Edgar Filing: NELNET INC

nelnet_10q-093009.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2009

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 201 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 [ ] 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 [ ] Accelerated filer [X]

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, 2009, there were 38,348,015 and 11,495,377 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 a wholly owned subsidiary).

NELNET, INC.

FORM 10-Q

INDEX

September 30, 2009

PART I. FINANCIAL INFORMATION
Item 1.	Financial Statements	2
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	32
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	76
Item 4.	Controls and Procedures	81

PART II. OTHER INFORMATION
Item 1.	Legal Proceedings	81
Item 1A.	Risk Factors	83
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	83
Item 6.	Exhibits	85

Signatures		86

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

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

	As of			As of
	September 30, 2009			December 31, 2008
	(unaudited)
Assets:
Student loans receivable (net of allowance for loan losses of
$50,120 and $50,922, respectively)	$	23,764,263			25,413,008
Student loans receivable - held for sale		1,627,794			—
Cash and cash equivalents:
Cash and cash equivalents - not held at a related party		15,077			13,129
Cash and cash equivalents - held at a related party		319,216			176,718
Total cash and cash equivalents		334,293			189,847
Restricted cash and investments		798,636			997,272
Restricted cash - due to customers		50,783			160,985
Accrued interest receivable		389,238			471,878
Accounts receivable (net of allowance for doubtful accounts of
$1,506 and $1,005, respectively)		49,268			42,088
Goodwill		175,178			175,178
Intangible assets, net		59,803			77,054
Property and equipment, net		28,116			38,747
Other assets		104,333			113,666
Fair value of derivative instruments		210,157			175,174

Total assets	$	27,591,862			27,854,897

Liabilities:
Bonds and notes payable	$	26,586,093			26,787,959
Accrued interest payable		24,859			81,576
Other liabilities		193,055			179,336
Due to customers		50,783			160,985
Fair value of derivative instruments		8,998			1,815
Total liabilities		26,863,788			27,211,671

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 38,349,461 shares as of September 30,
2009 and 37,794,067 shares as of December 31, 2008		383			378
Class B, convertible, $0.01 par value. Authorized 60,000,000 shares;
issued and outstanding 11,495,377 shares as of September 30,
2009 and December 31, 2008		115			115
Additional paid-in capital		108,442			103,762
Retained earnings		620,583			540,521
Employee notes receivable		(1,449	)		(1,550	)
Total shareholders' equity		728,074			643,226
Commitments and contingencies
Total liabilities and shareholders' equity	$	27,591,862			27,854,897

See accompanying notes to consolidated financial statements.

NELNET, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Dollars in thousands, except share data)

(unaudited)

	Three months						Nine months
	ended September 30,						ended September 30,
	2009			2008			2009			2008
Interest income:
Loan interest	$	143,255			284,468			474,587			911,140
Investment interest		1,943			9,118			8,810			29,914
Total interest income		145,198			293,586			483,397			941,054
Interest expense:
Interest on bonds and notes payable		76,016			234,016			328,600			791,621
Net interest income		69,182			59,570			154,797			149,433
Less provision for loan losses		7,500			7,000			23,000			18,000
Net interest income after provision for loan losses		61,682			52,570			131,797			131,433

Other income (expense):
Loan and guaranty servicing revenue		26,006			29,691			81,280			78,173
Tuition payment processing and campus commerce revenue		12,987			11,863			40,373			35,980
Enrollment services revenue		30,670			29,858			88,188			83,148
Software services revenue		4,600			5,159			16,424			19,342
Other income		11,094			5,408			39,483			17,787
Gain (loss) on sale of loans, net		8,788			—			8,386			(47,426	)
Derivative market value, foreign currency,
and put option adjustments and derivative
settlements, net		7,740			6,874			2,740			10,468
Total other income		101,885			88,853			276,874			197,472

Operating expenses:
Salaries and benefits		37,810			44,739			116,216			142,131
Other operating expenses:
Cost to provide enrollment services		20,323			17,904			56,208			48,062
Depreciation and amortization		8,769			10,781			28,379			32,218
Professional and other services		6,584			10,185			20,382			25,409
Occupancy and communications		5,122			4,194			16,064			14,949
Trustee and other debt related fees		2,387			2,423			7,487			7,277
Postage and distribution		1,958			2,576			7,100			8,691
Advertising and marketing		1,936			1,712			5,632			5,706
Impairment expense		—			—			—			18,834
Other		7,773			9,155			25,121			27,151
Total other operating expenses		54,852			58,930			166,373			188,297

Total operating expenses		92,662			103,669			282,589			330,428

Income (loss) before income taxes		70,905			37,754			126,082			(1,523	)
Income tax expense		(24,501	)		(13,969	)		(46,020	)		(1,793	)

Income (loss) from continuing operations		46,404			23,785			80,062			(3,316	)
Income from discontinued operations, net of tax		—			—			—			981

Net income (loss)	$	46,404			23,785			80,062			(2,335	)

Earnings (loss) per share, basic and diluted:
Income (loss) from continuing operations	$	0.93			0.48			1.60			(0.07	)
Income from discontinued operations		—			—			—			0.02

Net income (loss)	$	0.93			0.48			1.60			(0.05	)

See accompanying notes to consolidated financial statements.

NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS)
(Dollars in thousands, except share data)
(unaudited)

	Preferred									Class A			Class B		Additional						Employee			Total
	stock		Common stock shares					Preferred		common			common		paid-in			Retained			notes			shareholders’
	shares		Class A			Class B		stock		stock			stock		capital			earnings			receivable			equity

Balance as of June 30, 2008		—		37,952,246			11,495,377	$	—		380			115		99,854			485,739			(2,046	)		584,042
Comprehensive income:
Net income		—		—			—		—		—			—		—			23,785			—			23,785
Total comprehensive income																									23,785
Issuance of common stock, net of forfeitures		—		49,650			—		—		1			—		960			—			—			961
Compensation expense for stock based awards		—		—			—		—		—			—		1,045			—			—			1,045
Repurchase of common stock		—		(7,564	)		—		—		(1	)		—		(102	)		—			—			(103	)
Balance as of September 30, 2008		—		37,994,332			11,495,377	$	—		380			115		101,757			509,524			(2,046	)		609,730


Balance as of June 30, 2009		—		38,325,492			11,495,377	$	—		383			115		107,959			574,179			(1,449	)		681,187
Comprehensive income:
Net income		—		—			—		—		—			—		—			46,404			—			46,404
Total comprehensive income																									46,404
Issuance of common stock, net of forfeitures		—		31,403			—		—		1			—		241			—			—			242
Compensation expense for stock based awards		—		—			—		—		—			—		349			—			—			349
Repurchase of common stock		—		(7,434	)		—		—		(1	)		—		(107	)		—			—			(108	)
Balance as of September 30, 2009		—		38,349,461			11,495,377	$	—		383			115		108,442			620,583			(1,449	)		728,074


Balance as of December 31, 2007		—		37,980,617			11,495,377	$	—		380			115		96,185			515,317			(3,118	)		608,879
Comprehensive income (loss):
Net loss		—		—			—		—		—			—		—			(2,335	)		—			(2,335	)
Total comprehensive income (loss)																									(2,335	)
Cash dividend on Class A and Class B
common stock - $0.07 per share		—		—			—		—		—			—		—			(3,458	)		—			(3,458	)
Issuance of common stock, net of forfeitures		—		83,337			—		—		1			—		2,033			—			—			2,034
Compensation expense for stock based awards		—		—			—		—		—			—		4,308			—			—			4,308
Repurchase of common stock		—		(69,622	)		—		—		(1	)		—		(769	)		—			—			(770	)
Reduction of employee stock notes receivable		—		—			—		—		—			—		—			—			1,072			1,072
Balance as of September 30, 2008		—		37,994,332			11,495,377	$	—		380			115		101,757			509,524			(2,046	)		609,730


Balance as of December 31, 2008		—		37,794,067			11,495,377	$	—		378			115		103,762			540,521			(1,550	)		643,226
Comprehensive income:
Net income		—		—			—		—		—			—		—			80,062			—			80,062
Total comprehensive income																									80,062
Issuance of common stock, net of forfeitures		—		569,937			—		—		6			—		3,539			—			—			3,545
Compensation expense for stock based awards		—		—			—		—		—			—		1,310			—			—			1,310
Repurchase of common stock		—		(14,543	)		—		—		(1	)		—		(169	)		—			—			(170	)
Reduction of employee stock notes receivable		—		—			—		—		—			—		—			—			101			101
Balance as of September 30, 2009		—		38,349,461			11,495,377	$	—		383			115		108,442			620,583			(1,449	)		728,074

See accompanying notes to consolidated financial statements.

NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(unaudited)

	Nine months ended September 30,
	2009			2008

Net income (loss)	$	80,062			(2,335	)
Income from discontinued operations		—			981
Income (loss) from continuing operations		80,062			(3,316	)
Adjustments to reconcile income (loss) from continuing operations to net cash provided
by operating activities:
Depreciation and amortization, including loan premiums and deferred origination costs		88,118			107,944
Provision for loan losses		23,000			18,000
Impairment expense		—			18,834
Derivative market value adjustment		(19,912	)		72,399
Foreign currency transaction adjustment		55,979			(40,361	)
Change in value of put options issued in business acquisitions		—			3,483
Proceeds to terminate and/or amend derivative instruments		3,820			15,403
Payments to terminate and/or amend derivative instruments		(11,710	)		(3,679	)
Gain from repurchase of bonds and notes payable		(19,185	)		—
Originations and purchases of student loans-held for sale		(13,345	)		—
(Gain) loss on sale of loans, net		(8,386	)		47,426
Deferred income tax benefit		(30,654	)		(23,979	)
Other non-cash items		3,569			6,929
Decrease in accrued interest receivable		82,640			63,220
(Increase) decrease in accounts receivable		(7,180	)		445
Decrease in other assets		9,976			13,928
Decrease in accrued interest payable		(56,717	)		(37,334	)
Increase (decrease) in other liabilities		34,575			(1,765	)
Net cash flows from operating activities - continuing operations		214,650			257,577
Net cash flows from operating activities - discontinued operations		—			—
Net cash provided by operating activities		214,650			257,577

