audit and related appeal.
The company identified and corrected an immaterial prior-period error involving permanently uninsured FFELP Loans. Reported 2015 net income was revised downward by $13 million to $984 million, and 2014 net income was revised downward by $12 million to $1.137 billion. A separate correction to premium and discount amortization reduced 2016 pretax income by $2 million and was deemed immaterial.
Additional risks include private-loan credit losses, prepayments and refinancing, interest-rate and basis risk, derivative valuation volatility, cybersecurity and operational failures, government-contract dependence, regulatory compliance costs, reputational damage, and potential changes to student-loan laws and servicing requirements.
Most important facts for an investor to verify
- Reconcile GAAP net income of $681 million with Core Earnings of $587 million and assess the sustainability of derivative-related gains.
- Review the maturity, refinancing requirements, and secured versus unsecured composition of the $114.7 billion borrowing base.
- Evaluate liquidity against the $0.7 billion of 2017 senior unsecured maturities and the decline in primary liquidity from $2.507 billion to $1.615 billion.
- Monitor private-loan delinquencies, charge-offs, recoveries, troubled debt restructurings, and the adequacy of the $1.351 billion Private Education Loan allowance.
- Assess the effect of the CFPB, state Attorney General, ED, and other regulatory proceedings, including the absence of reserves for the January 2017 civil actions.
- Track the outcome of the Department of Education servicing-platform RFP and the company’s ability to retain or replace declining FFELP-related revenue.
- Verify the effect of FFELP ABS ratings actions, legal-final-maturity extensions, and future access to securitization markets.
- Consider the non-GAAP nature and limited comparability of Core Earnings when evaluating performance.