Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q

(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended September 30, 2016
 
or

¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from  to .

 
COMMISSION FILE NUMBER 001-31924

NELNET, INC.
(Exact name of registrant as specified in its charter)
NEBRASKA
(State or other jurisdiction of incorporation or organization)
84-0748903
(I.R.S. Employer Identification No.)
 
 
121 SOUTH 13TH STREET
SUITE 100
LINCOLN, NEBRASKA
(Address of principal executive offices)
 
68508
(Zip Code)
 (402) 458-2370
(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 [X] No [   ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [  ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer [X]                                                  Accelerated filer [ ]
Non-accelerated filer [  ]                                                     Smaller reporting company [  ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes[  ] No[X]

As of October 31, 2016, there were 30,684,273 and 11,476,932 shares of Class A Common Stock and Class B Common Stock, par value $0.01 per share, outstanding, respectively (excluding 11,317,364 shares of Class A Common Stock held by wholly owned subsidiaries).  
 



NELNET, INC.
FORM 10-Q
INDEX
September 30, 2016


 
 
Item 1.
 
Item 2.
 
Item 3.
 
Item 4.
 
 
 
 
 
 
Item 1.
 
Item 1A.
 
Item 2.
 
Item 6.
 
 
 
 
 






PART I. FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share data)
(unaudited)
 
 
 
 
 
 
 
As of

As of
 
 
September 30, 2016

December 31, 2015
Assets:
 
 
 
 
Student loans receivable (net of allowance for loan losses of $51,570 and $50,498, respectively)
 
$
25,615,434

 
28,324,552

Cash and cash equivalents:
 
 

 
 

Cash and cash equivalents - not held at a related party
 
7,678

 
11,379

Cash and cash equivalents - held at a related party
 
59,476

 
52,150

Total cash and cash equivalents
 
67,154

 
63,529

Investments and notes receivable
 
257,528

 
303,681

Restricted cash and investments
 
872,874

 
832,624

Restricted cash - due to customers
 
91,505

 
144,771

Accrued interest receivable
 
381,804

 
383,825

Accounts receivable (net of allowance for doubtful accounts of $1,745 and $2,003, respectively)
 
53,408

 
51,345

Goodwill
 
147,312

 
146,000

Intangible assets, net
 
50,964

 
51,062

Property and equipment, net
 
107,505

 
80,482

Other assets
 
9,647

 
8,583

Fair value of derivative instruments
 
14,476

 
28,690

Total assets
 
$
27,669,611

 
30,419,144

Liabilities:
 
 

 
 

Bonds and notes payable
 
$
25,320,878

 
28,105,921

Accrued interest payable
 
42,840

 
31,507

Other liabilities
 
168,239

 
169,906

Due to customers
 
91,505

 
144,771

Fair value of derivative instruments
 
65,053

 
74,881

Total liabilities
 
25,688,515

 
28,526,986

Commitments and contingencies
 
 
 
 
Equity:
 
 
 
 
  Nelnet, Inc. shareholders' equity:
 
 

 
 

Preferred stock, $0.01 par value. Authorized 50,000,000 shares; no shares issued or outstanding
 
—

 
—

Common stock:
 
 
 
 
Class A, $0.01 par value. Authorized 600,000,000 shares; issued and outstanding 30,839,341 shares and 32,476,528 shares, respectively
 
308

 
325

Class B, convertible, $0.01 par value. Authorized 60,000,000 shares; issued and outstanding 11,476,932 shares
 
115

 
115

Additional paid-in capital
 
224

 
—

Retained earnings
 
1,971,862

 
1,881,708

Accumulated other comprehensive (loss) earnings
 
(424
)
 
2,284

Total Nelnet, Inc. shareholders' equity
 
1,972,085

 
1,884,432

Noncontrolling interests
 
9,011

 
7,726

Total equity
 
1,981,096

 
1,892,158

Total liabilities and equity
 
$
27,669,611

 
30,419,144

 
 
 
 
 
Supplemental information - assets and liabilities of consolidated variable interest entities:
 
 
 
 
Student loans receivable
 
$
25,797,430

 
28,499,180

Restricted cash and investments
 
807,313

 
814,294

Accrued interest receivable and other assets
 
382,592

 
384,230

Bonds and notes payable
 
(25,680,338
)
 
(28,405,133
)
Other liabilities
 
(421,983
)
 
(353,607
)
Fair value of derivative instruments, net
 
(39,169
)
 
(64,080
)
Net assets of consolidated variable interest entities
 
$
845,845

 
874,884

See accompanying notes to consolidated financial statements.

2


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except share data)
(unaudited)
 
Three months
 
Nine months
 
ended September 30,
 
ended September 30,
 
2016
 
2015
 
2016
 
2015
Interest income:
 
 
 
 
 
 
 
Loan interest
$
193,721

 
187,701

 
567,775

 
535,480

Investment interest
2,460

 
1,456

 
6,674

 
5,548

Total interest income
196,181

 
189,157

 
574,449

 
541,028

Interest expense:
 
 
 

 
 

 
 

Interest on bonds and notes payable
96,386

 
77,164

 
280,847

 
221,344

Net interest income
99,795

 
111,993

 
293,602

 
319,684

Less provision for loan losses
6,000

 
3,000

 
10,500

 
7,150

Net interest income after provision for loan losses
93,795

 
108,993

 
283,102

 
312,534

Other income:
 
 
 

 
 

 
 

Loan and guaranty servicing revenue
54,350

 
61,520

 
161,082

 
183,164

Tuition payment processing, school information, and campus commerce revenue
33,071

