UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
For the quarterly period ended September 30, 2017
or
For the transition period from to
Commission File Number: 001-36228
Navient Corporation
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
(302) 283-8000
(Registrant’s telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
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 ☑ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
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 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 shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
Class
Outstanding at September 30, 2017
NAVIENT CORPORATION
TABLE OF CONTENTS
Financial Statements
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures about Market Risk
Controls and Procedures
Legal Proceedings
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Defaults Upon Senior Securities
Mine Safety Disclosures
Other Information
Exhibits
PART I. FINANCIAL INFORMATION
CONSOLIDATED BALANCE SHEETS
(In millions, except share and per share amounts)
(Unaudited)
Assets
FFELP Loans (net of allowance for losses of $61 and $67, respectively)
Private Education Loans (net of allowance for losses of $1,287 and $1,351 respectively)
Investments
Available-for-sale
Other
Total investments
Cash and cash equivalents
Restricted cash and investments
Goodwill and acquired intangible assets, net
Other assets
Total assets
Liabilities
Short-term borrowings
Long-term borrowings
Other liabilities
Total liabilities
Commitments and contingencies
Equity
Common stock, par value $0.01 per share, 1.125 billion shares authorized: 440 million and 436 million shares issued, respectively
Additional paid-in capital
Accumulated other comprehensive income (net of tax expense of $9 and $3, respectively)
Retained earnings
Total Navient Corporation stockholders’ equity before treasury stock
Less: Common stock held in treasury at cost: 177 million and 145 million shares, respectively
Total Navient Corporation stockholders’ equity
Noncontrolling interest
Total equity
Total liabilities and equity
Supplemental information — assets and liabilities of consolidated variable interest entities:
FFELP Loans
Private Education Loans
Other loans
Restricted cash
Other assets, net
Net assets of consolidated variable interest entities
See accompanying notes to consolidated financial statements.
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CONSOLIDATED STATEMENTS OF INCOME
(In millions, except per share amounts)
Interest income:
Cash and investments
Total interest income
Total interest expense
Net interest income
Less: provisions for loan losses
Net interest income after provisions for loan losses
Other income (loss):
Servicing revenue
Asset recovery and business processing revenue
Other income (loss)
Gains on sales of loans and investments
Gains (losses) on debt repurchases
Gains (losses) on derivative and hedging activities, net
Total other income
Expenses:
Salaries and benefits
Other operating expenses
Total operating expenses
Goodwill and acquired intangible asset impairment and amortization expense
Total expenses
Income before income tax expense
Income tax expense
Net income attributable to Navient Corporation
Basic earnings per common share attributable to Navient Corporation
Average common shares outstanding
Diluted earnings per common share attributable to Navient Corporation
Average common and common equivalent shares outstanding
Dividends per common share attributable to Navient Corporation
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CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In millions)
Net income
Other comprehensive income (loss):
Unrealized gains (losses) on derivatives:
Unrealized hedging gains (losses) on derivatives
Reclassification adjustments for derivative (gains) losses included in net income (interest expense)
Total unrealized gains (losses) on derivatives
Income tax (expense) benefit
Other comprehensive income (loss), net of tax expense (benefit)
Total comprehensive income attributable to Navient Corporation
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CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(Dollars in millions, except share and per share amounts)
Balance at June 30, 2016
Comprehensive income:
Net income (loss)
Other comprehensive income (loss), net of tax
Total comprehensive income
Cash dividends:
Common stock ($.16 per share)
Issuance of common shares
Tax impact of employee stock-based compensation plans
Stock-based compensation expense
Common stock repurchased
Shares repurchased related to employee stock-based compensation plans
Balance at September 30, 2016
Balance at June 30, 2017
Balance at September 30, 2017
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Balance at December 31, 2015
Common stock ($.48 per share)
Dividend equivalent units related to employee stock-based compensation plans
Tax benefit related to employee stock-based compensation plans
Balance at December 31, 2016
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CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in millions)
Operating activities
Adjustments to reconcile net income to net cash provided by
Losses (gains) on debt repurchases
Unrealized gains on derivative and hedging activities
Provisions for loan losses
Decrease in accrued interest receivable
Decrease in accrued interest payable
Decrease in other assets
(Decrease) increase in other liabilities
Total net cash provided by operating activities
Investing activities
Education loans acquired
Reduction of education loans:
Installment payments, claims and other
Other investing activities, net
Proceeds from maturities ofavailable-for-sale securities
Purchases of other securities
Proceeds from maturities of other securities
Decrease in restricted cash — variable interest entities
Purchase of subsidiaries, net of cash acquired
Total net cash provided by investing activities
Financing activities
Borrowings collateralized by loans in trust — issued
Borrowings collateralized by loans in trust — repaid
Asset-backed commercial paper conduits, net
Other short-term borrowings repaid
Other long-term notes issued
Other long-term notes repaid
Other financing activities, net
Common dividends paid
Total net cash used in financing activities
Net (decrease) increase in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
Cash disbursements made (refunds received) for:
Interest
Income taxes paid
Income taxes received
Noncash activity:
Investing activity — Education loans and restricted cash acquired
Operating activity — Other assets acquired and other liabilities assumed, net
Financing activity — Borrowings assumed in acquisition of education loans and restricted cash
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Information at September 30, 2017 and for the three and nine months ended
September 30, 2017 and 2016 is unaudited)
Basis of Presentation
The accompanying unaudited, consolidated financial statements of Navient have been prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for complete consolidated financial statements. The consolidated financial statements include the accounts of Navient and its majority-owned and controlled subsidiaries and those Variable Interest Entities (“VIEs”) for which we are the primary beneficiary, after eliminating the effects of intercompany accounts and transactions. In the opinion of management, all adjustments considered necessary for a fair statement of the results for the interim periods have been included. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Operating results for the three and nine months ended September 30, 2017 are not necessarily indicative of the results for the year ending December 31, 2017 or for any other period. These unaudited financial statements should be read in conjunction with the audited financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2016 (the “2016 Form 10-K”). Definitions for certain capitalized terms used but not otherwise defined in this Quarterly Report on Form 10-Q can be found in our 2016 Form 10-K.
Reclassifications
Certain reclassifications have been made to the balances as of and for the three and nine months ended September 30, 2016 to be consistent with classifications adopted for 2017, and had no effect on net income, total assets, or total liabilities.
Education Loan Interest Income and Allowance for Loan Losses
In June 2017, Navient purchased education loans with an unpaid principal amount of $6.5 billion comprised of $3.5 billion in FFELP Loans and $3.0 billion in Private Education Loans.
Purchased Credit Impaired (“PCI”) Loans
Loans acquired with evidence of deterioration of credit quality since origination for which it is probable, at acquisition, that the investor will be unable to collect all contractually required payments receivable are PCI loans accounted for under Accounting Standard Codification (“ASC”) 310-30,“Loans and Debt Securities Acquired with Deteriorated Credit Quality.” When considering whether evidence of credit quality deterioration exists as of the purchase date, the Company considers loan guarantees and the following credit attributes: delinquency status, use of forbearance, recent borrower FICO scores, use of loan modification programs, and borrowers who have filed for bankruptcy.
The Company aggregates loans with common risk characteristics into pools and accounts for each pool as a single asset with a single composite interest rate and an aggregate expectation of cash flows. The pools when formed are initially recorded at fair value. The Company recognizes interest income based on each pool’s effective interest rate which is based on our estimate of all cash flows expected to be received and includes an assumption about prepayment rates. The pools are tested quarterly for impairment by re-estimating the future cash flows to be received from the pools. If the new estimated cash flows result in a pool’s effective interest rate increasing, then this new yield is used prospectively over the remaining life of the pool. If the new estimated cash flows result in a pool’s effective interest rate decreasing, the pool is impaired and written down through a valuation allowance to maintain the effective interest rate.
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September 30, 2017 and 2016 is unaudited) (Continued)
Based on the credit attributes discussed above, we concluded that $261 million principal amount of Private Education Loans acquired in June 2017 are required to be accounted for as PCI loans with a fair value and resulting carry value of $101 million as of the acquisition date. As of acquisition, this portfolio’s contractually required payments receivable (the total undiscounted amount of all uncollected contractual principal and interest payments both past due and scheduled for the future, adjusted for prepayments) was $411 million with an estimated accretable yield (income expected to be recognized in future periods) of $108 million. As of September 30, 2017, the carrying amount was $100 million with no valuation allowance recorded.
Purchased Non-Credit Impaired Loans
Loans acquired that do not have evidence of credit deterioration since origination are recorded at fair value with no allowance for loan losses established at the acquisition date. Loan premiums and discounts are amortized as a part of interest income using the interest method under ASC 310-20, “Nonrefundable Fees and Other Costs.” An allowance for loan losses is established when incurred losses in the loans exceed the remaining unamortized discount recorded at the time of acquisition (i.e., the next two years of expected charge-offs as well as any additional TDR allowance required is greater than the remaining discount). As a result of this policy, to the extent that actual charge-offs exceed any related allowance for loan losses recognized post-acquisition, provision for loan losses is recorded when the loans are charged off. Charge-offs are recorded through the allowance for loan losses. In June 2017, we acquired Private Education Loans with unpaid principal balance of $2.8 billion at a discount of $424 million and FFELP Loans with unpaid principal balance of $3.5 billion at a discount of $47 million, that are accounted for under this policy. No allowance for loan losses has been established for these loans as of September 30, 2017.
Asset Recovery and Business Processing Revenue
In the third quarter of 2017, $47 million of previously deferred asset recovery revenue, net of a reserve, was recognized as revenue related to loans for which the Company performs default aversion services. In connection with providing these services, a fee is received when a loan is initially placed with us and we provide the services for the remaining life of the loan for no additional fee. As a result, in accordance with GAAP, the fee was deferred net of estimated rebates, and recognized as revenue as it was earned over the expected lives of the related loans. In the third quarter of 2017, the Company was notified that it would no longer perform these services after 2017 due to the termination of the related contract as of December 31, 2017. In accordance with GAAP, we recognized this previously deferred revenue during the three-month period ended September 30, 2017 to reflect a shortened period over which it is expected to be earned.
Recently Issued Accounting Pronouncements
Revenue Recognition
On May 28, 2014, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers,” which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The new guidance supersedes current U.S. GAAP guidance on revenue recognition and requires the use of more estimates and judgements than the current revenue standards. The new guidance does not apply to revenue associated with financial instruments, including loans, that are accounted for under other U.S. GAAP. Accordingly, we do not expect the new revenue recognition guidance to have a material impact on our consolidated results of operations associated with our loan portfolios including net interest income.
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We will adopt the new standard as of January 1, 2018, the effective date. The new standard permits the use of either the retrospective or cumulative effect transition method. Our implementation efforts to date include the identification of revenue and review of related contracts within the scope of the new standard. We have not yet identified nor do we anticipate material changes in the timing of revenue recognition. However, our review is ongoing as we continue to evaluate both contract revenue and certain contract costs.
Classification and Measurement
On January 5, 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities,” which reconsiders the classification and measurement of financial instruments. The new standard requires certain equity instruments be measured at fair value, with fair value changes recognized in earnings. In addition, the standard requires a cumulative-effect adjustment to retained earnings as of the beginning of the reporting period of adoption. It will be effective for the Company as of January 1, 2018. We have concluded that adopting this new accounting standard will be immaterial to our consolidated financial statements and footnote disclosures.
Leases
On February 25, 2016, the FASB issued ASU No. 2016-02, “Leases,” which requires the identification of arrangements that should be accounted for as leases by lessees. In general, for lease arrangements exceeding a twelve-month term, these arrangements must be recognized as assets and liabilities on the balance sheet of the lessee. A right-of-use asset and lease obligation will be recorded for all leases, whether operating or financing, while the income statement will reflect lease expense for operating leases and amortization/interest expense for financing leases. The balance sheet amount recorded for existing leases at the date of adoption must be calculated using the applicable incremental borrowing rate at the date of adoption. The standard requires the use of the modified retrospective transition method, which will require adjustment to all comparative periods presented. It will be effective for the Company as of January 1, 2019. Early adoption is permitted. We are currently assessing the impact that adopting this new accounting standard will have on our consolidated financial statements and footnote disclosures, but expect it to be immaterial.
Stock Compensation
On March 30, 2016, the FASB issued ASU No. 2016-09, “Compensation — Stock Compensation,” which identifies areas for simplification involving several aspects of accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, an option to recognize gross stock compensation expense with actual forfeitures recognized as they occur, as well as certain classifications on the statement of cash flows. The new standard also requires that all excess tax benefits and tax deficiencies that pertain to employee stock-based incentive payments be recognized within income tax expense in the consolidated statements of income, rather than as previously reported within additional paid-in capital. The new standard was adopted on January 1, 2017 and is expected to have an immaterial impact on our consolidated financial statements and footnote disclosures. In the nine months ended September 30, 2017, this new standard resulted in a $5 million reduction to income tax expense.
Allowance for Loan Losses
On June 16, 2016, the FASB issued ASU No. 2016-13, “Financial Instruments — Credit Losses,” which requires measurement and recognition of an allowance for loan loss that estimates remaining expected credit
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losses for financial assets held at the reporting date. Our current allowance for loan loss is an incurred loss model. As a result, we expect the new guidance will result in an increase to our allowance for loan losses. The standard is to be applied through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The standard is effective for the Company as of January 1, 2020, and will primarily impact the allowance for loan losses related to our Private Education Loans and FFELP Loans. Early adoption is permitted on January 1, 2019. This standard represents a significant departure from existing GAAP, and may result in material changes to the Company’s accounting for the allowance for loan losses. We are currently evaluating the impact of adopting this accounting standard on our consolidated financial statements and footnote disclosures.
Intra-Entity Transfer of Assets
On October 24, 2016, the FASB issued ASU No. 2016-16, “Income Taxes — Intra-Entity Transfer of Assets Other and Inventory,” which requires recognition of the income tax consequences of an intra-entity transfer of non-inventory assets when the transfer occurs. The new standard is effective for the Company as of January 1, 2018. We have concluded that adopting this new accounting standard will be immaterial to our consolidated financial statements and footnote disclosures.
Goodwill Impairment
On January 26, 2017, the FASB issued ASU No. 2017-04, “Intangibles — Goodwill and Other,” which eliminates the two-step process that required identification of potential impairment and a separate measure of the actual impairment. The annual assessment of goodwill impairment will be determined by using the difference between the carrying amount and the fair value of the reporting unit. The new standard will be effective for the Company as of January 1, 2020. Early adoption is permitted. We are currently assessing the impact that adopting this new standard will have on our consolidated financial statements and footnote disclosures.