Cash flows from investing activities:
Originations, purchases, and consolidations of student loans, including loan premiums
and deferred origination costs		(2,104,234	)		(2,368,229	)
Purchases of student loans, including loan premiums, from a related party		(39,649	)		(212,888	)
Net proceeds from student loan repayments, claims, capitalized interest, participations, and other		1,507,981			1,538,134
Proceeds from sale of student loans		550,176			1,267,826
Proceeds from sale of student loans to a related party		61,452			—
Purchases of property and equipment, net		(466	)		(5,094	)
Decrease (increase) in restricted cash and investments, net		198,636			(154,768	)
Purchases of equity method investments		—			(2,988	)
Business acquisition - contingent consideration		—			(18,000	)
Net cash flows from investing activities - continuing operations		173,896			43,993
Net cash flows from investing activities - discontinued operations		—			—
Net cash provided by investing activities		173,896			43,993

Cash flows from financing activities:
Payments on bonds and notes payable		(3,978,507	)		(5,328,782	)
Proceeds from issuance of bonds and notes payable		3,761,543			5,225,548
(Payments) proceeds from issuance of notes payable due to a related party, net		(21,520	)		32,790
Payments of debt issuance costs		(5,876	)		(14,778	)
Dividends paid		—			(3,458	)
Proceeds from issuance of common stock		329			566
Repurchases of common stock		(170	)		(770	)
Payments received on employee stock notes receivable		101			575
Net cash flows used in financing activities - continuing operations		(244,100	)		(88,309	)
Net cash flows used in financing activities - discontinued operations		—			—
Net cash used in financing activities		(244,100	)		(88,309	)


Net increase in cash and cash equivalents		144,446			213,261

Cash and cash equivalents, beginning of period		189,847			111,746

Cash and cash equivalents, end of period	$	334,293			325,007

Supplemental disclosures of cash flow information:
Interest paid	$	380,543			814,469
Income taxes paid, net of refunds	$	69,924			24,302

See accompanying notes to consolidated financial statements.

NELNET, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Information as of September 30, 2009 and for the three and nine months ended

September 30, 2009 and 2008 is unaudited)

(Dollars in thousands, except per share amounts, unless otherwise noted)

1. Basis of Financial Reporting

The accompanying unaudited consolidated financial statements of Nelnet, Inc. and subsidiaries (the “Company”) as of September 30, 2009 and for the three and nine months ended September 30, 2009 and 2008 have been prepared on the same basis as the audited consolidated financial statements for the year ended December 31, 2008 and, in the opinion of the Company’s management, the unaudited consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, 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, 2009 are not necessarily indicative of the results for the year ending December 31, 2009. 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, 2008. Certain amounts from 2008 have been reclassified to conform to the current period presentation. Management has evaluated subsequent events, and the impact on the reported results and disclosures, through November 9, 2009, which is the date these financial statements were filed with the Securities and Exchange Commission (“SEC”).

2. Restructuring Charge

During the second quarter of 2009, the Company adopted a plan to further streamline its operations by continuing to reduce its geographic footprint and consolidate servicing operations and related support services.

Management has developed a restructuring plan that will result in lower costs and provide enhanced synergies through cross training, career development, and simplified communications. The Company will simplify its operating structure to leverage its larger facilities and technology by closing certain offices and downsizing its presence in certain geographic locations. Approximately 300 associates will be impacted by this restructuring plan. However, the majority of these functions will be relocated to the Company’s Lincoln headquarters and Denver offices. Implementation of the plan began immediately and is expected to be substantially complete during the second quarter of 2010.

The Company estimates that the charge to earnings associated with this restructuring plan will be fully recognized by December 31, 2010 and will total approximately $13.0 million, consisting of approximately $6.3 million in severance costs and approximately $6.7 million in contract terminations, of which $2.8 million and $3.2 million has been recognized in the second and third quarters of 2009, respectively, and $1.4 million is expected to be recognized in the fourth quarter of 2009. Selected information relating to the restructuring charge follows:

	Employee
	termination			Lease
	benefits			terminations			Total

Restructuring costs recognized during the
three month period ended June 30, 2009	$	1,482	(a)		1,291	(b)		2,773

Cash payments		(672	)		—			(672	)

Restructuring accrual as of June 30, 2009		810			1,291			2,101

Restructuring costs recognized during the
three month period ended September 30, 2009		1,412	(a)		—			1,412

Adjustment from initial estimate of charges		—			1,786	(b)		1,786

Cash payments		(29	)		(381	)		(410	)

Restructuring accrual as of September 30, 2009	$	2,193			2,696			4,889

(a) Employee termination benefits are included in "salaries and benefits" in the consolidated statements of operations.
(b) Lease termination costs are included in "occupancy and communications" in the consolidated statements of operations.