 
30,439

 
102,211

 
92,805

Communications revenue
4,343

 
—

 
13,167

 
—

Enrollment services revenue
—

 
13,741

 
4,326

 
39,794

Other income
15,150

 
12,282

 
38,711

 
35,675

Gain on sale of loans and debt repurchases, net
2,160

 
597

 
2,260

 
4,987

Derivative market value and foreign currency adjustments and derivative settlements, net
36,001

 
(30,658
)
 
(33,391
)
 
(27,234
)
Total other income
145,075

 
87,921

 
288,366

 
329,191

Operating expenses:
 

 
 

 
 

 
 

Salaries and benefits
63,743

 
63,215

 
187,907

 
183,052

Depreciation and amortization
8,994

 
6,977

 
24,817

 
19,140

Loan servicing fees
5,880

 
7,793

 
20,024

 
22,829

Cost to provide communications services
1,784

 
—

 
5,169

 
—

Cost to provide enrollment services
—

 
11,349

 
3,623

 
32,543

Other expenses
26,391

 
31,604

 
84,174

 
94,430

Total operating expenses
106,792

 
120,938

 
325,714

 
351,994

Income before income taxes
132,078

 
75,976

 
245,754

 
289,731

Income tax expense
47,715

 
26,999

 
87,184

 
104,985

Net income
84,363

 
48,977

 
158,570

 
184,746

Net income attributable to noncontrolling interests
69

 
22

 
165

 
117

Net income attributable to Nelnet, Inc.
$
84,294

 
48,955

 
158,405

 
184,629

Earnings per common share:
 
 
 
 
 
 
 
Net income attributable to Nelnet, Inc. shareholders - basic and diluted
$
1.98

 
1.09

 
3.70

 
4.03

Weighted average common shares outstanding - basic and diluted
42,642,213

 
45,047,777

 
42,788,133

 
45,763,443


 See accompanying notes to consolidated financial statements.

3


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Dollars in thousands)
(unaudited)
 
Three months
 
Nine months
 
ended September 30,
 
ended September 30,
 
2016
 
2015
 
2016
 
2015
Net income
$
84,363

 
48,977

 
158,570

 
184,746

Other comprehensive income (loss):
 
 
 
 
 
 
 
Available-for-sale securities:
 
 
 
 
 
 
 
Unrealized holding gains (losses) arising during period, net
3,431

 
(568
)
 
(4,217
)
 
(1,217
)
Reclassification adjustment for gains recognized in net income, net of losses
(491
)
 
(73
)
 
(82
)
 
(2,370
)
Income tax effect
(1,087
)
 
234

 
1,591

 
1,328

Total other comprehensive income (loss)
1,853

 
(407
)
 
(2,708
)
 
(2,259
)
Comprehensive income
86,216

 
48,570

 
155,862

 
182,487

Comprehensive income attributable to noncontrolling interests
69

 
22

 
165

 
117

Comprehensive income attributable to Nelnet, Inc.
$
86,147

 
48,548

 
155,697

 
182,370


See accompanying notes to consolidated financial statements.


4

NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(Dollars in thousands, except share data)
(unaudited)
 
Nelnet, Inc. Shareholders
 
 
 
 
Preferred stock shares
 
Common stock shares
 
Preferred stock
 
Class A common stock
 
Class B common stock
 
Additional paid-in capital
 
 Retained earnings
 
Accumulated other comprehensive (loss) earnings
 
Noncontrolling interests
 
Total equity
 
 
Class A
 
Class B
 
 
 
 
 
 
 
 
Balance as of June 30, 2015
—

 
33,724,471

 
11,486,932

 
$
—

 
337

 
115

 
—

 
1,801,457

 
3,283

 
300

 
1,805,492

Issuance of noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
4

 
4

Net income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
48,955

 
—

 
22

 
48,977

Other comprehensive loss
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(407
)
 
—

 
(407
)
Distribution to noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(80
)
 
(80
)
Cash dividend on Class A and Class B common stock - $0.10 per share
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(4,486
)
 
—

 
—

 
(4,486
)
Issuance of common stock, net of forfeitures
—

 
10,669

 
—

 
—

 
1

 
—

 
267

 
—

 
—

 
—

 
268

Compensation expense for stock based awards
—

 
—

 
—

 
—

 
—

 
—

 
1,246

 
—

 
—

 
—

 
1,246

Repurchase of common stock
—

 
(356,584
)
 
—

 
—

 
(4
)
 
—

 
(72
)
 
(15,539
)
 
—

 
—

 
(15,615
)
Conversion of common stock
—

 
10,000

 
(10,000
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Balance as of September 30, 2015
—


33,388,556


11,476,932

 
$
—


334


115


1,441


1,830,387


2,876


246

 
1,835,399

Balance as of June 30, 2016
—

 
31,024,230

 
11,476,932

 
$
—

 
310

 
115

 
4,601

 
1,894,551

 
(2,277
)
 
8,916

 
1,906,216

Issuance of noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
26

 
26

Net income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
84,294

 
—

 
69

 
84,363

Other comprehensive income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
1,853

 
—

 
1,853

Cash dividend on Class A and Class B common stock - $0.12 per share
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(5,101
)
 
—

 
—

 
(5,101
)
Issuance of common stock, net of forfeitures
—

 
16,662

 
—

 
—

 
—

 
—

 
282

 
—

 
—

 
—

 
282

Compensation expense for stock based awards
—

 
—

 
—

 
—

 
—

 
—

 
1,132

 
—

 
—

 
—

 
1,132

Repurchase of common stock
—

 
(201,551
)
 
—

 
—

 
(2
)
 
—

 
(5,791
)
 
(1,882
)
 
—

 
—

 
(7,675
)
Balance as of September 30, 2016
—

 
30,839,341

 
11,476,932

 
$
—

 
308

 
115

 
224

 
1,971,862

 
(424
)
 
