Nelnet, Inc. — Form 10-Q Summary
Business context and reporting period
Nelnet provides student-loan servicing, tuition payment processing, campus commerce, education planning, asset management, and earns interest from a federally insured student-loan portfolio. This unaudited filing covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods.
Reportable segments are Student Loan and Guaranty Servicing, Tuition Payment Processing and Campus Commerce, and Asset Generation and Management. The company had approximately $29.0 billion of student loans receivable and serviced approximately $175.3 billion of student loans at September 30, 2015.
Financial performance and key metrics
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Total interest income | $189.2 million | $189.4 million | $541.0 million | $525.2 million |
| Net interest income | $112.0 million | $117.5 million | $319.7 million | $324.1 million |
| Net interest income after loan-loss provision | $109.0 million | $115.5 million | $312.5 million | $318.1 million |
| Total other income | $87.9 million | $133.8 million | $329.2 million | $385.1 million |
| Income before taxes | $76.0 million | $131.9 million | $289.7 million | $365.6 million |
| Net income attributable to Nelnet | $49.0 million | $85.2 million | $184.6 million | $234.0 million |
| EPS, basic and diluted | $1.09 | $1.84 | $4.03 | $5.03 |
| Operating cash flow | Not separately provided | Not separately provided | $307.4 million | $263.1 million |
- Q3 net income attributable to Nelnet declined approximately 43% year over year; nine-month net income declined approximately 21%.
- Reported results included net derivative market-value and foreign-currency losses of $30.7 million in Q3 and $27.2 million for the first nine months, compared with gains of $24.2 million and $21.5 million, respectively, in 2014.
- Excluding derivative market-value and foreign-currency adjustments, management reported net income of $64.3 million, or $1.43 per share, in Q3 2015, compared with $67.2 million, or $1.45 per share, in Q3 2014. For nine months, the comparable figures were $191.3 million, or $4.18 per share, versus $210.0 million, or $4.52 per share.
- Core student-loan spread was 1.45% in Q3 2015 versus 1.53% in Q3 2014. Net fixed-rate floor income increased to $48.2 million in Q3 and $139.5 million for nine months, from $49.2 million and $130.7 million, respectively.
- Tuition payment processing and campus commerce revenue increased to $30.4 million in Q3 and $92.8 million for nine months, driven primarily by RenWeb, higher payment-plan and transaction volumes, and new school customers.
- Loan and guaranty servicing revenue increased 17.0% in Q3 to $61.5 million but declined modestly for nine months to $183.2 million. Enrollment services revenue declined to $19.5 million in Q3 and $54.5 million for nine months.
Financial position, debt, liquidity, and cash flow
- Total assets were $31.05 billion at September 30, 2015, up from $30.10 billion at December 31, 2014. Student loans receivable increased to $28.95 billion from $28.01 billion.
- Total debt carried on the balance sheet was $28.83 billion, compared with $28.03 billion at year-end 2014. Debt was predominantly variable-rate, including $27.51 billion of variable-rate securitization debt, $1.39 billion of FFELP warehouse facilities, and $170.1 million of private education loan warehouse borrowings.
- Cash and cash equivalents totaled $114.5 million, and available-for-sale and trading investments had a fair value of $113.7 million. The company also had $280.0 million available under its $350.0 million unsecured line of credit.
- Operating cash flow was $307.4 million for the first nine months, compared with $263.1 million in 2014. Investing activities provided $848.1 million, primarily reflecting student-loan repayments net of purchases; financing activities used $1.17 billion, primarily due to net debt repayments, stock repurchases, and dividends.
- Cash declined by $16.0 million during the nine months, ending at $114.5 million.
- Shareholders’ equity increased to $1.84 billion from $1.73 billion at December 31, 2014. The company repurchased 1.53 million Class A shares for $66.6 million and paid $13.7 million in dividends during the first nine months.
Material changes versus the prior comparable period
- Higher debt balances and funding costs reduced net interest income and the variable student-loan spread.
- Derivative and foreign-currency results shifted from a significant gain in 2014 to a significant loss in 2015, substantially reducing reported earnings.
