Nelnet, Inc. 2014 Q2 Form 10-Q Summary
Business Context and Reporting Period
Nelnet is an education services company operating in asset management and finance, student-loan servicing, tuition payment processing and campus commerce, and enrollment services. The filing covers the three and six months ended June 30, 2014, compared with the same periods in 2013. The interim financial statements are unaudited.
As of June 30, 2014, Nelnet held $29.3 billion of student loans receivable and serviced approximately $150.0 billion of FFELP, private, and government-owned student loans.
Key Financial Metrics
| Metric | Three months ended June 30, 2014 | Three months ended June 30, 2013 | Six months ended June 30, 2014 | Six months ended June 30, 2013 |
|---|---|---|---|---|
| Total interest income | $176.9 million | $159.5 million | $335.8 million | $316.7 million |
| Net interest income | $107.7 million | $101.4 million | $206.6 million | $200.2 million |
| Net interest income after loan-loss provision | $106.2 million | $96.4 million | $202.6 million | $190.2 million |
| Total other income | $125.3 million | $163.1 million | $251.3 million | $283.0 million |
| Operating expenses | $112.8 million | $102.9 million | $220.2 million | $209.8 million |
| Income before taxes | $118.8 million | $156.6 million | $233.7 million | $263.4 million |
| Net income attributable to Nelnet | $75.0 million | $101.2 million | $148.8 million | $169.3 million |
| Basic and diluted EPS | $1.61 | $2.17 | $3.20 | $3.63 |
Reported net income was affected by derivative market-value and foreign-currency adjustments. Excluding those items, net income attributable to Nelnet was $70.2 million, or $1.51 per share, in the second quarter and $142.7 million, or $3.07 per share, for the first six months. The comparable 2013 amounts were $71.1 million, or $1.53 per share, and $133.5 million, or $2.86 per share.
Balance Sheet, Cash Flow, Debt, and Liquidity
- Total assets were $31.4 billion at June 30, 2014, compared with $27.8 billion at December 31, 2013.
- Student loans receivable increased to $29.3 billion from $25.9 billion, primarily because of portfolio acquisitions.
- Total debt, including bonds and notes payable, was $29.5 billion, compared with $26.0 billion at year-end 2013. Debt was predominantly variable-rate and secured by student loan assets.
- Total equity increased to $1.58 billion from $1.44 billion at December 31, 2013.
- Cash and cash equivalents were $92.1 million. Cash and investments totaled $233.6 million.
- Operating cash flow for the first six months was $156.5 million, compared with $153.2 million in the prior-year period. Investing activities used $1.18 billion, while financing activities provided $1.05 billion.
- Three FFELP warehouse facilities had aggregate capacity of $1.75 billion, with $1.14 billion outstanding and $610.3 million available. The facilities had $66.6 million of equity support.
- The unsecured line of credit was increased from $275.0 million to $350.0 million and extended to June 30, 2019. At quarter-end, $65.0 million was drawn and $285.0 million was available.
- Nelnet completed five asset-backed securitizations totaling approximately $2.7 billion during the first half of 2014. A further $573.3 million securitization was completed on July 31, 2014.
Material Changes Versus the Prior Comparable Period
- Second-quarter net interest income increased 6.2%, while six-month net interest income increased 3.2%. Loan interest benefited from a larger portfolio and higher fixed-rate floor income, but was partly offset by lower variable student-loan yields and higher funding costs.
- Loan and guaranty servicing revenue increased to $66.5 million from $60.1 million in the second quarter and to $131.2 million from $115.7 million for the first six months. Government servicing revenue rose to $31.0 million in the quarter and $60.9 million year to date.
- Tuition payment processing and campus commerce revenue increased to $21.8 million from $18.4 million in the quarter and to $47.1 million from $41.8 million year to date.
- Enrollment services revenue declined to $20.1 million from $24.8 million in the quarter and to $42.2 million from $53.8 million year to date. The decline reflected regulatory uncertainty and reduced marketing spending by for-profit colleges.
- Other income was lower primarily because 2013 included substantially larger derivative gains and gains on debt repurchases. Second-quarter derivative market-value and foreign-currency income was $7.8 million, compared with $48.5 million in 2013.
- Operating expenses increased 9.6% in the quarter and 5.0% year to date, largely from additional staffing and costs supporting higher servicing and payment-processing volumes.
- Loan-loss provision declined to $1.5 million from $5.0 million in the quarter and to $4.0 million from $10.0 million year to date. The allowance for loan losses was $52.5 million at June 30, 2014.
- Core student-loan spread was 1.46% in the second quarter, compared with 1.52% in the prior-year quarter. The decline reflected recent consolidation-loan acquisitions with lower margins and longer terms.
- Net fixed-rate floor income increased to $43.6 million from $36.1 million in the quarter and to $81.5 million from $71.8 million year to date, supported by historically low interest rates and recent loan acquisitions.
- Nelnet repurchased 209,940 Class A shares for $8.4 million during the quarter and paid a $0.10 per-share dividend. The board declared another $0.10 per-share dividend payable in September 2014.
Guidance, Outlook, Risks, and Unusual Items
- The Department of Education extended Nelnet’s major servicing contract through June 16, 2019. Future servicing volume allocation and per-borrower payments will depend on performance metrics and may change.
- Federal budget provisions effective July 1, 2014 are expected to reduce payments to guaranty agencies for FFELP loan rehabilitation. Management expects related rehabilitation collection revenue to be negatively affected.
- Nelnet expects to discontinue inquiry-generation services effective August 29, 2014 because of regulatory uncertainty and declining demand. Management expects the initial and ongoing net-income impact to be immaterial.
- Nelnet acquired RenWeb on June 3, 2014 for estimated total consideration of $46.3 million, including $2.3 million of estimated contingent consideration. The acquisition added approximately $37.2 million of intangible assets and $9.1 million of goodwill.
- Management expects significant fixed-rate floor income to continue if short-term interest rates remain low; higher rates could reduce floor income and increase funding costs. The company uses derivatives to manage interest-rate and foreign-currency exposure.
- Forecast undiscounted cash flows from the securitized FFELP portfolio were approximately $2.39 billion. Management cautioned that higher prepayments, wider LIBOR basis spreads, changes in interest rates, defaults, or other assumptions could reduce projected cash flows.
- Legal proceedings include putative class-action matters involving advertising faxes, telephone recording, and text messaging. No class had been certified; two matters were subject to agreements in principle for immaterial settlements, and one matter had been dismissed on summary judgment but was subject to appeal. The company stated that losses beyond accrued amounts could not be reasonably estimated.
- The filing reported no material changes to previously disclosed risk factors and stated that disclosure controls and procedures were effective.
Most Important Facts for Investors to Verify
- Whether the Department of Education contract extension produces sustainable servicing volumes and economics as performance metrics and payment terms change.
- The sensitivity of earnings and liquidity to interest rates, LIBOR basis spreads, derivative collateral requirements, and the eventual reduction of fixed-rate floor income.
- The ability to refinance or securitize warehouse-funded loans and maintain access to asset-backed financing markets.
- The effect of federal budget changes on FFELP rehabilitation collection revenue and the continued runoff of legacy FFELP-related revenue.
- The credit performance, prepayment behavior, and margins of recently acquired student-loan portfolios.
- The operating contribution and integration results of RenWeb, including contingent consideration and acquired-intangible amortization.
- The continued deterioration or restructuring of the Enrollment Services business after discontinuation of inquiry-generation services.
- Future litigation developments, including potential class certification or appeals, despite the company’s current assessment that accrued amounts are immaterial.