9,011

 
1,981,096

Balance as of December 31, 2014
—

 
34,756,384

 
11,486,932

 
$
—

 
348

 
115

 
17,290

 
1,702,560

 
5,135

 
230

 
1,725,678

Issuance of noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
23

 
23

Net income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
184,629

 
—

 
117

 
184,746

Other comprehensive loss
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(2,259
)
 
—

 
(2,259
)
Distribution to noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(124
)
 
(124
)
Cash dividends on Class A and Class B common stock - $0.30 per share
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(13,659
)
 
—

 
—

 
(13,659
)
Issuance of common stock, net of forfeitures
—

 
152,764

 
—

 
—

 
2

 
—

 
3,678

 
—

 
—

 
—

 
3,680

Compensation expense for stock based awards
—

 
—

 
—

 
—

 
—

 
—

 
3,957

 
—

 
—

 
—

 
3,957

Repurchase of common stock
—

 
(1,530,592
)
 
—

 
—

 
(16
)
 
—

 
(23,484
)
 
(43,143
)
 
—

 
—

 
(66,643
)
Conversion of common stock
—

 
10,000

 
(10,000
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Balance as of September 30, 2015
—


33,388,556


11,476,932

 
$
—


334


115


1,441


1,830,387


2,876


246

 
1,835,399

Balance as of December 31, 2015
—

 
32,476,528

 
11,476,932

 
$
—

 
325

 
115

 
—

 
1,881,708

 
2,284

 
7,726

 
1,892,158

Issuance of noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
1,339

 
1,339

Net income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
158,405

 
—

 
165

 
158,570

Other comprehensive loss
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(2,708
)
 
—

 
(2,708
)
Distribution to noncontrolling interests
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(219
)
 
(219
)
Cash dividends on Class A and Class B common stock - $0.36 per share
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(15,293
)
 
—

 
—

 
(15,293
)
Issuance of common stock, net of forfeitures
—

 
175,405

 
—

 
—

 
1

 
—

 
3,943

 
—

 
—

 
—

 
3,944

Compensation expense for stock based awards
—

 
—

 
—

 
—

 
—

 
—

 
3,448

 
—

 
—

 
—

 
3,448

Repurchase of common stock
—

 
(1,812,592
)
 
—

 
—

 
(18
)
 
—

 
(7,167
)
 
(52,958
)
 
—

 
—

 
(60,143
)
Balance as of September 30, 2016
—

 
30,839,341

 
11,476,932

 
$
—

 
308

 
115

 
224

 
1,971,862

 
(424
)
 
9,011

 
1,981,096

 See accompanying notes to consolidated financial statements.

5



NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(unaudited)
 
Nine months
 
ended September 30,
 
2016
 
2015
Net income attributable to Nelnet, Inc.
$
158,405

 
184,629

Net income attributable to noncontrolling interests
165

 
117

Net income
158,570

 
184,746

Adjustments to reconcile net income to net cash provided by operating activities, net of acquisitions:
 

 
 

Depreciation and amortization, including debt discounts and student loan premiums and deferred origination costs
83,988

 
91,045

Student loan discount accretion
(30,439
)
 
(32,684
)
Provision for loan losses
10,500

 
7,150

Derivative market value adjustment
1,556

 
43,179

Foreign currency transaction adjustment
13,543

 
(32,480
)
Proceeds from termination of derivative instruments, net of payments
2,830

 
55,627

Payment to enter into interest rate caps
—

 
(2,936
)
Gain on sale of loans
—

 
(351
)
Gain from debt repurchases
(2,260
)
 
(4,636
)
Gain from sales of available-for-sale securities, net
(82
)
 
(2,370
)
Proceeds (purchases) related to trading securities, net
1,192

 
(8,168
)
Deferred income tax benefit
(7,633
)
 
(7,901
)
Other, net
5,244

 
6,589

Decrease (increase) in accrued interest receivable
2,021

 
(435
)
Increase in accounts receivable
(1,982
)
 
(14,088
)
(Increase) decrease in other assets
(1,141
)
 
1,848

Increase in accrued interest payable
11,333

 
5,242

Increase in other liabilities
11,587

 
17,978

Net cash provided by operating activities
258,827

 
307,355

Cash flows from investing activities, net of acquisitions:
 

 
 

Purchases of student loans and student loan residual interests
(234,270
)
 
(1,994,416
)
Net proceeds from student loan repayments, claims, capitalized interest, and other
2,908,738

 
2,843,119

Proceeds from sale of student loans
44,760

 
3,996

Purchases of available-for-sale securities
(66,733
)
 
(6,939
)
Proceeds from sales of available-for-sale securities
100,423

 
49,278

Purchases of investments and issuance of notes receivable
(14,912
)
 
(65,548
)
Proceeds from investments and notes receivable
12,169

 
27,773

Purchases of property and equipment, net
(46,821
)
 
(12,756
)
(Increase) decrease in restricted cash and investments, net
(39,400
)
 
3,611

Net cash provided by investing activities
2,663,954

 
848,118

Cash flows from financing activities, net of borrowings assumed:
 

 
 

Payments on bonds and notes payable
(2,998,017
)
 
(3,483,804
)
Proceeds from issuance of bonds and notes payable
154,619

 
2,401,993

Payments of debt issuance costs
(2,098
)
 
(9,859
)
Dividends paid
(15,293
)
 
(13,659
)
Repurchases of common stock
(60,143
)
 
(66,643
)
Proceeds from issuance of common stock
656

 
617

Issuance of noncontrolling interests
1,339

 
23

Distribution to noncontrolling interests
(219
)
 
(124
)
Net cash used in financing activities
(2,919,156
)
 
(1,171,456
)
Net increase (decrease) in cash and cash equivalents
3,625

 
(15,983
)
Cash and cash equivalents, beginning of period
63,529

 
130,481

Cash and cash equivalents, end of period
$
67,154

 
114,498

 
 
 
 
Cash disbursements made for:
 

 
 

Interest
$
219,672

 
165,885

Income taxes, net of refunds
$
87,633

 
104,403

Noncash activity:
 
 
 
Investing activity - student loans and other assets acquired
$
—

 
2,025,453

Financing activity - borrowings and other liabilities assumed in acquisition of student loans
$
—

 
1,885,453


See accompanying notes to consolidated financial statements.