Selected information relating to the restructuring charge by operating segment and Corporate Activity and Overhead follows:

			Restructuring costs
			recognized during		Adjustment
	Restructuring		the three month		from initial					Restructuring
	accrual as of		period ended		estimate		Cash			accrual as of
Operating segment	June 30, 2009		September 30, 2009		of charges		payments			September 30, 2009


Student Loan and Guaranty Servicing	$	1,812		860		1,786		(410	)		4,048

Tuition Payment Processing and
Campus Commerce		—		—		—		—			—

Enrollment Services		—		—		—		—			—

Software and Technical Services		149		292		—		—			441

Asset Generation and Management		—		—		—		—			—

Corporate Activity and Overhead		140		260		—		—			400

	$	2,101		1,412		1,786		(410	)		4,889

			Restructuring		Remaining
	Estimated		costs recognized		restructuring costs
	total restructuring		through		expected to be
Operating segment	costs		September 30, 2009		recognized


Student Loan and Guaranty Servicing	$	10,131		4,644		5,487

Tuition Payment Processing and
Campus Commerce		—		—		—

Enrollment Services		—		—		—

Software and Technical Services		1,078		714		364

Asset Generation and Management		—		—		—

Corporate Activity and Overhead		1,763		613		1,150

	$	12,972		5,971		7,001

In 2007 and 2008, the Company recorded restructuring charges related to certain legislative events and disruptions in the capital markets. As a result of the restructurings, the Company incurred expenses related to severance, contract terminations, and impairment of long-lived assets. These restructuring plans were completed by management in December 2007 and January 2008. However, an accrual related to certain lease terminations remains. Information relating to such accrual follows:

Restructuring accrual as of December 31, 2008	$	3,480

Cash payments		(228	)

Restructuring accrual as of March 31, 2009		3,252

Cash payments		(228	)

Adjustment from initial estimate of charges		515

Restructuring accrual as of June 30, 2009		3,539

Cash payments		(229	)

Adjustment from initial estimate of charges		142

Restructuring accrual as of September 30, 2009	$	3,452

3. Student Loans Receivable and Allowance for Loan Losses

Student loans consist of federally insured student loans, non-federally insured student loans, and student loan participations. If the Company has the ability and intent to hold loans for the foreseeable future, such loans are held for investment and carried at amortized cost. Amortized cost includes the unamortized premiums and capitalized origination costs and fees, all of which are amortized to interest income. Loans which are held-for-investment also have an allowance for loan loss as needed. Any loans the Company has the ability and intent to sell are classified as held for sale and are carried at the lower of cost or fair value. Loans which are held-for-sale do not have the associated premium and origination costs and fees amortized into interest income and there is also no related allowance for loan losses.

As of September 30, 2009, the Company had $1.6 billion of 2008-2009 academic year Federal Family Education Loan Program (“FFELP”) loans classified as held for sale. These loans were funded using the Department of Education’s Loan Participation Program (the “Participation Program”) and were sold to the Department of Education (the “Department”) under the Department’s Loan Purchase Commitment Program (the “Purchase Program”). Under the Purchase Program, the Department purchases loans at a price equal to the sum of (i) par value, (ii) accrued interest, (iii) the one percent origination fee paid to the Department, and (iv) a fixed amount of $75 per loan. Upon selling the $1.6 billion of loans held for sale, the Company recognized a gain in October 2009 of $26.9 million. During the third quarter of 2009, the Company sold $427.7 million (par value) of student loans under the Purchase Program and recognized a gain of $9.7 million.

The Company plans to continue to use the Participation Program to fund certain loans originated through the 2009-2010 academic year. Loans originated by the Company for the 2009-2010 academic year are classified as held for investment on the accompanying consolidated balance sheet.

Student loans receivable consisted of the following:

	As of					As of
	September 30, 2009					December 31, 2008
	Held-for-investment			Held-for-sale		Held-for-investment
Federally insured loans	$	23,295,203			1,607,169		24,787,941
Non-federally insured loans		167,114			—		273,108
		23,462,317			1,607,169		25,061,049
Unamortized loan premiums and deferred origination costs		352,066			20,625		402,881
Allowance for loan losses – federally insured loans		(29,015	)		—		(25,577	)
Allowance for loan losses – non-federally insured loans		(21,105	)		—		(25,345	)
	$	23,764,263			1,627,794		25,413,008

Allowance for federally insured loans - held-for-investment as a percentage of such loans		0.12	%				0.10	%
Allowance for non-federally insured loans as a percentage of such loans		12.63	%				9.28	%
Total allowance as a percentage of the ending balance of total loans (excluding loans held-for-sale)		0.21	%				0.20	%

The Company has provided for an allowance for loan losses related to its student loan portfolio. Activity in the allowance for loan losses is shown below:

	Three months ended September 30,						Nine months ended September 30,
	2009			2008			2009			2008

Beginning balance	$	50,000			47,909			50,922			45,592
Provision for loan losses		7,500			7,000			23,000			18,000
Loans charged off, net of recoveries		(4,380	)		(5,839	)		(13,482	)		(13,772	)
Sale of loans		(3,000	)		—			(10,320	)		(750	)
Ending balance	$	50,120			49,070			50,120			49,070

Loan Sales

The activity included in “gain (loss) on sale of loans, net” in the accompanying consolidated statements of operations is detailed below.

	Three months ended September 30,					Nine months ended September 30,

	2009			2008		2009			2008

Department's Purchase Program (a)	$	9,689			—		9,689			—
Private loan participations (b)		(695	)		—		(695	)		—
FFELP loan sales to related parties (c)		(206	)		—		(608	)		—
FFELP loan sales to third parties (d)		—			—		—			(47,426	)

Gain (loss) on sale of loans, net	$	8,788			—		8,386			(47,426	)

(a)

During the three months ended September 30, 2009, the Company sold $427.7 million (par value) of student loans to the Department under the Purchase Program.

(b)

During the three and nine months ended September 30, 2009, the Company participated $30.5 million and $95.5 million, respectively, of non-federally insured loans to third parties. Loans participated under these agreements have been accounted for by the Company as loan sales. Accordingly, the participation interests sold are not included on the Company’s consolidated balance sheet. Per the terms of the servicing agreements, the Company’s servicing operations are obligated to repurchase loans subject to the participation interests when such loans become 60 or 90 days delinquent. The activity in the accrual account related to this repurchase obligation, which is included in “other liabilities” in the accompanying consolidated balance sheet, is detailed below.

	Three months ended September 30,				Nine months ended September 30,
	2009		2008		2009		2008
Beginning balance	$	7,600		—		—		—
Transfer from allowance for loan losses		3,000		—		9,800		—
Reserve for repurchase of delinquent loans (a)		—		—		800		—
Ending balance	$	10,600		—		10,600		—

(a) The reserve for repurchase of loans is included in "other" under other operating expenses in the accompanying consolidated statements of operations.

(c)

During the three and nine months ended September 30, 2009, the Company sold $21.4 million (par value) and $61.5 million (par value), respectively, of federally insured student loans to Union Bank & Trust Company (“Union Bank”), an entity under common control with the Company.

(d)

During March and April 2008, the Company sold $1.3 billion (par value) of federally insured student loans in order to reduce the amount of student loans remaining under the Company’s multi-year committed financing facility for FFELP loans, which contained certain equity support provisions (see note 4 for additional information related to the FFELP warehouse facilities).

4. Bonds and Notes Payable

The following tables summarize outstanding bonds and notes payable by type of instrument:

	As of September 30, 2009
	Carrying		Interest rate
	amount		range		Final maturity

Variable-rate bonds and notes (a):
Bonds and notes based on indices	$	19,749,843		0.30% - 6.90%	11/25/13 - 06/25/41
Bonds and notes based on auction or remarketing		2,247,420		0.33% - 3.75%	11/01/09 - 07/01/43
Total variable-rate bonds and notes		21,997,263
Commercial paper - FFELP facility (b)		361,279		0.22% - 0.38%	08/03/12
Fixed-rate bonds and notes (a)		186,274		5.40% - 6.50%	11/01/09 - 05/01/29
Unsecured fixed rate debt		264,966	5.125% and 7.40%		06/01/10 and 09/15/61
Unsecured line of credit		691,500		0.73% - 0.79%	05/08/12
Department of Education Participation		1,902,909		0.91%	10/15/09 and 09/30/10
Department of Education Conduit		1,155,351		0.37%	05/08/14
Other borrowings		26,551		0.26% - 5.10%	01/01/10 - 11/01/15
	$	26,586,093

	As of December 31, 2008
	Carrying		Interest rate
	amount		range		Final maturity
Variable-rate bonds and notes (a):
Bonds and notes based on indices	$	20,509,073		0.75% - 5.02%	09/25/13 - 06/25/41
Bonds and notes based on auction or remarketing		2,713,285		0.00% - 6.00%	11/01/09 - 07/01/43
Total variable-rate bonds and notes		23,222,358
Commercial paper - FFELP facility (b)		1,445,327		1.32% - 2.94%	05/09/10
Commercial paper - private loan facility (b)		95,020		2.49%	03/14/09
Fixed-rate bonds and notes (a)		202,096		5.30% - 6.68%	11/01/09 - 05/01/29
Unsecured fixed rate debt		475,000	5.125% and 7.40%		06/01/10 and 09/15/61
Unsecured line of credit		691,500		0.98% - 2.41%	05/08/12
Department of Education Participation		622,170		3.37%	09/30/09
Other borrowings		34,488		1.25% - 5.47%	05/22/09 - 11/01/15
	$	26,787,959

(a)

Issued in asset-backed securitizations

(b)

Loan warehouse facilities

Secured Financing Transactions

The Company has historically relied upon secured financing vehicles as its most significant source of funding for student loans. The net cash flow the Company receives from the securitized student loans generally represents the excess amounts, if any, generated by the underlying student loans over the amounts required to be paid to the bondholders, after deducting servicing fees and any other expenses relating to the securitizations. The Company’s rights to cash flow from securitized student loans are subordinate to bondholder interests and may fail to generate any cash flow beyond what is due to bondholders. The Company’s secured financing vehicles are loan warehouse facilities, asset-backed securitizations, and the government’s Participation and Conduit Programs (as described below).

Most of the bonds and notes payable are primarily secured by the student loans receivable, related accrued interest, and by the amounts on deposit in the accounts established under the respective bond resolutions or financing agreements. The student loan interest margin notes, included in fixed rate bonds and notes in the above tables, are secured by the rights to residual cash flows from certain variable rate bonds and notes and fixed rate notes. Certain variable rate bonds and notes and fixed rate bonds are secured by financial guaranty insurance policies or a letter of credit and reimbursement agreement issued by Municipal Bond Investors Assurance Corporation, Ambac Assurance Corporation, and State Street.

Historically, the Company funded new loan originations using loan warehouse facilities and asset-backed securitizations. Student loan warehousing has historically allowed the Company to buy and manage student loans prior to transferring them into more permanent financing arrangements. In July 2008, the Company did not renew its liquidity provisions on its FFELP warehouse facility. Accordingly, the facility became a term facility and no new loan originations could be funded with this facility. In August 2008, the Company began funding FFELP Stafford and PLUS student loan originations for the 2008-2009 and 2009-2010 academic years pursuant to the Department’s Participation Program and a participation agreement with Union Bank.

Loan warehouse facilities

Student loan warehousing has historically allowed the Company to buy and manage student loans prior to transferring them into more permanent financing arrangements. To support its funding needs on a short-term basis, the Company historically relied upon a multi-year committed facility for FFELP loans.

FFELP Warehouse Facility

On August 3, 2009, the Company entered into a FFELP warehouse facility (the “2009 FFELP Warehouse Facility”). The 2009 FFELP Warehouse Facility has a maximum financing amount of $500.0 million, with a revolving financing structure supported by 364-day liquidity provisions, which expire on August 2, 2010. The final maturity date of the facility is August 3, 2012. In the event the Company is unable to renew the liquidity provisions by August 2, 2010, 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 August 3, 2012.

The 2009 FFELP Warehouse Facility provides for formula based advance rates depending on FFELP loan type, up to a maximum of 92 percent to 98 percent of the principle and interest of loans financed. The advance rates for collateral may increase or decrease based on market conditions. The facility contains financial covenants relating to levels of the Company’s consolidated net worth, ratio of adjusted EBITDA to corporate debt interest, and unencumbered cash. Any violation of these covenants could result in a requirement for the immediate repayment of any outstanding borrowings under the facility. Unlike the Company’s prior FFELP warehouse facility, the new facility does not require the Company to refinance or remove a percentage of the pledged student loan collateral on an annual basis. As of September 30, 2009, $361.3 million was outstanding under this facility and $138.7 million was available for future use.

The Company’s prior FFELP warehouse facility was supported by 364-day liquidity which was up for renewal on May 9, 2008. The Company obtained an extension on this renewal until July 31, 2008. On July 31, 2008, the Company did not renew the liquidity provisions of this facility. Accordingly, as of July 31, 2008, the facility became a term facility with a final maturity date of May 9, 2010. The terms and conditions of the prior FFELP warehouse facility provided for formula-based advance rates based on market conditions. As of December 31, 2008, the Company had $1.6 billion of student loans in the facility, $1.4 billion borrowed under the facility, and $280.6 million in cash posted as equity funding support for this facility. During 2009, the Company refinanced the student loans in this facility which allowed the Company to withdraw all remaining equity funding support from the facility. The Company refinanced these loans using the following facilities:

In March 2009, the Company completed a privately placed asset-backed securitization of $294.6 million.

In June 2009, the Company accessed the Department’s Conduit Program (as further discussed below).

In August 2009, the Company refinanced all remaining loans using the 2009 FFELP Warehouse Facility and terminated the prior FFELP facility.

Private Loan Warehouse Facility

On February 25, 2009, the Company paid $91.5 million on the outstanding debt of its private loan warehouse facility with operating cash and terminated the facility. Beginning in January 2008, the Company suspended private student loan originations.

Asset-backed securitizations

As part of the Company’s issuance of asset-backed securities in March 2008 and May 2008, due to credit market conditions when these notes were issued, the Company purchased the Class B subordinated notes of $36 million (par value) and $41 million (par value), respectively. These notes are not included on the Company’s consolidated balance sheet. If the credit market conditions improve, the Company anticipates selling these notes to third parties. Upon a sale to third parties, the Company would obtain cash proceeds equal to the market value of the notes on the date of such sale. Upon sale, these notes would be shown as “bonds and notes payable” on the Company’s consolidated balance sheet. Unless there is a significant market improvement, the Company believes the market value of such notes will be less than par value. The difference between the par value and market value would be recognized by the Company as interest expense over the life of the bonds.

On October 22, 2009, the Company completed an asset-backed securities transaction of $434.0 million. The Company used the proceeds from the sale of these notes and additional funds of $17.3 million to purchase principal and interest on student loans, which were previously financed in other asset-backed securitizations and the 2009 FFELP Warehouse Facility. As of November 6, 2009 $179.1 million was outstanding under the 2009 FFELP Warehouse Facility and $320.9 million was available for future use.

Department of Education’s Loan Participation and Purchase Commitment Programs

In August 2008, the Department implemented the Purchase Program and the Participation Program pursuant to the Ensuring Continued Access to Student Loans Act of 2008 (“ECASLA”). Under the Department’s Purchase Program, the Department will purchase loans at a price equal to the sum of (i) par value, (ii) accrued interest, (iii) the one percent origination fee paid to the Department, and (iv) a fixed amount of $75 per loan. Under the Participation Program, the Department provides interim short term liquidity to FFELP lenders by purchasing participation interests in pools of FFELP loans. FFELP lenders are charged a rate of commercial paper plus 50 basis points on the principal amount of participation interests outstanding. Loans funded under the Participation Program for the 2008-2009 academic year had to be either refinanced by the lender or sold to the Department pursuant to the Purchase Program prior to October 15, 2009. To be eligible for purchase or participation under the Department’s programs, loans were originally limited to FFELP Stafford or PLUS loans made for the academic year 2008-2009, first disbursed between May 1, 2008 and July 1, 2009, with eligible borrower benefits.

On October 7, 2008, legislation was enacted to extend the Department’s authority to address FFELP student loans made for the 2009-2010 academic year and allowing for the extension of the Participation Program and Purchase Program from October 15, 2009 to September 30, 2010. The Department indicated that loans for the 2008-2009 academic year which are funded under the Department's Participation Program will need to be refinanced or sold to the Department prior to October 15, 2009. On November 8, 2008, the Department announced the replication of the terms of the Participation and Purchase Programs, in accordance with the October 7, 2008 legislation, which includes FFELP student loans made for the 2009-2010 academic year.

As of September 30, 2009, the Company had $1.9 billion of FFELP loans funded using the Participation Program, of which $1.6 billion are 2008-2009 academic year loans and are classified as held for sale on the Company’s consolidated balance sheet. These loans were sold to the Department under its Purchase Program in October 2009. The Company plans to continue to use the Participation Program to fund certain loans through the 2009-2010 academic year.

Department of Education’s Conduit Program

In January 2009, the Department published summary terms for its program under which it will finance eligible FFELP Stafford and PLUS loans in a conduit vehicle established to provide funding for student lenders (the “Conduit Program”). Loans eligible for the Conduit Program had to be first disbursed on or after October 1, 2003, but not later than June 30, 2009, and fully disbursed before September 30, 2009, and meet certain other requirements. The Conduit Program was launched on May 11, 2009. Funding for the Conduit Program is provided by the capital markets at a cost based on market rates, with the Company being advanced 97 percent of the student loan face amount. Excess amounts needed to fund the remaining 3 percent of the student loan balances are contributed by the Company. The Conduit Program has a term of five years and expires on May 8, 2014. The Student Loan Short-Term Notes (“Student Loan Notes”) issued by the Conduit Program are supported by a combination of (i) notes backed by FFELP loans, (ii) the Liquidity Agreement with the Federal Financing Bank, and (iii) the Put Agreement provided by the Department. If the conduit does not have sufficient funds to pay all Student Loan Notes, then those Student Loan Notes will be repaid with funds from the Federal Financing Bank. The Federal Financing Bank will hold the notes for a short period of time and, if at the end of that time, the Student Loan Notes still cannot be paid off, the underlying FFELP loans that serve as collateral to the Conduit Program will be sold to the Department through the Put Agreement at a price of 97 percent of the face amount of the loans. As of September 30, 2009, the Company had $1.2 billion borrowed under the facility.

Union Bank Participation Agreement

The Company maintains an agreement with Union Bank, as trustee for various grantor trusts, under which Union Bank has agreed to purchase from the Company participation interests in student loans (the “FFELP Participation Agreement”). The Company has the option to purchase the participation interests from the grantor trusts at the end of a 364-day term upon termination of the participation certificate. As of September 30, 2009 and December 31, 2008, $681.9 million and $548.4 million, respectively, of loans were subject to outstanding participation interests held by Union Bank, as trustee, under this agreement. The agreement automatically renews annually and is terminable by either party upon five business days notice. This agreement provides beneficiaries of Union Bank’s grantor trusts with access to investments in interests in student loans, while providing liquidity to the Company on a short-term basis. The Company can participate loans to Union Bank to the extent of availability under the grantor trusts, up to $750 million or an amount in excess of $750 million if mutually agreed to by both parties. Loans participated under this agreement have been accounted for by the Company as loan sales. Accordingly, the participation interests sold are not included on the Company’s consolidated balance sheet.

Unsecured Line of Credit

The Company has a $750.0 million unsecured line of credit that terminates in May 2012. As of September 30, 2009, there was $691.5 million outstanding on this line. The weighted average interest rate on this line of credit was 0.77% as of September 30, 2009. Upon termination in 2012, there can be no assurance that the Company will be able to maintain this line of credit, find alternative funding, or increase the amount outstanding under the line, if necessary. The lending commitment under the Company’s unsecured line of credit is provided by a total of thirteen banks, with no individual bank representing more than 11% of the total lending commitment. The bank lending group includes Lehman Brothers Bank (“Lehman”), a subsidiary of Lehman Brothers Holdings Inc., which represents approximately 7% of the lending commitment under the line of credit. On September 15, 2008, Lehman Brothers Holdings Inc. filed a voluntary petition for relief under Chapter 11 of the United States Bankruptcy Code. The Company does not expect that Lehman will fund future borrowing requests. As of September 30, 2009, excluding Lehman’s lending commitment, the Company has $51.2 million available for future use under its unsecured line of credit.

The line of credit agreement contains certain financial covenants that, if not met, lead to an event of default under the agreement. The covenants include maintaining:

A minimum consolidated net worth

A minimum adjusted EBITDA to corporate debt interest (over the last four rolling quarters)

A limitation on subsidiary indebtedness

A limitation on the percentage of non-guaranteed loans in the Company’s portfolio

As of September 30, 2009, the Company was in compliance with all of these requirements. Many of these covenants are duplicated in the Company’s other lending facilities, including its FFELP warehouse facilities.

The Company’s operating line of credit does not have any covenants related to unsecured debt ratings. However, changes in the Company’s ratings (as well as the amounts the Company borrows) have modest implications on the pricing level at which the Company obtains funding.

A default on the 2009 FFELP Warehouse Facility would result in an event of default on the Company’s unsecured line of credit that would result in the outstanding balance on the line of credit becoming immediately due and payable.

Debt Repurchases

During 2009, the Company repurchased outstanding debt as summarized below. There were no debt repurchases in 2008. Any gains (losses) recorded by the Company from the repurchase of debt are included in “other income” on the Company’s consolidated statements of operations.

	5.125% Senior Notes due 2010							Junior Subordinated Hybrid Securities						Asset-backed securities
	Notional		Purchase		Gain			Notional		Purchase		Gain		Notional		Purchase		Gain
	amount		price		(loss)			amount		price		(loss)		amount		price		(loss)
Three months ended:
March 31, 2009	$	34,866		26,791		8,075			—		—		—		—		—		—
June 30, 2009		35,520		31,080		4,440			1,750		350		1,400		1,100		1,078		22
September 30, 2009		137,898		138,505		(607	)		—		—		—		44,950		39,095		5,855

Nine months ended September 30, 2009		208,284		196,376		11,908			1,750		350		1,400		46,050		40,173		5,877

Subsequent to September 30, 2009
through November 9, 2009		—		—		—			—		—		—		140,200		126,159		14,041

Total debt repurchased	$	208,284		196,376		11,908			1,750		350		1,400		186,250		166,332		19,918

Balance as of September 30, 2009	$	66,716						$	198,250

5.	Derivative Financial Instruments

The Company is exposed to certain risks relating to its ongoing business operations. The primary risks managed by using derivative instruments are interest rate risk and foreign currency exchange risk.

Interest Rate Risk

The Company’s primary market risk exposure arises from fluctuations in its borrowing and lending rates, the spread between which could impact the Company due to shifts in market interest rates. Because the Company generates a significant portion of its earnings from its student loan spread, the interest rate sensitivity of the balance sheet is a key profitability driver. The Company has adopted a policy of periodically reviewing the mismatch related to the interest rate characteristics of its assets and liabilities together with the Company's outlook as to current and future market conditions. Based on those factors, the Company uses derivative instruments as part of its overall risk management strategy.

The Company issues asset-backed securities, the vast majority being variable rate, to fund its student loan assets. The variable rate debt is generally indexed to 3-month LIBOR, set by auction, or through a remarketing process. The income generated by the Company’s student loan assets is generally driven by short term indices (treasury bills, commercial paper, and certain fixed rates) that are different from those which affect the Company’s liabilities (generally LIBOR), which creates basis risk. Moreover, the Company also faces repricing risk due to the timing of the interest rate resets on its liabilities, which may occur as infrequently as every quarter, and the timing of the interest rate resets on its assets, which generally occurs daily. In a declining interest rate environment, this may cause the Company’s student loan spread to compress, while in a rising rate environment, it may cause the spread to increase. As of September 30, 2009, the Company had approximately $23.8 billion of FFELP loans indexed to three-month financial commercial paper rate and $19.7 billion of debt indexed to LIBOR.

In using different index types and different index reset frequencies to fund assets, the Company is exposed to interest rate risk in the form of basis risk and repricing risk, which, as noted above, is the risk that the different indices may reset at different frequencies, or will not move in the same direction or with the same magnitude. While these indices are short term with rate movements that are highly correlated over a longer period of time, they have recently become less correlated. Due to capital market dislocations or other factors not within the Company’s control, there can be no assurance the indices will regain their high level of correlation in the future.

The Company has used derivative instruments to hedge the repricing risk due to the timing of the interest rate resets on its assets and liabilities. The Company has entered into basis swaps in which the Company (i) receives three-month LIBOR set discretely in advance and pays a daily weighted average three-month LIBOR less a spread as defined in the agreements (the “Average/Discrete Basis Swaps”); and (ii) receives three-month LIBOR and pays one-month LIBOR plus or minus a spread as defined in the agreements (the “1/3 Basis Swaps”).

However, the Company does not generally hedge the basis risk due to the different interest rate indices associated with its assets and liabilities, since the derivatives needed to hedge this risk are generally illiquid or non-existent and the relationship between the indices for most of the Company’s assets and liabilities has been highly correlated over a long period of time.

The following table summarizes the Company’s basis swaps outstanding as of September 30, 200