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TABLE OF CONTENTSAppendixAPPENDIX A Student Loan Marketing Association Consolidated Financial StatementsSTUDENT LOAN MARKETING ASSOCIATION CONSOLIDATED FINANCIAL STATEMENTS INDEX
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
| (Mark One) | |
ý | Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended | |
o | Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period fromto | |
(Amended by Exch Act Rel No. 312905. eff 4/26/93.)
Commission File Number: 001-13251
SLM CORPORATION(formerly USA Education, Inc.)
(Exact name of registrant as specified in its charter)
| Delaware (State or other jurisdiction of incorporation or organization) | 52-2013874 (I.R.S. Employer Identification No.) | |
11600 Sallie Mae Drive, Reston, Virginia (Address of principal executive offices) | 20193 (Zip Code) |
(703) 810-3000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes ý No o
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:
| Class | Outstanding at | |
|---|---|---|
| Common Stock, $.20 par value |
Listed below are definitions of key terms that are used throughout this document.
Consolidation Loans—Under the Federal Family Education Loan Program ("FFELP"),FFELP, borrowers with eligible student loans may consolidate them into one note with one lender and convert the variable interest rates on the loans being consolidated into a fixed rate for the life of the loan. The new note is considered a Consolidation Loan. Typically a borrower can consolidate their student loans only once unless the borrower has another eligible loan with which to consolidate with the existing Consolidation Loan. The borrower rate on a Consolidation Loan is fixed for the term of the loan and is set by the weighted-average interest rate of the loans being consolidated, rounded up to the nearest 1/8th of a percent, not to exceed 8.25 percent. In low interest rate environments, Consolidation Loans provide an attractive refinancing opportunity because they allow borrowers to consolidate variable rate loans into a long-term fixed rate loan.
Consolidation Loan Rebate Fee—All holders of Consolidation Loans are required to pay to the U.S. Department of Education ("DOE") an annual 105 basis point Consolidation Loan Rebate Fee on all outstanding principal and accrued interest balances of Consolidation Loans purchased or originated after October 1, 1993, except for loans for which consolidation applications were received between October 1, 1998 and January 31, 1999, whenwhere the Consolidation Loan Rebate Fee wasis 62 basis points.
Constant Prepayment Rate ("CPR")—A variable in life of loan estimates that measures the rate at which loans in the portfolio pay before their stated maturity. The CPR has a direct effect on the average life of the portfolio.
DOE—The U.S. Department of Education.
Direct Loans—Student loans originated directly by the DOE under the William D. Ford Federal Direct Student Loan Program.
Embedded Floor Income—Embedded Floor Income is Floor Income (see definition below) that is earned on off-balance sheet student loans that are owned by thein securitization trusts that we sponsor.sponsored by us. At the time of the securitization, the presentoption value of Embedded Fixed Rate Floor Income is included in the initial calculation of the Residual Interest and the gain or loss on sale of the student loans. Embedded Floor Income is also included in the quarterly fair value adjustments of the Residual Interest.
Fixed Rate Floor Income—We refer to Floor Income associated with student loans whose borrower rate is fixed to term (primarily Consolidation Loans) as Fixed Rate Floor Income.
Floor Income—Our portfolio of FFELP student loans generally earns interest at the higher of a floating rate based on the Special Allowance Payment ("SAP")or SAP (see definition below) formula set by the DOE and the borrower rate, which is fixed over a period of time. We generally finance our student loan portfolio with floating rate debt over all interest rate levels. In low and/or declining interest rate environments, when our student loans are earning at the fixed borrower rate and the interest on our floating rate debt is continuing to decline, we may earn additional spread income and refer to it as Floor Income. Depending on the type of the student loan and when it was originated, the borrower rate is either fixed to term or is reset to a market rate each July 1. As a result, for loans where the borrower rate is fixed to term, we may earn Floor Income for an extended period of time, and for those loans where the borrower interest rate is reset annually on July 1, we may earn Floor Income to the next reset date.
The following example shows the mechanics of Floor Income for a fixed rate Consolidation Loan:
| Fixed borrower/minimum floor interest rate: | 8.25% | |
| Floating rate special allowance payment formula: | 91-day T-bill +3.10% | |
| Floor strike rate (minimum floor strike rate less SAP spread): | 5.15% |
Based on this example, if the quarterly average 91-day Treasury bill rate is over 5.15 percent, special allowance payments will be made to ensure that the holder receives at least a specified floating rate based on the Special Allowance Payment formula. On the other hand, if the quarterly average 91-day Treasury bill is below 5.15 percent, the loan holder will earn the minimum floor rate of 8.25 percent from the student loan. The difference between the minimum floor rate of 8.25 percent and the lender's expected yield (i.e., the yield that the lender would have earned if the borrower's rate did not create a floor) is referred to as Floor Income. Because the student loan assets are generally funded with floating rate debt, the net interest income is enhanced during periods of declining interest rates when the student loan is earning at the fixed borrower rate.
Graphic Depiction of Floor Income:
FFELP—The Federal Family Education Loan Program, formerly the Guaranteed Student Loan Program.
FDLP—The William D. Ford Federal Direct Student Loan Program.
Floor Income Contracts—We enter into contracts with counterparties under which, in exchange for an upfront fee representing the present value of the Floor Income that we expect to earn on a notional amount of student loans being hedged, we will pay the counterparties the Floor Income earned on that notional amount of student loans over the life of the Floor Income Contract. Specifically, we agree to pay the counterparty the difference, if positive, between the fixed borrower rate less the SAP spread and the average of the applicable interest rate index on that notional amount of student loans for a portion of the estimated life of the student loan. This contract effectively locks in the amount of Floor Income we will earn over the period of the contract. Floor Income Contracts are not considered effective hedges under Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities," and each quarter we must periodically record the change in fair value of these contracts through income.
GSE—The Student Loan Marketing Association is a federally chartered government sponsoredgovernment-sponsored enterprise ("GSE") and wholly owned subsidiary of SLM Corporation. Under the Student Loan Marketing Association Reorganization
HEA—The Higher Education Act of 1996, the GSE must dissolve by September 30, 2008.1965, as amended.
2
Management expects to effect the dissolution by September 30, 2006 (the "Wind-Down Period" or "Wind-Down" is the period during which we effect the dissolution).
Managed Basis—We generally analyze the performance of our student loan portfolio on a Managed Basis, under which we view both on-balance sheet student loans and off-balance sheet student loans owned by the securitization trusts as a single portfolio and the related on-balance sheet financings are combined with off-balance sheet debt. When the term Managed is capitalized in this document, it is referring to Managed Basis.
Offset Fee—We are required to pay to the DOE an annual 30 basis point Offset Fee on the outstanding balance of Stafford and PLUS student loans purchased and held by the GSE after August 10, 1993. The fee does not apply to student loans sold to securitized trusts or to loans held outside of the GSE.
Preferred Channel Originations—Preferred Channel Originations are comprised of: 1) student loans that are originated or serviced on our proprietary platforms, or through an affiliated brand, and are committed for sale to usSallie Mae, such that we either own them from inception or we acquire them soon after origination.origination, and 2) loans that are originated and serviced on other platforms on behalf of Sallie Mae owned brands and our lending partners, Bank One and JP Morgan Chase, and are committed for sale to Sallie Mae.
Preferred Lender List—To streamline the student loan process, most higher education institutions select a small number of lenders to recommend to their students and parents. This recommended list is referred to as the Preferred Lender List.
Private Credit Student Loans—Education loans to students or parents of students that are not guaranteed or reinsured under the FFELP or any other federal student loan program. Private Credit Student Loans include loans for traditional higher education with repayment terms that begin after graduation, similar to the FFELP, and for alternative education, such as career training, that require repayment immediately.
Privatization Act—The Student Loan Marketing Association Reorganization Act of 1996.
Residual Interest—When we securitize student loans, we retain the right to receive cash flows from the student loans sold in excess of amounts needed to pay servicing and other fees and the principal and interest on the bonds backed by the student loans. The Residual Interest is the present value of the future expected cash flows from off-balance sheet student loans in securitized trusts, which includes the present value of Embedded Fixed Rate Floor Income described above. We value the Residual Interest at the time of sale and at each subsequent quarter.
Retained Interest—In our securitizations the Retained Interest includes the Residual Interest plus reserve and other cash accounts that serve as credit enhancements to asset-backed securities issued in our securitizations.
Risk Sharing—When a FFELP loan defaults, the federal government guarantees 98 percent of the principal balance plus accrued interest and the holder of the loan must absorb the two percent not guaranteed as a Risk Sharing loss on the loan. All FFELP student loans acquired after October 1, 1993 are subject to Risk Sharing on loan default claim payments unless the default results from death, disability or bankruptcy.
Special Allowance Payment ("SAP")—FFELP student loans generally earn interest at the greater of the borrower rate or a floating rate determined by reference to the average of the applicable floating rates (91-day Treasury bill rate or commercial paper) in a calendar quarter, plus a fixed spread ("the SAP Spread") that is dependent upon when the loan was originated and the loan's repayment status. If the resulting floating rate exceeds the borrower rate, the DOE pays the difference directly to us. This payment is referred to as the Special Allowance Payment or SAP and the formula used to determine the floating rate is the SAP formula. We refer to the fixed spread to the underlying index as the Special Allowance margin.
Title IV Programs and Title IV Loans—Student loan programs created under Title IV of the HEA, including the FFELP and the FDLP, and student loans originated under those programs, respectively.
Wind-Down—The dissolution of the Student Loan Marketing Association (the "GSE") under the terms of the Privatization Act.
Wind-Down Period—The period during which the Student Loan Marketing Association is dissolved under the terms of the Privatization Act.
Variable Rate Floor Income—For student loans whose borrower interest rate resets annually on July 1, we may earn Floor Income or Embedded Floor Income based on a calculation of the difference between the borrower rate and the then current interest rate. We refer to this as Variable Rate Floor Income because we may only earn Floor Income is earned only through the next reset date.
3
SLM CORPORATION
FORM 10-Q
INDEXSeptember 30, 2003March 31, 2004
| Part I. Financial Information | ||||
| Item 1. | Financial Statements | |||
| 6 | ||||
| Item 2. | Management's Discussion and Analysis of Financial Condition and Results of Operations | |||
| 25 | ||||
| Item 3. | Quantitative and Qualitative Disclosures about Market Risk | |||
| 60 | ||||
| Item 4. | Controls and Procedures | 61 | ||
Part II. Other Information | ||||
| Item 1. | Legal Proceedings | |||
| 63 | ||||
| Item 2. | Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities | 64 | ||
| Item 3. | Defaults Upon Senior Securities | |||
| 64 | ||||
| Item 4. | Submission of Matters to a Vote of Security Holders | |||
| 64 | ||||
| Item 5. | Other Information | |||
| 64 | ||||
| Item 6. | Exhibits and Reports on Form 8-K | 64 | ||
Signatures | 66 | |||
Appendix A—Student Loan Marketing Association Consolidated Financial Statements | A-1 | |||
4
SLM CORPORATION
CONSOLIDATED BALANCE SHEETS
(Dollars and shares in thousands, except per share amounts)
| | | September 30, 2003 | December 31, 2002 | | March 31, 2004 | December 31, 2003 | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | (Unaudited) | | | (Unaudited) | | ||||||||
| Assets | Assets | Assets | ||||||||||||
| Federally insured student loans (net of allowance for losses of $38,626 and $36,325, respectively) | $ | 30,976,881 | $ | 37,172,120 | ||||||||||
| Federally insured student loans in trust (net of allowance for losses of $10,912) | 9,677,258 | — | ||||||||||||
| Private credit student loans (net of allowance for losses of $185,378 and $194,359, respectively) | 5,029,310 | 5,167,555 | ||||||||||||
| Academic facilities financings and other loans | 1,093,900 | 1,202,045 | ||||||||||||
| Federally insured student loans (net of allowance for losses of $20,592 and $26,283, respectively) | Federally insured student loans (net of allowance for losses of $20,592 and $26,283, respectively) | $ | 26,174,672 | $ | 29,222,268 | |||||||||
| Federally insured student loans in trust (net of allowance for losses of $28,637 and $19,710, respectively) | Federally insured student loans in trust (net of allowance for losses of $28,637 and $19,710, respectively) | 24,062,169 | 16,354,805 | |||||||||||
| Private Credit Student Loans (net of allowance for losses of $154,222 and $165,716, respectively) | Private Credit Student Loans (net of allowance for losses of $154,222 and $165,716, respectively) | 4,176,841 | 4,470,156 | |||||||||||
| Academic facilities financings and other loans (net of allowance for losses of $10,179 and $10,052, respectively) | Academic facilities financings and other loans (net of allowance for losses of $10,179 and $10,052, respectively) | 1,104,226 | 1,030,907 | |||||||||||
| Investments | Investments | Investments | ||||||||||||
| Trading | 170 | 175 | ||||||||||||
| Available-for-sale | 4,799,284 | 3,537,117 | Trading | 165 | 166 | |||||||||
| Held-to-maturity | 17,509 | 18,651 | Available-for-sale | 5,774,693 | 4,370,347 | |||||||||
| Other | 654,288 | 675,558 | Other | 701,022 | 677,357 | |||||||||
| Total investments | Total investments | 5,471,251 | 4,231,501 | Total investments | 6,475,880 | 5,047,870 | ||||||||
| Cash and cash equivalents | Cash and cash equivalents | 1,912,709 | 758,302 | Cash and cash equivalents | 3,818,812 | 1,847,585 | ||||||||
| Restricted cash and investments | Restricted cash and investments | 1,245,828 | 1,105,896 | |||||||||||
| Retained Interest in securitized receivables | Retained Interest in securitized receivables | 2,749,130 | 2,145,523 | Retained Interest in securitized receivables | 2,482,242 | 2,475,836 | ||||||||
| Goodwill and acquired intangible assets, net | Goodwill and acquired intangible assets, net | 581,208 | 586,127 | Goodwill and acquired intangible assets, net | 589,078 | 592,112 | ||||||||
| Other assets | Other assets | 2,444,911 | 1,911,832 | Other assets | 3,133,709 | 2,463,216 | ||||||||
| Total assets | Total assets | $ | 59,936,558 | $ | 53,175,005 | Total assets | $ | 73,263,457 | $ | 64,610,651 | ||||
| Liabilities | Liabilities | Liabilities | ||||||||||||
| Short-term borrowings | Short-term borrowings | $ | 22,995,312 | $ | 25,618,955 | Short-term borrowings | $ | 16,176,387 | $ | 18,735,385 | ||||
| Borrowings collateralized by loans in trust | Borrowings collateralized by loans in trust | 24,595,289 | 16,597,396 | |||||||||||
| Long-term notes | Long-term notes | 31,259,011 | 22,242,115 | Long-term notes | 26,710,017 | 23,210,778 | ||||||||
| Other liabilities | Other liabilities | 3,038,251 | 3,315,985 | Other liabilities | 3,044,113 | 3,437,046 | ||||||||
| Total liabilities | Total liabilities | 57,292,574 | 51,177,055 | Total liabilities | 70,525,806 | 61,980,605 | ||||||||
| Commitments and contingencies (Note 8) | ||||||||||||||
| Commitments and contingencies | Commitments and contingencies | |||||||||||||
Stockholders' equity | Stockholders' equity | Stockholders' equity | ||||||||||||
| Preferred stock, Series A, par value $.20 per share, 20,000 shares authorized: 3,300 and 3,300 shares issued, respectively, at stated value of $50 per share | Preferred stock, Series A, par value $.20 per share, 20,000 shares authorized: 3,300 and 3,300 shares issued, respectively, at stated value of $50 per share | 165,000 | 165,000 | Preferred stock, Series A, par value $.20 per share, 20,000 shares authorized: 3,300 and 3,300 shares issued, respectively, at stated value of $50 per share | 165,000 | 165,000 | ||||||||
| Common stock, par value $.20 per share, 1,125,000 shares authorized: 471,278 and 624,552 shares issued, respectively | 94,256 | 124,910 | ||||||||||||
| Common stock, par value $.20 per share, 1,125,000 shares authorized: 476,442 and 472,643 shares issued, respectively | Common stock, par value $.20 per share, 1,125,000 shares authorized: 476,442 and 472,643 shares issued, respectively | 95,289 | 94,529 | |||||||||||
| Additional paid-in capital | Additional paid-in capital | 1,442,919 | 1,102,574 | Additional paid-in capital | 1,670,640 | 1,553,240 | ||||||||
| Accumulated other comprehensive income (net of tax of $306,051 and $319,178, respectively) | 568,381 | 592,760 | ||||||||||||
| Accumulated other comprehensive income (net of tax of $287,778 and $229,181, respectively) | Accumulated other comprehensive income (net of tax of $287,778 and $229,181, respectively) | 534,445 | 425,621 | |||||||||||
| Retained earnings | Retained earnings | 755,687 | 2,718,226 | Retained earnings | 1,153,100 | 941,284 | ||||||||
| Stockholders' equity before treasury stock | Stockholders' equity before treasury stock | 3,026,243 | 4,703,470 | Stockholders' equity before treasury stock | 3,618,474 | 3,179,674 | ||||||||
| Common stock held in treasury at cost: 20,643 and 166,812 shares, respectively | 382,259 | 2,705,520 | ||||||||||||
| Common stock held in treasury at cost: 33,533 and 24,965 shares, respectively | Common stock held in treasury at cost: 33,533 and 24,965 shares, respectively | 880,823 | 549,628 | |||||||||||
| Total stockholders' equity | Total stockholders' equity | 2,643,984 | 1,997,950 | Total stockholders' equity | 2,737,651 | 2,630,046 | ||||||||
| Total liabilities and stockholders' equity | Total liabilities and stockholders' equity | $ | 59,936,558 | $ | 53,175,005 | Total liabilities and stockholders' equity | $ | 73,263,457 | $ | 64,610,651 | ||||
See accompanying notes to consolidated financial statements.
5
SLM CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(Dollars and shares in thousands, except per share amounts)
| | | Three months ended September 30, | Nine months ended September 30, | | Three months ended March 31, | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | 2003 | 2002 | 2003 | 2002 | | 2004 | 2003 | ||||||||||||||
| | | (Unaudited) | (Unaudited) | (Unaudited) | (Unaudited) | | (Unaudited) | (Unaudited) | ||||||||||||||
| Interest income: | Interest income: | Interest income: | ||||||||||||||||||||
| Federally insured student loans | $ | 341,438 | $ | 410,243 | $ | 1,052,584 | $ | 1,326,752 | Federally insured student loans | $ | 468,967 | $ | 467,482 | |||||||||
| Private credit student loans | 83,500 | 94,213 | 260,193 | 246,344 | Private Credit Student Loans | 76,589 | 87,572 | |||||||||||||||
| Academic facilities financings and other loans | 19,050 | 21,643 | 58,546 | 70,061 | Academic facilities financings and other loans | 18,376 | 20,206 | |||||||||||||||
| Investments | 39,204 | 28,829 | 109,499 | 108,704 | Investments | 43,457 | 28,261 | |||||||||||||||
| Total interest income | Total interest income | 483,192 | 554,928 | 1,480,822 | 1,751,861 | Total interest income | 607,389 | 603,521 | ||||||||||||||
Interest expense: | Interest expense: | Interest expense: | ||||||||||||||||||||
| Short-term debt | 99,190 | 145,045 | 294,872 | 480,059 | Short-term debt | 84,664 | 94,222 | |||||||||||||||
| Long-term debt | 133,788 | 155,570 | 428,922 | 448,186 | Long-term debt | 201,010 | 163,080 | |||||||||||||||
| Total interest expense | Total interest expense | 232,978 | 300,615 | 723,794 | 928,245 | Total interest expense | 285,674 | 257,302 | ||||||||||||||
| Net interest income | Net interest income | 250,214 | 254,313 | 757,028 | 823,616 | Net interest income | 321,715 | 346,219 | ||||||||||||||
| Less: provision for losses | Less: provision for losses | 41,695 | 34,771 | 120,689 | 82,558 | Less: provision for losses | 39,818 | 42,545 | ||||||||||||||
| Net interest income after provision for losses | Net interest income after provision for losses | 208,519 | 219,542 | 636,339 | 741,058 | Net interest income after provision for losses | 281,897 | 303,674 | ||||||||||||||
| Other income: | Other income: | Other income: | ||||||||||||||||||||
| Gains on student loan securitizations | 39,454 | 17,819 | 659,477 | 75,838 | Gains on student loan securitizations | 113,954 | 305,803 | |||||||||||||||
| Servicing and securitization revenue | 74,812 | 121,185 | 349,348 | 495,923 | Servicing and securitization revenue | 136,658 | 188,612 | |||||||||||||||
| Losses on sales of securities, net | (6,457 | ) | (62,854 | ) | (114,677 | ) | (188,463 | ) | Derivative market value adjustment | (116,743 | ) | (119,064 | ) | |||||||||
| Derivative market value adjustment | 250,342 | (365,917 | ) | 335,162 | (254,519 | ) | Guarantor servicing fees | 34,971 | 35,193 | |||||||||||||
| Guarantor servicing fees | 40,323 | 27,679 | 100,776 | 78,118 | Debt management fees | 79,928 | 58,813 | |||||||||||||||
| Debt management fees | 78,275 | 47,642 | 189,772 | 137,017 | Other | 58,955 | 49,575 | |||||||||||||||
| Other | 53,368 | 63,494 | 168,922 | 168,527 | ||||||||||||||||||
| Total other income (loss) | 530,117 | (150,952 | ) | 1,688,780 | 512,441 | |||||||||||||||||
| Total other income | Total other income | 307,723 | 518,932 | |||||||||||||||||||
Operating expenses: | Operating expenses: | Operating expenses: | ||||||||||||||||||||
| Salaries and benefits | 110,103 | 96,328 | 316,644 | 280,048 | Salaries and benefits | 126,268 | 95,819 | |||||||||||||||
| Other | 74,102 | 77,981 | 236,793 | 229,004 | Other | 82,609 | 83,546 | |||||||||||||||
| Total operating expenses | Total operating expenses | 184,205 | 174,309 | 553,437 | 509,052 | Total operating expenses | 208,877 | 179,365 | ||||||||||||||
| Income (loss) before income taxes (benefit) and cumulative effect of accounting change | 554,431 | (105,719 | ) | 1,771,682 | 744,447 | |||||||||||||||||
| Income taxes (benefit) | 204,514 | (43,340 | ) | 632,522 | 258,481 | |||||||||||||||||
| Income before income taxes | Income before income taxes | 380,743 | 643,241 | |||||||||||||||||||
| Income taxes | Income taxes | 89,278 | 226,692 | |||||||||||||||||||
| Income (loss) before cumulative effect of accounting change | 349,917 | (62,379 | ) | 1,139,160 | 485,966 | |||||||||||||||||
| Cumulative effect of accounting change | 129,971 | — | 129,971 | — | ||||||||||||||||||
| Net income (loss) | 479,888 | (62,379 | ) | 1,269,131 | 485,966 | |||||||||||||||||
| Net income | Net income | 291,465 | 416,549 | |||||||||||||||||||
| Preferred stock dividends | Preferred stock dividends | 2,875 | 2,875 | 8,625 | 8,625 | Preferred stock dividends | 2,886 | 2,875 | ||||||||||||||
| Net income (loss) attributable to common stock | $ | 477,013 | $ | (65,254 | ) | $ | 1,260,506 | $ | 477,341 | |||||||||||||
| Net income attributable to common stock | Net income attributable to common stock | $ | 288,579 | $ | 413,674 | |||||||||||||||||
| Basic earnings (loss) per common share: | ||||||||||||||||||||||
| Before cumulative effect of accounting change | $ | .77 | $ | (.14 | ) | $ | 2.50 | $ | 1.03 | |||||||||||||
| Cumulative effect of accounting change | .29 | — | .28 | — | ||||||||||||||||||
| Basic earnings (loss) per common share, after cumulative effect of accounting change | $ | 1.06 | $ | (.14 | ) | $ | 2.78 | $ | 1.03 | |||||||||||||
| Basic earnings per common share | Basic earnings per common share | $ | .65 | $ | .91 | |||||||||||||||||
| Average common shares outstanding | Average common shares outstanding | 450,725 | 461,159 | 453,139 | 463,630 | Average common shares outstanding | 442,664 | 456,581 | ||||||||||||||
| Diluted earnings (loss) per common share: | ||||||||||||||||||||||
| Before cumulative effect of accounting change | $ | .76 | $ | (.14 | ) | $ | 2.43 | $ | 1.00 | |||||||||||||
| Cumulative effect of accounting change | .28 | — | .28 | — | ||||||||||||||||||
| Diluted earnings per common share, after cumulative effect of accounting change | $ | 1.04 | $ | (.14 | ) | $ | 2.71 | $ | 1.00 | |||||||||||||
| Diluted earnings per common share | Diluted earnings per common share | $ | .64 | $ | .88 | |||||||||||||||||
| Average common and common equivalent shares outstanding | Average common and common equivalent shares outstanding | 460,647 | 461,159 | 465,125 | 475,631 | Average common and common equivalent shares outstanding | 451,747 | 469,696 | ||||||||||||||
| Dividends per common share | Dividends per common share | $ | .17 | $ | .07 | $ | .42 | $ | .21 | Dividends per common share | $ | .17 | $ | .08 | ||||||||
See accompanying notes to consolidated financial statements.
6
SLM CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(Dollars in thousands, except share and per share amounts)
(Unaudited)
| | | | Common Stock Shares | | | | Accumulated Other Comprehensive Income (Loss) | | | | | | Common Stock Shares | | | | Accumulated Other Comprehensive Income (Loss) | | | | ||||||||||||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Preferred Stock Shares | Preferred Stock | Common Stock | Additional Paid-In Capital | Retained Earnings | Treasury Stock | Total Stockholders' Equity | | Preferred Stock Shares | Preferred Stock | Common Stock | Additional Paid-In Capital | Retained Earnings | Treasury Stock | Total Stockholders' Equity | ||||||||||||||||||||||||||||||||||||||||||||||||
| | | Issued | Treasury | Outstanding | Accumulated Other Comprehensive Income (Loss) | | Issued | Treasury | Outstanding | Accumulated Other Comprehensive Income (Loss) | ||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Balance at June 30, 2002 | 3,300,000 | 616,546,227 | (152,543,835 | ) | 464,002,392 | $ | 165,000 | $ | 123,309 | $ | 892,106 | $ | 505,635 | $ | 2,548,861 | $ | (2,310,216 | ) | $ | 1,924,695 | ||||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2002 | Balance at December 31, 2002 | 3,300,000 | 624,551,508 | (166,812,720 | ) | 457,738,788 | $ | 165,000 | $ | 124,910 | $ | 1,102,574 | $ | 592,760 | $ | 2,718,226 | $ | (2,705,520 | ) | $ | 1,997,950 | |||||||||||||||||||||||||||||||||||||||||||
| Comprehensive income: | Comprehensive income: | Comprehensive income: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income (loss) | 416,549 | 416,549 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income (loss) | (62,379 | ) | (62,379 | ) | Other comprehensive income, net of tax: | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income, net of tax: | Change in unrealized gains (losses) on investments, net of tax | 1,774 | 1,774 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Change in unrealized gains (losses) on investments, net of tax | 140,016 | 140,016 | Change in unrealized gains (losses) on derivatives, net of tax | 3,087 | 3,087 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Change in unrealized gains (losses) on derivatives, net of tax | (38,813 | ) | (38,813 | ) | Minimum pension liability adjustment | (928 | ) | (928 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Comprehensive income | Comprehensive income | 38,824 | Comprehensive income | 420,482 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Cash dividends: | Cash dividends: | Cash dividends: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Common stock ($.07 per share) | (30,750 | ) | (30,750 | ) | Common stock ($.08 per share) | (37,850 | ) | (37,850 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Preferred stock ($.87 per share) | (2,875 | ) | (2,875 | ) | Preferred stock ($.87 per share) | (2,875 | ) | (2,875 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Issuance of common shares | Issuance of common shares | 2,578,302 | 151,488 | 2,729,790 | 516 | 43,937 | 4,628 | 49,081 | Issuance of common shares | 5,731,644 | 77,274 | 5,808,918 | 1,147 | 132,875 | 2,725 | 136,747 | ||||||||||||||||||||||||||||||||||||||||||||||||
| Tax benefit related to employee stock option and purchase plans | Tax benefit related to employee stock option and purchase plans | 12,294 | 12,294 | Tax benefit related to employee stock option and purchase plans | 3,389 | 3,389 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Premiums on equity forward purchase contracts | Premiums on equity forward purchase contracts | (7,162 | ) | (7,162 | ) | Premiums on equity forward purchase contracts | (6,365 | ) | (6,365 | ) | ||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase of common shares: | Repurchase of common shares: | Repurchase of common shares: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Open market repurchases | (75,000 | ) | (75,000 | ) | (2,274 | ) | (2,274 | ) | Open market repurchases | (3,415,290 | ) | (3,415,290 | ) | (122,786 | ) | (122,786 | ) | |||||||||||||||||||||||||||||||||||||||||||||||
| Equity forward repurchases | (5,550,000 | ) | (5,550,000 | ) | (142,738 | ) | (142,738 | ) | Equity forward repurchases | (4,560,000 | ) | (4,560,000 | ) | (109,987 | ) | (109,987 | ) | |||||||||||||||||||||||||||||||||||||||||||||||
| Benefit plans | (490,272 | ) | (490,272 | ) | (14,729 | ) | (14,729 | ) | Benefit plans | (968,778 | ) | (968,778 | ) | (34,449 | ) | (34,449 | ) | |||||||||||||||||||||||||||||||||||||||||||||||
| Balance at September 30, 2002 | 3,300,000 | 619,124,529 | (158,507,619 | ) | 460,616,910 | $ | 165,000 | $ | 123,825 | $ | 941,175 | $ | 606,838 | $ | 2,452,857 | $ | (2,465,329 | ) | $ | 1,824,366 | ||||||||||||||||||||||||||||||||||||||||||||
| Balance at March 31, 2003 | Balance at March 31, 2003 | 3,300,000 | 630,283,152 | (175,679,514 | ) | 454,603,638 | $ | 165,000 | $ | 126,057 | $ | 1,232,473 | $ | 596,693 | $ | 3,094,050 | $ | (2,970,017 | ) | $ | 2,244,256 | |||||||||||||||||||||||||||||||||||||||||||
| Balance at June 30, 2003 | 3,300,000 | 638,983,455 | (188,490,732 | ) | 450,492,723 | $ | 165,000 | $ | 127,797 | $ | 1,359,082 | $ | 689,220 | $ | 3,386,218 | $ | (3,361,145 | ) | $ | 2,366,172 | ||||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2003 | Balance at December 31, 2003 | 3,300,000 | 472,642,996 | (24,964,753 | ) | 447,678,243 | $ | 165,000 | $ | 94,529 | $ | 1,553,240 | $ | 425,621 | $ | 941,284 | $ | (549,628 | ) | $ | 2,630,046 | |||||||||||||||||||||||||||||||||||||||||||
| Comprehensive income: | Comprehensive income: | Comprehensive income: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income | 291,465 | 291,465 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income | 479,888 | 479,888 | Other comprehensive income, net of tax: | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income, net of tax: | Change in unrealized gains (losses) on investments, net of tax | 104,189 | 104,189 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Change in unrealized gains (losses) on investments, net of tax | (125,908 | ) | (125,908 | ) | Change in unrealized gains (losses) on derivatives, net of tax | 4,993 | 4,993 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Change in unrealized gains (losses) on derivatives, net of tax | 5,069 | 5,069 | Minimum pension liability adjustment | (358 | ) | (358 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Comprehensive income | Comprehensive income | 359,049 | Comprehensive income | 400,289 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Cash dividends: | Cash dividends: | Cash dividends: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Common stock ($.17 per share) | (75,424 | ) | (75,424 | ) | Common stock ($.17 per share) | (76,763 | ) | (76,763 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Preferred stock ($.87 per share) | (2,875 | ) | (2,875 | ) | Preferred stock ($.87 per share) | (2,886 | ) | (2,886 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Issuance of common shares | Issuance of common shares | 2,294,909 | 4,289 | 2,299,198 | 459 | 58,317 | 170 | 58,946 | Issuance of common shares | 3,799,142 | 37,679 | 3,836,821 | 760 | 96,053 | 1,513 | 98,326 | ||||||||||||||||||||||||||||||||||||||||||||||||
| Retirement of common stock held in treasury | (170,000,000 | ) | 170,000,000 | — | (34,000 | ) | (3,032,120 | ) | 3,066,120 | — | ||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Tax benefit related to employee stock option and purchase plans | Tax benefit related to employee stock option and purchase plans | 13,062 | 13,062 | Tax benefit related to employee stock option and purchase plans | 21,347 | 21,347 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Cumulative effect of accounting change | 12,458 | 12,458 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase of common shares: | Repurchase of common shares: | Repurchase of common shares: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Open market repurchases | (477,200 | ) | (477,200 | ) | (18,672 | ) | (18,672 | ) | Equity forward repurchases | (7,891,660 | ) | (7,891,660 | ) | (303,751 | ) | (303,751 | ) | |||||||||||||||||||||||||||||||||||||||||||||||
| Equity forward repurchases | (1,022,300 | ) | (1,022,300 | ) | (41,507 | ) | (41,507 | ) | Benefit plans | (714,748 | ) | (714,748 | ) | (28,957 | ) | (28,957 | ) | |||||||||||||||||||||||||||||||||||||||||||||||
| Benefit plans | (656,840 | ) | (656,840 | ) | (27,225 | ) | (27,225 | ) | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Balance at March 31, 2004 | Balance at March 31, 2004 | 3,300,000 | 476,442,138 | (33,533,482 | ) | 442,908,656 | $ | 165,000 | $ | 95,289 | $ | 1,670,640 | $ | 534,445 | $ | 1,153,100 | $ | (880,823 | ) | $ | 2,737,651 | |||||||||||||||||||||||||||||||||||||||||||
| Balance at September 30, 2003 | 3,300,000 | 471,278,364 | (20,642,783 | ) | 450,635,581 | $ | 165,000 | $ | 94,256 | $ | 1,442,919 | $ | 568,381 | $ | 755,687 | $ | (382,259 | ) | $ | 2,643,984 | ||||||||||||||||||||||||||||||||||||||||||||
See accompanying notes to consolidated financial statements.