6


NELNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share amounts, unless otherwise noted)
(unaudited)

1.    Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated financial statements of Nelnet, Inc. and subsidiaries (the “Company”) as of September 30, 2016 and for the three and nine months ended September 30, 2016 and 2015 have been prepared on the same basis as the audited consolidated financial statements for the year ended December 31, 2015 and, in the opinion of the Company’s management, the unaudited consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, except as discussed under "Revenue Recognition - Loan Interest Income" below, necessary for a fair presentation of results of operations for the interim periods presented. The preparation of financial statements in conformity with U.S. generally accepted accounting principles 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 and nine months ended September 30, 2016 are not necessarily indicative of the results for the year ending December 31, 2016. The unaudited consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2015 (the "2015 Annual Report").

Reclassifications

Certain amounts previously reported within the Company's consolidated balance sheet and statements of income have been reclassified to conform to the current period presentation. These reclassifications are summarized below.

•
In April 2015, the Financial Accounting Standards Board ("FASB") issued accounting guidance regarding the presentation of debt issuance costs. The new guidance requires that entities present debt issuance costs related to a debt liability as a direct deduction from that liability on the balance sheet. This guidance became effective for the Company beginning January 1, 2016. As a result of this standard, the Company reclassified its debt issuance costs, which were previously included in "other assets" on the consolidated balance sheet, to "bonds and notes payable."

•
On February 1, 2016, the Company sold 100 percent of the membership interests in Sparkroom LLC, which includes the majority of the Company's inquiry management products and services within Nelnet Enrollment Solutions. The Company retained the digital marketing and content solution products and services under the brand name Peterson's within the Nelnet Enrollment Solutions business, which include test preparation study guides, school directories and databases, career exploration guides, on-line courses, scholarship search and selection data, career planning information and guides, and on-line information about colleges and universities. The Company reclassified the revenue and cost of goods sold attributable to the Peterson's products and services from "enrollment services revenue" and "cost to provide enrollment services" to "other income" and "other expenses," respectively, on the consolidated statements of income. After this reclassification, "enrollment services revenue" and "cost to provide enrollment services" include the operating results of the products and services sold as part of the Sparkroom disposition for all periods presented. These reclassifications had no effect on consolidated net income.

Revenue Recognition - Loan Interest Income

The Company recognizes student loan interest income as earned, net of amortization of loan premiums and deferred origination costs and the accretion of loan discounts. Loan interest income is recognized based upon the expected yield of the loan after giving effect to interest rate reductions resulting from borrower utilization of incentives such as timely payments ("borrower benefits") and other yield adjustments. Loan premiums or discounts, deferred origination costs, and borrower benefits are amortized/accreted over the estimated life of the loans, which includes an estimate of forecasted payments in excess of contractually required payments. The Company periodically evaluates the assumptions used to estimate the life of the loans and prepayment rates.

In the third quarter of 2016, the Company revised its policy to correct for an error in its method of applying the interest method used to amortize premiums and accrete discounts on its student loan portfolio. Previously, the Company amortized premiums and accreted discounts by including in its prepayment assumption forecasted payments in excess of contractually required payments as well as forecasted defaults. The Company has determined that only payments in excess of contractually required payments should be included in the prepayment assumption. Under the Company's revised policy, as of September 30, 2016, the constant prepayment rate used by the Company to amortize/accrete student loan premiums/discounts was decreased. During the third

7


quarter of 2016, the Company recorded an adjustment to reflect the net impact on prior periods for the correction of this error that resulted in an $8.2 million reduction to the Company's net loan discount balance and a corresponding increase in interest income(a $5.2 million after tax increase to net income). The Company has concluded this error has an immaterial impact on 2016 results as well as the results for prior periods.

2.    Student Loans Receivable and Allowance for Loan Losses

Student loans receivable consisted of the following:
 
As of
 
As of
 
September 30, 2016
 
December 31, 2015
Federally insured loans:
 
 
 
Stafford and other
$
5,353,052

 
6,202,064

Consolidation
20,189,881

 
22,086,043

Total
25,542,933

 
28,288,107

Private education loans
276,432

 
267,642

 
25,819,365

 
28,555,749

Loan discount, net of unamortized loan premiums and deferred origination costs (a)
(152,361
)
 
(180,699
)
Allowance for loan losses – federally insured loans
(37,028
)
 
(35,490
)
Allowance for loan losses – private education loans
(14,542
)
 
(15,008
)
 
$
25,615,434

 
28,324,552


(a)
As of September 30, 2016 and December 31, 2015, "loan discount, net of unamortized loan premiums and deferred origination costs" included $20.8 million and $33.0 million, respectively, of non-accretable discount associated with purchased loans of $8.5 billion and $10.8 billion, respectively.

Private Education Loans

In February 2015, the Company entered into an agreement with CommonBond, Inc. ("CommonBond"), a student lending company that provides private education loans to graduate students, under which the Company committed to purchase private education loans for a period of 18 months, with the maximum purchase obligation limited to $200.0 million. As of September 30, 2016, the Company had purchased $190.1 million in private education loans from CommonBond and has satisfied its commitment under this agreement.

