Exhibit 99.2
FOR RELEASE: 2/29/2008
MEDIA CONTACT: Ben Kiser, 402.458.3024
INVESTOR CONTACT: Phil Morgan, 402.458.3038
NELNET, INC. SUPPLEMENTAL FINANCIAL INFORMATION FOR THE FOURTH QUARTER 2007
The following supplemental information should be read in connection with the
fourth quarter 2007 earnings press release of Nelnet, Inc. (the "Company"),
dated February 29, 2008.
Information contained in this earnings supplement, other than historical
information, may be considered forward-looking in nature and is subject to
various risks, uncertainties, and assumptions. Should one or more of these risks
or uncertainties materialize, or should underlying assumptions prove incorrect,
actual results may vary materially from those anticipated, estimated, or
expected. Among the key factors that may have a direct bearing on the Company's
operating results, performance, or financial condition expressed or implied by
the forward-looking statements are the uncertain nature of the estimated
expenses that may be incurred and cost savings that may result from the
Company's strategic initiatives, changes in terms of student loans and the
educational credit marketplace, changes in legislation impacting the student
loan market, changes in the demand for educational financing or in financing
preferences of educational institutions, students and their families, or changes
in the general interest rate environment and in the securitization markets for
education loans. Certain prior year amounts have been reclassified to conform to
the current period presentation. For more information see our filings with the
Securities and Exchange Commission.
1
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED YEAR ENDED
------------------------------------------- --------------------------
DECEMBER 31, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------- ------------ ------------- -----------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
Interest income:
Loan interest $ 437,128 460,103 410,015 1,755,064 1,543,108
Variable-rate floor income 2,416 597 - 3,013 -
Amortization of loan premiums and deferred
origination costs (23,878) (23,449) (22,838) (91,020) (87,393)
Investment interest 18,988 21,023 24,254 80,219 93,918
------------- ------------- ------------ ------------- -----------
Total interest income 434,654 458,274 411,431 1,747,276 1,549,633
Interest expense:
Interest on bonds and notes payable 390,399 393,875 347,615 1,502,662 1,241,174
------------- ------------- ------------ ------------- -----------
Net interest income 44,255 64,399 63,816 244,614 308,459
Less provision for loan losses 4,550 18,340 1,800 28,178 15,308
------------- ------------- ------------ ------------- -----------
Net interest income after provision
for loan losses 39,705 46,059 62,016 216,436 293,151
------------- ------------- ------------ ------------- -----------
Other income:
Loan and guaranty servicing income 32,953 33,040 30,165 128,069 121,593
Other fee-based income 44,572 38,025 36,868 160,888 102,318
Software services income 5,647 5,426 4,064 22,669 15,890
Other income 1,873 7,520 4,894 19,209 23,365
Derivative market value, foreign currency,
and put option adjustments 14,940 18,449 (19,510) 26,806 (31,075)
Derivative settlements, net 11,577 (2,336) 7,013 18,677 23,432
------------- ------------- ------------ ------------- -----------
Total other income 111,562 100,124 63,494 376,318 255,523
------------- ------------- ------------ ------------- -----------
Operating expenses:
Salaries and benefits 54,621 60,545 53,290 236,631 214,676
Other expenses 59,256 52,511 54,945 219,048 185,053
Amortization of intangible assets 6,412 10,885 7,758 30,426 25,062
Impairment expense - 49,504 21,488 49,504 21,488
------------- ------------- ------------ ------------- -----------
Total operating expenses 120,289 173,445 137,481 535,609 446,279
------------- ------------- ------------ ------------- -----------
Income (loss) before income taxes and
minority interest 30,978 (27,262) (11,971) 57,145 102,395
Income tax expense (benefit) 11,810 (10,664) (6,099) 21,716 36,237
------------- ------------- ------------ ------------- -----------
Income (loss) before minority interest 19,168 (16,598) (5,872) 35,429 66,158
Minority interest in subsidiary income - - - - (242)
------------- ------------- ------------ ------------- -----------
Income (loss) from continuing operations 19,168 (16,598) (5,872) 35,429 65,916
Income (loss) from discontinued operations, net of tax (159) 909 (1,438) (2,575) 2,239
------------- ------------- ------------ ------------- -----------
Net income (loss) $ 19,009 (15,689) (7,310) 32,854 68,155
============= ============= ============ ============= ===========
Earnings (loss) per share, basic and diluted:
Income (loss) from continuing operations $ 0.39 (0.34) (0.11) 0.71 1.23
Income (loss) from discontinued operations,
net of tax - 0.02 (0.03) (0.05) 0.04
------------- ------------- ------------ ------------- -----------
Net income (loss) $ 0.39 (0.32) (0.14) 0.66 1.27
============= ============= ============ ============= ===========
Weighted average shares outstanding 49,047,048 49,018,091 52,506,936 49,618,107 53,593,056
2
CONDENSED CONSOLIDATED BALANCE SHEETS AND FINANCIAL DATA
AS OF AS OF AS OF
DECEMBER 31, SEPTEMBER 30, DECEMBER 31,
2007 2007 2006
-------------- ------------- ------------
(UNAUDITED)
(DOLLARS IN THOUSANDS)
Assets:
Student loans receivable, net $ 26,736,122 26,596,123 23,789,552
Cash, cash equivalents, and investments 1,120,838 1,451,772 1,773,751
Goodwill 164,695 164,695 191,420
Intangible assets, net 112,830 119,242 161,588
Other assets 1,028,298 1,010,632 880,562
-------------- ------------- ------------
Total assets $ 29,162,783 29,342,464 26,796,873
============== ============= ============
Liabilities:
Bonds and notes payable $ 28,115,829 28,234,147 25,562,119
Other liabilities 438,075 516,424 562,904
-------------- ------------- ------------
Total liabilities 28,553,904 28,750,571 26,125,023
-------------- ------------- ------------
Shareholders' equity 608,879 591,893 671,850
-------------- ------------- ------------
Total liabilities and shareholders' equity $ 29,162,783 29,342,464 26,796,873
============== ============= ============
Return on average total assets 0.12% 0.07% 0.27%
Return on average equity 5.33% 2.99% 9.64%
Shareholders' equity to total assets 2.09% 2.02% 2.51%
3
LEGISLATIVE DEVELOPMENTS
On September 27, 2007, the President signed into law the College Cost Reduction
and Access Act of 2007 (the "College Cost Reduction Act"). This legislation
contains provisions with significant implications for participants in the
Federal Family Education Loan Program ("FFEL Program" or "FFELP"), including
cutting funding to the FFEL Program by $20 billion over a five year period as
estimated by the Congressional Budget Office. Among other things, the Act:
o Reduced special allowance payments to for-profit lenders and
not-for-profit lenders by 0.55 percentage points and 0.40
percentage points, respectively, for both Stafford and
Consolidation Loans disbursed on or after October 1, 2007;
o Reduced special allowance payments to for-profit lenders and
not-for-profit lenders by 0.85 percentage points and 0.70
percentage points, respectively, for PLUS loans disbursed on or
after October 1, 2007;
o Increased origination fees paid by lenders on all FFELP loan
types, from 0.5 percent to 1.0 percent, for all loans first
disbursed on or after October 1, 2007;
o Eliminated all provisions relating to Exceptional Performer
status, and the monetary benefit associated with it, effective
October 1, 2007; and
o Reduces default insurance to 95 percent of the unpaid principal
of such loans, for loans first disbursed on or after October 1,
2012.
As a result of this legislation, management expects the annual yield on FFELP
loans to decrease by approximately 70 to 80 basis points on student loans
originated after October 1, 2007.
Upon passage of the College Cost Reduction Act, management evaluated the
carrying amount of goodwill and certain intangible assets. Based on the
legislative changes and the student loan business model modifications the
Company implemented as a result of the legislative changes (see "Restructuring
Plans - Legislative Changes" below), the Company recorded an impairment charge
of $39.4 million ($24.5 million after tax) during the third quarter of 2007.
This charge is included in "impairment expense" on the Company's consolidated
statements of operations.
During the third quarter of 2007, the Company also recorded an expense of $15.7
million ($9.7 million after tax) to increase the Company's allowance for loan
losses related to the increase in risk share as a result of the elimination of
the Exceptional Performer program.
