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Nelnet, Inc. supplemental financial information for the fourth quarter 2023
(All dollars are in thousands, except per share amounts, unless otherwise noted)
The following information should be read in connection with Nelnet, Inc.'s (the “Company's”) press
release for fourth quarter 2023 earnings, dated February 27, 2024, and the Company's Annual Report on Form 10-K for the year ended December 31, 2023.
Forward-looking and cautionary statements
This report contains forward-looking statements and information that are based on management's current expectations as of the date of this document. Statements that are not historical facts, including statements about the Company's plans and expectations for future financial condition, results of operations or economic performance, or that address management's plans and objectives for future operations, and statements that
assume or are dependent upon future events, are forward-looking statements. The words “anticipate,”“assume,”“believe,”“continue,”“could,”“ensure,”“estimate,”“expect,”“forecast,”“future,”“intend,”“may,”“plan,”“potential,”“predict,”“scheduled,”“should,”“will,”“would,” and similar expressions, as well as statements in future tense, are intended to identify forward-looking statements.
The forward-looking statements are based on assumptions and analyses made by management in light of management's experience and its perception of historical trends, current conditions, expected future developments, and other factors that management believes are appropriate under the circumstances. These statements are subject to known and unknown risks, uncertainties, assumptions, and other factors that
may cause the actual results and performance to be materially different from any future results or performance expressed or implied by such forward-looking statements. These factors include, among others, the risks and uncertainties set forth in the “Risk Factors” section of the Company's Annual Report on Form 10-K for the year ended December 31, 2023 (the "2023 Annual Report"), and include such risks and uncertainties as:
•risks related to the ability to successfully maintain and increase allocated volumes of student loans serviced by the Company under existing and future servicing contracts
with the U.S. Department of Education (the "Department"), risks related to unfavorable contract modifications or interpretations, and risks related to the Company's ability to comply with agreements with third-party customers for the servicing of Federal Direct Loan Program, Federal Family Education Loan Program (the "FFEL Program" or FFELP), private education, and consumer loans;
•loan portfolio risks such as prepayment risk, credit risk, interest rate basis and repricing risk, risks related to the use of derivatives to manage exposure to interest rate fluctuations, uncertainties regarding the expected benefits from purchased securitized and unsecuritized FFELP, private education, consumer, and other loans, or investment
interests therein, and initiatives to purchase additional FFELP, private education, consumer, and other loans;
•financing and liquidity risks, including risks of changes in the interest rate environment;
•risks from changes in the terms of education loans and in the educational credit and services markets resulting from changes in applicable laws, regulations, and government programs and budgets;
•risks related to a breach of or failure in the Company's operational or information systems or infrastructure, or those of third-party vendors;
•risks related to use of artificial intelligence;
•uncertainties
inherent in forecasting future cash flows from student loan assets and related asset-backed securitizations;
•risks related to the ability of Nelnet Bank to achieve its business objectives and effectively deploy loan and deposit strategies and achieve expected market penetration;
•risks related to the expected benefits to the Company from its continuing investment in ALLO Holdings, LLC (referred to collectively with its subsidiary ALLO Communications LLC as "ALLO"), and risks related to investments in solar projects, including risks of not being able to realize tax credits which remain subject to recapture by taxing authorities and rising construction costs;
•risks and uncertainties
related to other initiatives to pursue additional strategic investments (and anticipated income therefrom) including venture capital and real estate investments, acquisitions, and other activities (including risks associated with errors that occasionally occur in converting loan servicing portfolios to a new servicing platform), including activities that are intended to diversify the Company both within and outside of its historical core education-related businesses;
•risks and uncertainties associated with climate change; and
•risks and uncertainties associated with litigation matters and maintaining compliance with the extensive regulatory requirements applicable to the
Company's businesses, and uncertainties inherent in the estimates and assumptions about future events that management is required to make in the preparation of the Company’s consolidated financial statements.
All forward-looking statements contained in this report are qualified by these cautionary statements and are made only as of the date of this document. Although the Company may from time to time voluntarily update or revise its prior forward-looking statements to reflect actual results or changes in the Company's expectations, the Company disclaims any commitment to do so except
as required by law.