8



Activity in the Allowance for Loan Losses

The provision for loan losses represents the periodic expense of maintaining an allowance sufficient to absorb losses, net of recoveries, inherent in the portfolio of student loans. Activity in the allowance for loan losses is shown below.
 
Three months ended September 30,
 
Nine months ended September 30,
 
2016
 
2015
 
2016
 
2015
Balance at beginning of period
$
48,753

 
50,024

 
50,498

 
48,900

Provision for loan losses:
 
 
 
 
 

 
 

Federally insured loans
7,000

 
2,000

 
11,000

 
6,000

Private education loans
(1,000
)
 
1,000

 
(500
)
 
1,150

Total provision for loan losses
6,000

 
3,000

 
10,500

 
7,150

Charge-offs:
 

 
 

 
 

 
 

Federally insured loans
(3,196
)
 
(2,817
)
 
(9,462
)
 
(9,225
)
Private education loans
(320
)
 
(357
)
 
(1,235
)
 
(1,479
)
Total charge-offs
(3,516
)
 
(3,174
)
 
(10,697
)
 
(10,704
)
Recoveries - private education loans
243

 
250

 
769

 
742

Purchase (sale) of federally insured and private education loans, net
30

 
30

 
290

 
(200
)
Transfer from repurchase obligation related to private education loans repurchased, net
60

 
250

 
210

 
4,492

Balance at end of period
$
51,570

 
50,380

 
51,570

 
50,380

 
 
 
 
 
 
 
 
Allocation of the allowance for loan losses:
 
 
 

 
 

 
 

Federally insured loans
$
37,028

 
35,945

 
37,028

 
35,945

Private education loans
14,542

 
14,435

 
14,542

 
14,435

Total allowance for loan losses
$
51,570

 
50,380

 
51,570

 
50,380






9


Student Loan Status and Delinquencies

Delinquencies have the potential to adversely impact the Company’s earnings through increased servicing and collection costs and account charge-offs.  The table below shows the Company’s loan delinquency amounts.

 
As of September 30, 2016
 
As of December 31, 2015
 
As of September 30, 2015
Federally insured loans:
 
 
 
 
 
 
 
 
 
 
 
Loans in-school/grace/deferment
$
1,864,323

 
 
 
$
2,292,941

 
 
 
$
2,638,639

 
 
Loans in forbearance
2,403,504

 
 
 
2,979,357

 
 
 
2,993,844

 
 
Loans in repayment status:
 
 
 
 
 
 
 
 
 
 
 
Loans current
18,445,728

 
86.8
%
 
19,447,541

 
84.4
%
 
19,681,517

 
84.4
%
Loans delinquent 31-60 days
825,905

 
3.9

 
1,028,396

 
4.5

 
1,021,515

 
4.4

Loans delinquent 61-90 days
491,395

 
2.3

 
566,953

 
2.5

 
638,037

 
2.7

Loans delinquent 91-120 days
326,020

 
1.5

 
415,747

 
1.8

 
465,261

 
2.0

Loans delinquent 121-270 days
835,250

 
3.9

 
1,166,940

 
5.1

 
1,139,864

 
4.9

Loans delinquent 271 days or greater
350,808

 
1.6

 
390,232

 
1.7

 
376,702

 
1.6

Total loans in repayment
21,275,106

 
100.0
%
 
23,015,809

 
100.0
%
 
23,322,896

 
100.0
%
Total federally insured loans
$
25,542,933

 
 

 
$
28,288,107

 
 

 
$
28,955,379

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Private education loans:
 
 
 
 
 
 
 
 
 
 
Loans in-school/grace/deferment
$
51,042

 
 
 
$
30,795

 
 
 
$
7,724

 
 
Loans in forbearance
1,770

 
 
 
350

 
 
 
16

 
 
Loans in repayment status:
 
 
 
 
 
 
 
 
 
 
 
Loans current
217,108

 
97.1
%
 
228,464

 
96.7
%
 
216,502

 
96.2
%
Loans delinquent 31-60 days
1,357

 
0.6

 
1,771

 
0.7

 
1,999

 
0.9

Loans delinquent 61-90 days
1,228

 
0.5

 
1,283

 
0.5

 
1,206

 
0.5

Loans delinquent 91 days or greater
3,927

 
1.8

 
4,979

 
2.1

 
5,377

 
2.4

Total loans in repayment
223,620

 
100.0
%
 
236,497

 
100.0
%
 
225,084

 
100.0
%
Total private education loans
$
276,432

 
 

 
$
267,642

 
 

 
$
232,824

 
 


10


3.    Bonds and Notes Payable

The following tables summarize the Company’s outstanding debt obligations by type of instrument:
 
As of September 30, 2016
 
Carrying
amount
 
Interest rate
range
 
Final maturity
Variable-rate bonds and notes issued in asset-backed securitizations:
 
 
 
 
 
Bonds and notes based on indices
$
22,550,964

 
0.25% - 6.90%
 
8/26/19 - 9/25/56
Bonds and notes based on auction
1,156,615

 
1.36% - 2.20%
 
3/22/32 - 11/26/46
Total variable-rate bonds and notes
23,707,579

 
 
 
 
FFELP warehouse facilities
1,706,546

 
0.52% - 0.98%
 
9/7/18 - 4/26/19
Private education loan warehouse facility
206,632

 
0.98%
 
4/28/17
Unsecured line of credit
—

 
—
 
10/30/20
Unsecured debt - Junior Subordinated Hybrid Securities
57,184

 
4.21%
 
9/15/61
Other borrowings
93,355

 
2.03% - 3.38%
 
10/31/16 - 12/15/45
 
25,771,296

 
 
 
 
Discount on bonds and notes payable and debt issuance costs, net
(450,418
)
 
 
 
 
Total
$
25,320,878

 
 
 
 