7
SLM CORPORATION See accompanying notes to consolidated financial statements. (Information at 1. Significant Accounting Policies Basis of Presentation The accompanying unaudited consolidated financial statements of SLM Corporation (the "Company") have been prepared in accordance with generally accepted accounting principles in the United States of America ("GAAP") for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for complete consolidated financial statements. In the opinion of management, all adjustments considered necessary for a fair statement of the results for the interim periods have been included. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Operating results for the three In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based The following table summarizes pro forma disclosures for the three months ended March 31, 2004 and The provision for The federal government guarantees 98 percent of principal and interest of federally insured student loans, which limits the Company's loss exposure to two percent of the outstanding balance of the Company's federally insured portfolio. The Company nonpayment for borrowers experiencing temporary difficulty meeting payment obligations (typically, very early in the repayment term when the borrowers are starting their careers). This is referred to as forbearance status. At March 31, 2004, 4 percent of the Private Credit Student Loan portfolio was in forbearance status. Private Credit Student Loan principal and The following table summarizes changes in the allowance for student loan losses for The table below The The Company The following SLM CORPORATIONCONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY(Dollars in thousands, except share and per share amounts)(Unaudited) Common Stock Shares Accumulated
Other
Comprehensive
Income (Loss) Preferred
Stock
Shares Preferred
Stock Common
Stock Additional
Paid-In
Capital Retained
Earnings Treasury
Stock Total
Stockholders'
Equity Issued Treasury Outstanding Balance at December 31, 2001 3,300,000 608,209,158 (141,722,514 ) 466,486,644 $ 165,000 $ 121,642 $ 724,709 $ 670,199 $ 2,068,490 $ (2,077,578 ) $ 1,672,462 Comprehensive income: Net income 485,966 485,966 Other comprehensive income, net of tax: Change in unrealized gains (losses) on investments, net of tax (24,675 ) (24,675 ) Change in unrealized gains (losses) on derivatives, net of tax (38,686 ) (38,686 ) Comprehensive income 422,605 Cash dividends: Common stock ($.14 per share) (92,974 ) (92,974 ) Preferred stock ($1.74 per share) (8,625 ) (8,625 ) Issuance of common shares 10,915,371 842,028 11,757,399 2,183 191,454 23,982 217,619 Tax benefit related to employee stock option and purchase plans 50,858 50,858 Premiums on equity forward purchase contracts (25,846 ) (25,846 ) Repurchase of common shares: Open market repurchases (75,000 ) (75,000 ) (2,274 ) (2,274 ) Equity forward repurchases (14,700,000 ) (14,700,000 ) (321,766 ) (321,766 ) Benefit plans (2,852,133 ) (2,852,133 ) (87,693 ) (87,693 ) Balance at September 30, 2002 3,300,000 619,124,529 (158,507,619 ) 460,616,910 $ 165,000 $ 123,825 $ 941,175 $ 606,838 $ 2,452,857 $ (2,465,329 ) $ 1,824,366 Balance at December 31, 2002 3,300,000 624,551,508 (166,812,720 ) 457,738,788 $ 165,000 $ 124,910 $ 1,102,574 $ 592,760 $ 2,718,226 $ (2,705,520 ) $ 1,997,950 Comprehensive income: Net income 1,269,131 1,269,131 Other comprehensive income, net of tax: Change in unrealized gains (losses) on investments, net of tax (28,351 ) (28,351 ) Change in unrealized gains (losses) on derivatives, net of tax 4,900 4,900 Minimum pension liability adjustment (928 ) (928 ) Comprehensive income 1,244,752 Cash dividends: Common stock ($.25 per share) (190,925 ) (190,925 ) Preferred stock ($1.74 per share) (8,625 ) (8,625 ) Issuance of common shares 10,899,200 85,693 10,984,893 2,181 255,401 3,061 260,643 Issuance of common shares due to exercise of stock warrants 5,827,656 5,827,656 1,165 39,034 40,199 Retirement of common stock in treasury (170,000,000 ) 170,000,000 — (34,000 ) (3,032,120 ) 3,066,120 — Tax benefit related to employee stock option and purchase plans 50,813 50,813 Premiums on equity forward purchase contracts (17,361 ) (17,361 ) Cumulative effect of accounting change 12,458 12,458 Repurchase of common shares: Open market repurchases (5,474,590 ) (5,474,590 ) (205,495 ) (205,495 ) Equity forward repurchases (16,082,300 ) (16,082,300 ) (450,639 ) (450,639 ) Benefit plans (2,358,866 ) (2,358,866 ) (89,786 ) (89,786 ) Balance at September 30, 2003 3,300,000 471,278,364 (20,642,783 ) 450,635,581 $ 165,000 $ 94,256 $ 1,442,919 $ 568,381 $ 755,687 $ (382,259 ) $ 2,643,984 See accompanying notes to consolidated financial statements.8
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands) Nine months ended September 30, Three months ended
March 31, 2003 2002 2004 2003 (Unaudited) (Unaudited) (Unaudited) (Unaudited) Operating activities Operating activities Operating activities Net income Net income $ 1,269,131 $ 485,966 Net income $ 291,465 $ 416,549 Adjustments to reconcile net income to net cash provided by operating activities: Adjustments to reconcile net income to net cash provided by operating activities: Adjustments to reconcile net income to net cash provided by operating activities: Cumulative effect of accounting change (129,971 ) — Gains on student loan securitizations (113,954 ) (305,803 ) Gains on student loan securitizations (659,477 ) (75,838 ) Losses on sales of securities, net — 81,560 Losses on sales of securities, net 114,677 188,463 Unrealized derivative market value adjustment 41,094 (114,366 ) Derivative market value adjustment (335,162 ) 254,519 Unrealized derivative equity forward non-taxable (140,761 ) — Provision for losses 120,689 82,558 Provision for losses 39,818 42,545 Decrease (increase) in accrued interest receivable 21,078 (105,227 ) Mortgage loans originated (363,140 ) (228,319 ) Increase (decrease) in accrued interest payable 25,221 (10,096 ) Proceeds from sales of mortgage loans 262,582 195,554 Decrease in Retained Interest in securitized receivables, net 241,667 115,829 Increase in restricted cash (238,066 ) (30,508 ) Decrease (increase) in other assets, goodwill and acquired intangible assets 15,500 (43,655 ) (Increase) decrease in accrued interest receivable (164,716 ) 76,278 (Decrease) in other liabilities (273,595 ) (650,122 ) Increase in accrued interest payable 99,349 36,206 Decrease in Retained Interest in securitized receivables, net 22,893 411 Decrease (increase) in other assets, goodwill and acquired intangible assets 34,558 (274,198 ) (Decrease) increase in other liabilities (558,130 ) 50,749 Total adjustments Total adjustments (859,373 ) (243,569 ) Total adjustments (1,078,473 ) (469,891 ) Net cash provided by operating activities 409,758 242,397 Net cash used in operating activities Net cash used in operating activities (787,008 ) (53,342 ) Investing activities Investing activities Investing activities Student loans acquired Student loans acquired (14,684,275 ) (12,482,383 ) Student loans acquired (6,311,801 ) (5,179,019 ) Loans acquired from securitized trusts through loan consolidations (4,489,637 ) (2,602,479 ) Loans purchased from securitized trusts (primarily through loan consolidations) Loans purchased from securitized trusts (primarily through loan consolidations) (1,273,677 ) (1,332,504 ) Reduction of student loans: Reduction of student loans: Reduction of student loans: Installment payments 2,913,412 3,113,159 Installment payments 1,595,982 1,080,080 Claims and resales 498,061 499,637 Claims and resales 216,594 174,641 Proceeds from securitization of student loans 12,248,554 7,967,914 Proceeds from securitization of student loans treated as sales 1,236,345 4,237,815 Proceeds from sales of student loans — 54,754 Proceeds from sales of student loans 190,687 — Academic facilities financings and other loans made Academic facilities financings and other loans made (306,517 ) (456,639 ) Academic facilities financings and other loans made (151,343 ) (99,687 ) Academic facilities financings and other loans repayments Academic facilities financings and other loans repayments 481,431 1,128,039 Academic facilities financings and other loans repayments 143,086 164,077 Purchases of available-for-sale securities Purchases of available-for-sale securities (185,401,088 ) (29,906,923 ) Purchases of available-for-sale securities (51,640,829 ) (13,727,223 ) Proceeds from sales and maturities of available-for-sale securities Proceeds from sales and maturities of available-for-sale securities 184,118,057 29,903,043 Proceeds from sales and maturities of available-for-sale securities 50,367,989 13,796,908 Purchases of held-to-maturity and other securities (241,373 ) (281,541 ) Proceeds from maturities of held-to-maturity securities and sales and maturities of other securities 238,777 335,574 Purchase of subsidiaries, net of cash acquired (43,507 ) (46,392 ) Purchases of other securities Purchases of other securities (114,179 ) (109,792 ) Proceeds from sales and maturities of other securities Proceeds from sales and maturities of other securities 90,515 92,925 Return of investment from Retained Interest Return of investment from Retained Interest 126,897 76,115 Net cash used in investing activities Net cash used in investing activities (4,668,105 ) (2,774,237 ) Net cash used in investing activities (5,523,734 ) (825,664 ) Financing activities Financing activities
Financing activities
Short-term borrowings issued Short-term borrowings issued 564,157,806 502,008,756 Short-term borrowings issued 179,680,070 173,060,575 Short-term borrowings repaid Short-term borrowings repaid (568,838,673 ) (499,811,442 ) Short-term borrowings repaid (181,021,844 ) (173,771,906 ) Long-term notes issued Long-term notes issued 17,126,671 16,689,747 Long-term notes issued 5,943,574 5,181,684 Long-term notes repaid Long-term notes repaid (16,123,885 ) (16,265,852 ) Long-term notes repaid (4,074,944 ) (5,576,723 ) Long-term notes issued by Variable Interest Entity 9,702,773 — Borrowings collateralized by loans in trust Borrowings collateralized by loans in trust 8,009,643 2,037,331 Common stock issued Common stock issued 351,655 268,477 Common stock issued 98,326 136,747 Premiums on equity forward contracts Premiums on equity forward contracts (17,361 ) (25,846 ) Premiums on equity forward contracts — (6,365 ) Common stock repurchased Common stock repurchased (746,682 ) (411,733 ) Common stock repurchased (273,207 ) (267,222 ) Common dividends paid Common dividends paid (190,925 ) (92,974 ) Common dividends paid (76,763 ) (37,850 ) Preferred dividends paid Preferred dividends paid (8,625 ) (8,625 ) Preferred dividends paid (2,886 ) (2,875 ) Net cash provided by financing activities Net cash provided by financing activities 5,412,754 2,350,508 Net cash provided by financing activities 8,281,969 753,396 Net increase (decrease) in cash and cash equivalents Net increase (decrease) in cash and cash equivalents 1,154,407 (181,332 ) Net increase (decrease) in cash and cash equivalents 1,971,227 (125,610 ) Cash and cash equivalents at beginning of period Cash and cash equivalents at beginning of period 758,302 715,001 Cash and cash equivalents at beginning of period 1,847,585 462,688 Cash and cash equivalents at end of period Cash and cash equivalents at end of period $ 1,912,709 $ 533,669 Cash and cash equivalents at end of period $ 3,818,812 $ 337,078 Cash disbursements made for: Cash disbursements made for: Cash disbursements made for: Interest $ 1,014,287 $ 1,253,775 Interest $ 218,583 $ 281,348 Income taxes $ 528,486 $ 511,224 Income taxes $ 201,564 $ 215,920 9
SLM CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTSSeptember 30, 2003March 31, 2004 and for the three and nine months endedSeptember 30,March 31, 2004 and 2003 and 2002 is unaudited)
(Dollars and shares in thousands, except per share amounts, unless otherwise stated)and nine months ended September 30, 2003March 31, 2004 are not necessarily indicative of the results for the year ending December 31, 2003.2004. These unaudited financial statements should be read in conjunction with the audited financial statements and related notes included in the Company's 20022003 Annual Report on Form 10-K.2. New Accounting PronouncementsAccounting for GuaranteesReclassificationsIn November 2002,A recent interpretation of the Financial Accounting Standards BoardBoard's (the "FASB""FASB's") issued FASB Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." FIN No. 45 identifies characteristics of certain guarantee contracts and requires that a liability be recognized at fair value at the inception of such guarantees for the obligations undertaken by the guarantor. Additional disclosures also are prescribed for certain guarantee contracts. The initial recognition and measurement provisions of FIN No. 45 were effective for these guarantees issued or modified after December 31, 2002. The implementation of FIN No. 45 did not have a material impact on the Company's consolidated financial statements.Consolidation of Variable Interest Entities In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable Interest Entities." FIN No. 46 clarifies the application of Accounting Research Bulletin No. 51, "Consolidated Financial Statements," and provides new accounting guidance on when to consolidate a Variable Interest Entity ("VIE"). VIEs are required to be consolidated by their primary beneficiaries if they do not effectively disperse risks among parties involved. A VIE exists when either the total equity investment at risk is not sufficient to permit the entity to finance its activities by itself, or the equity investors lack one of three characteristics associated with owning a controlling financial interest. Those characteristics are the direct or indirect ability to make decisions about an entity's activities through voting rights or similar rights, the obligation to absorb the expected losses of an entity if they occur, and the right to receive the expected residual returns of the entity if they occur. FIN No. 46 also requires new disclosures about VIEs.10 On February 1, 2003, the Company adopted FIN No. 46 for VIEs created in which the Company obtains an interest after January 31, 2003. Upon adoption of FIN No. 46, the Company reviewed all of its off-balance sheet asset-backed securitizations to determine if they should be consolidated on-balance sheet. Based on this review, all existing off-balance sheet securitizations still met the definition of Qualifying Special Purpose Entities ("QSPEs") as defined in Statement of Financial Accounting StandardsStandard ("SFAS") No. 140, "Accounting for Transfers133 requires net settlement income/expense on derivatives and Servicing of Financial Assets and Extinguishment of Liabilities—a Replacement ofrealized gains/losses related to derivative dispositions that do not qualify as hedges under SFAS No. 125," and will continue133 to not be consolidated. In addition,included in the Company's accounting treatmentderivative market value adjustment on the income statement. The table below summarizes these derivative reclassifications for its on-balance sheet Consolidation Loan securitizations are not affected by FIN No. 46 as the Company previously concluded that such transactions should be consolidated. Based on this review the Company has determined that FIN No. 46 does not have a material effect on its consolidated financial statements. FIN No. 46 was originally effective for interim periods beginning after June 15, 2003, however in October 2003, the FASB deferred this effective date until interim or annual periods ending after December 15,three months ended March 31, 2003. Three months ended
March 31, 2003 (Dollars in millions) Reclassification of realized derivative transactions to derivative market value adjustment: Net settlement expense on Floor Income Contracts reclassified from student loan income $ (118 ) Net settlement expense on Floor Income Contracts reclassified from servicing and securitization income (36 ) Net settlement income on interest rate swaps reclassified from interest expense 12 Net settlement expense on interest rate swaps reclassified from servicing and securitization income (15 ) Realized losses on closed Eurodollar futures contracts and terminated derivative contracts reclassified from other expense (77 ) Total reclassifications to the derivative market value adjustment (234 ) Add: Unrealized derivative market value adjustment 115 Derivative market value adjustment as reported $ (119 ) Accounting for Stock-Based CompensationCompensation — Compensation—Transition and Disclosure." SFAS No. 148Disclosure" which amends SFAS No. 123, "Accounting for Stock-Based Compensation," to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require more prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The additional disclosure requirements of SFAS No. 148 are effective for fiscal years ending after December 15, 2002. The Company has elected to continue to followaccount for its employee stock options under the intrinsic value method of accounting as prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees,Employees." to account for employee stock options. Under APB No. 25,Accordingly, the Company does not recognize compensation expense unless the exercise price of its employee stock options is less than the market price of the underlying stock on the date of grant. The Company grants all of its options at the fair market value of the underlying stock on the date of grant. Consequently, the Company has not recorded such expense in the periods presented. In Note 6, there is a presentation of net income (loss)earnings (loss) per share2003, as if the Company had accounted for its employee and Board of Directors stock options and employee stock plansgranted subsequent to December 31, 1994 under the fair market value based method prescribed byas set forth in SFAS No. 123.Equity Forward Contracts In May The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model, with the following weighted average assumptions for the three months ended March 31, 2004 and 2003, respectively: risk-free interest rate of 2.08 percent and 2.31 percent; volatility factor of the FASB issued SFAS No. 150, "Accountingexpected market price of the Company's common stock of 14.04 percent and 24.99 percent; expected dividend rate of 1.62 percent and 1.04 percent; and the expected life of the option of three years for Certain Financial Instruments with Characteristics of both Liabilities and Equity." SFAS No. 150 establishes standards for how a company classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 also outlines new accounting for equity forward contracts. Under SFAS No. 150, equity forward contractsperiods. Options that allow a net settlement option either in cash orhave vesting periods tied to the Company's stock price are requiredassumed to be accounted for in accordance with SFAS No. 133, "Accounting for Derivative Instruments and11Hedging Activities," as derivative financial instruments. Those equity forward contracts that require physical settlement only (cash for the purchase of shares) must be accounted for as a liability. The Company's existing contracts provide for physical settlement, net share or net cash settlement options. As a result, for equity forward contracts entered into after May 31, 2003, the Company accounts for these equity forward contracts as derivatives effective June 1, 2003 and records the change in fair value through earnings. Equity forward contracts entered into prior to June 1, 2003 and outstanding at July 1, 2003, were recorded at fair value on July 1, and the Company recorded a gain of $130 million which was reflected as a "cumulative effect of accounting change" in the consolidated statements of income forvest ratably over the three and nine months ended September 30, 2003. Included in this amount was a loss of $12 million previously recorded as an adjustment to equity related to interest costs associated with outstanding equity forwards. In the third quarter of 2003, the Company recognized a $10 million loss related to the mark-to-market of its equity forward contracts. In addition, the Company recorded a $5 million loss related to net cost of carry of the equity forward contracts. In the third quarter, the Company settled equity forward contracts by repurchasing its common stock for $43 million. The repurchased shares were recorded as treasury stock at the market value at the time of settlement of $42 million. The $1 million realized loss on these settlements that was previously recognized through equity forward marks-to-market was reversed in the derivative market valuation account. Gains and losses on equity forward contracts are excluded from gross income for federal and state income tax purposes.year historical vesting period. Three months ended
March 31, 2004 2003 Net income attributable to common stock $ 288,579 $ 413,674 Less: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (16,499 ) (26,201 ) Pro forma net income attributable to common stock $ 272,080 $ 387,473 Basic earnings per common share $ .65 $ .91 Pro forma basic earnings per common share $ .61 $ .85 Diluted earnings per common share $ .64 $ .88 Pro forma diluted earnings per common share $ .60 $ .82 3.2. Allowance for Student Loan Losses student loan losses represents the periodic expense of maintaining an allowance sufficient to absorb probable losses, net of recoveries, inherent in the student loan portfolios. The allowance for Private Credit Student Loan losses is an estimate of losses in the portfolio of student loans.at the balance sheet date that will be charged off in subsequent periods. The Company evaluates the adequacyevaluation of the provision for loan losses on its federally insured portfolio of student loans separately from its private creditis inherently subjective as it requires material estimates that may be susceptible to significant changes. The Company believes that the allowance for loan losses is adequate to cover probable losses in the student loan portfolio.has established an allowance for this exposureestimates its losses using historical data from its Private Credit Student Loan portfolios, extrapolations of $50 million. The Company's private credit student loan portfolio has not matured sufficiently to rely on experience factors to predictFFELP loan loss patterns. Therefore,data, current trends and relevant industry information. As the Company's Private Credit Student Loan portfolios continue to mature, more reliance is placed on the Company's own historical Private Credit Student Loan charge-off and recovery data. Accordingly, during the fourth quarter of 2003, the Company relies on a combination ofrevised its own historic data, suchexpected default assumptions to further align the allowance estimate with the Company's collection experience as recent trends in delinquencies,well as the credit profileterms and policies of the borrower and/or co-borrower, loan volume by program, and charge-offs and recoveries.individual Private Credit Student Loan programs. The Company uses this data in internally developed statistical models to estimate the amount of probablelosses, net losses that areof subsequent collections, projected to be incurred.occur in the Private Credit Student Loan portfolios.In calculatingTo calculate the private credit student loanPrivate Credit Student Loan loss allowance, the Company considers various factors such as co-borrowers, repayment, monthsdivides the portfolio into categories of repayments, delinquency status and type of program. Defaults are estimated by cohort (loans grouped by the year in which they entered into repayment status)similar risk characteristics based on loan program type, underwriting criteria, existence or absence of a co-borrower, repayment begin date and repayment status. The Company then applies default and collection rate projections to each category. The repayment begin date indicates when the borrower's credit profile, netborrower is required to begin repaying the loan. The Company's career training Private Credit Student Loan programs (30 percent of the Private Credit Student Loan portfolio at March 31, 2004) generally require borrowers to start repaying their loans immediately. The Company's higher education Private Credit Student Loan programs (70 percent of the Private Credit Student Loan portfolio at March 31, 2004) do not require the borrowers to begin repayment until they have graduated or otherwise left school. Consequently, loss estimates for these programs are minimal while the borrower is in school. At March 31, 2004, 46 percent of the principal balance in the higher education Private Credit Student Loan portfolio relates to borrowers who are still in school and, therefore, not required to make payments. As the current portfolio ages, an estimateincreasing percentage of collections by cohortborrowers will leave school and be required to begin to repay their loans. With a higher percentage of borrowers in repayment, the Company expects the allowance for both newlosses to increase accordingly.12 The Company's loss estimates include losses that the Company expects to incur over the loss confirmation period, which is the period of the highest concentration of defaults. The loss confirmation period is 2 years for career training loans beginning when the loan is originated and 5 years for higher education loans beginning when the borrower leaves school. The loss confirmation period is in alignment with the Company's typical collection cycle and the Company considers these periods of nonpayment when estimating the allowance. The Company's collection policies allow for periods ofpreviously defaulted loans. Private credit student loans areaccrued interest is charged off against the allowance when they areat 212 days delinquent. This policy is periodically reconsidered by management as trends develop.of delinquency. Private credit student loansCredit Student Loans continue to accrue interest until charged off. Interest accrued in the current accounting period isthey are charged off against interest income. Interest accruedand removed from prior periods is charged off against the allowance.active portfolio. Recoveries on loans charged off are recorded directly to the allowance.only private creditboth the Private Credit and federally insured student loan portfolios for the three and nine months ended September 30, 2003March 31, 2004 and 2002:2003. Three months ended
September 30, Nine months ended
September 30, 2003 2002 2003 2002 Balance at beginning of period $ 220,641 $ 227,466 $ 230,684 $ 251,689 Additions Provisions for student loan losses 39,780 33,484 116,935 78,496 Recoveries 3,574 6,310 10,042 9,353 Deductions Reductions for student loan sales and securitizations (5,478 ) (3,019 ) (65,050 ) (8,211 ) Charge-offs (23,601 ) (34,597 ) (64,561 ) (65,726 ) Other — (397 ) 6,866 (36,354 ) Balance at end of period $ 234,916 $ 229,247 $ 234,916 $ 229,247 13 Three months ended
March 31, 2004 2003 Balance at beginning of period $ 211,709 $ 230,684 Additions Provisions for student loan losses 37,793 42,861 Recoveries 2,846 3,443 Deductions Reductions for student loan sales and securitizations (21,102 ) (31,736 ) Charge-offs (27,795 ) (19,499 ) Other — 6,828 Balance at end of period $ 203,451 $ 232,581 The following table summarizes changes inIn addition to the allowanceprovisions for student loan losses, provisions for on-balance sheet private credit studentlosses on other Company loans totaled $2.0 million and $0.3 million for the three and nine months ended September 30,March 31, 2004 and 2003, and 2002.respectively. Three months ended
September 30, Nine months ended
September 30, (Dollars in millions) 2003 2002 2003 2002 Balance at beginning of period $ 174 $ 181 $ 194 $ 208 Provision for private credit student loan losses 30 32 84 66 Other — — 7 (36 )
Charge-offs
(22
)
(33
)
(59
)
(61
)Recoveries 3 6 10 9 Charge-offs, net of recoveries (19 ) (27 ) (49 ) (52 ) Balance before securitization of private credit student loans 185 186 236 186 Reduction for securitization of private credit student loans — — (51 ) — Balance at end of period $ 185 $ 186 $ 185 $ 186 Net charge-offs as a percentage of average private credit student loans (annualized) 1.53 % 1.95 % 1.27 % 1.38 % Net charge-offs as a percentage of average private credit student loans in repayment (annualized) 3.01 % 3.61 % 2.43 % 2.33 % Private credit allowance as a percentage of average private credit student loans 3.84 % 3.41 % 3.56 % 3.72 % Private credit allowance as a percentage of the ending balance of private credit student loans 3.55 % 3.28 % 3.55 % 3.28 % Private credit allowance as a percentage of ending private credit student loans in repayment 7.44 % 6.26 % 7.44 % 6.26 % Average balance of private credit student loans $ 4,829 $ 5,459 $ 5,214 $ 5,011 Ending balance of private credit student loans $ 5,214 $ 5,676 $ 5,214 $ 5,676 Average balance of private credit student loans in repayment $ 2,449 $ 2,942 $ 2,717 $ 2,954 Ending balance of private credit student loans in repayment $ 2,491 $ 2,976 $ 2,491 $ 2,976 During the third quarter of 2003, the Company reclassified FFELP loans and the related reserves that have been rejected for reimbursement by the guarantor to the private credit student loan portfolio, because these loans are effectively uninsured. In the above table, the reclassification is reflected for all periods presented. The increase in the provision for private credit student loans of $18 million for the nine months ended September 30, 2003 versus the corresponding year-ago period is primarily due to the 44 percent increase in private credit student loan acquisitions over the corresponding year-ago period. For the three and nine months ended September 30, 2003, the decrease in private credit student loan charge-offs is primarily due to the decrease in the average balance of the on-balance sheet private credit student loan portfolio due to securitizations.14 The Company defers origination fees and recognizes them over the average life of the related pool of loans as a component of interest income. The unamortized balance of deferred origination fee revenue at September 30, 2003 and 2002 was $102 million and $81 million, respectively.showspresents the Company's private credit student loanPrivate Credit Student Loan delinquency trends as of September 30, 2003March 31, 2004 and 2002.2003. Delinquencies have the potential to adversely impact earnings if the account charges off and results in increased servicing and collection costs. September 30, 2003 September 30, 2002 (Dollars in millions) Balance % Balance % Loans in-school/grace/deferment1 $ 2,436 $ 2,381 Loans in forbearance2 287 319 Loans in repayment and percentage of each status: Loans current 2,235 90 % 2,725 91 % Loans delinquent 30-59 days3 107 4 108 4 Loans delinquent 60-89 days 59 2 56 2 Loans delinquent 90 days or greater 90 4 87 3 Total loans in repayment 2,491 100 % 2,976 100 % Total private credit student loans 5,214 5,676 Private credit student loan allowance for losses (185 ) (186 ) Private credit student loans, net $ 5,029 $ 5,490 Percentage of private credit student loans in repayment 48 % 52 % Delinquencies as a percentage of private credit student loans in repayment 10 % 9 % March 31, 2004 2003 Balance % Balance % (Dollars in millions) Loans in-school/grace/deferment (1) $ 1,975 $ 2,203 Loans in forbearance (2) 187 281 Loans in repayment and percentage of each status: Loans current 1,944 90 % 2,366 90 % Loans delinquent 30-59 days (3) 81 4 123 5 Loans delinquent 60-89 days 49 2 65 2 Loans delinquent 90 days or greater 95 4 77 3 Total Private Credit Student Loans in repayment 2,169 100 % 2,631 100 % Total Private Credit Student Loans 4,331 5,115 Private Credit Student Loan allowance for losses (154 ) (174 ) Private Credit Student Loans, net $ 4,177 $ 4,941 Percentage of Private Credit Student Loans in repayment 50 % 51 % Delinquencies as a percentage of Private Credit Student Loans in repayment 10 % 10 % 1(1)thetheir loans, e.g., residency periods for medical students or a grace period for bar exam preparation.2(2)September 30, 2003March 31, 2004 includes $8$7 million of career training loans in "closed school" status, whose ultimate disposition is uncertain.status.3(3) of delinquency is based on the number of days scheduled payments are contractually past due.increase in delinquencies as a percentage of private credit student loans in repayment is primarily due to the changefollowing table summarizes changes in the mix of private creditallowance for student loans remainingloan losses for on-balance sheet after securitizations.Private Credit Student Loans for the three months ended March 31, 2004 and 2003.15 Three months ended
March 31, 2004 2003 (Dollars in millions) Private Credit Student Loan allowance balance at beginning of period $ 166 $ 181 Provision for Private Credit Student Loan losses 32 28 Other — 7 Charge-offs: Private Credit Student Loan charge-offs (26 ) (17 ) Private Credit Student Loan recoveries 3 2 Total charge-offs, net of recoveries (23 ) (15 ) Balance before securitization of Private Credit Student Loans 175 201 Reduction for securitization of Private Credit Student Loans (21 ) (27 ) Private Credit Student Loan allowance balance at end of period $ 154 $ 174 Net Private Credit Student Loan charge-offs as a percentage of average Private Credit Student Loans 1.80 % 1.09 % Net Private Credit Student Loan charge-offs as a percentage of average Private Credit Student Loans in repayment 3.97 % 2.14 % Private Credit Student Loan allowance as a percentage of average Private Credit Student Loans 3.00 % 3.19 % Private Credit Student Loan allowance as a percentage of the ending balance of Private Credit Student Loans 3.56 % 3.40 % Private Credit Student Loan allowance as a percentage of the ending balance of Private Credit Student Loans in repayment 7.11 % 6.62 % Average balance of Private Credit Student Loans $ 5,146 $ 5,464 Ending balance of Private Credit Student Loans $ 4,331 $ 5,115 Average balance of Private Credit Student Loans in repayment $ 2,328 $ 2,785 Ending balance of Private Credit Student Loans in repayment $ 2,169 $ 2,631 4.3. Student Loan Securitization When theSecuritization Activitysellsactively securitizes its student loans in a securitization that is afforded off-balance sheet treatment, itloan assets and retains a Residual Interest, servicing rights and in some cases, areserve and other cash reserve account, bothaccounts, all of which are Retained Interests in the securitized loans. At September 30, 2003 and December 31, 2002, the balance of these assets was $2.7 billion and $2.1 billion, respectively. The gain or loss on the sale of the loans is based upon the carrying amount of the financial assets involved in the transfer, allocated between the assets sold and the Retained Interests based on their relative fair values at the date of transfer. Quoted market prices are generally not available forreferred to as the Company's Retained Interests so the Company estimates fair value, both initially and on a quarterly basis, based on the present value of future expected cash flows estimated using management's best estimates of the key assumptions—credit losses, prepayment speeds and discount rates commensurate with the risks involved. The projection of residual cash flows, exclusive of Floor Income, usedInterest in determining the initial gain on sale is discounted at 12 percent. The Company values the Floor Income component of its Retained Interest based upon market quotes for comparable instruments. Included in the gain on student loan securitizations of Consolidation Loans is an estimate of the Embedded Fixed Rate Floor Income from the loans securitized. Depending on interest rate levels, the ongoing reevaluation of this estimate of Embedded Fixed Rate Floor Income can cause volatility in the fair value of the Retained Interest asset. Embedded Fixed Rate Floor Income is estimated over the life of the securitization trust using the current yield curve which results in a lower discount rate in the earlier periods of the trust and a higher discount rate for the more uncertain Embedded Fixed Rate Floor Income associated with later periods. Interest income recognized on the Retained Interest asset is based on the anticipated yield determined by periodically estimating future cash flows. The fair value of the Embedded Fixed Rate Floor Income included in the Retained Interest asset as of September 30, 2003 and December 31, 2002 was $947 million and $629 million, respectively. The fair value of the Embedded Variable Rate Floor Income included in the Retained Interest asset as of September 30, 2003 and December 31, 2002 was $25 million and $75 million, respectively.securitized loans.tables summarizetable summarizes the Company's securitization activity for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003. Three months ended September 30, 2003 2002 (Dollars in millions) Number of
Transactions Amount
Securitized Gain % Number of
Transactions Amount
Securitized Gain % FFELP Stafford/PLUS loans 2 $ 3,511 1.12 % 2 $ 2,829 .63 % Consolidation Loans — — — — — — Private credit student loans — — — — — — Total securitization sales 2 3,511 1.12 % 2 2,829 .63 % On-balance sheet securitization of Consolidation Loans 2 5,513 — — Total loans securitized 4 $ 9,024 2 $ 2,829 16 Three months ended March 31, 2004 2003 Number of
Transactions Amount
Securitized Pre-tax
Gains Gain % Number of
Transactions Amount
Securitized Pre-tax
Gains Gain % (Dollars in millions) FFELP Stafford/PLUS loans — $ — $ — — % 1 $ 1,256 $ 20 1.6 % Consolidation Loans — — — — 1 2,005 218 10.9 Private Credit Student Loans 1 1,252 114 9.1 1 1,005 68 6.8 Total securitization sales 1 1,252 $ 114 9.1 % 3 4,266 $ 306 7.2 % On-balance sheet securitization of Consolidation Loans (1) 3 8,023 1 2,056 Total loans securitized 4 $ 9,275 4 $ 6,322
Nine months ended September 30, 2003 2002 (Dollars in millions) Number of
Transactions Amount
Securitized Gain % Number of
Transactions Amount
Securitized Gain % FFELP Stafford/PLUS loans 4 $ 5,772 1.26 % 5 $ 7,859 .96 % Consolidation Loans 2 4,256 10.19 — — — Private credit student loans 2 2,253 6.79 — — — Total securitization sales 8 12,281 5.37 % 5 7,859 .96 % On-balance sheet securitization of Consolidation Loans 4 9,825 — — Total loans securitized 12 $ 22,106 5 $ 7,859 fourcertain Consolidation Loan securitization structures, the Company holds certain rights regardingthat can affect the remarketing of the bonds as well as a call option that gives it the right to acquire certain of the notes issuedbonds. These remarketing rights are not significantly limited in the transaction. Thus the Company is deemed to maintain effective control over the transferred assets. As a result,nature. Therefore, these securitizations did not meet the criteria of being a QSPE andqualify as QSPEs. Accordingly, they are accounted for on-balance sheet and are classified as Variable Interest Entities ("VIEs") with the securitized federally insured loans reflected in the balance sheet as "federally insured student loans in trust. Accordingly, the student loans securitized and the associated debt remain on the Company's balance sheet and no gains or losses were recognized on these transactions. For the three and nine months ended September 30, 2003, the Company completed two and four on-balance sheet securitizations totaling $5.5 billion and $9.8 billion, respectively.
The increase in the gains for the three months ended September 30, 2003 as a percentage of the portfolios securitized versus the corresponding year-ago period was primarily due to lower relative cost of funds. The increase in the gains for the nine months ended September 30, 2003, as a percentage of the portfolios securitized, versus the corresponding year-ago period was due to significantly higher Embedded Fixed Rate Floor Income in the 2003 Consolidation Loan securitizations and higher gains on private credit student loan securitizations. Gains on the private credit student loan securitizations are higher than gains on FFELP Stafford/PLUS securitizations because private credit student loans have wider spreads, longer average lives and are less expensive to service than similar sized FFELP Stafford/PLUS student loans, partially offset by higher projected default losses.
For each securitization completed in the three and nine months ended September 30, 2003 and 2002, the Company receives annual servicing fees of 0.9 percent per annum of the outstanding balance of FFELP Stafford/PLUS student loans, 0.5 percent per annum of the outstanding balance of Consolidation Loans, and 0.7 percent per annum of the outstanding balance of the private credit student loans. The Company considers this adequate compensation, as defined in SFAS No. 140, and accordingly does not record a servicing right or obligation.
Key economic assumptions used in estimating the fair value of the RetainedResidual Interests at the date of securitization resulting fromfor securitization transactions that qualified as sales during the student loan securitization sale transactions completed during the
17
three and nine months ended September 30,March 31, 2004 and 2003 and 2002 (weighted based on principal amounts securitized) were as follows:
| | Three months ended September 30, | Three months ended March 31, | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2004 | 2003 | |||||||||||||||||
| | FFELP Loans | Private Credit Loans | FFELP Loans | Private Credit Loans | FFELP Stafford (1) | Consolidation (1) | Private Credit | Stafford FFELP | Consolidation | Private Credit | |||||||||||
| Prepayment speed | 9.00 | % | — | 9.00 | % | — | N/A | N/A | 6 | % | 9 | % | 7 | % | 6 | % | |||||
| Weighted-average life (in years) | 4.62 | yrs. | — | 4.58 | yrs. | — | N/A | N/A | 6.86 | 4.67 | 8.13 | 6.47 | |||||||||
| Expected credit losses (% of principal securitized) | .51 | % | — | .62 | % | — | N/A | N/A | 4.73 | % | .53 | % | .72 | % | 3.92 | % | |||||
| Residual cash flows discounted at | 12.00 | % | — | 12.00 | % | — | |||||||||||||||
| | Nine months ended September 30, | ||||||||||||||||||||
| | 2003 | 2002 | |||||||||||||||||||
| | FFELP Loans | Private Credit Loans | FFELP Loans | Private Credit Loans | |||||||||||||||||
| Prepayment speed | 7.00%-9.00 | %2 | 6.00 | %1 | 9.00 | % | — | ||||||||||||||
| Weighted-average life (in years) | 6.07 | yrs. | 6.54 | yrs. | 4.81 | yrs. | — | ||||||||||||||
| Expected credit losses (% of principal securitized) | .60 | % | 3.96 | % | .61 | % | — | ||||||||||||||
| Residual cash flows discounted at | 7.00 | % | 12.00 | % | 12.00 | % | — | ||||||||||||||
| Residual cash flows discounted at (weighted average) | N/A | N/A | 12 | % | 12 | % | 6 | % | 12 | % | |||||||||||
The following table summarizes the cash flows received from all off-balancefair value of the Company's Retained Interests related to those securitizations that were treated as sales.
| | As of March 31, 2004 | As of December 31, 2003 | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Fair Value (1) | Underlying Securitized Loan Balance (2) | Fair Value | Underlying Securitized Loan Balance (2) | |||||||||
| (Dollars in millions) | | | | | |||||||||
| FFELP Stafford | $ | 959 | $ | 24,760 | $ | 1,023 | $ | 26,736 | |||||
| Consolidation | 1,046 | 8,016 | 994 | 8,172 | |||||||||
| Private Credit | 477 | 4,959 | 459 | 3,834 | |||||||||
| Tota1 (3)(4) | $ | 2,482 | $ | 37,735 | $ | 2,476 | $ | 38,742 | |||||
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in millions) | ||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||
| Net proceeds from new securitizations entered into during the period | $ | 3,530 | $ | 2,858 | $ | 12,248 | $ | 7,938 | ||||
| Servicing fees received | 75 | 66 | 217 | 189 | ||||||||
| Cash distributions from trusts | 217 | 234 | 625 | 694 | ||||||||
4. Common Stock
The following table summarizes the Company's common share repurchase and equity forward activity for the three months ended March 31, 2004 and 2003.
| | Three months ended March 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||
| (Common shares in millions) | | | ||||||
| Common shares repurchased: | ||||||||
| Open market | — | 3.4 | ||||||
| Equity forwards | 7.9 | 4.6 | ||||||
| Benefit plans | .7 | .9 | ||||||
| Total shares repurchased | 8.6 | 8.9 | ||||||
| Average purchase price per share | $ | 31.26 | $ | 29.88 | ||||
| Common shares issued | 3.8 | 5.7 | ||||||
| Equity forward contracts: | ||||||||
| Outstanding at beginning of period | 43.5 | 28.7 | ||||||
| New contracts | 4.2 | 7.1 | ||||||
| Exercises | (7.9 | ) | (4.6 | ) | ||||
| Outstanding at end of period | 39.8 | 31.2 | ||||||
| Board of Director authority remaining at end of period | 34.2 | 39.7 | ||||||
As of March 31, 2004, the expiration dates and range and average purchase prices for outstanding equity forward contracts were as follows:
| (Contracts in millions) | | | | |||||
|---|---|---|---|---|---|---|---|---|
| Year of maturity | Outstanding contracts | Range of purchase prices | Average purchase price | |||||
| 2005 | 3.0 | $ | 38.25–$40.17 | $ | 39.21 | |||
| 2006 | 20.5 | 33.82– 41.88 | 37.37 | |||||
| 2007 | 13.1 | 37.70– 41.81 | 38.70 | |||||
| 2008 | 3.2 | 38.64– 40.00 | 39.28 | |||||
| 39.8 | $ | 38.10 | ||||||
The closing price of the Company's common stock on March 31, 2004 was $41.85.
Earnings per Share
Basic earnings (loss) per common share ("basic EPS") are calculated using the weighted average number of shares of common stock outstanding during each period. Diluted earnings (loss) per common share ("diluted EPS") reflect the potential dilutive effect of additional common shares that
18
are issuable upon exercise of outstanding stock options, warrants, deferred compensation and shares held in the Employee Stock Purchase Plan ("ESPP"), determined by the treasury stock method, and equity forwards, determined by the reverse treasury stock method,method. Diluted EPS excludes the potential dilutive effect of senior convertible debt, as follows:
| | Net Income (Loss) Attributable to Common Stock | Average Shares | Earnings (Loss) per Share | ||||||
|---|---|---|---|---|---|---|---|---|---|
| Three months ended September 30, 2003 | |||||||||
| Basic EPS, after cumulative effect of accounting change | $ | 477,013 | 450,725 | $ | 1.06 | ||||
| Dilutive effect of stock options, equity forwards, deferred compensation, and ESPP shares | — | 9,922 | (.02 | ) | |||||
| Diluted EPS, after cumulative effect of accounting change | $ | 477,013 | 460,647 | $ | 1.04 | ||||
| Three months ended September 30, 2002 | �� | ||||||||
| Basic EPS, after cumulative effect of accounting change | $ | (65,254 | ) | 461,159 | $ | (.14 | ) | ||
| Dilutive effect of stock options, warrants, equity forwards, deferred compensation, and ESPP shares | — | — | — | ||||||
| Diluted EPS, after cumulative effect of accounting change | $ | (65,254 | ) | 461,159 | $ | (.14 | ) | ||
Net Income Attributable to Common Stock | Average Shares | Earnings per Share | |||||||
|---|---|---|---|---|---|---|---|---|---|
| Nine months ended September 30, 2003 | |||||||||
| Basic EPS, after cumulative effect of accounting change | $ | 1,260,506 | 453,139 | $ | 2.78 | ||||
| Dilutive effect of stock options, warrants, equity forwards, deferred compensation, and ESPP shares | — | 11,986 | (.07 | ) | |||||
| Diluted EPS, after cumulative effect of accounting change | $ | 1,260,506 | 465,125 | $ | 2.71 | ||||
| Nine months ended September 30, 2002 | |||||||||
| Basic EPS, after cumulative effect of accounting change | $ | 477,341 | 463,630 | $ | 1.03 | ||||
| Dilutive effect of stock options, warrants, equity forwards, deferred compensation, and ESPP shares | — | 12,001 | (.03 | ) | |||||
| Diluted EPS, after cumulative effect of accounting change | $ | 477,341 | 475,631 | $ | 1.00 | ||||
Formanagement believes conversion is not likely in the near term. The following table reflects basic and diluted EPS for the three months ended September 30, 2002, there were 10.9 million average stock options, warrants, equity forwards, deferred compensation,March 31, 2004 and ESPP shares that could dilute basic EPS in the future but haven't been included in diluted EPS presented because they would be anti-dilutive.2003.
| | Net Income Attributable to Common Stock | Average Shares | Earnings per Share | ||||||
|---|---|---|---|---|---|---|---|---|---|
| Three months ended March 31, 2004 | |||||||||
| Basic EPS | $ | 288,579 | 442,664 | $ | .65 | ||||
| Dilutive effect of stock options, equity forwards, deferred compensation, and ESPP shares | — | 9,083 | (.01 | ) | |||||
| Diluted EPS | $ | 288,579 | 451,747 | $ | .64 | ||||
Three months ended March 31, 2003 | |||||||||
| Basic EPS | $ | 413,674 | 456,581 | $ | .91 | ||||
| Dilutive effect of stock options, warrants, equity forwards, deferred compensation, and ESPP shares | — | 13,115 | (.03 | ) | |||||
| Diluted EPS | $ | 413,674 | 469,696 | $ | .88 | ||||
In May 2003, the Board of Directors approved a three-for-one split of the Company's common stock to be effected in the form of a stock dividend. The additional shares of stock were distributed on June 20, 2003, for all shareholders of record on June 6, 2003. All share and per share amounts presented have been retroactively restated for the stock split. Stockholders' equity has been restated to give retroactive recognition to the stock split for all periods presented by reclassifying from additional
19
paid-in capital to common stock the par value of the additional shares issued as a result of the stock split.
In July 2003, the Board of Directors voted to retire 170 million shares of common stock held in treasury, effective in September 2003. Based on an average price of $18.04 per share, this retirement decreased the balance in treasury stock by $3.1 billion, with corresponding decreases of $34 million in common stock and $3.1 billion in retained earnings.
6. Stock-Based Compensation
SLM Corporation accounts for its stock option plans in accordance with APB No. 25 and related interpretations, which results in no compensation expense for the Company's fixed stock options granted under the plans. All options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of the grant. The following table summarizes pro forma disclosures for the three and nine months ended September 30, 2003 and 2002, as if the Company had accounted for employee and Board of Directors stock options granted subsequent to December 31, 1994 under the fair value based method as set forth in SFAS No. 123.
| | Three months ended September 30, | Nine months ended September 30, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | |||||||||
| Net income (loss) attributable to common stock | $ | 477,013 | $ | (65,254 | ) | $ | 1,260,506 | $ | 477,341 | ||||
| Less: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects | (14,722 | ) | (16,880 | ) | (73,353 | ) | (99,188 | ) | |||||
| Pro forma net income attributable to common stock | $ | 462,291 | $ | (82,134 | ) | $ | 1,187,153 | $ | 378,153 | ||||
| Basic earnings (loss) per common share, after cumulative effect of accounting change | $ | 1.06 | $ | (.14 | ) | $ | 2.78 | $ | 1.03 | ||||
| Pro forma basic earnings (loss) per common share, after cumulative effect of accounting change | $ | 1.03 | $ | (.18 | ) | $ | 2.62 | $ | .82 | ||||
| Diluted earnings (loss) per common share, after cumulative effect of accounting change | $ | 1.04 | $ | (.14 | ) | $ | 2.71 | $ | 1.00 | ||||
| Pro forma diluted earnings (loss) per common share, after cumulative effect of accounting change | $ | 1.00 | $ | (.18 | ) | $ | 2.55 | $ | .80 | ||||
7.5. Derivative Financial Instruments
Summary of Derivative Financial Statement Impact
The following tables summarize the fair values and notional valuesamounts or number of contracts of all derivative instruments at September 30, 2003March 31, 2004 and December 31, 2002,2003, and their impact on other comprehensive income and earnings for the three and nine months ended September 30, 2003March 31, 2004 and
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2002. 2003. At September 30, 2003March 31, 2004 and December 31, 2002, $2412003, $156 million and $368$158 million (amortized cost)(fair value), respectively, of available-for-sale investment securities and $446 million and $31 million, respectively, of cash were pledged as collateral against these derivative instruments.
In addition, at September 30, 2003, $95 million of cash was pledged as collateral. There was no cash collateral pledged at December 31, 2002.
| | Cash Flow | Fair Value | Trading | Total | Cash Flow | Fair Value | Trading | Total | ||||||||||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | September 30, 2003 | December 31, 2002 | September 30, 2003 | December 31, 2002 | September 30, 2003 | December 31, 2002 | September 30, 2003 | December 31, 2002 | March 31, 2004 | December 31, 2003 | March 31, 2004 | December 31, 2003 | March 31, 2004 | December 31, 2003 | March 31, 2004 | December 31, 2003 | ||||||||||||||||||||||||||||||||||
| (Dollars in millions) | | | | | | | | | ||||||||||||||||||||||||||||||||||||||||||
| Fair Values | ||||||||||||||||||||||||||||||||||||||||||||||||||
| (Dollars in millions) | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Interest rate swaps | $ | 1 | $ | — | $ | (42 | ) | $ | 84 | $ | (109 | ) | $ | (155 | ) | $ | (150 | ) | $ | (71 | ) | $ | 10 | $ | (4 | ) | $ | 21 | $ | (182 | ) | $ | (142 | ) | $ | (133 | ) | $ | (111 | ) | $ | (319 | ) | |||||||
| Floor/Cap contracts | — | — | — | — | (1,374 | ) | (1,362 | ) | (1,374 | ) | (1,362 | ) | — | — | — | — | (1,335 | ) | (1,168 | ) | (1,335 | ) | (1,168 | ) | ||||||||||||||||||||||||||
| Futures | (80 | ) | (75 | ) | — | (52 | ) | (34 | ) | (132 | ) | (109 | ) | (75 | ) | (76 | ) | — | — | — | (40 | ) | (75 | ) | (116 | ) | ||||||||||||||||||||||||
| Equity forwards | — | — | — | — | 131 | — | 131 | — | — | — | — | — | 135 | 48 | 135 | 48 | ||||||||||||||||||||||||||||||||||
| Cross currency interest rate swaps | — | — | 30 | — | — | — | 30 | — | — | — | 319 | 281 | — | — | 319 | 281 | ||||||||||||||||||||||||||||||||||
| Total | $ | (79 | ) | $ | (75 | ) | $ | (12 | ) | $ | 84 | $ | (1,404 | ) | $ | (1,551 | ) | $ | (1,495 | ) | $ | (1,542 | ) | $ | (65 | ) | $ | (80 | ) | $ | 340 | $ | 99 | $ | (1,342 | ) | $ | (1,293 | ) | $ | (1,067 | ) | $ | (1,274 | ) | |||||
(Dollars in billions) | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Notional Values | ||||||||||||||||||||||||||||||||||||||||||||||||||
| (Dollars in billions) | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Interest rate swaps | $ | 1.1 | $ | — | $ | 15.6 | $ | 17.3 | $ | 69.1 | $ | 54.8 | $ | 85.8 | $ | 72.1 | $ | 4.6 | $ | 1.6 | $ | 16.2 | $ | 16.8 | $ | 75.9 | $ | 74.2 | $ | 96.7 | $ | 92.6 | ||||||||||||||||||
| Floor/Cap contracts | — | — | — | — | 33.4 | 26.7 | 33.4 | 26.7 | — | — | — | — | 46.5 | 34.1 | 46.5 | 34.1 | ||||||||||||||||||||||||||||||||||
| Futures | 8.2 | 10.9 | — | — | 19.4 | 17.2 | 27.6 | 28.1 | 7.1 | 8.2 | — | — | 5.0 | 23.1 | 12.1 | 31.3 | ||||||||||||||||||||||||||||||||||
| Cross currency interest rate swaps | — | — | 2.6 | — | — | — | 2.6 | — | — | — | 8.1 | 4.1 | — | — | 8.1 | 4.1 | ||||||||||||||||||||||||||||||||||
| Other1 | — | — | — | — | 2.0 | — | 2.0 | — | ||||||||||||||||||||||||||||||||||||||||||
| Other (1) | — | — | — | — | 2.0 | 2.0 | 2.0 | 2.0 | ||||||||||||||||||||||||||||||||||||||||||
| Total | $ | 9.3 | $ | 10.9 | $ | 18.2 | $ | 17.3 | $ | 123.9 | $ | 98.7 | $ | 151.4 | $ | 126.9 | $ | 11.7 | $ | 9.8 | $ | 24.3 | $ | 20.9 | $ | 129.4 | $ | 133.4 | $ | 165.4 | $ | 164.1 | ||||||||||||||||||
(Shares in millions) | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Contracts | ||||||||||||||||||||||||||||||||||||||||||||||||||
| (Shares in millions) | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Equity forwards | — | — | — | — | 40.2 | — | 40.2 | — | — | — | — | — | 39.8 | 43.5 | 39.8 | 43.5 | ||||||||||||||||||||||||||||||||||
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| | Three months ended September 30, | Three months ended March 31, | ||||||||||||||||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Cash Flow | Fair Value | Trading | Total | Cash Flow | Fair Value | Trading | Total | ||||||||||||||||||||||||||||||||||||||||||
| | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | 2004 | 2003 | 2004 | 2003 | 2004 | 2003 | 2004 | 2003 | ||||||||||||||||||||||||||||||||||
| (Dollars in millions) | | | | | | | | | ||||||||||||||||||||||||||||||||||||||||||
| Changes to other comprehensive income, net of tax | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income, net | $ | 5 | $ | (39 | ) | $ | — | $ | — | $ | — | $ | — | $ | 5 | $ | (39 | ) | $ | 5 | $ | 3 | $ | — | $ | — | $ | — | $ | — | $ | 5 | $ | 3 | ||||||||||||||||
| Earnings Summary | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into interest expense1 | $ | (5 | ) | $ | (5 | ) | $ | — | $ | — | $ | — | $ | — | $ | (5 | ) | $ | (5 | ) | ||||||||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into gains/losses on sales of securities, net2 | — | (3 | ) | — | — | (4 | ) | (45 | ) | (4 | ) | (48 | ) | |||||||||||||||||||||||||||||||||||||
| Derivative market value adjustment4 | — | (2 | )3 | — | 3 | 3 | 250 | (367 | ) | 250 | (366 | ) | ||||||||||||||||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into interest expense (1) | $ | (5 | ) | $ | (6 | ) | $ | — | $ | — | $ | — | $ | — | $ | (5 | ) | $ | (6 | ) | ||||||||||||||||||||||||||||||
| Derivative market value adjustment — Realized (2) | — | (7 | ) | — | — | (216 | ) | (227 | ) | (216 | ) | (234 | ) | |||||||||||||||||||||||||||||||||||||
| Derivative market value adjustment — Unrealized | — | 1 | (3) | (2 | )(3) | 4 | (3) | 101 | 110 | 99 | 115 | |||||||||||||||||||||||||||||||||||||||
| Total earnings impact | $ | (5 | ) | $ | (10 | ) | $ | — | $ | 3 | $ | 246 | $ | (412 | ) | $ | 241 | $ | (419 | ) | $ | (5 | ) | $ | (12 | ) | $ | (2 | ) | $ | 4 | $ | (115 | ) | $ | (117 | ) | $ | (122 | ) | $ | (125 | ) | |||||||
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| | Nine months ended September 30, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Cash Flow | Fair Value | Trading | Total | |||||||||||||||||||||
| | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | |||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||||
| Changes to other comprehensive income, net of tax | |||||||||||||||||||||||||
| Other comprehensive income, net | $ | 5 | $ | (40 | ) | $ | — | $ | — | $ | — | $ | 1 | 5 | $ | 5 | $ | (39 | ) | ||||||
| Earnings Summary | |||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into interest expense1 | $ | (19 | ) | $ | (10 | ) | $ | — | $ | — | $ | — | $ | — | $ | (19 | ) | $ | (10 | ) | |||||
| Recognition of closed futures contracts' gains/losses into gains/losses on sales of securities, net2 | (7 | ) | (47 | ) | — | — | (10 | ) | (133 | ) | (17 | ) | (180 | ) | |||||||||||
| Recognition of derivative losses into gains/losses on sales of securities | — | — | — | — | (88 | ) | (6 | ) | (88 | ) | (6 | ) | |||||||||||||
| Amortization of transition adjustment3 | — | — | — | — | — | (1 | ) | — | (1 | ) | |||||||||||||||
| Derivative market value adjustment6 | 1 | 4 | (2 | )4 | 4 | 4 | 8 | 4 | 330 | (261 | ) | 335 | (255 | ) | |||||||||||
| Total earnings impact | $ | (25 | ) | $ | (59 | ) | $ | 4 | $ | 8 | $ | 232 | $ | (401 | ) | $ | 211 | $ | (452 | ) | |||||
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The following table showspresents the components of the change in accumulated other comprehensive income, net of tax, forrelated to derivatives.
| | | Three months ended September 30, | Nine months ended September 30, | | Three months ended March 31, | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | 2003 | 2002 | 2003 | 2002 | | 2004 | 2003 | ||||||||||||||
| (Dollars in millions) | (Dollars in millions) | (Dollars in millions) | | | ||||||||||||||||||
| Accumulated Other Comprehensive Income, Net | ||||||||||||||||||||||
| Accumulated other comprehensive income, net of tax | Accumulated other comprehensive income, net of tax | |||||||||||||||||||||
| Balance at beginning of period | Balance at beginning of period | $ | (90 | ) | $ | (50 | ) | $ | (90 | ) | $ | (50 | ) | Balance at beginning of period | $ | (83 | ) | $ | (90 | ) | ||
| Change in unrealized gains (losses) on derivatives, net: | ||||||||||||||||||||||
| Change in unrealized gains (losses) on derivatives: | Change in unrealized gains (losses) on derivatives: | |||||||||||||||||||||
| Change in fair value of cash flow hedges | 2 | (45 | ) | (11 | ) | (78 | ) | Hedge ineffectiveness reclassified to earnings | — | (1 | ) | |||||||||||
| Hedge ineffectiveness reclassified to earnings | — | 1 | (1 | ) | 1 | Change in fair value of cash flow hedges | 2 | (4 | ) | |||||||||||||
| Amortizations1 | 3 | 2 | 12 | 6 | Amortization of effective hedges (1) | 3 | 3 | |||||||||||||||
| Discontinued hedges | — | 3 | 5 | 32 | Discontinued hedges | — | 5 | |||||||||||||||
| Total change in unrealized gains (losses) on derivatives, net | 5 | (39 | ) | 5 | (39 | ) | ||||||||||||||||
| Total change in unrealized gains (losses) on derivatives | Total change in unrealized gains (losses) on derivatives | 5 | 3 | |||||||||||||||||||
| Balance at end of period | Balance at end of period | $ | (85 | ) | $ | (89 | ) | $ | (85 | ) | $ | (89 | ) | Balance at end of period | $ | (78 | ) | $ | (87 | ) | ||
6. Guarantees
The Company utilizes equity forward contractshas issued lending-related financial instruments including letters of credit and lines of credit to better managemeet the cost associated withfinancing needs of its share repurchases. In its equity forward agreements,customers. Letters of credit support the Company contracts to purchase shares from a third party at a future date at a specified price. At or prior to the maturity dateissuance of state student loan revenue bonds. They represent unconditional guarantees of the agreement,GSE to repay holders of the bonds in the event of a default. In the event that letters of credit are drawn upon, such loans are collateralized by the student loans underlying the bonds. The initial liability recognition and measurement provisions of Financial Accounting Standards Board Interpretation ("FIN") No. 45, "Guarantors' Accounting and Disclosure Requirements for Guarantees Including Indirect Guarantees of the Indebtedness of Others, and Interpretation of FASB Statements No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34," are effective for such guarantees issued or modified after December 31, 2002. During 2003 and the three months ended March 31, 2004, there were no new letters of credit issued or modifications to existing letters of credit. Accordingly, the Company's financial statements do not include a liability for the estimated fair value of these guarantees.
The Company at its sole option, can purchase shares fromoffers a line of credit to certain financial institutions and other institutions in the third party athigher education community for the contractedpurpose of buying or originating student loans. In the event that a line of credit is drawn upon, the loan is collaterialized by underlying student loans. The contractual amount plus or minus an early break feeof these financial instruments represents the maximum possible credit risk should the counterparty draw down the commitment or the Company can settlefulfill its obligation under the contract on a net basis with either cash or shares. Ifguarantee, and the Company's stock price declinescounterparty subsequently fails to a certain level, the third party could liquidate the position priorperform according to the maturity date.
Withterms of its contract with the adoptionCompany. Under the terms of SFAS No. 150the Privatization Act, any future activity under lines of credit and letter of credit activity by the GSE is limited to guarantee commitments, which were in the second quarter of 2003 (see Note 2, "New Accounting Pronouncements"), the Company began accounting for its equity forwards as derivatives under SFAS No. 133.place on August 7, 1997.
24
The following tableschedule summarizes expirations of the Company's common share repurchaseguarantees to the earlier of call date or maturity date outstanding at March 31, 2004.
| | Lines of Credit | Letters of Credit | Total | ||||||
|---|---|---|---|---|---|---|---|---|---|
| 2004 | $ | 878,845 | $ | 574,328 | $ | 1,453,173 | |||
| 2005 | — | 45,518 | 45,518 | ||||||
| 2006 | — | — | — | ||||||
| 2007 | — | — | — | ||||||
| 2008-2020 | — | — | — | ||||||
| Total | $ | 878,845 | $ | 619,846 | $ | 1,498,691 | |||
7. Pension Plans
Under the Company's qualified and equity forward activitysupplemental pension plans, participants accrue benefits under a cash balance formula. Under the formula, each participant has an account, for record keeping purposes only, to which credits are allocated each payroll period based on a percentage of the participant's compensation for the three and nine months ended September 30, 2003 and 2002.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Common shares in millions) | ||||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||||
| Common shares repurchased: | ||||||||||||||
| Open market | .5 | — | 5.5 | — | ||||||||||
| Equity forwards | 1.0 | 5.5 | 16.1 | 14.7 | ||||||||||
| Total shares repurchased | 1.5 | 5.5 | 21.6 | 14.7 | ||||||||||
| Average purchase price per share | $ | 40.13 | $ | 25.78 | $ | 30.44 | $ | 21.93 | ||||||
| Equity forward contracts: | ||||||||||||||
| Outstanding at beginning of period | 33.1 | 24.5 | 28.7 | 33.7 | ||||||||||
| New contracts | 8.1 | 7.8 | 27.6 | 7.8 | ||||||||||
| Exercises | (1.0 | ) | (5.5 | ) | (16.1 | ) | (14.7 | ) | ||||||
| Outstanding at end of period | 40.2 | 26.8 | 40.2 | 26.8 | ||||||||||
| Remaining repurchase authority at end of period | 17.0 | 29.1 | 17.0 | 29.1 | ||||||||||
current pay period. The following table summarizesapplicable percentage is determined by the expiration dates and rangeparticipant's number of purchase prices for outstanding equity forward contractsyears of service with the Company. If an individual participated in the Company's prior pension plan as of September 30, 2003.1999 and met certain age and service criteria, the participant ("grandfathered participant") will receive the greater of the benefits calculated under the
| Year of Maturity | Outstanding Contracts | Range of Market Prices | ||
|---|---|---|---|---|
| | (in millions) | | ||
| 2004 | 3.0 | $26.02 - $30.70 | ||
| 2005 | 12.0 | 27.47 - 40.17 | ||
| 2006 | 18.3 | 33.82 - 41.88 | ||
| 2007 | 3.7 | 37.70 | ||
| 2008 | 3.2 | 38.64 - 40.00 | ||
| 40.2 | ||||
prior plan, which uses a final average pay plan method, or the current plan under the cash balance formula.
Components of Net Periodic Pension Cost
Net periodic pension cost for the Company's pension plans for the three months ended March 31, 2004 and 2003 included the following components:
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| Service cost—benefits earned during the period | $ | 3,144 | $ | 2,776 | |||
| Interest cost on project benefit obligations | 2,814 | 2,587 | |||||
| Expected return on plan assets | (3,842 | ) | (3,208 | ) | |||
| Net amortization and deferral | (379 | ) | (165 | ) | |||
| Net periodic pension cost | $ | 1,737 | $ | 1,990 | |||
Employer Contributions
The average purchase priceCompany previously disclosed in its financial statements for outstanding equity forward contracts asthe year ended December 31, 2003 that it did not expect to contribute to its pension plan in 2004. As of September 30, 2003 was $35.39.March 31, 2004, the Company has made no contributions to its pension plan.
8. Contingencies
Any legislation that permits borrowers to refinance existing Consolidation LoansThe Company and various affiliates were defendants in a lawsuit brought by College Loan Corporation ("CLC") in the United States District Court for the Eastern District of Virginia alleging various breach of contract and common law tort claims in connection with CLC's consolidation loan activities. The Complaint sought compensatory damages of at lower interest rates could significantly increaseleast $60 million.
On June 25, 2003, after five days of trial, the ratejury returned a verdict in favor of prepayments on the student loans and could have a materially adverse effect on the Company's financial condition and results of operations.
In the fourth quarter of 2002, the Company discoveredon all counts. CLC has since filed an error withappeal. All appellate briefing has been completed and oral argument has been scheduled before the annual calculationU.S. Court of monthly payment amounts associated with variable interest rate Stafford, SLS and PLUS loans. The
25
error has caused approximately 1.1 million of the Company's serviced student loan accounts to not amortize in accordance with their repayment term. The Company took voluntary remedial action by crediting the affected borrowers' accounts and took a $9 million charge for servicing adjustments in the first quarter of 2003Appeals for the estimated interest credit. Substantially all payment amounts have been reset to the correctly amortizing amount and substantially all affected borrowers have been notified.Fourth Circuit on June 4, 2004.
The Company has reported this matter to the U.S. Department of Education (the "DOE") and has met with representatives of the DOE on several occasions to discuss the impact of the under-billing error on borrowers and the Company's remedial actions. The Company continues to discuss with the DOE the appropriateness of any further remedial actions.
A lawsuit that seeks class action status for borrowers affected by the monthly payment calculation was filed in California State Court in July 2003 against the Company and certain of its affiliates. The complaint asserts claims under the California Business and Professions Code and other California statutory sections. The complaint further seeks certain injunctive relief and restitution. The Company believes that this action is without merit.
The Higher Education Act of 1965 (the "HEA") generally is reauthorized every six years. The HEA was last reauthorized in 1998 and expired on September 20, 2003. Under current law, however, the HEA will automatically extend through September 30, 2004. At this time, management understands that the reauthorization of the HEA may be delayed until 2005. In connection with the approaching reauthorization of the HEA, several bills have been introduced in the U.S. Congress that, if enacted into law, in their current form, could adversely affect the Company. At this time, management does not expect these bills to become law or to become law in their present form.
The Company is named as a defendant in a putative class action lawsuit brought by three Wisconsin residents on December 20, 2001 in the Superior Court for the District of Columbia. The lawsuit seekssought to bring a nationwide class action on behalf of all borrowers who allegedly paid "undisclosed improper and excessive" late fees over the past three years. The plaintiffs sought damages of one thousand five hundred dollars per violation plus punitive damages and claimed that the class consisted of 2 million borrowers. In addition, the plaintiffs alleged that the Company charged excessive interest by capitalizing interest quarterly in violation of the promissory note. On February 28, 2003, the Court granted the Company's motion to dismiss the complaint in its entirety. The plaintiffs appealed the trial court decision. All appellate briefing has been completed and oral argument was held in April 2004. No decision has been issued on the appeal as of this date.
In July 2003, a borrower in California filed a class action complaint against the Company and filedcertain of its appellate brief.affiliates in state court in San Francisco in connection with a monthly payment amortization error discovered by the Company in the fourth quarter of 2002. The complaint asserts claims under the California Business and Professions Code and other California statutory provisions. The complaint further seeks certain injunctive relief and restitution.
The Company, together with a number of other FFELP industry participants, filed a lawsuit challenging the DOE's interpretation of and non-compliance with provisions in the HEA governing origination fees and repayment incentives on loans made under the FDLP. The lawsuit, which was filed November 3, 2000 in the United States District Court for the District of Columbia, alleges that the DOE's interpretations of and non-compliance with these statutory provisions are contrary to the statute's unambiguous text, and are arbitrary, capricious, an appellate brief on October 20, 2003.abuse of discretion, or otherwise not in accordance with law, and violate both the HEA and the Administrative Procedure Act. The appellate courtCompany together with the other plaintiffs and the DOE have filed cross-motions for summary judgment. The Court has not yet scheduled oral arguments.ruled on these motions.
The Company has cooperated with the SEC concerning an informal investigation that the SEC initiated on January 14, 2004. There are currently no data requests outstanding and the SEC has not sought to interview any additional witnesses. The investigation concerns certain 2003 year-end accounting entries made by employees of one of the Company's collection agency subsidiaries. The Company's Audit Committee engaged outside counsel to investigate the matter and management conducted its own investigation. These investigations by the Audit Committee and management have been completed and the amounts in question were less than $100,000.
The Company is also subject to various claims, lawsuits and other actions that arise in the normal course of business. Most of these matters are claims by borrowers disputing the manner in which their loans have been processed. Management believes that the case is without merit.
9. Subsequent Events
On October 29, 2003, the Company signed an agreement to purchase Academic Management Services ("AMS"). AMS markets, originates, funds and services student loans and is a leading provider of student tuition payment plans. The purchase will include a $1.4 billion student loan portfolio. AMS will retain its brand and company identity and will become a wholly owned subsidiary of SLM Corporation. The transaction is expected to close in November, subject to regulatory approvalsthese claims, lawsuits and other closing conditions.actions will not have a material adverse effect on the Company's business, financial condition or results of operations.
26
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Three and nine months ended September 30,March 31, 2004 and 2003 and 2002
(Dollars in millions, except per share amounts, unless otherwise stated)
OVERVIEW
We are the largest private source of funding, delivery and servicing support for education loans in the United States primarily through our participation in the Federal Family Education Loan Program ("FFELP").FFELP. Our primary business is to originate, acquire and hold student loans. We also provide a wide range of financial services, processing capabilities and information technology to meet the needs of educational institutions, lenders, students and their families, and guarantee agencies. Our primary business is to originate and hold student loans and provide student loan related products and services. We also earn fees for student loan servicing, guarantee processing, student loan default management and loan collections. SLM Corporation is a holding company that operates through a number of subsidiaries including the Student Loan Marketing Association, a federally chartered government-sponsored enterprise (the "GSE").enterprise. References hereinin this quarterly report to "the Company" refer to SLM Corporation and its subsidiaries.
Our results can be materially affected by changes in:
We have provided the discussion of the GSE within the context of this "Management's Discussion and Analysis of Financial Condition and Results of Operations" ("MD&A") because the GSE's primary function of financing the initial purchase of student loans is a substantial portionsubset of similar operations conducted by the Company. As we wind down the GSE, such operations will constitute less and less of the Company's operations is conducted through the GSE.operations. MD&A disclosures applicable solely to the GSE are included at the end of this MD&A in the section titled "Student Loan Marketing Association." The discussion that follows regarding our interest income and expenses from on-balance sheet assets and liabilities is applicable to both the Company and the GSE. Likewise, because all of our FFELP securitizations to date have originated from the GSE, the discussion of the securitization gains and securitization revenue from securitizations offor FFELP student loans is applicable to boththe GSE only. The ongoing servicing and securitization revenue from those securitizations is primarily earned by the Company andbecause the GSE.Retained Interests in FFELP securitizations are sold by the GSE to SLM Corporation shortly after completion of the securitization transactions. Discussions of private credit student loanPrivate Credit Student Loan securitizations are applicable to the Company only. The discussions of our off-balance sheet student loans, our fee-based businesses, and our operations on a Managed Basis, as well as the discussions set forth below under the headings "Selected Financial Data," "Other Income," "Federal and State Taxes" and "Alternative Performance Measures,"Measures" do not addressinvolve the GSE and relate to the Company on a consolidated basis.
27
The Through the first quarter of 2004, the majority of our student loan purchases and on-balance sheet financing of student loans occurswere financed in the GSE and we finance such purchaseswere initially financed through the issuance of short-term GSE debt obligations and then
through student loan securitizations. Whensecuritizations that were conducted through the GSE securitizes FFELP student loans, student loans are sold by the GSE to a trust that issues bonds backed by the student loans as part of the transaction.GSE. Once securitized, the GSE no longer owns the student loans and the bonds issued by the trust are not obligations of the GSE. The GSE retains a Residual Interest inAs the loans securitized and, in some cases, a reserve and other cash accounts, allWind-Down of which are recognized on the balance sheet as Retained Interest in securitized receivables. In the third quarter of 2003, the GSE sold its Retained Interest in securitized receivablescontinues, the liquidity provided to a subsidiarythe Company by the GSE is being replaced by non-GSE financing, including securitizations originated by non-GSE subsidiaries of SLM Corporation at its fair market value of $1.7 billion and recognized a gain of $617 million.Corporation. All student loans that the Company directly originates are owned by non-GSE subsidiaries from inception.
The GSE has no employees, so the management of its operations is provided by a non-GSE subsidiary of the Company under a management services agreement. We also service the majority of the GSE's student loans under a servicing agreement between the GSE and Sallie Mae, Servicing L.P.
In connection with the Wind-Down of the GSE, during the first nine months of 2003, the GSE transferred $3.9 billion in private credit student loans, including accrued interest receivable, and $306 million in four Variable Interest Entities ("VIEs") consisting of securitized Consolidation Loans, along with the debt securities secured by those loans, toInc., a wholly owned non-GSE subsidiary of SLM Corporation which includes the Company. The division of Sallie Mae Servicing.
See "STUDENT LOAN MARKETING ASSOCIATION—Privatization Act—GSE also sold its Retained Interest in securitized receivablesWind-Down" for a more detailed discussion of $2.5 billion to a non-GSE subsidiary of the Company, and transferred $1.1 billion of student loans through a non-cash dividend. The GSE recognized gains of $1.7 billion in these transactions. These transactions were conducted at estimated market value, which was determined by discounted cash flow models and other estimation techniques. The GSE also transferred $346 million of insurance and benefit related investments through a non-cash dividend. We will continue to securitize, sell, transfer or defease the GSE's assets throughout the Wind-Down Period. All intercompany transactions between the GSE and the Company and its non-GSE subsidiaries have been eliminated inprogress of the Company's consolidated financial statements.Wind-Down effort.
The following table shows the percentage of certain assets and income held by the GSE versus non-GSE as of and for the nine months ended September 30, 2003.
| | Nine months ended September 30, 2003 | ||||
|---|---|---|---|---|---|
| | GSE | Non-GSE | |||
| Ending balance of on-balance sheet private credit student loans, net | 15 | % | 85 | % | |
| Ending balance of on-balance sheet student loans, net | 59 | % | 41 | % | |
| Ending balance of Managed student loans financed, net1 | 30 | % | 70 | % | |
| Ending balance of on-balance sheet assets | 53 | % | 47 | % | |
| Average balance of on-balance sheet interest earning assets | 75 | % | 25 | % | |
| Interest income | 71 | % | 29 | % | |
| Fee income | 11 | % | 89 | % | |
28
SELECTED FINANCIAL DATA
Condensed Statements of Income
| | Three months ended September 30, | Increase (decrease) | Nine months ended September 30, | Increase (decrease) | Three months ended March 31, | Increase (decrease) | |||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | $ | % | 2003 | 2002 | $ | % | 2004 | 2003 | $ | % | |||||||||||||||||||||||
| Net interest income | $ | 250 | $ | 254 | $ | (4 | ) | (2 | )% | $ | 757 | $ | 824 | $ | (67 | ) | (8 | )% | $ | 322 | $ | 346 | $ | (24 | ) | (7 | )% | ||||||||
| Less: provision for losses | 42 | 34 | 8 | 24 | 121 | 83 | 38 | 46 | 40 | 43 | (3 | ) | (7 | ) | |||||||||||||||||||||
| Net interest income after provision for losses | 208 | 220 | (12 | ) | (5 | ) | 636 | 741 | (105 | ) | (14 | ) | 282 | 303 | (21 | ) | (7 | ) | |||||||||||||||||
| Gains on student loan securitizations | 39 | 18 | 21 | 117 | 659 | 76 | 583 | 767 | 114 | 306 | (192 | ) | (63 | ) | |||||||||||||||||||||
| Servicing and securitization revenue | 75 | 121 | (46 | ) | (38 | ) | 349 | 496 | (147 | ) | (30 | ) | 137 | 189 | (52 | ) | (28 | ) | |||||||||||||||||
| Losses on sales of securities, net | (6 | ) | (63 | ) | 57 | 90 | (114 | ) | (189 | ) | 75 | 40 | |||||||||||||||||||||||
| Derivative market value adjustment | 250 | (366 | ) | 616 | 168 | 335 | (255 | ) | 590 | 231 | (117 | ) | (119 | ) | 2 | 2 | |||||||||||||||||||
| Guarantor servicing fees | 40 | 28 | 12 | 43 | 101 | 78 | 23 | 29 | 35 | 35 | — | — | |||||||||||||||||||||||
| Debt management fees | 78 | 48 | 30 | 63 | 190 | 137 | 53 | 39 | 80 | 59 | 21 | 36 | |||||||||||||||||||||||
| Other income | 54 | 63 | (9 | ) | (14 | ) | 169 | 169 | — | — | 59 | 49 | 10 | 20 | |||||||||||||||||||||
| Operating expenses | 184 | 174 | 10 | 6 | 553 | 509 | 44 | 9 | 209 | 179 | 30 | 17 | |||||||||||||||||||||||
| Income taxes (benefit) | 204 | (43 | ) | 247 | 574 | 633 | 258 | 375 | 145 | ||||||||||||||||||||||||||
| Cumulative effect of accounting change | 130 | — | 130 | 100 | 130 | — | 130 | 100 | |||||||||||||||||||||||||||
| Income taxes | 90 | 226 | (136 | ) | (60 | ) | |||||||||||||||||||||||||||||
| Net income (loss) | 480 | (62 | ) | 542 | 874 | 1,269 | 486 | 783 | 161 | ||||||||||||||||||||||||||
| Net income | 291 | 417 | (126 | ) | (30 | ) | |||||||||||||||||||||||||||||
| Preferred stock dividends | 3 | 3 | — | — | 8 | 9 | (1 | ) | (11 | ) | 3 | 3 | — | — | |||||||||||||||||||||
| Net income (loss) attributable to common stock | $ | 477 | $ | (65 | ) | $ | 542 | 834 | % | $ | 1,261 | $ | 477 | $ | 784 | 164 | % | ||||||||||||||||||
| Net income attributable to common stock | $ | 288 | $ | 414 | $ | (126 | ) | (30 | )% | ||||||||||||||||||||||||||
| Basic earnings (loss) per common share | $ | 1.06 | $ | (.14 | ) | $ | 1.20 | 857 | % | $ | 2.78 | $ | 1.03 | $ | 1.75 | 170 | % | ||||||||||||||||||
| Basic earnings per common share | $ | .65 | $ | .91 | $ | (.26 | ) | (29 | )% | ||||||||||||||||||||||||||
| Diluted earnings (loss) per common share | $ | 1.04 | $ | (.14 | ) | $ | 1.18 | 843 | % | $ | 2.71 | $ | 1.00 | $ | 1.71 | 171 | % | ||||||||||||||||||
| Diluted earnings per common share | $ | .64 | $ | .88 | $ | (.24 | ) | (27 | )% | ||||||||||||||||||||||||||
| Dividends per common share | $ | .17 | $ | .07 | $ | .10 | 143 | % | $ | .42 | $ | .21 | $ | .21 | 100 | % | $ | .17 | $ | .08 | $ | .09 | 113 | % | |||||||||||
Condensed Balance Sheets
| | | | Increase (decrease) | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | September 30, 2003 | December 31, 2002 | |||||||||||
| | $ | % | |||||||||||
| Assets | |||||||||||||
| Federally insured student loans, net | $ | 30,977 | $ | 37,172 | $ | (6,195 | ) | (17 | )% | ||||
| Federally insured student loans in trust, net | 9,677 | — | 9,677 | 100 | |||||||||
| Private credit student loans, net | 5,029 | 5,167 | (138 | ) | (3 | ) | |||||||
| Academic facilities financings and other loans | 1,094 | 1,202 | (108 | ) | (9 | ) | |||||||
| Cash and investments | 7,384 | 4,990 | 2,394 | 48 | |||||||||
| Retained Interest in securitized receivables | 2,749 | 2,146 | 603 | 28 | |||||||||
| Goodwill and acquired intangible assets, net | 581 | 586 | (5 | ) | (1 | ) | |||||||
| Other assets | 2,445 | 1,912 | 533 | 28 | |||||||||
| Total assets | $ | 59,936 | $ | 53,175 | $ | 6,761 | 13 | % | |||||
| Liabilities and Stockholders' Equity | |||||||||||||
| Short-term borrowings | $ | 22,995 | $ | 25,619 | $ | (2,624 | ) | (10 | )% | ||||
| Long-term notes | 31,259 | 22,242 | 9,017 | 41 | |||||||||
| Other liabilities | 3,038 | 3,316 | (278 | ) | (8 | ) | |||||||
| Total liabilities | 57,292 | 51,177 | 6,115 | 12 | |||||||||
| Stockholders' equity before treasury stock | 3,026 | 4,703 | (1,677 | ) | (36 | ) | |||||||
| Common stock held in treasury at cost | 382 | 2,705 | (2,323 | ) | (86 | ) | |||||||
| Total stockholders' equity | 2,644 | 1,998 | 646 | 32 | |||||||||
| Total liabilities and stockholders' equity | $ | 59,936 | $ | 53,175 | $ | 6,761 | 13 | % | |||||
29
| | | | Increase (decrease) | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | March 31, 2004 | December 31, 2003 | ||||||||||
| | $ | % | ||||||||||
| Assets | ||||||||||||
| Federally insured student loans, net | $ | 26,175 | $ | 29,222 | $ | (3,047 | ) | (10 | )% | |||
| Federally insured student loans in trust, net | 24,062 | 16,355 | 7,707 | 47 | ||||||||
| Private Credit Student Loans, net | 4,177 | 4,470 | (293 | ) | (7 | ) | ||||||
| Academic facilities financings and other loans | 1,104 | 1,031 | 73 | 7 | ||||||||
| Cash and investments | 10,294 | 6,896 | 3,398 | 49 | ||||||||
| Restricted cash and investments | 1,246 | 1,106 | 140 | 13 | ||||||||
| Retained Interest in securitized receivables | 2,482 | 2,476 | 6 | — | ||||||||
| Goodwill and acquired intangible assets, net | 589 | 592 | (3 | ) | — | |||||||
| Other assets | 3,134 | 2,463 | 671 | 27 | ||||||||
| Total assets | $ | 73,263 | $ | 64,611 | $ | 8,652 | 13 | % | ||||
Liabilities and Stockholders' Equity | ||||||||||||
| Short-term borrowings | $ | 16,176 | $ | 18,735 | $ | (2,559 | ) | (14 | )% | |||
| Borrowings collateralized by loans in trust | 24,595 | 16,597 | 7,998 | 48 | ||||||||
| Long-term notes | 26,710 | 23,211 | 3,499 | 15 | ||||||||
| Other liabilities | 3,045 | 3,438 | (393 | ) | (11 | ) | ||||||
| Total liabilities | 70,526 | 61,981 | 8,545 | 14 | ||||||||
Stockholders' equity before treasury stock | 3,618 | 3,180 | 438 | 14 | ||||||||
| Common stock held in treasury at cost | 881 | 550 | 331 | 60 | ||||||||
| Total stockholders' equity | 2,737 | 2,630 | 107 | 4 | ||||||||
| Total liabilities and stockholders' equity | $ | 73,263 | $ | 64,611 | $ | 8,652 | 13 | % | ||||
RESULTS OF OPERATIONS
NET INTEREST INCOME
Net interest income is derived largely from our portfolio of student loans that remain on-balance sheet. The "Taxable Equivalent Net Interest Income" analysis set forth below is designed to facilitate a comparison of non-taxable asset yields to taxable yields on a similar basis. The decrease inAdditional information regarding the taxable equivalent net interest income and the net interest margin for the three and nine months ended September 30, 2003 versus the corresponding periods in the prior year is largely driven by the decrease in the on-balance sheetreturn on our student loan spread discussed in detail belowportfolio is set forth under "Student Loans—Student Loan Spread Analysis.Analysis After Reclassification—Non-GAAP." The net interest margin was also negatively impacted byInformation regarding the increaseprovision for losses is contained in lower yielding short-term investments caused byNote 2 to the increase in non-GSE funding that is intended to fund future asset transfers from the GSE. Those investments that are in excess of our normal liquidity needs are expected to be replaced in the fourth quarter by assets that will be transferred from the GSE. We also experienced higher relative funding costs from the increase in non-GSE funding as a percentage of total on-balance sheet funding in connection with the GSE Wind-Down.consolidated financial statements.
Taxable Equivalent Net Interest Income
The amounts in thisthe following table are adjusted for the impact of certain tax-exempt and tax-advantaged investments based on the marginal federal corporate tax rate of 35 percent.
| | Three months ended September 30, | Increase (decrease) | Nine months ended September 30, | Increase (decrease) | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | $ | % | 2003 | 2002 | $ | % | ||||||||||||||||
| Interest income | ||||||||||||||||||||||||
| Student loans | $ | 425 | $ | 505 | $ | (80 | ) | (16 | )% | $ | 1,313 | $ | 1,573 | $ | (260 | ) | (17 | )% | ||||||
| Academic facilities financings and other loans | 19 | 22 | (3 | ) | (14 | ) | 59 | 70 | (11 | ) | (16 | ) | ||||||||||||
| Investments | 39 | 28 | 11 | 39 | 109 | 109 | — | — | ||||||||||||||||
| Taxable equivalent adjustment | 3 | 8 | (5 | ) | (63 | ) | 11 | 17 | (6 | ) | (35 | ) | ||||||||||||
| Total taxable equivalent interest income | 486 | 563 | (77 | ) | (14 | ) | 1,492 | 1,769 | (277 | ) | (16 | ) | ||||||||||||
| Interest expense | 233 | 301 | (68 | ) | (23 | ) | 724 | 928 | (204 | ) | (22 | ) | ||||||||||||
| Taxable equivalent net interest income | $ | 253 | $ | 262 | $ | (9 | ) | (3 | )% | $ | 768 | $ | 841 | $ | (73 | ) | (9 | )% | ||||||
30
| | Three months ended March 31, | Increase (decrease) | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | $ | % | |||||||||
| Interest income | |||||||||||||
| Student loans | $ | 546 | $ | 555 | $ | (9 | ) | (2 | )% | ||||
| Academic facilities financings and other loans | 18 | 20 | (2 | ) | (9 | ) | |||||||
| Investments | 43 | 28 | 15 | 54 | |||||||||
| Taxable equivalent adjustment | 3 | 4 | (1 | ) | — | ||||||||
| Total taxable equivalent interest income | 610 | 607 | 3 | 1 | |||||||||
| Interest expense | 285 | 257 | 28 | 11 | |||||||||
| Taxable equivalent net interest income | $ | 325 | $ | 350 | $ | (25 | ) | (7 | )% | ||||
Average Balance Sheets
The following table reflects the taxable equivalent rates earned on interest earning assets and paid on interest bearing liabilities for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||||||||||||
| | Balance | Rate | Balance | Rate | Balance | Rate | Balance | Rate | ||||||||||||||
| Average Assets | ||||||||||||||||||||||
| Federally insured student loans | $ | 40,010 | 3.39 | % | $ | 38,403 | 4.24 | % | $ | 39,179 | 3.59 | % | $ | 37,824 | 4.69 | % | ||||||
| Private credit student loans | 4,829 | 6.86 | 5,459 | 6.85 | 5,214 | 6.67 | 5,011 | 6.57 | ||||||||||||||
| Academic facilities financings and other loans | 1,135 | 7.09 | 1,289 | 7.30 | 1,154 | 7.27 | 1,529 | 6.74 | ||||||||||||||
| Investments | 8,032 | 2.01 | 4,213 | 3.24 | 6,114 | 2.54 | 4,818 | 3.30 | ||||||||||||||
| Total interest earning assets | 54,006 | 3.57 | % | 49,364 | 4.52 | % | 51,661 | 3.86 | % | 49,182 | 4.81 | % | ||||||||||
| Non-interest earning assets | 6,561 | 4,385 | 5,882 | 4,658 | ||||||||||||||||||
| Total assets | $ | 60,567 | $ | 53,749 | $ | 57,543 | $ | 53,840 | ||||||||||||||
| Average Liabilities and Stockholders' Equity | ||||||||||||||||||||||
| Six month floating rate notes | $ | 3,087 | 1.06 | % | $ | 3,062 | 1.77 | % | $ | 2,987 | 1.17 | % | $ | 2,994 | 1.86 | % | ||||||
| Other short-term borrowings | 24,729 | 1.46 | 25,965 | 2.01 | 23,068 | 1.56 | 27,580 | 2.13 | ||||||||||||||
| Long-term notes | 26,892 | 1.97 | 20,492 | 3.01 | 26,226 | 2.19 | 19,099 | 3.14 | ||||||||||||||
| Total interest bearing liabilities | 54,708 | 1.69 | % | 49,519 | 2.41 | % | 52,281 | 1.85 | % | 49,673 | 2.50 | % | ||||||||||
| Non-interest bearing liabilities | 3,078 | 2,450 | 2,886 | 2,337 | ||||||||||||||||||
| Stockholders' equity | 2,781 | 1,780 | 2,376 | 1,830 | ||||||||||||||||||
| Total liabilities and stockholders' equity | $ | 60,567 | $ | 53,749 | $ | 57,543 | $ | 53,840 | ||||||||||||||
| Net interest margin | 1.86 | % | 2.11 | % | 1.99 | % | 2.29 | % | ||||||||||||||
31
| | Three months ended March 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||
| | Balance | Rate | Balance | Rate | ||||||||
| Average Assets | ||||||||||||
| Federally insured student loans | $ | 47,746 | 3.95 | % | $ | 38,695 | 4.90 | % | ||||
| Private Credit Student Loans | 5,146 | 5.99 | 5,464 | 6.50 | ||||||||
| Academic facilities financings and other loans | 1,062 | 7.36 | 1,164 | 7.59 | ||||||||
| Cash and investments | 9,025 | 2.04 | 4,486 | 2.71 | ||||||||
| Total interest earning assets | 62,979 | 3.90 | % | 49,809 | 4.94 | % | ||||||
| Non-interest earning assets | 6,046 | 4,956 | ||||||||||
| Total assets | $ | 69,025 | $ | 54,765 | ||||||||
Average Liabilities and Stockholders' Equity | ||||||||||||
| Six month floating rate notes | $ | 2,621 | 1.04 | % | $ | 2,887 | 1.27 | % | ||||
| Other short-term borrowings | 16,208 | 1.93 | 22,881 | 1.51 | ||||||||
| Long-term notes | 44,169 | 1.83 | 24,081 | 2.75 | ||||||||
| Total interest bearing liabilities | 62,998 | 1.82 | % | 49,849 | 2.09 | % | ||||||
Non-interest bearing liabilities | 3,487 | 2,832 | ||||||||||
| Stockholders' equity | 2,540 | 2,084 | ||||||||||
| Total liabilities and stockholders' equity | $ | 69,025 | $ | 54,765 | ||||||||
| Net interest margin | 2.08 | % | 2.85 | % | ||||||||
The decrease in the net interest margin from the first quarter of 2003 to the first quarter of 2004 was primarily due to the decrease in Floor Income and other student loan spread related items as discussed under "Student Loans—Student Loan Spread Analysis After Reclassification—Non-GAAP." The decrease in the net interest margin was also due to the increase in lower yielding short-term investments caused by the increase in non-GSE funding that is temporarily being held pending future asset transfers from the GSE to SLM Corporation.
Rate/Volume Analysis
The "Rate/Volume Analysis" below showsfollowing rate/volume analysis illustrates the relative contribution of changes in interest rates and asset volumes.
| | | Increase (decrease) attributable to change in | |||||||
|---|---|---|---|---|---|---|---|---|---|
| | Taxable equivalent increase (decrease) | ||||||||
| | Rate | Volume | |||||||
| Three months ended March 31, 2004 vs. three months ended March 31, 2003 | |||||||||
| Taxable equivalent interest income | $ | 3 | $ | (136 | ) | $ | 139 | ||
| Interest expense | 28 | (86 | ) | 114 | |||||
| Taxable equivalent net interest income | $ | (25 | ) | $ | (50 | ) | $ | 25 | |
Derivative Reclassification—Non-GAAP
A recent interpretation of SFAS No. 133 requires net settlement income/expense on derivatives and realized gains/losses on derivative dispositions ("realized derivative transactions") that do not qualify as hedges under SFAS No. 133 to be recorded in a separate income statement line item below net interest income. In response to this interpretation, we believe that it is helpful to the understanding of our business to include two presentations of net interest income and net interest margin. The first is a GAAP presentation presented above that includes the net settlement income/expense on derivatives and realized gains/losses recorded in the derivative market value adjustment line, which excludes these items from net interest income and margin. The second is a non-GAAP presentation that reflects these net settlements after having been reclassified to the financial statement line item of the economically hedged item, which includes them in net interest income and margin. We believe that this second presentation is meaningful as it reflects how we manage interest rate risk through the match funding of interest sensitive assets and liabilities. The presentations of our taxable equivalent net interest income, average balance sheet, rate volume analysis, student loan spread and funding costs in the following tables will reflect these reclassifications. The table below details the reclassification of the derivative net
settlements and realized gains/losses related to derivative dispositions that is used in the following non-GAAP presentations as discussed above.