RESTRUCTURING PLANS
LEGISLATIVE IMPACT
On September 6, 2007, the Company announced a strategic initiative to create
efficiencies and lower costs in advance of the anticipated passage of federal
legislation impacting the student loan programs in which the Company
participates.
4
In anticipation of the federally driven cuts to the student loan programs,
management initiated a variety of strategies to modify the Company's student
loan business model, including lowering the cost of student loan acquisition,
creating efficiencies in its asset generation business, and decreasing operating
expenses through a reduction in workforce and realignment of operating
facilities. These strategies resulted in the net reduction of approximately 400
positions in the Company's overall workforce, including the elimination of
approximately 500 positions and the creation of approximately 100 positions at
the Company's larger facilities. In addition, the Company simplified its
operating structure to leverage its larger facilities and technology by closing
five small origination offices and downsizing its presence in Indianapolis.
Implementation of the plan began immediately and was substantially completed
during the fourth quarter of 2007. The Company estimates these restructuring
activities will result in expense savings of as much as $25 million (before tax)
annually beginning in 2008.
The charges to earnings associated with these strategic decisions were fully
recognized during 2007 and totaled $20.3 million ($12.6 million after tax),
consisting of $6.3 million ($3.9 million after tax) in severance costs, $3.9
million ($2.5 million after tax) in contract termination costs, and $10.1
million ($6.2 million after tax) in non-cash charges primarily related to the
impairment of property and equipment.
During the three month periods ended September 30, 2007 and December 31, 2007,
the Company recorded restructuring charges of $15.0 million ($9.3 million after
tax) and $5.3 million ($3.3 million after tax), respectively. Selected
information relating to the restructuring charge follows:
EMPLOYEE WRITE-DOWN
TERMINATION LEASE OF PROPERTY
BENEFITS TERMINATIONS AND EQUIPMENT TOTAL
------------- ------------- ------------- -----------
(DOLLARS IN THOUSANDS)
Restructuring costs recognized during the three
month period ended September 30, 2007 $ 4,788 (a) 168 (b) 10,060 (c) 15,016
Write-down of assets to net realizable value - - (10,060) (10,060)
Cash payments (2,542) - - (2,542)
------------- ------------ ----------- -----------
Restructuring accrual as of September 30, 2007 2,246 168 - 2,414
Restructuring costs recognized during the three
month period ended December 31, 2007 1,527 (a) 3,748 (b) - 5,275
Adjustment from initial estimate of charges (134) (16) - (150)
Cash payments (2,446) (218) - (2,664)
------------- ------------ ----------- -----------
Restructuring accrual as of December 31, 2007 $ 1,193 3,682 - 4,875
============= ============ =========== ===========
(a) Employee termination benefits are included in "salaries and benefits" on the
consolidated statements of operations.
(b) Lease termination costs are included in "other expenses" on the consolidated
statements of operations.
(c) Costs related to the write-down of property and equipment are included in
"impairment expense" on the consolidated statements of operations.
5
Selected information relating to the restructuring charge by operating segment
and Corporate Activity and Overhead follows:
RESTRUCTURING COSTS
RECOGNIZED DURING
THE THREE MONTH WRITE-DOWN OF RESTRUCTURING
PERIOD ENDED ASSETS TO NET ACCRUAL AS OF
OPERATING SEGMENT SEPTEMBER 30, 2007 REALIZABLE VALUE CASH PAYMENTS SEPTEMBER 30, 2007
- -------------------------------------- ----------------- ---------------- -------------- ------------------
(DOLLARS IN THOUSANDS)
Asset Generation and Management $ 2,169 (248) (1,428) 493
Student Loan and Guaranty Servicing 1,231 - (389) 842
Tuition Payment Processing and
Campus Commerce - - - -
Enrollment Services and List
Management 737 - (509) 228
Software and Technical Services 58 - - 58
Corporate Activity and Overhead 10,821 (9,812) (216) 793
----------------- ---------------- -------------- ------------------
$ 15,016 (10,060) (2,542) 2,414
================= ================ ============== ==================
RESTRUCTURING COSTS
RECOGNIZED DURING
RESTRUCTURING THE THREE MONTH ADJUSTMENT RESTRUCTURING
ACCRUAL AS OF PERIOD ENDED FROM INITIAL ACCRUAL AS OF
OPERATING SEGMENT SEPTEMBER 30, 2007 DECEMBER 31, 2007 ESTIMATE OF CHARGES CASH PAYMENTS DECEMBER 31, 2007
- ------------------------------------ ------------------ ----------------- ------------------ ------------- -----------------
(DOLLARS IN THOUSANDS)
Asset Generation and Management $ 493 485 (25) (575) 378
Student Loan and Guaranty Servicing 842 609 (95) (887) 469
Tuition Payment Processing and
Campus Commerce - - - - -
Enrollment Services and List
Management 228 192 - (339) 81
Software and Technical Services 58 - - (58) -
Corporate Activity and Overhead 793 3,989 (30) (805) 3,947
----------------- ----------------- ------------------ -------------- -----------------
$ 2,414 5,275 (150) (2,664) 4,875
================= ================= ================== ============== =================
6
CAPITAL MARKETS IMPACT
The Company has significant financing needs that it meets through the capital
markets, including the debt and secondary markets. Since August 2007, these
markets have experienced unprecedented disruptions, which are having an adverse
impact on the Company's earnings and financial condition. On January 23, 2008,
the Company announced a plan to further reduce operating expenses related to its
student loan origination and related businesses as a result of the ongoing
disruption in the credit markets. Since the Company cannot determine nor control
the length of time or extent to which the capital markets remain disrupted, it
will reduce its direct and indirect costs related to its asset generation
activities and be more selective in pursuing origination activity, in both the
school and direct to consumer channels, in both private loans and FFELP loans.
Accordingly, the Company has suspended Consolidation student loan originations
and will continue to review the viability of continuing to originate and acquire
student loans through its various channels. As a result of these items, the
Company will experience a decrease in origination volume compared to historical
periods.
Management has developed a restructuring plan related to its asset generation
and supporting businesses which reduces marketing, sales, service, and related
support costs through a reduction in workforce of approximately 300 positions
and realignment of certain operating facilities. Subject to completion of the
necessary legal notices and requirements, implementation of the plan will begin
immediately and is expected to be substantially complete during the second
quarter of 2008.
The Company estimates that the total after-tax charge to earnings in 2008
associated with this restructuring plan will be approximately $17 million,
consisting of approximately $4 million in severance costs, up to $2 million in
contract termination costs, and approximately $11 million in non-cash charges
related to the impairment of property and equipment, intangible assets, and
goodwill.
As a result of this restructuring plan, the Company expects to reduce operating
expenses by $15 million to $20 million (before tax) annually.
DISCONTINUED OPERATIONS
On May 25, 2007, the Company sold EDULINX Canada Corporation ("EDULINX"), a
Canadian student loan service provider and subsidiary of the Company. As a
result of this transaction, the results of operations for EDULINX are reported
as discontinued operations in the accompanying consolidated statements of
operations for all periods presented. The components of the income (loss) from
discontinued operations are presented below:
7
THREE MONTHS ENDED YEAR ENDED
------------------------------------------ ----------------------------
DECEMBER 31, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------ ------------- ------------- -------------
(DOLLARS IN THOUSANDS)
Operating income (loss) of discontinued operations,
net of tax $ - - (1,438) 5,716 2,239
Gain (loss) on disposal, net of tax (159) 909 - (8,291) -
------------- ------------ ------------- ------------- -------------
Income (loss) from discontinued operations,
net of tax $ (159) 909 (1,438) (2,575) 2,239
============= ============ ============= ============= =============
The following operations related to EDULINX have been segregated from continuing
operations and reported as discontinued operations through the date of
disposition.