 
As of December 31, 2015
 
Carrying
amount
 
Interest rate
range
 
Final maturity
Variable-rate bonds and notes issued in asset-backed securitizations:
 
 
 
 
 
Bonds and notes based on indices
$
25,155,336

 
0.05% - 6.90%
 
8/26/19 - 8/26/52
Bonds and notes based on auction
1,160,365

 
0.88% - 2.17%
 
3/22/32 - 11/26/46
Total variable-rate bonds and notes
26,315,701

 
 
 
 
FFELP warehouse facilities
1,855,907

 
0.27% - 0.56%
 
4/29/18 - 12/14/18
Private education loan warehouse facility
181,184

 
0.57%
 
12/26/16
Unsecured line of credit
100,000

 
1.79% - 1.92%
 
10/30/20
Unsecured debt - Junior Subordinated Hybrid Securities
57,184

 
3.99%
 
9/15/61
Other borrowings
93,355

 
1.93% - 3.38%
 
10/31/16 - 12/15/45
 
28,603,331

 
 
 
 
Discount on bonds and notes payable and debt issuance costs, net
(497,410
)
 
 
 
 
Total
$
28,105,921

 
 
 
 

Asset-backed Securitizations

The Company, through its subsidiaries, has historically funded student loans by completing asset-backed securitizations. Beginning in 2015, Fitch Ratings and Moody’s Investors Service placed numerous tranches of Federal Family Education Loan Program ("FFELP") securitizations by various issuers, including certain tranches of prior FFELP securitizations issued by subsidiaries of the Company, on review for potential downgrade due to principal payments and prepayments on the underlying student loans coming in slower than initial expectations, and the resulting risk that certain principal maturities on those FFELP securitizations may not be met by the final maturity dates, which could result in an event of default under the underlying securitization agreements. Since that time, rating agencies have resolved their downgrade watches on certain Company-issued debt through a mix of rating confirmations, downgrades, and upgrades, largely removing uncertainty that had previously prevailed in the student loan asset-backed securitization market. On June 15, 2016, the Company announced the launch of an online investor communication forum to facilitate the amendment of certain FEELP asset-backed securitizations to extend the legal final maturity dates. On September 13, 2016, the Company announced that it had received investor consent to extend by five years the legal final maturity on nine of its securitizations, which represent a total of approximately $4.8 billion in original par value. The effective date of the amendments to each of the nine securitizations was September 20, 2016. The modifications of the final maturity of these securitizations were the only changes to the terms of these securitizations and such modifications were considered

11


not substantial. Depending on future investor consent, the Company may seek to extend the legal final maturity on additional securitizations.

FFELP Warehouse Facilities

The Company funds a portion of its FFELP loan acquisitions using its FFELP warehouse facilities. Student loan warehousing allows the Company to buy and manage student loans prior to transferring them into more permanent financing arrangements.

As of September 30, 2016, the Company had three FFELP warehouse facilities as summarized below.
 
 
NFSLW-I (a)
 
NHELP-II
 
NHELP-III
 
 
Total
Maximum financing amount
 
$
875,000

 
500,000

 
750,000

 
 
2,125,000

Amount outstanding
 
815,550

 
407,535

 
483,461

 
 
1,706,546

Amount available
 
$
59,450

 
92,465

 
266,539

 
 
418,454

Expiration of liquidity provisions
 
July 10, 2018

 
December 16, 2016

 
April 28, 2017

 
 
 
Final maturity date
 
September 7, 2018

 
December 14, 2018

 
April 26, 2019

 
 
 
Maximum advance rates
 
92.0 - 98.0%

 
85.0 - 95.0%

 
92.2 - 95.0%

 
 
 
Minimum advance rates
 
84.0 - 90.0%

 
85.0 - 95.0%

 
92.2 - 95.0%

 
 
 
Advanced as equity support
 
$
33,898

 
33,561

 
28,830

 
 
96,289


(a)
On July 10, 2015, the Company amended the agreement for this warehouse facility to temporarily increase the maximum financing amount to $875.0 million. The maximum financing amount was scheduled to decrease by $125.0 million on March 31, 2016. On January 26, 2016, the Company amended the agreement for this warehouse facility to extend the scheduled decrease of the maximum financing amount by $125.0 million to July 8, 2016. On July 7, 2016, the Company amended the agreement for this warehouse facility to permanently set the maximum financing amount at $875.0 million, and changed the expiration of liquidity provisions to July 10, 2018 and the final maturity date to September 7, 2018.

Private Education Loan Warehouse Facility

On June 26, 2015, the Company entered into a $275.0 million private education loan warehouse facility. As of September 30, 2016, there was $206.6 million outstanding on the facility and $68.4 million was available for future use. The facility has a static advance rate that requires initial equity for loan funding, but does not require increased equity based on market movements. The maximum advance rate on the entire facility is 88 percent and minimum advance rates, depending on loan characteristics and program type, ranged from 64 percent to 99 percent. As of September 30, 2016, $30.3 million was advanced on the facility as equity support. The facility is supported by liquidity provisions, which had an original expiration date of June 24, 2016.
On April 1, 2016, the Company amended the agreement for this facility to change the expiration date for the liquidity provisions to October 28, 2016, and to change the final maturity date to April 28, 2017. In addition, the minimum advance rates, depending on loan characteristics and program type, were changed to a range from 61.75 percent to 95.00 percent, and the maximum advance rate on the entire facility remained at 88 percent. On October 28, 2016, the Company amended the agreement for this facility to change the expiration date for the liquidity provisions to December 21, 2016; the final maturity date remained unchanged at April 28, 2017. In the event the Company is unable to renew the liquidity provisions by the amended expiration date of December 21, 2016, the facility would become a term facility at a stepped-up cost, with no additional student loans being eligible for financing, and the Company would be required to refinance the existing loans in the facility by the facility's final maturity date of April 28, 2017.
Unsecured Line of Credit

The Company has a $350.0 million unsecured line of credit that has a maturity date of October 30, 2020.  As of September 30, 2016, no amounts were outstanding under the unsecured line of credit and $350.0 million was available for future use.