Hedging Activities
On August 28, 2017, the FASB issued ASU No. 2017-12, “Derivatives and Hedging,” which better aligns risk management activities and financial reporting for hedging relationships through changes to both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results. The amendments expand and refine hedge accounting for both nonfinancial and financial risk components and in some situations better align the recognition and presentation of the effects of the hedging instrument and the hedged item in the financial statements. The new standard will be effective for the Company as of January 1, 2019. Early adoption is permitted. We are currently assessing the impact this new standard will have on our consolidated financial statements and footnote disclosures.
Our provisions for loan losses represent the periodic expense of maintaining an allowance sufficient to absorb incurred probable losses, net of expected recoveries, in the held-for-investment loan portfolios. The evaluation of the provisions for loan losses is inherently subjective, as it requires material estimates that may be susceptible to significant changes. We believe that the allowance for loan losses is appropriate to cover probable losses incurred in the loan portfolios. See “Note 1 — Significant Accounting Policies — Education Loan Interest Income and Allowance for Loan Losses” for a description of our policy for the $6.5 billion of loans ($3.5 billion of FFELP and $3.0 billion of Private Education) purchased in June 2017 accounted for as either Purchased Credit Impaired Loans or Purchased Non-Credit Impaired Loans.
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We segregate our Private Education Loan portfolio into two classes of loans — traditional and non-traditional. Non-traditional loans are loans to (i) customers attendingfor-profit schools with an original Fair Isaac and Company (“FICO”) score of less than 670 and (ii) customers attendingnot-for-profit schools with an original FICO score of less than 640. The FICO score used in determining whether a loan isnon-traditional is the greater of the customer or cosigner FICO score at or near origination. Traditional loans are defined as all other Private Education Loans that are not classified as non-traditional.
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Allowance for Loan Losses Metrics
Beginning balance
Total provision
Charge-offs(1)
Reclassification of interest reserve(2)
Ending balance(3)
Allowance Ending Balance:
Individually evaluated for impairment
Collectively evaluated for impairment:
Excluding Purchased Non-Credit Impaired Loans and Purchased Credit Impaired Loans
Purchased Non-Credit Impaired Loans(3)
Purchased Credit Impaired Loans(3)
Ending total allowance
Loans Ending Balance:
Ending total loans(4)
Charge-offs as a percentage of average loans in repayment (annualized)
Allowance coverage of charge-offs (annualized)
Allowance as a percentage of the ending total loan balance(3)
Allowance as a percentage of the ending loans in repayment(3)
Average loans in repayment
Ending loans in repayment
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Ending balance
Allowance:
Ending balance: individually evaluated for impairment
Ending balance: collectively evaluated for impairment
Loans:
Ending balance: individually evaluated for impairment(3)
Ending balance: collectively evaluated for impairment(3)
Ending total loans(3)
Allowance as a percentage of the ending total loan balance
Allowance as a percentage of the ending loans in repayment
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Key Credit Quality Indicators
FFELP Loans are substantially insured and guaranteed as to their principal and accrued interest in the event of default; therefore, the key credit quality indicator for this portfolio is loan status. The impact of changes in loan status is incorporated quarterly into the allowance for loan losses calculation.
For Private Education Loans, the key credit quality indicators are school type, FICO scores, the existence of a cosigner, the loan status and loan seasoning. The school type/FICO score are assessed at origination and maintained through the traditional/non-traditional loan designation. The other Private Education Loan key quality indicators can change and are incorporated quarterly into the allowance for loan losses calculation. The following table highlights the principal balance (excluding the receivable for partially charged-off loans) of our Private Education Loan portfolio stratified by the key credit quality indicators.
Credit Quality Indicators
School Type/FICO Scores:
Traditional
Non-Traditional(1)
Total
Cosigners:
With cosigner
Without cosigner
Seasoning(2):
1-12 payments
13-24 payments
25-36 payments
37-48 payments
More than 48 payments
Not yet in repayment
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The following tables provide information regarding the loan status and aging of past due loans.
Loans in-school/grace/deferment(1)
Loans in forbearance(2)
Loans in repayment and percentage of each status:
Loans current
Loans delinquent 31-60 days(3)
Loans delinquent 61-90 days(3)
Loans delinquent greater than 90 days(3)
Total FFELP Loans in repayment
Total FFELP Loans, gross
FFELP Loan unamortized premium
Total FFELP Loans
FFELP Loan allowance for losses
FFELP Loans, net
Percentage of FFELP Loans in repayment
Delinquencies as a percentage of FFELP Loans in repayment
FFELP Loans in forbearance as a percentage of loans in repayment and forbearance
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Total traditional loans in repayment
Total traditional loans, gross
Traditional loans unamortized discount
Total traditional loans
Traditional loans receivable for partially charged-offloans
Traditional loans allowance for losses
Traditional loans, net
Percentage of traditional loans in repayment
Delinquencies as a percentage of traditional loans in repayment
Loans in forbearance as a percentage of loans in repayment and forbearance
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Total non-traditional loans in repayment
Total non-traditional loans, gross
Non-traditional loans unamortized discount
Total non-traditional loans
Non-traditional loans receivable for partially charged-off loans
Non-traditional loans allowance for losses
Non-traditional loans, net
Percentage of non-traditional loans in repayment
Delinquencies as a percentage of non-traditional loans in repayment
Receivable for Partially Charged-Off Private Education Loans
At the end of each month, for loans that are 212 or more days past due, we charge off the estimated loss of a defaulted loan balance. Actual recoveries are applied against the remaining loan balance that was not charged off. We refer to this remaining loan balance as the “receivable for partially charged-off loans.” If actual periodic recoveries are less than expected, the difference is immediately charged off through the allowance for Private Education Loan losses with an offsetting reduction in the receivable for partially charged-offPrivate Education Loans. If actual periodic recoveries are greater than expected, they will be reflected as a recovery through the allowance for Private Education Loan losses once the cumulative recovery amount exceeds the cumulative amount originally expected to be recovered.
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The following table summarizes the activity in the receivable for partially charged-off Private Education Loans.
Receivable at beginning of period
Expected future recoveries of current period defaults(1)
Recoveries(2)
Charge-offs(3)
Receivable at end of period
Troubled Debt Restructurings (“TDRs”)
We sometimes modify the terms of loans for certain customers when we believe such modifications may increase the ability and willingness of a customer to make payments and thus increase the ultimate overall amount collected on a loan. These modifications generally take the form of a forbearance, a temporary interest rate reduction or an extended repayment plan. For customers experiencing financial difficulty, certain Private Education Loans for which we have granted either a forbearance of greater than three months, an interest rate reduction or an extended repayment plan are classified as TDRs. Approximately 60 percent and 61 percent of the loans granted forbearance have qualified as a TDR loan at September 30, 2017 and December 31, 2016, respectively. The unpaid principal balance of TDR loans that were in an interest rate reduction plan as of September 30, 2017 and December 31, 2016 was $2.7 billion and $2.6 billion, respectively.
At September 30, 2017 and December 31, 2016, all of our TDR loans had a related allowance recorded. The following table provides the recorded investment, unpaid principal balance and related allowance for our TDR loans.
September 30, 2017
Private Education Loans — Traditional
Private EducationLoans — Non-Traditional
December 31, 2016
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The following table provides the average recorded investment and interest income recognized for our TDR loans.
The following table provides information regarding the loan status and aging of TDR loans that are past due.
Loans in deferment(1)
Total TDR loans in repayment
Total TDR loans, gross
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The following table provides the amount of loans modified in the periods presented that resulted in a TDR. Additionally, the table summarizes charge-offs occurring in the TDR portfolio, as well as TDRs for which a payment default occurred in the current period within 12 months of the loan first being designated as a TDR. We define payment default as 60 days past due for this disclosure.
Accrued Interest Receivable
The following table provides information regarding accrued interest receivable on our Private Education Loans.
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The following table summarizes our borrowings.
Unsecured borrowings:
Senior unsecured debt
Total unsecured borrowings
Secured borrowings:
FFELP Loan securitizations
Private Education Loan securitizations(1)
FFELP Loan — other facilities
Private Education Loan — other facilities
Other(2)
Total secured borrowings
Total before hedge accounting adjustments
Hedge accounting adjustments
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Variable Interest Entities
We consolidated the following financing VIEs as of September 30, 2017 and December 31, 2016, as we are the primary beneficiary. As a result, these VIEs are accounted for as secured borrowings.
Secured Borrowings — VIEs:
Our risk management strategy and use of and accounting for derivatives have not materially changed from that discussed in our 2016 Form 10-K. Please refer to “Note 7 — Derivative Financial Instruments” in our 2016 Form 10-K for a full discussion.
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Summary of Derivative Financial Statement Impact
The following tables summarize the fair values and notional amounts of all derivative instruments at September 30, 2017 and December 31, 2016, and their impact on other comprehensive income and earnings for the three and nine months ended September 30, 2017 and 2016.
Impact of Derivatives on Consolidated Balance Sheet
Fair Values(1)
Derivative Assets:
Interest rate swaps
Cross-currency interestrate swaps
and interest rate
Total derivative assets(3)
Derivative Liabilities:
Floor Income Contracts
Total derivative liabilities(3)
Net total derivatives
(Dollar in millions)
Gross position
Impact of master netting agreements
Derivative values with impact of master netting agreements (as carried on balance sheet)
Cash collateral (held) pledged
Net position
The above fair values include adjustments when necessary for counterparty credit risk for both when we are exposed to the counterparty, net of collateral postings, and when the counterparty is exposed to us, net of collateral postings. The net adjustments decreased the asset position at September 30, 2017 and December 31,
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2016 by $4 million and $0, respectively. In addition, the above fair values reflect adjustments for illiquid derivatives as indicated by a wide bid/ask spread in the interest rate indices to which the derivatives are indexed. These adjustments decreased the overall net asset positions at September 30, 2017 and December 31, 2016 by $34 million and $31 million, respectively.
(Dollars in billions)
Notional Values:
Cross-currency interest rate swaps
Other(1)
Total derivatives
Impact of Derivatives on Consolidated Statements of Income
Fair Value Hedges:
Total fair value derivatives
Cash Flow Hedges:
Total cash flow derivatives
Trading:
Total trading derivatives
Less: realized gains (losses) recorded in interest expense
Gains (losses) on derivative and hedgingactivities, net
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Collateral
Collateral held and pledged related to derivative exposures between us and our derivative counterparties are detailed in the following table:
Collateral held:
Cash (obligation to return cash collateral is recorded in short-term borrowings)
Securities at fair value — corporate derivatives (not recorded in financial statements)(1)
Securities at fair value — on-balance sheet securitization derivatives (not recorded in financial statements)(2)
Total collateral held
Derivative asset at fair value including accrued interest
Collateral pledged to others:
Cash (right to receive return of cash collateral is recorded in investments)
Total collateral pledged
Derivative liability at fair value including accrued interest and premium receivable
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Our corporate derivatives contain credit contingent features. At our current unsecured credit rating, we have fully collateralized our corporate derivative liability position (including accrued interest and net of premiums receivable) of $282 million with our counterparties. Downgrades in our unsecured credit rating would not result in any additional collateral requirements, except to increase the frequency of collateral calls. Trust related derivatives do not contain credit contingent features related to our or the trusts’ credit ratings.
The following table provides the detail of our other assets.
Accrued interest receivable, net
Income tax asset, net current and deferred
Benefit and insurance-related investments
Derivatives at fair value
Fixed assets, net
Accounts receivable
Other loans, net
Acquisitions are accounted for under the acquisition method of accounting as defined in ASC 805, “Business Combinations.” The Company allocates the purchase price to the fair value of the acquired tangible assets, liabilities and identifiable intangible assets as of the acquisition date.
On July 31, 2017, Navient acquired Duncan Solutions for approximately $86 million in cash. Duncan Solutions is a leading transportation revenue management company serving municipalities and toll authorities, offering a range of technology-enabled products and services to supports its clients’ parking and tolling operations. We have engaged an independent appraiser to assist in the valuation of the assets acquired and liabilities assumed including identifiable intangible assets, primarily customer relationships, the trade name and developed technology. We anticipate the purchase price allocation will be completed by the end of the first quarter 2018. The results of operations of Duncan Solutions have been included in Navient’s consolidated financial statements since the acquisition date and are reflected in Navient’s Business Services segment results in “Note 11 — Segment Reporting.” Navient has not disclosed the pro forma impact of this acquisition to the results of operations for the nine months ended September 30, 2017 and 2016, as the pro forma impact was deemed immaterial.
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The following table summarizes common share repurchases and issuances.
Common shares repurchased(1)
Average purchase price per share
Shares repurchased related to employee stock-based compensation plans(2)
Common shares issued(3)
The closing price of our common stock on September 30, 2017 was $15.02.
Dividend and Share Repurchase Program
In September 2017, June 2017 and March 2017, we paid a common stock dividend of $0.16 per share.
We repurchased 29.6 million shares of common stock for $440 million in the nine months ended September 30, 2017. The shares were repurchased under our previously disclosed $600 million share repurchase program. Effective October 4, 2017, Navient suspended its remaining share repurchase program through year-end 2018 to allocate capital towards growing the education lending business and building book value. As of September 30, 2017, the remaining repurchase authority was $160 million. In the nine months ended September 30, 2016, we repurchased 47.1 million shares for $575 million.
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Basic earnings per common share (“EPS”) are calculated using the weighted average number of shares of common stock outstanding during each period. A reconciliation of the numerators and denominators of the basic and diluted EPS calculations follows.
(In millions, except per share data)
Numerator:
Denominator:
Weighted average shares used to compute basic EPS
Effect of dilutive securities:
Dilutive effect of stock options, non-vested restricted stock, restricted stock units and Employee Stock Purchase Plans (“ESPPs”)(1)
Dilutive potential common shares(2)
Weighted average shares used to compute diluted EPS
Basic earnings (loss) per common share attributable to Navient Corporation
Diluted earnings (loss) per common share attributable to Navient Corporation
We use estimates of fair value in applying various accounting standards in our financial statements. We categorize our fair value estimates based on a hierarchical framework associated with three levels of price transparency utilized in measuring financial instruments at fair value. Please refer to “Note 12 — Fair Value Measurements” in our 2016 Form 10-K for a full discussion.