THREE MONTHS ENDED YEAR ENDED
------------------------------------------ ---------------------------
DECEMBER 31, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------ ------------- ------------- -------------
(DOLLARS IN THOUSANDS)
Net interest income $ - - 56 124 232
Other income - - 20,776 31,511 68,966
Operating expenses - - (12,559) (22,357) (55,122)
Impairment expense - - (9,602) - (9,602)
------------- ------------ ------------- ------------- -------------
Income (loss) before income taxes - - (1,329) 9,278 4,474
Income tax expense - - 109 3,562 2,235
------------- ------------ ------------- ------------- -------------
Operating income (loss) of discontinued
operations, net of tax $ - - (1,438) 5,716 2,239
============= ============ ============= ============= =============
NON-GAAP PERFORMANCE MEASURES
In accordance with the rules and regulations of the Securities and Exchange
Commission ("SEC"), the Company prepares financial statements in accordance with
generally accepted accounting principles ("GAAP"). In addition to evaluating the
Company's GAAP-based financial information, management also evaluates the
Company on a non-GAAP performance measure referred to as base net income. While
base net income is not a substitute for reported results under GAAP, the Company
provides base net income as additional information regarding its financial
results.
Base net income is the primary financial performance measure used by management
to develop financial plans, allocate resources, track results, evaluate
performance, establish corporate performance targets, and determine incentive
compensation. The Company's board of directors utilizes base net income to set
performance targets and evaluate management's performance. The Company also
believes analysts, rating agencies, and creditors use base net income in their
evaluation of the Company's results of operations. While base net income is not
a substitute for reported results under GAAP, the Company utilizes base net
income in operating its business because base net income permits management to
make meaningful period-to-period comparisons by eliminating the temporary
volatility in the Company's performance that arises from certain items that are
primarily affected by factors beyond the control of management. Management
believes base net income provides additional insight into the financial
performance of the core business activities of the Company's operations.
8
The following table provides a reconciliation of GAAP net income (loss) to base
and adjusted base net income (loss).
THREE MONTHS ENDED YEAR ENDED
------------------------------------------- ---------------------------
DECEMBER 31, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------- ------------- ------------- -------------
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
GAAP net income (loss) $ 19,009 (15,689) (7,310) 32,854 68,155
Base adjustments:
Derivative market value, foreign currency,
and put option adjustments (14,940) (18,449) 19,510 (26,806) 31,075
Amortization of intangible assets 6,412 10,885 7,758 30,426 25,062
Compensation related to business combinations 655 503 476 2,111 1,747
Variable-rate floor income (2,416) (597) - (3,013) -
------------- ------------- ------------- ------------- -------------
Total base adjustments before income taxes (10,289) (7,658) 27,744 2,718 57,884
Net tax effect (a) 4,474 2,971 (10,231) 346 (20,233)
------------- ------------- ------------- ------------- -------------
Total base adjustments (5,815) (4,687) 17,513 3,064 37,651
------------- ------------- ------------- ------------- -------------
Base net income (loss) 13,194 (20,376) 10,203 35,918 105,806
Discontinued operations 159 (909) 1,438 2,575 (2,239)
------------- ------------- ------------- ------------- -------------
Base net income (loss), excluding discontinued
operations 13,353 (21,285) 11,641 38,493 103,567
Adjustments to base net income (loss):
Special allowance yield adjustment (b) - - - - (24,460)
Derivative settlements, net - - - - (19,794)
------------- ------------- ------------- ------------- -------------
Total adjustments to base net income (loss)
before income taxes - - - - (44,254)
Net tax effect (a) - - - - 16,817
------------- ------------- ------------- ------------- -------------
Total adjustments to base net income (loss) - - - - (27,437)
------------- ------------- ------------- ------------- -------------
Adjusted base net income (loss),
excluding discontinued operations $ 13,353 (21,285) 11,641 38,493 76,130
============= ============= ============= ============= =============
EARNINGS (LOSS) PER SHARE, BASIC AND DILUTED:
GAAP net income (loss) $ 0.39 (0.32) (0.14) 0.66 1.27
Total base adjustments (0.12) (0.10) 0.33 0.06 0.70
------------- ------------- ------------- ------------- -------------
Base net income (loss) 0.27 (0.42) 0.19 0.72 1.97
Discontinued operations - (0.02) 0.03 0.06 (0.04)
------------- ------------- ------------- ------------- -------------
Base net income (loss), excluding
discontinued operations 0.27 (0.44) 0.22 0.78 1.93
Total adjustments to base net income (loss) - - - - (0.51)
------------- ------------- ------------- ------------- -------------
Adjusted base net income (loss),
excluding discontinued operations $ 0.27 (0.44) 0.22 0.78 1.42
============= ============= ============= ============= =============
(a) Tax effect computed at 38%. The change in the value of the put options
are not tax effected as this is not deductible for income tax purposes.
(b) On January 19, 2007, the Company entered into a Settlement Agreement
(the "Agreement") with the Department of Education (the "Department") to
resolve the audit by the Department's Office of Inspector General (the
"OIG") of the Company's portfolio of student loans receiving 9.5%
special allowance payments. Under the terms of the Agreement, all 9.5%
special allowance payments were eliminated for periods on and after July
1, 2006. The Company had been deferring recognition of 9.5% special
allowance payments related to those loans subject to the OIG audit
effective July 1, 2006 pending satisfactory resolution of this issue.
9
LIMITATIONS OF BASE NET INCOME
While GAAP provides a uniform, comprehensive basis of accounting, for the
reasons discussed above, management believes base net income is an important
additional tool for providing a more complete understanding of the Company's
results of operations. Nevertheless, base net income is subject to certain
general and specific limitations that investors should carefully consider. For
example, unlike financial statements prepared in accordance with GAAP, the
Company's base net income presentation does not represent a comprehensive basis
of accounting. In addition, the Company's base net income is not a defined term
within GAAP and may not be comparable to similarly titled measures reported by
other companies. Investors, therefore, may not be able to compare the Company's
performance with that of other companies based upon base net income. Base net
income results are only meant to supplement GAAP results by providing additional
information regarding the operational and performance indicators that are most
closely monitored and used by the Company's management and board of directors to
assess performance and information which the Company believes is important to
analysts, rating agencies, and creditors.
Other limitations of base net income arise from the specific adjustments that
management makes to GAAP results to derive base net income results. These
differences are described below.
DIFFERENCES BETWEEN GAAP AND BASE NET INCOME
Management's financial planning and evaluation of operating results does not
take into account the following items because their volatility and/or inherent
uncertainty affect the period-to-period comparability of the Company's results
of operations. A more detailed discussion of the differences between GAAP and
base net income follows.
DERIVATIVE MARKET VALUE, FOREIGN CURRENCY, AND PUT OPTION ADJUSTMENTS: Base net
income excludes the periodic unrealized gains and losses that are caused by the
change in fair value on derivatives in which the Company does not qualify for
"hedge treatment" under GAAP. Statement of Financial Accounting Standards No.
133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES ("SFAS No.
133"), requires that changes in fair value of derivative instruments be
recognized currently in earnings unless specific hedge accounting criteria, as
specified by SFAS No. 133, are met. The Company maintains an overall interest
rate risk management strategy that incorporates the use of derivative
instruments to reduce the economic effect of interest rate volatility.
Derivative instruments primarily used by the Company include interest rate
swaps, basis swaps, interest rate floor contracts, and cross-currency interest
rate swaps. Management has structured all of the Company's derivative
transactions with the intent that each is economically effective. However, the
Company does not qualify its derivatives for "hedge treatment" as defined by
SFAS No. 133, and the stand-alone derivative must be marked-to-market in the
income statement with no consideration for the corresponding change in fair
value of the hedged item. The Company believes these point-in-time estimates of
asset and liability values associated with its derivatives that are subject to
interest rate fluctuations make it difficult to evaluate the ongoing results of
operations against its business plan and affect the period-to-period
comparability of the results of operations. Included in base net income are the
economic effects of the Company's derivative instruments, which includes any
cash paid or received being recognized as an expense or revenue upon actual
derivative settlements. These settlements are included in "Derivative
settlements, net" on the Company's consolidated statements of operations.
10
Base net income excludes the foreign currency transaction gains or losses caused
by the re-measurement of the Company's Euro-denominated bonds to U.S. dollars.