12


Debt Repurchases

The following table summarizes the Company's repurchases of its own debt. Gains recorded by the Company from the repurchase of debt are included in "gain on sale of loans and debt repurchases" on the Company's consolidated statements of income.

 
Par value
 
Purchase price
 
Gain
 
Par value
 
Purchase price
 
Gain
 
Three months ended
 
September 30, 2016
 
September 30, 2015
   Asset-backed securities
$
10,965

 
8,805

 
2,160

 
9,650

 
9,053

 
597

 
$
10,965

 
8,805

 
2,160

 
9,650

 
9,053

 
597

 
 
 
 
 
 
 
 
 
 
 
 
 
Nine months ended
 
September 30, 2016
 
September 30, 2015
Unsecured debt - Hybrid Securities
$
—

 
—

 
—

 
14,106

 
11,108

 
2,998

   Asset-backed securities
11,362

 
9,102

 
2,260

 
31,800

 
30,162

 
1,638

 
$
11,362

 
9,102

 
2,260

 
45,906

 
41,270

 
4,636


Subsequent Events - Bonds and Notes Payable

On October 12, 2016, the Company completed an asset-backed securitization totaling $426.0 million (par value). The proceeds from this transaction were used primarily to refinance certain student loans included in the Company's FFELP warehouse facilities.
The Company had a $75.0 million line of credit, which was collateralized by asset-backed security investments, that expired on October 31, 2016. As of September 30, 2016, $75.0 million was outstanding on this line of credit. Upon expiration of the line of credit on October 31, 2016, the Company used operating cash and borrowed money on its $350.0 million unsecured line of credit to pay off the outstanding $75.0 million balance of this debt facility.

 

13


4.   Derivative Financial Instruments

The Company uses derivative financial instruments primarily to manage interest rate risk and foreign currency exchange risk. Derivative instruments used as part of the Company's risk management strategy are further described in note 5 of the notes to consolidated financial statements included in the 2015 Annual Report. A tabular presentation of such derivatives outstanding as of September 30, 2016 and December 31, 2015 is presented below.

Basis Swaps

The following table summarizes the Company’s basis swaps outstanding as of September 30, 2016 and December 31, 2015 in which the Company receives three-month LIBOR set discretely in advance and pays one-month LIBOR plus or minus a spread as defined in the agreements (the "1:3 Basis Swaps").
 
 
 
As of September 30,
 
As of December 31,
 
 
2016
 
2015
Maturity
 
Notional amount
 
Notional amount
2016
 
$
1,000,000

 
$
7,500,000

2028
 
125,000

 
—

The weighted average rate paid by the Company on the 1:3 Basis Swaps as of September 30, 2016 and December 31, 2015 was one-month LIBOR plus 9.5 basis points and 10.0 basis points, respectively.
Interest Rate Swaps – Floor Income Hedges

The following table summarizes the outstanding derivative instruments used by the Company to economically hedge loans earning fixed rate floor income.
 
 
As of September 30, 2016
 
As of December 31, 2015
Maturity
 
Notional amount
 
Weighted average fixed rate paid by the Company (a)
 
Notional amount
 
Weighted average fixed rate paid by the Company (a)
 
 
 
 
2016
 
$
—

 
—
%
 
$
1,000,000

 
0.76
%
2017
 
750,000

 
0.99

 
2,100,000

 
0.84

2018
 
1,350,000

 
1.07

 
1,600,000

 
1.08

2019
 
3,250,000

 
0.97

 
500,000

 
1.12

2020
 
1,500,000

 
1.01

 
—

 
—

2025
 
100,000

 
2.32

 
100,000

 
2.32

2026
 
50,000

 
1.52

 
—

 
—

 
 
$
7,000,000

 
1.02
%
 
$
5,300,000

 
0.95
%

(a)
For all interest rate derivatives, the Company receives discrete three-month LIBOR.

On August 20, 2014, the Company paid $9.1 million for an interest rate swap option to economically hedge loans earning fixed rate floor income. The interest rate swap option gives the Company the right, but not the obligation, to enter into a $250 million notional interest rate swap in which the Company would pay a fixed amount of 3.30% and receive discrete one-month LIBOR. If the interest rate swap option is exercised, the swap would become effective in 2019 and mature in 2024.


14


Interest Rate Swaps – Unsecured Debt Hedges

The Company had the following derivatives outstanding as of September 30, 2016 and December 31, 2015 that are used to effectively convert the variable interest rate on a portion of the Junior Subordinated Hybrid Securities to a fixed rate of 7.66%.

 
Maturity
 
Notional amount
 
Weighted average fixed rate paid by the Company (a)
2036
 
$
25,000

 
4.28
%
(a)
For all interest rate derivatives, the Company receives discrete three-month LIBOR.

Interest Rate Caps

In June 2015, in conjunction with the entry into the $275.0 million private education loan warehouse facility, the Company paid $2.9 million for two interest rate cap contracts with a total notional amount of $275.0 million. The first interest rate cap has a notional amount of $125.0 million and a one-month LIBOR strike rate of 2.50%, and the second interest rate cap has a notional amount of $150.0 million and a one-month LIBOR strike rate of 4.99%. In the event that the one-month LIBOR rate rises above the applicable strike rate, the Company would receive monthly payments related to the spread difference. Both interest rate cap contracts have a maturity date of July 15, 2020.