During the three and nine months ended September 30, 2017, there were no significant transfers of financial instruments between levels, or changes in our methodology or assumptions used to value our financial instruments.
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The following table summarizes the valuation of our financial instruments that are marked-to-market on a recurring basis.
Available-for-saleinvestments:
Agency residential mortgage-backed securities
Totalavailable-for-sale investments
Derivative instruments:(1)
Total derivative assets(2)
Liabilities(3)
Derivative instruments(1)
Total derivative liabilities(2)
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The following tables summarize the change in balance sheet carrying value associated with level 3 financial instruments carried at fair value on a recurring basis.
Balance, beginning of period
Total gains/(losses) (realized and unrealized):
Included in earnings(1)
Included in other comprehensive income
Settlements
Transfers in and/or out of level 3
Balance, end of period
Change in unrealized gains/(losses) relating to instruments still held at the reporting date(2)
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Interest expense
The following table presents the significant inputs that are unobservable or from inactive markets used in the recurring valuations of the level 3 financial instruments detailed above.
Derivatives
Prime/LIBOR basis swaps
The significant inputs that are unobservable or from inactive markets related to our level 3 derivatives detailed in the table above would be expected to have the following impacts to the valuations:
Prime/LIBOR basis swaps — These swaps do not actively trade in the markets as indicated by a wide bid/ask spread. A wider bid/ask spread will result in a decrease in the overall valuation. In addition, the
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unobservable inputs include Constant Prepayment Rates of the underlying securitization trust the swap references. A decrease in this input will result in a longer weighted average life of the swap which will increase the value for swaps in a gain position and decrease the value for swaps in a loss position, everything else equal. The opposite is true for an increase in the input.
The following table summarizes the fair values of our financial assets and liabilities, including derivative financial instruments.
Earning assets
Cash and investments(1)
Total earning assets
Interest-bearing liabilities
Total interest-bearing liabilities
Derivative financial instruments
Excess of net asset fair value over carrying value
The Company has been named as defendant in a number of putative class action cases alleging violations of various state and federal consumer protection laws. One of these putative class action suits is Randy Johnson v. Navient Solutions, Inc. (“NSI”). On May 4, 2015, Randy Johnson filed a putative class action in the United
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States District Court for the Southern District of Indiana alleging violations of the Telephone Consumer Protection Act (“TCPA”). During the fourth quarter of 2016, the parties entered into a settlement agreement and, in December 2016, filed a Motion to Approve the Class Action Settlement with the Court. The Court approved the settlement in July 2017. NSI denied all claims asserted, but agreed to settle the case to avoid the burden, expense, risk and uncertainty of continued litigation.
On January 18, 2017, the CFPB and Attorneys General for the State of Illinois and the State of Washington initiated civil actions naming Navient Corporation and several of its subsidiaries as defendants alleging violations of certain Federal and State consumer protection statutes, including the Consumer Financial Protection Act of 2010, the Fair Credit Reporting Act, the Fair Debt Collection Practices Act and various state consumer protection laws. On October 5, 2017, the Attorney General for the Commonwealth of Pennsylvania initiated a civil action against Navient Corporation and Navient Solutions, LLC, containing similar alleged violations of the Consumer Financial Protection Act of 2010 and the Pennsylvania Unfair Trade Practices and Consumer Protection Law. We refer to the Illinois Attorney General, the Pennsylvania Attorney General and the Washington Attorney General collectively as the “Attorneys General.” We intend to vigorously defend against the allegations in each of these cases. At this point in time, the Company is unable to anticipate the timing of a resolution or the ultimate impact that these legal proceedings may have on the Company’s consolidated financial position, liquidity, results of operation or cash flows. As a result, it is not possible at this time to estimate a range of potential exposure, if any, for amounts that may be payable in connection with these matters and reserves have not been established. It is possible that an adverse ruling or rulings may have a material adverse impact on the Company. For additional information on these civil actions, please refer to section entitled “Regulatory Matters” below.
Regulatory Matters
On May 2, 2014, Navient Solutions, Inc., now known as Navient Solutions, LLC (“Solutions”), a wholly-owned subsidiary of Navient, and Sallie Mae Bank entered into consent orders, without admitting any wrongdoing, with the Federal Deposit Insurance Corporation (the “FDIC”) (respectively, the “Solutions Order” and the “Bank Order”; collectively, the “FDIC Orders”) to settle matters related to certain cited violations of Section 5 of the Federal Trade Commission Act, including the disclosures and assessments of certain late fees, The FDIC lifted the FDIC Order with respect to Solutions effective as of March 23, 2017 with no conditions.
With respect to alleged civil violations of the Servicemembers Civil Relief Act (the “SCRA”), Solutions and Sallie Mae Bank entered into a consent order with the DOJ in May 2014. The DOJ consent order (the “DOJ Order”) covers all loans either owned by Sallie Mae Bank or serviced by Solutions from November 28, 2005 until the effective date of the settlement. In the third quarter of 2016, the Company completed the distributions from the fund by distributing the remaining funds to charities approved by the DOJ pursuant to the terms of the order. The total reserves established by the Company in 2013 and 2014 to cover these costs were $177 million, and as of September 30, 2017, substantially all of this amount had been paid to customers or credited or refunded to customer accounts. The final cost of these proceedings will remain uncertain until the remaining consent order is lifted. The Company believes it has fulfilled the terms of the DOJ Order.
As previously disclosed, the Company and various of its subsidiaries have been subject to the following investigations and inquiries:
In December 2013, Navient received Civil Investigative Demands (“CIDs”) issued by the State of Illinois Office of Attorney General and the State of Washington Office of the Attorney General and
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multiple other state Attorneys General. According to the CIDs, the investigations were initiated to ascertain whether any practices declared to be unlawful under the Consumer Fraud and Deceptive Business Practices Act have occurred or are about to occur.
On January 18, 2017, the CFPB and Attorneys General for the State of Illinois and the State of Washington initiated civil actions naming Navient Corporation and several of its subsidiaries as defendants alleging violations of Federal and State consumer protection statutes, including the Consumer Financial Protection Act of 2010, the Fair Credit Reporting Act, the Fair Debt Collection Practices Act and various state consumer protection laws. On October 5, 2017, the Attorney General for the Commonwealth of Pennsylvania initiated a civil action against Navient Corporation and Navient Solutions, LLC, alleging violations of the Consumer Financial Protection Act of 2010 and the Pennsylvania Unfair Trade Practices and Consumer Protection Law. These civil actions are related to the CIDs and the NORA letter discussed above that were previously issued by the CFPB and the Attorneys General. In addition to these matters, a number of lawsuits have been filed by nongovernmental parties or, in the future, may be filed by additional governmental or nongovernmental parties seeking damages or other remedies related to similar issues raised by the CFPB and the Attorneys General. The Company filed its Motion to Dismiss on March 20, 2017 with respect to the Attorneys General actions and on March 24, 2017 with respect to the CFPB action. In relation to the CFPB action, after a hearing, our Motion to Dismiss was denied in full in August 2017. In relation to the Washington action, following a hearing, our Motion to Dismiss was denied in full in July 2017. In relation to the Illinois action, a hearing on our Motion to Dismiss was held on July 18, 2017 and no ruling has been issued as of the date of this Form 10-Q. As the Company has previously stated, we believe the suits improperly seek to impose penalties on Navient based on new, unannounced servicing standards applied retroactively only against one servicer, and that the allegations are false. As stated above, we intend to vigorously defend against the allegations in each of these cases.
In addition, Navient and its subsidiaries are subject to examination or regulation by the SEC, CFPB, FDIC, ED and various state agencies as part of its ordinary course of business. Items or matters similar to or different from those described above may arise during the course of those examinations. We also routinely receive
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inquiries or requests from various regulatory bodies or government agencies concerning our business or our assets. The Company endeavors to cooperate with each such inquiry or request.
Under the terms of the Separation Agreement, Navient has agreed to indemnify SLM BankCo for all claims, actions, damages, losses or expenses that may arise from the conduct of all activities of pre-Spin-Off SLM BankCo occurring prior to the Spin-Off other than those specifically excluded in the Separation and Distribution Agreement. As a result, subject to the Separation and Distribution Agreement, Navient has agreed to indemnify and hold harmless Sallie Mae and its subsidiaries, including Sallie Mae Bank from liabilities arising out of the regulatory matters and CFPB and State Attorneys General lawsuits mentioned above, other than fines or penalties directly levied against Sallie Mae Bank and other matters specifically excluded. Navient has no additional reserves related to indemnification matters with SLM BankCo as of September 30, 2017.
OIG Audit
The Office of the Inspector General (the “OIG”) of ED commenced an audit regarding Special Allowance Payments (“SAP”) on September 10, 2007. On September 25, 2013, we received the final audit determination of Federal Student Aid (the “Final Audit Determination”) on the final audit report issued by the OIG on August 3, 2009 related to this audit. The Final Audit Determination concurred with the final audit report issued by the OIG and instructed us to make adjustment to our government billing to reflect the policy determination. In August 2016, we filed our notice of appeal relating to this Final Audit Determination to the Administrative Actions and Appeals Service Group of ED. This matter remains open. We continue to believe that our SAP billing practices were proper, considering then-existing ED guidance and lack of applicable regulations. The Company established a reserve for this matter in 2014 as part of the total reserve for pending regulatory matters discussed previously and does not believe, at this time, that an adverse ruling would have a material effect on the Company as a whole.
Contingencies
In the ordinary course of business, we and our subsidiaries are defendants in or parties to pending and threatened legal actions and proceedings including actions brought on behalf of various classes of claimants. These actions and proceedings may be based on alleged violations of consumer protection, securities, employment and other laws. In certain of these actions and proceedings, claims for substantial monetary damage are asserted against us and our subsidiaries.
In the ordinary course of business, we and our subsidiaries are subject to regulatory examinations, information gathering requests, inquiries and investigations. In connection with formal and informal inquiries in these cases, we and our subsidiaries receive numerous requests, subpoenas and orders for documents, testimony and information in connection with various aspects of our regulated activities.
In view of the inherent difficulty of predicting the outcome of such litigation and regulatory matters, we cannot predict what the eventual outcome of the pending matters will be, what the timing or the ultimate resolution of these matters will be, or what the eventual loss, fines or penalties, if any, related to each pending matter may be.
We are required to establish reserves for litigation and regulatory matters where those matters present loss contingencies that are both probable and estimable. When loss contingencies are not both probable and estimable, we do not establish reserves.
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Based on current knowledge, reserves have been established for certain litigation or regulatory matters where the loss is both probable and estimable. Based on current knowledge, management does not believe that loss contingencies, if any, arising from pending investigations, litigation or regulatory matters will have a material adverse effect on our consolidated financial position, liquidity, results of operations or cash flows, except as otherwise disclosed.
FFELP Loans Segment
In the FFELP Loans segment, we acquire and finance FFELP Loans. Although FFELP Loans are no longer originated, we continue to pursue acquisitions of FFELP Loan portfolios. These acquisitions leverage our servicing scale and generate incremental earnings and cash flow. In this segment, we generate revenue primarily through net interest income on the FFELP Loan portfolio (after provision for loan losses). This segment is expected to generate significant amounts of earnings and cash flow over the remaining life of the portfolio.
The following table includes GAAP basis asset information for our FFELP Loans segment.
Private Education Loans Segment
In this segment, we acquire, finance, and service Private Education Loans. Private Education Loans primarily bridge the gap between the cost of higher education and the amount funded through financial aid, federal loans, or students’ and families’ resources. They also allow borrowers to refinance existing education loans at a lower rate. Acquisitions leverage our servicing scale and generate incremental earnings and cash flow. In this segment, we generate revenue primarily through net interest income on the Private Education Loan portfolio (after provision for loan losses). This segment is expected to generate significant amounts of earnings and cash flow over the remaining life of the portfolio.
The following table includes GAAP basis asset information for our Private Education Loans segment.
Private Education Loans, net
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Business Services Segment
Our Business Services segment generates revenue from business processing solutions related to servicing, asset recovery and other business processing activities. Within this segment, we generate revenue primarily through servicing our FFELP Loan portfolio as well as servicing education loans for Guarantors of FFELP Loans and other institutions, including ED. We provide asset recovery services for loans and receivables on behalf of Guarantors of FFELP Loans and higher education institutions. In addition, we provide asset recovery and other business processing solutions for federal, state, court, and municipal clients, public authorities, and health care organizations.
At September 30, 2017 and December 31, 2016, the Business Services segment had total assets of $708 million and $587 million, respectively, on a GAAP basis.
Other Segment
Our Other segment primarily consists of activities of our holding company, including the repurchase of debt, our corporate liquidity portfolio, unallocated overhead and regulatory-related costs. We also include results from certain smaller wind-down operations within this segment.
At September 30, 2017 and December 31, 2016, the Other segment had total assets of $2.0 billion and $2.1 billion, respectively, on a GAAP basis.
Measure of Profitability
We prepare financial statements and present financial results in accordance with GAAP. However, we also evaluate our business segments and present financial results on a basis that differs from GAAP. We refer to this different basis of presentation as “Core Earnings.” We provide this “Core Earnings” basis of presentation on a consolidated basis for each business segment because this is what we review internally when making management decisions regarding our performance and how we allocate resources. We also refer to this information in our presentations with credit rating agencies, lenders and investors. Because our “Core Earnings” basis of presentation corresponds to our segment financial presentations, we are required by GAAP to provide “Core Earnings” disclosure in the notes to our consolidated financial statements for our business segments.
“Core Earnings” are not a substitute for reported results under GAAP. We use “Core Earnings” to manage our business segments because “Core Earnings” reflect adjustments to GAAP financial results for three items, discussed below, that are either related to the Spin-Off or create significant volatility mostly due to timing factors generally beyond the control of management. Accordingly, we believe that “Core Earnings” provide management with a useful basis from which to better evaluate results from ongoing operations against the business plan or against results from prior periods. Consequently, we disclose this information because we believe it provides investors with additional information regarding the operational and performance indicators that are most closely assessed by management. When compared to GAAP results, the three items we remove to result in our “Core Earnings” presentations are:
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While GAAP provides a uniform, comprehensive basis of accounting, for the reasons described above, our “Core Earnings” basis of presentation does not. “Core Earnings” are subject to certain general and specific limitations that investors should carefully consider. For example, there is no comprehensive, authoritative guidance for management reporting. Our “Core Earnings” are not defined terms within GAAP and may not be comparable to similarly titled measures reported by other companies. Accordingly, our “Core Earnings” presentation does not represent a comprehensive basis of accounting. Investors, therefore, may not be able to compare our performance with that of other financial services companies based upon “Core Earnings.” “Core Earnings” results are only meant to supplement GAAP results by providing additional information regarding the operational and performance indicators that are most closely used by management, our board of directors, credit rating agencies, lenders and investors to assess performance.
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Segment Results and Reconciliations to GAAP
Education loans
Net interest income (loss)
Net interest income (loss) after provisions for loan losses
Losses on debt repurchases
Total other income (loss)
Direct operating expenses
Overhead expenses
Operating expenses
Goodwill and acquired intangible asset impairment and amortization
Income (loss) before income tax expense (benefit)
Income tax expense (benefit)(3)
Total “Core Earnings” adjustments to GAAP
Income tax expense (benefit)
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Gains on debt repurchases
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Summary of “Core Earnings” Adjustments to GAAP
“Core Earnings” adjustments to GAAP:
Net impact of derivative accounting(1)
Net impact of goodwill and acquired intangible assets(2)
Net tax effect(3)
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This report contains “forward-looking” statements and other information that is based on management’s current expectations as of the date of this report. Statements that are not historical facts, including statements about our beliefs, opinions, or expectations and statements that assume or are dependent upon future events, are forward-looking statements and often contain words such as “expect,” “anticipate,” “intend,” “plan,” “believe,” “seek,” “see,” “will,” “would,” or “target.” Forward-looking statements are subject to risks, uncertainties, assumptions and other factors that may cause actual results to be materially different from those reflected in such forward-looking statements.
For us, these factors include, among others, the risks and uncertainties associated with:
We could also be affected by, among other things:
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The preparation of our consolidated financial statements also requires management to make certain estimates and assumptions including estimates and assumptions about future events. These estimates or assumptions may prove to be incorrect and actual results could differ materially. All forward-looking statements contained in this report are qualified by these cautionary statements and are made only as of the date of this report. We do not undertake any obligation to update or revise these forward-looking statements except as required by law.
Definitions for certain capitalized terms used but not otherwise defined in this Quarterly Report onForm 10-Q can be found in the “Glossary” section of our 2016 Form 10-K.
Through this discussion and analysis, we intend to provide the reader with some narrative context for how our management views our consolidated financial statements, additional context within which to assess our operating results, and information on the quality and variability of our earnings, liquidity and cash flows.
Navient’s Business
Navient is a leading provider of asset management and business processing solutions for education, health care, and government clients at the federal, state, and local levels. We help our clients and millions of Americans achieve financial success through services and support. Headquartered in Wilmington, Delaware, Navient employs team members in western New York, northeastern Pennsylvania, Indiana, Tennessee, Texas, Virginia, Wisconsin, and other locations.
Navient holds the largest portfolio of education loans insured or federally guaranteed under the Federal Family Education Loan Program (“FFELP”). We also hold the largest portfolio of Private Education Loans. Navient services its own portfolio of education loans, as well as education loans owned by the United States Department of Education (“ED”), financial institutions and nonprofit education lenders. Navient is one of the largest servicers to ED under its Direct Student Loan Program (“DSLP”). Our data-driven insight, service and innovation support customers on the path to successful education loan repayment.
Navient also provides business processing solutions to education-related clients, such as guaranty agencies and colleges and universities.
Finally, the company leverages its scale and expertise to provide additional business processing solutions to a variety of other clients, including federal agencies, state and local governments, regional authorities, courts, hospitals, health care systems and other health care providers, financial service providers, and municipalities.
For all our clients, we aim to improve their financial performance, optimize their operations, and maintain compassionate, compliant service for their customers and constituents.
As of September 30, 2017, Navient’s principal assets consisted of:
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Strengths and Opportunities
Navient possesses a number of competitive advantages that distinguish it from its competitors, including:
Large, high quality asset base generating significant and predictable cash flows. At September 30, 2017, Navient’s $107.3 billion education loan portfolio is 77 percent funded to term and is expected to produce predictable cash flows over the remaining life of the portfolio. Navient’s $83.9 billion portfolio of FFELP Loans generally bears a maximum 3 percent loss exposure under the terms of the federal guaranty. Navient’s $23.4 billion portfolio of Private Education Loans bears the full credit risk of the borrower and any cosigner. Navient expects that cash flows from its FFELP Loan and Private Education Loan portfolios will significantly exceed future debt service obligations. Our interest earning assets are funded by both secured and unsecured debt.
Efficient and large-scale operating platforms. Navient services over $300 billion in education loans for approximately 12 million customers. Navient’s inventory of contingent asset recovery receivables is $24.0 billion as of September 30, 2017. We provide services to over 1,000 education, health care and public sector clients. Navient has demonstrated scalable infrastructure with capacity to add volume at a low cost. Our market share and tested infrastructure have enabled expansion to additional clients and asset types.
Superior performance. Navient has demonstrated superior default prevention performance and industry-leading services. The combined portfolio of federal loans serviced by Navient experienced a Cohort Default Rate (“CDR”) that is 37 percent lower than our peers, as calculated from the most recent CDR released by ED in September 2017. We are consistently a top performer in our asset recovery business and deliver superior service to our public and private sector clients. We continually leverage data-driven insights and customer service to identify new ways to add value to our clients.
Commitment to compliance and customer centricity. Navient fosters a robust compliance culture driven by a “customer first” approach. We invest in rigorous training programs, quality assurance, reviews and audits, escalated service tracking and analysis, and customer research to enhance our compliance and customer service.
Strong capital return. As a result of our significant cash flow and capital generation, Navient expects to return excess capital to stockholders through dividends and share repurchases. In December 2016, Navient’s board of directors authorized a new $600 million share repurchase program effective January 1, 2017. For the nine months ended September 30, 2017, Navient repurchased 29.6 million shares of common stock for $440 million. Effective October 4, 2017, Navient suspended its remaining share repurchase program throughyear-end 2018 to allocate capital towards growing the education lending business and building book value. The Company’s dividend policy is unchanged.
Navient has paid a quarterly dividend of $0.16 per share of common stock since the first quarter of 2015. For the nine months ended September 30, 2017, Navient paid $133 million in dividends.
Meaningful growth opportunities. In the Asset Management business, Navient will continue pursuing opportunistic acquisitions of FFELP and Private Education Loan portfolios, including refinanced Private Education Loans.
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In the Business Processing Solutions business, Navient will pursue additional growth opportunities, including, among others:
Navient intends to leverage its large-scale operating platforms, superior and data-driven default prevention and asset recovery performance, operating efficiency and regulatory compliance and risk management infrastructure in growing these businesses and in pursuing other growth opportunities.
Navient’s Approach to Helping Education Loan Borrowers Achieve Success
Navient services loans for approximately 12 million DSLP Loan, FFELP Loan, and Private Education Loan customers, including 6.1 million customers whose accounts are serviced under Navient’s contract with ED. We help our customers navigate the path to financial success through proactive outreach and innovative, data-driven approaches.
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Leveraging four decades of expertise: In our experience, customer success means making steady progress toward repayment and avoiding falling behind on or putting off payments. With customer success and default prevention as our top priorities, we apply data-driven outreach that draws from our more than 40 years of experience. Our strategists employ risk modeling to pinpoint struggling borrowers and deploy resources where needed. By tailoring our approach to each borrower’s unique situation — e.g., recent graduates, students re-entering school, those experiencing hardships or those with student debt but no degree — we help ensure industry-leading outcomes, as evidenced by a default rate that is 37 percent lower than other servicers. Nine times out of 10 when we can reach federal loan customers who have missed payments, we can identify a solution to help them avoid default.
Getting borrowers into the right payment plans: We help customers understand the complex array of federal loan repayment options so they can make informed choices about the plans that are aligned with their financial circumstances and goals. We promote awareness of federal repayment plan options, including Income-Driven Repayment (“IDR”), through more than 154 million communications annually, including mail, email, phone calls, videos and text messages. As a result, we continue to lead in enrolling customers in affordable income-driven repayment plans: nearly one in three federal student borrowers and more than half of student loan balances serviced by Navient for the government were enrolled in an IDR plan (excluding loan types ineligible for the plans). We also help borrowers understand that options lengthening their repayment term may increase the total cost of their loans, while reminding them that they may pay extra or switch repayment plans at any time.
Leading the industry: Navient is a leader in recommending policy reforms that we believe would enhance the student loan program. For example, we have recommended improving financial literacy and simplifying federal loan repayment options — reforms that we believe would make a meaningful difference for millions of Americans with student loans.
In 2009, we pioneered the creation of a loan modification program to help Private Education Loan borrowers needing additional assistance. As of September 30, 2017, $2.7 billion of our Private Education Loans were enrolled in this interest rate reduction program, helping customers through more affordable monthly payments while making progress in repaying their principal loan balance.
We continually make enhancements designed to help our customers, drawing from a variety of inputs including customer surveys, analysis of customer inquiries and complaint data, regulator commentary and website activity. We regularly use customer and employee research panels to gather real-time feedback to inform enhancements underway.
Our Office of the Customer Advocate, established in 1997, offers escalated assistance to customers who request it. We are committed to working with customers and appreciate customer comments, which, combined with our own customer communication channels, help us improve the ways we assist our customers.
We also continue to offer free resources to help customers and the general public build knowledge on personal finance topics. We offer Path to Success, a series of interactive financial literacy videos, and Career Playbook, a career development video series. We also conduct a national research study, Money Under 35, that measures the financial health of Americans ages 22 to 35.
We take seriously our commitment to serve military customers and have developed a best-in-class approach to assist them. Navient was the first student loan servicer to launch a dedicated military benefits customer service team, website (Navient.com/military), and toll-free number. Navient’s military benefits team offers a single point of contact for all calls from service members and their families to help them learn about and access the benefits designed for them, including interest rate benefits, deferment and other options.
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Selected Historical Financial Information and Ratios
GAAP Basis
Weighted average shares used to compute diluted earnings per common share
Net interest margin, FFELP Loans(1)
Net interest margin, Private Education Loans(1)
Return on assets
Ending FFELP Loans, net
Ending Private Education Loans, net
Ending total education loans, net
Average FFELP Loans
Average Private Education Loans
Average total education loans
“Core Earnings” Basis(2)
Overview
The following discussion and analysis presents a review of our business and operations as of and for the three and nine months ended September 30, 2017.
We monitor and assess our ongoing operations and results based on the following four reportable segments: (1) FFELP Loans (2) Private Education Loans, (3) Business Services and (4) Other.
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In this segment, we acquire, finance, and service Private Education Loans. With the planned acquisition of Earnest anticipated to close in the fourth quarter 2017, we will be originating refinanced Private Education Loans as well. Private Education Loans primarily bridge the gap between the cost of higher education and the amount funded through financial aid, federal loans, or students’ and families’ resources. They also allow borrowers to refinance existing education loans at a lower rate. Acquisitions and originations leverage our servicing scale and generate incremental earnings and cash flow. In this segment, we generate revenue primarily through net interest income on the Private Education Loan portfolio (after provision for loan losses). This segment is expected to generate significant amounts of earnings and cash flow over the remaining life of the portfolio.
Key Financial Measures
Our operating results are primarily driven by net interest income, provisions for loan losses and expenses incurred in our education loan portfolios; the revenues and expenses generated by our servicing, asset recovery and business processing businesses; and gains and losses on loan sales and debt repurchases. We manage and assess the performance of each business segment separately as each derives its revenue from different activities and services. A brief summary of our key financial measures (net interest income; provisions for loan losses; charge-offs and delinquencies; servicing, asset recovery and business processing revenues; other income (loss); and operating expenses) can be found in Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our 2016 Form 10-K.
Third-Quarter 2017 Summary of Results
We report financial results on a GAAP basis and also present certain “Core Earnings” performance measures. Our management, equity investors, credit rating agencies and debt capital providers use these “Core Earnings” measures to monitor our business performance. See “‘Core Earnings’ — Definition and Limitations” for a further discussion and a complete reconciliation between GAAP net income and “Core Earnings.”
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Third-quarter 2017 GAAP net income was $176 million ($0.64 diluted earnings per share), versus net income of $230 million ($0.73 diluted earnings per share) in the third-quarter 2016. The changes in GAAP net income are impacted by the same “Core Earnings” items discussed below, as well as changes in net income attributable to (1) unrealized, mark-to-market gains/losses on derivatives and (2) goodwill and acquired intangible asset amortization and impairment. These items are recognized in GAAP but are not included in “Core Earnings” results. Third-quarter 2017 GAAP results included gains of $36 million from derivative accounting treatment that are excluded from “Core Earnings” results, compared with gains of $139 million from this derivative accounting treatment in the year-ago period. See “‘Core Earnings’ — Definition and Limitations —Differences between ‘Core Earnings’ and GAAP” for a complete reconciliation between GAAP net income and “Core Earnings.”
“Core Earnings” for the quarter were $152 million ($0.55 diluted “Core Earnings” per share), compared with $157 million ($0.50 diluted “Core Earnings” per share) for the year-ago quarter. The increase in diluted “Core Earnings” per share was primarily due to a $57 million increase in fee revenue, as well as fewer shares outstanding due to common share repurchases. Related to our entire education loan portfolio, there was a net $28 million decrease in net interest income due to a cumulative adjustment related to an increase in prepayment speed assumptions used to amortize loan premiums and discounts. In addition, operating expenses increased $10 million over the year-ago quarter primarily due to the acquisition of Duncan Solutions in the quarter. Third-quarter 2017 and 2016 diluted “Core Earnings” per share were $0.56 and $0.51, respectively, excluding regulatory-related costs of $3 million and $6 million, respectively.
During the first nine months of 2017, we:
Results of Operations
We present the results of operations below first on a consolidated basis in accordance with GAAP. Following our discussion of consolidated earnings results on a GAAP basis, we present our results on a segment basis. We have four business segments: FFELP Loans, Private Education Loans, Business Services and Other. Since these segments operate in distinct business environments and we manage and evaluate the financial performance of these segments using non-GAAPfinancial measures, these segments are presented on a “Core Earnings” basis (see “‘Core Earnings’ — Definition and Limitations”).
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GAAP Statements of Income (Unaudited)
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Consolidated Earnings Summary — GAAP basis
Three Months Ended September 30, 2017 Compared with Three Months Ended September 30, 2016
For the three months ended September 30, 2017, net income was $176 million, or $0.64 diluted earnings per common share, compared with net income of $230 million, or $0.73 diluted earnings per common share, for the three months ended September 30, 2016. The decrease in net income was primarily due to a $57 million decrease in net interest income, a $112 million decrease in net gains on derivative and hedging activities and a $10 million increase in operating expenses. This was partially offset by a $60 million increase in asset recovery and business processing revenue and a lower effective tax rate.
The primary contributors to each of the identified drivers of changes in net income for the current quarter compared with the year-ago quarter are as follows:
We repurchased 11.3 million and 14.3 million shares of our common stock during the three months ended September 30, 2017 and 2016, respectively, as part of our common share repurchase programs. As a result, our average outstanding diluted shares decreased by 42 million common shares (or 13 percent) from the year-ago quarter.
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Nine Months Ended September 30, 2017 Compared with Nine Months Ended September 30, 2016
For the nine months ended September 30, 2017, net income was $376 million, or $1.32 diluted earnings per common share, compared with net income of $535 million, or $1.63 diluted earnings per common share, for the nine months ended September 30, 2016. The decrease in net income was primarily due to a $281 million decrease in net interest income and a $127 million decrease in net gains on derivative and hedging activities. This was partially offset by a $10 million decrease in the provision for loan losses, a $79 million increase in asset recovery and business processing revenue and a $39 million increase in other income.
The primary contributors to each of the identified drivers of changes in net income for the current nine-month period compared with the year-ago period are as follows:
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We repurchased 29.6 million and 47.1 million shares of our common stock during the nine months ended September 30, 2017 and 2016, respectively, as part of our common share repurchase programs. As a result, our average outstanding diluted shares decreased by 44 million common shares (or 13 percent) from the year-ago period.
“Core Earnings” — Definition and Limitations
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The following tables show “Core Earnings” for each business segment and our business as a whole along with the adjustments made to the income/expense items to reconcile the amounts to our reported GAAP results as required by GAAP and reported in “Note 11 — Segment Reporting.”
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Differences between “Core Earnings” and GAAP
The following discussion summarizes the differences between “Core Earnings” and GAAP net income and details each specific adjustment required to reconcile our “Core Earnings” segment presentation to our GAAP earnings.
“Core Earnings” net income attributable to Navient Corporation
Net impact of derivative accounting
Net impact of goodwill and acquired intangible assets
Net tax effect
GAAP net income attributable to Navient Corporation
1) Derivative Accounting: “Core Earnings” exclude periodic unrealized gains and losses that are caused by the fair value adjustments on derivatives that do not qualify for hedge accounting treatment under GAAP, as well as the periodic unrealized gains and losses that are a result of ineffectiveness recognized related to effective hedges under GAAP. These unrealized gains and losses occur in our FFELP Loans, Private Education Loans and Other business segments. Under GAAP, for our derivatives that are held to maturity, the cumulative net unrealized gain or loss over the life of the contract will equal $0 except for Floor Income Contracts, where the cumulative unrealized gain will equal the amount for which we sold the contract. In our “Core Earnings” presentation, we recognize the economic effect of these hedges, which generally results in any net settlement cash paid or received being recognized ratably as an interest expense or revenue over the hedged item’s life.
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 are met. We believe that our derivatives are effective economic hedges, and as such, are a critical element of our interest rate and foreign currency risk management strategy. However, some of our derivatives, primarily Floor Income Contracts and certain basis swaps, do not qualify for hedge accounting treatment and the stand-alone derivative must be adjusted to fair value in the income statement with no consideration for the corresponding change in fair value of the hedged item. These gains and losses recorded in “Gains (losses) on derivative and hedging activities, net” are primarily caused by interest rate and foreign currency exchange rate volatility and changing credit spreads during the period as well as the volume and term of derivatives not receiving hedge accounting treatment.
Our Floor Income Contracts are written options that must meet more stringent requirements than other hedging relationships to achieve hedge effectiveness. Specifically, our Floor Income Contracts do not qualify for hedge accounting treatment because the pay down of principal of the education loans underlying the Floor Income embedded in those education loans does not exactly match the change in the notional amount of our written Floor Income Contracts. Additionally, the term, the interest rate index, and the interest rate index reset frequency of the Floor Income Contract can be different than that of the education loans. Under derivative accounting treatment, the upfront contractual payment is deemed a liability and changes in fair value are recorded through income throughout the life of the contract. The change in the fair value of Floor Income Contracts is primarily caused by changing interest rates that cause the amount of Floor Income paid to the counterparties to vary. This is economically offset by the change in the amount of Floor Income earned on the underlying education loans but that offsetting change in fair value is not recognized. We believe the Floor Income Contracts are economic hedges because they effectively fix the amount of Floor Income earned over the
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contract period, thus eliminating the timing and uncertainty that changes in interest rates can have on Floor Income for that period. Therefore, for purposes of “Core Earnings,” we have removed the unrealized gains and losses related to these contracts and added back the amortization of the net contractual premiums received on the Floor Income Contracts. The amortization of the net contractual premiums received on the Floor Income Contracts for “Core Earnings” is reflected in education loan interest income. Under GAAP accounting, the premiums received on the Floor Income Contracts are recorded as revenue in the “gains (losses) on derivative and hedging activities, net” line item by the end of the contracts’ lives.
Basis swaps are used to convert floating rate debt from one floating interest rate index to another to better match the interest rate characteristics of the assets financed by that debt. We primarily use basis swaps to hedge our education loan assets that are primarily indexed to LIBOR or Prime. The accounting for derivatives requires that when using basis swaps, the change in the cash flows of the hedge effectively offset both the change in the cash flows of the asset and the change in the cash flows of the liability. Our basis swaps hedge variable interest rate risk; however, they generally do not meet this effectiveness test because the index of the swap does not exactly match the index of the hedged assets as required for hedge accounting treatment. Additionally, some of our FFELP Loans can earn at either a variable or a fixed interest rate depending on market interest rates and therefore swaps economically hedging these FFELP Loans do not meet the criteria for hedge accounting treatment. As a result, under GAAP, these swaps are recorded at fair value with changes in fair value reflected currently in the income statement.
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The table below quantifies the adjustments for derivative accounting between GAAP and “Core Earnings” net income.
“Core Earnings” derivative adjustments:
Gains (losses) on derivative and hedging activities, net, included in other income
Plus: Realized losses on derivative and hedging activities, net(1)
Unrealized gains on derivative and hedging activities, net(2)
Amortization of net premiums on Floor Income Contracts in net interest income for “Core Earnings”
Other derivative accounting adjustments(3)
Total net impact of derivative accounting(4)
Basis swaps
Foreign currency hedges
Total unrealized gains on derivative and hedging activities, net
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Reclassification of Realized Gains (Losses) on Derivative and Hedging Activities
Derivative accounting requires net settlement income/expense on derivatives and realized gains/losses related to derivative dispositions (collectively referred to as “realized gains (losses) on derivative and hedging activities”) that do not qualify as hedges to be recorded in a separate income statement line item below net interest income. Under our “Core Earnings” presentation, these gains and losses are reclassified to the income statement line item of the economically hedged item. For our “Core Earnings” net interest margin, this would primarily include: (a) reclassifying the net settlement amounts related to our Floor Income Contracts to education loan interest income and (b) reclassifying the net settlement amounts related to certain of our basis swaps to debt interest expense. The table below summarizes the realized losses on derivative and hedging activities and the associated reclassification on a “Core Earnings” basis.
Reclassification of realized gains (losses) on derivative and hedging activities:
Net settlement expense on Floor Income Contracts reclassified to net interest income
Net settlement income on interest rate swaps reclassified to net interest income
Total reclassifications of realized losses on derivative and hedging activities
Cumulative Impact of Derivative Accounting under GAAP compared to “Core Earnings”
As of September 30, 2017, derivative accounting has reduced GAAP equity by approximately $83 million as a result of cumulative net unrealized losses (after tax) recognized under GAAP, but not in “Core Earnings.” The following table rolls forward the cumulative impact to GAAP equity due to these unrealized after tax net losses related to derivative accounting.
Beginning impact of derivative accounting on GAAP equity
Net impact of net unrealized gains (losses) under derivative accounting(1)
Ending impact of derivative accounting on GAAP equity
Total pre-tax net impact of derivative accounting recognized in net income(2)
Tax impact of derivative accounting adjustments recognized in net income
Change in unrealized gain (losses) on derivatives, net of tax recognized in other comprehensive income
Net impact of net unrealized gains (losses) under derivative accounting
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Hedging FFELP Loan Embedded Floor Income
Net Floor premiums received on Floor Income Contracts that have not been amortized into “Core Earnings” as of the respective year-ends are presented in the table below. These net premiums will be recognized in “Core Earnings” in future periods. As of September 30, 2017, the remaining amortization term of the net floor premiums was approximately 4.8 years. Historically, we have sold Floor Income Contracts on a periodic basis and depending upon market conditions and pricing, we may enter into additional Floor Income Contracts in the future. The balance of unamortized Floor Income Contracts will increase as we sell new contracts and decline due to the amortization of existing contracts.
In addition to using Floor Income Contracts, we also use pay-fixed interest rate swaps to hedge the embedded Floor Income within FFELP Loans. These interest rate swaps qualify as GAAP hedges and are accounted for as cash flow hedges of variable rate debt. For GAAP, gains and losses on the effective portion of these hedges are recorded in accumulated other comprehensive income and gains and losses on the ineffective portion are recorded immediately to earnings. Hedged Floor Income from these cash flow hedges that has not been recognized into “Core Earnings” and GAAP as of the respective period-ends is presented in the table below. This hedged Floor Income will be recognized in “Core Earnings” and GAAP in future periods and is presented net of tax. As of September 30, 2017, the remaining hedged period is approximately 5.1 years. Historically, we have used pay-fixed interest rate swaps on a periodic basis to hedge embedded Floor Income and depending upon market conditions and pricing, we may enter into swaps in the future. The balance of unrecognized hedged Floor Income will increase as we enter into new swaps and decline as revenue is recognized.
Unamortized net Floor premiums (net of tax)
Unrecognized hedged Floor Income related to pay fixed interest rate swaps (net of tax)
Total(1)
3) Goodwill and Acquired Intangible Assets: Our “Core Earnings” exclude goodwill and intangible asset impairment and the amortization of acquired intangible assets. The following table summarizes the goodwill and acquired intangible asset adjustments.
“Core Earnings” goodwill and acquired intangible asset adjustments(1)
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Business Segment Earnings Summary — “Core Earnings” Basis
The following table includes “Core Earnings” results for our FFELP Loans segment.
“Core Earnings” interest income:
Total “Core Earnings” interest income
Total “Core Earnings” interest expense
Net “Core Earnings” interest income
Less: provision for loan losses
Net “Core Earnings” interest income after provision for loan losses
“Core Earnings”
“Core Earnings” for the segment were $46 million in third-quarter 2017, compared with the year-ago quarter’s $69 million. This decrease was primarily the result of a $51 million decrease in net interest income resulting primarily from a decrease in net interest margin. $34 million of the decrease in net interest income was due to a cumulative adjustment related to an increase in prepayment speed assumptions used to amortize loan premiums. Operating expenses in this segment decreased by $11 million compared to the year-ago quarter.
“Core Earnings” key performance metrics are as follows:
FFELP Loan spread
Net interest margin(1)
Provision for loan losses
Charge-offs
Charge-off rate
Total delinquency rate
Greater than 90-day delinquency rate
Forbearance rate
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FFELP Loan Net Interest Margin
The following table includes the “Core Earnings” basis FFELP Loan net interest margin along with reconciliation to the GAAP basis FFELP Loan net interest margin.
“Core Earnings” basis FFELP Loan yield
Hedged Floor Income
Unhedged Floor Income
Consolidation Loan Rebate Fees
Repayment Borrower Benefits
Premium amortization
“Core Earnings” basis FFELP Loan net yield
“Core Earnings” basis FFELP Loan cost of funds
“Core Earnings” basis FFELP Loan spread
“Core Earnings” basis other interest-earning asset spread impact
“Core Earnings” basis FFELP Loan net interest margin(1)
Adjustment for GAAP accounting treatment(2)
GAAP basis FFELP Loan net interest margin(1)
Other interest-earning assets
Total FFELP Loan “Core Earnings” basis interest-earning assets
In the third quarter of 2017, there was a $34 million decrease in net interest income due to a cumulative adjustment related to an increase in prepayment speed assumptions used to amortize loan premiums. This cumulative adjustment lowered the FFELP Loan net interest margin by 15 basis points in the third quarter of 2017. Excluding the impact of this cumulative adjustment, the FFELP Loan net interest margin would have been 0.86 percent on a “Core Earnings” basis and 0.88 percent on a GAAP basis in the third quarter of 2017. The FFELP Stafford Loan Constant Prepayment Rate (“CPR”) assumption was increased from 5 percent to 6 percent and the FFELP Consolidation Loan CPR assumption was increased from 3 percent to 4 percent. These CPR assumption increases were primarily a result of increased voluntary payoffs primarily due to an improving economy as well as increased third-party consolidation activity.
The Company acquired $523 million of FFELP Loans in third-quarter 2017. As of September 30, 2017, our FFELP Loan portfolio totaled $83.9 billion, comprised of $29.3 billion of FFELP Stafford Loans and $54.6 billion of FFELP Consolidation Loans. The weighted-average life of these portfolios as of September 30, 2017 was 4.7 years and 7.9 years, respectively, assuming a CPR of 6 percent and 4 percent, respectively.
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Floor Income
The following table analyzes on a “Core Earnings” basis the ability of the FFELP Loans in our portfolio to earn Floor Income after September 30, 2017 and 2016, based on interest rates as of those dates.
Education loans eligible to earn Floor Income
Less: post-March 31, 2006 disbursed loans required to rebate Floor Income
Less: economically hedged Floor Income
Education loans earning Floor Income
The following table presents a projection of the average balance of FFELP Consolidation Loans for which Fixed Rate Floor Income has been economically hedged with derivatives for the period October 1, 2017 to December 31, 2022.
Average balance of FFELP Consolidation Loans whose Floor Income is economically hedged
Operating Expenses — FFELP Loans
Operating expenses for our FFELP Loans segment primarily include the contractual rates we pay to service loans in term asset-backed securitization trusts or a similar rate if a loan is not in a term financing facility (which is presented as an intercompany charge from the Business Services segment who services the loans), the fees we pay for third-party loan servicing and costs incurred to acquire loans. The intercompany revenue charged by the Business Services segment and included in those amounts was $86 million and $96 million for the quarters ended September 30, 2017 and 2016, respectively, and $264 million and $296 million for the nine months ended September 30, 2017 and 2016, respectively. These amounts exceed the actual cost of servicing the loans. Operating expenses were 41 basis points and 43 basis points of average FFELP Loans in the quarters ended September 30, 2017 and 2016, respectively, and 42 basis points and 43 basis points of average FFELP Loans in the nine months ended September 30, 2017 and 2016, respectively. The decrease in operating expenses from the year-ago periods was primarily the result of the decrease in the balance of the portfolio.
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The following table includes “Core Earnings” results for our Private Education Loans segment.
“Core Earnings for the segment were $60 million in third-quarter 2017, unchanged from the year-ago quarter. “Core Earnings” key performance metrics are as follows:
Private Education Loan spread
Total delinquency rate(2)
Greater than 90-day delinquency rate(2)
Forbearance rate(2)
Loans in repayment with more than 12 payments made
Cosigner rate
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Private Education Loan Net Interest Margin
The following table shows the “Core Earnings” basis Private Education Loan net interest margin along with reconciliation to the GAAP basis Private Education Loan net interest margin before provision for loan losses.
“Core Earnings” basis Private Education Loan yield
“Core Earnings” basis Private Education Loan cost of funds
“Core Earnings” basis Private Education Loan spread
“Core Earnings” basis Private Education Loan net interest margin(1)
GAAP basis Private Education Loan net interest margin(1)
Total Private Education Loan “Core Earnings” basis interest-earning assets
In the third quarter of 2017, there was a $6 million increase in net interest income due to a cumulative adjustment related to an increase in prepayment speed assumptions used to amortize loan discounts. This cumulative adjustment increased the Private Education Loan net interest margin by 9 basis points in the third quarter of 2017. Excluding the impact of this cumulative adjustment, the Private Education Loan net interest margin would have been 3.48 percent on a “Core Earnings” basis and 3.55 percent on a GAAP basis in the third quarter of 2017. The CPR assumption was increased from 5 percent to 6 percent primarily as a result of increased voluntary payoffs primarily due to an improving economy as well as increased third-party consolidation activity.
The Company acquired $125 million of Private Education Loans in third-quarter 2017. As of September 30, 2017, our Private Education Loan portfolio totaled $23.4 billion. The weighted-average life of this portfolio as of September 30, 2017 was 6.3 years assuming a CPR of 6 percent.
Private Education Loan Provision for Loan Losses
In establishing the allowance for Private Education Loan losses as of September 30, 2017, we considered several factors with respect to our Private Education Loan portfolio. See “Note 1 — Significant Accounting Policies — Education Loan Interest Income and Allowance for Loan Losses” for a discussion of our allowance for loan losses accounting policy related to the $3.0 billion of Private Education Loans purchased in June 2017. As of September 30, 2017, there was no allowance for loan losses recorded related to this portfolio and there has been no provision for loan losses recorded in 2017. Excluding the $3.0 billion of Private Education Loans purchased in June 2017, there was a 12 percent decrease in Private Education Loans outstanding, total loan
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delinquencies of $1.2 billion were down $379 million from $1.5 billion in the year-ago quarter and loan delinquencies of 90 days or more decreased to $534 million, down $191 million from $725 million in the year-ago quarter. Charge-offs decreased to $95 million, down $17 million from $112 million in the year-ago quarter. Loans in forbearance increased to $1.2 billion, up $275 million from $941 million in the year-ago quarter primarily due to disaster relief forbearance granted in the quarter.
The provision for Private Education Loan losses was $95 million in the third quarter of 2017, relatively unchanged compared to $92 million in the year-ago quarter.
Operating Expenses — Private Education Loans Segment
Operating expenses for our Private Education Loans segment include costs incurred to service and collect on our Private Education Loan portfolio. Operating expenses were $39 million and $40 million for the quarters ended September 30, 2017 and 2016, respectively, and $117 million and $124 million for the nine months ended September 30, 2017 and 2016, respectively.
The following table includes “Core Earnings” results for our Business Services segment.
Servicing revenue:
Intercompany loan servicing
Third-party loan servicing
Guarantor servicing
Total servicing revenue
Other Business Services revenue
Income from continuing operations, before income tax expense
“Core Earnings” were $105 million in third-quarter 2017, compared with $81 million in the year-ago quarter. This increase was primarily due to the recognition of $47 million of previously deferred asset recovery revenue due to the termination of the related contract. Key segment metrics are as follows:
Number of accounts serviced for ED (in millions)
Total federal loans serviced
Contingent collections receivables inventory:
Total contingent collections receivables inventory
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Revenues related to services performed on FFELP Loans accounted for 68 percent and 66 percent, respectively, of total Business Services segment revenues for the quarters ended September 30, 2017 and 2016, and 66 percent and 65 percent, respectively, of total Business Services segment revenues for the nine months ended September 30, 2017 and 2016.
Servicing Revenue
Our Business Services segment includes intercompany loan servicing fees from servicing the FFELP Loans in our FFELP Loans segment. The average balance of this portfolio was $84 billion and $91 billion for the quarters ended September 30, 2017 and 2016, respectively, and $85 billion and $93 billion for the nine months ended September 30, 2017 and 2016, respectively. The decline in the intercompany loan servicing revenue from the year-ago periods was due to the decline in the average balance of FFELP Loans serviced.
The Company services education loans for approximately 12 million DSLP Loan, FFELP Loan and Private Education Loan customers (including cosigners), including 6.1 million customer accounts under the ED Servicing Contract as of September 30, 2017, compared with 6.2 million customer accounts serviced at September 30, 2016. Third-party loan servicing fees in the quarters ended September 30, 2017 and 2016 included $37 million and $38 million, respectively, of servicing revenue related to the ED Servicing Contract. On June 13, 2014, ED extended its servicing contract with us to service Direct Student Loan Program federal loans for five more years.
On April 4, 2016, ED published the first part of a two-part RFP related to a new servicing platform for the Direct Student Loan Program. However, in the third quarter of 2017, ED cancelled this solicitation. As of the date of this report, ED has not published any update to its plans for a new RFP.
Our asset recovery and business processing revenue consists of fees we receive for asset recovery of delinquent and defaulted debt on behalf of third-party clients performed on a contingent basis. Business processing revenue consists of fees we earn processing transactions on behalf of our municipal, public authority and hospital clients. Asset recovery and business processing revenue increased $60 million primarily due to the recognition of $47 million of previously deferred asset recovery revenue, net of a reserve, related to loans for which the Company performs default aversion services. In connection with providing these services, a fee is received when a loan is initially placed with us and we provide the services for the remaining life of the loan for no additional fee. As a result, in accordance with GAAP, the fee was deferred net of estimated rebates, and recognized as revenue as it was earned over the expected lives of the related loans. In the third quarter of 2017, the Company was notified that it would no longer perform these services after 2017 due to the termination of the related contract as of December 31, 2017. In accordance with GAAP, we recognized this previously deferred revenue during the three-month period ended September 30, 2017 to reflect a shortened period over which it is expected to be earned. The remaining increase in revenue is primarily related to Duncan Solutions, a transportation revenue management company serving municipalities and toll authorities, acquired by the Company in July 2017.
In December 2016, Great Lakes Higher Education Assistance Corp. (“Great Lakes”) assumed control of United Student Aid Funds, Inc. (“USAF”). As part of this transfer, Great Lakes terminated our contracts with USAF and Northwest Education Loan Association (“NELA”), effective as of December 31, 2017. At the same time, they notified us their intent to rebid the services we provided for USAF, NELA and Great Lakes. In the third quarter of 2017, we agreed to a new contract with Great Lakes to provide asset recovery and portfolio management services to Great Lakes on the combined, Great Lakes, USAF and NELA portfolios. Also, in the third quarter of 2017, we learned that we would not continue to provide guarantor services to these entities which resulted in the recognition of $47 million of previously deferred revenue discussed above.
Since 1997, Navient has provided asset recovery services on defaulted education loans to ED. This contract expired by its terms on February 21, 2015 and our Pioneer Credit Recovery (“Pioneer”) subsidiary received no new account placements under the contract. In March 2015, Pioneer filed a bid protest with the U.S. Government
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Accountability Office (“GAO”) which protest was dismissed in March 2015 from the GAO based upon overlapping jurisdiction. Following the bid protest dismissal, Pioneer filed its own complaint with the U.S. Court of Federal Claims (“COFC”), which complaint was consolidated with several similar cases filed by other private collection agencies. On April 16, 2015, Pioneer’s complaint, together with the other plaintiffs’ consolidated complaints, was dismissed for lack of jurisdiction. We appealed this decision to the United States Court of Appeals for the Federal Circuit and, in July 2016, the Court of Appeals reversed the ruling of the COFC and remanded the case for further proceedings. As a result of these proceedings, ED undertook voluntary corrective action, reassessed Pioneer’s eligibility to receive a term extension and awarded the company a new contract in May 2017. The COFC has issued a preliminary injunction in the matter and the related protest of the new contract for similar services discussed below. This preliminary injunction prevents ED from assigning contracts to Pioneer under its new contract and the other interested parties. Several interested parties have appealed the injunction to the U.S. Court of Appeals for the Federal Circuit. This matter remains open.
Separately, we had submitted a response to ED’s RFP in relation to a new contract for similar services. On December 9, 2016, Navient was informed by ED that neither of our subsidiaries, Pioneer nor General Revenue Corporation (“GRC”), was awarded a contract to perform collections and loan rehabilitation services for federal student loan borrowers. In December 2016, both Pioneer and GRC filed bid protests with the GAO. GRC’s bid protest was dismissed in part in January 2017 and GRC filed a supplemental protest. GRC’s protest was sustained on March 27, 2017. Pioneer’s bid protest with the GAO was dismissed from the GAO on March 30, 2017 based upon overlapping jurisdiction. Pioneer filed a substantially similar complaint with the COFC on April 11, 2017. Pioneer and GRC are subject to the same injunction discussed above. These matters are still outstanding.
Operating Expenses — Business Services Segment
Operating expenses for our Business Services segment primarily include costs incurred to service our FFELP Loan portfolio, third-party servicing and asset recovery and business processing costs, and other operating costs. The $11 million increase in operating expenses in the third quarter of 2017 compared with the year-ago quarter was primarily due to operating costs related to Duncan Solutions, which was acquired in July 2017.
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The following table includes “Core Earnings” results of our Other segment.
Net interest loss after provision for loan losses
Other income
Overhead expenses:
Corporate overhead
Unallocated information technology costs
Total overhead expenses
Loss before income tax benefit
Income tax benefit
“Core Earnings” (loss)
Net Interest Loss after Provision for Loan Losses
Net interest loss after provision for loan losses is primarily due to the net interest loss related to our corporate liquidity portfolio.
Overhead — Other Segment
Unallocated corporate overhead is comprised of costs related to executive management, the board of directors, accounting, finance, legal, human resources and stock-based compensation expense. Unallocated information technology costs are related to infrastructure and operations.
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Financial Condition
This section provides additional information regarding the changes in our loan portfolio assets and related liabilities as well as credit quality and performance indicators related to our loan portfolio.
Average Balance Sheets — GAAP
The following table reflects the rates earned on interest-earning assets and paid on interest-bearing liabilities and reflects our net interest margin on a consolidated basis.
Average Assets
Total interest-earning assets
Non-interest-earning assets
Average Liabilities and Equity
Non-interest-bearing liabilities
Net interest margin
Rate/Volume Analysis — GAAP
The following rate/volume analysis shows the relative contribution of changes in interest rates and asset volumes.
Three Months Ended September 30, 2017 vs. 2016
Interest income
Nine Months Ended September 30, 2017 vs. 2016
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Summary of our Education Loan Portfolio
Ending Education Loan Balances, net — GAAP and “Core Earnings” Basis
Total education loan portfolio:
In-school(1)
Grace, repayment and other(2)
Total, gross
Unamortized premium/(discount)
Receivable for partially charged-off loans
Allowance for loan losses
Total education loan portfolio
% of total FFELP
% of total
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Average Education Loan Balances (net of unamortized premium/discount) — GAAP and “Core Earnings” Basis
% of FFELP
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Education Loan Activity — GAAP and “Core Earnings” Basis
Acquisitions
Capitalized interest and premium/discount amortization
Consolidations to third parties
Repayments and other
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Education Loan Allowance for Loan Losses Activity — GAAP and “Core Earnings” Basis
Less:
Loan sales
Plus:
Percent of total
Troubled debt restructuring(3)
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FFELP Loan Portfolio Performance
FFELP Loan Delinquencies and Forbearance — GAAP and “Core Earnings” Basis
Allowance for FFELP Loan Losses — GAAP and “Core Earnings” Basis
Allowance at beginning of period
Provision for FFELP Loan losses
Allowance at end of period
Allowance as a percentage of ending total loans, gross
Allowance as a percentage of ending loans in repayment
Ending total loans, gross
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Private Education Loan Portfolio Performance
Private Education Loan Delinquencies and Forbearance — GAAP and “Core Earnings” Basis
Total Private Education Loans in repayment
Total Private Education Loans, gross
Private Education Loan unamortized discount
Total Private Education Loans
Private Education Loan receivable for partiallycharged-off loans
Private Education Loan allowance for losses
Percentage of Private Education Loans in repayment
Delinquencies as a percentage of Private Education Loans in repayment
Percentage of Private Education Loans with a cosigner
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Allowance for Private Education Loan Losses — GAAP and “Core Earnings” Basis
Provision for Private Education Loan losses
Allowance coverage of net charge-offs (annualized)
Allowance as a percentage of ending total loans(3)
Allowance as a percentage of ending loans in repayment(3)
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Use of Forbearance as a Private Education Loan Collection Tool
Forbearance involves granting the customer a temporary cessation of payments (or temporary acceptance of smaller than scheduled payments) for a specified period of time. Using forbearance extends the original term of the loan. Forbearance does not grant any reduction in the total repayment obligation (principal or interest). While in forbearance status, interest continues to accrue and is capitalized to principal when the loan re-enters repayment status. Our forbearance policies include limits on the number of forbearance months granted consecutively and the total number of forbearance months granted over the life of the loan. In some instances, we require good-faith payments before granting forbearance. Exceptions to forbearance policies are permitted when such exceptions are judged to increase the likelihood of recovery of the loan. Forbearance as a recovery tool is used most effectively when applied based on a customer’s unique situation, including historical information and judgments. We leverage updated customer information and other decision support tools to best determine who will be granted forbearance based on our expectations as to a customer’s ability and willingness to repay their obligation. This strategy is aimed at mitigating the overall risk of the portfolio as well as encouraging cash resolution of delinquent loans.
Forbearance may be granted to customers who are exiting their grace period to provide additional time to obtain employment and income to support their obligations, or to current customers who are faced with a hardship and request forbearance time to provide temporary payment relief. In these circumstances, a customer’s loan is placed into a forbearance status in limited monthly increments and is reflected in the forbearance status at month-end during this time. At the end of their granted forbearance period, the customer will enter repayment status as current and is expected to begin making their scheduled monthly payments on a go-forward basis.
Forbearance may also be granted to customers who are delinquent in their payments. In these circumstances, the forbearance cures the delinquency and the customer is returned to a current repayment status. In more limited instances, delinquent customers will also be granted additional forbearance time.
The tables below show the composition and status of the Private Education Loan portfolio aged by the number of months for which a scheduled monthly payment was received. As indicated in the tables, the percentage of loans that are in forbearance status, are delinquent greater than 90 days or that are charged off decreases the longer the loans have been making scheduled monthly payments.
At September 30, 2017, loans in forbearance status as a percentage of loans in repayment and forbearance were 16.3 percent for loans that have made less than 25 monthly payments. The percentage drops to 3.4 percent for loans that have made more than 48 monthly payments.
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At September 30, 2017, loans in repayment that are delinquent greater than 90 days as a percentage of loans in repayment were 7.5 percent for loans that have made less than 25 monthly payments. The percentage drops to 1.6 percent for loans that have made more than 48 monthly payments.
For the three months ended September 30, 2017, charge-offs as a percentage of loans in repayment were 6.0 percent for loans that have made less than 25 monthly payments. The percentage drops to 0.8 percent for loans that have made more than 48 monthly payments.
GAAP and “Core Earnings” Basis:
Loans in-school/grace/deferment
Loans in forbearance
Loans in repayment — current
Loans in repayment — delinquent 31-60days
Loans in repayment — delinquent 61-90days
Loans in repayment — delinquent greater than 90 days
Unamortized discount
Total Private Education Loans, net
Loans in repayment — delinquent greater than 90 days as a percentage of loans in repayment
Charge-offs as a percentage of loans in repayment
September 30, 2016
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Private Education Loan Repayment Options
Certain loan programs allow customers to select from a variety of repayment options depending on their loan type and their enrollment/loan status, which include the ability to extend their repayment term or change their monthly payment. The chart below provides the optional repayment offerings in addition to the standard level principal and interest payments as of September 30, 2017.
$ in repayment
$ in total
Payment method by enrollment status:
In-school/grace
interest-
only or fixed
$25/month
Repayment
interest or graduated
interest
The graduated repayment program that is part of Signature and Other Loans includes an interest-only payment feature that may be selected at the option of the customer. Customers elect to participate in this program at the time they enter repayment following their grace period. This program is available to customers in repayment, after their grace period, who would like a temporary lower payment from the required principal and interest payment amount. Customers participating in this program pay monthly interest with no amortization of their principal balance for up to 48 payments after entering repayment (dependent on the loan product type). The maturity date of the loan is not extended when a customer participates in this program. As of September 30, 2017 and 2016, customers in repayment owing approximately $0.5 billion (2 percent of loans in repayment) and $1.0 billion (4 percent of loans in repayment), respectively, were enrolled in the interest-only program.
Liquidity and Capital Resources
Funding and Liquidity Risk Management
The following “Liquidity and Capital Resources” discussion concentrates on our FFELP Loans and Private Education Loans segments. Our Business Services and Other segments require minimal capital and funding.
We define liquidity as cash and high-quality liquid assets that we can use to meet our cash requirements. Our two primary liquidity needs are: (1) servicing our debt and (2) our ongoing ability to meet our cash needs for running the operations of our businesses (including derivative collateral requirements) throughout market cycles, including during periods of financial stress. Secondary liquidity needs, which can be adjusted as needed, include acquisitions of Private Education Loan and FFELP Loan portfolios, acquisitions of companies, the payment of common stock dividends and the repurchase of common stock under common share repurchase programs. To achieve these objectives, we analyze and monitor our liquidity needs, maintain excess liquidity and access diverse funding sources including the issuance of unsecured debt and the issuance of secured debt primarily through asset-backed securitizations and/or other financing facilities.
We define our liquidity risk as the potential inability to meet our obligations when they become due without incurring unacceptable losses or to invest in future asset growth and business operations at reasonable market rates. Our primary liquidity risk relates to our ability to service our debt, meet our other business obligations and to continue to grow our business. The ability to access the capital markets is impacted by general market and
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economic conditions, our credit ratings, as well as the overall availability of funding sources in the marketplace. In addition, credit ratings may be important to customers or counterparties when we compete in certain markets and when we seek to engage in certain transactions, including over-the-counter derivatives.
Credit ratings and outlooks are opinions subject to ongoing review by the ratings agencies and may change, from time to time, based on our financial performance, industry and market dynamics and other factors. Other factors that influence our credit ratings include the ratings agencies’ assessment of the general operating environment, our relative positions in the markets in which we compete, reputation, liquidity position, the level and volatility of earnings, corporate governance and risk management policies, capital position and capital management practices. A negative change in our credit rating could have a negative effect on our liquidity because it might raise the cost and availability of funding and potentially require additional cash collateral or restrict cash currently held as collateral on existing borrowings or derivative collateral arrangements. It is our objective to improve our credit ratings so that we can continue to efficiently access the capital markets even in difficult economic and market conditions. We have unsecured debt that totaled $13.8 billion at September 30, 2017. Three credit rating agencies currently rate our long-term unsecured debt at below investment grade.
We expect to fund our ongoing liquidity needs, including the repayment of $1.4 billion of senior unsecured notes that mature in the next twelve months, primarily through our current cash, investments and unencumbered FFELP Loan portfolio, the predictable operating cash flows provided by operating activities ($914 million in the nine months ended September 30, 2017), the repayment of principal on unencumbered education loan assets, and the distribution of overcollateralization from our securitization trusts. We may also, depending on market conditions and availability, draw down on our secured FFELP Loan and Private Education Loan facilities, issue term ABS, enter into additional secured loan facilities or additional Private Education Loan ABS repurchase facilities, or issue additional unsecured debt.
With the planned acquisition of Earnest anticipated to close in the fourth quarter 2017, we will be originating refinanced Private Education Loans. We also have purchased and may purchase, in future periods, Private Education Loan and FFELP Loan portfolios from third parties. Those originations and purchases will be part of our ongoing liquidity needs. Effective October 4, 2017, Navient suspended its remaining share repurchase program through year-end 2018 to allocate capital towards growing the education lending business and building book value.
Sources of Liquidity and Available Capacity
Ending Balances
Sources of primary liquidity:
Total unrestricted cash and liquid investments
Unencumbered FFELP Loans
Total GAAP and “Core Earnings” basis
Average Balances
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Liquidity may also be available under secured credit facilities to the extent we have eligible collateral and capacity available. Maximum borrowing capacity under the FFELP Loan-other facilities will vary and be subject to each agreement’s borrowing conditions, including, among others, facility size, current usage and availability of qualifying collateral from unencumbered FFELP Loans. As of September 30, 2017 and 2016, the maximum additional capacity under these facilities was $3.0 billion and $3.6 billion, respectively. For the three months ended September 30, 2017 and 2016, the average maximum additional capacity under these facilities was $2.6 billion and $3.4 billion, respectively. For the nine months ended September 30, 2017 and 2016, the average maximum additional capacity under these facilities was $2.7 billion and $2.3 billion, respectively.
In addition to the FFELP Loan-other facilities, liquidity may also be available from our Private Education Loan asset-backed commercial paper (“ABCP”) facilities. This maximum financing amount is $2.75 billion. At September 30, 2017, the available capacity under these facilities was $181 million. Borrowing under these facilities will vary and is subject to the availability of qualifying collateral from unencumbered Private Education Loans and the other terms and conditions set forth in the agreements.
At September 30, 2017, we had a total of $6.4 billion of unencumbered tangible assets inclusive of those listed in the table above as sources of primary liquidity. Total unencumbered education loans comprised $3.0 billion of our unencumbered tangible assets of which $2.4 billion and $0.6 billion related to Private Education Loans and FFELP Loans, respectively. In addition, as of September 30, 2017, we had $10.6 billion of encumbered net assets (i.e., overcollateralization) in our various financing facilities (consolidated variable interest entities). In fourth-quarter 2015, we closed on a $550 million Private Education Loan ABS Repurchase Facility and in the second-quarter 2016, we closed on a second $478 million Private Education Loan ABS Repurchase Facility. In second-quarter 2017, we closed on two additional Private Education Loan ABS Repurchase Facilities totaling $1.2 billion, and in third-quarter 2017, we closed on two Private Education Loan ABS Repurchase Facilities totaling $343 million. These repurchase facilities are collateralized by Residual Interests in previously issued Private Education Loan ABS trusts. These are examples of how we can effectively finance previously encumbered assets to generate additional liquidity in addition to the unencumbered assets we traditionally have encumbered in the past. Additionally, these repurchase facilities had a cost of funds lower than that of a new unsecured debt issuance.
For further discussion of our various sources of liquidity, our access to the ABS market, our asset-backed financing facilities, and our issuance of unsecured debt, see “Note 6 — Borrowings” in our Annual Report on Form 10-K for the year ended December 31, 2016.
The following table reconciles encumbered and unencumbered assets and their net impact on GAAP total tangible equity.
Net assets of consolidated variable interest entities (encumbered assets) — FFELP Loans
Net assets of consolidated variable interest entities (encumbered assets) — Private Education Loans
Tangible unencumbered assets(1)
Mark-to-market on unsecured hedged debt(2)
Other liabilities, net
Total tangible equity — GAAP Basis
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Financing Transactions during the Nine Months Ended September 30, 2017
During the nine months ended September 30, 2017, Navient issued $5.0 billion in FFELP ABS and $1.4 billion in unsecured debt.
In the first-quarter 2017, Navient extended the maturity date of its FFELP ABCP facility. The facility’s maturity date was extended to April 2019 from March 2018 and its maximum financing amount was decreased as scheduled to $6.75 billion from $7.5 billion, with a step down to $6.0 billion in April 2018. In the second-quarter 2017, in connection with the acquisition of $3.5 billion of FFELP Loans, we increased the maximum financing amount of our FFELP ABCP facility from $6.75 billion to $7.75 billion. This facility provides liquidity for FFELP loans.
In the second-quarter 2017, Navient extended the maturity date of its Private Education Loan facility from June 2017 to June 2018 and, in connection with the acquisition of $3.0 billion Private Education Loans, closed on a new $2.0 billion Private Education Loan facility that matures in June 2020.
In the second-quarter 2017, Navient closed on two Private Education Loan repurchase facilities totaling $1.2 billion, and in the third-quarter 2017, Navient closed on two additional Private Education Loan repurchase facilities totaling $343 million.
Shareholder Distributions
In the nine months ended September 30, 2017, we paid three quarterly common stock dividends of $0.16 per share.
We repurchased 29.6 million shares of common stock for $440 million in the nine months ended September 30, 2017. The shares were repurchased under our previously disclosed $600 million share repurchase program. Effective October 4, 2017, Navient suspended its remaining share repurchase program through year-end 2018 to allocate capital towards growing the education lending business and building book value. Since the Spin-Off, we repurchased 167 million shares.
Recent Fourth-Quarter 2017 Financing Transactions
In October 2017, we issued $662 million in Private Education Loan ABS.
Counterparty Exposure
Counterparty exposure related to financial instruments arises from the risk that a lending, investment or derivative counterparty will not be able to meet its obligations to us. Risks associated with our lending portfolio are discussed in the section titled “Financial Condition — FFELP Loan Portfolio Performance” and “— Private Education Loan Portfolio Performance.”
Our investment portfolio is composed of very short-term securities issued by a diversified group of highly rated issuers, limiting our counterparty exposure. Additionally, our investing activity is governed by board of director approved limits on the amount that is allowed to be invested with any one issuer based on the credit rating of the issuer, further minimizing our counterparty exposure. Counterparty credit risk is considered when valuing investments and considering impairment.
Related to derivative transactions, protection against counterparty risk is generally provided by Master Agreements, Schedules, and Credit Support Annexes (“CSAs”) developed by the International Swaps and Derivatives Association, Inc. (“ISDA documentation”). In particular, Navient’s CSAs require a counterparty to post collateral if a potential default would expose the other party to a loss. All corporate derivative contracts entered into by Navient are covered under such agreements and require collateral to be exchanged based on the
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net fair value of derivatives with each counterparty. Corporate derivative contracts traded through a clearing organization also require daily movement of collateral to be exchanged based on the net fair value of the contracts. Our securitization trusts with swaps have ISDA documentation with protections against counterparty risk. The collateral calculations contemplated in the ISDA documentation of our securitization trusts require collateral based on the fair value of the derivative which may be adjusted for additional collateral based on rating agency criteria requirements considered within the collateral agreement. The trusts are not required to post collateral to the counterparties. In all cases, our exposure is limited to the value of the derivative contracts in a gain position net of any collateral we are holding. We consider counterparties’ credit risk when determining the fair value of derivative positions on our exposure net of collateral.
We have liquidity exposure related to collateral movements between us and our derivative counterparties. Movements in the value of the derivatives, which are primarily affected by changes in interest rate and foreign exchange rates, may require us to return cash collateral held or may require us to access primary liquidity to post collateral to counterparties. See “Note 7 — Derivative Financial Instruments” in our 2016 Form 10-K for more information on the amount of cash that has been received and delivered to derivative counterparties.
The table below highlights exposure related to our derivative counterparties at September 30, 2017.
Exposure, net of collateral
Percent of exposure to counterparties with credit ratings below S&P AA- or Moody’s Aa3
Percent of exposure to counterparties with credit ratings below S&P A- or Moody’s A3
“Core Earnings” Basis Borrowings
The following tables present the ending balances of our “Core Earnings” basis borrowings as of September 30, 2017 and December 31, 2016, and average balances and average interest rates of our “Core Earnings” basis borrowings for the three and nine months ended September 30, 2017 and 2016. The average interest rates include derivatives that are economically hedging the underlying debt but do not qualify for hedge accounting treatment. (See “‘Core Earnings’ — Definition and Limitations — Differences between ‘Core Earnings’ and GAAP — Reclassification of Realized Gains (Losses) on Derivative and Hedging Activities” of this Item 2).