In connection with the issuance of the Euro-denominated bonds, the Company has
entered into cross-currency interest rate swaps. Under the terms of these
agreements, the principal payments on the Euro-denominated notes will
effectively be paid at the exchange rate in effect at the issuance date of the
bonds. The cross-currency interest rate swaps also convert the floating rate
paid on the Euro-denominated bonds' (EURIBOR index) to an index based on LIBOR.
Included in base net income are the economic effects of any cash paid or
received being recognized as an expense or revenue upon actual settlements of
the cross-currency interest rate swaps. These settlements are included in
"Derivative settlements, net" on the Company's consolidated statements of
operations. However, the gains or losses caused by the re-measurement of the
Euro-denominated bonds to U.S. dollars and the change in market value of the
cross-currency interest rate swaps are excluded from base net income as the
Company believes the point-in-time estimates of value that are subject to
currency rate fluctuations related to these financial instruments make it
difficult to evaluate the ongoing results of operations against the Company's
business plan and affect the period-to-period comparability of the results of
operations. The re-measurement of the Euro-denominated bonds correlates with the
change in fair value of the cross-currency interest rate swaps. However, the
Company will experience unrealized gains or losses related to the cross-currency
interest rate swaps if the two underlying indices (and related forward curve) do
not move in parallel.
Base net income also excludes the change in fair value of put options issued by
the Company for certain business acquisitions. The put options are valued by the
Company each reporting period using a Black-Scholes pricing model. Therefore,
the fair value of these options is primarily affected by the strike price and
term of the underlying option, the Company's current stock price, and the
dividend yield and volatility of the Company's stock. The Company believes these
point-in-time estimates of value that are subject to fluctuations make it
difficult to evaluate the ongoing results of operations against the Company's
business plans and affects the period-to-period comparability of the results of
operations.
The gains and/or losses included in "Derivative market value, foreign currency,
and put option adjustments" on the Company's consolidated statements of
operations are primarily caused by interest rate and currency volatility,
changes in the value of put options based on the inputs used in the
Black-Scholes pricing model, as well as the volume and terms of put options and
of derivatives not receiving hedge treatment. Base net income excludes these
unrealized gains and losses and isolates the effect of interest rate, currency,
and put option volatility on the fair value of such instruments during the
period. Under GAAP, the effects of these factors on the fair value of the put
options and the derivative instruments (but not the underlying hedged item) tend
to show more volatility in the short term.
AMORTIZATION OF INTANGIBLE ASSETS: Base net income excludes the amortization of
acquired intangibles, which arises primarily from the acquisition of definite
life intangible assets in connection with the Company's acquisitions, since the
Company feels that such charges do not drive the Company's operating performance
on a long-term basis and can affect the period-to-period comparability of the
results of operations.
COMPENSATION RELATED TO BUSINESS COMBINATIONS: The Company has structured
certain business combinations in which consideration paid has been dependent on
the sellers' continued employment with the Company. As such, the value of the
consideration paid is recognized as compensation expense by the Company over the
term of the applicable employment agreement. Base net income excludes this
expense because the Company believes such charges do not drive its operating
performance on a long-term basis and can affect the period-to-period
comparability of the results of operations. If the Company did not enter into
the employment agreements in connection with the acquisition, the amount paid to
these former shareholders of the acquired entity would have been recorded by the
Company as additional consideration of the acquired entity, thus, not having an
effect on the Company's results of operations.
11
VARIABLE-RATE FLOOR INCOME: Loans that reset annually on July 1 can generate
excess spread income compared with the rate based on the special allowance
payment formula in declining interest rate environments. The Company refers to
this additional income as variable-rate floor income. The Company excludes
variable-rate floor income from its base net income since its timing and amount
(if any) is uncertain, it has been eliminated by legislation for all loans
originated on and after April 1, 2006, and it is in excess of expected spreads.
In addition, because variable-rate floor income is subject to the underlying
rate for the subject loans being reset annually on July 1, it is a factor beyond
the Company's control which can affect the period-to-period comparability of
results of operations.
Variable-rate floor income is calculated by the Company on a statutory basis. As
a result of the disruptions in the debt and secondary capital markets beginning
in August 2007, the benefit of variable-rate floor income has not been realized
by the Company due to the widening of the spread between short term interest
rate indices and the Company's actual cost of funds. The Company entered into
interest rate swaps with effective dates beginning in January 2008 to hedge a
portion of the variable-rate floor income. Settlements on these derivatives will
be presented as part of the Company's statutory calculation of variable-rate
floor income.
DISCONTINUED OPERATIONS: In May 2007, the Company sold EDULINX. As a result of
this transaction, the results of operations for EDULINX are reported as
discontinued operations for all periods presented. The Company presents base net
income excluding discontinued operations since the operations and cash flows of
EDULINX have been eliminated from the ongoing operations of the Company.
SPECIAL ALLOWANCE YIELD ADJUSTMENT AND RELATED HEDGING ACTIVITY: The Company
excludes the special allowance yield adjustment and the net settlements received
or paid on those derivative instruments used to hedge the student loans that
were earning 9.5% special allowance payments. Pursuant to the settlement
agreement entered into with the Department, effective July 1, 2006, the Company
no longer receives 9.5% special allowance payments. Prior to this agreement, the
Company excluded the special allowance yield adjustments from base net income
because the Company expected 9.5% special allowance payments to decline over
time due to the fact that in April 2004 it ceased adding loans receiving 9.5%
special allowance payments to its portfolio.
12
IMPACT OF LEGISLATIVE AND RESTRUCTURING CHARGES TO BASE NET INCOME
The following table summarizes the impact of the legislative and restructuring
charges recognized by the Company during the third quarter of 2007 to the
Company's non-GAAP performance measure referred to as base net income (see
"Non-GAAP Performance Measures.") Additional detail related to the legislative
and restructuring charges can be found under "Legislative Developments" and
"Restructuring Plans - Legislative Changes" in this earnings supplement.
THREE MONTHS ENDED YEAR ENDED
------------------------------------------ ----------------------------
DECEMBER 31, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------- ------------- ------------- -------------
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
Adjusted base net income (loss),
excluding discontinued operations $ 13,353 (21,285) 11,641 38,493 76,130
Legislative charges, net of tax - 34,197 - 34,197 -
Restructuring charges, net of tax 3,270 9,310 - 12,580 -
------------- ------------- ------------- ------------- -------------
Adjusted base net income, excluding
discontinued operations, legislative
charges (net of tax), and restructuring
charges (net of tax) $ 16,623 22,222 11,641 85,270 76,130
============= ============= ============= ============= =============
EARNINGS (LOSS) PER SHARE, BASIC AND DILUTED:
Adjusted base net income (loss),
excluding discontinued operations $ 0.27 (0.44) 0.22 0.78 1.42
Legislative charges, net of tax - 0.70 - 0.69 -
Restructuring charges, net of tax 0.07 0.19 - 0.25 -
------------- ------------- ------------- ------------- -------------
Adjusted base net income, excluding
discontinued operations, legislative
charges (net of tax), and restructuring
charges (net of tax) $ 0.34 0.45 0.22 1.72 1.42
============= ============= ============= ============= =============
13
OPERATING SEGMENTS
The Company has five operating segments as defined in Statement of Financial
Accounting Standards No. 131, DISCLOSURES ABOUT SEGMENTS OF ENTERPRISE AND
RELATED INFORMATION ("SFAS No. 131") as follows: Asset Generation and
Management, Student Loan and Guaranty Servicing, Tuition Payment Processing and
Campus Commerce, Enrollment Services and List Management, and Software and
Technical Services. The Company's operating segments are defined by the products
and services they offer or the types of customers they serve, and they reflect
the manner in which financial information is currently evaluated by management.
The accounting policies of the Company's operating segments are the same as
those described in the summary of significant accounting policies included in
the Company's consolidated financial statements included in the Company's Annual
Report on Form 10-K for the year ended December 31, 2007. Intersegment revenues
are charged by a segment to another segment that provides the product or
service. Intersegment revenues and expenses are included within each segment
consistent with the income statement presentation provided to management.
Changes in management structure or allocation methodologies and procedures may
result in changes in reported segment financial information.
The management reporting process measures the performance of the Company's
operating segments based on the management structure of the Company as well as
the methodology used by management to evaluate performance and allocate
resources. Management, including the Company's chief operating decision maker,
evaluates the performance of the Company's operating segments based on their
profitability. Management measures the profitability of the Company's operating
segments based on base net income. Accordingly, information regarding the
Company's operating segments is provided based on base net income. While base
net income is not a substitute for reported results under GAAP, the Company
relies on base net income to manage each operating segment because it believes
this measure provides additional information regarding the operational and
performance indicators that are most closely assessed by management.
In May 2007, the Company sold EDULINX, a Canadian student loan service provider
and subsidiary of the Company. As a result of this transaction, the results of
operations for EDULINX are reported as discontinued operations for all periods
presented. The operating results of EDULINX were included in the Student Loan
and Guaranty Servicing operating segment. The Company presents base net income
excluding discontinued operations since the operations and cash flows of EDULINX
have been eliminated from the ongoing operations of the Company. Therefore, the
results of operations for the Student Loan and Guaranty Servicing segment
exclude the operating results of EDULINX for all periods presented.
ASSET GENERATION AND MANAGEMENT
In the Company's Asset Generation and Management segment, the Company generates
primarily federally guaranteed student loans through direct origination or
through acquisitions. The student loan assets are held in a series of education
lending subsidiaries designed specifically for this purpose. Revenues are
primarily generated from net interest income on the student loan assets.
Earnings and earnings growth are directly affected by the size of the Company's
portfolio of student loans, the interest rate characteristics of its portfolio,
the costs associated with financing, servicing, and managing its portfolio, and
the costs associated with origination and acquisition of the student loans in
the portfolio, which includes, among other things, borrower benefits and rebate
fees paid to the federal government. The Company generates the majority of its
earnings from the spread, referred to as its student loan spread, between the
yield it receives on its student loan portfolio and the costs previously
described. While the spread may vary due to fluctuations in interest rates, the
special allowance payments the Company receives from the federal government
ensure the Company receives a minimum yield on its student loans, so long as
certain requirements are met.
14
STUDENT LOAN AND GUARANTY SERVICING
The Student Loan and Guaranty Servicing segment provides for the servicing of
the Company's student loan portfolios and the portfolios of third parties and
servicing provided to guaranty agencies. The servicing activities include
application processing, underwriting, disbursement of funds, customer service,
account maintenance, federal reporting and billing collections, payment
processing, default aversion, claim filing, and recovery/collection services.
These activities are performed internally for the Company's portfolio in
addition to generating fee revenue when performed for third-party clients. The
following are the primary product and service offerings the Company offers as
part of its Student Loan and Guaranty Servicing segment:
o Origination and servicing of FFELP loans;
o Origination and servicing of non-federally insured student
loans; and
o Servicing and support outsourcing for guaranty agencies.
TUITION PAYMENT PROCESSING AND CAMPUS COMMERCE
The Tuition Payment Processing and Campus Commerce segment provides actively
managed tuition payment solutions, online payment processing, detailed
information reporting, and data integration services to K-12 and higher
educational institutions, families, and students. In addition, this segment
provides financial needs analysis for students applying for aid in private and
parochial K-12 schools. This segment also provides customer-focused electronic
transactions, information sharing, and account and bill presentment to
educational institutions.
ENROLLMENT SERVICES AND LIST MANAGEMENT
The Enrollment Services and List Management segment provides a wide range of
direct marketing products and services to help schools and businesses reach the
middle school, high school, college bound high school, college, and young adult
market places. In addition, this segment offers products and services that are
focused on helping (i) students plan and prepare for life after high school and
(ii) colleges recruit and retain students.
SOFTWARE AND TECHNICAL SERVICES
The Software and Technical Services segment provides information technology
products and full-service technical consulting, with core areas of business in
educational loan software solutions, business intelligence, technical consulting
services, and enterprise content management solutions.
15
SEGMENT OPERATING RESULTS
The tables below reflect base net income for each of the Company's operating
segments. Reconciliation of the segment totals to the Company's operating
results in accordance with GAAP is also included in the tables below.
THREE MONTHS ENDED DECEMBER 31, 2007
------------------------------------------------------------------------------------------------------------
(DOLLARS IN THOUSANDS)
STUDENT TUITION ENROLLMENT "BASE NET
ASSET LOAN PAYMENT SERVICES SOFTWARE CORPORATE INCOME"
GENERATION AND PROCESSING AND AND ACTIVITY ELIMINATIONS ADJUSTMENTS GAAP
AND GUARANTY AND CAMPUS LIST TECHNICAL TOTAL AND AND RECLASS- TO GAAP RESULTS OF
MANAGEMENT SERVICING COMMERCE MANAGEMENT SERVICES SEGMENTS OVERHEAD IFICATIONS RESULTS OPERATIONS
----------- --------- ---------- ----------- --------- -------- --------- ------------ ----------- ----------
Total interest income $ 428,935 852 1,139 57 -- 430,983 1,255 -- 2,416 434,654
Interest expense 381,091 -- -- 2 -- 381,093 9,306 -- -- 390,399
---------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Net interest income 47,844 852 1,139 55 -- 49,890 (8,051) -- 2,416 44,255
Less provision for
loan losses 4,550 -- -- -- -- 4,550 -- -- -- 4,550
--------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Net interest income
after provision
for loan losses 43,294 852 1,139 55 -- 45,340 (8,051) -- 2,416 39,705
--------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Other income:
Loan and guaranty
servicing income 6 32,947 -- -- -- 32,953 -- -- -- 32,953
Other fee-based income 2,876 -- 11,190 29,970 -- 44,036 536 -- -- 44,572
Software services income -- -- -- 138 5,509 5,647 -- -- -- 5,647
Other income 414 (11) 25 -- -- 428 1,445 -- -- 1,873
Intersegment revenue -- 15,866 180 -- 2,657 18,703 1,432 (20,135) -- --
Derivative market value,
foreign currency,
and put option
adjustments -- -- -- -- -- -- -- -- 14,940 14,940
Derivative
settlements, net 11,577 -- -- -- -- 11,577 -- -- -- 11,577
-------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Total other income 14,873 48,802 11,395 30,108 8,166 113,344 3,413 (20,135) 14,940 111,562
-------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Operating expenses:
Salaries and benefits 2,501 18,474 5,114 6,994 5,090 38,173 15,170 623 655 54,621
Restructure expense -
severance
and contract
termination costs 485 609 -- 192 -- 1,286 3,989 (5,275) -- --
Other expenses 6,265 10,399 2,379 17,488 771 37,302 19,153 2,801 6,412 65,668
Intersegment expenses 15,120 1,871 (20) 83 225 17,279 1,005 (18,284) -- --
--------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Total operating
expenses 24,371 31,353 7,473 24,757 6,086 94,040 39,317 (20,135) 7,067 120,289
--------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Income (loss)
before income
taxes 33,796 18,301 5,061 5,406 2,080 64,644 (43,955) -- 10,289 30,978
Income tax expense
(benefit) (a) 12,842 6,954 1,923 2,054 790 24,563 (17,226) -- 4,473 11,810
--------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Net income (loss) from
continuing operations 20,954 11,347 3,138 3,352 1,290 40,081 (26,729) -- 5,816 19,168
Income (loss) from
discontinued operations,
net of tax -- -- -- -- -- -- -- -- (159) (159)
--------- ------- -------- ---------- -------- ---------- -------- ---------- ----------- ---------
Net income (loss) $20,954 11,347 3,138 3,352 1,290 40,081 (26,729) -- 5,657 19,009
========= ======= ======== ========== ======== ========== ======== ========== =========== =========
Three months ended
December 31, 2007:
After Tax
Operating Margin -
excluding
restructure expense 36.5% 23.6% 25.0% 11.5% 15.8% 25.8%
Three months ended
December 31, 2006:
After Tax
Operating Margin -
excluding
impairment expense 27.8% 21.6% 21.4% 6.5% 10.3% 21.4%
(a) Income taxes are based on a percentage of net income before tax
for the individual operating segment.
16
THREE MONTHS ENDED DECEMBER 31, 2006
------------------------------------------------------------------------------------------------------------
(DOLLARS IN THOUSANDS)
STUDENT TUITION ENROLLMENT "BASE NET
ASSET LOAN PAYMENT SERVICES SOFTWARE CORPORATE INCOME"
GENERATION AND PROCESSING AND AND ACTIVITY ELIMINATIONS ADJUSTMENTS GAAP
AND GUARANTY AND CAMPUS LIST TECHNICAL TOTAL AND AND RECLASS- TO GAAP RESULTS OF
MANAGEMENT SERVICING COMMERCE MANAGEMENT SERVICES SEGMENTS OVERHEAD IFICATIONS RESULTS OPERATIONS
----------- --------- ---------- ----------- --------- -------- --------- ------------ ----------- ----------
Total interest income $ 406,138 3,052 1,344 175 38 410,747 2,963 (2,279) -- 411,431
Interest expense 339,270 -- 3 -- -- 339,273 10,621 (2,279) -- 347,615
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Net interest income 66,868 3,052 1,341 175 38 71,474 (7,658) -- -- 63,816
Less provision for
loan losses 1,800 -- -- -- -- 1,800 -- -- -- 1,800
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Net interest income
after provision
for loan losses 65,068 3,052 1,341 175 38 69,674 (7,658) -- -- 62,016
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Other income:
Loan and guaranty
servicing income -- 30,165 -- -- -- 30,165 -- -- -- 30,165
Other fee-based income 3,395 -- 9,607 23,866 -- 36,868 -- -- -- 36,868
Software services income 56 4 -- 65 3,939 4,064 -- -- -- 4,064
Other income 3,246 29 -- -- -- 3,275 1,619 -- -- 4,894
Intersegment revenue -- 17,530 138 244 4,863 22,775 156 (22,931) -- --
Derivative market
value, foreign currency,
and put option
adjustments -- -- -- -- -- -- -- -- (19,510) (19,510)
Derivative settlements,
net (31) -- -- -- -- (31) 7,044 -- -- 7,013
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Total other income 6,666 47,728 9,745 24,175 8,802 97,116 8,819 (22,931) (19,510) 63,494
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Operating expenses:
Salaries and benefits 13,260 21,562 4,520 6,961 6,354 52,657 4,115 (3,958) 476 53,290
Impairment expense 21,687 -- -- -- -- 21,687 (199) -- -- 21,488
Other expenses 12,457 8,313 2,214 14,807 1,024 38,815 16,130 -- 7,758 62,703
Intersegment expenses 13,898 3,191 528 17 -- 17,634 1,339 (18,973) -- --
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Total operating
expenses 61,302 33,066 7,262 21,785 7,378 130,793 21,385 (22,931) 8,234 137,481
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Income (loss)
before income taxes 10,432 17,714 3,824 2,565 1,462 35,997 (20,224) -- (27,744) (11,971)
Income tax expense
(benefit) (a) 3,964 6,731 1,453 975 556 13,679 (9,547) -- (10,231) (6,099)
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Net income (loss) from
continuing operations 6,468 10,983 2,371 1,590 906 22,318 (10,677) -- (17,513) (5,872)
Income (loss) from
discontinued operations,
net of tax -- -- -- -- -- -- -- -- (1,438) (1,438)
---------- -------- -------- -------- -------- ---------- -------- --------- --------- ---------
Net income (loss) $ 6,468 10,983 2,371 1,590 906 22,318 (10,677) -- (18,951) (7,310)
========== ========= ======== ======== ======== ========== ======== ========= ========= =========
(a) Income taxes are based on a percentage of net income before tax
for the individual operating segment.
17
YEAR ENDED DECEMBER 31, 2007
------------------------------------------------------------------------------------------------------------
(DOLLARS IN THOUSANDS)
STUDENT TUITION ENROLLMENT "BASE NET
ASSET LOAN PAYMENT SERVICES SOFTWARE CORPORATE INCOME"
GENERATION AND PROCESSING AND AND ACTIVITY ELIMINATIONS ADJUSTMENTS GAAP
AND GUARANTY AND CAMPUS LIST TECHNICAL TOTAL AND AND RECLASS- TO GAAP RESULTS OF
MANAGEMENT SERVICING COMMERCE MANAGEMENT SERVICES SEGMENTS OVERHEAD IFICATIONS RESULTS OPERATIONS
----------- --------- ---------- ----------- --------- -------- --------- ------------ ----------- ----------
Total interest income $1,730,882 5,459 3,809 347 18 1,740,515 7,485 (3,737) 3,013 1,747,276
Interest expense 1,465,883 -- 7 7 -- 1,465,897 40,502 (3,737) -- 1,502,662
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Net interest
income 264,999 5,459 3,802 340 18 274,618 (33,017) -- 3,013 244,614
Less provision
for loan losses 28,178 -- -- -- -- 28,178 -- -- -- 28,178
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Net interest
income after
provision
for loan losses 236,821 5,459 3,802 340 18 246,440 (33,017) -- 3,013 216,436
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Other income:
Loan and guaranty
servicing income 294 127,775 -- -- -- 128,069 -- -- -- 128,069
Other fee-based income 13,387 -- 42,682 103,311 -- 159,380 1,508 -- -- 160,888
Software services income -- -- -- 594 22,075 22,669 -- -- -- 22,669
Other income 8,030 -- 84 -- -- 8,114 11,095 -- -- 19,209
Intersegment revenue -- 74,687 688 891 15,683 91,949 9,040 (100,989) -- --
Derivative market value,
foreign currency,
and put option
adjustments -- -- -- -- -- -- -- -- 26,806 26,806
Derivative settlements,
net 6,628 -- -- -- -- 6,628 12,049 -- -- 18,677
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Total other income 28,339 202,462 43,454 104,796 37,758 416,809 33,692 (100,989) 26,806 376,318
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Operating expenses:
Salaries and benefits 23,101 85,462 20,426 33,480 23,959 186,428 49,839 (1,747) 2,111 236,631
Restructure expense -
severance and contract
termination costs 2,406 1,840 -- 929 58 5,233 4,998 (10,231) -- --
Impairment expense 28,291 -- -- 11,401 -- 39,692 9,812 -- -- 49,504
Other expenses 29,205 36,618 8,901 60,445 2,995 138,164 77,915 2,969 30,426 249,474
Intersegment expenses 74,714 10,552 364 335 775 86,740 5,240 (91,980) -- --
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Total operating
expenses 157,717 134,472 29,691 106,590 27,787 456,257 147,804 (100,989) 32,537 535,609
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Income (loss)
before income
taxes 107,443 73,449 17,565 (1,454) 9,989 206,992 (147,129) -- (2,718) 57,145
Income tax expense
(benefit) (a) 40,828 27,910 6,675 (553) 3,796 78,656 (57,285) -- 345 21,716
---------- -------- -------- -------- -------- ---------- -------- --------- ----------- ----------
Net income (loss)
from continuing
operations 66,615 45,539 10,890 (901) 6,193 128,336 (89,844) -- (3,063) 35,429
Income (loss) from
discontinued
operations, net tax -- -- -- -- -- -- -- -- (2,575) (2,575)
---------- -------- -------- -------- -------- ---------- -------- --------- ---------- ----------
Net income (loss) $ 66,615 45,539 10,890 (901) 6,193 128,336 (89,844) -- (5,638) 32,854
========== ======== ======== ======== ======== ========== ======== ========= ========== ==========
Year ended
December 31, 2007:
After Tax
Operating Margin -
excluding restructure
expense, impairment
expense, and provision
for loan losses
related to the loss
of Exceptional
Performer 34.0% 22.5% 23.0% 6.4% 16.5% 24.0%
Year ended
December 31, 2006:
After Tax
Operating Margin -
excluding
impairment expense 34.5% 20.8% 19.7% 11.6% 15.1% 26.8%
(a) Income taxes are based on a percentage of net income before tax
for the individual operating segment.
18
YEAR ENDED DECEMBER 31, 2006
------------------------------------------------------------------------------------------------------------
(DOLLARS IN THOUSANDS)
STUDENT TUITION ENROLLMENT "BASE NET
ASSET LOAN PAYMENT SERVICES SOFTWARE CORPORATE INCOME"
GENERATION AND PROCESSING AND AND ACTIVITY ELIMINATIONS ADJUSTMENTS GAAP
AND GUARANTY AND CAMPUS LIST TECHNICAL TOTAL AND AND RECLASS- TO GAAP RESULTS OF
MANAGEMENT SERVICING COMMERCE MANAGEMENT SERVICES SEGMENTS OVERHEAD IFICATIONS RESULTS OPERATIONS
----------- --------- ---------- ----------- --------- -------- --------- ------------ ----------- ----------
Total interest income $ 1,534,423 8,957 4,029 531 105 1,548,045 4,446 (2,858) -- 1,549,633
Interest expense 1,215,529 -- 8 -- -- 1,215,537 28,495 (2,858) -- 1,241,174
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Net interest income 318,894 8,957 4,021 531 105 332,508 (24,049) -- -- 308,459
Less provision for
loan losses 15,308 -- -- -- -- 15,308 -- -- -- 15,308
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Net interest income
after provision
for loan losses 303,586 8,957 4,021 531 105 317,200 (24,049) -- -- 293,151
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Other income:
Loan and guaranty
servicing income -- 121,593 -- -- -- 121,593 -- -- -- 121,593
Other fee-based
income 11,867 -- 35,090 55,361 -- 102,318 -- -- -- 102,318
Software servicees
income 238 5 -- 157 15,490 15,890 -- -- -- 15,890
Other income 19,966 97 -- -- -- 20,063 3,302 -- -- 23,365
Intersegment revenue -- 63,545 503 1,000 17,877 82,925 662 (83,587) -- --
Derivative market
value, foreign currency,
and put option
adjustments -- -- -- -- -- -- -- -- (31,075) (31,075)
Derivative
settlements, net 18,381 -- -- -- -- 18,381 5,051 -- -- 23,432
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Total other
income 50,452 185,240 35,593 56,518 33,367 361,170 9,015 (83,587) (31,075) 255,523
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Operating expenses:
Salaries and benefits 53,036 83,988 17,607 15,510 22,063 192,204 32,979 (12,254) 1,747 214,676
Impairment expense 21,687 -- -- -- -- 21,687 (199) -- -- 21,488
Other expenses 51,085 32,419 8,371 30,854 3,238 125,967 59,086 -- 25,062 210,115
Intersegment expenses 52,857 12,577 1,025 17 -- 66,476 4,857 (71,333) -- --
---------- -------- ------- -------- -------- ---------- -------- -------- ----------- ----------
Total operating
expenses 178,665 128,984 27,003 46,381 25,301 406,334 96,723 (83,587) 26,809 446,279
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Income (loss)
before income
taxes 175,373 65,213 12,611 10,668 8,171 272,036 (111,757) -- (57,884) 102,395
Income tax expense
(benefit) (a) 66,642 24,780 4,791 4,054 3,105 103,372 (46,902) -- (20,233) 36,237
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Net income (loss)
before minority
interest 108,731 40,433 7,820 6,614 5,066 168,664 (64,855) -- (37,651) 66,158
Minority interest in
subsidiary income -- -- (242) -- -- (242) -- -- -- (242)
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Net income (loss)
from continuing
operations 108,731 40,433 7,578 6,614 5,066 168,422 (64,855) -- (37,651) 65,916
Income (loss) from
discontinued operations,
net of tax -- -- -- -- -- -- -- -- 2,239 2,239
---------- -------- -------- -------- -------- ---------- -------- -------- ----------- ----------
Net income (loss) $ 108,731 40,433 7,578 6,614 5,066 168,422 (64,855) -- (35,412) 68,155
========== ======== ======== ======== ======== ========== ======== ======== =========== ==========
(a) Income taxes are based on a percentage of net income before tax
for the individual operating segment.
Corporate Activity and Overhead in the previous tables primarily includes the
following items:
o Income earned on certain investment activities;
o Interest expense incurred on unsecured debt transactions;
o Other products and service offerings that are not considered
operating segments; and
o Corporate activities and overhead functions such as executive
management, human resources, accounting and finance, legal,
marketing, and corporate technology support.
The adjustments required to reconcile from the Company's base net income measure
to its GAAP results of operations relate to differing treatments for
derivatives, foreign currency transaction adjustments, amortization of
intangible assets, discontinued operations, and certain other items that
management does not consider in evaluating the Company's operating results. See
"Non-GAAP Performance Measures." The following tables reflect adjustments
associated with these areas by operating segment and Corporate Activity and
Overhead:
19
STUDENT TUITION ENROLLMENT
ASSET LOAN PAYMENT SERVICES SOFTWARE CORPORATE
GENERATION AND PROCESSING AND AND ACTIVITY
AND GUARANTY AND CAMPUS LIST TECHNICAL AND
MANAGEMENT SERVICING COMMERCE MANAGEMENT SERVICES OVERHEAD TOTAL
-----------------------------------------------------------------------------------------
(DOLLARS IN THOUSANDS)
THREE MONTHS ENDED DECEMBER 31, 2007
-----------------------------------------------------------------------------------------
Derivative market value, foreign currency,
and put option adjustments $ (16,423) -- -- -- -- 1,483 (14,940)
Amortization of intangible assets 437 1,350 1,443 2,895 287 -- 6,412
Compensation related to business
combinations -- -- -- -- -- 655 655
Variable-rate floor income (2,416) -- -- -- -- -- (2,416)
Income (loss) from discontinued
operations, net of tax -- 159 -- -- -- -- 159
Net tax effect (a) 6,993 (513) (548) (1,100) (109) (250) 4,473
----------- ----------- ------------ ---------- ---------- ---------- ----------
Total adjustments to GAAP $ (11,409) 996 895 1,795 178 1,888 (5,657)
=========== =========== ============ ========== ========== ========== ==========
THREE MONTHS ENDED DECEMBER 31, 2006
----------------------------------------------------------------------------------------
Derivative market value, foreign currency,
and put option adjustments $ (2,261) -- -- -- -- 21,771 19,510
Amortization of intangible assets 933 2,272 1,795 1,855 903 -- 7,758
Compensation related to business
combinations -- -- -- -- -- 476 476
Variable-rate floor income -- -- -- -- -- -- --
Income (loss) from discontinued
operations, net of tax -- 1,438 -- -- -- -- 1,438
Net tax effect (a) 504 (862) (683) (705) (342) (8,143) (10,231)
----------- ----------- ------------ ---------- ---------- ---------- ----------
Total adjustments to GAAP $ (824) 2,848 1,112 1,150 561 14,104 18,951
=========== =========== ============ ========== ========== ========== ==========
YEAR ENDED DECEMBER 31, 2007
--------------------------------------------------------------------------------------
Derivative market value, foreign currency,
and put option adjustments $ (24,224) -- -- -- -- (2,582) (26,806)
Amortization of intangible assets 5,634 5,094 5,815 12,692 1,191 -- 30,426
Compensation related to business
combinations -- -- -- -- -- 2,111 2,111
Variable-rate floor income (3,013) -- -- -- -- -- (3,013)
Income (loss) from discontinued
operations, net of tax -- 2,575 -- -- -- -- 2,575
Net tax effect (a) 8,209 (1,936) (2,209) (4,823) (452) 1,556 345
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total adjustments to GAAP $ (13,394) 5,733 3,606 7,869 739 1,085 5,638
========== ========== ========== ========== ========== ========== ==========
YEAR ENDED DECEMBER 31, 2006
-----------------------------------------------------------------------------------------
Derivative market value, foreign currency,
and put option adjustments $ 5,483 -- -- -- -- 25,592 31,075
Amortization of intangible assets 7,617 5,641 5,968 4,573 1,263 -- 25,062
Compensation related to business
combinations -- -- -- -- -- 1,747 1,747
Variable-rate floor income -- -- -- -- -- -- --
Income (loss) from discontinued
operations, net of tax -- (2,239) -- -- -- -- (2,239)
Net tax effect (a) (4,978) (2,143) (2,268) (1,738) (480) (8,626) (20,233)
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total adjustments to GAAP $ 8,122 1,259 3,700 2,835 783 18,713 35,412
========== ========== ========== ========== ========== ========== ==========
(a) Tax effect computed at 38%. The change in the value of the put
option (included in Corporate Activity and Overhead) is not tax
effected as this is not deductible for income tax purposes.
20
STUDENT LOANS RECEIVABLE
Student loans receivable includes all student loans owned by or on behalf of the
Company and includes the unamortized cost of acquisition or origination less an
allowance for loan losses. The following table describes the components of the
Company's loan portfolio:
AS OF AS OF AS OF
DECEMBER 31, SEPTEMBER 30, DECEMBER 31,
2007 2007 2006
---------------------- ---------------------- ----------------------
PERCENT PERCENT PERCENT
DOLLARS OF TOTAL DOLLARS OF TOTAL DOLLARS OF TOTAL
------------ --------- ----------- ----------- ------------ ---------
(DOLLARS IN THOUSANDS)
Federally insured:
Stafford $ 6,725,910 25.2 % $ 6,683,801 25.1 % $ 5,724,586 24.1 %
PLUS/SLS 429,941 1.6 419,940 1.6 365,112 1.5
Consolidation 18,898,547 70.7 18,824,726 70.9 17,127,623 72.0
Non-federally insured 274,815 1.0 251,503 0.9 197,147 0.8
------------ --------- ------------ --------- ------------ ---------
Total 26,329,213 98.5 26,179,970 98.5 23,414,468 98.4
Unamortized premiums and deferred
origination costs 452,501 1.7 460,167 1.7 401,087 1.7
Allowance for loan losses:
Allowance - federally insured (24,534) (0.1) (23,907) (0.1) (7,601) (0.0)
Allowance - non-federally insured (21,058) (0.1) (20,107) (0.1) (18,402) (0.1)
------------ --------- ------------ --------- ------------ ---------
Net $26,736,122 100.0 % $26,596,123 100.0 % $23,789,552 100.0 %
============ ========= ============ ========= ============ =========
The impact of the College Cost Reduction Act reduces the yield on FFELP student
loans originated on or after October 1, 2007. As of December 31, 2007, the
Company has $0.4 billion of loans originated on or after October 1, 2007.
21
The following table sets forth the loans originated or acquired through each of
the Company's channels:
THREE MONTHS ENDED YEAR ENDED
---------------------------------------------- -----------------------------
DECEMBER 31, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------- ------------- ------------- -------------
(DOLLARS IN THOUSANDS)
Beginning balance $ 26,179,970 25,746,000 22,534,661 23,414,468 19,912,955
Direct channel:
Consolidation loan originations 280,963 914,842 1,762,371 3,096,754 5,299,820
Less consolidation of existing portfolio (152,509) (537,539) (843,749) (1,602,835) (2,643,880)
------------- ------------- ------------- ------------- -------------
Net consolidation loan originations 128,454 377,303 918,622 1,493,919 2,655,940
Stafford/PLUS loan originations 162,949 426,740 192,533 1,086,398 1,035,695
Branding partner channel (a) (b) 79,416 125,220 69,498 662,629 720,641
Forward flow channel 158,803 178,226 332,702 1,105,145 1,600,990
Other channels (b) 12,932 24,373 12,209 804,019 682,852
------------- ------------- ------------- ------------- -------------
Total channel acquisitions 542,554 1,131,862 1,525,564 5,152,110 6,696,118
Repayments, claims, capitalized
interest, participations, and other (208,178) (479,512) (125,756) (1,321,055) (1,332,086)
Consolidation loans lost to external parties (173,505) (200,719) (307,649) (800,978) (1,114,040)
Loans sold (11,628) (17,661) (212,352) (115,332) (748,479)
------------- ------------- ------------- ------------- -------------
Ending balance $ 26,329,213 26,179,970 23,414,468 26,329,213 23,414,468
============= ============= ============= ============= =============
(a) Included in the branding partner channel are private loan originations
of $26.3 million, $22.1 million, and $19.7 million for the three months
ended December 31, 2007, September 30, 2007, and December 31, 2006,
respectively, and $110.5 million and $55.7 million for the year ended
December 31, 2007 and 2006, respectively.
(b) Included in other channels for the year ended December 31, 2006 is
$190.1 million of acquisitions that were previously presented as
branding partner channel acquisitions. This reclassification was made
for comparative purposes due to the nature of the transactions.
22
STUDENT LOAN SPREAD
The following table analyzes the student loan spread on the Company's portfolio
of student loans. This table represents the spread on assets earned in
conjunction with the liabilities used to fund the assets, including the effects
of net derivative settlements.
THREE MONTHS ENDED YEAR ENDED
------------------------------------------- ----------------------------
DECEMBER 31, SEPTEMBER 30 DECEMBER 31, DECEMBER 31, DECEMBER 31,
2007 2007 2006 2007 2006
------------- ------------- ------------- ------------- -------------
Student loan yield (a) 7.42 % 7.83 % 7.88 % 7.76 % 7.85 %
Consolidation rebate fees (0.76) (0.76) (0.76) (0.77) (0.72)
Premium and deferred origination costs
amortization (b) (0.36) (0.36) (0.33) (0.36) (0.39)
------------- ------------- ------------- ------------- -------------
Student loan net yield 6.30 6.71 6.79 6.63 6.74
Student loan cost of funds (c) (5.33) (5.65) (5.48) (5.49) (5.12)
------------- ------------- ------------- ------------- -------------
Student loan spread 0.97 1.06 1.31 1.14 1.62
Variable-rate floor income (d) (0.04) (0.01) -- (0.01) --
Special allowance yield adjustments, net of
settlements on derivatives (e) -- -- -- -- (0.20)
------------- ------------- ------------- ------------- -------------
Core student loan spread 0.93 % 1.05 % 1.31 % 1.13 % 1.42 %
============= ============= ============= ============= =============
Average balance of student loans (in thousands) $26,173,480 25,866,660 22,978,951 25,143,059 21,696,466
Average balance of debt outstanding (in thousands) 27,507,440 27,321,874 24,552,113 26,599,361 23,379,258
(a) The student loan yield for the three months and year ended December 31,
2006 does not include the $2.8 million charge to write off accounts
receivable from the Department related to third quarter 2006 9.5%
special allowance payments that was not received under the Company's
previously disclosed Settlement Agreement with the Department. The $2.8
million related to loans earning 9.5% special allowance payments that
were not subject to the OIG audit.
(b) Premium and deferred origination costs amortization for the three months
and year ended December 31, 2006 excludes premium amortization related
to the Company's portfolio of 9.5% loans purchased in October 2005 as
part of a business combination.
(c) The student loan cost of funds includes the effects of net settlement
costs on the Company's derivative instruments (excluding the $2.0
million settlement related to the derivative instrument entered into in
connection with the issuance of the junior subordinated hybrid
securities for the year ended December 31, 2006 and the net settlements
of $1.7 million and $7.0 million for the three months ended September
30, 2007 and December 31, 2006, respectively, and $12.1 million and $7.0
million for the years ended December 31, 2007 and December 31, 2006,
respectively, on those derivatives no longer hedging student loan
assets).
(d) Variable-rate floor income is calculated by the Company on a statutory
basis. As a result of the disruptions in the debt and secondary capital
markets beginning in August 2007, the benefit of variable-rate floor
income has not been realized by the Company due to the widening of the
spread between short term interest rate indices and the Company's actual
cost of funds. The Company entered into interest rate swaps with
effective dates beginning in January 2008 to hedge a portion of the
variable-rate floor income. Settlements on these derivatives will be
presented as part of the Company's statutory calculation of
variable-rate floor income.
(e) The special allowance yield adjustments represent the impact on net
spread had loans earned at statutorily defined rates under a taxable
financing. The special allowance yield adjustments include net
settlements on derivative instruments that were used to hedge this loan
portfolio earning the excess yield. On January 19, 2007, the Company
entered into a Settlement Agreement with the Department to resolve the
audit by the OIG of the Company's portfolio of student loans receiving
9.5% special allowance payments. Under the terms of the Agreement, all
9.5% special allowance payments were eliminated for periods on and after
July 1, 2006. The Company had been deferring recognition of 9.5% special
allowance payments related to those loans subject to the OIG audit
effective July 1, 2006 pending satisfactory resolution of this issue.
23