- Asset Generation and Management nine-month net income declined to $141.8 million from $175.1 million, primarily due to lower spreads and derivative-related results, partially offset by higher fixed-rate floor income.
- Student Loan and Guaranty Servicing nine-month net income declined to $22.3 million from $32.1 million. The before-tax operating margin fell to 16.3% from 23.0%, reflecting reduced federal payments to guaranty agencies and changes in the servicing mix.
- Tuition Payment Processing and Campus Commerce nine-month net income increased to $14.2 million from $11.2 million. Excluding intangible amortization, before-tax operating margin improved to 31.6% from 30.5%.
- The company acquired $3.8 billion of student loans during the first nine months, including $1.8 billion in Q3, compared with $5.6 billion during the first nine months of 2014.
- Private education loans increased to $232.8 million from $27.5 million at year-end 2014. The company had purchased $127.8 million under its amended CommonBond commitment as of September 30.
Guidance, outlook, risks, contingencies, and unusual items
- Management expects the existing approximately $29.0 billion FFELP portfolio to amortize over roughly 25 years and expects it to generate stable net interest margins and cash flow, although results remain sensitive to prepayments, defaults, interest rates, and basis spreads.
- Management expects significant fixed-rate floor income to continue if interest rates remain low. A rise in rates could reduce floor income and compress margins; a 100-basis-point rate increase was estimated to reduce nine-month pre-tax income by $36.0 million after derivative-settlement effects.
- The company expects Student Loan and Guaranty Servicing margins to tighten as legacy commercial portfolios run off, Department servicing becomes a larger proportion of activity, federal budget reductions continue, and a significant guaranty servicing client’s contract expires. That client’s contract expired October 31, 2015; related revenue was $32.8 million in the first nine months of 2015.
- The Department of Education servicing contract currently expires June 16, 2019 and generated $99.3 million of revenue in the first nine months of 2015.
- Credit-rating agencies placed numerous FFELP securitization tranches, including some Nelnet-related tranches, under review for potential downgrade. Slower loan payments and prepayments could affect securitization maturities, financing spreads, and market liquidity.
- The company forecast approximately $2.46 billion of future undiscounted cash flows from FFELP loans funded in asset-backed securitizations. Management cautioned that higher prepayments could reduce the forecast by approximately $260 million to $320 million, while a wider three-month versus one-month LIBOR spread could reduce it by approximately $120 million to $160 million.
- The private education loan warehouse facility had $170.1 million outstanding and $104.9 million available. Its liquidity provisions expire June 24, 2016; failure to renew could increase costs and require refinancing by December 26, 2016.
- On October 30, 2015, the company amended its $350.0 million unsecured credit agreement, extending maturity to October 30, 2020. The amendment permitted limited out-of-sector acquisitions, expanded certain investment capacity, reduced the private-loan holding cap to $500.0 million, and revised the minimum-net-worth covenant.
- The board declared a fourth-quarter dividend of $0.12 per share, payable December 15, 2015. Dividend and debt-repurchase capacity remains subject to credit-facility and Hybrid Securities restrictions.
- Management stated that disclosure controls were effective and that there were no material changes to internal control over financial reporting. A previously reported legal proceeding was dismissed during the quarter.
Most important facts for investors to verify
- Whether derivative volatility, foreign-currency effects, and funding-cost increases continue to materially separate GAAP earnings from adjusted earnings.
- The sustainability of fixed-rate floor income and the sensitivity of loan spreads to LIBOR basis movements and rising interest rates.
- Renewal or refinancing of warehouse facilities, particularly the private education loan facility and facilities with near-term liquidity expirations.
- Potential effects of securitization rating reviews, slower prepayments, and changes in asset-backed financing spreads.
- The financial impact of the expired guaranty servicing contract and continued federal reductions in guaranty-agency payments.
- Loan delinquency trends, private-loan credit performance, allowance adequacy, and the company’s growing private education loan exposure.
- Compliance with revised credit-agreement covenants and the company’s ability to balance acquisitions, share repurchases, debt repayments, and dividends with liquidity needs.