The Company is a diverse, innovative company with a purpose to serve others and a vision to make dreams possible. The
largest operating businesses engage in loan servicing and education technology services and payments. A significant portion of the Company's revenue is net interest income earned on a portfolio of federally insured student loans. The Company also makes investments to further diversify both within and outside of its historical core education-related businesses including, but not limited to, investments in a fiber communications company (ALLO), early-stage and emerging growth companies (venture capital investments), real estate, and renewable energy (solar).
The Company was formed as a Nebraska corporation in 1978 to service federal student loans for two local banks. The
Company built on this initial foundation as a servicer to become a leading originator, holder, and servicer of federal student loans, principally consisting of loans originated under the FFEL Program.
The Health Care and Education Reconciliation Act of 2010 discontinued new loan originations under the FFEL Program in 2010, and requires all new federal student loan originations be made directly by the Department through the Federal Direct Loan Program. Subsequent to the Reconciliation Act of 2010, the Company no longer originates FFELP loans. However, a significant portion of the Company's income continues to be derived from its existing FFELP student loan portfolio. Interest income on the
Company's existing FFELP loan portfolio will decline over time as the portfolio is paid down. To reduce its reliance on interest income from FFELP loans, the Company has expanded its services and products. This expansion has been accomplished through internal growth and innovation as well as business and certain investment acquisitions. The Company is also actively expanding its private education, consumer, and other loan portfolios, or investment interests therein, and as part of this strategy launched Nelnet Bank in 2020. In addition, the Company has been servicing federally owned student loans for the Department since 2009.
4
GAAP
Net Income and Non-GAAP Net Income, Excluding Adjustments
The Company prepares its financial statements and presents its financial results in accordance with GAAP. However, it also provides additional non-GAAP financial information related to specific items management believes to be important in the evaluation of its operating results and performance. A reconciliation of the Company's GAAP net income to Non-GAAP net income, excluding derivative market value adjustments, and a discussion of why the Company believes providing this additional information is useful to investors, is provided below.
GAAP net (loss) income attributable to Nelnet, Inc.
$
(8,554)
45,332
30,773
91,532
407,347
Realized
and unrealized derivative market value adjustments
9,507
(3,140)
7,434
41,773
(231,691)
Tax effect (a)
(2,282)
754
(1,784)
(10,026)
55,606
Non-GAAP
net (loss) income attributable to Nelnet, Inc., excluding derivative market value adjustments (b)
$
(1,329)
42,946
36,423
123,279
231,262
Earnings
per share:
GAAP net (loss) income attributable to Nelnet, Inc.
$
(0.23)
1.21
0.83
2.45
10.83
Realized
and unrealized derivative market value adjustments
0.25
(0.08)
0.20
1.12
(6.16)
Tax effect (a)
(0.06)
0.02
(0.05)
(0.28)
1.48
Non-GAAP
net (loss) income attributable to Nelnet, Inc., excluding derivative market value adjustments (b)
$
(0.04)
1.15
0.98
3.29
6.15
(a) The tax effects are calculated by multiplying the realized and unrealized derivative market value adjustments by the applicable statutory income tax rate.
(b) "Derivative market value adjustments"
includes both the realized portion of gains and losses (corresponding to variation margin received or paid on derivative instruments that are settled daily at a central clearinghouse) and the unrealized portion of gains and losses that are caused by changes in fair values of derivatives which do not qualify for "hedge treatment" under GAAP. "Derivative market value adjustments" does not include "derivative settlements" that represent the cash paid or received during the current period to settle with derivative instrument counterparties the economic effect of the Company's derivative instruments based on their contractual terms.
The accounting for derivatives requires that changes in the fair value of derivative instruments be recognized currently in earnings, with no fair value adjustment of the hedged item, unless specific
hedge accounting criteria is met. Management has structured all of the Company’s derivative transactions with the intent that each is economically effective; however, the Company’s derivative instruments do not qualify for hedge accounting in the consolidated financial statements. As a result, the change in fair value of derivative instruments is reported in current period earnings with no consideration for the corresponding change in fair value of the hedged item. Under GAAP, the cumulative net realized and unrealized gain or loss caused by changes in fair values of derivatives in which the Company plans to hold to maturity will equal zero over the life of the contract.
However, the net realized and unrealized gain or loss during any given reporting period fluctuates significantly from period to period.
The Company believes these point-in-time estimates of asset and liability values related to its derivative instruments that are subject to interest rate fluctuations are subject to volatility mostly due to timing and market factors beyond the control of management, and affect the period-to-period comparability of the results of operations. Accordingly, the Company’s management utilizes operating results excluding these items for comparability purposes when making decisions regarding the Company’s performance and in presentations with
credit rating agencies, lenders, and investors. Consequently, the Company reports this non-GAAP information because the Company believes that it provides additional information regarding operational and performance indicators that are closely assessed by management. There is no comprehensive, authoritative guidance for the presentation of such non-GAAP information, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance.
5
Operating Segments
A description
of the Company's reportable operating segments is included in note 1 of the notes to consolidated financial statements included in the Company's 2023 Annual Report. The Company's reportable operating segments include:
•Loan Servicing and Systems (LSS) - referred to as Nelnet Diversified Services (NDS)
•Education Technology Services and Payments (ETSP) - referred to as Nelnet Business Services (NBS)
•Asset Generation and Management (AGM), part of the Nelnet Financial Services (NFS) division
•Nelnet
Bank, part of the NFS division
The Company earns fee-based revenue through its NDS and NBS reportable operating segments. The Company earns net interest income on its loan portfolio, consisting primarily of FFELP loans, in its AGM reportable operating segment. This segment is expected to generate significant amounts of cash as the FFELP portfolio amortizes. The Company actively works to maximize the amount and timing of cash flows generated from its FFELP portfolio and seeks to acquire additional loan assets to leverage its servicing scale and expertise to generate incremental earnings and cash flow. Nelnet Bank operates as an internet industrial bank franchise focused
on the private education and unsecured consumer loan markets, with a home office in Salt Lake City, Utah.
The Company formally established the Nelnet Financial Services division in 2023 intended to focus on the Company’s key objective to maximize the amount and timing of cash flows generated from its FFELP portfolio and reposition itself for the post-FFELP environment by expanding its private education, consumer, and other loan portfolios.
The creation of NFS resulted in financial results grouped and reported differently to the Company’s chief operating decision maker. In addition to AGM and Nelnet Bank being part of the NFS
division, NFS’s other operating segments that are not reportable (that were previously included in Corporate and Other Activities) include:
•The operating results of Whitetail Rock Capital Management, LLC (WRCM), the Company's U.S. Securities and Exchange Commission (SEC)-registered investment advisor subsidiary
•The operating results of Nelnet Insurance Services, which primarily includes multiple reinsurance treaties on property and causality policies
•The operating results of the Company’s investment activities in real estate
•The
operating results of the Company’s investment debt securities (primarily student loan and other asset-backed securities) and interest expense incurred on debt used to finance such investments
Other business activities and operating segments that are not reportable and not part of the NFS division are combined and included in Corporate and Other Activities ("Corporate"). Corporate includes the following items:
•Shared service activities related to internal audit, human resources, accounting, legal, enterprise risk management, information technology, occupancy, and marketing. These costs are allocated to each operating segment based on estimated use of such activities and services
•Corporate costs and
overhead functions not allocated to operating segments, including executive management, investments in innovation, and other holding company organizational costs
•The operating results of Nelnet Renewable Energy, which include solar tax equity investments made by the Company, administrative and management services provided by the Company on tax equity investments made by third parties, and solar construction and development
•The operating results of certain of the Company’s investment activities, including its investment in ALLO and early-stage and emerging growth companies (venture
capital investments)
•Interest income earned on cash balances held at the corporate level and interest expense incurred on unsecured corporate related debt transactions
•Other product and service offerings that are not considered reportable operating segments
6
The following table presents the operating results (net income (loss) before taxes) for each of the Company’s reportable and certain other operating segments reconciled to the consolidated financial statements.
Net loss attributable to noncontrolling interests (a)
21,359
3,096
2,791
37,097
11,106
Net
(loss) income
$
(8,554)
45,332
30,773
91,532
407,347
(a) For the periods presented, the majority of noncontrolling interests represents losses attributed to minority membership interests in the Company’s Nelnet Renewable Energy operating segment, which were $21.5 million, $3.3 million, and $2.9 million for the three
months ended December 31, 2023, September 30, 2023, and December 31, 2022, respectively, and $37.6 million and $11.6 million for the years ended December 31, 2023 and 2022, respectively.
2023 Operating and Liquidity Highlights
See below for a summary of (i) certain highlights of the Company’s 2023 operating results; (ii) a description of significant and/or unusual events and transactions in 2023 that impacted and may potentially impact the Company’s operating results;
and (iii) a summary of the Company’s current liquidity, including certain items that impacted the Company’s liquidity in 2023.
Loan Servicing and Systems
Effective April 1, 2023, the Department modified the loan servicing contract between the Department and Nelnet Servicing to reduce the monthly fee under the servicing contract by $0.19 per borrower. In addition, beginning in the second quarter of 2023, the Department transferred one million of the
Company’s existing Department servicing borrowers to another third-party servicer. These items negatively impacted LSS’s government servicing revenue in 2023.
In the first quarter of 2023, the Company reduced staff to manage expenses due to (i) the delays in the government’s student debt relief and return to repayment programs under the CARES Act, (ii) the April 2023 monthly fee reduction on the government contract, and (iii) the transfer of government borrowers from the Company to another servicer. The staff reductions resulted in salaries and benefits expense being reduced in 2023 as compared with 2022. In 2022, the
Company was fully staffed in preparation of the expiration of the student loan payment pause under the CARES Act. In August 2023, the Company began to hire additional associates to support borrowers returning to repayment on September 1, 2023.
In April 2023, the Company and four other third-party servicers were awarded servicing contracts to provide continued servicing for the Department under a new Unified Servicing and Data Solutions (USDS) contract which will replace the existing Department student loans servicing contracts.
The Company’s new contract has a five year base period, with 5 years of possible extensions. The new USDS servicing contracts have multiple revenue components with tiered pricing based on borrower volume, while revenue earned under the legacy servicing contract is primarily based on borrower status. Assuming borrower volume remains consistent
7
under the USDS servicing contract,
the Company expects revenue earned on a per borrower blended basis will decrease under the USDS contract versus the current legacy contract.
Education Technology Services and Payments
Education technology services and payments revenue grew to $463.3 million in 2023. The growth was from existing and new customers. Operating margin decreased from recent historical periods as a result of continued investments in the development of new services and technologies and superior customer service. Due to an increase in interest rates, the Company
recognized $27.0 million in interest income on tuition funds held in custody for schools, an increase from $9.4 million in 2022.
Asset Generation and Management
Net interest income was negatively impacted in 2023 due to the expected continued amortization of the Company’s FFELP student loan portfolio. The average balance of student loans decreased $2.7 billion from $16.0 billion in 2022 to $13.3 billion in 2023. Since late 2021, the Company has experienced accelerated run-off of its FFELP portfolio due to initiatives offered by the Department for FFELP borrowers to consolidate their loans to qualify for loan forgiveness, income-driven repayment plans, and other programs. Interest income was also negatively impacted
by an increase in interest rates. As a result of an increase in interest rates, gross fixed rate floor income recognized by the Company was only $2.2 million in 2023 compared with $57.4 million in 2022. Based on current interest rates, the Company does not anticipate earning a significant amount of fixed rate floor income in the foreseeable future.
In the second quarter of 2023, the Company redeemed certain asset-backed debt securities prior to their maturity, resulting in the recognition of $25.9 million in interest expense from the write-off of the remaining unamortized debt discount associated with these bonds at the time of redemption.
Nelnet
Renewable Energy
Nelnet Renewable Energy includes solar tax equity investments made by the Company, administrative and management services provided by the Company on tax equity investments made by third parties, and solar construction and development. During 2023, the Company invested a total of $185.1 million (which included $94.5 million syndicated to third-party investors) in solar tax equity investments. Due to the management and control of each of these investment partnerships, such partnerships that invest in tax equity investments are consolidated on the Company’s consolidated
financial statements, with the co-investor’s portion being presented as noncontrolling interests. Included in the Company’s operating results is the Company's share of income or loss from solar investments accounted for under the Hypothetical Liquidation at Book Value (HLBV) method of accounting. For the majority of the Company's solar investments, the HLBV method of accounting results in accelerated losses in the initial years of investment. Nelnet Renewable Energy recognized pre-tax losses on its tax equity investments of $46.7 million in 2023, which includes $26.4 million attributable to noncontrolling interests.
In periods in which the
Company makes significant investments in solar tax equity investments, operating results are negatively impacted due to the accelerated losses recognized in the initial years of investment. However, given the timing and amount of cash flows expected to be generated over the life of these investments, the Company considers these investments a good use of capital. Through December 31, 2023, the Company has recognized cumulative pre-tax losses (excluding noncontrolling interests) of approximately $56 million on its tax equity investments. The Company expects its current investments (assuming no additional investments are made subsequent to December
31, 2023) to generate approximately $78 million of pre-tax earnings (excluding noncontrolling interests) over the life of the investments. Accordingly, the Company expects to recognize approximately $134 million in pre-tax income (excluding noncontrolling interests) over the remaining years of its current investments.
In addition to solar tax equity investments, the Company has a strategy to own solar energy project assets. Accordingly, the Company has begun to execute a multi-faceted approach to construct, finance, own, and operate these assets. As part of this strategy, on July 1, 2022, the
Company acquired 80% of GRNE Solar, a solar construction company that provides full-service engineering, procurement, and construction (EPC) services to residential homes and commercial entities. Since the acquisition of GRNE, it has incurred low and, in some cases, negative margins on certain projects. In addition, higher interest rates reduced residential demand and made community solar projects more costly. GRNE Solar recognized a net loss of $34.2 million in 2023. In the fourth quarter of 2023, the Company recognized an impairment charge of $20.6 million related to goodwill and certain intangible assets initially recognized from the GRNE Solar acquisition. Due to the complexity and long-term nature of GRNE’s existing construction contracts, GRNE may continue to incur low and/or negative
margins to complete projects currently under contract.
Investments - ALLO and Hudl
The Company has a 45% voting membership interests in ALLO. The Company accounts for its ALLO voting membership interests investment under the HLBV method of accounting that resulted in the recognition of a net loss of $65.3 million during the year
8
ended December 31, 2023. As of December
31, 2023, the carrying amount of the Company’s investment in ALLO was $10.7 million. The Company expects to fully expense the remaining investment balance of ALLO during the first quarter of 2024.
The Company has an investment in Agile Sports Technologies, Inc. (doing business as “Hudl.”) During the first quarter of 2023, the Company acquired additional ownership interests in Hudl for $31.5 million from existing Hudl investors. This transaction was not considered an observable market transaction (not orderly) because it was not subject to customary marketing activities. Accordingly,
the Company did not adjust its carrying value of its Hudl investment to the transaction value. As of December 31, 2023, the carrying amount of the Company's investment in Hudl is $165.5 million.
Certain investments, including solar tax equity, ALLO, and Hudl, may be recorded at a carrying value that is less than its market value due to HLBV (solar investments and ALLO) and the measurement alternative (Hudl) method of accounting. Future operating results of solar and ALLO or an observable transaction of Hudl could impact the valuation on our financial statements or our investments in them and may result in significant fluctuations of the
Company’s earnings.
Liquidity
The Company had a significant portfolio of derivative instruments, in which the Company paid a fixed rate and received a floating rate to economically hedge loans earning fixed rate floor income. On March 15, 2023, to minimize the Company's exposure to market volatility and increase liquidity, the Company terminated its entire derivative portfolio hedging loans earning fixed rate floor income and retained the $183.2 million of cash (representing the termination
date fair value of the derivatives) from its clearinghouse.
As of December 31, 2023, the Company had $740.0 million of unencumbered cash and investments. In addition, the Company has a $495.0 million unsecured line of credit that matures in September 2026. No amounts were outstanding on the line of credit as of December 31, 2023. In addition, as of December 31, 2023, the Company expects to generate future undiscounted cash flows from its AGM loan portfolio of approximately $1.30 billion, including approximately $850.0 million
in the next five years.
The Company intends to use its liquidity position to capitalize on market opportunities, including FFELP, private education, consumer, and other loan acquisitions (or investment interests therein); strategic acquisitions and investments; and capital management initiatives, including stock repurchases, debt repurchases, and dividend distributions. The timing and size of these opportunities will vary and will have a direct impact on the Company's cash and investment balances.
9
Segment Reporting
The
following tables include the results of each of the Company's reportable operating segments reconciled to the consolidated financial statements.
(a) On March 15, 2023, to minimize the Company's exposure to market volatility and increase liquidity, the Company
terminated its entire derivative portfolio hedging loans earning fixed rate floor income ($2.8 billion in notional amount of derivatives) prior to their maturity. Through March 15, 2023, the Company had received cash or had a receivable from the clearinghouse related to variation margin equal to the fair value of the $2.8 billion notional amount of fixed rate floor derivatives as of March 15, 2023 of $183.2 million, which included $19.1 million related to current period settlements.
16
Loans and Accrued Interest Receivable and Allowance for Loan Losses
Loans
and accrued interest receivable and allowance for loan losses consisted of the following:
(a) As
of December 31, 2023, September 30, 2023, and December 31, 2022, the allowance for loan losses as a percent of the risk sharing component of federally insured loans not covered by the federal guaranty for non-Nelnet Bank was 21.8%, 21.9%, and 22.4%, respectively, and for Nelnet Bank was 10.0% and 10.3% as of September 30, 2023 and December 31, 2022, respectively.
17
Loan Activity
The following table sets forth the activity of the
Company's loan portfolios:
Repayments,
claims, capitalized interest, participations, and other, net
(286,483)
(322,013)
(383,829)
(1,461,803)
(1,694,742)
Loans lost to external parties
(349,890)
(229,342)
(1,046,911)
(1,062,662)
(2,656,639)
Loans
sold
(246,150)
(61,807)
(119,796)
(728,135)
(166,950)
Ending balance
$
12,049,462
12,735,621
14,169,771
12,049,462
14,169,771
Nelnet
Bank:
Beginning balance
$
468,813
444,488
429,476
419,795
257,901
Loan acquisitions
and originations:
Private education loans
11,945
19,756
—
53,286
235,139
Consumer
and other loans
30,201
22,966
8,426
85,967
—
Total loan acquisitions and originations
42,146
42,722
8,426
139,253
235,139
Repayments
(20,518)
(18,382)
(18,011)
(68,475)
(69,022)
Loans
sold to AGM
(57,569)
(15)
(96)
(57,701)
(4,223)
Ending balance
$
432,872
468,813
419,795
432,872
419,795
The
Company has partial ownership in certain consumer, private education, and federally insured student loan securitizations that are accounted for as held-to-maturity beneficial interest investments and included in "investments and notes receivable" in the Company's consolidated financial statements. As of the latest remittance reports filed by the various trusts prior to or as of December 31, 2023, the Company’s ownership correlates to approximately $1.76 billion of loans included in these securitizations. The loans held in these securitizations are not included in the above table.
18
Loan
Spread Analysis
The following table analyzes the loan spread on AGM’s portfolio of loans, which represents the spread between the yield earned on loan assets and the costs of the liabilities and derivative instruments used to fund the assets.
Discount accretion, net of premium and deferred origination costs amortization (a)
0.06
0.06
0.06
0.06
0.04
Variable
loan yield, net
7.01
6.96
5.76
6.82
3.59
Loan cost of funds - interest expense (b)
(6.40)
(6.14)
(4.64)
(5.99)
(2.58)
Loan
cost of funds - derivative settlements (c) (d)
0.01
0.01
(0.01)
0.01
(0.00
)
Variable loan spread
0.62
0.83
1.11
0.84
1.01
Fixed
rate floor income, gross
0.00
0.01
0.07
0.02
0.36
Fixed rate floor income - derivative settlements (c) (e)
0.01
0.01
0.59
0.18
0.21
Fixed
rate floor income, net of settlements on derivatives
0.01
0.02
0.66
0.20
0.57
Core loan spread
0.63
%
0.85
%
1.77
%
1.04
%
1.58
%
Average
balance of AGM's loans
$
12,500,817
13,157,152
14,764,466
13,316,525
15,969,435
Average balance of AGM's debt outstanding
11,993,699
12,527,771
14,352,548
12,720,097
15,513,824
(a) During
the fourth quarter of 2022, the Company changed its estimate of the constant prepayment rate used to amortize/accrete federally insured loan premium/discounts for its loans which resulted in a $8.4 million increase to interest income. The impact of this adjustment was excluded from the table above.
(b) In the second quarter of 2023, the Company redeemed certain asset-backed debt securities prior to their maturity, resulting in the recognition of $25.9 million in interest expense from the write-off of the remaining unamortized debt discount associated with these bonds at the time of redemption. This expense was excluded from the table above.
(c) Derivative settlements represent the cash paid or received
during the current period to settle with derivative instrument counterparties the economic effect of the Company's derivative instruments based on their contractual terms. Derivative accounting requires that net settlements with respect to derivatives that do not qualify for "hedge treatment" under GAAP be recorded in a separate income statement line item below net interest income. The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. As such, management believes derivative settlements for each applicable period should be evaluated with the Company’s net interest income (loan spread) as presented
in this table. The Company reports this non-GAAP information because the Company believes that it provides additional information regarding operational and performance indicators that are closely assessed by management. There is no comprehensive, authoritative guidance for the presentation of such non-GAAP information, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance. See "Derivative Settlements" included in this supplement for the net settlement activity recognized by the Company for each type of derivative for the periods presented in the table.
A reconciliation of core loan spread,
which includes the impact of derivative settlements on loan spread, to loan spread without derivative settlements follows.
(d) Derivative settlements consist of net settlements received (paid) related to the Company’s 1:3 basis swaps.
(e) Derivative settlements
consist of net settlements received related to the Company’s floor income interest rate swaps.
19
The relationship between the indices in which AGM earns interest on its loans and funds such loans has a significant impact on loan spread. In an increasing interest rate environment, student loan spread on FFELP loans increases in the short term because of the timing of interest rate resets on the Company's assets occurring daily in contrast to the timing of the interest rate resets on the Company's
debt that occurs either monthly or quarterly.
Variable loan spread decreased during 2023 compared with 2022 due to a significant increase in short-term rates during 2022 compared with the increase in rates for 2023.
The difference between variable loan spread and core loan spread is fixed rate floor income earned on a portion of AGM's federally insured student loan portfolio. A summary of fixed rate floor income and its contribution to core loan spread follows:
Fixed
rate floor income contribution to spread, net
0.01
%
0.02
%
0.66
%
0.20
%
0.57
%
(a) Derivative settlements consist of net settlements received related to the Company's derivatives used to hedge student loans
earning fixed rate floor income.
Fixed Rate Floor Income
The following table shows AGM’s federally insured student loan assets that were earning fixed rate floor income as of December 31, 2023.
Fixed interest rate range
Borrower/lender weighted
average yield
Estimated variable conversion rate (a)
Loan balance
8.0
- 8.99%
8.25%
5.61%
$
185,062
> 9.0%
9.05%
6.41%
122,649
$
307,711
(a) The
estimated variable conversion rate is the estimated short-term interest rate at which loans would convert to a variable rate. As of December 31, 2023, the weighted average estimated variable conversion rate was 8.57% and the short-term interest rate was 554 basis points.
20
Dates Referenced Herein and Documents Incorporated by Reference