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| Reclassification of realized derivative transactions: | |||||||
| Net settlement expense on Floor Income Contracts reclassified to student loan income | $ | (109 | ) | $ | (118 | ) | |
| Net settlement expense on Floor Income Contracts reclassified to servicing and securitization income | (58 | ) | (36 | ) | |||
| Net settlement income on interest rate swaps reclassified to interest expense | 12 | 12 | |||||
| Net settlement expense on interest rate swaps reclassified to servicing and securitization income | (13 | ) | (15 | ) | |||
| Realized gain/loss on closed Eurodollar futures contracts and terminated derivative contracts | (48 | ) | (77 | ) | |||
| Total reclassifications from realized derivative transactions | (216 | ) | (234 | ) | |||
| Add: Unrealized derivative market value adjustment | 99 | 115 | |||||
| Derivative market value adjustment | $ | (117 | ) | $ | (119 | ) | |
Taxable Equivalent Net Interest Income After Reclassification—Non-GAAP
The amounts in thisthe following table are adjusted for the impact of certain tax-exempt and tax-advantaged investments based on the marginal federal corporate tax rate of 35 percent.
| | | Increase (decrease) attributable to change in | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | Taxable equivalent increase (decrease) | |||||||||
| | Rate | Volume | ||||||||
| Three months ended September 30, 2003 vs. three months ended September 30, 2002 | ||||||||||
| Taxable equivalent interest income | $ | (77 | ) | $ | (116 | ) | $ | 39 | ||
| Interest expense | (68 | ) | (110 | ) | 42 | |||||
| Taxable equivalent net interest income | $ | (9 | ) | $ | (6 | ) | $ | (3 | ) | |
| | | Increase (decrease) attributable to change in | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | Taxable equivalent increase (decrease) | |||||||||
| | Rate | Volume | ||||||||
| Nine months ended September 30, 2003 vs. nine months ended September 30, 2002 | ||||||||||
| Taxable equivalent interest income | $ | (277 | ) | $ | (347 | ) | $ | 70 | ||
| Interest expense | (204 | ) | (299 | ) | 95 | |||||
| Taxable equivalent net interest income | $ | (73 | ) | $ | (48 | ) | $ | (25 | ) | |
| | Three months ended March 31, | Increase (decrease) | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | $ | % | |||||||||
| Interest income | |||||||||||||
| Student loans | $ | 438 | $ | 436 | $ | 2 | — | % | |||||
| Academic facilities financings and other loans | 18 | 20 | (2 | ) | (9 | ) | |||||||
| Investments | 43 | 28 | 15 | 54 | |||||||||
| Taxable equivalent adjustment | 3 | 4 | (1 | ) | 2 | ||||||||
| Total taxable equivalent interest income | 502 | 488 | 14 | 3 | |||||||||
| Interest expense | 274 | 244 | 30 | 12 | |||||||||
| Taxable equivalent net interest income, non- GAAP | $ | 228 | $ | 244 | $ | (16 | ) | (7 | )% | ||||
Taxable Equivalent Net Interest Income Reconciliation from GAAP to non-GAAP
For the nine months ended September 30, 2003 versus the year-ago period, the decrease inThe following table reconciles the taxable equivalent net interest income attributablefrom GAAP to volumenon-GAAP.
| | Three months ended March 31, | Increase (decrease) | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | $ | % | ||||||||
| Taxable equivalent net interest income, GAAP | $ | 325 | $ | 350 | $ | (25 | ) | (7 | )% | |||
| Settlements on Floor Income Contracts reclassified to student loan income | (109 | ) | (118 | ) | 9 | 8 | ||||||
| Net settlements on interest rate swaps reclassified to interest expense | 12 | 12 | — | — | ||||||||
| Taxable equivalent net interest income, non-GAAP | $ | 228 | $ | 244 | $ | (16 | ) | (7 | )% | |||
Average Balance Sheets After Reclassification—Non-GAAP
The following table reflects the rates earned on interest earning assets and paid on interest bearing liabilities for the three months ended March 31, 2004 and 2003.
| | Three months ended March 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||
| | Balance | Rate | Balance | Rate | ||||||||
| Average Assets | ||||||||||||
| Federally insured student loans | $ | 47,746 | 3.04 | % | $ | 38,695 | 3.65 | % | ||||
| Private Credit Student Loans | 5,146 | 5.99 | 5,464 | 6.50 | ||||||||
| Academic facilities financings and other loans | 1,062 | 7.36 | 1,164 | 7.59 | ||||||||
| Cash and investments | 9,025 | 2.04 | 4,486 | 2.71 | ||||||||
| Total interest earning assets | 62,979 | 3.21 | % | 49,809 | 3.97 | % | ||||||
Non-interest earning assets | 6,046 | 4,956 | ||||||||||
| Total assets | $ | 69,025 | $ | 54,765 | ||||||||
Average Liabilities and Stockholders' Equity | ||||||||||||
| Six month floating rate notes | $ | 2,621 | 1.04 | % | $ | 2,887 | 1.27 | % | ||||
| Other short-term borrowings | 16,208 | 1.78 | 22,881 | 1.52 | ||||||||
| Long-term notes | 44,169 | 1.78 | 24,081 | 2.51 | ||||||||
| Total interest bearing liabilities | 62,998 | 1.75 | % | 49,849 | 1.99 | % | ||||||
Non-interest bearing liabilities | 3,487 | 2,832 | ||||||||||
| Stockholders' equity | 2,540 | 2,084 | ||||||||||
| Total liabilities and stockholders' equity | $ | 69,025 | $ | 54,765 | ||||||||
Net interest margin, non-GAAP | 1.46 | % | 1.99 | % | ||||||||
The 62 basis point difference between the first quarter of 2004 non-GAAP net interest margin of 1.46 percent versus the GAAP net interest margin of 2.08 percent is primarily due primarily to the impactinclusion of payments on Floor Income Contracts in the increasenon-GAAP presentation which reduced net interest income by 69 basis points (See "Derivative Reclassification—Non-GAAP" above). For a discussion of other
fluctuations between the first quarter of 2004 net interest margin versus the first quarter of 2003 net interest margin, please see the GAAP Average Balance Sheet above.
Rate/Volume Analysis After Reclassification—Non-GAAP
The following rate/volume analysis shows the relative contribution of changes in lower yielding investmentsinterest rates and long-term debt as a percentage of total assets and total liabilities, respectively.asset volumes.
| | | Increase (decrease) attributable to change in | |||||||
|---|---|---|---|---|---|---|---|---|---|
| | Taxable equivalent increase (decrease) | ||||||||
| | Rate | Volume | |||||||
| Three months ended March 31, 2004 vs. three months ended March 31, 2003 | |||||||||
| Taxable equivalent interest income | $ | 14 | $ | (96 | ) | $ | 110 | ||
| Interest expense | 30 | (72 | ) | 102 | |||||
| Taxable equivalent net interest income, non-GAAP | $ | (16 | ) | $ | (24 | ) | $ | 8 | |
Taxable equivalent net interest income after reclassification for the three months ended 2004 versus 2003 decreased by $16 million while the net interest margin decreased by 53 basis points.
Student Loans
For both federally insured and Private Credit Student Loans, we account for premiums paid, discounts received and certain origination costs incurred on the acquisition of student loans in accordance with SFAS No. 91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases." The unamortized portion of the premiums and discounts are included in the carrying value of the student loan on the consolidated balance sheet. We recognize income on our student loan portfolio based on the expected yield of the student loan after giving effect to the amortization of purchase premiums and the accretion of student loan discounts, as well as borrower benefit programs. Origination fees charged on Private Credit Student Loans are deferred and amortized to income over the lives of the student loans. In the "Student Loan Spread Analysis After Reclassification—Non-GAAP" table below, this amortization of origination fees is netted with the amortization of the premiums.
Student Loan Spread Analysis After Reclassification—Non-GAAP (see "NET INTEREST INCOME—Derivative Reclassification—Non-GAAP")
The following table analyzes the reported earnings from student loans both on-balance sheet and those off-balance sheet in securitization trusts. For student loans off-balance sheet, we will continue to earn securitization and servicing fee revenues over the life of the securitized student loan portfolios. The off-balance sheet information presented in "Securitization Program—"Liquidity and Capital Resources—Securitization Activities—Servicing and Securitization Revenue" analyzes the on-going servicing revenue and Residual Interest earned on the securitized portfolios of student loans. For an analysis of our student loan
spread for the entire portfolio of Managed student loans on a similar basis to the on-balance sheet analysis, (see "Studentsee "Alternative Performance Measures—Student Loan Spread Analysis—Managed Basis").Basis."
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| On-Balance Sheet | |||||||
| Student loan yield, before Floor Income | 4.12 | % | 4.47 | % | |||
| Floor Income | .13 | .29 | |||||
| Consolidation Loan Rebate Fees | (.54 | ) | (.50 | ) | |||
| Offset Fees | (.06 | ) | (.07 | ) | |||
| Borrower benefits | (.14 | ) | (.08 | ) | |||
| Premium and origination fee amortization | (.18 | ) | (.10 | ) | |||
| Student loan net yield | 3.33 | 4.01 | |||||
| Student loan cost of funds | (1.60 | ) | (1.75 | ) | |||
| Student loan spread, non-GAAP | 1.73 | % | 2.26 | % | |||
Off-Balance Sheet | |||||||
| Servicing and securitization revenue, before Floor Income | 1.12 | % | 1.52 | % | |||
| Floor Income, net of Floor Income previously recognized in gain on sale calculation | .33 | .65 | |||||
| Servicing and securitization revenue | 1.45 | % | 2.17 | % | |||
Average Balances | |||||||
| On-balance sheet student loans | $ | 52,892 | $ | 44,159 | |||
| Off-balance sheet student loans | 37,786 | 35,228 | |||||
| Managed student loans | $ | 90,678 | $ | 79,387 | |||
32Discussion of On-Balance Sheet Student Loan Spread Exclusive of Floor Income
| | Three months ended September 30, | Nine months ended September 30, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | |||||||||
| On-Balance Sheet | |||||||||||||
| Student loan yield, before Floor Income | 4.17 | % | 4.91 | % | 4.32 | % | 5.08 | % | |||||
| Floor Income | .33 | .37 | .35 | .61 | |||||||||
| Consolidation Loan Rebate Fees | (.51 | ) | (.41 | ) | (.49 | ) | (.38 | ) | |||||
| Offset Fees | (.07 | ) | (.09 | ) | (.07 | ) | (.10 | ) | |||||
| Borrower benefits | (.08 | ) | (.08 | ) | (.08 | ) | (.08 | ) | |||||
| Premium and origination fee amortization | (.08 | ) | (.14 | ) | (.08 | ) | (.22 | ) | |||||
| Student loan net yield | 3.76 | 4.56 | 3.95 | 4.91 | |||||||||
| Student loan cost of funds | (1.54 | ) | (2.25 | ) | (1.66 | ) | (2.42 | ) | |||||
| Student loan spread | 2.22 | % | 2.31 | % | 2.29 | % | 2.49 | % | |||||
| Off-Balance Sheet | |||||||||||||
| Servicing and securitization revenue, before Floor Income | .99 | % | 1.34 | % | 1.20 | % | 1.17 | % | |||||
| Floor Income on securitized loans | (.24 | ) | .13 | .04 | .92 | ||||||||
| Servicing and securitization revenue | .75 | % | 1.47 | % | 1.24 | % | 2.09 | % | |||||
| Average Balances | |||||||||||||
| On-balance sheet student loans | $ | 44,839 | $ | 43,862 | $ | 44,393 | $ | 42,835 | |||||
| Securitized student loans | 39,803 | 32,705 | 37,631 | 31,790 | |||||||||
| Managed student loans | $ | 84,642 | $ | 76,567 | $ | 82,024 | $ | 74,625 | |||||
The decrease in the first quarter 2004 student loan spread, for the three and nine months ended September 30, 2003 versus the corresponding year-ago periodsfirst quarter of 2003, was mainly due to lower Floor Income, higher spreads on our debt funding student loans, the decreaseincrease in the amountaverage balance of Floor Income discussed below. The decrease in the student loan spread, exclusive of Floor Income, for the three months ended September 30, 2003 versus the year-ago period is primarily due to a higher relative cost of funds and the growth in Consolidation Loans as a percentage of the on-balance sheet portfolio and higher premium amortization and borrower benefit expenses. The increase in the spreads to the underlying index on the cost of funds is due to the replacement of lower cost GSE funding with non-GSE funding in connection with the GSE Wind-Down. This higher cost is the result of both higher credit spreads on non-GSE funding sources and the significantly longer duration of non-GSE liabilities. Also, we use higher cost, longer-term debt to fund Consolidation Loans.
The average balance of Consolidation Loans increased as a percentage of the average on-balance sheet FFELP student loan portfolio.portfolio from 55 percent in the first quarter of 2003 to 58 percent in the first quarter of 2004. Consolidation Loans have lower spreads due to the 105 basis point Consolidation Loan Rebate Fees,Fee, which is somewhatpartially offset by the absence of the 30 basis point offset fee on GSE student loans and higher SAP yield and lower student loanyield.
The higher premium amortization due toand borrower benefit expense in 2004 is primarily the longer averageresult of revised life of Consolidation Loans. The thirdloan estimates for higher consolidation activity that reduced premium amortization in the first quarter of 2003 student loan spread was also adversely impacted by higher student loan premium write-offs from the increase in loans consolidated into the Federal Direct Loan Program ("FDLP"), caused primarily by the FDLP's temporary suspension of disbursements for new consolidations in the second quarter of 2003, shifting FDLP consolidations into the third quarter.2003.
For on-balance sheet student loans, Floor Income Contracts
is included in student loan income. The following table summarizes the components of Floor Income from on-balance sheet student loans, net of payments under Floor Income Contracts, for the three and nine months ended September 30, 2003March 31, 2004 and 2002:2003.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||
| Fixed Rate Floor Income | $ | 36 | $ | 39 | $ | 86 | $ | 90 | ||||
| Variable Rate Floor Income | 1 | 1 | 30 | 107 | ||||||||
| Total Floor Income | $ | 37 | $ | 40 | $ | 116 | $ | 197 | ||||
33
| | Three months ended March 31, 2004 | Three months ended March 31, 2003 | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Fixed borrower rate | Variable borrower rate | Total | Fixed borrower rate | Variable borrower rate | Total | |||||||||||||
| (Dollars in billions) | | | | | | | |||||||||||||
| Gross Floor Income | $ | 124 | $ | 2 | $ | 126 | $ | 137 | $ | 13 | $ | 150 | |||||||
| Payments on Floor Income Contracts | (109 | ) | — | (109 | ) | (118 | ) | — | (118 | ) | |||||||||
| Floor Income | $ | 15 | $ | 2 | $ | 17 | $ | 19 | $ | 13 | $ | 32 | |||||||
| Floor Income in basis points | 11 | 2 | 13 | 18 | 11 | 29 | |||||||||||||
The decrease in Floor Income for the three and nine months ended September 30, 2003ending March 31, 2004 versus the corresponding year-ago periodsperiod is primarily due to an increasethe decline in Treasury bill and commercial paper rates from the notional valueJuly 1, 2002 reset of borrower rates to March 31, 2003. Treasury bill and commercial paper rates did not decline as steeply from the July 1, 2003 reset to March 31, 2004 as compared to the same period in 2003.
For off-balance sheet student loans, future Fixed Rate Embedded Floor Income Contracts during the period for on-balance sheet student loans. Floor Income earned on the underlying student loans is passed through to counterpartiesestimated using a discounted cash flow option pricing model and reduces the net amount of Floor Income earned. The upfront payment received on Floor Income Contracts is included in the derivative market value adjustment, andResidual Interest valuation which is effectivelyinitially recognized in income over the life of the contract. This reduction was offset by the net increase in on-balance sheet Consolidation Loans. The decrease for the nine months ended was also caused by the reduction inas a gain on sale. Variable Rate Embedded Floor Income is recognized as there was a greater declineearned in interest rates in the first six months of 2002 than 2003.servicing and securitization revenue.
At September 30, 2003,March 31, 2004, the notional amount of student loan Floor Income Contracts totaled $31.2$43.6 billion of which $15.4$19.4 billion are contracts that commence inbetween April 1, 2004 throughand 2007. The following table analyzes the ability of the FFELP student loans in our Managed student loan portfolio to earn Floor Income after September 30, 2003March 31, 2004 and 2002. Three month2003. Three-month Treasury bill loans are based on the last Treasury bill auctions of SeptemberMarch 2004 and 2003 and 2002 of .95.96 percent and 1.571.12 percent, respectively. Commercial paper rate loans are based on the last commercial paper rates of 1.051.04 percent for September 2003March 2004 and 1.761.23 percent for September 2002. One yearMarch 2003. One-year Treasury bill loans are based on the last Treasury bill auctions of May 2003 and 2002 of 1.12 percent and 1.76 percent, respectively.
| | September 30, 2003 | September 30, 2002 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in billions) | Fixed Borrower Rate | Annually Reset Borrower Rate | Total | Fixed Borrower Rate | Annually Reset Borrower Rate | Total | ||||||||||||||
| Student loans eligible to earn Floor Income | ||||||||||||||||||||
| On-balance sheet student loans | $ | 23.9 | $ | 11.0 | $ | 34.9 | $ | 19.9 | $ | 13.3 | $ | 33.2 | ||||||||
| Off-balance sheet student loans | 8.3 | 26.1 | 34.4 | 2.8 | 26.5 | 29.3 | ||||||||||||||
| Managed student loans eligible to earn Floor Income | 32.2 | 37.1 | 69.3 | 22.7 | 39.8 | 62.5 | ||||||||||||||
| Less notional amount of Floor Income Contracts | (15.8 | ) | — | (15.8 | ) | (12.1 | ) | — | (12.1 | ) | ||||||||||
| Net Managed student loans eligible to earn Floor Income | $ | 16.4 | $ | 37.1 | $ | 53.5 | $ | 10.6 | $ | 39.8 | $ | 50.4 | ||||||||
| Net Managed student loans earning Floor Income after September 30, 2003 and 2002 | $ | 14.2 | $ | 31.4 | $ | 45.6 | $ | 9.8 | $ | 20.3 | $ | 30.1 | ||||||||
On-Balance Sheet Provision for Losses
The provision for losses represents the periodic expense of maintaining an allowance sufficient to absorb losses, net of recoveries, inherent in the portfolio of student and other loans.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||
| Provision for FFELP student and other loan losses | $ | 12 | $ | 3 | $ | 37 | $ | 17 | ||||
| Provision for private credit student loan losses | 30 | 32 | 84 | 66 | ||||||||
| Total provision for losses | $ | 42 | $ | 35 | $ | 121 | $ | 83 | ||||
34
| | March 31, 2004 | March 31, 2003 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Fixed Borrower Rate | Annually Reset Borrower Rate | Total | Fixed Borrower Rate | Annually Reset Borrower Rate | Total | ||||||||||||||
| (Dollars in billions) | | | | | | | ||||||||||||||
| Student loans eligible to earn Floor Income: | ||||||||||||||||||||
| On-balance sheet student loans | $ | 28.4 | $ | 14.8 | $ | 43.2 | $ | 21.0 | $ | 11.1 | $ | 32.1 | ||||||||
| Off-balance sheet student loans | 7.9 | 21.8 | 29.7 | 6.4 | 26.4 | 32.8 | ||||||||||||||
| Managed student loans eligible to earn Floor Income | 36.3 | 36.6 | 72.9 | 27.4 | 37.5 | 64.9 | ||||||||||||||
Less: Economically hedged Floor Income | (15.9 | ) | — | (15.9 | ) | (16.0 | ) | — | (16.0 | ) | ||||||||||
Net Managed student loans eligible to earn Floor Income | $ | 20.4 | $ | 36.6 | $ | 57.0 | $ | 11.4 | $ | 37.5 | $ | 48.9 | ||||||||
Net Managed student loans earning Floor Income | $ | 15.0 | $ | 32.1 | $ | 47.1 | $ | 10.3 | $ | 37.5 | $ | 47.8 | ||||||||
Activity in the Allowance for On-Balance Sheet Private Credit Student Loan Losses
An analysis of ourThe following table summarizes changes in the allowance for the on-balance sheet private credit student loan losses is presented in the following tablefor on-balance sheet Private Credit Student Loans for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||||
| Balance at beginning of period | $ | 174 | $ | 181 | $ | 194 | $ | 208 | ||||||
| Provision for private credit student loan losses | 30 | 32 | 84 | 66 | ||||||||||
| Other | — | — | 7 | (36 | ) | |||||||||
Charge-offs | (22 | ) | (33 | ) | (59 | ) | (61 | ) | ||||||
| Recoveries | 3 | 6 | 10 | 9 | ||||||||||
| Charge-offs, net of recoveries | (19 | ) | (27 | ) | (49 | ) | (52 | ) | ||||||
| Balance before securitization of private credit student loans | 185 | 186 | 236 | 186 | ||||||||||
| Reduction for securitization of private credit student loans | — | — | (51 | ) | — | |||||||||
| Balance at end of period | $ | 185 | $ | 186 | $ | 185 | $ | 186 | ||||||
| Net charge-offs as a percentage of average private credit student loans (annualized) | 1.53 | % | 1.95 | % | 1.27 | % | 1.38 | % | ||||||
| Net charge-offs as a percentage of average private credit student loans in repayment (annualized) | 3.01 | % | 3.61 | % | 2.43 | % | 2.33 | % | ||||||
| Private credit allowance as a percentage of average private credit student loans | 3.84 | % | 3.41 | % | 3.56 | % | 3.72 | % | ||||||
| Private credit allowance as a percentage of the ending balance of private credit student loans | 3.55 | % | 3.28 | % | 3.55 | % | 3.28 | % | ||||||
| Private credit allowance as a percentage of ending private credit student loans in repayment | 7.44 | % | 6.26 | % | 7.44 | % | 6.26 | % | ||||||
| Average balance of private credit student loans | $ | 4,829 | $ | 5,459 | $ | 5,214 | $ | 5,011 | ||||||
| Ending balance of private credit student loans | $ | 5,214 | $ | 5,676 | $ | 5,214 | $ | 5,676 | ||||||
| Average balance of private credit student loans in repayment | $ | 2,449 | $ | 2,942 | $ | 2,717 | $ | 2,954 | ||||||
| Ending balance of private credit student loans in repayment | $ | 2,491 | $ | 2,976 | $ | 2,491 | $ | 2,976 | ||||||
During the third quarter of 2003, we reclassified FFELP loans and the related reserves that have been rejected for reimbursement by the guarantor to the private credit student loan portfolio because these loans are effectively uninsured. In the above table, the reclassification is reflected for all periods presented.
| | Three months ended March 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||
| Private Credit Student Loan allowance balance at beginning of period | $ | 166 | $ | 181 | ||||
| Provision for Private Credit Student Loan losses | 32 | 28 | ||||||
| Other | — | 7 | ||||||
| Charge-offs: | ||||||||
| Private Credit Student Loan charge-offs | (26 | ) | (17 | ) | ||||
| Private Credit Student Loan recoveries | 3 | 2 | ||||||
| Total charge-offs, net of recoveries | (23 | ) | (15 | ) | ||||
| Balance before securitization of Private Credit Student Loans | 175 | 201 | ||||||
| Reduction for securitization of Private Credit Student Loans | (21 | ) | (27 | ) | ||||
| Private Credit Student Loan allowance balance at end of period | $ | 154 | $ | 174 | ||||
Net Private Credit Student Loan charge-offs as a percentage of average Private Credit Student Loans | 1.80 | % | 1.09 | % | ||||
| Net Private Credit Student Loan charge-offs as a percentage of average Private Credit Student Loans in repayment | 3.97 | % | 2.14 | % | ||||
| Private Credit Student Loan allowance as a percentage of average Private Credit Student Loans | 3.00 | % | 3.19 | % | ||||
| Private Credit Student Loan allowance as a percentage of the ending balance of Private Credit Student Loans | 3.56 | % | 3.40 | % | ||||
| Private Credit Student Loan allowance as a percentage of the ending balance of Private Credit Student Loans in repayment | 7.11 | % | 6.62 | % | ||||
| Average balance of Private Credit Student Loans | $ | 5,146 | $ | 5,464 | ||||
| Ending balance of Private Credit Student Loans | $ | 4,331 | $ | 5,115 | ||||
| Average balance of Private Credit Student Loans in repayment | $ | 2,328 | $ | 2,785 | ||||
| Ending balance of Private Credit Student Loans in repayment | $ | 2,169 | $ | 2,631 | ||||
The increase in the provision for private credit student loansPrivate Credit Student Loan losses of $18$4 million for the ninethree months ended September 30, 2003ending March 31, 2004 versus the year-ago period is primarily due to the 44 percent increase in private credit student loan acquisitions overPrivate Credit Student Loans entering repayment prior to being securitized as compared to the corresponding year-ago period.three months ended March 31, 2003. For the three and nine months ended September 30,March 31, 2004, Private Credit Student Loan charge-offs increased by $9 million over the comparable period in 2003, the decrease in private credit student loan charge-offswhich is primarily due to the decreaseincrease in securitization activity in 2003 as we primarily securitize loans that are current, leaving a higher percentage of delinquent loans on-balance sheet and to the average balanceincrease in career training loans as a percentage of the on-balance sheet private credit student loan portfolio due to securitizations.portfolio.
We defercharge borrower fees on the majority of Private Credit Student Loans, both at origination and when the loan enters repayment. Such fees are deferred and recognize themrecognized into income as a component of interest over the average life of the related pool of loans as a component of interest income.loans. The unamortized balance of deferred origination fee revenue at September 30,March 31, 2004 and 2003 and 2002 was $102$142 million and $81$99 million, respectively.
35
Delinquencies
The table below showspresents our private credit student loanon-balance sheet Private Credit Student Loan delinquency trends as of September 30, 2003March 31, 2004 and 2002.2003. Delinquencies have the potential to adversely impact earnings if the account charges off and results in increased servicing and collection costs.
| | September 30, 2003 | September 30, 2002 | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in millions) | ||||||||||||
| Balance | % | Balance | % | |||||||||
| Loans in-school/grace/deferment1 | $ | 2,436 | $ | 2,381 | ||||||||
| Loans in forbearance2 | 287 | 319 | ||||||||||
| Loans in repayment and percentage of each status: | ||||||||||||
| Loans current | 2,235 | 90 | % | 2,725 | 91 | % | ||||||
| Loans delinquent 30-59 days3 | 107 | 4 | 108 | 4 | ||||||||
| Loans delinquent 60-89 days | 59 | 2 | 56 | 2 | ||||||||
| Loans delinquent 90 days or greater | 90 | 4 | 87 | 3 | ||||||||
| Total loans in repayment | 2,491 | 100 | % | 2,976 | 100 | % | ||||||
| Total private credit student loans | 5,214 | 5,676 | ||||||||||
| Private credit student loan allowance for losses | (185 | ) | (186 | ) | ||||||||
| Private credit student loans, net | $ | 5,029 | $ | 5,490 | ||||||||
| Percentage of private credit student loans in repayment | 48 | % | 52 | % | ||||||||
| Delinquencies as a percentage of private credit student loans in repayment | 10 | % | 9 | % | ||||||||
| | March 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||
| | Balance | % | Balance | % | ||||||||
| Loans in-school/grace/deferment (1) | $ | 1,975 | $ | 2,203 | ||||||||
| Loans in forbearance (2) | 187 | 281 | ||||||||||
| Loans in repayment and percentage of each status: | ||||||||||||
| Loans current | 1,944 | 90 | % | 2,366 | 90 | % | ||||||
| Loans delinquent 30-59 days (3) | 81 | 4 | 123 | 5 | ||||||||
| Loans delinquent 60-89 days | 49 | 2 | 65 | 2 | ||||||||
| Loans delinquent 90 days or greater | 95 | 4 | 77 | 3 | ||||||||
| Total loans in repayment | 2,169 | 100 | % | 2,631 | 100 | % | ||||||
Total Private Credit Student Loans | 4,331 | 5,115 | ||||||||||
| Private Credit Student Loan allowance for losses | (154 | ) | (174 | ) | ||||||||
| Private Credit Student Loans, net | $ | 4,177 | $ | 4,941 | ||||||||
Percentage of Private Credit Student Loans in repayment | 50 | % | 51 | % | ||||||||
Delinquencies as a percentage of Private Credit Student Loans in repayment | 10 | % | 10 | % | ||||||||
The increase in delinquencies as a percentage of private credit student loans in repayment is primarily due to the change in the mix of private credit student loans remaining on-balance sheet after securitizations.
36
On-Balance Sheet Funding Costs After Non-GAAP Reclassification (see "NET INTEREST INCOME—Derivative Reclassification Presentation")
Our borrowings are generally variable-rate indexed (after the effect of interest rate swaps) principally to LIBOR, the 91-day Treasury bill or the commercial paper rate. The following table summarizes the average balance of on-balance sheet debt (by index, after giving effect to the impact of interest rate swaps) for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | Three months ended September 30, | Nine months ended September 30, | Three months ended March 31, | |||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | 2004 | 2003 | ||||||||||||||||||||||||||
| Index | Average Balance | Average Rate | Average Balance | Average Rate | Average Balance | Average Rate | Average Balance | Average Rate | Average Balance | Average Rate | Average Balance | Average Rate | ||||||||||||||||||||
| Treasury bill, principally 91-day | $ | 10,660 | 1.37 | % | $ | 20,482 | 2.13 | % | $ | 14,614 | 1.53 | % | $ | 22,564 | 2.19 | % | $ | 11,448 | 1.47 | % | $ | 17,868 | 1.64 | % | ||||||||
| Commercial paper | 14,737 | 1.14 | 11,459 | 1.67 | 14,022 | 1.20 | 9,139 | 1.71 | 22,649 | 1.33 | 13,586 | 1.26 | ||||||||||||||||||||
| LIBOR | 11,198 | 1.36 | 2,626 | 2.20 | 7,806 | 1.46 | 2,220 | 2.23 | 15,446 | 1.41 | 3,765 | 1.60 | ||||||||||||||||||||
| Discount notes | 10,325 | 1.05 | 6,274 | 1.84 | 7,869 | 1.25 | 7,018 | 1.96 | 4,366 | 1.02 | 6,398 | 1.39 | ||||||||||||||||||||
| Fixed | 6,443 | 4.66 | 6,704 | 4.63 | 6,309 | 4.84 | 6,805 | 4.91 | 7,662 | 4.12 | 6,316 | 4.96 | ||||||||||||||||||||
| Auction rate securities | 828 | 1.26 | 1,039 | 1.87 | 828 | 1.45 | 1,080 | 1.94 | 849 | 1.40 | 828 | 1.57 | ||||||||||||||||||||
| Zero coupon | 242 | 11.14 | 217 | 11.14 | 236 | 11.14 | 211 | 11.14 | 256 | 11.17 | 229 | 11.14 | ||||||||||||||||||||
| Other | 275 | 3.22 | 718 | 1.79 | 597 | 2.39 | 636 | 1.65 | 322 | 3.14 | 859 | 2.28 | ||||||||||||||||||||
| Total | $ | 54,708 | 1.69 | % | $ | 49,519 | 2.41 | % | $ | 52,281 | 1.85 | % | $ | 49,673 | 2.50 | % | $ | 62,998 | 1.75 | % | $ | 49,849 | 1.99 | % | ||||||||
We continue to shift our financing from Treasury bill indexed debt to commercial paper and LIBOR indexed debt as FFELP student loans with interest rates indexed to the commercial paper rate and private credit student loansPrivate Credit Student Loans indexed to the Prime rate become a larger percentage of our portfolio. LIBOR-based debt, swapped to the daily reset LIBOR index, funds a portion of our daily reset commercial paper indexed assets, as we expect daily reset LIBOR indexed debt to remain highly correlated with daily reset commercial paper indexed assets.
37
OTHER INCOME
Securitization Program
The following tables summarize securitization activity for the three and nine months ended September 30, 2003 and 2002.
| | Three months ended September 30, | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||||||||||
| | Number of Transactions | Amount Securitized | Gain % | Number of Transactions | Amount Securitized | Gain % | |||||||||
| FFELP Stafford/PLUS loans | 2 | $ | 3,511 | 1.12 | % | 2 | $ | 2,829 | .63 | % | |||||
| Consolidation Loans | — | — | — | — | — | — | |||||||||
| Private credit student loans | — | — | — | — | — | — | |||||||||
| Total securitization sales | 2 | 3,511 | 1.12 | % | 2 | 2,829 | .63 | % | |||||||
| On-balance sheet securitization of Consolidation Loans | 2 | 5,513 | — | — | |||||||||||
| Total loans securitized | 4 | $ | 9,024 | 2 | $ | 2,829 | |||||||||
| | Nine months ended September 30, | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | |||||||||||||
| | Number of Transactions | Amount Securitized | Gain % | Number of Transactions | Amount Securitized | Gain % | |||||||||
| FFELP Stafford/PLUS loans | 4 | $ | 5,772 | 1.26 | % | 5 | $ | 7,859 | .96 | % | |||||
| Consolidation Loans | 2 | 4,256 | 10.19 | — | — | — | |||||||||
| Private credit student loans | 2 | 2,253 | 6.79 | — | — | — | |||||||||
| Total securitization sales | 8 | 12,281 | 5.37 | % | 5 | 7,859 | .96 | % | |||||||
| On-balance sheet securitization of Consolidation Loans | 4 | 9,825 | — | — | |||||||||||
| Total loans securitized | 12 | $ | 22,106 | 5 | $ | 7,859 | |||||||||
In four Consolidation Loan securitization structures, we hold certain rights that can affect the remarketing of the bonds as well as a call option that gives us the right to acquire certain of the notes issued in the transaction. Thus we are deemed to maintain effective control over the transferred assets. As a result, these securitizations did not meet the criteria of being a Qualifying Special Purpose Entity ("QSPE") and are accounted for on-balance sheet as Variable Interest Entities ("VIEs"). Accordingly, the student loans securitized and the associated debt remain on our balance sheet and no gains or losses were recorded on these transactions. For the three and nine months ended September 30, 2003, we completed two and four on-balance sheet securitizations totaling $5.5 billion and $9.8 billion, respectively.
The increase in the gains for the three months ended September 30, 2003 as a percentage of the portfolios securitized versus the corresponding year-ago period was primarily due to lower relative cost of funds. The increase in the gains for the nine months ended September 30, 2003, as a percentage of the portfolios securitized, versus the corresponding year-ago period was due to significantly higher Embedded Fixed Rate Floor Income in the 2003 Consolidation Loan securitizations and higher gains on private credit student loan securitizations. Gains on the private credit student loan securitizations are higher than gains on FFELP Stafford/PLUS securitizations because private credit student loans have wider spreads, longer average lives and are less expensive to service than similar sized FFELP Stafford/PLUS student loans, partially offset by higher projected default losses.
38
Embedded Floor Income
Included in the gain on student loan securitizations of Consolidation Loans is an estimate of the Embedded Fixed Rate Floor Income from the loans securitized. Depending on interest rate levels, the ongoing reevaluation of this estimate of Embedded Fixed Rate Floor Income can cause volatility in the fair value of the Retained Interest asset. Embedded Fixed Rate Floor Income is estimated over the life of the securitization trust using the current yield curve which results in a lower discount rate in the earlier periods of the trust and a higher discount rate for the more uncertain Embedded Fixed Rate Floor Income associated with later periods. Interest income recognized on the Retained Interest asset is based on the anticipated yield determined by periodically estimating future cash flows. The projection of residual cash flows, exclusive of Floor Income, used in determining the initial gain on sale is discounted at 12 percent.
The fair value of the Embedded Fixed Rate Floor Income included in the Retained Interest asset as of September 30, 2003 and December 31, 2002 was $947 million and $629 million, respectively. The fair value of the Embedded Variable Rate Floor Income included in the Retained Interest asset as of September 30, 2003 and December 31, 2002 was $25 million and $75 million, respectively.
Servicing and Securitization Revenue
Servicing and securitization revenue, the ongoing revenue from securitized loan pools, which includes the interest earned on the Residual Interest asset, the revenue we receive for servicing the loans in the securitization trusts, and Embedded Floor Income on securitized student loans not previously included in the gain on sale calculation. Interest income recognized on the Residual Interestcalculation, is based on our anticipated yield determined by periodically estimating future cash flows.
The following table summarizes the components of servicing and securitization revenue:
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||||
| Servicing revenue | $ | 81 | $ | 71 | $ | 233 | $ | 207 | ||||||
| Securitization revenue, before Embedded Floor Income | 18 | 39 | 103 | 71 | ||||||||||
| Servicing and securitization revenue, before Embedded Floor Income | 99 | 110 | 336 | 278 | ||||||||||
| Embedded Floor Income | 79 | 29 | 260 | 276 | ||||||||||
| Less: | ||||||||||||||
| Payments on Floor Contracts | (55 | ) | (18 | ) | (137 | ) | (58 | ) | ||||||
| Floor Income previously recognized in gain calculation | (48 | ) | — | (110 | ) | — | ||||||||
| Net Embedded Floor Income | (24 | ) | 11 | 13 | 218 | |||||||||
| Total servicing and securitization revenue | $ | 75 | $ | 121 | $ | 349 | $ | 496 | ||||||
| Average off-balance sheet student loans | $ | 39,803 | $ | 32,705 | $ | 37,631 | $ | 31,790 | ||||||
| Servicing and securitization revenue as a % of average balance of securitized loans | .75 | % | 1.47 | % | 1.24 | % | 2.09 | % | ||||||
Fluctuationsdiscussed in servicing and securitization revenue are generally driven by the differencedetail in the timing of when Floor Income is earned and recognized on off-balance sheet student loans and by the notional value of Floor Income Contracts. The decrease in Floor Income recognized in servicing and securitization revenue in the three and nine months ended September 30, 2003 versus the year-ago periods is due to the increase in payments on Floor Income contracts where the offsetting Floor Income earned on securitized student loans was previously recognized in the gains calculation and to"LIQUIDITY AND CAPITAL RESOURCES—Securitization Activities."
39
the recognition of the amount of Floor Income in the initial gain calculation. The decrease in servicing and securitization revenue for the third quarter before the impact of Embedded Floor Income is primarily due to payments on basis swaps hedging cash flows on securitized loans. The income or expense that is accrued on the hedged item that offsets these basis swap payments, is accrued over time as a yield adjustment to the interest earned on the Residual Interest asset.
Losses on Sales of Securities, Net
We recognized losses on sales of securities of $6 million and $63 million for the three months ended September 30, 2003 and 2002, respectively, and $114 million and $189 million for the nine months ended September 30, 2003 and 2002, respectively. These losses included losses on terminated or expired Eurodollar future contracts of $3 million and $46 million for the three months ended September 30, 2003 and 2002, respectively, and $7 million and $134 million for the nine months ended September 30, 2003 and 2002, respectively. These futures contracts were primarily used to economically hedge Floor Income, but did not meet the hedge effectiveness tests under Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities." Unrealized gains and losses on these contracts that were previously recorded through the derivative market value adjustment were reversed. In addition, we terminated written Floor Income Contracts and recognized losses of $88 million for the nine months ended September 30, 2003. Losses on terminated Floor Income Contracts totaling $69 million were related to GSE obligations that were terminated and reinstated in a non-GSE subsidiary of SLM Corporation in connection with the Wind-Down of the GSE. There were no such losses in 2002.
Also in the three and nine months ended September 30, 2003 and 2002, we invested a portion of the cash earned from Floor Income and refinanced certain debt and derivative obligations with longer term obligations that had lower interest rates. In connection with these refinancings, we recognized losses on sales of securities of $1 million for the three months ended September 30, 2003, and $14 million and $47 million for the nine months ended September 30, 2003 and 2002, respectively.
Guarantor Servicing Fees, Debt Management Fees and Other Income
The following table summarizes the components of guarantor servicing fees, debt management fees and other income for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | | Three months ended September 30, | Nine months ended September 30, | | Three months ended March 31, | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | 2003 | 2002 | 2003 | 2002 | | 2004 | 2003 | ||||||||||||
| Guarantor servicing and debt management fees: | Guarantor servicing and debt management fees: | Guarantor servicing and debt management fees: | ||||||||||||||||||
| Guarantor servicing fees | $ | 40 | $ | 28 | $ | 101 | $ | 78 | Guarantor servicing fees | $ | 35 | $ | 35 | |||||||
| Debt management fees | 78 | 48 | 190 | 137 | Debt management fees | 80 | 59 | |||||||||||||
| Total guarantor servicing and debt management fees | $ | 118 | $ | 76 | $ | 291 | $ | 215 | Total guarantor servicing and debt management fees | $ | 115 | $ | 94 | |||||||
| Other income: | Other income: | Other income: | ||||||||||||||||||
| Late fees | $ | 18 | $ | 14 | $ | 50 | $ | 43 | Late fees | $ | 21 | $ | 16 | |||||||
| Third party servicing fees | 15 | 16 | 43 | 45 | Third party servicing fees | 13 | 15 | |||||||||||||
| Mortgage and consumer loan fees | 13 | 4 | 34 | 8 | Mortgage and consumer loan fees | 5 | 6 | |||||||||||||
| Other | 8 | 29 | 42 | 73 | Other | 20 | 12 | |||||||||||||
| Total other income | $ | 54 | $ | 63 | $ | 169 | $ | 169 | Total other income | $ | 59 | $ | 49 | |||||||
The $12 million and $23$21 million increase in guarantor servicing and debt management fees infor the three and nine months ended September 30, 2003, respectively,March 31, 2004 versus the year-ago periodsperiod is mainly due to the growth in the business, and a modification to the manner in which revenue for origination processing fees was
40
recognized, which deferred $15 million in origination processing fees from the third quarteracross all segments of 2002 to the fourth quarter of 2002. The $30 million and $53 million increase inour debt management businesses. Specifically, portfolio management fees inincreased $8 million, or 35 percent over the three and nine months ended September 30, 2003, respectively, versus theprior year-ago periods is primarilyperiod due to the growth in the business and improved performance in rehabilitating student loans.
The $9 million and $26 million increase in mortgage and consumer loan fees in the three and nine months ended September 30, 2003, respectively, versus the year-ago periods is mainly attributed to an increase in gains on sales of mortgage loans due to the acquisition of Pioneer Mortgage in the second quarter of 2003.
In the third quarter of 2003, we changed our method of accounting for fees earned by performing information technology enhancements under an agreement withhigher volume from United Student Aid Funds, Inc. ("USA Funds"). Under, and to the new accounting method, we will earn revenue ratably over the life of the contract. We previously recognized revenue as services were performed. This change resulted in an $18 million deferral of revenue previously recognized under this contract which is reflected in "Other"increase in the above table.percentage of collections via rehabilitation versus other less economic collection options. There was also strong growth from our collection subsidiaries General Revenue Corporation ("GRC") and Pioneer Credit Recovery ("PCR"), related to collections on behalf of USA Funds ($6 million) and collections on campus-based student loans ($5 million).
OPERATING EXPENSES
The following table summarizes the components of operating expenses:expenses for the three months ended March 31, 2004 and 2003.
| | Three months ended September 30, | Nine months ended September 30, | Three months ended March 31, | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | 2004 | 2003 | ||||||||||||
| Servicing and acquisition expenses | $ | 121 | $ | 121 | $ | 361 | $ | 354 | $ | 126 | $ | 117 | ||||||
| General and administrative expenses | 63 | 53 | 192 | 155 | 76 | 55 | ||||||||||||
| Definite life intangible asset amortization | 7 | 7 | ||||||||||||||||
| Total operating expenses | $ | 184 | $ | 174 | $ | 553 | $ | 509 | $ | 209 | $ | 179 | ||||||
The $10 million and $44$30 million increase in operating expenses for the three and nine months ended September 30, 2003, respectively,March 31, 2004 versus the year-ago periods canperiod is mainly be attributedattributable to an increase in mortgagethe operating expenses due to the acquisition of Pioneer Mortgage acquired in the second quarter of 2003 and Academic Management Services Corp. ("AMS") acquired in the fourth quarter of 2003. Exclusive of these acquisitions, operating expenses increased in debt management and student loan servicing expensesand origination consistent with therevenue growth and borrowers serviced. In addition, in the business.first quarter of 2003, we recognized $9 million for servicing adjustments related to an underbilling error. Student loan servicing expenses as a percentage of the average managedbalance of student loan principalloans serviced was .16.15 percent and .20.16 percent for the ninethree months ended September 30,March 31, 2004 and 2003, and 2002, respectively. For the nine months ended September 30, 2003, we also recognized $9 million in
STUDENT LOAN ACQUISITIONS
In the first quarter of 2003 for servicing adjustments related to an underbilling error (see "Other Related Events and Information").
41
2004, 75 percent of our Managed student loan acquisitions were originated through our Preferred Channel. The following tables summarize the components of our student loan acquisition activity for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | Three months ended September 30, 2003 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | FFELP | Private | Total | |||||||
| Preferred Channel | $ | 2,647 | $ | 797 | $ | 3,444 | ||||
| Other commitment clients | 93 | 33 | 126 | |||||||
| Spot purchases | 176 | 2 | 178 | |||||||
| Consolidations from third parties | 811 | 40 | 851 | |||||||
| Consolidations from securitized trusts | 2,540 | — | 2,540 | |||||||
| Capitalized interest and other | 257 | (10 | ) | 247 | ||||||
| Total on-balance sheet student loan acquisitions | 6,524 | 862 | 7,386 | |||||||
| Consolidations to SLM Corporation from securitized trusts | (2,540 | ) | — | (2,540 | ) | |||||
| Capitalized interest and other — securitized trusts | 278 | 18 | 296 | |||||||
| Total Managed student loan acquisitions | $ | 4,262 | $ | 880 | $ | 5,142 | ||||
| | Three months ended September 30, 2002 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | FFELP | Private | Total | |||||||
| Preferred Channel | $ | 2,065 | $ | 547 | $ | 2,612 | ||||
| Other commitment clients | 148 | 35 | 183 | |||||||
| Spot purchases | 257 | 1 | 258 | |||||||
| Consolidations from third parties | 581 | — | 581 | |||||||
| Consolidations from securitized trusts | 1,231 | — | 1,231 | |||||||
| Capitalized interest and other | 268 | (60 | ) | 208 | ||||||
| Total on-balance sheet student loan acquisitions | 4,550 | 523 | 5,073 | |||||||
| Consolidations to SLM Corporation from securitized trusts | (1,231 | ) | — | (1,231 | ) | |||||
| Capitalized interest and other — securitized trusts | 191 | — | 191 | |||||||
| Total Managed student loan acquisitions | $ | 3,510 | $ | 523 | $ | 4,033 | ||||
| | Nine months ended September 30, 2003 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | FFELP | Private | Total | |||||||
| Preferred Channel | $ | 8,996 | $ | 2,325 | $ | 11,321 | ||||
| Other commitment clients | 266 | 33 | 299 | |||||||
| Spot purchases | 613 | 2 | 615 | |||||||
| Consolidations from third parties | 1,609 | 40 | 1,649 | |||||||
| Consolidations from securitized trusts | 4,490 | — | 4,490 | |||||||
| Capitalized interest and other | 771 | 29 | 800 | |||||||
| Total on-balance sheet student loan acquisitions | 16,745 | 2,429 | 19,174 | |||||||
| Consolidations to SLM Corporation from securitized trusts | (4,490 | ) | — | (4,490 | ) | |||||
| Capitalized interest and other — securitized trusts | 582 | 31 | 613 | |||||||
| Total Managed student loan acquisitions | $ | 12,837 | $ | 2,460 | $ | 15,297 | ||||
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| | Three months ended March 31, 2004 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | FFELP | Private | Total | |||||||
| Preferred Channel | $ | 3,821 | $ | 1,065 | $ | 4,886 | ||||
| Other commitment clients | 72 | — | 72 | |||||||
| Spot purchases | 584 | 1 | 585 | |||||||
| Consolidations from third parties | 509 | — | 509 | |||||||
| Acquisitions from off-balance sheet securitized trusts, primarily consolidations | 1,274 | — | 1,274 | |||||||
| Capitalized interest and deferred origination fees | 282 | (22 | ) | 260 | ||||||
| Total on-balance sheet student loan acquisitions | 6,542 | 1,044 | 7,586 | |||||||
| Consolidations to SLM Corporation from off-balance sheet securitized trusts | (1,274 | ) | — | (1,274 | ) | |||||
| Capitalized interest and other—off-balance sheet securitized trusts | 154 | 28 | 182 | |||||||
| Total Managed student loan acquisitions | $ | 5,422 | $ | 1,072 | $ | 6,494 | ||||
| | Three months ended March 31, 2003 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | FFELP | Private | Total | |||||||
| Preferred Channel | $ | 3,315 | $ | 842 | $ | 4,157 | ||||
| Other commitment clients | 56 | — | 56 | |||||||
| Spot purchases | 53 | — | 53 | |||||||
| Consolidations from third parties | 631 | — | 631 | |||||||
| Acquisitions from off-balance sheet securitized trusts, primarily consolidations | 1,333 | — | 1,333 | |||||||
| Capitalized interest and deferred origination fees | 264 | 18 | 282 | |||||||
| Total on-balance sheet student loan acquisitions | 5,652 | 860 | 6,512 | |||||||
| Consolidations to SLM Corporation from off-balance sheet securitized trusts | (1,333 | ) | — | (1,333 | ) | |||||
| Capitalized interest and other—off-balance sheet securitized trusts | 159 | 10 | 169 | |||||||
| Total Managed student loan acquisitions | $ | 4,478 | $ | 870 | $ | 5,348 | ||||
| | Nine months ended September 30, 2002 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| | FFELP | Private | Total | |||||||
| Preferred Channel | $ | 7,625 | $ | 1,658 | $ | 9,283 | ||||
| Other commitment clients | 353 | 35 | 388 | |||||||
| Spot purchases | 752 | 7 | 759 | |||||||
| Consolidations from third parties | 1,308 | — | 1,308 | |||||||
| Consolidations from securitized trusts | 2,602 | — | 2,602 | |||||||
| Capitalized interest and other | 761 | (17 | ) | 744 | ||||||
| Total on-balance sheet student loan acquisitions | 13,401 | 1,683 | 15,084 | |||||||
| Consolidations to SLM Corporation from securitized trusts | (2,602 | ) | — | (2,602 | ) | |||||
| Capitalized interest and other — securitized trusts | 532 | — | 532 | |||||||
| Total Managed student loan acquisitions | $ | 11,331 | $ | 1,683 | $ | 13,014 | ||||
Preferred Channel Originations
WeIn the first quarter of 2004, we originated and purchased $5.1$5.8 billion and $15.3in student loan volume through our Preferred Channel, a 19 percent increase over the $4.9 billion of student loansoriginated in the three and nine months ended September 30, 2003, respectively, versus $4.0 billion and $13.0 billion inyear-ago period. In the three and nine months ended September 30, 2002. In both June 2003 and 2002,first quarter of 2004, we delayedgrew the processing of disbursement for Consolidation Loans to allow borrowers to take advantage of lower interest rates that took effect on July 1. This shifted Consolidation Loan activity from the second to the third quarter.
OurSallie Mae brand Preferred Channel Originations totaled $5.1 billion and $11.9 billionby 33 percent. As of March 31, 2004, our own brands constitute 32 percent of our Preferred Channel Originations, up from 28 percent in the three and nine months ended September 30, 2003, respectively, versus $4.1 billion and $9.7 billion in the three and nine months ended September 30, 2002. At September 30, 2003, theyear-ago period. The pipeline of loans that we currently serviced onservice and are committed to purchase was $7.3 billion and $6.2 billion at March 31, 2004 and 2003, respectively. The following tables further break down our Preferred Channel platformsOriginations by type of loan and committed for purchase by us was $5.9 billion versus $5.2 billion at September 30, 2002.source.
| | Three months ended March 31, | |||||
|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||
| Preferred Channel Originations—Type of Loan | ||||||
| Stafford | $ | 3,732 | $ | 3,280 | ||
| PLUS | 825 | 663 | ||||
| Total FFELP | 4,557 | 3,943 | ||||
| Private | 1,287 | 953 | ||||
| Total | $ | 5,844 | $ | 4,896 | ||
Preferred Channel Originations—Source | ||||||
| Sallie Mae brands | $ | 1,847 | $ | 1,387 | ||
| Lender partners | 3,997 | 3,509 | ||||
| Total | $ | 5,844 | $ | 4,896 | ||
The following table summarizes the activity in our Managed portfolio of student loans for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | Three months ended September 30, | Nine months ended September 30, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | |||||||||
| Beginning balance | $ | 83,114 | $ | 75,557 | $ | 78,124 | $ | 71,726 | |||||
| Acquisitions | 4,599 | 3,634 | 13,884 | 11,738 | |||||||||
| Capitalized interest and other | 543 | 399 | 1,413 | 1,276 | |||||||||
| Repayments and claims | (1,789 | ) | (1,830 | ) | (5,870 | ) | (5,875 | ) | |||||
| Activity in the allowance for student loan losses | (1 | ) | (3 | ) | (25 | ) | 8 | ||||||
| Loans consolidated from SLM Corporation | (655 | ) | (643 | ) | (1,715 | ) | (1,759 | ) | |||||
| Ending balance | $ | 85,811 | $ | 77,114 | $ | 85,811 | $ | 77,114 | |||||
LEVERAGED LEASES
At September 30, 2003, we had investments in leveraged and direct financing leases, net of impairments, totaling $198 million that are general obligations of three commercial airlines and Federal Express Corporation. In the third quarter of 2003, aircraft passenger volume continued to improve, however, it is still below levels experienced prior to September 11, 2001 and a significant number of aircraft remain grounded. We did not recognize any impairment for leveraged leases in the third quarter, but we will continue to monitor these investments given the continued uncertainty surrounding the airline industry. Based on an analysis of the expected losses on certain leveraged leases plus the incremental increase in tax obligations related to forgiveness of debt obligations and/or the taxable gain on the sale of the aircraft, our remaining exposure to the airline industry is $125 million.
43
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| Beginning balance | $ | 88,789 | $ | 78,124 | |||
| Acquisitions, including capitalized interest | 6,494 | 5,348 | |||||
| Repayments, claims, other | (2,387 | ) | (2,082 | ) | |||
| Charge-offs to reserves and securitization trusts | (30 | ) | (25 | ) | |||
| Loans sales | (191 | ) | — | ||||
| Loans consolidated from SLM Corporation | (526 | ) | (646 | ) | |||
| Ending balance | $ | 92,149 | $ | 80,719 | |||
FEDERAL AND STATE TAXES
The Company is subject to federal and state income taxes, while the GSE is exempt from all state, local and District of Columbia income franchise, sales and use, personal property and other taxes, except for real property taxes. Our effective tax rate for the ninethree months ended September 30,March 31, 2004 and 2003 and 2002 was 3623 percent and 35 percent, respectively. The effective tax rate for the period ended March 31, 2004 reflects the permanent benefit of the exclusion of the gains on equity forward contracts under SFAS No. 150, adopted in the third quarter of 2003. As SFAS No. 150 was implemented in the third quarter of 2003, the effective tax rate for the three months ended March 31, 2003 does not include any impact from equity forward contracts.
EFFECTS OF SFAS NO. 133—DERIVATIVE ACCOUNTING
SFAS No. 133 requires thatthe Company to recognize changes in the fair value of derivative instruments be recognized currently in earnings unless specific hedge accounting criteria, as specified by SFAS No. 133, are met. We believe that our derivatives are effective economic hedges and they are a critical element of our interest rate risk management strategy. However, under SFAS No. 133, some of our derivatives, primarily Floor Income Contracts, certain Eurodollar futures contracts, certain basis swaps and equity forward contracts (see "Liquidity and Capital Resources—Common Stock") are(discussed in detail below), do not considered accounting hedges. In these instances,qualify for "hedge treatment" under SFAS No. 133. Consequently, the derivatives are classified as "trading" derivatives for GAAP purposes andstandalone derivative must be marked-to-market each quarter. The period to period change in the fair value of these derivatives is recorded through the derivative market value adjustment in the income statement with no consideration for the corresponding change in fair value of the hedged item. The derivative market value adjustment is primarily caused by interest rate volatility and changing credit spreads during the period and the volume and term of derivatives not receiving hedge accounting treatment.
Our Floor Income Contracts are written options. SFAS No. 133's hedge criteria regarding effectiveness when using written options is more stringent than other hedging relationships. Because the paydown of principal of the student loans underlying the Embedded Floor Income embedded in ourthose student loans does not exactly match the change in the notional amount of our written Floor Income Contracts, the written Floor Income Contracts do not qualify as effective hedges under SFAS No. 133. We believe that theThe Floor Income Contracts effectively fix the amount of Floor Income we will earn over the contract period, thus eliminating the timing and uncertainty associated with Floor Income for that period. Prior to SFAS No. 133, we accounted for Floor Income Contracts as hedges and amortized the upfront cash compensation ratably over the lives of the contracts. Under SFAS No. 133, the upfront payment is deemed a liability and changes in fair value are recorded through income throughout the life of the contract. The change in the value of Floor Income Contracts is caused by changing interest rates that cause the amount of Floor Income earned on the underlying student loans to earn more or less Floor Income, which isand transferred to the counterparties.counterparties to vary. The change in the market value of the Floor Income Contracts is economically offset by the change in value of the student loan portfolio earning Floor Income, but that offsetting change in student loan value is not recognized under SFAS No. 133. We use Eurodollar futures contracts to hedge the value of the student loan portfolio earning Floor Income until we are able to sell the Floor Income Contracts. Due to the basis mismatch and similar issues discussed above related to the Floor Income Contracts, the Eurodollar futures contracts do not qualify as effective hedges under SFAS No. 133. We believe such contracts are effective economic hedges.
Basis swaps are used to convert the floating rate debt from one interest rate index to another to match the interest rate characteristics of the assets.assets financed by that debt. We primarily use basis swaps to change the index of our fixed rate and LIBOR-based debt to better match the cash flows of our student loan assets that are primarily indexed to commercial paper or the Treasury bill. SFAS No. 133 requires that the change in the cash flows of the hedge effectively offset both the change in the cash flows of the asset and the change in the cash flows of the liability. Our basis swaps hedge variable interest rate risk and do not meet this effectiveness test because student loans can earn at either a variable or a fixed interest rate depending on market interest rates. We also have basis swaps that do not meet the SFAS No. 133 effectiveness test that economically hedge off-balance sheet instruments. As a result, these swaps are recorded at fair value with subsequent changes in value reflected in the income statement.
44
The table below quantifies Generally, a decrease in current interest rates and the net impact of SFAS No. 133 derivative accounting on our income statement for the three and nine months ended September 30, 2003 and 2002 when compared with the accounting principles employedrespective forward interest rate curves results in all years prior to the SFAS No. 133 implementation. In addition, the net income impact of the cumulative effect of accounting changean unrealized loss related to our written Floor Income Contracts and Eurodollar futures contracts. Related to our basis swaps, if the adoption oftwo underlying indexes (and related forward curve) do not move in parallel we will experience unrealized gains/losses.
Under SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity," is quantified.
Prior to the adoption of SFAS No. 133, we did not mark our derivatives and hedged items to market. Gains or losses on closed derivative positions that qualified as hedges were amortized over the life of the hedged item whereas under SFAS No. 133, certain of these positions do not qualify as hedges and the related gains and losses are recorded immediately. We also recognized upfront cash paid or received from derivatives, primarily from Floor Contracts, ratably as an expense or revenue over the life of the hedged item. Under SFAS No. 133 these upfront payments or receipts are recorded as assets or liabilities and marked-to-market over the life of the contract.
With the adoption of SFAS No. 150, equity forward contracts entered into after May 31, 2003 werethat allow a net settlement option either in cash or the Company's stock are required to be accounted for as derivatives under SFAS No. 133 effective June 1, 2003. Inin accordance with SFAS No. 150,133 as derivatives. As a result, we now account for our equity forward contracts entered into prioras stand-alone derivatives in accordance with SFAS No. 133 and mark them to June 1, 2003 and outstanding at July 1, 2003 were recorded at fair value on July 1, resulting in a gain of $130 million which was reflected as a "cumulative effect of accounting change" in the consolidated statements of income (see "Liquidity and Capital Resources—Common Stock").
| | Three months ended September 30, | Nine months ended September 30, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | |||||||||
| Impact of Derivative Accounting under SFAS No. 133 per Income Statement | |||||||||||||
| Derivative market value adjustment in other income | $ | 250 | $ | (366 | ) | $ | 335 | $ | (255 | ) | |||
| Cumulative effect of accounting change related to SFAS No. 150 | 130 | — | 130 | — | |||||||||
| Amortization of unrealized losses due to SFAS No. 133 transition, recorded through net interest income | — | (2 | ) | (2 | ) | (9 | ) | ||||||
| Derivative losses realized in losses on sale of securities | (1 | ) | (10 | ) | (31 | ) | (31 | ) | |||||
| Total impact of derivative accounting under SFAS No. 133, per income statement | 379 | (378 | ) | 432 | (295 | ) | |||||||
| Adjustments Related to pre-SFAS No. 133 Accounting | |||||||||||||
| Amortization of premiums on Floor Income Contracts and interest rate caps in net interest income | (42 | ) | (24 | ) | (122 | ) | (89 | ) | |||||
| Amortization of realized derivative losses in net interest income | 5 | 2 | 15 | 13 | |||||||||
| Total adjustments related to pre-SFAS No. 133 accounting | (37 | ) | (22 | ) | (107 | ) | (76 | ) | |||||
| Total net impact of SFAS No. 133 to income statement | $ | 342 | $ | (400 | ) | $ | 325 | $ | (371 | ) | |||
The derivative market value adjustment is principally caused by interest rate volatility and changing spreads between indices during the period and the notional volume and term of derivatives not receiving hedge accounting treatment. The gains from the derivative market value adjustment in the three and nine months ended September 30, 2003 were primarily due to increasing interest rates since the preceding period resulting in a gain on our Floor Income and futures contracts, partially offset by mark-to-market losses on equity forward contracts. The losses from the derivative market value adjustment in the three and nine months ended September 30, 2002 were primarily due to decreasing interest rates since the preceding period resulting in mark-to-market losses on our Floor Income and futures contracts. The gain for the nine months ended September 30, 2003 includes the effect of the termination of certain Floor Income Contracts whereby $19 million of unrealized losses that were previously recognized in the derivative market value adjustment were reclassified to losses on sales of securities.through earnings.
45
ALTERNATIVE PERFORMANCE MEASURES
In addition to evaluating ourthe Company's GAAP-based data,financial information, management, credit rating agencies, lenders and analysts also evaluate usthe Company on certain non-GAAP-basednon-GAAP performance measures whichthat we refer to as "core cash" measures. While "core cash" measures are not a substitute for reported results under GAAP, we rely on "core cash" measures in operating our business because we believe they provide additional information on the operational and performance measures. Under these non-GAAP-basedindicators that are most closely assessed by management.
We report pro forma "core cash" measures, which are the primary financial performance measures used by management analyzes the student loan portfolio on a Managed Basisnot only in developing financial plans and treats securitization transactions as financings versus sales. As such, the securitization gain on saletracking results, but also in establishing corporate performance targets and subsequent servicing and securitization revenue is eliminated from income, and net interest income from securitized loans is recognized. When producing these non-GAAP-based performance measures we also eliminate the benefit of Floor Income and use pre-SFAS No. 133 accounting for our derivative transactions, treating all derivatives as effective hedges and eliminating the periodic derivative market value adjustments. We also exclude certain transactions that management does not consider part of our core business, such as gains or losses on certain sales of securities and derivative contracts and the amortization of acquired intangible assets. We recognize the amortization of the upfront payments received from Floor Income Contracts. We also periodically use Floor Income to repurchase common stock and to facilitate the refinancing of debt and derivatives on more favorable terms. Alternative performance measures reflect only current period adjustments to GAAP earnings. Accordingly, our alternative performance measures do not represent another comprehensive basis of accounting.
For the three and nine months ended September 30, 2003 and 2002, the effect of these performance measures on pre-tax GAAP earnings are as follows:
| | Three months ended September 30, | Nine months ended September 30, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | |||||||||
| Non-GAAP Performance Measures: | |||||||||||||
| Treatment of securitizations as financings versus sales | $ | (59 | ) | $ | 10 | $ | 456 | $ | 30 | ||||
| Floor Income on Managed loans | 61 | 51 | 238 | 424 | |||||||||
| Net impact of derivative accounting | 342 | (400 | ) | 325 | (371 | ) | |||||||
| Losses on sales of securities | (4 | ) | (49 | ) | (81 | ) | (154 | ) | |||||
| Amortization of acquired intangibles | (7 | ) | (6 | ) | (21 | ) | (17 | ) | |||||
| Total non-GAAP performance measures | $ | 333 | $ | (394 | ) | $ | 917 | $ | (88 | ) | |||
determining incentive compensation. Management believes this information provides additional insight into the financial performance of the Company's core business activities. Our "core cash" measures are not defined terms within GAAP and may not be comparable to similarly titled measures reported by other companies. "Core cash" measures reflect only current period adjustments to GAAP as described below. Accordingly, the Company's "core cash" measures presentation does not represent another comprehensive basis of accounting. A more detailed discussion of the differences between GAAP and "core cash" measures follows.
46The following table summarizes "core cash" securitization adjustments for the three months ended March 31, 2004 and March 31, 2003.
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| "Core cash" securitization adjustments: | |||||||
| Net interest income on securitized loans, after provision for losses | $ | 262 | $ | 230 | |||
| Gains on student loan securitizations | (114 | ) | (306 | ) | |||
| Servicing and securitization revenue | (137 | ) | (189 | ) | |||
| Total "core cash" securitization adjustments | $ | 11 | $ | (265 | ) | ||
The table below quantifies the effect of a derivative market value transactions adjustment under SFAS No. 133 and non-Floor Income related realized derivatives transactions on our net income
for the three months ended March 31, 2004 and 2003, respectively, in accordance with the accounting principles employed in all years prior to the SFAS No. 133 implementation.
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| SFAS No. 133 income statement items: | |||||||
| Derivative market value adjustment included in other income | $ | 117 | $ | 119 | |||
| Less: Realized derivative transactions reclassified (see "Derivative Reclassifications—Non-GAAP under NET INTEREST INCOME") | (216 | ) | (234 | ) | |||
| Total net impact of SFAS No. 133 derivative accounting | $ | (99 | ) | $ | (115 | ) | |
We employ derivatives, primarily Floor Income Contracts and futures, to economically hedge Floor Income. As discussed under "EFFECTS OF SFAS NO. 133—DERIVATIVE ACCOUNTING," these derivatives do not qualify as effective accounting hedges and therefore are marked-to-market through the derivative market value adjustment. For "core cash" measures, we reverse the fair value adjustments on the Floor Income Contracts and include the amortization of net premiums received (net of Eurodollar futures contracts' realized gains or losses) in income. Since we exclude Floor Income that is not economically hedged, we also exclude net settlements on derivative contracts, primary payments on Floor Income Contracts, and certain gains and losses on derivatives and financial instruments that were economically hedging Floor Income. The following table summarizes the Floor Income adjustments for the three months ended March 31, 2004 and 2003.
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| "Core cash" Floor Income adjustments: | |||||||
| Floor Income earned on Managed loans | $ | (34 | ) | $ | (73 | ) | |
| Amortization of net premiums on Floor Income Contracts and futures in net interest income | 45 | 38 | |||||
| Net losses related to closed Eurodollar futures contracts economically hedging Floor Income | 50 | 1 | |||||
| Losses on sales of derivatives hedging Floor Income | — | 71 | |||||
| Total "core cash" Floor Income adjustments | $ | 61 | $ | 37 | |||
For the three months ended March 31, 2004 and 2003, the pre-tax effect of these non-GAAP performance measures was as follows:
| | Three months ended March 31, | ||||||
|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||
| Non-GAAP performance measures: | |||||||
| Net impact of securitization accounting | $ | 11 | $ | (265 | ) | ||
| Net impact of derivative accounting | (99 | ) | (115 | ) | |||
| Net impact of Floor Income | 61 | 37 | |||||
| Amortization of acquired intangibles and other | 7 | 15 | |||||
| Total non-GAAP performance measures | $ | (20 | ) | $ | (328 | ) | |
Student Loan Spread Analysis—Managed Basis
The following table analyzes the reported earnings from our portfolio of Managed student loans, which includes loans both on-balance sheet and off-balance sheet loans in securitization trusts, and excludes Floor Income.Income and includes derivatives economically hedging these line items (see "NET INTEREST INCOME—Derivative Reclassification—Non-GAAP").
| | Three months ended September 30, | Nine months ended September 30, | Three months ended March 31, | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | 2004 | 2003 | ||||||||||||||
| Managed Basis student loan yield | 4.13 | % | 4.87 | % | 4.29 | % | 5.05 | % | 4.15 | % | 4.44 | % | ||||||||
| Consolidation Loan Rebate Fees | (.36 | ) | (.27 | ) | (.35 | ) | (.25 | ) | (.40 | ) | (.34 | ) | ||||||||
| Offset Fees | (.04 | ) | (.05 | ) | (.04 | ) | (.06 | ) | (.03 | ) | (.04 | ) | ||||||||
| Borrower benefits | (.09 | ) | (.11 | ) | (.11 | ) | (.11 | ) | (.08 | ) | (.11 | ) | ||||||||
| Premium and origination fee amortization | (.12 | ) | (.23 | ) | (.13 | ) | (.26 | ) | (.09 | ) | (.16 | ) | ||||||||
| Managed Basis student loan net yield | 3.52 | 4.21 | 3.66 | 4.37 | 3.55 | 3.79 | ||||||||||||||
| Managed Basis student loan cost of funds | (1.60 | ) | (2.33 | ) | (1.73 | ) | (2.49 | ) | (1.64 | ) | (1.86 | ) | ||||||||
| Managed Basis student loan spread | 1.92 | % | 1.88 | % | 1.93 | % | 1.88 | 1.91 | % | 1.93 | % | |||||||||
| Average Balances | ||||||||||||||||||||
| Managed FFELP student loans | $ | 77,047 | $ | 71,108 | $ | 75,047 | $ | 69,614 | ||||||||||||
| Managed private credit student loans | 7,595 | 5,459 | 6,977 | 5,011 | ||||||||||||||||
| On-balance sheet student loans | $ | 52,892 | $ | 44,159 | ||||||||||||||||
| Off-balance sheet student loans | 37,786 | 35,228 | ||||||||||||||||||
| Total managed student loans | $ | 84,642 | $ | 76,567 | $ | 82,024 | $ | 74,625 | ||||||||||||
| Managed student loans | $ | 90,678 | $ | 79,387 | ||||||||||||||||
Discussion of Managed Student Loan Spread
The first quarter of 2004 student loan spread was affected both positively and negatively by a number of factors as compared to the first quarter of 2003. Positive changes to the spread included lower premium amortization and borrower benefit expenses associated with increased Consolidation Loan activity, an increase in the average balance of Managed Private Credit Student Loans as a percentage of the average Managed student loan portfolio to 10 percent of the average Managed Student Loan Portfolio, and higher amortization of upfront premiums received on Floor Income Contracts. Negative changes to the spread included higher spreads on our debt funding student loans and an increase in the average balance of lower spread Consolidation Loans as a percentage of the Managed portfolio. The net effect of these changes was a 2 basis point reduction in the Managed student loan spread. The details of these fluctuations are discussed further below.
When we consolidate a Managed FFELP Stafford loan, the term of the loan is extended and the amortization of the premium is likewise extended to match the new term of the loan. Conversely, if a Managed FFELP Stafford student loan consolidates with another lender, it is treated as a prepayment, and unamortized premium balance must be written off. We calculate a Constant Prepayment Rate ("CPR") to estimate the effect of term extensions and prepayments on the average life of the student loan portfolio; the CPR is used to calculate premium amortization. Under SFAS No. 91, when actual Consolidation Loan activity differs from predicted results, we must adjust the premium balance from inception to reflect the new term of the loan portfolio. In the first quarter of 2004, the pace of Consolidation Loan activity was higher than predicted resulting in lower than expected premium amortization. Additionally, the overall longer amortization terms from Consolidation Loans decreased premium amortization in the first quarter of 2004 versus the first quarter of 2003 as the average balance of Consolidation Loans grew as a percentage of the average Managed FFELP student loan portfolio from 36 percent in the first quarter of 2003 to 44 percent in the first quarter of 2004. Additionally, based on further analysis of student loans in our trust portfolios and Private Credit Student Loans, we increased the term for amortizing premiums and discounts related to those loans. The net effect of these items lowered premium amortization expense by $16 million.
The increase in Consolidation Loan activity also reduced our estimate of the "core cash"number of borrowers who qualify for borrower benefits. As loans consolidate the benefit remaining on the original FFELP Stafford loan is written off and replaced by a lower benefit on the Consolidation Loan that is recognized over a longer term.
In the first quarter of 2004, Private Credit Student Loans increased. Private Credit Student Loans are subject to credit risk and therefore earn higher spreads which averaged 4.50 percent in the first quarter of 2004 before the effect of a change in estimate adjustment that extended the term of the loans and lowered discount amortization as discussed below for the Managed Private Credit Student Loan portfolio, versus a spread of 1.54 percent for the Managed guaranteed student loan portfolio before Floor Income and estimate adjustments.
The decrease in the student loan spread infrom the third quarterhigher cost of 2003 versus the third quarter of 2002funds is mainly due to an increase inincreased spreads to the amortizationindex on our debt caused by the replacement of the upfront cash received from Fixed Rate Floor Income Contracts and a lower cost of fundsGSE funding with non-GSE funding in connection with the third quarter of 2003. These increases were partially offset by the growthGSE Wind-Down. GSE debt generally has lower credit spreads than non-GSE funding sources and our non-GSE liabilities are significantly longer in duration than our GSE liabilities. Also, we use higher cost, longer-term debt to fund Consolidation Loans.
Absent the effects of Consolidation Loan activity on our premium amortization and borrower benefits, Consolidation Loans have lower spreads than other FFELP loans due to the 105 basis point Consolidation Loan Rebate Fees, whichFee. The negative effect of this fee is somewhatpartially offset by the absence of the 30 basis point offset fee on GSE student loans, higher SAP yield and lower student loan premium amortization expense causeddiscussed above. As long as interest rates remain at historically low levels and absent a program change in the next HEA reauthorization, we expect Consolidation Loans to be actively marketed by the longer average life of Consolidation Loans and lower borrower benefits. The third quarter "core cash" student loan spread was also lowered by higher premium write-offs from the increaseindustry and remain an attractive refinancing option for borrowers, resulting in student loans consolidated into FDLP and other competitors as they temporarily suspended disbursements for new consolidations in the second quarteran increasing percentage of 2003, which shifted consolidation volume to the third quarter.
The year-to-date Managed Basis student loan spread also benefited from the increase in Managed private credit student loans of 41 percent over the year-ago period. These loans are subject to much higher credit risk thanour federally guaranteed student loans and therefore earn higher spreads, which in the three and nine months ended September 30, 2003 was 4.97 percent and 4.95 percent, respectively.loan portfolio.
47
An analysis of our Managed allowance for loan losses for private credit student loansPrivate Credit Student Loans for the three and nine months ended September 30,March 31, 2004 and 2003 and 2002 is presented in the following table.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||||
| Balance at beginning of period | $ | 242 | $ | 181 | $ | 207 | $ | 208 | ||||||
| Provision for Managed private credit student loan losses | 32 | 32 | 91 | 66 | ||||||||||
| Other | — | — | 6 | (36 | ) | |||||||||
Charge-offs | (22 | ) | (33 | ) | (59 | ) | (61 | ) | ||||||
| Recoveries | 3 | 6 | 10 | 9 | ||||||||||
| Charge-offs, net of recoveries | (19 | ) | (27 | ) | (49 | ) | (52 | ) | ||||||
| Balance at end of period | $ | 255 | $ | 186 | $ | 255 | $ | 186 | ||||||
| Net charge-offs as a percentage of average Managed private credit student loans (annualized) | .97 | % | 1.95 | % | .95 | % | 1.38 | % | ||||||
| Net charge-offs as a percentage of average Managed private credit student loans in repayment (annualized) | 2.01 | % | 3.61 | % | 1.89 | % | 2.33 | % | ||||||
| Private credit allowance as a percentage of average Managed private credit student loans | 3.36 | % | 3.41 | % | 3.66 | % | 3.72 | % | ||||||
| Private credit allowance as a percentage of the ending balance of Managed private credit student loans | 3.20 | % | 3.28 | % | 3.20 | % | 3.28 | % | ||||||
| Private credit allowance as a percentage of ending Managed private credit student loans in repayment | 6.92 | % | 6.26 | % | 6.92 | % | 6.26 | % | ||||||
| Average balance of Managed private credit student loans | $ | 7,595 | $ | 5,459 | $ | 6,977 | $ | 5,011 | ||||||
| Ending balance of Managed private credit student loans | $ | 7,969 | $ | 5,676 | $ | 7,969 | $ | 5,676 | ||||||
| Average balance of Managed private credit student loans in repayment | $ | 3,661 | $ | 2,942 | $ | 3,496 | $ | 2,954 | ||||||
| Ending balance of Managed private credit student loans in repayment | $ | 3,688 | $ | 2,976 | $ | 3,688 | $ | 2,976 | ||||||
During the third quarter of 2003, we reclassified FFELP loans and the related reserves that have been rejected for reimbursement by the guarantor to the private credit student loan portfolio, because these loans are effectively uninsured. In the above table, the reclassification is reflected for all periods presented.
| | Three months ended March 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||
| Managed Private Credit Student Loan allowance balance at beginning of period | $ | 259 | $ | 194 | ||||
| Provision for Managed Private Credit Student Loan losses | 37 | 32 | ||||||
| Other | — | 7 | ||||||
| Charge-offs: | ||||||||
| Managed Private Credit Student Loan charge-offs | (26 | ) | (17 | ) | ||||
| Managed Private Credit Student Loan recoveries | 2 | 2 | ||||||
| Total charge-offs, net of recoveries | (24 | ) | (15 | ) | ||||
| Managed Private Credit Student Loan allowance balance at end of period | $ | 272 | $ | 218 | ||||
Net Managed Private Credit Student Loan charge-offs as a percentage of average Managed Private Credit Student Loans | 1.03 | % | ..94 | % | ||||
| Net Managed Private Credit Student Loan charge-offs as a percentage of average Managed Private Credit Student Loans in repayment | 2.16 | % | 1.78 | % | ||||
| Managed Private Credit Student Loan allowance as a percentage of average Managed Private Credit Student Loans | 2.98 | % | 3.44 | % | ||||
| Managed Private Credit Student Loan allowance as a percentage of the ending balance of Managed Private Credit Student Loans | 2.90 | % | 3.24 | % | ||||
| Managed Private Credit Student Loan allowance as a percentage of the ending balance of Managed Private Credit Student Loans in repayment | 6.16 | % | 6.39 | % | ||||
| Average balance of Managed Private Credit Student Loans | $ | 9,142 | $ | 6,323 | ||||
| Ending balance of Managed Private Credit Student Loans | $ | 9,408 | $ | 6,716 | ||||
| Average balance of Managed Private Credit Student Loans in repayment | $ | 4,376 | $ | 3,354 | ||||
| Ending balance of Managed Private Credit Student Loans in repayment | $ | 4,422 | $ | 3,410 | ||||
The increase in the allowanceprovision for Managed private credit student loansPrivate Credit Student Loans of $69$5 million or 37 percent, overfor the three months ended March 31, 2004 versus the year-ago period is mainlyprimarily due to the 46 percent increase in Managed private credit student loan acquisitions forPrivate Credit Student Loans entering repayment over the nineprior year and to the effect of the revision of our default assumptions in the fourth quarter of 2003. For the three months ended September 30, 2003 versus the year-ago period.
We defer origination fees and recognize themMarch 31, 2004, Private Credit Student Loan charge-offs increased by $9 million over the average lifeprior year, which is due primarily to the increase in Managed Private Credit Student Loans in repayment and the aging of the related pool of loans as a component of interest income. The unamortized balance of deferred origination fee revenue at September 30, 2003 and 2002 was $137 million and $81 million, respectively.loans.
48
Delinquencies—Managed Basis
The table below showspresents our private credit student loanPrivate Credit Student Loan delinquency trends as of September 30,March 31, 2004 and 2003 and 2002 on a Managed Basis. Delinquencies have the potential to adversely impact earnings if the account charges off and results in increased servicing and collection costs.
| | September 30, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | ||||||||||
| (Dollars in millions) | ||||||||||||
| Balance | % | Balance | % | |||||||||
| Loans in-school/grace/deferment1 | $ | 3,818 | $ | 2,381 | ||||||||
| Loans in forbearance2 | 463 | 319 | ||||||||||
| Loans in repayment and percentage of each status: | ||||||||||||
| Loans current | 3,385 | 92 | % | 2,725 | 91 | % | ||||||
| Loans delinquent 30-59 days3 | 127 | 3 | 108 | 4 | ||||||||
| Loans delinquent 60-89 days | 74 | 2 | 56 | 2 | ||||||||
| Loans delinquent 90 days or greater | 102 | 3 | 87 | 3 | ||||||||
| Total Managed loans in repayment | 3,688 | 100 | % | 2,976 | 100 | % | ||||||
| Total Managed private credit student loans | 7,969 | 5,676 | ||||||||||
| Managed private credit student loan allowance for losses | (255 | ) | (186 | ) | ||||||||
| Managed private credit student loans, net | $ | 7,714 | $ | 5,490 | ||||||||
| Percentage of Managed private credit student loans in repayment | 46 | % | 52 | % | ||||||||
| Delinquencies as a percentage of private credit student loans in repayment | 8 | % | 9 | % | ||||||||
Loans in forbearance status increased from 11 percent of loans in repayment and forbearance status at March 31, 2003 to 12 percent of loans in repayment and forbearance status at March 31, 2004. The increase is due to a temporary spike in forbearances granted on career training loans during a loan
system conversion in the second quarter of 2003. The career training ratio has been gradually declining but is not yet back down to the March 31, 2003 level. For all other categories of Private Credit Student Loans, the forbearance ratio decreased when compared to March 31, 2003.
| | March 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||
| | Balance | % | Balance | % | ||||||||
| Loans in-school/grace/deferment (1) | $ | 4,386 | $ | 2,892 | ||||||||
| Loans in forbearance (2) | 600 | 414 | ||||||||||
| Loans in repayment and percentage of each status: | ||||||||||||
| Loans current | 4,090 | 92 | % | 3,118 | 91 | % | ||||||
| Loans delinquent 30-59 days (3) | 126 | 3 | 136 | 4 | ||||||||
| Loans delinquent 60-89 days | 82 | 2 | 72 | 2 | ||||||||
| Loans delinquent 90 days or greater | 124 | 3 | 84 | 3 | ||||||||
| Total Private Credit Student Loans in repayment | 4,422 | 100 | % | 3,410 | 100 | % | ||||||
| Total Private Credit Student Loans | 9,408 | 6,716 | ||||||||||
| Private Credit Student Loan allowance for losses | (272 | ) | (218 | ) | ||||||||
| Private Credit Student Loans, net | $ | 9,136 | $ | 6,498 | ||||||||
| Percentage of Private Credit Student Loans in repayment | 47 | % | 51 | % | ||||||||
| Delinquencies as a percentage of Private Credit Student Loans in repayment | 8 | % | 9 | % | ||||||||
49
LIQUIDITY AND CAPITAL RESOURCES
A primaryWe depend on the debt capital markets to support our business plan and we have developed deep and diverse funding objectivesources to ensure continued access to the capital markets as we transition from GSE funding to SLM Corporation non-GSE funding. Our biggest funding challenge going forward is to maintain ourcost effective liquidity to fund the growth in the Managed Portfolio of student loans as well as refinancing previously securitized loans when consolidated back on-balance sheet. At the same time we must maintain earnings spreads and control interest rate risk to preserve earnings growth. The main source of non-GSE funding is student loan spreadsecuritizations. In the first quarter of 2004, we securitized $9.3 billion in student loans in four transactions versus $6.3 billion in four transactions in the first quarter of 2003. Our securitizations backed by continuingFFELP loans are unique securities in the asset-backed class as they are backed by student loans with an explicit guarantee on 98 percent of principal and interest. This guarantee is subject to matchservice compliance, but is not related to the Company's GSE subsidiary. At March 31, 2004, we financed 83 percent of our Managed student loans from non-GSE sources versus 57 percent at March 31, 2003. As evidenced by the 2003 volume, we have built a highly liquid and deep market for student loan securitizations by broadening our investor base worldwide.
Securitizations will continue to grow and are expected to comprise approximately 70 percent of total Managed debt by 2006, versus 60 percent at March 31, 2004.
In addition to securitizations, we also significantly increased and diversified other non-GSE financing through the issuance of $5.3 billion in SLM Corporation, term, unsecured non-GSE debt. In total, at March 31, 2004, non-GSE on-balance sheet debt, exclusive of on-balance sheet securitizations, totaled $25.5 billion, a 211 percent increase over March 31, 2003.
Another major objective when financing our business is to minimize interest rate characteristicsrisk through match funding of our assets and liabilities. AsGenerally, on a pooled basis to the extent practicable, we continuematch the interest rate and reset characteristics of our Managed assets and liabilities. In this process, we use derivative financial instruments extensively to wind down the GSE, we must broadenreduce our already diverse funding sourcesinterest rate and foreign currency exposure. This interest rate risk management helps us to ensure that we have sufficient liquidity to refinance our GSE debt and meet the ongoing financing needsachieve a stable student loan spread irrespective of the business.interest rate environment. (See also "Interest Rate Risk Management" below.)
Currently our primary sources of liquidity are through debt issuances byThe following tables present the GSEending and off-balance sheet financings through securitizations. We supplement these sources through borrowings under our commercial paperaverage balances and medium-term note programs, other senior note issuances, and cash generated by our subsidiaries and distributed through dividends to the Company. Our Managed borrowings along with the average interest rates of our Managed borrowings for the three and nine months ended September 30, 2003March 31, 2004 and 20022003. The average interest rates include derivatives that are brokeneconomically hedging the underlying debt, but do not qualify for hedge accounting treatment under SFAS No. 133. (See "Derivative Reclassification—non-GAAP").
| | As of March 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||
| | Ending Balance | Ending Balance | ||||||||||
| | Short Term | Long Term | Short Term | Long Term | ||||||||
| GSE | $ | 14,330 | $ | 2,843 | $ | 22,770 | $ | 15,030 | ||||
| Non-GSE | 1,805 | 23,705 | 244 | 7,969 | ||||||||
| Securitizations (on-balance sheet) | — | 24,256 | — | 2,021 | ||||||||
| Securitizations (off-balance sheet) | — | 39,532 | — | 38,972 | ||||||||
| Total | $ | 16,135 | $ | 90,336 | $ | 23,014 | $ | 63,992 | ||||
| | Three months ended March 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||||||
| | Average Balance | Average Rate | Average Balance | Average Rate | |||||||
| GSE | $ | 20,955 | 2.03 | % | $ | 40,071 | 1.90 | % | |||
| Non-GSE | 22,932 | 1.75 | 7,691 | 2.61 | |||||||
| Securitizations (on-balance sheet) | 19,111 | 1.44 | 1,372 | 1.53 | |||||||
| Securitizations (off-balance sheet) | 39,399 | 1.63 | 36,497 | 1.97 | |||||||
| Total | $ | 102,397 | 1.70 | % | $ | 85,631 | 1.99 | % | |||
As the GSE is wound down, as follows:stand-alone liquidity at SLM Corporation will become increasingly important over time. SLM Corporation's stand-alone liquidity is derived from our modest debt maturities and use of commercial paper, $3 billion in committed bank lines of credit, short-term investment portfolio and broad market acceptance of our principal asset, government guaranteed student loans.
| | Three months ended September 30, | Nine months ended September 30, | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | |||||||||||||||||
| | Average Balance | Average Rate | Average Balance | Average Rate | Average Balance | Average Rate | Average Balance | Average Rate | |||||||||||||
| GSE | $ | 33,060 | 1.68 | % | $ | 45,229 | 2.35 | % | $ | 36,991 | 1.81 | % | $ | 46,034 | 2.47 | % | |||||
| Non-GSE | 15,465 | 1.87 | 4,290 | 3.02 | 11,450 | 2.12 | 3,639 | 2.84 | |||||||||||||
| Securitizations (on-balance sheet) | 6,181 | 1.33 | — | — | 3,838 | 1.40 | — | — | |||||||||||||
| Securitizations (off-balance sheet) | 41,878 | 1.67 | 32,975 | 2.45 | 38,697 | 1.83 | 31,827 | 2.71 | |||||||||||||
| Total | $ | 96,584 | 1.69 | % | $ | 82,494 | 2.42 | % | $ | 90,976 | 1.84 | % | $ | 81,500 | 2.58 | % | |||||
GSE Financing Activities
The GSE secures financing to fund its on-balance sheet portfolio of student loans, along with its other operations, by issuing debt securities in the domestic and overseas capital markets, through public offerings and private placements of U.S. dollar-denominated and foreign currency-denominated debt of varying maturities and interest rate characteristics. The GSE's debt securities are currently rated at the
highest credit rating level by both Moody's and S&P. Historically, the rating agencies' ratings of the GSE have been largely a factor of its status as a government-sponsored enterprise. Since the Privatization Act did not modify the attributes of debt issued by the GSE, management anticipates that the GSE will retain its current credit ratings.
The GSE's unsecured financing requirements are driven by the following factors: liquidity to meet the short-term funding of new student loan acquisitions; refinancing of existing GSE liabilities as they mature; financing of the net growth in the student loan portfolio;mature and are not replaced by non-GSE funding sources; the level of securitization activity; and the transfer and refinancing of GSE assets by the Company's non-GSE entities of the Company.entities.
Securitization Activities
Since the establishment of our program in 1995, securitization of student loans has been the primary source of non-GSE long-term funding for our Managed portfolio of student loans. In the first nine months of 2003, we completed twelve securitization transactions totaling $22.1 billion versus five transactions totaling $7.9 billion in student loans in the first nine months of 2002. At September 30, 2003, $40.1 billion or 47 percent of our Managed student loans outstanding were in securitized trusts outside of the GSE. We expect to accelerate and diversify our securitization activity as we refinance long-term GSE debt in connection with the GSE Wind-Down. See also "Other Income—Securitization Program" for a discussion of the quarterly activity of our securitization program.
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Non-GSE Unsecured On-Balance Sheet Financing Activities
While the securitization market has been the core of our long-term financing strategy,As discussed above, we have also been increasing and diversifyingcontinue to diversify our non-GSE funding sources such as commercial paper, bank lines of credit, underwritten long-term debt, and global and medium-term note programs. The following table showspresents the senior unsecured credit ratings on our non-GSE debt from the major rating agencies.
| | S&P | Moody's | Fitch | |||
|---|---|---|---|---|---|---|
| Short-term unsecured debt | A-1 | P-1 | F-1+ | |||
| Long-term unsecured debt | A | A-2 | A+ |
The table below presents our non-GSE unsecured on-balance sheet funding by funding source for the three and nine months ended September 30,March 31, 2004 and 2003.
| | Debt issued for the three months ended March 31, | Outstanding at March 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | 2004 | 2003 | ||||||||
| Commercial paper | $ | — | $ | 7,494 | $ | — | $ | 44 | ||||
| Convertible debentures | — | — | 1,984 | — | ||||||||
| Retail medium-term notes (EdNotes) | 172 | 78 | 528 | 78 | ||||||||
| Foreign currency denominated(1) | 1,976 | — | 2,574 | — | ||||||||
| Extendible notes | 249 | — | 1,997 | — | ||||||||
| Inflation indexed notes | 2,933 | — | 14,485 | — | ||||||||
| Global notes | — | 2,246 | 3,942 | 3,948 | ||||||||
| Medium-term notes | — | — | — | 4,143 | ||||||||
Total | $ | 5,330 | $ | 9,818 | $ | 25,510 | $ | 8,213 | ||||
Securitization Activities
Securitization Program
Our FFELP Stafford, Private Credit Student Loan and certain Consolidation Loan securitizations are off-balance sheet transactions that are structured to meet the sale criteria of SFAS No. 140 by using a two-step transaction with a qualifying special purpose entity ("QSPE") that legally isolates the transferred assets from the Company, even in the event of bankruptcy, and are accounted for off-balance sheet. Each of these transactions is structured to ensure that the holders of the beneficial interests issued by the QSPE are not constrained from pledging or exchanging their interests and that we do not maintain effective control over the transferred assets. In all of our off-balance sheet securitizations, we retain the right to receive the cash flows from the securitized student loans in excess of cash flows required to pay interest and principal on the bonds issued by the trust and servicing and administration fees.
Prior to 2003, all of our securitization structures were off-balance sheet transactions. In certain 2003 and 2002.
| | Debt issued for three months ended September 30, | Debt issued for nine months ended September 30, | Outstanding at September 30, | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | ||||||||||||
| Commercial paper | $ | — | $ | 8,085 | $ | 8,285 | $ | 21,408 | $ | — | $ | — | ||||||
| Convertible debentures | — | — | 1,980 | — | 1,982 | — | ||||||||||||
| Retail medium-term notes (EdNotes) | 82 | — | 309 | — | 309 | — | ||||||||||||
| Euro medium-term notes | — | — | 580 | — | 580 | — | ||||||||||||
| Extendible notes | — | — | 999 | — | 999 | — | ||||||||||||
| Global notes | 3,481 | — | 8,130 | — | 9,833 | — | ||||||||||||
| Medium-term notes | — | 1,939 | — | 3,550 | 4,091 | 5,169 | ||||||||||||
| Total | $ | 3,563 | $ | 10,024 | $ | 20,283 | $ | 24,958 | $ | 17,794 | $ | 5,169 | ||||||
New Sources2004 Consolidation Loan securitization structures, we hold certain rights that can affect the remarketing of Financingcertain bonds. These remarketing rights are not significantly limited in nature. Therefore, these securitizations did not qualify as QSPEs. Accordingly, they are accounted for on-balance sheet as variable interest entities ("VIEs") with the securitized federally insured student loans reflected in the balance sheet as "federally insured student loans in trust." These securitization structures were developed to broaden and diversify the investor base for Consolidation Loan securitizations by allowing us to issue bonds with non-amortizing, fixed rate and foreign currency denominated tranches.
The totalfollowing table summarizes our securitization activity for the three months ended March 31, 2004 and 2003.
| | Three months ended March 31, | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||||||||||||||||
| | Number of Transactions | Amount Securitized | Pre-tax Gains | Gain % | Number of Transactions | Amount Securitized | Pre-tax Gains | Gain % | |||||||||||||
| FFELP Stafford/PLUS loans | — | $ | — | $ | — | — | % | 1 | $ | 1,256 | $ | 20 | 1.6 | % | |||||||
| Consolidation Loans | — | — | — | — | 1 | 2,005 | 218 | 10.9 | |||||||||||||
| Private Credit Student Loans | 1 | 1,252 | 114 | 9.1 | 1 | 1,005 | 68 | 6.8 | |||||||||||||
| Total securitization sales | 1 | 1,252 | $ | 114 | 9.1 | % | 3 | 4,266 | $ | 306 | 7.2 | % | |||||||||
On-balance sheet securitization of Consolidation Loans | 3 | 8,023 | 1 | 2,056 | |||||||||||||||||
| Total loans securitized | 4 | $ | 9,275 | 4 | $ | 6,322 | |||||||||||||||
The increase in the Private Credit securitization gain for the first quarter of revolving2004 is due to the underlying student loans having higher spreads and lower cost of funds.
At March 31, 2004 and December 31, 2003, securitized student loans outstanding totaled $61.8 billion and $55.1 billion, respectively.
The asset-backed securities issued by our trusts generally have a higher net cost to fund our student loans than our GSE on-balance sheet financing because the asset-backed securities are term match-funded to the assets securitized and do not benefit from the implicit guarantee of the federal government that investors attribute to GSE debt. The GSE's funding advantage over our securitizations is somewhat mitigated by the absence of Offset Fees on securitized loans. Our securitizations to date have been structured to achieve a triple "AAA" credit facilities was increased from $2 billionrating on over 96 percent of the asset-backed securities sold. Securities issued in our typical FFELP student loan securitizations are issued with a variety of interest rate terms and in multiple currencies while the index on our securitized loans are either indexed to $3 billion in October 2003. The current facilities consist of $1 billion maturing October 2004, $1 billion maturing October 2007, and $1 billion maturing October 2008. These facilities will continue to serve asthe 91-day or 52-week Treasury bill, commercial paper backstopor the Prime rate. We manage this interest rate and management does notcurrency risk with derivatives, principally interest rate and currency swaps, which can either be on-balance sheet or embedded in the securitization trust.
In 2004, we expect to use them.maintain the 2003 level of securitization activity to fund new student loan purchases and continue the refinancing of GSE debt. We expect our term asset-backed securities issuance to be $25 billion versus $30 billion with our asset-backed commercial paper program adding another $5 billion.
Cash FlowsLiquidity Risk
DuringAs non-GSE financing replaces GSE financing and becomes an ever-larger percentage of our long-term funding, our credit spread and liquidity exposure to the first ninecapital markets shifts from the government agency capital markets to the corporate and asset-backed markets. A major disruption in the fixed income capital markets that limits our ability to raise funds or significantly increases the cost of those funds could have a material impact on our ability to acquire student loans or on our results of operations and the timely and effective completion of the GSE Wind-Down. Our securitizations are structured such that we do not provide any level of financial, credit or liquidity support to any of the trusts, and our exposure is limited to the recovery of the Retained Interest asset on the balance sheet. Our Retained Interests are subject to prepayment risk primarily from consolidating loans that could materially impair their value. Our FFELP securitizations have minimal credit and interest rate risk and as a result, outside of the prepayment risk, we believe that, even in times of great stress in the capital markets, the likelihood is remote that any of these off-balance sheet arrangements could be impaired to the point at which they could result in a material adverse impact on the Company.
Retained Interest on Securitized Loans
The Residual Interest plus any reserve or cash accounts constitute the Retained Interest asset on-balance sheet. The Retained Interests are recorded at fair value at the time of sale and each subsequent quarter using a discounted cash flow analysis. At March 31, 2004 and December 31, 2003, the fair value of the Retained Interest was $2.5 billion and $2.5 billion, respectively. The average balance of the Retained Interest for the three months ofended March 31, 2004 and 2003 we usedwas $2.4 billion and $2.2 billion, respectively. The deferred tax liability associated with these assets was $333 million and $275 million at March 31, 2004 and December 31, 2003, respectively.
Embedded Fixed Rate Floor Income
Included in the proceeds from bothgain on and off-balance sheet student loan securitizations of $22.0 billion,Consolidation Loans is an estimate of the Embedded Fixed Rate Floor Income from the loans securitized. Depending on interest rate levels, the ongoing re-evaluation of this estimate of Embedded Fixed Rate Floor Income can cause volatility in the fair value of the Retained Interest asset. The fair value of the Embedded Fixed Rate Floor Income included in the Retained Interest asset as of March 31, 2004 and repaymentsDecember 31, 2003 was $801 million and claim payments$727 million, respectively.
Servicing and Securitization Revenue
Servicing and securitization revenue is the ongoing revenue from securitized loan pools accounted for off-balance sheet as QSPEs, and includes the interest earned on the Residual Interest, the revenue we receive for servicing the loans in the securitization trusts, and Embedded Floor Income on securitized student loans of $3.4 billion to acquire student loans either through purchase, origination or through loan consolidations from our securitized trusts totaling $19.2 billion, and to repurchase $747 million of the Company's common stock.
Operating activities provided net cash of $410 millionnot previously included in the first ninegain on sale calculation. Interest income recognized on the Residual Interest is based on our anticipated yield, determined by periodically estimating future cash flows.
The following table summarizes the components of servicing and securitization revenue for the three months of 2003, an increase of $168 million from the first nine months of 2002. Operating cash flow isended March 31, 2004 and 2003.
| | Three months ended March 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||
| Servicing revenue | $ | 76 | $ | 75 | ||||
| Securitization revenue, exclusive of Embedded Floor Income | 30 | 57 | ||||||
| Servicing and securitization revenue, before Embedded Floor Income | 106 | 132 | ||||||
| Embedded Floor Income | 78 | 78 | ||||||
| Less: Floor Income previously recognized in gain calculation | (47 | ) | (21 | ) | ||||
| Net Embedded Floor Income | 31 | 57 | ||||||
| Total servicing and securitization revenue | $ | 137 | $ | 189 | ||||
Average off-balance sheet student loans | $ | 37,786 | $ | 35,228 | ||||
Average balance of Retained Interest | $ | 2,442 | $ | 2,195 | ||||
Servicing and securitization revenue as a percentage of the average balance of off-balance sheet student loans (annualized) | 1.45 | % | 2.17 | % | ||||
Fluctuations in servicing and securitization revenue are generally driven by net income adjusted for various non-cash items such as gains and losses on sales of student loans and securities, the derivative market value adjustment and the provision for loan losses. Operating cash flow is also affected by the timing of the receipt or payment of cash for other assets and liabilities and by the amount of and the difference in the timing of Floor Income receivedrecognition on off-balance sheet student loans, as well as the impact of Consolidation Loan activity which can result in an impairment of the quarter.
DuringResidual Interest asset and negatively impact yields used to recognize subsequent income. In the first nine monthsquarter of 2003,2004, we recognized impairment of the Company issued $17.1 billionResidual Interest asset of unsecured long-term notes,$13.7 million due to higher than anticipated Consolidation Loan activity. We receive annual servicing fees of 90 basis points, 50 basis points and 70 basis points of the outstanding securitized loan balance related to our Stafford, Consolidation Loan and Private Credit Student Loan securitizations, respectively.
In off-balance sheet securitizations that qualify as sales, we recognize a gain on the sale, which $5.2 billion was issued byis calculated as the GSEdifference between the allocated cost basis of the assets sold and $11.9 billion was issued by SLM Corporation.the relative fair value of the assets received. The Company also completedcarrying value of the student loan portfolio being securitized includes the applicable accrued interest, unamortized student loan premiums, loan loss reserves and borrower benefits reserves. We recognize no gain or loss or servicing and securitization revenue associated with on-balance sheet securitizations of $9.7 billion. These financings were used to refund maturing debt obligations and finance the acquisition of student loans. At
51
September 30, 2003, the Company had $31.3 billion of long-term debt, of which $4.6 billion is an obligation of the GSE and $26.7 billion is an obligation of SLM Corporation, including bonds in the VIEs totaling $9.7 billion. $1.4 billion of the GSE's long-term debt had stated maturities that could be accelerated through call provisions and $3.3 billion of SLM Corporation's long-term debt had stated maturities that could be accelerated through call provisions.securitizations.
Interest Rate Risk Management
Interest Rate Gap Analysis
We manage our interest rate risk on a Managed Basis and asBasis. As a result, we use on-balanceon and off-balance sheet derivatives to hedge the basis, interest rate and foreign currency risk in our securitization trusts as the trusts typically issue asset-backed securities indexed to LIBORwith a variety of interest rate terms and in multiple currencies to fund student loans indexed to either the 91-day Treasury bill, commercial paper or in the case of private credit loans,Private Credit Student Loans, the Prime rate.
The following table shows funding by index, after considering the effects of derivatives, of our asset-backed securities at September 30, 2003:
| (Dollars in billions) | | ||
|---|---|---|---|
| Index | Amount | ||
| LIBOR | $ | 12.7 | |
| 91-day Treasury bill | 22.8 | ||
| Auction Rate | 2.8 | ||
| Commercial paper | 8.1 | ||
| Prime | 2.5 | ||
| Total Variable Rate | 48.9 | ||
| Fixed Rate | 3.6 | ||
| Total | $ | 52.5 | |
There were also $3.1 billion of PLUS student loans in the trusts that are funded by asset-backed securities indexed to LIBOR or the 91-day Treasury bill. We hedge our off-balance sheet basis risk through on-balance sheet derivatives, the effect of which is included in the "Interest Rate Gap Analysis" below as the impact of securitized student loans.
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In the table below, the Company's variable rate assets and liabilities are categorized by reset date of the underlying index. Fixed rate assets and liabilities are categorized based on their maturity dates. An interest rate gap is the difference between volumes of assets and volumes of liabilities maturing or repricing during specific future time intervals. The following gap analysis reflects rate-sensitive positions at September 30, 2003March 31, 2004 and is not necessarily reflective of positions that existed throughout the period.
| | Interest Rate Sensitivity Period | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 3 months or less | 3 months to 6 months | 6 months to 1 year | 1 to 2 years | 2 to 5 years | Over 5 years | ||||||||||||||
| Assets | ||||||||||||||||||||
| Student loans | $ | 42,988 | $ | 287 | $ | 2,408 | $ | — | $ | — | $ | — | ||||||||
| Academic facilities financings and other loans | 350 | 98 | 217 | 64 | 57 | 308 | ||||||||||||||
| Cash and investments | 5,641 | 11 | 4 | 75 | 909 | 744 | ||||||||||||||
| Other assets | 1,361 | 60 | 121 | 259 | 673 | 3,301 | ||||||||||||||
| Total assets | 50,340 | 456 | 2,750 | 398 | 1,639 | 4,353 | ||||||||||||||
| Liabilities and Stockholders' Equity | ||||||||||||||||||||
| Short-term borrowings | 13,993 | 859 | 8,143 | — | — | — | ||||||||||||||
| Long-term notes | 15,681 | — | — | 2,313 | 4,932 | 8,333 | ||||||||||||||
| Other liabilities | 1,708 | — | — | — | — | 1,330 | ||||||||||||||
| Stockholders' equity | — | — | — | — | — | 2,644 | ||||||||||||||
| Total liabilities and stockholders' equity | 31,382 | 859 | 8,143 | 2,313 | 4,932 | 12,307 | ||||||||||||||
| Period gap before adjustments | 18,958 | (403 | ) | (5,393 | ) | (1,915 | ) | (3,293 | ) | (7,954 | ) | |||||||||
Adjustments for Derivatives and Other Financial Instruments | ||||||||||||||||||||
| Interest rate derivatives | (12,803 | ) | 580 | 840 | 2,002 | 2,308 | 7,073 | |||||||||||||
| Impact of securitized student loans | (3,129 | ) | — | 3,129 | — | — | — | |||||||||||||
| Total derivatives and other financial instruments | (15,932 | ) | 580 | 3,969 | 2,002 | 2,308 | 7,073 | |||||||||||||
| Period gap | $ | 3,026 | $ | 177 | $ | (1,424 | ) | $ | 87 | $ | (985 | ) | $ | (881 | ) | |||||
| Cumulative gap | $ | 3,026 | $ | 3,203 | $ | 1,779 | $ | 1,866 | $ | 881 | $ | — | ||||||||
| Ratio of interest-sensitive assets to interest-sensitive liabilities | 165.1 | % | 46.1 | % | 32.3 | % | 6.0 | % | 19.6 | % | 12.6 | % | ||||||||
| Ratio of cumulative gap to total assets | 5.0 | % | 5.3 | % | 3.0 | % | 3.1 | % | 1.5 | % | — | % | ||||||||
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| | Interest Rate Sensitivity Period | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 3 months or less | 3 months to 6 months | 6 months to 1 year | 1 to 2 years | 2 to 5 years | Over 5 years | |||||||||||||
| Assets | |||||||||||||||||||
| Student loans | $ | 50,868 | $ | 3,215 | $ | 331 | $ | — | $ | — | $ | — | |||||||
| Academic facilities financings and other loans | 438 | 51 | 74 | 50 | 38 | 453 | |||||||||||||
| Cash and investments | 9,200 | 41 | 19 | 85 | 915 | 1,280 | |||||||||||||
| Other assets | 1,253 | 121 | 243 | 240 | 572 | 3,776 | |||||||||||||
| Total assets | 61,759 | 3,428 | 667 | 375 | 1,525 | 5,509 | |||||||||||||
| Liabilities and Stockholders' Equity | |||||||||||||||||||
| Short-term borrowings | 12,522 | 2,049 | 1,605 | — | — | — | |||||||||||||
| Long-term notes | 31,229 | — | 25 | 2,042 | 5,870 | 12,139 | |||||||||||||
| Other liabilities | — | — | — | — | — | 3,044 | |||||||||||||
| Stockholders' equity | — | — | — | — | — | 2,738 | |||||||||||||
| Total liabilities and stockholders' equity | 43,751 | 2,049 | 1,630 | 2,042 | 5,870 | 17,921 | |||||||||||||
| Period gap before adjustments | 18,008 | 1,379 | (963 | ) | (1,667 | ) | (4,345 | ) | (12,412 | ) | |||||||||
Adjustments for Derivatives and Other Financial Instruments | |||||||||||||||||||
| Interest rate derivatives | (17,046 | ) | (2,350 | ) | 577 | 3,912 | 3,835 | 11,072 | |||||||||||
| Impact of securitized student loans | (2,618 | ) | 2,618 | — | — | — | — | ||||||||||||
| Total derivatives and other financial instruments | (19,664 | ) | 268 | 577 | 3,912 | 3,835 | 11,072 | ||||||||||||
| Period gap | $ | (1,656 | ) | $ | 1,647 | $ | (386 | ) | $ | 2,245 | $ | (510 | ) | $ | (1,340 | ) | |||
Cumulative gap | $ | (1,656 | ) | $ | (9 | ) | $ | (395 | ) | $ | 1,850 | $ | 1,340 | $ | — | ||||
Ratio of interest-sensitive assets to interest-sensitive liabilities | 138.3 | % | 161.4 | % | 26.0 | % | 6.6 | % | 16.2 | % | 14.3 | % | |||||||
Ratio of cumulative gap to total assets | (2.3 | )% | — | % | (0.5 | )% | 2.5 | % | 1.8 | % | — | % | |||||||
Weighted Average Terms to MaturityLife
The following table reflects the weighted average terms to maturitylife for our Managed earning assets and liabilities at September 30, 2003.March 31, 2004.
| (Averages in years) | On-Balance Sheet | Off-Balance Sheet | Managed | On-Balance Sheet | Off-Balance Sheet | Managed | ||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Earning assets | ||||||||||||
| Student loans | 7.6 | 7.4 | 7.5 | 9.3 | 4.4 | 8.8 | ||||||
| Academic facilities financings and other loans | 7.1 | — | 7.1 | 6.8 | — | 6.8 | ||||||
| Cash and investments | 1.9 | — | 1.9 | 1.3 | — | 1.3 | ||||||
| Total earning assets | 6.8 | 7.4 | 7.1 | 8.0 | 4.4 | 8.0 | ||||||
| Borrowings | ||||||||||||
| Short-term borrowings | .4 | — | .4 | .3 | — | .3 | ||||||
| Long-term borrowings | 7.7 | 7.4 | 7.5 | 7.4 | 4.4 | 6.1 | ||||||
| Total borrowings | 4.5 | 7.4 | 5.8 | 5.7 | 4.4 | 5.2 | ||||||
In the above table, Treasury receipts and variable rate asset-backed securities, although generally liquid in nature, extend the weighted average remaining term to maturity of cash and investments to 1.91.3 years. Long-term debt issuances likely to be called have been categorized according to their call dates rather than their maturity dates. Long-term debt issuances which are putable by the investor are categorized according to their put dates rather than their maturity date.dates.
Common StockCOMMON STOCK
We repurchased 1.57.9 million shares during the thirdfirst quarter of 2003 primarily2004 through equity forward settlements and issued 1.6 million shares related to benefit plans. We repurchased 21.6 million shares during the nine months ended September 30, 2003 through equity forward settlements and open market purchases and issued 5.8 million shares as a result of the exercise of stock warrants and a net 8.53.1 million shares related to benefit plans. At September 30, 2003,March 31, 2004, the total common shares that could potentially be acquired over the next fivefour years under outstanding equity forward contracts was 40.239.8 million shares at an average price of $35.39$38.10 per share. We have remaining authority to enter into additional share repurchases and equity forward contracts for 1734.2 million shares.
In May 2003, the Board of Directors approved a three-for-one split of our common stock to be effected in the form of a stock dividend. The additional shares were distributed on June 20, 2003, for all shareholders of record on June 6, 2003. All share and per share amounts presented have been retroactively restated for the stock split. Stockholders' equity has been restated to give retroactive recognition to the stock split for all periods presented by reclassifying from additional paid-in capital to common stock the par value of the additional shares issued as a result of the stock split.
In July 2003, the Board of Directors voted to retire 170 million shares of common stock held in treasury, effective in September 2003. Based on an average price of $18.04 per share, this retirement decreased the balance in treasury stock by $3.1 billion, with corresponding decreases of $34 million in common stock and $3.1 billion in retained earnings.
54
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Common shares in millions) | ||||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||||
| Common shares repurchased: | ||||||||||||||
| Open market | .5 | — | 5.5 | — | ||||||||||
| Equity forwards | 1.0 | 5.5 | 16.1 | 14.7 | ||||||||||
| Total shares repurchased | 1.5 | 5.5 | 21.6 | 14.7 | ||||||||||
| Average purchase price per share | $ | 40.13 | $ | 25.78 | $ | 30.44 | $ | 21.93 | ||||||
| Equity forward contracts: | ||||||||||||||
| Outstanding at beginning of period | 33.1 | 24.5 | 28.7 | 33.7 | ||||||||||
| New contracts | 8.1 | 7.8 | 27.6 | 7.8 | ||||||||||
| Exercises | (1.0 | ) | (5.5 | ) | (16.1 | ) | (14.7 | ) | ||||||
| Outstanding at end of period | 40.2 | 26.8 | 40.2 | 26.8 | ||||||||||
| Remaining repurchase authority at end of period | 17.0 | 29.1 | 17.0 | 29.1 | ||||||||||
| | Three months ended March 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||
| (Common shares in millions) | | | ||||||
| Common shares repurchased: | ||||||||
| Open market | — | 3.4 | ||||||
| Equity forwards | 7.9 | 4.6 | ||||||
| Benefit plans | .7 | .9 | ||||||
| Total shares repurchased | 8.6 | 8.9 | ||||||
| Average purchase price per share | $ | 31.26 | $ | 29.88 | ||||
| Common shares issued | 3.8 | 5.7 | ||||||
| Equity forward contracts: | ||||||||
| Outstanding at beginning of period | 43.5 | 28.7 | ||||||
| New contracts | 4.2 | 7.1 | ||||||
| Exercises | (7.9 | ) | (4.6 | ) | ||||
| Outstanding at end of period | 39.8 | 31.2 | ||||||
| Board of Director authority remaining at end of period | 34.2 | 39.7 | ||||||
As of September 30, 2003,March 31, 2004, the expiration dates and range ofand average purchase prices for outstanding equity forward contracts were as follows:
Year of Maturity | Outstanding Contracts | Range of Market Prices | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| | (in millions) | | |||||||||
| 2004 | 3.0 | $26.02 - $30.70 | |||||||||
| (Contracts in millions) | | | | ||||||||
| Year of maturity | Outstanding contracts | Range of purchase prices | Average purchase price | ||||||||
| 2005 | 12.0 | 27.47 - 40.17 | 3.0 | $38.25–$40.17 | $ | 39.21 | |||||
| 2006 | 18.3 | 33.82 - 41.88 | 20.5 | 33.82–41.88 | 37.37 | ||||||
| 2007 | 3.7 | 37.70 | 13.1 | 37.70–41.81 | 38.70 | ||||||
| 2008 | 3.2 | 38.64 - 40.00 | 3.2 | 38.64–40.00 | 39.28 | ||||||
| 40.2 | 39.8 | $ | 38.10 | ||||||||
In May 2003, the FASB issued SFAS No. 150, which establishes standards for how a company classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 also outlines new accounting for equity forward contracts. Under SFAS No. 150, equity forward contracts that allow a net settlement option either in cash or our stock is required to be accounted for in accordance with SFAS No. 133 as derivative financial instruments. Those equity forward contracts that require physical settlement only (cash for the purchase of shares) must be accounted for as a liability. Our existing contracts provide for physical settlement, net share or net cash settlement options. As a result, for equity forward contracts entered into after May 31, 2003, we accounted for these equity forward contracts as derivatives in accordance with SFAS No. 133 and recorded the change in fair value through earnings. In accordance with SFAS No. 150, equity forward contracts that we entered into prior to June 1, 2003 and outstanding at July 1, 2003, were recorded at fair value on July 1, and we recorded a gain of $130 million which was reflected as a "cumulative effect of accounting change" in the consolidated statements of income for the three and nine months ended September 30, 2003. Included in this amount was a loss of $12 million previously recorded as an adjustment to equity, related to interest costs associated with outstanding equity forward contracts. In the third quarter of 2003, we recognized a $10 million loss related to the mark-to-market of its equity forward contracts. In addition, we recorded a $5 million loss related to net cost of carry of the equity forward contracts. In the third quarter, we settled equity forward contracts by repurchasing our common stock for $43 million. The repurchased shares were recorded as treasury stock at the market value at the time of settlement of $42 million. The $1 million realized loss on these settlements that was previously recognized through equity forward marks-to-market was reversed in the derivative market valuation account. Gains and losses on equity forward contracts are excluded from gross income for federal and state income tax purposes.
55
STUDENT LOAN MARKETING ASSOCIATION
Privatization Act—GSE Wind-Down
Under the Privatization Act, the GSE must wind downWind-Down its operations and dissolve on or before September 30, 2008, and until the GSE is dissolved, the Privatization Act places a number of limitations on the GSE. Management, however, plans to accelerate the Wind-Down of the GSE to no later than September 2006. This plan was approved byJune 2006 and is well ahead of the GSE's board of directors in January 2002.periodic milestones. Any GSE debt obligations outstanding at the date of such dissolution are required to be defeased through creation of a fully collateralized trust, consisting of cash or financial instruments backed by the full faith and credit of the U.S. government with cash flows that match the interest and principal obligations of the defeased debt. The Privatization Act requires that on the dissolution date, the GSE shall repurchase or redeem, or make proper provisions for repurchase or redemption of any outstanding preferred stock. The GSE redeemed its Series A, Adjustable Rate Cumulative Preferred Stock, its only outstanding preferred stock, in the fourth quarter of 2001. Also upon the GSE's dissolution, all of its remaining assets will be transferred to the Company.
The Privatization Act effectively requires that the GSE maintain a minimum statutory capital adequacy ratio (the ratio of the GSE's stockholders' equity to total assets plus 50 percent of the credit equivalent amount of certain off-balance sheet items) of at least 2.25 percent or be subject to certain "safety and soundness" requirements designed to restore such statutory ratio.compliance. While the GSE may not finance or guarantee the activities of its non-GSE affiliates, it may, subject to its minimum capital requirements, dividend retained earnings and surplus capital to SLM Corporation, which in turn may contribute such amounts to its non-GSE subsidiaries. At September 30, 2003,March 31, 2004, the GSE's statutory capital adequacy ratio was 7.135.76 percent.
The GSE has also received guidance from the U.S. Department of the Treasury's Office of Sallie Mae Oversight ("OSMO") regarding safety and soundness considerations affecting its Wind-Down. As a result, in connection with any dividend declarations, the GSE will supplement the statutory minimum capital ratio requirement with a risk-based capital measurement formula. At September 30, 2003,March 31, 2004, the GSE's capital ratio under this measurement formula was 24.6118.32 percent, which was above OSMO's minimum recommended level of 4.00 percent. Management does not expect the capital levels of our consolidated balance sheet to change as a result of this supplemental formula.
The Privatization Act imposes certain restrictions on intercompany relations between the GSE and its affiliates during the Wind-Down Period. The GSE may, however, continue to issue new debt obligations maturing on or before September 30, 2008 although, because of the accelerated Wind-Down described above, we do not intend to issueare limiting the maturity on any new GSE debt with maturities beyond September 30, 2006.to six months. The GSE has not issued any long-term debt since July 2003. The legislation further provides that the legal status and attributes of the GSE's debt obligations, including the exemptions from Securities and Exchange Commission registration and state taxes, will be fully preserved until their respective maturities. Such debt obligations will remain GSE debt obligations, whether such obligations were outstanding at the time of, or issued subsequent to, the reorganization of the GSE into the current holding company structure.
56
In connection with the Wind-Down of the GSE, we must either securitize, sell, transfer or defease the GSE's assets by the Wind-Down date and retire or defease the GSE's debt obligations. For loans securitized, the GSE retains an interest in the loans, which is recognized on the balance sheet as Retained Interest in securitized receivables. In connection with the GSE Wind-Down, in 2003 the GSE sold its Retained Interests to a non-GSE subsidiary of the Company for $2.1 billion. The GSE will continue to finance student loans through securitizations in 2004, and intends to sell its Retained Interest in such securitizations as soon as practical after the sale.
During the course of developing the Wind-Down plan, management was advised by its tax counsel that, while the matter is not certain, under current authority, the defeasance of certain GSE bonds that mature after the dissolution of the GSE, could be construed to be a taxable event for taxable holders of those bonds. Management intends to commence discussions on this matter with the Internal Revenue Service and may seek a private letter ruling that the defeasance does not trigger a taxable event for such bondholders in the context of the GSE's privatization.
Given the GSE's current exemption from state income taxes, management is continually evaluating the potential impact (if any) upon the Company's overall state tax position resulting from planned sales and transfers of GSE assets.
The following table summarizes the GSE's asset sales (carrying value plus accrued interest) and transfers for the three and nine months ended September 30,March 31, 2004 and 2003 and 2002.(carrying value includes accrued interest).
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||
| FFELP/Consolidation student loan securitizations | $ | 3,563 | $ | 2,892 | $ | 10,216 | $ | 8,005 | ||||
| Sale of on-balance sheet VIEs, net1 | 141 | — | 306 | — | ||||||||
| Private credit student loan sales2 | 514 | 489 | 3,877 | 1,012 | ||||||||
| Non-cash dividend of FFELP Stafford/PLUS student loans3 | 1,077 | — | 1,077 | — | ||||||||
| Sale of Retained Interests in securitized receivables4 | 2,451 | — | 2,451 | — | ||||||||
| Non-cash dividend of insurance and benefit plan related investments5 | — | — | 346 | — | ||||||||
| | Three months ended March 31, | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||||||||||||||
| | Sale Amount | Carrying Amount | Gain Amount | Sale Amount | Carrying Amount | Gain Amount | |||||||||||||
| (Dollars in millions) | | | | | | | |||||||||||||
| FFELP/Consolidation Student Loan securitizations | $ | — | $ | — | $ | — | $ | 3,567 | $ | 3,330 | $ | 237 | |||||||
| Sale of on-balance sheet VIEs, net (1) | 527 | 47 | 480 | 334 | 89 | 245 | |||||||||||||
| Student loan sales (2) | 1,342 | 1,321 | 21 | 794 | 760 | 34 | |||||||||||||
| Non-cash dividend of FFELP Stafford/PLUS student loans (3) | 960 | 944 | 16 | — | — | — | |||||||||||||
| Non-cash dividend of insurance and benefit plan related investments | — | — | — | 346 | 346 | — | |||||||||||||
| Sale of basis swaps (4) | — | — | — | — | — | 5 | |||||||||||||
| Loans consolidated with SLM Corp entities | 361 | 361 | — | — | — | — | |||||||||||||
We will continue to securitize, sell, transfer or defease the GSE's assets throughout the Wind-Down Period. All intercompany transactions between the GSE and recognized a gainthe Company and its non-GSE subsidiaries have been eliminated in the Company's consolidated financial statements. In connection with the acquisition of $617 million.
AMS, SLM Corporation contributed to the GSE $40 million of assets, net of liabilities assumed. The assets contributed consisted primarily of student loans.
The following table shows the percentage of certain assets and income held by the GSE versus non-GSE as of and for the three months ended March 31, 2004.
| | Three months ended March 31, 2004 | |||
|---|---|---|---|---|
| | GSE | Non-GSE | ||
| Ending balance of on-balance sheet Private Credit Student Loans, net | 11% | 89% | ||
| Ending balance of on-balance sheet student loans, net | 29% | 71% | ||
| Ending balance of Managed student loans financed, net (1) | 17% | 83% | ||
| Ending balance of on-balance sheet assets | 28% | 72% | ||
| Average balance of on-balance sheet interest earning assets | 37% | 63% | ||
| Interest income | 36% | 64% | ||
| Fee income | 3% | 97% | ||
As described above, such transactions were among a group of related parties. Such transactions were conducted at estimated market value, which was determined using discounted cash flow models and other estimation techniques. Different assumptions or changes in future market conditions could significantly affect the estimates of fair value.
57
Average Balance Sheets—GSE
The following table reflects the GSE's taxable equivalent rates earned on interest earning assets and paid on interest bearing liabilities for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2003 | 2002 | 2003 | 2002 | ||||||||||||||||||
| | Balance | Rate | Balance | Rate | Balance | Rate | Balance | Rate | ||||||||||||||
| Average Assets | ||||||||||||||||||||||
| Federally insured student loans | $ | 29,765 | 3.27 | % | $ | 35,885 | 4.26 | % | $ | 32,679 | 3.54 | % | $ | 35,646 | 4.68 | % | ||||||
| Private credit student loans | 682 | 5.83 | 4,947 | 6.15 | 1,897 | 5.56 | 4,838 | 6.32 | ||||||||||||||
| Academic facilities financings and other loans | 728 | 6.33 | 1,044 | 6.13 | 792 | 6.28 | 1,294 | 5.66 | ||||||||||||||
| Investments | 3,067 | 3.08 | 3,888 | 2.90 | 3,471 | 3.18 | 4,428 | 3.24 | ||||||||||||||
| Total interest earning assets | 34,242 | 3.37 | % | 45,764 | 4.39 | % | 38,839 | 3.66 | % | 46,206 | 4.74 | % | ||||||||||
| Retained Interest in securitized receivables | 1,774 | 1,600 | 2,113 | 1,655 | ||||||||||||||||||
| Other non-interest earning assets | 1,943 | 1,665 | 1,581 | 1,851 | ||||||||||||||||||
| Total assets | $ | 37,959 | $ | 49,029 | $ | 42,533 | $ | 49,712 | ||||||||||||||
| Average Liabilities and Stockholders' Equity | ||||||||||||||||||||||
| Six month floating rate notes | $ | 3,087 | 1.06 | % | $ | 3,062 | 1.77 | % | $ | 2,987 | 1.17 | % | $ | 2,994 | 1.86 | % | ||||||
| Other short-term borrowings | 23,996 | 1.44 | 24,234 | 1.98 | 22,486 | 1.53 | 26,015 | 2.11 | ||||||||||||||
| Long-term notes | 6,045 | 2.91 | 18,002 | 2.91 | 12,669 | 2.43 | 17,094 | 3.07 | ||||||||||||||
| Total interest bearing liabilities | 33,128 | 1.68 | % | 45,298 | 2.33 | % | 38,142 | 1.80 | % | 46,103 | 2.45 | % | ||||||||||
| Non-interest bearing liabilities | 1,658 | 1,891 | 1,649 | 1,833 | ||||||||||||||||||
| Stockholders' equity | 3,173 | 1,840 | 2,742 | 1,776 | ||||||||||||||||||
| Total liabilities and stockholders' equity | $ | 37,959 | $ | 49,029 | $ | 42,533 | $ | 49,712 | ||||||||||||||
| Net interest margin | 1.75 | % | 2.08 | % | 1.89 | % | 2.30 | % | ||||||||||||||
| Securitized student loans | $ | 37,037 | $ | 32,705 | $ | 35,868 | $ | 31,790 | ||||||||||||||
58
| | Three months ended March 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||
| | Balance | Rate | Balance | Rate | ||||||||
| Average Assets | ||||||||||||
| Federally insured student loans | $ | 18,088 | 3.70 | % | $ | 35,259 | 5.04 | % | ||||
| Private Credit Student Loans | 1,265 | 4.64 | 2,907 | 5.30 | ||||||||
| Academic facilities financings and other loans | 688 | 6.12 | 855 | 6.23 | ||||||||
| Cash and investments | 3,017 | 3.39 | 3,778 | 3.14 | ||||||||
| Total interest earning assets | 23,058 | 3.79 | % | 42,799 | 4.91 | % | ||||||
Retained Interest in securitized receivables | — | 2,086 | ||||||||||
| Other non-interest earning assets | 1,264 | 1,454 | ||||||||||
| Total assets | $ | 24,322 | $ | 46,339 | ||||||||
Average Liabilities and Stockholders' Equity | ||||||||||||
| Six month floating rate notes | $ | 2,621 | 1.04 | % | $ | 2,887 | 1.27 | % | ||||
| Other short-term borrowings | 14,459 | 1.96 | 22,129 | 1.47 | ||||||||
| Long-term notes | 3,944 | 4.03 | 17,208 | 2.81 | ||||||||
| Total interest bearing liabilities | 21,024 | 2.23 | % | 42,224 | 2.00 | % | ||||||
Non-interest bearing liabilities | 1,525 | 1,734 | ||||||||||
| Stockholders' equity | 1,773 | 2,381 | ||||||||||
| Total liabilities and stockholders' equity | $ | 24,322 | $ | 46,339 | ||||||||
| Net interest margin | 1.75 | % | 2.93 | % | ||||||||
| Securitized student loans | $ | — | $ | 34,369 | ||||||||
OTHER RELATED EVENTS AND INFORMATION
InCongress reauthorizes the fourth quarter of 2002, the Company discovered an error with the annual calculation of monthly payment amounts associated with variable interest rate Stafford, SLS, and PLUS loans. The error has caused approximately 1.1 million of the Company's serviced student loan accounts to amortize too quickly or slowly, i.e., not in accordance with their repayment term. The Company took voluntary remedial action by crediting the affected borrowers' accounts and took a $9 million charge for servicing adjustments in the first quarter of 2003 for the estimated interest credit. Substantially all payment amounts have been reset to the correctly amortizing amount and substantially all affected borrowers have been notified.
The Company has reported this matter to the U.S. Department ofHigher Education (the "DOE") and has met with representatives of the DOE on several occasions to discuss the impact of the under-billing error on borrowers and the Company's remedial actions. The Company continues to discuss with the DOE the appropriateness of any further remedial actions.
A lawsuit that seeks class action status for borrowers affected by the monthly payment calculation was filed in California State Court in July 2003 against the Company and certain of its affiliates. The complaint asserts claims under the California Business and Professions Code and other California statutory sections. The complaint further seeks certain injunctive relief and restitution. The Company believes that this action is without merit.
On July 31, 2003, following the death of Colin McMillan, Chairman of the GSE Board of Directors, the White House announced that it appointed Duane Acklie of Lincoln, Nebraska as Chairman of the Board of the Student Loan Marketing Association. Mr. Acklie is chairman of the Acklie Companies, a privately held trucking and logistics company. He also serves on the Board of the First National Bank Northeast.
Act every five years. The Higher Education Act of 1965 (the "HEA") generally is reauthorized every six years. The HEA was last reauthorized in 1998 and expiredoriginally scheduled to expire on September 20, 2003. Under current law, however, the HEA will30, 2003, but by its terms was automatically extend throughextended to September 30, 2004. At this time, management understandsWe now expect that the reauthorizationCongress will actively debate provisions of the HEAHigher Education Act that govern the FFELP and the FDLP during 2004 and final action on the next reauthorization may be delayednot occur until 2005. In connection with the approaching reauthorization2005 (following another short extension of the HEA, several bills have been introducedcurrent Act).
As with past Higher Education Act reauthorizations, there are many legislative proposals being advanced by schools, industry participants and other interested stakeholders. Sallie Mae has joined the "Coalition for Better Student Loans," a group of organizations representing colleges, universities, financial aid administrators, parents and other loan providers that has advanced a series of proposals designed to strengthen federal student loan programs, including:
The Company is named asPresident's budget also contains proposals to increase first-year loan limits, expand extended repayment options for FFELP borrowers, mandate a defendant inone percent guaranty fee for borrowers, and phase out higher special allowance payments associated with certain tax-exempt student loan bonds. Other proposals have already been announced by Presidential hopefuls or introduced by Members of Congress, including proposals to provide financial incentives to schools to join the FDLP, repeal the "single holder rule," permit borrowers who already completed their higher education studies to refinance or reconsolidate previously consolidated loans, require lenders to win student loan contracts by bidding at an auction and eliminate floor income on variable rate student loans. Under the single holder rule, if only one lender holds all of a putative class action lawsuit brought by three Wisconsin residents on December 20, 2001 inborrower's loans, then another lender cannot consolidate the Superior Courtloans away from the current holder unless the current holder declines to consolidate loans for the Districtborrower or is unwilling to offer income-sensitive repayment terms. If the single holder rule is repealed, the Company's student loan portfolio could be subject to an increased level of Columbia. The lawsuit seeks to bring a nationwide class action on behalf of all borrowers who allegedly paid "undisclosed improper and excessive" late fees over the past three years. The plaintiffs sought damages of one thousand five hundred dollars per violation plus punitive damages and claimed that the class consisted of 2 million borrowers.consolidation activity. In addition, if the plaintiffs alleged thatreconsolidation proposal is enacted, the Company charged excessive interest by capitalizing interest quarterlycould experience a significant increase in violationrefinancing activity, which, in turn, would have a material adverse effect on the Company's financial condition and results of operations. If the student loan auction proposal is adopted, it could have a material adverse effect on the Company's student loan spread. Finally, enactment of the promissory note. On February 28, 2003, the Court grantedproposal to eliminate floor income would decrease the Company's motion to dismiss the complaintinterest income in its entirety. The plaintiffs appealed the trial court decision and filed its appellate brief. The Company filed an appellate brief on October 20, 2003. The appellate court has not yet scheduled oral arguments. Management believes that the case is without merit.certain interest rate environments.
On October 29, 2003, the Company signed an agreement to purchase Academic Management Services ("AMS"). AMS markets, originates, funds and services student loans and is a leading provider of student tuition payment plans. The purchase will include a $1.4 billion student loan portfolio. AMS will retain its brand and company identity and will become a wholly owned subsidiary of SLM Corporation. The transaction is expected to close in November, subject to regulatory approvals and other closing conditions.
59
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Sensitivity Analysis
The effect of short-term movements in interest rates on our results of operations and financial position has been limited through our interest rate risk management. The following tables summarize the effect on earnings for the three and nine months ended September 30,March 31, 2004 and 2003 and 2002 and the effect on fair values at September 30, 2003March 31, 2004 and December 31, 2002,2003, based upon a sensitivity analysis performed by us assuming a hypothetical increase in market interest rates of 100 basis points and 300 basis points while funding spreads remain constant. We have chosen to showillustrate the effects of a hypothetical increase toin interest rates, as an increase gives rise to a larger absolute value change to the financial statements. The effect on earnings was performed on our variable rate assets, liabilities and hedging instruments while the effect on fair values was performed on our fixed rate assets, liabilities and hedging instruments.
| | Three months ended September 30, 2003 | Three months ended September 30, 2002 | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Interest Rates: | Interest Rates: | |||||||||||||||||||
| | Change from increase of 100 basis points | Change from increase of 300 basis points | Change from increase of 100 basis points | Change from increase of 300 basis points | |||||||||||||||||
| (Dollars in millions, except per share amounts) | |||||||||||||||||||||
| $ | % | $ | % | $ | % | $ | % | ||||||||||||||
| Effect on Earnings | |||||||||||||||||||||
| Increase/(decrease) in pre-tax net income before SFAS No. 133 | $ | (22 | ) | (7 | )% | $ | (24 | ) | (8 | )% | $ | (31 | ) | (12 | )% | $ | (68 | ) | (26 | )% | |
| SFAS No. 133 change in fair value | 371 | 148 | 877 | 350 | 340 | 93 | 850 | 232 | |||||||||||||
| Increase in net income before taxes | $ | 349 | 63 | % | $ | 853 | 154 | % | $ | 309 | 292 | % | $ | 782 | 740 | % | |||||
| Increase in diluted earnings per share | $ | .488 | 47 | % | $ | 1.192 | 115 | % | $ | .436 | 308 | % | $ | 1.102 | 779 | % | |||||
| | Nine months ended September 30, 2003 | Nine months ended September 30, 2002 | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Interest Rates: | Interest Rates: | |||||||||||||||||||
| | Change from increase of 100 basis points | Change from increase of 300 basis points | Change from increase of 100 basis points | Change from increase of 300 basis points | |||||||||||||||||
| (Dollars in millions, except per share amounts) | |||||||||||||||||||||
| $ | % | $ | % | $ | % | $ | % | ||||||||||||||
| Effect on Earnings | |||||||||||||||||||||
| Increase/(decrease) in pre-tax net income before SFAS No. 133 | $ | (141 | ) | (10 | )% | $ | (147 | ) | (10 | )% | $ | (154 | ) | (15 | )% | $ | (216 | ) | (22 | )% | |
| SFAS No. 133 change in fair value | 371 | 111 | 877 | 262 | 340 | 134 | 850 | 334 | |||||||||||||
| Increase in net income before taxes | $ | 230 | 13 | % | $ | 730 | 41 | % | $ | 186 | 25 | % | $ | 634 | 85 | % | |||||
| Increase in diluted earnings per share | $ | .321 | 12 | % | $ | 1.021 | 38 | % | $ | .254 | 25 | % | $ | 0.866 | 87 | % | |||||
60
| | Three months ended March 31, | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||||||||||||||||
| | Interest Rates: | Interest Rates: | |||||||||||||||||||
| | Change from increase of 100 basis points | Change from increase of 300 basis points | Change from increase of 100 basis points | Change from increase of 300 basis points | |||||||||||||||||
| | $ | % | $ | % | $ | % | $ | % | |||||||||||||
| (Dollars in millions, except per share amounts) | | | | | | | | | |||||||||||||
| Effect on Earnings | |||||||||||||||||||||
| Increase/(decrease) in pre-tax net income before unrealized derivative market value adjustment | $ | (2 | ) | (1 | )% | $ | 27 | 9 | % | $ | (57 | ) | (11 | )% | $ | (66 | ) | (12 | )% | ||
| Unrealized derivative market value adjustment | 382 | 383 | 844 | 847 | 345 | 301 | 825 | 721 | |||||||||||||
| Increase in net income before taxes | $ | 380 | 100 | % | $ | 871 | 229 | % | $ | 288 | 45 | % | $ | 759 | 118 | % | |||||
| Increase in diluted earnings per share | $ | .547 | 86 | % | $ | 1.253 | 196 | % | $ | .396 | 45 | % | $ | 1.050 | 119 | % | |||||
| | At March 31, 2004 | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Interest Rates: | |||||||||||||
| | | Change from increase of 100 basis points | Change from Increase of 300 basis points | ||||||||||||
| | Fair Value | $ | % | $ | �� | % | |||||||||
| (Dollars in millions) | | ||||||||||||||
| Effect on Fair Values | |||||||||||||||
| Assets | |||||||||||||||
| Student loans | $ | 56,093 | $ | (449 | ) | (1 | )% | $ | (973 | ) | (2 | )% | |||
| Other earning assets | 12,751 | (108 | ) | (1 | ) | (303 | ) | (2 | ) | ||||||
| Other assets | 6,205 | (692 | ) | (11 | ) | (1,070 | ) | (17 | ) | ||||||
| Total assets | $ | 75,049 | $ | (1,249 | ) | (2 | )% | $ | (2,346 | ) | (3 | )% | |||
Liabilities | |||||||||||||||
| Interest bearing liabilities | $ | 68,034 | $ | (1,122 | ) | (2 | )% | $ | (3,100 | ) | (5 | )% | |||
| Other liabilities | 3,044 | 105 | 3 | 1,209 | 40 | ||||||||||
| Total liabilities | $ | 71,078 | $ | (1,017 | ) | (1 | )% | $ | (1,891 | ) | (3 | )% | |||
| | At September 30, 2003 | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Interest Rates: | |||||||||||||
| | | Change from increase of 100 basis points | Change from increase of 300 basis points | ||||||||||||
| (Dollars in millions) | | ||||||||||||||
| Fair Value | $ | % | $ | % | |||||||||||
| Effect on Fair Values | |||||||||||||||
| Assets | |||||||||||||||
| Student loans | $ | 48,520 | $ | (758 | ) | (2 | )% | $ | (1,661 | ) | (3 | )% | |||
| Other earning assets | 8,537 | (99 | ) | (1 | ) | (275 | ) | (3 | ) | ||||||
| Other assets | 5,775 | (470 | ) | (8 | ) | (854 | ) | (15 | ) | ||||||
| Total assets | $ | 62,832 | $ | (1,327 | ) | (2 | )% | $ | (2,790 | ) | (4 | )% | |||
| Liabilities | |||||||||||||||
| Interest bearing liabilities | $ | 54,734 | $ | (791 | ) | (1 | )% | $ | (2,201 | ) | (4 | )% | |||
| Other liabilities | 3,038 | 62 | 2 | 600 | 20 | ||||||||||
| Total liabilities | $ | 57,772 | $ | (729 | ) | (1 | )% | $ | (1,601 | ) | (3 | )% | |||
| | At December 31, 2002 | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Interest Rates: | |||||||||||||
| | | Change from increase of 100 basis points | Change from increase of 300 basis points | ||||||||||||
| (Dollars in millions) | | ||||||||||||||
| Fair Value | $ | % | $ | % | |||||||||||
| Effect on Fair Values | |||||||||||||||
| Assets | |||||||||||||||
| Student loans | $ | 44,718 | $ | (497 | ) | (1 | )% | $ | (1,100 | ) | (2 | )% | |||
| Other earning assets | 6,248 | (104 | ) | (2 | ) | (279 | ) | (4 | ) | ||||||
| Other assets | 4,643 | (391 | ) | (8 | ) | (693 | ) | (15 | ) | ||||||
| Total assets | $ | 55,609 | $ | (992 | ) | (2 | )% | $ | (2,072 | ) | (4 | )% | |||
| Liabilities | |||||||||||||||
| Interest bearing liabilities | $ | 48,974 | $ | (418 | ) | — | % | $ | (1,221 | ) | (1 | )% | |||
| Other liabilities | 3,063 | (326 | ) | (17 | ) | (588 | ) | (38 | ) | ||||||
| Total liabilities | $ | 52,037 | $ | (744 | ) | (1 | )% | $ | (1,809 | ) | (3 | )% | |||
| | At December 31, 2003 | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Interest Rates: | |||||||||||||
| | | Change from increase of 100 basis points | Change from Increase of 300 basis points | ||||||||||||
| | Fair Value | $ | % | $ | % | ||||||||||
| (Dollars in millions) | | ||||||||||||||
| Effect on Fair Values | |||||||||||||||
| Assets | |||||||||||||||
| Student loans | $ | 51,559 | $ | (399 | ) | (1 | )% | $ | (870 | ) | (2 | )% | |||
| Other earning assets | 9,085 | (112 | ) | (1 | ) | (309 | ) | (3 | ) | ||||||
| Other assets | 5,531 | (543 | ) | (10 | ) | (839 | ) | (15 | ) | ||||||
| Total assets | $ | 66,175 | $ | (1,054 | ) | (2 | )% | $ | (2,018 | ) | (3 | )% | |||
Liabilities | |||||||||||||||
| Interest bearing liabilities | $ | 58,993 | $ | (1,458 | ) | (2 | )% | $ | (3,630 | ) | (6 | )% | |||
| Other liabilities | 3,437 | 610 | 18 | 1,979 | 58 | ||||||||||
| Total liabilities | $ | 62,430 | $ | (848 | ) | (1 | )% | $ | (1,651 | ) | (3 | )% | |||
The Company follows a policyA primary objective in our funding is to minimize itsour sensitivity to changing interest rates by generally funding itsour floating rate student loan portfolio with floating rate debt. However, as discussed under "Student Loans-Floor Income and Student Loan Loans—Floor Income, Contracts," in the current low interest rate environment, we can have a fixed versus floating mismatch in funding as the FFELP student loan portfolio is earning Floor Income from the reduction in the variable rate liabilities funding student loansearns at the fixed borrower rate.rate and the funding remains floating. Therefore, absent other hedges, in a low interest rate environment, the hypothetical rise in interest rates in the above table has a greater adverse effect on earnings and fair values due to the reduction in potential Floor Income than in higher interest rate environments where the interest rate formula rises above the borrower rate and the student loans become a floating rate asset that is matched with floating rate debt.
During the three and nine months ended September 30, 2003,March 31, 2004, certain FFELP student loans were earning Floor Income and we locked-in a portion of that Floor Income through the use of futures and Floor Income and futures contracts that convertedContracts. The result of these hedging transactions was to convert a portion of floating rate debt into fixed rate debt, to matchmatching the fixed rate nature of the student loans earning atand fixing the relative spread between the student loan asset rate and the converted fixed borrower rate. The effect onrate liability.
In the above table under the scenario where interest rates increase 100 basis points, the decrease in pre-tax net income before SFAS No. 133 change in fair value is mainly due to the effect of raising interest rates onreflects lower Floor Income and
61
futures contracts that do not qualify for hedge accounting treatment. (See "Effectson the unhedged portion of SFAS No. 133—Derivative Accounting.")
our student loan portfolio. Under the scenario where interest rates increase 300 basis points, the change in pre-tax net income before SFAS No. 133 is not proportional to the change under the scenario where interest rates increase 100 basis points. This is due to a greater percentagepoints because of loans earning at a floating rate and the additional spread earned on loans hedged with futures and Floor Income Contractsswaps mentioned above.above and the greater proportion of loans earning at a floating rate under a 300 basis point increase in rates.
Item 4. Controls and Procedures
The Company carried out an evaluation, as required by the Securities Exchange Act of 1934 (the "Exchange Act") Rule 13a-15(b), under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer, Executive Vice President, Finance and Executive Vice President, Accounting and Risk Management, of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of the end of the period covered by this report.
Disclosure controls and procedures include internal controls and other procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act, such as this QuarterlyAnnual Report, is properly recorded, processed, summarized and reported within the time periods required by the Securities and Exchange Commission's (the "SEC") rules and forms. Management does not expect that its disclosure controls and procedures will prevent all errors and fraud. A control system, irrespective of how well it is designed and operated, can only provide reasonable assurance—and cannot guarantee—that it will succeed in its stated objectives.
We monitor our disclosure controls and procedures and our internal controls and make modifications as necessary. By monitoring our control systems, we intend that they be maintained as dynamic systems that change as conditions warrant. The evaluation of our disclosure controls and procedures as of the end of the period covered by this report is performed on a quarterly basis so that the conclusions of management (including the Chief Executive Officer, Executive Vice President, Finance and Executive Vice President, Accounting and Risk Management) concerning controls effectiveness can be reported in our Quarterly Reports on Form 10-Q and Annual Reports on Form 10-K. In addition, our disclosure controls and procedures are evaluated on an ongoing basis by our internal auditors, and by our Corporate Finance and Corporate Accounting Departments. As a result of such ongoing evaluations, we periodically make changes to our disclosure controls and procedures to improve the quality of our financial statements and related disclosures, including corrective actionsdisclosures. Since the date of the last evaluation, we have taken, and continue to respondtake, steps to identified reportable conditions.improve the design and operation of our internal controls.
Based upon their evaluation, the Chief Executive Officer, Executive Vice President, Finance and Executive Vice President, Accounting and Risk Management, concluded that, as of the end of the period covered by this report, our disclosure controls and procedures are effective in timely alerting them to material information and in providing reasonable assurance that our financial statements are fairly presented in conformity with generally accepted accounting principles. In addition, during the period covered by this quarterly report, there have been no changes to our internal controlcontrols over financial reporting that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.
62
The Company and various affiliates were defendants in a lawsuit brought by College Loan Corporation ("CLC") in the United States District Court for the Eastern District of Virginia alleging various breach of contract and common law tort claims in connection with CLC's consolidation loan activities. The Complaint sought compensatory damages of at least $60,000,000.$60 million.
In June 2003, the Court granted the Company's motion for summary judgment on CLC's claims for conversion and civil conspiracy. On June 25, 2003, after five days of trial, the jury returned a verdict in favor of the Company on all remaining counts. CLC has since filed a noticean appeal. All appellate briefing has been completed and oral argument has been scheduled before the U.S. Court of appeal and its initial brief was filedAppeals for the Fourth Circuit on November 10, 2003.June 4, 2004.
The Company iswas named as a defendant in a putative class action lawsuit brought by three Wisconsin residents on December 20, 2001 in the Superior Court for the District of Columbia. The lawsuit seekssought to bring a nationwide class action on behalf of all borrowers who allegedly paid "undisclosed improper and excessive" late fees over the past three years. The plaintiffs sought damages of one thousand five hundred dollars per violation plus punitive damages and claimed that the class consisted of 2 million borrowers. In addition, the plaintiffs alleged that the Company charged excessive interest by capitalizing interest quarterly in violation of the promissory note. On February 28, 2003, the Court granted the Company's motion to dismiss the complaint in its entirety. The plaintiffs appealed the trial court decision. All appellate briefing has been completed and oral argument was held in April 2004. No decision has been issued on the appeal as of this date.
In July 2003, a borrower in California filed a class action complaint against the Company and filedcertain of its appellate brief.affiliates in state court in San Francisco in connection with a monthly payment amortization error discovered by the Company in the fourth quarter of 2002 (see "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS—OTHER RELATED EVENTS AND INFORMATION"). The complaint asserts claims under the California Business and Professions Code and other California statutory provisions. The complaint further seeks certain injunctive relief and restitution.
The Company, together with a number of other FFELP industry participants, filed a lawsuit challenging the DOE's interpretation of and non-compliance with provisions in the HEA governing origination fees and repayment incentives on loans made under the FDLP. The lawsuit, which was filed November 3, 2000 in the United States District Court for the District of Columbia, alleges that the Department's interpretations of and non-compliance with these statutory provisions are contrary to the statute's unambiguous text, and are arbitrary, capricious, an appellate brief on October 20, 2003.abuse of discretion, or otherwise not in accordance with law, and violate both the HEA and the Administrative Procedure Act. The appellate courtCompany together with the other plaintiffs and the DOE have filed cross-motions for summary judgment. The Court has not yet scheduled oral arguments.ruled on these motions.
The Company has cooperated with the SEC concerning an informal investigation that the SEC initiated on January 14, 2004. There are currently no data requests outstanding and the SEC has not sought to interview any additional witnesses. The investigation concerns certain 2003 year-end accounting entries made by employees of one of the Company's debt collection agency subsidiaries. The Company's Audit Committee engaged outside counsel to investigate the matter and management conducted its own investigation. These investigations by the Audit Committee and management have been completed and the amounts in question were less than $100,000.
We are also subject to various claims, lawsuits and other actions that arise in the normal course of business. Most of these matters are claims by borrowers disputing the manner in which their loans have been processed. Management believes that the case is without merit.these claims, lawsuits and other actions will not have a material adverse effect on our business, financial condition or results of operations.
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities
NothingThe following table summarizes the Company's common share repurchases during the first quarter of 2004 pursuant to report.the stock repurchase program first authorized in September 1997 by the Board of Directors. Since the inception of the program, the Board of Directors have authorized the purchase of up to 227.5 million shares.
| (Common shares in millions) | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs(1) | |||||
|---|---|---|---|---|---|---|---|---|---|
| Period: | |||||||||
| January 1—January 31, 2004 | 6.5 | $ | 30.44 | 6.5 | 36.6 | ||||
| February 1—February 29, 2004 | 2.1 | 33.64 | 2.1 | 34.8 | |||||
| March 1—March 31, 2004 | — | — | — | 34.2 | |||||
| Total | 8.6 | $ | 31.26 | 8.6 | |||||
Item 3. Defaults Upon Senior Securities
Nothing to report.
Item 4. Submission of Matters to a Vote of Security Holders
Nothing to report.
Nothing to report.
Item 6. Exhibits and Reports on Form 8-K
Attached as Exhibit 3.2 are the Company's amended By-laws. The Company's By-laws provide that the By-laws may be amended by the Board of Directors and that any amendments will become effective on the date of the next shareholder meeting provided that notice is provided to shareholders before the date of the meeting.
The amendment will change the definition of "independence" for members of the Board of Directors of the Company to comply with the listing requirements of the New York Stock Exchange. Certain, more restrictive criteria established by the Board continues in effect, as well.
The amendment will provide that a director will not be considered independent if, within the preceding three years, the director or their immediate family members have certain relationships with the Company, the Company's internal or external auditor, a significant supplier or customer of the Company, a charitable organization to which the Company makes contributions or certain interlocking compensation committee relationships.
| 3.2 | By-Laws of the Registrant | |
| 31.1 | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
31.2 | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
31.3 | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
32.1 | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
32.2 | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
| 32.3 |
63
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | ||
99 | Selected Financial Data |
64
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
| SLM CORPORATION (Registrant) | ||||
By: | /s/ C.E. ANDREWS C.E. Andrews Executive Vice President, Accounting and Risk Management (Principal Accounting Officer and Duly Authorized Officer) | |||
Date: November 12, 2003May 10, 2004
65
STUDENT LOAN MARKETING ASSOCIATION
CONSOLIDATED FINANCIAL STATEMENTS
INDEX
INDEX
| |
|---|
| Consolidated Balance Sheets |
| Consolidated Statements of Income |
| Consolidated Statements of Changes in Stockholder's Equity |
| Consolidated Statements of Cash Flows |
| Notes to Consolidated Financial Statements |
A-1
STUDENT LOAN MARKETING ASSOCIATION
CONSOLIDATED BALANCE SHEETS
(Dollars and shares in thousands, except per share amounts)
| | | September 30, 2003 | December 31, 2002 | | March 31, 2004 | December 31, 2003 | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | (Unaudited) | | | (Unaudited) | | ||||||||
| Assets | Assets | Assets | ||||||||||||
| Federally insured student loans (net of allowance for losses of $29,697 and $31,719, respectively) | $ | 26,432,123 | $ | 34,189,249 | ||||||||||
| Private credit student loans (net of allowance for losses of $17,907 and $77,425, respectively) | 748,297 | 2,629,635 | ||||||||||||
| Federally insured student loans (net of allowance for losses of $12,472 and $19,324 respectively) | Federally insured student loans (net of allowance for losses of $12,472 and $19,324 respectively) | $ | 15,520,830 | $ | 19,530,669 | |||||||||
| Private Credit Student Loans (net of allowance for losses of $7,698 and $10,655, respectively) | Private Credit Student Loans (net of allowance for losses of $7,698 and $10,655, respectively) | 443,082 | 1,020,880 | |||||||||||
| Academic facilities financings and other loans | Academic facilities financings and other loans | 743,192 | 895,582 | Academic facilities financings and other loans | 696,313 | 691,303 | ||||||||
| Investments | Investments | Investments | ||||||||||||
| Trading | — | 175 | Available-for-sale | 2,463,633 | 2,517,805 | |||||||||
| Available-for-sale | 2,788,972 | 3,331,670 | Other | 139,759 | 115,834 | |||||||||
| Other | 96,795 | 452,095 | ||||||||||||
| Total investments | Total investments | 2,885,767 | 3,783,940 | Total investments | 2,603,392 | 2,633,639 | ||||||||
| Cash and cash equivalents | Cash and cash equivalents | 264,819 | 410,503 | Cash and cash equivalents | 121,851 | 531,880 | ||||||||
| Retained Interest in securitized receivables | 1,436 | 2,068,076 | ||||||||||||
| Restricted cash and investments | Restricted cash and investments | 279,685 | 254,925 | |||||||||||
| Other assets | Other assets | 689,378 | 1,688,803 | Other assets | 484,974 | 685,268 | ||||||||
| Total assets | Total assets | $ | 31,765,012 | $ | 45,665,788 | Total assets | $ | 20,150,127 | $ | 25,348,564 | ||||
| Liabilities | Liabilities | Liabilities | ||||||||||||
| Short-term borrowings | Short-term borrowings | $ | 22,209,071 | $ | 24,404,636 | Short-term borrowings | $ | 14,440,356 | $ | 16,946,615 | ||||
| Long-term notes | Long-term notes | 4,612,294 | 16,446,818 | Long-term notes | 2,842,385 | 4,781,606 | ||||||||
| Other liabilities | Other liabilities | 2,595,853 | 2,528,563 | Other liabilities | 1,685,033 | 1,773,330 | ||||||||
| Total liabilities | Total liabilities | 29,417,218 | 43,380,017 | Total liabilities | 18,967,774 | 23,501,551 | ||||||||
| Commitments and contingencies | Commitments and contingencies | Commitments and contingencies | ||||||||||||
Stockholder's equity | Stockholder's equity | Stockholder's equity | ||||||||||||
| Common stock, par value $.20 per share, 250,000 shares authorized: 6,001 shares issued and outstanding | Common stock, par value $.20 per share, 250,000 shares authorized: 6,001 shares issued and outstanding | 1,200 | 1,200 | Common stock, par value $.20 per share, 250,000 shares authorized: 6,001 shares issued and outstanding | 1,200 | 1,200 | ||||||||
| Additional paid-in capital | Additional paid-in capital | 298,788 | 298,788 | Additional paid-in capital | 338,793 | 338,793 | ||||||||
| Accumulated other comprehensive income (net of tax of $115,470 and $355,949, respectively) | 214,445 | 661,049 | ||||||||||||
| Accumulated other comprehensive income (net of tax of $110,455 and $112,657, respectively) | Accumulated other comprehensive income (net of tax of $110,455 and $112,657, respectively) | 205,131 | 209,221 | |||||||||||
| Retained earnings | Retained earnings | 1,833,361 | 1,324,734 | Retained earnings | 637,229 | 1,297,799 | ||||||||
| Total stockholder's equity | Total stockholder's equity | 2,347,794 | 2,285,771 | Total stockholder's equity | 1,182,353 | 1,847,013 | ||||||||
| Total liabilities and stockholder's equity | Total liabilities and stockholder's equity | $ | 31,765,012 | $ | 45,665,788 | Total liabilities and stockholder's equity | $ | 20,150,127 | $ | 25,348,564 | ||||
See accompanying notes to consolidated financial statements.
A-2
STUDENT LOAN MARKETING ASSOCIATION
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except share and per share amounts)
(Unaudited)
| | | Three months ended September 30, | Nine months ended September 30, | | Three months ended March 31, | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | 2003 | 2002 | 2003 | 2002 | | 2004 | 2003 | ||||||||||||||
| | | (Unaudited) | (Unaudited) | (Unaudited) | (Unaudited) | | (Unaudited) | (Unaudited) | ||||||||||||||
| Interest income: | Interest income: | Interest income: | ||||||||||||||||||||
| Federally insured student loans | $ | 245,464 | $ | 385,727 | $ | 864,857 | $ | 1,247,021 | Federally insured student loans | $ | 166,549 | $ | 438,045 | |||||||||
| Private credit student loans | 10,013 | 76,634 | 78,890 | 228,754 | Private Credit Student Loans | 14,611 | 37,960 | |||||||||||||||
| Academic facilities financings and other loans | 10,384 | 14,072 | 33,004 | 47,739 | Academic facilities financings and other loans | 9,411 | 11,549 | |||||||||||||||
| Investments | 23,549 | 22,457 | 79,795 | 95,700 | Investments | 25,245 | 26,996 | |||||||||||||||
| Total interest income | Total interest income | 289,410 | 498,890 | 1,056,546 | 1,619,214 | Total interest income | 215,816 | 514,550 | ||||||||||||||
Interest expense: | Interest expense: | Interest expense: | ||||||||||||||||||||
| Short-term debt | 95,586 | 134,601 | 284,228 | 451,366 | Short-term debt | 77,162 | 89,293 | |||||||||||||||
| Long-term debt | 44,314 | 131,986 | 230,147 | 392,814 | Long-term debt | 39,558 | 119,371 | |||||||||||||||
| Total interest expense | Total interest expense | 139,900 | 266,587 | 514,375 | 844,180 | Total interest expense | 116,720 | 208,664 | ||||||||||||||
| Net interest income | Net interest income | 149,510 | 232,303 | 542,171 | 775,034 | Net interest income | 99,096 | 305,886 | ||||||||||||||
| Less: provision for losses | Less: provision for losses | 9,956 | 29,147 | 39,929 | 72,171 | Less: provision for losses | 12,793 | 13,260 | ||||||||||||||
| Net interest income after provision for losses | Net interest income after provision for losses | 139,554 | 203,156 | 502,242 | 702,863 | Net interest income after provision for losses | 86,303 | 292,626 | ||||||||||||||
| Other income: | Other income: | Other income: | ||||||||||||||||||||
| Gains on student loan securitizations | 36,116 | 17,819 | 500,904 | 75,838 | Gains on student loan securitizations | — | 236,637 | |||||||||||||||
| Securitization revenue | (19,463 | ) | 50,511 | 99,591 | 291,370 | Securitization revenue | — | 112,672 | ||||||||||||||
| Gains on sales to SLM Corporation | 1,101,868 | 29,380 | 1,738,143 | 57,033 | Gains on sales to SLM Corporation | 516,861 | 283,809 | |||||||||||||||
| Losses on sales of securities, net | (4,385 | ) | (45,347 | ) | (79,390 | ) | (177,008 | ) | Losses on sales of securities, net | (437 | ) | (10,229 | ) | |||||||||
| Derivative market value adjustment | 175,557 | (367,159 | ) | 353,881 | (255,762 | ) | Derivative market value adjustment | (94,112 | ) | (79,656 | ) | |||||||||||
| Other | 17,269 | 35,958 | 51,759 | 97,887 | Other | 5,266 | 18,378 | |||||||||||||||
| Total other income (loss) | 1,306,962 | (278,838 | ) | 2,664,888 | 89,358 | |||||||||||||||||
| Total other income | Total other income | 427,578 | 561,611 | |||||||||||||||||||
| Operating expenses: | Operating expenses: | Operating expenses: | ||||||||||||||||||||
| Related party agreements | 90,874 | 69,031 | 221,569 | 149,002 | Related party agreements | 55,531 | 66,127 | |||||||||||||||
| Other | (3,332 | ) | 8,262 | (10,411 | ) | 28,909 | Other | (652 | ) | 571 | ||||||||||||
| Total operating expenses | Total operating expenses | 87,542 | 77,293 | 211,158 | 177,911 | Total operating expenses | 54,879 | 66,698 | ||||||||||||||
| Income (loss) before income taxes | 1,358,974 | (152,975 | ) | 2,955,972 | 614,310 | |||||||||||||||||
| Income taxes (benefit) | 472,750 | (60,647 | ) | 1,024,297 | 205,765 | |||||||||||||||||
| Income before income taxes | Income before income taxes | 459,002 | 787,539 | |||||||||||||||||||
| Income taxes | Income taxes | 159,600 | 271,318 | |||||||||||||||||||
| Net income (loss) | $ | 886,224 | $ | (92,328 | ) | $ | 1,931,675 | $ | 408,545 | |||||||||||||
| Net income | Net income | $ | 299,402 | $ | 516,221 | |||||||||||||||||
| Basic and diluted earnings (loss) per common share | $ | 148 | $ | (15 | ) | $ | 322 | $ | 68 | |||||||||||||
Basic and diluted earnings per common share | Basic and diluted earnings per common share | $ | 50 | $ | 86 | |||||||||||||||||
| Average common shares outstanding and common equivalent shares outstanding | Average common shares outstanding and common equivalent shares outstanding | 6,001,000 | 6,001,000 | 6,001,000 | 6,001,000 | Average common shares outstanding and common equivalent shares outstanding | 6,001,000 | 6,001,000 | ||||||||||||||
See accompanying notes to consolidated financial statements.
A-3
STUDENT LOAN MARKETING ASSOCIATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
(Dollars in thousands)
(Unaudited)
| | Common Stock Shares | | | Accumulated Other Comprehensive Income (Loss) | | | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Common Stock | Additional Paid-In Capital | Retained Earnings | Total Stockholder's Equity | ||||||||||||||||||
| | Issued | Outstanding | ||||||||||||||||||||
| Balance at June 30, 2002 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 298,788 | $ | 537,130 | $ | 1,045,910 | $ | 1,883,028 | ||||||||||
| Comprehensive income: | ||||||||||||||||||||||
| Net income | (92,328 | ) | (92,328 | ) | ||||||||||||||||||
| Other comprehensive income, net of tax: | ||||||||||||||||||||||
| Change in unrealized gains (losses) on investments, net of tax | 137,982 | 137,982 | ||||||||||||||||||||
| Change in unrealized gains (losses) on derivatives, net of tax | 577 | 577 | ||||||||||||||||||||
| Comprehensive income | 46,231 | |||||||||||||||||||||
| Dividend: | ||||||||||||||||||||||
| Common stock | (22,072 | ) | (22,072 | ) | ||||||||||||||||||
| Balance at September 30, 2002 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 298,788 | $ | 675,689 | $ | 931,510 | $ | 1,907,187 | ||||||||||
| Balance at June 30, 2003 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 298,788 | $ | 740,138 | $ | 2,023,922 | $ | 3,064,048 | ||||||||||
| Comprehensive income: | ||||||||||||||||||||||
| Net income | 886,224 | 886,224 | ||||||||||||||||||||
| Other comprehensive income, net of tax: | ||||||||||||||||||||||
| Change in unrealized gains (losses) on investments, net of tax | (527,106 | ) | (527,106 | ) | ||||||||||||||||||
| Change in unrealized gains (losses) on derivatives, net of tax | 1,413 | 1,413 | ||||||||||||||||||||
| Comprehensive income | 360,531 | |||||||||||||||||||||
| Dividend: | ||||||||||||||||||||||
| Student loans | (1,076,785 | ) | (1,076,785 | ) | ||||||||||||||||||
| Balance at September 30, 2003 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 298,788 | $ | 214,445 | $ | 1,833,361 | $ | 2,347,794 | ||||||||||
| | Common Stock Shares | | | Accumulated Other Comprehensive Income (Loss) | | | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Common Stock | Additional Paid-In Capital | Retained Earnings | Total Stockholder's Equity | ||||||||||||||||||
| | Issued | Outstanding | ||||||||||||||||||||
| Balance at December 31, 2002 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 298,788 | $ | 661,049 | $ | 1,324,734 | $ | 2,285,771 | ||||||||||
| Comprehensive income: | ||||||||||||||||||||||
| Net income | 516,221 | 516,221 | ||||||||||||||||||||
| Other comprehensive income, net of tax: | ||||||||||||||||||||||
| Change in unrealized gains (losses) on investments, net of tax | (7,385 | ) | (7,385 | ) | ||||||||||||||||||
| Change in unrealized gains (losses) on derivatives, net of tax | 1,239 | 1,239 | ||||||||||||||||||||
| Comprehensive income | 510,075 | |||||||||||||||||||||
| Dividends: | ||||||||||||||||||||||
| Insurance and benefit plan related investments | (346,263 | ) | (346,263 | ) | ||||||||||||||||||
| Balance at March 31, 2003 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 298,788 | $ | 654,903 | $ | 1,494,692 | $ | 2,449,583 | ||||||||||
| Balance at December 31, 2003 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 338,793 | $ | 209,221 | $ | 1,297,799 | $ | 1,847,013 | ||||||||||
| Comprehensive income: | ||||||||||||||||||||||
| Net income | 299,402 | 299,402 | ||||||||||||||||||||
| Other comprehensive income, net of tax: | ||||||||||||||||||||||
| Change in unrealized gains (losses) on investments, net of tax | (4,849 | ) | (4,849 | ) | ||||||||||||||||||
| Change in unrealized gains (losses) on derivatives, net of tax | 1,117 | 1,117 | ||||||||||||||||||||
| Change in minimum pension liability adjustment | (358 | ) | (358 | ) | ||||||||||||||||||
| Comprehensive income | 295,312 | |||||||||||||||||||||
| Dividends: | ||||||||||||||||||||||
| Student loans | (959,972 | ) | (959,972 | ) | ||||||||||||||||||
| Balance at March 31, 2004 | 6,001,000 | 6,001,000 | $ | 1,200 | $ | 338,793 | $ | 205,131 | $ | 637,229 | $ | 1,182,353 | ||||||||||
See accompanying notes to consolidated financial statements.
A-4
See accompanying notes to consolidated financial statements. 1. Significant Accounting Policies Basis of Presentation The accompanying unaudited consolidated financial statements of the Student Loan Marketing Association ("SLMA" or the "GSE") have been prepared in accordance with generally accepted accounting principles in the United States of America ("GAAP") for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP in the United States of America for complete consolidated financial statements. In the opinion of management, all adjustments considered necessary for a fair statement have been included. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Operating results for the three SLMA purchases student loans from originating lenders. SLMA's portfolio consists principally of loans originated under two federally sponsored programs—the Federal Family Education Loan Program ("FFELP") and the Health Education Assistance Loan Program ("HEAL"). SLMA also purchases The following table reflects the distribution of SLMA's student loan portfolio by program as of At The provision for Student Loan programs. SLMA uses this data in internally developed SLMA's loss estimates include losses that SLMA expects to incur over the loss confirmation period, which is the period of the highest concentration of defaults. The loss confirmation period is 5 years for higher education loans beginning when the borrower leaves school. The loss confirmation period is in alignment with SLMA's typical collection cycle and Private Credit Student Loan principal and accrued interest is charged off against the allowance The following table summarizes changes in the allowance for student loan losses for SLMA The table below When SLMA sold student loans in securitizations prior to September 30, 2003, it retained a Residual of these future transactions. Gains or losses realized at the settlement of these future transactions will continue to be based upon the carrying amount of the financial assets involved in the transfer, allocated between the assets sold and the Retained Interests based on their relative fair values at the date of transfer, as they have with past transactions. The following STUDENT LOAN MARKETING ASSOCIATIONCONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY(Dollars in thousands)(Unaudited) Common Stock Shares Accumulated
Other
Comprehensive
Income (Loss) Common
Stock Additional
Paid-In
Capital Retained
Earnings Total
Stockholder's
Equity Issued Outstanding Balance at December 31, 2001 6,001,000 6,001,000 $ 1,200 $ 298,800 $ 670,416 $ 545,037 $ 1,515,453 Comprehensive income: Net income 408,545 408,545 Other comprehensive income, net of tax: Change in unrealized gains (losses) on investments, net of tax (24,811 ) (24,811 ) Change in unrealized gains (losses) on derivatives, net of tax 30,084 30,084 Comprehensive income 413,818 Dividend: Common stock (22,072 ) (22,072 ) Redemption of preferred stock (12 ) (12 ) Balance at September 30, 2002 6,001,000 6,001,000 $ 1,200 $ 298,788 $ 675,689 $ 931,510 $ 1,907,187 Balance at December 31, 2002 6,001,000 6,001,000 $ 1,200 $ 298,788 $ 661,049 $ 1,324,734 $ 2,285,771 Comprehensive income: Net income 1,931,675 1,931,675 Other comprehensive income, net of tax: Change in unrealized gains (losses) on investments, net of tax (452,734 ) (452,734 ) Change in unrealized gains (losses) on derivatives, net of tax 6,130 6,130 Comprehensive income 1,485,071 Dividend: Insurance and benefit plan related investments (346,263 ) (346,263 ) Student loans (1,076,785 ) (1,076,785 ) Balance at September 30, 2003 6,001,000 6,001,000 $ 1,200 $ 298,788 $ 214,445 $ 1,833,361 $ 2,347,794 See accompanying notes to consolidated financial statements.A-5
STUDENT LOAN MARKETING ASSOCIATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(Unaudited) Nine months ended September 30, Three months ended
March 31, 2003 2002 2004 2003 Operating activities Operating activities Operating activities Net income Net income $ 1,931,675 $ 408,545 Net income $ 299,402 $ 516,221 Adjustments to reconcile net income to net cash provided by operating activities: Adjustments to reconcile net income to net cash provided by operating activities: Adjustments to reconcile net income to net cash provided by operating activities: Gains on student loan securitizations (500,904 ) (75,838 ) Gains on student loan securitizations — (236,637 ) Gains on sales to SLM Corporation (1,738,143 ) (57,033 ) Gains on sales to SLM Corporation (516,861 ) (283,809 ) Losses on sales of securities, net 79,390 177,008 Losses on sales of securities, net — 69,017 Derivative market value adjustment (353,881 ) 255,762 Unrealized derivative market value adjustment (99,350 ) (140,626 ) Provision for losses 39,929 72,171 Provision for losses 12,793 13,260 Decrease (increase) in accrued interest receivable 41,365 (65,543 ) Increase in restricted cash (24,736 ) (3,512 ) (Decrease) in accrued interest payable (51,825 ) (48,168 ) (Increase) decrease in accrued interest receivable (64,510 ) 94,668 Decrease in Retained Interest in securitized receivables 18,835 110,530 (Decrease) increase in accrued interest payable (9,369 ) 6,826 Decrease (increase) in other assets 24,215 (4,766 ) Decrease in Retained Interest in securitized receivables — 68,330 Increase (decrease) in other liabilities 1,052,052 (939,451 ) Decrease in other assets 212,822 420,480 Increase (decrease) in other liabilities 12,047 (445,936 ) Total adjustments (1,388,967 ) (575,328 ) Total adjustments (477,164 ) (437,939 ) Net cash provided by (used in) operating activities 542,708 (166,783 ) Net cash (used in) provided by operating activities Net cash (used in) provided by operating activities (177,762 ) 78,282 Investing activities Investing activities Investing activities Student loans acquired Student loans acquired (12,143,380 ) (11,150,185 ) Student loans acquired (4,252,535 ) (4,197,972 ) Loans acquired from securitized trusts through loan consolidations (4,378,654 ) (2,602,479 ) Loans acquired through trust consolidation Loans acquired through trust consolidation (413,576 ) (1,332,504 ) Loans acquired from SLM Corporation Loans acquired from SLM Corporation (2,188,559 ) — Reduction of student loans: Reduction of student loans: Reduction of student loans: Installment payments 2,045,097 2,854,978 Installment payments 877,603 860,479 Claims and resales 455,699 487,852 Claims and resales 160,500 165,331 Proceeds from securitization of student loans 10,027,232 7,967,914 Proceeds from securitization of student loans treated as sales — 3,248,255 Proceeds from sales of student loans — 54,754 Proceeds from sales of student loans 181,879 — Proceeds from sales of student loans to SLM Corporation 4,013,691 1,041,273 Proceeds from sales of student loans to SLM Corporation 1,341,926 793,727 Academic facilities financings and other loans made Academic facilities financings and other loans made (206,203 ) (427,248 ) Academic facilities financings and other loans made (28,720 ) (95,425 ) Academic facilities financings and other loans repayments Academic facilities financings and other loans repayments 354,548 1,122,181 Academic facilities financings and other loans repayments 23,013 158,887 Purchases of available-for-sale securities Purchases of available-for-sale securities (1,779,595 ) (3,798,582 ) Purchases of available-for-sale securities (397,191 ) (954,562 ) Proceeds from sales and maturities of available-for-sale securities Proceeds from sales and maturities of available-for-sale securities 2,276,906 4,399,527 Proceeds from sales and maturities of available-for-sale securities 464,513 1,174,508 Purchases of other securities Purchases of other securities (223,728 ) (223,571 ) Purchases of other securities (111,496 ) (116,396 ) Proceeds from sales and maturities of other securities Proceeds from sales and maturities of other securities 232,764 232,791 Proceeds from sales and maturities of other securities 87,571 91,477 Proceeds from sale of Retained Interest in securitized receivables to SLM Corporation 2,055,202 — Proceeds from sale of Variable Interest Entity to SLM Corporation, net of cash 1,081,152 — Net cash provided by (used in) investing activities 3,810,731 (40,795 ) Net cash used in investing activities Net cash used in investing activities (4,255,072 ) (204,195 ) Financing activities Financing activities Financing activities Short-term borrowings issued Short-term borrowings issued 555,851,330 480,560,368 Short-term borrowings issued 179,676,591 165,555,718 Short-term borrowings repaid Short-term borrowings repaid (560,264,204 ) (477,953,342 ) Short-term borrowings repaid (181,015,500 ) (166,053,750 ) Long-term notes issued Long-term notes issued 5,161,343 13,177,760 Long-term notes issued 630,513 2,864,839 Long-term notes repaid Long-term notes repaid (14,950,365 ) (15,765,852 ) Long-term notes repaid (3,687,073 ) (4,611,723 ) Long-term notes issued by Variable Interest Entity Long-term notes issued by Variable Interest Entity 9,702,773 — Long-term notes issued by Variable Interest Entity 8,009,643 2,037,331 Redemption of preferred stock — (12 ) Sale of Trust to SLM Corporation, net of cash Sale of Trust to SLM Corporation, net of cash 408,630 287,235 Net cash (used in) provided by financing activities (4,499,123 ) 18,922 Net cash provided by financing activities Net cash provided by financing activities 4,022,804 79,650 Net (decrease) in cash and cash equivalents (145,684 ) (188,656 ) Net decrease in cash and cash equivalents Net decrease in cash and cash equivalents (410,030 ) (46,263 ) Cash and cash equivalents at beginning of period Cash and cash equivalents at beginning of period 410,503 434,366 Cash and cash equivalents at beginning of period 531,881 166,273 Cash and cash equivalents at end of period Cash and cash equivalents at end of period $ 264,819 $ 245,710 Cash and cash equivalents at end of period $ 121,851 $ 120,010 Cash disbursements made for: Cash disbursements made for: Cash disbursements made for: Interest $ 858,528 $ 1,212,039 Interest $ 96,694 $ 256,207 Income taxes $ 390,000 $ 509,500 Income taxes $ — $ 215,000 Noncash items: Noncash items: Dividend of FFELP Stafford/PLUS student loans to SLM Corporation Dividend of FFELP Stafford/PLUS student loans to SLM Corporation $ (959,972 ) $ — Dividend of insurance and benefit plan related investments to SLM Corporation Dividend of insurance and benefit plan related investments to SLM Corporation $ — $ (346,263 ) A-6
STUDENT LOAN MARKETING ASSOCIATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Information at September 30, 2003March 31, 2004 and for the three and nine months endedSeptember 30,March 31, 2004 and 2003 and 2002 is unaudited)
(Dollars in thousands, unless otherwise stated)and nine months ended September 30, 2003March 31, 2004 may not necessarily be indicative of the results for the year ending December 31, 2003.2004. These unaudited financial statements should be read in conjunction with the audited financial statements and related notes included in the Company's 20022003 Annual Report on Form 10-K.2. New Accounting PronouncementsAccounting for GuaranteesReclassificationsIn November 2002,A recent interpretation of the Financial Accounting Standards BoardBoard's (the "FASB""FASB's") issued FASB Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." FIN No. 45 identifies characteristics of certain guarantee contracts and requires that a liability be recognized at fair value at the inception of such guarantees for the obligations undertaken by the guarantor. Additional disclosures also are prescribed for certain guarantee contracts. The initial recognition and measurement provisions of FIN No. 45 were effective for these guarantees issued or modified after December 31, 2002. The implementation of FIN No. 45 did not have a material impact on SLMA's consolidated financial statements.Consolidation of Variable Interest Entities In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable Interest Entities." FIN No. 46 clarifies the application of Accounting Research Bulletin No. 51, "Consolidated Financial Statements," and provides new accounting guidance on when to consolidate a Variable Interest Entity ("VIE"). VIEs are required to be consolidated by their primary beneficiaries if they do not effectively disperse risks among parties involved. A VIE exists when either the total equity investment at risk is not sufficient to permit the entity to finance its activities by itself, or the equity investors lack one of three characteristics associated with owning a controlling financial interest. Those characteristics are the direct or indirect ability to make decisions about an entity's activities through voting rights or similar rights, the obligation to absorb the expected losses of an entity if they occur, and the right to receive the expected residual returns of the entity if they occur. FIN No. 46 also requires new disclosures about VIEs.A-7 On February 1, 2003, SLMA adopted FIN No. 46 for VIEs created in which SLMA obtains an interest after January 31, 2003. Upon adoption of FIN No. 46, SLMA reviewed all of its off-balance sheet asset-backed securitizations to determine if they should be consolidated on-balance sheet. Based on this review, all existing off-balance sheet securitizations still met the definition of Qualifying Special Purpose Entities ("QSPEs") as defined in Statement of Financial Accounting Standards ("SFAS") No. 140, "Accounting for Transfers133 requires net settlement income/expense on derivatives and Servicing of Financial Assets and Extinguishment of Liabilities—a Replacement ofrealized gains/losses related to derivative dispositions that do not qualify as hedges under SFAS No. 125," and will continue133 to not be consolidated. In addition, SLMA's accounting treatmentincluded in the derivative market value adjustment on the income statement. The table below summarizes these derivative reclassifications for its on-balance sheet Consolidation Loan securitizations are not affected by FIN No. 46 as SLMA previously concluded that such transactions should be consolidated. Based on this review, SLMA has determined that FIN No. 46 will not have a material effect on its consolidated financial statements. FIN No. 46 was originally effective for interim periods beginning after June 15, 2003, however in October 2003, the FASB deferred this effective date until interim or annual periods ending after December 15, 2003.three months ended March 31, 2003: Three months ended
March 31, 2003 (Dollars in millions) Reclassification of realized derivative transactions to derivative market value adjustment: Net settlement expense on Floor Income Contracts reclassified from student loan income $ (119 ) Net settlement expense on Floor Income Contracts reclassified from servicing and securitization income (36 ) Net settlement income on interest rate swaps reclassified from net interest income 13 Net settlement expense on interest rate swaps reclassified from servicing and securitization income (14 ) Realized losses on closed Eurodollar futures contracts and terminated derivative contracts reclassified from other expense (64 ) Total reclassifications to the derivative market value adjustment (220 ) Add: Unrealized derivative market value adjustment 141 Derivative market value adjustment as reported $ (79 ) 3.2. Student Loansprivate credit student loans.Private Credit Student Loans.September 30, 2003March 31, 2004 and 2002:2003. September 30, (Dollars in millions) 2003 2002 FFELP — Consolidation Loans $ 13,952 $ 19,094 FFELP — Stafford 10,303 14,585 FFELP — PLUS/SLS 962 1,084 HEAL 1,245 1,547 Private credit 766 4,701 Subtotal 27,228 41,011 Allowance for loan losses (48 ) (155 ) Total student loans, net $ 27,180 $ 40,856 March 31, 2004 2003 (Dollars in millions) FFELP—Stafford $ 11,002,576 $ 10,823,941 FFELP—PLUS/SLS 1,555,585 1,463,338 FFELP—Consolidation Loans 2,919,716 19,064,768 Private Credit 450,780 2,620,270 HEAL(1) 55,425 1,369,042 Subtotal 15,984,082 35,341,359 Allowance for loan losses (20,170 ) (99,867 ) Total student loans, net $ 15,963,912 $ 35,241,492 September 30,March 31, 2004 and 2003, and 2002, 3 percent and 117 percent, respectively, of SLMA's total student loan portfolio was private credit.Private Credit.4.3. Allowance for Student Loan Losses student loan losses represents the periodic expense of maintaining an allowance sufficient to absorb probable losses, net of recoveries, inherent in the student loan portfolios. The allowance for Private Credit Student Loan losses is an estimate of losses in the portfolio of student loans. SLMAA-8evaluatesat the adequacybalance sheet date that will be charged off in subsequent periods. The evaluation of the provision for loan losses on its federally insured portfolio of student loans separately from its private credit portfolio. The studentis inherently subjective as it requires material estimates that may be susceptible to significant changes. SLMA believes that the allowance for loan loss allowance on SLMA's federally insured portfoliolosses is intendedadequate to provide for potentialcover probable losses attributable to the two percent ofin the student loan balances not guaranteed by the federal government.portfolio.SLMA's private credit student loan portfolio has not matured sufficiently to rely on experience factors to predictSLMA estimates its losses using historical data from its Private Credit Student Loan portfolios, extrapolations of FFELP loan loss patterns. Therefore,data, current trends and relevant industry information. As SLMA's Private Credit Student Loan portfolios continue to mature, more reliance is placed on SLMA's own historical Private Credit Student Loan charge-off and recovery data. Accordingly, during the fourth quarter of 2003, SLMA relies on a combination ofrevised its own historic data, suchexpected default assumptions to further align the allowance estimate with SLMA's collection experience as recent trends in delinquencies,well as the credit profileterms and policies of the borrower and/or co-borrower, loan volume by program, and charge-offs and recoveries.individual Private Creditstatistical models to estimate the amount of probablelosses, net losses that areof subsequent collections, projected to be incurred.occur in the Private Credit Student Loan portfolios.In calculatingTo calculate the private credit student loanPrivate Credit Student Loan loss allowance, SLMA considers various factors such as co-borrowers, repayment, monthsdivides the portfolio into categories of repayments, delinquency status and type of program. Defaults are estimated by cohort (loans grouped by the year in which they entered into repayment status)similar risk characteristics based on loan program type, underwriting criteria, existence or absence of a co-borrower, repayment begin date and repayment status. SLMA then applies default and collection rate projections to each category. The repayment begin date indicates when the borrower's credit profile, netborrower is required to begin repaying the loan. SLMA's Private Credit Student Loan programs do not require borrowers to begin repayment until they have graduated or otherwise left school. Consequently, loss estimates for these programs are minimal while the borrower is in school. At March 31, 2004, 73 percent of the principal balance in the Private Credit Student Loan portfolio relates to borrowers who are still in-school and, therefore, not required to make payments. As the current portfolio ages, an estimateincreasing percentage of collections by cohortthe borrowers will leave school and be required to begin to repay their loans. With a higher percentage of borrowers in repayment, SLMA expects the allowance for both newlosses to increase accordingly.previously defaulted loans.SLMA considers these periods of nonpayment when estimating the allowance. SLMA's collection policies allow for periods of nonpayment for borrowers experiencing temporary difficulty meeting payment obligations (typically, very early in the repayment term when borrowers are starting their careers). This is referred to as forbearance status. At March 31, 2004, 3 percent of the Private credit student loans areCredit Student Loan portfolio was in forbearance status.when they areat 212 days delinquent. This policy is periodically reconsidered by management as trends develop.of delinquency. Private credit student loansCredit Student Loans continue to accrue interest until charged off. Interest accrued in the current accounting period isthey are charged off against interest income. Interest accruedand removed from prior periods is charged off against the allowance.active portfolio. Recoveries on loans charged off are recorded directly to the allowance.private creditSLMA's Private Credit and federally insured student loan portfolios and other loans for the three and nine months ended September 30, 2003March 31, 2004 and 2002:2003. Three months ended
September 30, Nine months ended
September 30, Three months ended
March 31, 2003 2002 2003 2002 2004 2003 Balance at beginning of period Balance at beginning of period $ 52,655 $ 164,575 $ 109,144 $ 175,959 Balance at beginning of period $ 29,979 $ 109,144 Additions Additions Additions Provisions for student loan losses 9,956 29,147 39,929 72,171 Provisions for student loan losses 12,784 13,260 Recoveries 1,201 4,419 3,770 5,736 Recoveries 474 1,407 Deductions Deductions Deductions Reductions for student loan sales and securitizations (12,808 ) (32,318 ) (95,545 ) (65,162 ) Reductions for student loan sales and securitizations (18,287 ) (20,297 ) Charge-offs (3,400 ) (31,318 ) (10,615 ) (52,592 ) Charge-offs (4,439 ) (3,647 ) Other Other — 20,578 921 18,971 Other (341 ) — Balance at end of period Balance at end of period $ 47,604 $ 155,083 $ 47,604 $ 155,083 Balance at end of period $ 20,170 $ 99,867 defersreceives certain fees related to originated loans at both origination and the commencement of repayment. These origination fees are charged to cover, in part, anticipated loan losses. Such fees are deferred and recognizes them over timerecognized into income as a component of interest income. The unamortized balanceover the average life of deferred origination fee revenue at September 30, 2003 and 2002 was $30 million and $45 million, respectively.the related pool of loans.A-9showspresents SLMA's private credit student loanPrivate Credit Student Loan delinquency trends as of September 30, 2003March 31, 2004 and 2002.2003. Delinquencies have the potential to adversely impact earnings if the account charges off and results in increased servicing and collection costs. September 30, 2003 September 30, 2002 (Dollars in millions) Balance % Balance % Loans in-school/grace/deferment1 $ 611 $ 2,396 Loans in forbearance2 13 321 Loans in repayment and percentage of each status: Loans current 121 85 % 1,811 91 % Loans delinquent 30-59 days3 6 4 68 4 Loans delinquent 60-89 days 5 4 40 2 Loans delinquent 90 days or greater 10 7 65 3 Total private credit loans in repayment 142 100 % 1,984 100 % Total private credit student loans 766 4,701 Private credit student loan allowance for losses (18 ) (117 ) Private credit student loans, net $ 748 $ 4,584 Percentage of private credit student loans in repayment 19 % 42 % Delinquencies as a percentage of private credit student loans in repayment 15 % 9 % March 31, 2004 2003 Balance % Balance % (Dollars in millions) Loans in-school/grace/deferment(1) 330 1,625 Loans in forbearance(2) 12 199 Loans in repayment and percentage of each status: Loans current 95 87 % 685 86 % Loans delinquent 30-59 days(3) 2 2 38 5 Loans delinquent 60-89 days 3 3 29 4 Loans delinquent 90 days or greater 9 8 44 5 Total Private Credit Student Loans in repayment 109 100 % 796 100 % Total Private Credit Student Loans 451 2,620 Private Credit Student Loan allowance for losses (8 ) (51 ) Private Credit Student Loans, net $ 443 $ 2,569 Percentage of Private Credit Student Loans in repayment 24 % 30 % Delinquencies as a percentage of Private Credit Student Loans in repayment 13 % 14 % 1(1)thetheir loans, e.g., residency periods for medical students or a grace period for bar exam preparation.2(2)3(3) of delinquency is based on the number of days scheduled payments are contractually past due.5.4. Student Loan SecuritizationInterestsInterest and, in some cases, a cash reserve accounts,account, all of which wereare Retained Interests in the securitized loans. At June 30, 2003 and December 31, 2002, the balance of these assets was $2.7 billion and $2.1 billion, respectively. On September 30,receivables. In 2003, SLMA sold its Retained Interests in securitizations with the exception of the Retained Interest for Trust 1995-1 whose clean-up call occurred on October 27, 2003, to SLM Corporation in a cash transaction. SLMA will continue to sell loans in securitizations subsequent to September 30, 2003in 2004 and recognize Retained Interests as a resultA-10Quoted market prices are generally not available for SLMA's Retained Interests so SLMA estimates fair value, both initially and on a quarterly basis, based on the present value of future expected cash flows estimated using management's best estimates of the key assumptions—credit losses, prepayment speeds and discount rates commensurate with the risks involved. The projection of residual cash flows, exclusive of Floor Income, used in determining the initial gain on sale is discounted at 12 percent. SLMA values the Floor Income component of its Retained Interest based upon market quotes for comparable instruments. Included in the gain on student loan securitizations of Consolidation Loans is an estimate of the Embedded Fixed Rate Floor Income from the loans securitized. Depending on interest rate levels, the ongoing reevaluation of this estimate of Embedded Fixed Rate Floor Income can cause volatility in the fair value of the Retained Interest asset. Embedded Fixed Rate Floor Income is estimated over the life of the securitization trust using the current yield curve which results in a lower discount rate in the earlier periods of the trust and a higher discount rate for the more uncertain Embedded Fixed Rate Floor Income associated with later periods. Interest income recognized on the Retained Interest asset is based on the anticipated yield determined by periodically estimating future cash flows.A-11tables summarizetable summarizes securitization activity for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003. Three months ended September 30, 2003 2002 (Dollars in millions) Number of
Transactions Amount
Securitized Gain % Number of
Transactions Amount
Securitized Gain % FFELP Stafford/PLUS loans 2 $ 3,511 1.12 % 2 $ 2,829 .63 % Consolidation Loans — — — — — — Total securitization sales 2 3,511 1.12 % 2 2,829 .63 % On-balance sheet securitization of Consolidation Loans 2 5,513 — — Total loans securitized 4 $ 9,024 2 $ 2,829
Nine months ended September 30, 2003 2002 (Dollars in millions) Number of
Transactions Amount
Securitized Gain % Number of
Transactions Amount
Securitized Gain % FFELP Stafford/PLUS loans 4 $ 5,772 1.26 % 5 $ 7,859 .96 % Consolidation Loans 2 4,256 10.19 — — — Total securitization sales 6 10,028 5.05 % 5 7,859 .96 % On-balance sheet securitization of Consolidation Loans 4 9,825 — — Total loans securitized 10 $ 19,853 5 $ 7,859 Three months ended March 31, 2004 2003 Number of
Transactions Amount
Securitized Pre-tax
Gains Gain % Number of
Transactions Amount
Securitized Pre-tax
Gains Gain % (Dollars in millions) FFELP Stafford/PLUS loans — $ — $ — — % 1 $ 1,256 $ 20 1.6 % Consolidation Loans — — — — 1 2,005 218 10.9 Total securitization sales — — $ — — % 2 3,261 $ 238 7.3 % On-balance sheet securitization of Consolidation Loans(1) 3 8,023 1 2,056 Total loans securitized 3 $ 8,023 3 $ 5,317 regardingthat can affect the remarketing of the bonds as well as a call option that gives it the right to acquire certain of the notes issuedbonds. These remarketing rights are not significantly limited in the transaction. Thus SLMA is deemed to maintain effective control over the transferred assets. As a result,nature. Therefore, these securitizations did not meet the criteria of being a QSPE and werequalify as QSPEs. Accordingly, they are accounted for on-balance sheet. As a result,sheet as Variable Interest Entities ("VIEs") with the securitized federally insured loans reflected in the balance sheet as "federally insured student loans securitized and the associated debt remain on SLMA's balance sheet and no gains or losses were recognized on these transactions. For the three months ended September 30, 2003, SLMA completed two on-balance sheet securitizations totaling $5.5 billion. These on-balance sheet VIEs were subsequently sold by the GSE to a non-GSE subsidiary of SLM Corporation, and the GSE recorded gains on the sale of student loans of $450 million. For the nine months ended September 30, 2003, SLMA completed four on-balance sheet securitizations totaling $9.8 billion, which were subsequently sold by the GSE to a non-GSE subsidiary of SLM Corporation, and the GSE recorded gains on the sale of student loans of $953 million.
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Sallie Mae Servicing L.P., an affiliate, enters into a servicing agreement with each securitization trust and earns annual servicing fees from the trusts of 0.9 percent per annum of the outstanding balance of Stafford and PLUS student loans and 0.5 percent per annum of the outstanding balance of Consolidation Loans in the securitization trusts.
Key economic assumptions used in estimating the fair value of the Retained Interests at the date of securitization resulting from the student loanrelated to those securitization sale transactions completedthat qualify as sales during the three and nine months ended September 30,March 31, 2004 and 2003 and 2002 (weighted based on principal amounts securitized) were as follows:
| | Three months ended September 30, | ||||
|---|---|---|---|---|---|
| | 2003 FFELP Loans | 2002 FFELP Loans | |||
| Prepayment speed | 9.00 | % | 9.00 | % | |
| Weighted-average life (in years) | 4.62 | yrs. | 4.58 | yrs. | |
| Expected credit losses (% of principal securitized) | .51 | % | .62 | % | |
| Residual cash flows discounted at | 12.00 | % | 12.00 | % | |
| | Nine months ended September 30, | ||||
|---|---|---|---|---|---|
| | 2003 FFELP Loans | 2002 FFELP Loans | |||
| Prepayment speed | 7.00%-9.00 | %1 | 9.00 | % | |
| Weighted-average life (in years) | 6.07 | yrs. | 4.81 | yrs. | |
| Expected credit losses (% of principal securitized) | .60 | % | .61 | % | |
| Residual cash flows discounted at | 7.00 | % | 12.00 | % | |
| | Three months ended March 31, | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | |||||||
| | FFELP Stafford (1) | Consolidation (1) | FFELP Stafford | Consolidation | |||||
| Prepayment speed | N/A | N/A | 9 | % | 7 | % | |||
| Weighted-average life (in years) | N/A | N/A | 4.67 | 8.13 | |||||
| Expected credit losses (% of principal securitized) | N/A | N/A | .53 | % | .72 | % | |||
| Residual cash flows discounted at (weighted average) | N/A | N/A | 12 | % | 6 | % | |||
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The estimate of the prepayment speed or Constant Prepayment Rate ("CPR") affects the average life of the securitized trusts and therefore affects the valuation estimate of the Residual Interest. Prepayments shorten the average life of the trusts, and if all other factors remain equal, will reduce the value of the Retained Interest asset and the securitization gain on sale of new securitizations. Student loan prepayments in the trusts come from three principal sources: actual borrower prepayments, reimbursements of student loan defaults from the guarantor and consolidation of FFELP student loans from the trusts. SLMA uses historical statistics on prepayments, borrower defaults, and trends in Consolidation Loans to estimate the amount of prepayments. When a loan is consolidated from a trust either by SLMA or a third party, the loan is repurchased from that trust and is treated as a prepayment. In cases where the loan is consolidated by SLMA, it will be recorded as an on-balance sheet asset. Due to the historically low interest rate environment, SLMA has experienced an increase in Consolidation Loan activity for several quarters, and as a result, in the second quarter of 2002, SLMA increased the estimated CPR from 7 percent to 9 percent per annum for FFELP Stafford/PLUS loan transactions. The change in the CPR assumption reduced the gains on the loan portfolios securitized since the second quarter of 2002.
The following table summarizes the cash flows received from all off-balance sheet securitization trusts during the three and nine months ended September 30, 2003 and 2002.
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in millions) | ||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||
| Net proceeds from new securitizations entered into during the period | $ | 3,530 | $ | 2,858 | $ | 10,027 | $ | 7,938 | ||||
| Cash distributions from trusts | 207 | 234 | 608 | 694 | ||||||||
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6.5. Derivative Financial Instruments
Summary of Derivative Financial Statement Impact
The following tables summarize the fair values and notional valuesamounts of all derivative instruments at September 30, 2003March 31, 2004 and December 30, 2002,31, 2003, and their impact on other comprehensive income and earnings for the three and nine months ended September 30, 2003March 31, 2004 and 2002.2003. At September 30, 2003March 31, 2004 and December 31, 2002, $2292003, $148 million and $338$156 million (amortized cost)(fair value), respectively, of available-for-sale investment securities were pledged as collateral against these derivative instruments.
| | Cash Flow | Fair Value | Trading | Total | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | September 30, 2003 | December 31, 2002 | September 30, 2003 | December 31, 2002 | September 30, 2003 | December 31, 2002 | September 30, 2003 | December 31, 2002 | |||||||||||||||||
| Fair Values | |||||||||||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||||
| Interest rate swaps | $ | — | $ | — | $ | (99 | ) | $ | 30 | $ | (85 | ) | $ | (147 | ) | $ | (184 | ) | $ | (117 | ) | ||||
| Floor/Cap contracts | — | — | — | — | (722 | ) | (1,082 | ) | (722 | ) | (1,082 | ) | |||||||||||||
| Futures | (2 | ) | (6 | ) | — | — | (51 | ) | (34 | ) | (53 | ) | (40 | ) | |||||||||||
| Total | $ | (2 | ) | $ | (6 | ) | $ | (99 | ) | $ | 30 | $ | (858 | ) | $ | (1,263 | ) | $ | (959 | ) | $ | (1,239 | ) | ||
| Notional Values | |||||||||||||||||||||||||
| (Dollars in billions) | |||||||||||||||||||||||||
| Interest rate swaps | $ | — | $ | — | $ | 8.7 | $ | 15.6 | $ | 35.9 | $ | 48.1 | $ | 44.6 | $ | 63.7 | |||||||||
| Floor/Cap contracts | — | — | — | — | 18.3 | 19.5 | 18.3 | 19.5 | |||||||||||||||||
| Futures | 0.3 | 1.0 | — | — | 12.4 | 16.9 | 12.7 | 17.9 | |||||||||||||||||
| Total | $ | 0.3 | $ | 1.0 | $ | 8.7 | $ | 15.6 | $ | 66.6 | $ | 84.5 | $ | 75.6 | $ | 101.1 | |||||||||
| | Three months ended September 30, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Cash Flow | Fair Value | Trading | Total | |||||||||||||||||||||
| | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | |||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||||
| Changes to other comprehensive income, net of tax | |||||||||||||||||||||||||
| Other comprehensive income, net | $ | 2 | $ | 1 | $ | — | $ | — | $ | — | $ | — | $ | 2 | $ | 1 | |||||||||
| Earnings Summary | |||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into interest expense1 | $ | (2 | ) | $ | (4 | ) | $ | — | $ | — | $ | — | $ | — | $ | (2 | ) | $ | (4 | ) | |||||
| Recognition of closed futures contracts' gains/losses into gains/losses on sales of securities, net2 | — | (2 | ) | — | — | (3 | ) | (45 | ) | (3 | ) | (47 | ) | ||||||||||||
| Derivative market value adjustment | — | — | 1 | 3 | 2 | 3 | 174 | (369 | ) | 175 | (367 | ) | |||||||||||||
| Total earnings impact | $ | (2 | ) | $ | (6 | ) | $ | 1 | $ | 2 | $ | 171 | $ | (414 | ) | $ | 170 | $ | (418 | ) | |||||
| | Cash Flow | Fair Value | Trading | Total | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | March 31, 2004 | December 31, 2003 | March 31, 2004 | December 31, 2003 | March 31, 2004 | December 31, 2003 | March 31, 2004 | December 31, 2003 | |||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||||
| Fair Values | |||||||||||||||||||||||||
| Interest rate swaps | $ | — | $ | — | $ | (159 | ) | $ | (110 | ) | $ | (106 | ) | $ | (89 | ) | $ | (265 | ) | $ | (199 | ) | |||
| Floor/Cap contracts | — | — | — | — | (488 | ) | (563 | ) | (488 | ) | (563 | ) | |||||||||||||
| Futures | (2 | ) | (2 | ) | — | — | — | (40 | ) | (2 | ) | (42 | ) | ||||||||||||
| Total | $ | (2 | ) | $ | (2 | ) | $ | (159 | ) | $ | (110 | ) | $ | (594 | ) | $ | (692 | ) | $ | (755 | ) | $ | (804 | ) | |
(Dollars in billions) | |||||||||||||||||||||||||
| Notional Values | |||||||||||||||||||||||||
| Interest rate swaps | $ | — | $ | — | $ | 7.0 | $ | 8.1 | $ | 34.0 | $ | 35.8 | $ | 41.0 | $ | 43.9 | |||||||||
| Floor/Cap contracts | — | — | — | — | 18.0 | 18.7 | 18.0 | 18.7 | |||||||||||||||||
| Futures | 0.2 | 0.3 | — | — | 0.6 | 9.4 | 0.8 | 9.7 | |||||||||||||||||
| Total | $ | 0.2 | $ | 0.3 | $ | 7.0 | $ | 8.1 | $ | 52.6 | $ | 63.9 | $ | 59.8 | $ | 72.3 | |||||||||
| | Three months ended March 31, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Cash Flow | Fair Value | Trading | Total | |||||||||||||||||||||
| | 2004 | 2003 | 2004 | 2003 | 2004 | 2003 | 2004 | 2003 | |||||||||||||||||
| (Dollars in millions) | | ||||||||||||||||||||||||
| Changes to other comprehensive income, net of tax | |||||||||||||||||||||||||
| Other comprehensive income, net | $ | 1 | $ | 1 | $ | — | $ | — | $ | — | $ | — | $ | 1 | $ | 1 | |||||||||
| Earnings Summary | |||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into interest expense(1) | $ | (2 | ) | $ | (3 | ) | $ | — | $ | — | $ | — | $ | — | $ | (2 | ) | $ | (3 | ) | |||||
| Derivative market value adjustment—Realized(2) | — | — | — | — | (193 | ) | (220 | ) | (193 | ) | (220 | ) | |||||||||||||
| Derivative market value adjustment—Unrealized | — | 1 | (3) | 1 | (3) | 3 | (3) | 98 | 137 | 99 | 141 | ||||||||||||||
| Total earnings impact | (2 | ) | (2 | ) | 1 | 3 | (95 | ) | (83 | ) | (96 | ) | (82 | ) | |||||||||||
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| | Nine months ended September 30, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | Cash Flow | Fair Value | Trading | Total | |||||||||||||||||||||
| | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | 2003 | 2002 | |||||||||||||||||
| (Dollars in millions) | |||||||||||||||||||||||||
| Changes to other comprehensive income, net of tax | |||||||||||||||||||||||||
| Other comprehensive income, net | $ | 6 | $ | 29 | $ | — | $ | — | $ | — | $ | 1 | 5 | $ | 6 | $ | 30 | ||||||||
| Earnings Summary | |||||||||||||||||||||||||
| Recognition of closed futures contracts' gains/losses into interest expense1 | $ | (11 | ) | $ | (9 | ) | $ | — | $ | — | $ | — | $ | — | $ | (11 | ) | $ | (9 | ) | |||||
| Recognition of closed futures contracts' gains/losses into gains/losses on sales of securities, net2 | — | (40 | ) | — | — | (8 | ) | (133 | ) | (8 | ) | (173 | ) | ||||||||||||
| Recognition of derivative losses into gains/losses on sales of securities | — | — | — | — | (69 | ) | — | (69 | ) | — | |||||||||||||||
| Amortization of transition adjustment3 | — | — | — | — | — | (1 | ) | — | (1 | ) | |||||||||||||||
| Derivative market value adjustment | 1 | 4 | — | 2 | 4 | 5 | 4 | 351 | (261 | ) | 354 | (256 | ) | ||||||||||||
| Total earnings impact | $ | (10 | ) | $ | (49 | ) | $ | 2 | $ | 5 | $ | 274 | $ | (395 | ) | $ | 266 | $ | (439 | ) | |||||
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The following table showspresents the components of the change in accumulated other comprehensive income, net of tax, for derivatives.
| | | Three months ended September 30, | Nine months ended September 30, | Three months ended March 31, | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in millions) | |||||||||||||||||||||
| 2004 | 2003 | ||||||||||||||||||||
| (Dollars in millions) | (Dollars in millions) | 2003 | 2002 | 2003 | 2002 | (Dollars in millions) | | ||||||||||||||
| Balance at beginning of period | Balance at beginning of period | $ | (14 | ) | $ | (21 | ) | $ | (18 | ) | $ | (50 | ) | $ | (11 | ) | $ | (18 | ) | ||
| Change in unrealized gains (losses) on derivatives, net: | Change in unrealized gains (losses) on derivatives, net: | ||||||||||||||||||||
| Change in fair value of cash flow hedges | — | (3 | ) | (1 | ) | (3 | ) | ||||||||||||||
| Amortizations1 | 2 | 2 | 7 | 6 | |||||||||||||||||
| Discontinued hedges | — | 2 | — | 27 | |||||||||||||||||
| Amortization of effective hedges(1) | 1 | 1 | |||||||||||||||||||
| Total change in unrealized gains (losses) on derivatives, net | Total change in unrealized gains (losses) on derivatives, net | 2 | 1 | 6 | 30 | 1 | 1 | ||||||||||||||
| Balance at end of period | Balance at end of period | $ | (12 | ) | $ | (20 | ) | $ | (12 | ) | $ | (20 | ) | $ | (10 | ) | $ | (17 | ) | ||
6. Guarantees
The Company has issued lending-related financial instruments including letters of credit and lines of credit to meet the financing needs of its customers. Letters of credit support the issuance of state student loan revenue bonds. They represent unconditional guarantees of the GSE to repay holders of the bonds in the event of a default. In the event that letters of credit are drawn upon, such loans are collateralized by the student loans underlying the bonds. The initial liability recognition and measurement provisions of Financial Accounting Standards Board Interpretation ("FIN") No. 45, "Guarantors' Accounting and Disclosure Requirements for Guarantees Including Indirect Guarantees of the Indebtedness of Others, and Interpretation of FASB Statements No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34," are effective for such guarantees issued or modified after December 31, 2002. During 2003 and the three months ended March 31, 2004, there were no new letters of credit issued or modifications to existing letters of credit. Accordingly, the Company's financial statements do not include a liability for the estimated fair value of these guarantees.
The Company offers a line of credit to certain financial institutions and other institutions in the higher education community for the purpose of buying or originating student loans. In the event that a line of credit is drawn upon, the loan is collaterialized by underlying student loans. The contractual
amount of these financial instruments represents the maximum possible credit risk should the counterparty draw down the commitment or the Company fulfill its obligation under the guarantee, and the counterparty subsequently fails to perform according to the terms of its contract with the Company. Under the terms of the Privatization Act, any future activity under lines of credit and letter of credit activity by the GSE is limited to guarantee commitments, which were in place on August 7, 1997.
The following schedule summarizes expirations of the GSE's guarantees to the earlier of call date or maturity date outstanding at March 31, 2004.
| | Lines of Credit | Letters of Credit | Total | ||||||
|---|---|---|---|---|---|---|---|---|---|
| 2004 | $ | 323,657 | $ | 574,328 | $ | 897,985 | |||
| 2005 | — | 45,518 | 45,518 | ||||||
| 2006 | — | — | — | ||||||
| 2007 | — | — | — | ||||||
| 2008-2020 | — | — | — | ||||||
| Total | $ | 323,657 | $ | 619,846 | $ | 943,503 | |||
7. Related Parties
SLMA is a member of a group of affiliated companies and has significant transactions with members of the group. Accordingly, the terms of such transactions may not necessarily be indicative of transactions amongst wholly unrelated companies.
In connection with the Wind-Down of the GSE, SLM Corporation must either securitize, sell, transfer or defease SLMA's assets by the Wind-Down date and retire or defease SLMA's debt
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obligations. The following table summarizes SLMA's asset sales (carrying value plus accrued interest) and transfers for the three and nine months ended September 30,March 31, 2004 and 2003 and 2002:(carrying value includes accrued interest).
| | Three months ended September 30, | Nine months ended September 30, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in millions) | ||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||
| FFELP/Consolidation student loan securitizations | $ | 3,563 | $ | 2,892 | $ | 10,216 | $ | 8,005 | ||||
| Sale of on-balance sheet VIEs, net1 | 141 | — | 306 | — | ||||||||
| Private credit student loan sales2 | 514 | 489 | 3,877 | 1,012 | ||||||||
| Non-cash dividend of FFELP Stafford/PLUS student loans3 | 1,077 | — | 1,077 | — | ||||||||
| Sale of Retained Interests in securitized receivables4 | 2,451 | — | 2,451 | — | ||||||||
| Non-cash dividend of insurance and benefit plan related investments5 | — | — | 346 | — | ||||||||
| | Three months ended March 31, | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2004 | 2003 | ||||||||||||||||
| | Sale Amount | Carrying Amount | Gain Amount | Sale Amount | Carrying Amount | Gain Amount | ||||||||||||
| (Dollars in millions) | | | | | | | ||||||||||||
| FFELP/Consolidation Student Loan securitizations | $ | — | $ | — | $ | — | $ | 3,567 | $ | 3,330 | $ | 237 | ||||||
| Sale of on-balance sheet VIEs, net (1) | 527 | 47 | 480 | 334 | 89 | 245 | ||||||||||||
| Student loan sales (2) | 1,342 | 1,321 | 21 | 794 | 760 | 34 | ||||||||||||
| Non-cash dividend of FFELP Stafford/PLUS student loans (3) | 960 | 944 | 16 | — | — | — | ||||||||||||
| Non-cash dividend of insurance and benefit plan related investments | — | — | — | 346 | 346 | — | ||||||||||||
| Sale of basis swaps (4) | — | — | — | — | — | 5 | ||||||||||||
| Loans consolidated with SLM Corp entities | 361 | 361 | — | — | — | — | ||||||||||||
As described above, such transactions were among a group of related parties. Such transactions were conducted at estimated market value, which was determined using discounted cash flow models and other estimation techniques. Different assumptions or changes in future market conditions could significantly affect the estimates of fair value.
In connection with the transfer of employees from SLMA to SLM Corporation and its non-GSE subsidiaries, SLMA and SLM Corporation and various of its non-GSE subsidiaries entered into Management Services Agreements ("MSAs") whereby all management and administrative support would be provided to SLMA for a monthly fee. Intercompany expenses under the MSAs for the three months ended September 30,March 31, 2004 and 2003 and 2002 totaled $23$17 million and $8 million, respectively, and for the nine months ended September 30, 2003 and 2002 totaled $70 million and $29$21 million, respectively. Effective January 1, 2003, only third party loan acquisition costs are being booked directly to SLMA and are included in other operating expenses.
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Intercompany expenses under the servicing contract between SLMA and Sallie Mae, Servicing L.P.Inc., a wholly owned non-GSE subsidiary of SLM Corporation which includes the division of Sallie Mae Servicing, for the three months ended September 30,March 31, 2004 and 2003 and 2002 totaled $68$38 million and $61 million, respectively, and for the nine months ended September 30, 2003 and 2002 totaled $151 million and $120$45 million, respectively.
At September 30, 2003March 31, 2004 and December 31, 2002,2003, SLMA had net intercompany liabilities of $1.3 billion$288 million and net intercompany receivables of $15$530 million, respectively, with SLM Corporation and various of its non-GSE subsidiaries, incurred in the normal course of business, exclusive of the intercompany promissory note owed to Hemar Insurance Corporation of America ("HICA") discussed below. Included in the net intercompany liability at September 30, 2003 was SLMA's dividend of $1.1 billion of student loans to SLM Corporation. At December 31, 2001, SLMA had a $37 million investment in a non-GSE subsidiary of SLM Corporation which was accounted for using the equity method. During the second quarter of 2002, SLMA transferred this investment for $37 million in cash to SLM Education Loan Corporation, another wholly owned subsidiary of SLM Corporation.
SLMA purchases insurance for its private credit student loanPrivate Credit Student Loan portfolio from HICA. SLMA pays HICA insurance premiums in return for HICA's guarantee of payment of principal and interest on private credit student loans.Private Credit Student Loans. In connection with this arrangement, HICA invests its insurance reserves related to SLMA's HICA insured loans in a Master Promissory Note of SLMA to HICA. In addition to the intercompany balances between SLMA and SLM Corporation, at September 30, 2003March 31, 2004 and December 31, 2002,2003, SLMA owed HICA $69 million under this note at the end of each period.
8. Contingencies
Any legislation that permits borrowers to refinance existing Consolidation LoansSLMA and various affiliates were defendants in a lawsuit brought by College Loan Corporation ("CLC") in the United States District Court for the Eastern District of Virginia alleging various breach of contract and common law tort claims in connection with CLC's consolidation loan activities. The Complaint sought compensatory damages of at lower interest rates could significantly increaseleast $60 million.
On June 25, 2003, after five days of trial, the ratejury returned a verdict in favor of prepaymentsSLMA on all counts. CLC has since filed an appeal. All appellate briefing has been completed and oral argument has been scheduled before the student loans and could have a materially adverse effectU.S. Court of Appeals for the Fourth Circuit on SLMA's financial condition and results of operations.
In the fourth quarter of 2002, Sallie Mae Servicing, L.P. discovered an error with the annual calculation of monthly payment amounts associated with variable interest rate Stafford, SLS and PLUS loans, the majority of which were owned by SLMA. The error has caused approximately 1.1 million of SLMA's serviced student loan accounts to amortize too quickly or slowly, i.e., not in accordance with their repayment term. SLM Corporation took voluntary remedial action by crediting the affected borrowers' accounts. Substantially all payment amounts have been reset to the correctly amortizing amount and substantially all affected borrowers have been notified.June 4, 2004.
SLMA has reported this matter to the U.S. Department of Education (the "DOE") and has met with representatives of the DOE on several occasions to discuss the impact of the under-billing error on borrowers and SLMA's remedial actions. SLMA continues to discuss with the DOE the appropriateness of any further remedial actions.
A lawsuit that seeks class action status for borrowers affected by the monthly payment calculation was filed in California State Court in July 2003 against SLMA and certain of its affiliates. The complaint asserts claims under the California Business and Professions Code and other California
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statutory sections. The complaint further seeks certain injunctive relief and restitution. SLMA believes that this action is without merit.
The Higher Education Act of 1965 (the "HEA") generally is reauthorized every six years. The HEA was last reauthorized in 1998 and expired on September 20, 2003. Under current law, however, the HEA will automatically extend through September 30, 2004. At this time, management understands that the reauthorization of the HEA may be delayed until 2005. In connection with the approaching reauthorization of the HEA, several bills have been introduced in the U.S. Congress that, if enacted into law, in their current form, could adversely affect SLMA. At this time, management does not expect these bills to become law or to become law in their present form.
SLMA is named as a defendant in a putative class action lawsuit brought by three Wisconsin residents on December 20, 2001 in the Superior Court for the District of Columbia. The lawsuit seekssought to bring a nationwide class action on behalf of all borrowers who allegedly paid "undisclosed improper and excessive" late fees over the past three years. The plaintiffs sought damages of one thousand five hundred dollars per violation plus punitive damages and claimed that the class consisted of 2 million borrowers. In addition, the plaintiffs alleged that SLMA charged excessive interest by capitalizing interest quarterly in violation of the promissory note. On February 28, 2003, the Court granted SLMA's motion to dismiss the complaint in its entirety. The plaintiffs appealed the trial court decision. All appellate briefing has been completed and oral argument was held in April 2004. No decision has been issued on the appeal as of this date.
In July 2003, a borrower in California filed a class action complaint against SLMA and certain of its affiliates in state court in San Francisco in connection with a monthly payment amortization error discovered by SLMA in the fourth quarter of 2002. The complaint asserts claims under the California Business and Professions Code and other California statutory provisions. The complaint further seeks certain injunctive relief and restitution.
SLMA, together with a number of other FFELP industry participants, filed its appellate brief.a lawsuit challenging the Department of Education's interpretation of and non-compliance with provisions in the Higher
Education Act governing origination fees and repayment incentives on loans made under the FDLP. The lawsuit, which was filed November 3, 2000 in the United States District Court for the District of Columbia, alleges that the Department's interpretations of and non-compliance with these statutory provisions are contrary to the statute's unambiguous text, and are arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law, and violate both the HEA and the Administrative Procedure Act. SLMA together with the other plaintiffs and the Department of Education have filed an appellate brief on October 20, 2003.cross-motions for summary judgment. The appellate courtCourt has not yet scheduled oral arguments.ruled on these motions.
The Company has cooperated with the Securities and Exchange Commission (the "SEC") concerning an informal investigation that the SEC initiated on January 14, 2004. There are currently no data requests outstanding and the SEC has not sought to interview any additional witnesses. The investigation concerns certain 2003 year-end accounting entries made by employees of one of the Company's collection agency subsidiaries. The Company's Audit Committee engaged outside counsel to investigate the matter and management conducted its own investigation. These investigations by the Audit Committee and management have been completed and the amounts in question were less than $100,000.
SLMA is also subject to various claims, lawsuits and other actions that arise in the normal course of business. Most of these matters are claims by borrowers disputing the manner in which their loans have been processed. Management believes that the case is without merit.these claims, lawsuits and other actions will not have a material adverse effect on SLMA's business, financial condition or results of operations.