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“Core Earnings” basis borrowings
Adjustment for GAAP accounting treatment
GAAP basis borrowings
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Secured borrowings comprised 88 percent of our “Core Earnings” basis debt outstanding at September 30, 2017 and December 31, 2016.
Private Education Loan —other facilities
Critical Accounting Policies and Estimates
Management’s Discussion and Analysis of Financial Condition and Results of Operations addresses our consolidated financial statements, which have been prepared in accordance with GAAP. A discussion of our critical accounting policies, which include allowance for loan losses, premium and discount amortization related to our loan portfolio, fair value measurement, transfers of financial assets and the VIE consolidation model, and derivative accounting can be found in our 2016 Form 10-K. There were no significant changes to these critical accounting policies during the first nine months of 2017.
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Interest Rate Sensitivity Analysis
Our interest rate risk management seeks to limit the impact of short-term movements in interest rates on our results of operations and financial position. The following tables summarize the potential effect on earnings over the next 12 months and the potential effect on fair values of balance sheet assets and liabilities at September 30, 2017 and December 31, 2016, based upon a sensitivity analysis performed by management assuming a hypothetical increase in market interest rates of 100 basis points and 300 basis points while funding spreads remain constant. Additionally, as it relates to the effect on earnings before unrealized gains (losses) on derivative and hedging activities, a sensitivity analysis was performed assuming the funding index increases 10 basis points while holding the asset index constant, if the funding index and repricing frequency are different than the asset index. These earnings sensitivities are applied only to financial assets and liabilities, including hedging instruments that existed at the balance sheet date and does not take into account new assets, liabilities or hedging instruments that may arise over the next 12 months.
(Dollars in millions, except per share amounts)
Effect on Earnings:
Change in pre-tax net income before unrealized gains (losses) on derivative and hedging activities
Unrealized gains (losses) on derivative and hedging activities
Increase (decrease) in income before taxes
Increase (decrease) in net income after taxes
Increase (decrease) in diluted earnings per common share
Effect on Fair Values:
Other earning assets
Total assets gain/(loss)
Total liabilities (gain)/loss
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A primary objective in our funding is to minimize our sensitivity to changing interest rates by generally funding our floating rate education loan portfolio with floating rate debt. However, due to the ability of some FFELP loans to earn Floor Income, we can have a fixed versus floating mismatch in funding if the education loan earns at the fixed borrower rate and the funding remains floating. In addition, we can have a mismatch in the index (including the frequency of reset) of floating rate debt versus floating rate assets.
During the three and nine months ended September 30, 2017 and 2016, certain FFELP Loans were earning Floor Income and we locked in a portion of that Floor Income through the use of derivative contracts. The result of these hedging transactions was to fix the relative spread between the education loan asset rate and the variable rate liability.
In the preceding tables, under the scenario where interest rates increase 100 and 300 basis points, the change in pre-tax net income before the unrealized gains (losses) on derivative and hedging activities is primarily due to the impact of (i) our unhedged loans being in a fixed-rate mode due to Floor Income, while being funded with variable rate debt in low interest rate environments; and (ii) a portion of our fixed rate assets being funded with variable rate liabilities. Both items will generally cause income to decrease when interest rates increase. In both 2017 and 2016, the loss of income is due to both items (i) and (ii) above. The decrease in the loss in 2017 as compared to 2016 was due to both the natural amortization of the FFELP loan portfolio as well as higher interest rates in third-quarter 2017 compared to third-quarter 2016, which resulted in a loss of unhedged Floor Income between the third quarter of 2016 and the third quarter of 2017. Item (ii) had a minor impact in both periods as the Company generally enters into derivative contracts as a part of its overall interest rate risk management strategy, match-funding its floating rate assets with variable rate debt and fixed rate assets with fixed rate debt.
In the preceding tables, under the scenario where interest rates increase 100 and 300 basis points, the change in unrealized gains (losses) on derivative and hedging activities in 2017 and 2016 are primarily due to (1) the notional amount and remaining term of our derivative portfolio and related hedged debt and (2) the interest rate environment. As of September 30, 2017, the Company’s derivative portfolio has declined in size and has a shorter remaining term than the prior year period due to the natural amortization of the education loan portfolios over the year. Both factors contribute to the Company losing less income in an increasing interest rate environment in the current period as compared to the prior-year period.
Under the scenario in the tables above labeled “Impact on Annual Earnings If: Funding Indices Increase 10 Basis Points,” the main driver of the decrease in pre-tax income before unrealized gains (losses) on derivative
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and hedging activities in both the September 30, 2017 and 2016 analyses is primarily the result of one-month LIBOR-indexed FFELP Loans being funded with three-month LIBOR and other non-discrete indexed liabilities, as well as, to a lesser extent, Prime-indexed Private Education Loans being funded with LIBOR and othernon-discrete indexed liabilities. See “Asset and Liability Funding Gap” of this Item 3 for a further discussion.
In addition to interest rate risk addressed in the preceding tables, we are also exposed to risks related to foreign currency exchange rates. Foreign currency exchange risk is primarily the result of foreign currency denominated debt issued by us. When we issue foreign denominated corporate unsecured and securitization debt, our policy is to use cross currency interest rate swaps to swap all foreign currency denominated debt payments (fixed and floating) to U.S. dollar LIBOR using a fixed exchange rate. In the tables above, there would be an immaterial impact on earnings if exchange rates were to decrease or increase, due to the terms of the hedging instrument and hedged items matching. The balance sheet interest bearing liabilities would be affected by a change in exchange rates; however, the change would be materially offset by the cross-currency interest rate swaps in other assets or other liabilities. In the current economic environment, volatility in the spread between spot and forward foreign exchange rates has resulted in materialmark-to-market impacts to current-period earnings which have not been factored into the above analysis. The earnings impact is noncash, and at maturity of the instruments the cumulative mark-to-market impact will be zero.
Asset and Liability Funding Gap
The tables below present our assets and liabilities (funding) arranged by underlying indices as of September 30, 2017. In the following GAAP presentation, the funding gap only includes derivatives that qualify as effective hedges (those derivatives which are reflected in net interest margin, as opposed to those reflected in the “gains (losses) on derivatives and hedging activities, net” line on the consolidated statements of income). The difference between the asset and the funding is the funding gap for the specified index. This represents our exposure to interest rate risk in the form of basis risk and repricing risk, which is the risk that the different indices may reset at different frequencies or may not move in the same direction or at the same magnitude.
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Management analyzes interest rate risk and in doing so includes all derivatives that are economically hedging our debt whether they qualify as effective hedges or not (“Core Earnings” basis). Accordingly, we are also presenting the asset and liability funding gap on a “Core Earnings” basis in the table that follows the GAAP presentation.
GAAP Basis:
Index
3-month Treasury bill
Prime
PLUS Index
3-month LIBOR
1-month LIBOR
1-month LIBOR daily
CMT/CPI Index
Non-Discrete reset(3)
Non-Discrete reset(4)
Fixed Rate(5)
The “Funding Gaps” in the above table are primarily interest rate mismatches in short-term indices between our assets and liabilities. We address this issue typically through the use of basis swaps that typically convert quarterly reset three-month LIBOR to other indices that are more correlated to our asset indices. These basis swaps do not qualify as effective hedges and, as a result, the effect on the funding index is not included in our interest margin and is therefore excluded from the GAAP presentation.
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“Core Earnings” Basis:
We use interest rate swaps and other derivatives to achieve our risk management objectives. Our asset liability management strategy is to match assets with debt (in combination with derivatives) that have the same underlying index and reset frequency or, when economical, have interest rate characteristics that we believe are highly correlated. The use of funding with index types and reset frequencies that are different from our assets exposes us to interest rate risk in the form of basis and repricing risk. This could result in our cost of funds not moving in the same direction or with the same magnitude as the yield on our assets. While we believe this risk is low, as all of these indices are short-term with rate movements that are highly correlated over a long period of time, market disruptions (which have occurred in prior years) can lead to a temporary divergence between indices resulting in a negative impact to our earnings.
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Weighted Average Life
The following table reflects the weighted average life of our earning assets and liabilities at September 30, 2017.
(Averages in Years)
Borrowings
Total borrowings
Disclosure Controls and Procedures
Our management, with the participation of our principal executive and principal financial officers, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of September 30, 2017. Based on this evaluation, our chief principal executive and principal financial officers concluded that, as of September 30, 2017, our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is (a) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (b) accumulated and communicated to our management, including our chief principal executive and principal financial officers as appropriate, to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter ended September 30, 2017 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
We and our subsidiaries and affiliates are subject to various claims, lawsuits and other actions that arise in the normal course of business. We believe that these claims, lawsuits and other actions will not, individually or in the aggregate, have a material adverse effect on our business, financial condition or results of operations, except as otherwise disclosed. Most of these matters are claims including individual and class action lawsuits against our servicing and collection subsidiaries by borrowers and debtors alleging the violation of state or federal laws in connection with servicing or collection activities on their education loans and other debts.
In the ordinary course of our business, the Company, our subsidiaries and affiliates receive information and document requests and investigative demands from state attorneys general, U.S. Attorneys, legislative committees and administrative agencies. These requests may be informational or regulatory in nature and may relate to our business practices, the industries in which we operate, or other companies with whom we conduct business. Our practice has been and continues to be to cooperate with these bodies and to be responsive to any such requests.
The number of these inquiries and the volume of related information demands are increasing the costs and resources we must dedicate to timely respond to these requests and may, depending on their outcome, result in payments of restitution, fines and penalties.
Certain Cases
On March 18, 2011, an education loan borrower filed a putative class action complaint against SLM Corporation as it existed prior to the Spin-Off (“Old SLM”) in the U.S. District Court for the Northern District of California. The complaint was captioned Tina M. Ubaldi v. SLM Corporation et. al. The plaintiff brought the complaint on behalf of a putative class consisting of other similarly situated California borrowers. The complaint alleged, among other things, that Old SLM’s practice of charging late fees that were proportional to the amount of missed payments constituted liquidated damages in violation of California law and that Old SLM engaged in unfair business practices by charging daily interest on private educational loans. Plaintiffs subsequently amended their complaint to include usury claims under California state law and to seek restitution of late charges and interest paid by members of the putative class and other relief. In the fourth quarter of 2016, the parties reached a settlement in principle that would resolve the Ubaldi matter, as well as the related lawsuit of Marlene Blyden v. Navient Corporation, et al. While we cannot provide any assurances that we will be able to finalize the proposed settlement on terms that are acceptable to the Company or if the Court will ultimately approve the proposed settlement, we do not believe that the financial impact of the final settlement, if any, will be material. The Company agreed to settle these matters to avoid the burden, expense, risk, and uncertainty of continued litigation. A reserve was established for this matter as of December 31, 2016. Plaintiffs filed on September 25, 2017, an Amended Motion for Preliminary Approval of Settlement. This motion awaits action by the Court.
During the first quarter of 2016, Navient Corporation, certain Navient officers and directors, and the underwriters of certain Navient securities offerings were sued in three putative securities class action lawsuits filed on behalf of certain investors in Navient stock or Navient unsecured debt. These three cases, which were filed in the U.S. District Court for the District of Delaware, were consolidated by the District Court, with Lord Abbett Funds appointed as Lead Plaintiff. The caption of the consolidated case is Lord Abbett Affiliated Fund, Inc., et al. v. Navient Corporation, et al. The plaintiffs filed their amended and consolidated complaint in September 2016. The Navient defendants intend to vigorously defend against the allegations in this lawsuit, and filed a Motion to Dismiss the Consolidated Amended Class Action Complaint in November 2016. On September 6, 2017 the Court granted the Navient defendants motion and dismissed the complaint in its entirety with leave to amend until November 5, 2017. Additionally, a putative class action captioned Eli Pope v. Navient Corporation, John F. Remondi, Somsak Chivavibul and Christian Lown, was filed in the U.S. District Court for the District of New Jersey on October 16, 2017 alleging violations of the federal securities laws under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The Company denies the allegations and intends to vigorously defend itself.
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The Company has been named as defendant in a number of putative class action cases alleging violations of various state and federal consumer protection laws. One of these putative class action suits is Randy Johnson v. Navient Solutions, Inc. (“NSI”). On May 4, 2015, Randy Johnson filed a putative class action in the United States District Court for the Southern District of Indiana alleging violations of the Telephone Consumer Protection Act (“TCPA”). During the fourth quarter of 2016, the parties entered into a settlement agreement and, in December 2016, filed a Motion to Approve the Class Action Settlement with the Court. The Court approved the settlement in July 2017. NSI denied all claims asserted, but agreed to settle the case to avoid the burden, expense, risk and uncertainty of continued litigation.
With respect to alleged civil violations of the Servicemembers Civil Relief Act (the “SCRA”), Solutions and Sallie Mae Bank entered into a consent order with the DOJ in May 2014. The DOJ consent order (the “DOJ Order”) covers all loans either owned by Sallie Mae Bank or serviced by Solutions from November 28, 2005 until the effective date of the settlement. In the third quarter of 2016, the Company completed the distributions from the fund by distributing the remaining funds to charities approved by the DOJ pursuant to the terms of the order. The total reserves established by the Company in 2013 and 2014 to cover these costs were $177 million, and as of September 30, 2017, substantially all of this amount had been paid to customers or credited or refunded to customer accounts. The final cost of these proceedings will remain uncertain until the remaining consent order is lifted. The Company believes it has complied with the terms of the DOJ Order.
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In addition, Navient and its subsidiaries are subject to examination or regulation by the SEC, CFPB, FDIC, ED and various state agencies as part of its ordinary course of business. Items or matters similar to or different from those described above may arise during the course of those examinations. We also routinely receive inquiries or requests from various regulatory entities or bodies or government agencies concerning our business or our assets. The Company endeavors to cooperate with each such inquiry or request.
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There have been no material changes from the risk factors previously disclosed in our 2016 Form 10-K.
Share Repurchases
The following table provides information relating to our purchase of shares of our common stock in the three months ended September 30, 2017.
Period:
July 1 — July 31, 2017
August 1 — August 31, 2017
September 1 — September 30, 2017
Total third-quarter 2017
The closing price of our common stock on the NASDAQ Global Select Market on September 30, 2017 was $15.02.
Nothing to report.
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The following exhibits are furnished or filed, as applicable:
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
(Registrant)
/s/ CHRISTIAN M. LOWN
Christian M. Lown
Chief Financial Officer
(Principal Financial Officer)
Date: October 27, 2017
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