Foreign Currency Exchange Risk

In 2006, the Company issued €352.7 million of student loan asset-backed Euro Notes (the "Euro Notes") with an interest rate based on a spread to the EURIBOR index. As a result of the Euro Notes, the Company is exposed to market risk related to fluctuations in foreign currency exchange rates between the U.S. dollar and Euro. The principal and accrued interest on these notes are re-measured at each reporting period and recorded in the Company’s consolidated balance sheet in U.S. dollars based on the foreign currency exchange rate on that date.

The Company entered into a cross-currency interest rate swap in connection with the issuance of the Euro Notes. Under the terms of the cross-currency interest rate swap, the Company receives from the counterparty a spread to the EURIBOR index based on a notional amount of €352.7 million and pays a spread to the LIBOR index based on a notional amount of $450.0 million. In addition, under the terms of this agreement, all principal payments on the Euro Notes will effectively be paid at the exchange rate in effect between the U.S. dollar and Euro as of the issuance of the notes.

The following table shows the income statement impact as a result of the re-measurement of the Euro Notes and the change in the fair value of the related derivative instrument.
 
Three months ended September 30,
 
Nine months ended September 30,
 
2016
 
2015
 
2016
 
2015
Re-measurement of Euro Notes
$
(4,831
)
 
(1,058
)
 
(13,543
)
 
32,480

Change in fair value of cross-currency interest rate swap
5,501

 
666

 
26,194

 
(35,207
)
Total impact to consolidated statements of income - income (expense) (a)
$
670

 
(392
)
 
12,651

 
(2,727
)
(a)
The financial statement impact of the above items is included in "Derivative market value and foreign currency adjustments and derivative settlements, net" in the Company's consolidated statements of income.
Management has structured the cross-currency interest rate swap to economically hedge the Euro Notes to effectively convert the Euro Notes to U.S. dollars and pay a spread on these notes based on the LIBOR index. However, the cross-currency interest rate swap does not qualify for hedge accounting. The re-measurement of the Euro-denominated bonds generally correlates with the change in the fair value of the corresponding cross-currency interest rate swap. However, the Company will experience unrealized gains and losses between these financial instruments due to the principal and accrued interest on the Euro Notes being re-measured to U.S. dollars at each reporting date based on the foreign currency exchange rate on that date, while the cross-currency interest rate swap is measured at fair value at each reporting date with the change in fair value recognized in the current period earnings.

15


Consolidated Financial Statement Impact Related to Derivatives

The following table summarizes the fair value of the Company’s derivatives as reflected in the consolidated balance sheets:
 
Fair value of asset derivatives
 
Fair value of liability derivatives
 
As of
 
As of
 
As of
 
As of
 
September 30,
2016
 
December 31,
2015
 
September 30,
2016
 
December 31,
2015
1:3 basis swaps
$
637

 
724

 
—

 
410

Interest rate swaps - floor income hedges
11,149

 
21,408

 
11,148

 
1,175

Interest rate swap option - floor income hedge
716

 
3,257

 
—

 
—

Interest rate swaps - hybrid debt hedges
—

 
—

 
11,646

 
7,646

Interest rate caps
287

 
1,570

 
—

 
—

Cross-currency interest rate swap
—


—

 
39,456

 
65,650

Other
1,687

 
1,731

 
2,803

 
—

Total
$
14,476

 
28,690

 
65,053

 
74,881


During the first quarter of 2016, the Company terminated a total notional amount of $3.1 billion of fixed rate floor income hedges for gross proceeds of $3.0 million, and a total notional amount of $300.0 million of other basis swaps for gross proceeds of $0.5 million. During the third quarter of 2016, the Company terminated a total notional amount of $500.0 million of fixed rate floor income hedges for gross payments of $0.7 million. During the first, second, and third quarters of 2015, the Company terminated a total notional amount of $2.7 billion, $2.8 billion, and $0.7 billion, respectively, of 1:3 Basis Swaps for gross proceeds of $34.4 million, $17.5 million, and $3.7 million, respectively.

Offsetting of Derivative Assets/Liabilities

The Company records derivative instruments in the consolidated balance sheets on a gross basis as either an asset or liability measured at its fair value. Certain of the Company's derivative instruments are subject to right of offset provisions with counterparties. The following tables include the gross amounts related to the Company's derivative portfolio recognized in the consolidated balance sheets, reconciled to the net amount when excluding derivatives subject to enforceable master netting arrangements and cash collateral received/pledged:


16


 
 
 
 
Gross amounts not offset in the consolidated balance sheets
 
 
Derivative assets
 
Gross amounts of recognized assets presented in the consolidated balance sheets
 
Derivatives subject to enforceable master netting arrangement
 
Cash collateral pledged
 
Net asset (liability)
Balance as of
September 30, 2016
 
$
14,476

 
(13,944
)
 
1,800

 
2,332

Balance as of
December 31, 2015
 
28,690

 
(851
)
 
1,632

 
29,471


 
 
 
 
Gross amounts not offset in the consolidated balance sheets
 
 
Derivative liabilities
 
Gross amounts of recognized liabilities presented in the consolidated balance sheets
 
Derivatives subject to enforceable master netting arrangement
 
Cash collateral pledged/(received), net (a)
 
Net asset (liability)
Balance as of
September 30, 2016
 
$
(65,053
)
 
13,944

 
30,596

 
(20,513
)
Balance as of
December 31, 2015
 
(74,881
)
 
851

 
13,168

 
(60,862
)

(a) Cash collateral pledged (received), net as of September 30, 2016 includes $60.9 million of cash collateral paid to counterparties and $30.3 million in cash collateral received from counterparties.

The following table summarizes the effect of derivative instruments in the consolidated statements of income.
 
Three months ended September 30,
 
Nine months ended September 30,
 
2016
 
2015
 
2016
 
2015
Settlements: