Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
(Mark One)
| þ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2012
or
| ¨ | TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file numbers 001-13251
SLM Corporation
(Exact Name of Registrant as Specified in Its Charter)
| Delaware | 52-2013874 | |
| (State of Other Jurisdiction of Incorporation or Organization) |
(I.R.S. Employer Identification No.) | |
| 300 Continental Drive, Newark, Delaware | 19713 | |
| (Address of Principal Executive Offices) | (Zip Code) | |
(302) 283-8000
(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act
Common Stock, par value $.20 per share.
Name of Exchange on which Listed:
The NASDAQ Global Select Market
6.97% Cumulative Redeemable Preferred Stock, Series A, par value $.20 per share
Floating Rate Non-Cumulative Preferred Stock, Series B, par value $.20 per share
Name of Exchange on which Listed:
The NASDAQ Global Select Market
Medium Term Notes, Series A, CPI-Linked Notes due 2017
Medium Term Notes, Series A, CPI-Linked Notes due 2018
6% Senior Notes due December 15, 2043
Name of Exchange on which Listed:
The NASDAQ Global Select Market
Securities registered pursuant to Section 12(g) of the Act:
None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ No ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ¨ No þ
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 þ No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
| Large accelerated filer þ | Accelerated filer ¨ | |||||
| Non-accelerated filer ¨ | Smaller reporting company ¨ | |||||
| (Do not check if a smaller reporting company) | ||||||
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
The aggregate market value of voting stock held by non-affiliates of the registrant as of June 30, 2012 was $7.3 billion (based on closing sale price of $15.71 per share as reported for the NASDAQ Global Select Market).
As of January 31, 2013, there were 453,341,352 shares of common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement relating to the registrant’s Annual Meeting of Shareholders scheduled to be held on May 30, 2013 are incorporated by reference into Part III of this Report.
Table of Contents
SLM CORPORATION
Table of Contents
FORWARD-LOOKING AND CAUTIONARY STATEMENTS
This report contains “forward-looking” statements and information based on management’s current expectations as of the date of this document. 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. 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. These factors include, among others, the risks and uncertainties set forth in Item 1A “Risk Factors” and elsewhere in this Annual Report on Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”); increases in financing costs; limits on liquidity; increases in costs associated with compliance with laws and regulations; changes in accounting standards and the impact of related changes in significant accounting estimates; any adverse outcomes in any significant litigation to which we are a party; credit risk associated with our exposure to third parties, including counterparties to our derivative transactions; and changes in the terms of student loans and the educational credit marketplace (including changes resulting from new laws and the implementation of existing laws). We could also be affected by, among other things: changes in our funding costs and availability; reductions to our credit ratings or the credit ratings of the United States of America; failures of our operating systems or infrastructure, including those of third-party vendors; damage to our reputation; failures to successfully implement cost-cutting and restructuring initiatives and adverse effects of such initiatives on our business; changes in the demand for educational financing or in financing preferences of lenders, educational institutions, students and their families; changes in law and regulations with respect to the student lending business and financial institutions generally; increased competition from banks and other consumer lenders; the creditworthiness of our customers; changes in the general interest rate environment, including the rate relationships among relevant money-market instruments and those of our earning assets versus our funding arrangements; changes in general economic conditions; our ability to successfully effectuate any acquisitions and other strategic initiatives; and changes in the demand for debt management services. 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. All forward-looking statements contained in this report are qualified by these cautionary statements and are made only as of the date of this document. We do not undertake any obligation to update or revise these forward-looking statements to conform the statement to actual results or changes in our expectations.
Definitions for certain capitalized terms used in this document can be found in the “Glossary” at the end of this document.
References in this Annual Report to “we,” “us,” “our” “Sallie Mae” and the “Company,” refer to SLM Corporation and its subsidiaries, except as otherwise indicated or unless the context otherwise requires.
AVAILABLE INFORMATION
Our website address is www.SallieMae.com. Copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, as well as any amendments to those reports, are available free of charge through our website as soon as reasonably practicable after they are electronically filed with or furnished to the SEC. In addition, copies of our Board Governance Guidelines, Code of Business Conduct (which includes the code of ethics applicable to our chief executive officer, principal financial officer and principal accounting officer) and the governing charters for each committee of our board of directors are available free of charge on our website, as well as in print to any shareholder upon request. We intend to disclose any amendments to or waivers from our Code of Business Conduct (to the extent applicable to our Chief Executive Officer or Chief Financial Officer) by posting such information on our website. Information contained or referenced on our website is not incorporated by reference into and does not form a part of this report.
1
Table of Contents
PART I.
| Item 1. | Business |
SLM Corporation, more commonly known as Sallie Mae, is the nation’s leading saving, planning and paying for education company. For 40 years, Sallie Mae has made a difference in students’ and families’ lives, helping more than 31 million Americans pay for college. We recognize there is no single way to achieve this task, so we provide a range of products to help families whether college is a long way off or right around the corner. Sallie Mae promotes responsible financial habits that help our customers dream, invest and succeed.
Our primary business is to originate, service and collect loans we make to students and their families to finance the cost of their education. Since July 2010 we have originated only Private Education Loans. We use “Private Education Loans” to mean education loans to students or their families that are non-federal loans and loans not insured or guaranteed under the previously existing Federal Family Education Loan Program (“FFELP”). The core of our marketing strategy is to generate student loan originations by promoting our products on campus through the financial aid office and through direct marketing to students and their families. Since the beginning of 2006, virtually all of our Private Education Loans have been originated and funded by Sallie Mae Bank, a Utah industrial bank subsidiary (the “Bank”), regulated by the Utah Department of Financial Institutions (“UDFI”) and the Federal Deposit Insurance Corporation (“FDIC”). We also provide servicing, loan default aversion and defaulted loan collection services for loans owned by other institutions, including the U.S. Department of Education (“ED”), as well as processing capabilities to educational institutions and 529 college-savings plan programs. We also operate a consumer savings network that provides financial rewards on everyday purchases to help families save for college.
In addition, we are the largest holder, servicer and collector of loans made under the previously existing FFELP. The majority of our income continues to be derived, directly or indirectly, from our portfolio of FFELP Loans and servicing we provide for FFELP Loans. In 2010, Congress passed legislation ending the origination of education loans under the FFELP program. The terms and conditions of existing FFELP Loans were not affected by this legislation. Our FFELP Loan portfolio will amortize over approximately 20 years. The fee income we earn from providing servicing and contingent collections services on such loans will similarly decline over time. For a full description of FFELP, see Appendix A “Federal Family Education Loan Program.”
At December 31, 2012, we had approximately 6,800 employees.
Private Education Loan Market
Key Drivers of Private Education Loan Market Growth
The size of the Private Education Loan market is based on three primary factors: college enrollment levels, the costs of attending college and the availability of funds from the federal government to pay for a college education. If the cost of education continues to increase at a pace that exceeds income and savings growth and the availability of federal funds does not significantly increase, we expect more students and families to borrow privately. We believe the credit market dislocation of 2008 and 2009 and the elimination of FFELP were largely responsible for lenders exiting the Private Education Loan business. For Academic Year (“AY”) 2011-2012, Private Education Loans were primarily originated by Sallie Mae, six of the country’s largest banks and numerous credit unions.
2
Table of Contents
College Enrollment Levels
College enrollment increased by approximately 15 percent from 2007 through 2010 and enrollment is projected to increase 13 percent from 2011 to 2021.
Historical and Projected Enrollment
(in millions)
Source: ED, National Center for Education Statistics, Integrated Postsecondary Education Data System (“IPEDS”), “Fall Enrollment Survey” (IPEDS-EF:90–99), IPEDS Spring 2001 through Spring 2011; Enrollment component; and Enrollment in Degree-Granting Institutions Model, 1980–2010.
Note: Total enrollment in all degree-granting institutions; middle alternative projections for 2010 onward.
Costs of Attending College
Tuition and fees at four-year public institutions and four-year private institutions have increased at a compound annual growth rate of 7.8 percent and 4.9 percent, respectively, since AY 2002-2003. The consumer price index experienced 2.4 percent compound annual growth rate for the same period.
Cost of Attendance(1)
Cumulative % Increase from AY 2002-2003
Source: The College Board — Trends in College Pricing 2012. © 2012 The College Board. www.collegeboard.org
| (1) | Cost of attendance is in current dollars and includes tuition, fees and on-campus room and board. |
Availability of Federal and Private Funds
There has been a substantial increase in borrowing from federal loan programs in recent years. In the AY ended June 30, 2012, according to the College Board, borrowing from federal loan programs totaled $105.3 billion, an increase of 180 percent since AY ended June 30, 2002. The College Board also reported that, over the same time period, federal grants increased 263 percent to $49 billion. Borrowing from Private Education Loan programs
3
Table of Contents
increased 7 percent in AY 2011-12 to an estimated $6.4 billion; an increase of 28 percent above AY 2001-2002 levels. We believe the drop in borrowing from Private Education Loan programs from the peak of $21 billion in AY 2007-2008 has been caused in large measure by increases in federal loan limits and the availability of federal funds, as well as the strengthening of Private Education Loan underwriting standards.
Students and their families can borrow money directly from the federal government to pay for all or part of college education costs under the Direct Student Loan Program (“DSLP”). The loans can be used to cover the total cost of attendance. Currently, a dependent undergraduate student can borrow from $5,500 to $7,500 annually, depending on their class level. An independent undergraduate student can borrow from $9,500 to $12,500 annually, depending on their class level. Graduate students and parents of undergraduate students can borrow up to the full cost of attendance. All federal education loans allow deferment of loan payments while the student is in school. Rising enrollment levels, college costs and borrowing limits have caused federal student loan programs to grow at a 10-year annual growth rate of 11 percent. The number of borrowers using DSLP is further expected to increase three percent per year over the next three years.
Private Education Loans in Context
Private Education Loans help students and families fill the gap between their own resources, financial aid, federal education loans, and the total cost of college. Historically, Private Education Loans have not replaced federal aid and education loans. However, the interplay between federal and Private Education Loans, their respective terms and conditions and interest rate structures has changed significantly over time. Most notably, over time, federal education lending has expanded to include loans to graduate students and parents of undergraduate students sufficient to cover the full cost of college and graduate school attendance. We believe the evolution of our Private Education Loan products should allow us to effectively compete on interest rates and terms with these particular federal education loan offerings.
On July 20, 2012, the Consumer Financial Protection Bureau (the “CFPB”) and ED released their joint report on the Private Student Loan(1) industry (the “Report”) as required by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”). While the Report criticized past practices in the private education loan market, most notably in the timeframe prior to the 2008 global financial crisis, it also recognized the important role Private Education Loans play in funding higher education as well as significant improvements in recent years in the quality of underwriting, extensive protections provided by federal consumer protection laws and detailed, required disclosures related to these loans. The Report compares federal education loans, which may be obtained without regard to the borrowers’ creditworthiness and provide numerous adjustments for borrowers who have difficulty making repayments, with underwritten Private Education Loans whose terms and conditions, such as default status, are often specified by applicable consumer banking laws and regulations. We remain committed to offer responsible Private Education Loan products to families and students. Since 2009, we have
| • | voluntarily required school certification of both the need for, and the amount of, all of our Private Education Loans; |
| • | introduced our Smart Option Student Loan product to emphasize payments while in school and to shorten repayment terms based on loan amounts and class level; |
| • | obtained cosigners on an average of 90 percent of all Private Education Loans originated; and |
| • | offered through our rate reduction program, temporary relief to assist customers having difficulty making payments on their Private Education Loans. |
In addition, we provide many repayment options — reduced monthly payments, interest-only payments, extended repayment schedules, temporary interest rate reductions and, if appropriate, forbearance — all scaled to a customer’s individual circumstances and ability. These programs, much like the adjustments available to customers under federal student loans, must be used wisely given their potential to significantly increase the overall costs of education financing to customers.
| (1) | The Report addresses “Private Student Loans” as defined in Section 140 of the Truth in Lending Act (15 USC§1650). Our Private Education Loans made for higher education purposes are within the Report’s scope. |
4
Table of Contents
Our Approach to Advising Students and Families Considering Private Education Loans
Students and their families use multiple sources of funding to pay for their college education, including savings, current income, grants, scholarships, federal education loans and Private Education Loans.
We advise students and their families to follow a three-step process to paying for college. In recent years, we have increased our focus on business-to-consumer and business-to-business activities that align with each of these three steps and our future plans revolve largely around continuing to develop these types of activities.
Step 1: Use scholarships, grants, savings and income.
Sallie Mae makes available to consumers at no charge an extensive online database of scholarships which includes information about more than 3 million scholarships with an aggregate value in excess of $16 billion.
Our Upromise consumer savings network helps families jumpstart their save-for-college plan by providing financial rewards on everyday purchases. Traditional savings products, like High Yield Savings Accounts, Money Market Accounts and CDs, are available through the Bank. In addition, our Upromise Investments Inc. subsidiary is the largest administrator of direct-to-consumer 529 college-savings plans.
We also provide services to families who prefer to pay some or all of their college expenses using current income. Sallie Mae’s Campus Solutions business administers interest-free tuition payment plans on behalf of higher education institutions. In addition, we process tuition refunds on behalf of colleges and universities.
Step 2: Pursue federal government loan options.
Sallie Mae encourages consumers to explore federal government loan options. Our free online tool, the Education Investment Planner, helps families estimate the full cost of a college degree and build a customized plan to pay for the full cost of a college degree. The Education Investment Planner takes families through a series of questions, prompting users to model various funding sources — including 529 college-savings plans, parent and student savings and income, scholarships, federal and state grants, institutional aid, and if necessary, federal and private student loans. The Education Investment Planner also estimates monthly payments on education loans and helps project how much a graduate would need to earn to keep payments manageable.
Step 3: Consider affordable Private Education Loans to fill the gap.
We offer Private Education Loan products to bridge the gap between family resources, federal loans, grants, student aid and scholarships, and the cost of a college education. While we actively maintain our presence in school marketing channels, we also continue to develop and evolve our marketing efforts through various other direct and indirect marketing channels, such as direct mailings, Internet channels and marketing alliances with various banks and financial institutions.
We regularly review the terms of our Private Education Loan products to explore ways to minimize finance charges and incorporate additional consumer protections. Our Private Education Loans can include important protections for the family, including tuition insurance, and death and disability loan forgiveness. Through our Smart Option Student Loan product, our customers now have a choice of making monthly payments of interest while in school, paying $25 per month per loan while in school, or deferring all payments until after they leave school. In-school interest payments allow a typical customer to save thousands of dollars over the life of the loan. The result: customers are reminded of the obligation to repay, develop the habit of making payments, and graduate with less debt.
We provide Private Education Loan customers clear, consistent, and easy-to-compare information about our Private Education Loans. These disclosures inform customers of the potential life-of-loan costs and provide multiple reminders of the availability of federal loans. When a customer is approved for the loan, we send a
5
Table of Contents
disclosure that provides very specific information about the loan’s terms with instructions on how to accept the terms of the loan. When a customer accepts the terms of the loan, we send a disclosure that confirms the loan information and also notifies the customer of a right-to-cancel period.
Additionally, we provide information to customers during the application process to allow them to compare the full cost of different repayment plans. We also provide a 60-day loan cancellation period within which customers have the ability to repay their loans after disbursement with no interest or fees should a customer change his or her mind.
Our Approach to Assisting Students and Families in Repaying their Education Loans
In 2012, Sallie Mae serviced loans for approximately 3.2 million Private Education Loan customers, as well as approximately 10 million federal education loan customers who received loans through either the DSLP or the previously existing FFELP program. We receive approximately five million customer contacts every month (calls, written communications, and customer requests) in our call and servicing centers or through SallieMae.com and process nearly 70 million customer payments on an annual basis.
We understand managing repayment of education loans is critical for students to achieve their educational goals, recognize their full earning potential, and develop a strong credit profile. As previously described, the first step to helping customers repay their Private Education Loans is making sure they have access to the information and products to understand, plan and pay for the full cost of attaining a college degree. Our underwriting focuses on the customer’s ability, stability, and willingness to repay the loan.
The second step is making sure our customers maintain a full appreciation of their loan terms and repayment responsibilities throughout the life of their education loans, not just at origination.
| • | Our Smart Option Student Loan product promotes in-school repayment. By making in-school payments, customers stay informed on loans, learn to establish good repayment patterns, and graduate with less debt. |
| • | Before, during, and after leaving school we also provide clear, concise, and frequent market-leading communications designed to help customers successfully understand, manage, and reduce the costs of Private Education Loans. We use a variety of tools, including letters, emails, videos, text messages, monthly statements and 24/7 secure online account access and information on our website, SallieMae.com. Each communication channel provides customer support. |
| • | Another important tool we provide our customers is our Office of Consumer Advocate (“OCA”). Established over 10 years ago, OCA provides specialized customer assistance and positive resolutions to escalated concerns. OCA now also serves the additional role of addressing all of the customer inquiries we receive via the student loan complaint portal the CFPB established in 2012. In fiscal year 2012, OCA received 1,382 inquiries from our customers through the newly established CFPB portal, representing approximately 0.04 percent of our Private Education Loan customers. As of January 31, 2013, 99 percent of those inquiries have been successfully reviewed and closed. |
The third step is providing the right incentives and programs to reward and encourage repayment and aid those individuals and families who may be struggling to meet their financial obligations. We work with each individual to understand their financial situations and identify alternative payment arrangements.
| • | Sallie Mae provides the opportunity for customers to qualify for “borrower benefits” in the form of reduced interest charges for actions such as signing up for automatic withdrawal or achieving a sufficient history of consecutive on-time payments. These benefits exist to encourage better customer payment behavior. |
| • | We have instituted a twelve-month rate reduction program to assist customers struggling with repaying their Private Education Loans. We offer this program when there is a possibility to keep a customer current in their monthly payments by a temporary reduction in the interest rate and, in some cases, modification of term. Most participants successfully complete the program and return to current payments. |
6
Table of Contents
| • | We recognize that, in some cases, loan modifications and other efforts may be insufficient. That is why Sallie Mae continues to support bankruptcy reform that would permit the discharge of education loans — both private and federal — after a required period of good faith attempts to repay and that is prospective so as not to rewrite existing contracts. Any reform should recognize education loans have unique characteristics and benefits as compared to other consumer loan classes. We do not believe bankruptcy reform structured along these lines would be detrimental to our business model or future prospects. |
Business Segments
We have three primary operating business segments — Consumer Lending, Business Services and FFELP Loans. A fourth segment — Other, primarily consists of the financial results of our holding company, including activities related to the repurchase of debt, the corporate liquidity portfolio and all overhead, as well as the results from smaller wind-down and discontinued operations within this segment.
A summary of financial information for each of our business segments for each of the last three fiscal years is included in “Note 16 — Segment Reporting” to the consolidated financial statements.
Consumer Lending Segment
In this segment, we originate, acquire, finance and service Private Education Loans. The Private Education Loans we make are primarily to bridge the gap between the cost of higher education and the amount funded through financial aid, federal loans or customers’ resources. We will continue to offer loan products to parents and graduate students where we believe we are competitive with similar federal education loan products. In this segment, we earn net interest income on the Private Education Loan portfolio (after provision for loan losses) as well as servicing fees, consisting primarily of late fees. Operating expenses for this segment include costs incurred to acquire and to service our loans.
Managed growth of our Private Education Loan portfolio is central not only to our strategy for growing the Consumer Lending segment but also for the future of Sallie Mae as a whole. In 2012 we originated $3.3 billion of Private Education Loans, an increase of 22 percent and 45 percent from the years ended December 31, 2011 and 2010, respectively. As of December 31, 2012, 2011 and 2010, we had $36.9 billion, $36.3 billion, and $35.7 of Private Education Loans outstanding, respectively. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Business Segment Earnings Summary — ‘Core Earnings’ Basis — Consumer Lending Segment” for a full discussion of our Consumer Lending business and related loan portfolio.
Private Education Loans bear the full credit risk of the customer and cosigner. We manage this risk by underwriting and pricing based upon customized credit scoring criteria and the addition of qualified cosigners. For the year ended December 31, 2012, our annual charge-off rate for Private Education Loans (as a percentage of loans in repayment) was 3.4 percent, as compared with 3.7 percent for the prior year.
Since the beginning of 2006, virtually all of our Private Education Loans have been originated and funded by the Bank, a Utah industrial bank subsidiary regulated by the UDFI and the FDIC. At December 31, 2012, the Bank had total assets of $9.1 billion including $5.5 billion in Private Education Loans. As of the same date, the Bank had total deposits of $7.8 billion. The Bank relies on both retail and brokered deposits to fund its assets and periodically sells originated Private Education Loans to affiliates for inclusion in securitization trusts or collection. The Bank is also a key component of our Campus Solutions, Upromise Rewards and college-savings product businesses. Sallie Mae and its affiliates provide services and technology support to the Bank through various service agreements.
Our ability to obtain deposit funding and offer competitive interest rates on deposits will become more important to sustain the continuing growth of our Private Education Loan portfolio. Our ability to obtain such funding is also dependent in part on the capital level of the Bank and compliance with other regulatory requirements applicable to the Bank. At the time of this filing, there are no restrictions on our ability to obtain
7
Table of Contents
deposit funding or the interest rates we charge other than those restrictions generally applicable to all equally situated banks. At the time of this filing, however, the Bank continues to be the subject of a cease and desist order for previously identified weaknesses in its compliance function. While the issues addressed in the order have largely been remediated, the order has not yet been lifted. Our failure to comply with various laws and regulations, the terms of the cease and desist order, or to timely address issues raised during any examination could result in limitations on our ability to obtain deposit funding in the Bank.
We face competition for Private Education Loans from a group of the nation’s larger banks and local credit unions.
Business Services Segment
FFELP - Related Revenues
Our Business Services segment generates the majority of its revenue from servicing our FFELP Loan portfolio and from performing servicing, default aversion and contingency collections work on behalf of Guarantors of FFELP Loans and other institutions. With the elimination of FFELP in July 2010, these FFELP-related revenue sources will continue to decline.
| • | Servicing revenues from the FFELP Loans we own and manage represent intercompany charges to the FFELP Loans segment at rates paid to us by the trusts which own the loans. These fees are legally the first payment priority of the trusts and exceed the actual cost of servicing the loans. Intercompany loan servicing revenues declined to $670 million in 2012 from $739 million in 2011. Intercompany loan servicing revenues will decline as the FFELP portfolio amortizes. Prepayments of FFELP Loans could further accelerate the rate of decline. |
| • | In 2012, we earned account maintenance and default aversion fees on FFELP Loans serviced for Guarantors of $41 million, down from $46 million in 2010. These fees will continue to decline as the portfolio amortizes. Prepayments of FFELP Loans could further accelerate the rate of decline. |
| • | In 2012, contingency collection revenue from Guarantor clients totaled $264 million, compared to $246 million the prior year. We anticipate these revenues will begin to decline steadily in 2013. |
In 2012, our FFELP-related revenues accounted for 76 percent of total Business Services segment revenues, as compared with 76 percent and 78 percent, respectively, for the previous two years. Total Business Services segment revenues were $1.3 billion for the year ended December 31, 2012, down from $1.4 billion for the prior year. Over the next several years our objective is to grow or acquire additional sources of services revenue. The total amounts of these combined FFELP-related revenues, as well as the margins we earn from them, are significant. Our ability to offset these increasing FFELP-related revenue declines is less certain.
The end of the FFELP program will likely cause owners of FFELP Loan portfolios as well as Guarantors of those loans to seek to further reduce their FFELP servicing costs or sell those portfolios. Given the volume of FFELP Loans we service for our affiliates and third parties, we are uniquely situated to adapt to the increasing levels of education loan-specific disclosure, compliance, servicing and collection standards which other financial institutions and servicers may not find economical to continue to support. Acquiring additional FFELP servicing volume as others sell FFELP portfolios, exit existing FFELP servicing businesses or seek to find lower cost providers for those services is a key component of our current Business Services growth strategy, notwithstanding the end of the FFELP program.
We will also continue to pursue acquisitions of both complementary and diversified service businesses that can expand demand for our services in and beyond the education loan markets. We considered several such opportunities in 2012 but chose not to pursue those based on relative valuations of the companies and questions regarding their near-term returns on investment as compared to other uses for our capital resources.
8
Table of Contents
ED Collection and Servicing Contracts
Since 1997, we have provided collection services on defaulted student loans to ED. The current contract runs through December 31, 2013, with one six-month renewal option by ED. There are 21 other collection providers, of which we compete with 16 providers for account allocation based on quarterly performance metrics. The remaining five providers are small businesses who are ensured a particular allocation of business. As a consistent top performer, our share of allocated accounts has ranged from six percent to eight percent for this contract period. In addition, we were ranked first in the last quarterly performance metric and have been ranked first in the long-term performance metric, which is based on the past seven quarterly performance metrics, since the commencement of this contract.
In the second quarter of 2009, ED named Sallie Mae as one of four servicers awarded a servicing contract (the “ED Servicing Contract”) to service all newly disbursed federal loans owned by ED. The ED Servicing Contract covers, among other things, all new Direct Loans disbursed by, or sold to, ED since the contract award date and may extend to Direct Loans originated prior to that date. The contract spans five years with one, five-year renewal at the option of ED. We compete for Direct Loan servicing volume from ED with the three other servicing companies with whom we share the contract. New account allocations for the upcoming contract year are awarded annually based on each company’s performance on five different metrics over the most recently ended contract year: defaulted borrower count, defaulted borrower dollar amount, a survey of borrowers, a survey of schools and a survey of ED personnel (the “ED Scorecard”). Pursuant to the contract terms related to annual volume allocation of new loans, the maximum any servicer could be awarded is 40 percent of net new borrowers in that contract year. Our share of new loans serviced for ED under the ED Servicing Contract decreased to 15 percent in 2012 from 26 percent in the prior contract year as a result of our decrease in our relative standing, as compared to other servicing companies, on the ED Scorecard. We are servicing approximately 4.3 million accounts under the ED Servicing Contract as of December 31, 2012 and generated $84 million of revenue under the contracts for the year ended December 31, 2012.
To date, the ED Servicing Contract has not contributed meaningful net income; however, the opportunity to significantly and profitably expand the services we can provide under the DSLP, directly to ED or otherwise, remains an important component of our Business Services growth strategy. In fiscal 2013, ED is projected to originate more than $121 billion in new federal education loans and spend more than $1.0 billion in servicing and contingency fees.
We have generated significant volumes of work and consistently delivered high levels of objectively measurable performance under both the ED Servicing Contract and the ED collections contract. However, the contract structure has not permitted us to scale the work we are doing to achieve our initial profitability expectations.
The ED Servicing Contract is currently scheduled to expire in June 2014. We expect ED will decide whether to exercise its five-year renewal option well before this date. Whether or not the option is exercised, ED will retain significant discretion in how new DSLP loan servicing volume is allocated under the contract and the amounts paid for those services. ED need not exercise its renewal option with all existing servicers. While we are confident in our performance approach, there can be no assurances our profitability will improve or that we will be selected to continue under the ED Servicing Contract beyond 2014.
Other
Upromise generates revenue by providing program management services for 529 college-savings plans with assets of $44.7 billion in 31 college-savings plans in 16 states at December 31, 2012. We also generate transaction fees through our Upromise consumer savings network; through December 31, 2012, members have earned approximately $730 million in rewards by purchasing products at hundreds of online retailers, booking travel, purchasing a home, dining out, buying gas and groceries, using the Upromise World MasterCard, or completing other qualified transactions. We earn a fee for the marketing and administrative services we provide to companies that participate in the Upromise savings network. We compete for 529 college-savings plan business with a large array of banks, financial services and other processing companies. We also compete with other loyalty shopping services and companies.
9
Table of Contents
Our Campus Solutions business offers a suite of solutions designed to help campus business offices increase their services to students and families. The product suite includes electronic billing, collection, payment and refund services plus full tuition payment plan administration. In 2012, we generated servicing revenue from over 1,000 campuses.
FFELP Loans Segment
Our FFELP Loans segment consists of our FFELP Loan portfolio and the underlying debt and capital funding the loans. FFELP Loans are insured or guaranteed by state or not-for-profit agencies and are also protected by contractual rights to recovery from the United States pursuant to guaranty agreements among ED and these agencies. These guarantees generally cover at least 97 percent of a FFELP Loan’s principal and accrued interest for loans disbursed. In the case of death, disability or bankruptcy of the borrower, these guarantees cover 100 percent of the loan’s principal and accrued interest. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Business Segment Earnings Summary — ‘Core Earnings’ Basis — FFELP Loans Segment” for a full discussion of our FFELP Loans segment.
As a result of the long-term funding used in the FFELP Loan portfolio and the insurance and guarantees provided on these loans, the net interest margin recorded in the FFELP Loans segment is relatively stable and the capital we choose to retain with respect to the segment is modest. In addition to the net interest margin, we earn fee income largely from late fees on the loans. For more discussion of the FFELP and related credit support mechanisms, see “Appendix A — Federal Family Education Loan Program.”
Our FFELP Loan portfolio will amortize over approximately 20 years. Our goal is to maximize the cash flow generated by the portfolio. We will seek to acquire other third-party FFELP Loan portfolios to add net interest income and servicing revenue.
The Higher Education Act (the “HEA”) continues to regulate every aspect of the FFELP, including ongoing communications with borrowers and default aversion requirements. Failure to service a FFELP Loan properly could jeopardize the insurance and guarantees and federal support on these loans. The insurance and guarantees on our existing loans were not affected by the July 2010 termination of the FFELP program.
Other Segment
The Other segment consists primarily of the financial results related to activities of our holding company, including the repurchase of debt, the corporate liquidity portfolio and all overhead. We also include results from smaller wind-down and discontinued operations within this segment. Overhead expenses include costs related to executive management, the board of directors, accounting, finance, legal, human resources, stock-based compensation expense and certain information technology costs related to infrastructure and operations.
Supervision and Regulation
The Dodd–Frank Act
The Dodd-Frank Act was adopted to reform and strengthen regulation and supervision of the U.S. financial services industry. The Dodd-Frank Act contains comprehensive provisions to govern the practices and oversight of financial institutions (including large non-bank financial institutions) and other participants in the financial markets. It imposes significant regulations, additional requirements and oversight on almost every aspect of the U.S. financial services industry, including increased capital and liquidity requirements, limits on leverage and enhanced supervisory authority. Some of these provisions are applicable to us and to our various businesses. Most of the Dodd-Frank Act’s provisions have become effective but many remain subject to formal implementation by regulatory agencies through final rulemaking, leaving considerable uncertainty as to their ultimate scope and effect. Nonetheless, we believe our operational expenses will increase as we address new or additional compliance requirements arising from the implementation of various provisions of the Dodd-Frank Act.
10
Table of Contents
The Consumer Financial Protection Act (the “CFPA”), a part of the Dodd-Frank Act, established the CFPB, which has broad authority to write regulations under federal consumer financial protection laws and to directly or indirectly enforce those laws and examine financial institutions for compliance. It is authorized to collect fines and provide consumer restitution in the event of violations, engage in consumer financial education, track consumer complaints, request data and promote the availability of financial services to underserved consumers and communities. It has authority to prevent unfair, deceptive or abusive practices by issuing regulations that define the same or by using its enforcement authority without first issuing regulations. The CFPB has been active in its supervision, examination and enforcement of financial services companies, most notably bringing enforcement actions imposing fines and mandating large refunds to customers of several large banking institutions for practices relating to the sale of additional products associated with the extension of consumer credit.
The Dodd-Frank Act also authorizes state officials to enforce regulations issued by the CFPB and to enforce the Dodd-Frank Act’s general prohibition against unfair, deceptive and abusive practices.
Regulatory Outlook
The number and scope of regulatory and enforcement actions in 2012, as well as the amounts of fines and penalties levied against banking institutions, were significant. The types and numbers of class and shareholder derivative actions arising from allegations of violations of consumer protection and regulatory provisions also continued to increase. A number of prominent themes appear to be emerging from these actions:
| • | The number and configuration of regulators bringing actions — often adds to the complexity, cost and unpredictability of timing for resolution of particular regulatory issues. |
| • | The regulatory compliance and risk control structures of financial institutions subject to enforcement actions are frequently cited, regardless of whether past practices have been changed, and enforcement orders have often included detailed demands for increased compliance, audit and board supervision, as well as the use of third-party consultants to recommend further changes or monitor remediation efforts. |
| • | Issues first identified with respect to one consumer product class or distribution channel are often applied to other product classes or channels, as has been most notably the case in the home mortgage industry. |
As noted in more detail below, in coming years we expect the regulators overseeing several of our businesses will increase in number or change and consumer protection regulations and standards will evolve to become more detailed in scope. We expect this evolution will significantly add to our compliance, marketing, servicing and operating costs. While our current operations and compliance processes may or may not satisfy heightened, evolving regulatory standards, they cannot provide assurance past practices or products will not be the focus of examinations, inquiries or lawsuits. Prior to 2009, one or more of our current or then-existing subsidiaries were involved in the origination and sale of home mortgages, automobile loans, boat/RV/manufactured housing loans, construction loans, and other personal loans.
In 2012 we made significant progress in better coordinating and formalizing our existing risk management practices. In 2013 we expect to fully implement these efforts. For a further discussion of these efforts, see Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management.”
Listed below are some of the most significant recent and pending regulatory changes that have the potential to affect one or more of our businesses in coming years.
Education Loans and Students’ Rights. The CFPB has now assumed regulatory oversight of the Private Education Loan industry. Its July 2012 Report on the industry provided many insights on the evolution of the industry and the CFPB’s continuing concerns. While we do not believe the CFPB’s primary recommendations to Congress in the Report are problematic to our business at present, any future efforts by Congress or the CFPB to impose further conditions or alter the terms on which Private Education Loans may be issued, interest charged or,
11
Table of Contents
principal collected so as to be more in conformance with federal education loan programs could significantly and materially affect the way in which we choose to do business and the profitability of our business. The CFPB’s focus on the concerns of students extends beyond the terms and conditions of Private Education Loans and includes the following:
| • | The Dodd-Frank Act created a Private Education Loan Ombudsman within the CFPB to receive and attempt to informally resolve inquiries about Private Education Loans. The Private Education Loan Ombudsman reports to Congress annually on the trends and issues that it identifies through this process. On October 16, 2012, the Ombudsman submitted its first report based on 2,900 inquiries, finding that borrowers tended to report problems with their loan servicing and repayment options. The report draws conclusions about problems in education loan servicing and suggests Congress consider further steps to provide loan modifications or refinancing opportunities for troubled borrowers. Most of the inquiries that we have received from customers via the CFPB process are made by borrowers facing difficulty in repayment due to unemployment and underemployment due to the faltering economy. |
| • | The CFPB is also particularly focused on interactions between prospective students and the financial aid offices of colleges and universities, and the quality and accuracy of the information students are being provided through financial aid offices. The CFPB announced on January 31, 2013 that it is seeking information on the financial products and services offered to students through colleges and universities, including products marketed through campus affinity relationships, such as financial aid disbursement accounts, student banking, prepaid cards and credit cards. The deadline for submission of information to the CFPB is March 18, 2013. It is likely this inquiry, much like prior inquiries with respect to credit cards, and other financial products, will lead to the issuance of a report and recommendations or proposed regulatory changes related to the issuance and utilization of these products. If so, several of our businesses could be affected. |
| • | The CFPB announced on February 21, 2013 that it is seeking information on options available to borrowers having difficulty repaying their loans. The deadline for submission of information to the CFPB is April 8, 2013. For a discussion on our approach to helping customers, see Item 1 “Business — Our Approach to Assisting Students and Families in Repaying their Education Loans.” |
Debt Collection Supervision. On October 24, 2012, the CFPB issued its final debt collection larger participant rule and examination procedures that will allow the agency to federally supervise larger consumer debt collectors. The rule defines larger participants as third-party debt collectors, debt buyers, and collection attorneys with more than $10 million in annual receipts resulting from consumer debt collection. Under the rule, our collection subsidiaries are considered larger participants and will be subject to supervision. The rule became effective January 2, 2013. The issuance of the CFPB’s rules will not preempt the various and varied levels of state consumer and collection regulations to which the activities of our subsidiaries are currently subject. We also utilize third-party debt collectors to collect certain defaulted and charged-off education loans. We will continue to be responsible for oversight of their procedures and controls.
Evolving Regulation of the Bank. As of December 31, 2012, the Bank had assets of $9.1 billion. We expect its assets to exceed $10 billion by the third or fourth quarter of 2013. Based on current estimates, we expect the Bank will eventually be designated as a “large bank” under the Dodd-Frank Act and be subject to additional regulatory requirements. For example, once the Bank has four consecutive quarters with assets of at least $10 billion, the CFPB will become the Bank’s primary compliance supervisor. The UDFI and FDIC will remain the prudential regulatory authorities with respect to the Bank’s financial strength. However, once the Bank’s average assets over any four quarter period are at least $10 billion, it will subsequently become subject to annual stress testing requirements. Furthermore, the Dodd-Frank Act imposed a moratorium on the further creation of, and strictly limited the transfer of, industrial banks such as the Bank. This moratorium will expire in the summer of 2013. At this time we do not expect significant changes with regard to the form or regulation of industrial banks or their exclusion from federal bank holding company regulation, but we cannot predict the nature or actions that Congress or federal banking authorities might choose to take with regard to the industrial bank exclusion.
12
Table of Contents
Regulation of Systemically Important Non-Bank Financial Companies. As directed by the Dodd-Frank Act, on April 3, 2012, the Financial Stability Oversight Council (“FSOC”) approved the final rule and interpretive guidance it will use for designating non-bank financial companies as systemically important to the financial stability of the United States and subject to supervision by the Board of Governors of the Federal Reserve System (the “FRB”) under enhanced prudential supervision and regulatory standards. To be subject to FRB enhanced supervision, a non-bank financial company’s material financial distress, its nature, scope, size, scale, concentration, interconnectedness, or mix of activities, must pose a threat to the financial stability of the United States. For a further discussion of the risks and implications of SLM Corporation being designated a Systematically Important Financial Institution (“SIFI”), see Item 1A “Risk Factors — Legal, Regulatory and Compliance.”
The FSOC’s process for determining if a non-bank financial company’s distress could pose a threat to the financial stability of the United States focuses on three criteria: the size, substitutability and interconnectedness of the particular company. In the final rule, the FSOC provided guidance on the process they would use for determining the SIFI designation. In Stage 1 of the process, the FSOC uses quantitative criteria to determine which non-bank financial companies would be subject to a Stage 2 review, during which the FSOC conducts a quantitative and qualitative review of publicly available information to determine whether there is a likelihood a company could be a SIFI and meriting further review of the company’s nonpublic information. Under Stage 3 of the process, the FSOC notifies the company and works with it to review additional information that may not be available publicly and determines whether to make an official designation.
In the last quarter of 2012, the FSOC advanced several large non-bank financial companies to Stage 3 of the process. SLM Corporation was not one of these companies. At the same time, the FSOC affirmatively decided not to advance other Stage 2 non-bank financial companies to Stage 3 of the process.
While we have no way of knowing the qualitative judgments the FSOC will use in the future to determine if SLM Corporation merits SIFI designation, and no assurances can be given, we continue to believe it is unlikely the FSOC will determine SLM Corporation poses a threat to the financial stability of the United States. While SLM Corporation meets certain criteria in Stage 1 of the FSOC’s rule, we see no changes that would warrant the FSOC to consider us for SIFI designation due to the nature of the majority of financial assets on our balance sheet, the minimal interconnectivity between our businesses and the financial economy of the United States or the numerous sophisticated competitors who can provide substitute services to those we provide.
Oversight of Derivatives. The Dodd-Frank Act created a comprehensive new regulatory framework for derivatives transactions, to be implemented by the Commodity Futures Trading Commission (the “CFTC”) and the SEC. This new framework, among other things, subjects certain swap participants to new capital and margin requirements, recordkeeping and business conduct standards and imposes registration and regulation of swap dealers and major swap participants. The scope of potential exemptions remains to be further defined through agency rulemakings. Moreover, while we may or may not qualify for exemptions, many of our derivatives counterparties are likely to be subject to the new capital, margin and business conduct requirements.
Other Significant Sources of Regulation
Many aspects of our businesses are subject to regulation by federal and state regulation and administrative oversight. Some of the most significant of these are described below.
We are subject to the HEA and, from time to time, our student loan operations are reviewed by ED and Guarantors. As a servicer of federal student loans, we are subject to certain ED regulations regarding financial responsibility and administrative capability that govern all third-party servicers of insured student loans. In connection with our Guarantor servicing operations, we must comply with, on behalf of our Guarantor clients, certain ED regulations that govern Guarantor activities as well as agreements for reimbursement between ED and our Guarantor clients.
As a third-party service provider to financial institutions, we are also subject to examination by the Federal Financial Institutions Examination Council (“FFIEC”). The Bank is subject to Utah banking regulations as well
13
Table of Contents
as regulations issued by the FDIC, and undergoes periodic regulatory examinations by the FDIC and the UDFI. SLM Corporation is also subject to regulation and periodic examination by these entities as to the nature and extent of services and financial strength it provides to the Bank.
Our originating or servicing of federal and Private Education Loans also subjects us to federal and state consumer protection, privacy and related laws and regulations. Some of the more significant federal laws and regulations that are applicable to our business include:
| • | various laws governing unfair, deceptive or abusive acts or practices; |
| • | the Truth-In-Lending Act; |
| • | the Fair Credit Reporting Act; |
| • | the Equal Credit Opportunity Act; |
| • | the Servicemembers Civil Relief Act; |
| • | the Telephone Consumer Protection Act; and |
| • | the Gramm-Leach-Bliley Act. |
Our Business Services segment’s debt collection and receivables management activities are subject to federal and state consumer protection, privacy and related laws and regulations, including supervision by the CFPB of larger consumer debt collectors as discussed above. Some of the more significant federal statutes are the Fair Debt Collection Practices Act and additional provisions of the acts listed above, as well as the HEA and the various laws and regulations that govern government contractors.
These activities are also subject to state laws and regulations similar to the federal laws and regulations listed above.
Our Upromise 529 college-savings activities are subject to regulation by the Municipal Securities Rulemaking Board, the Financial Industry Regulatory Authority and the SEC, as well as various state regulatory authorities.
Company History
We were formed in 1972 as the Student Loan Marketing Association, a federally chartered government sponsored enterprise (“GSE”), with the goal of furthering access to higher education by providing liquidity to the student loan marketplace. On December 29, 2004, we terminated the federal charter, incorporated SLM Corporation as a business corporation in the State of Delaware, and dissolved the GSE. SLM Corporation is now a publicly-traded holding company operating through its various subsidiaries. Our principal executive offices are located at 300 Continental Drive, Newark, Delaware 19713, and our telephone number is (302) 283-8000.
We established the Bank in 2005 as an industrial bank chartered under the laws of the State of Utah. It is located in Salt Lake City, Utah. Under its banking charter, the Bank may make consumer loans and may accept FDIC-insured deposits, including NOW accounts. It is a depository institution subject to regulatory oversight and examination by both the FDIC and the UDFI. Applicable federal and state regulations relate to a broad range of banking activities and practices, including minimum capital standards, maintenance of reserves and the terms on which a bank may engage in transactions with its affiliates. In addition, the FDIC has regulatory authority under the Financial Institutions Supervisory Act to prohibit the Bank from engaging in any unsafe or unsound practice.
On August 22, 2006, we acquired Upromise Inc. and its subsidiaries, Upromise Investments, Inc. (“UII”) and Upromise Investment Advisors, LLC (“UIA”). UII is registered with the SEC as a broker-dealer pursuant to the Securities and Exchange Act of 1934, as amended, and is a member of the Financial Industry Regulatory Authority and the Municipal Securities Rulemaking Board . UIA is registered with the SEC as an investment advisor pursuant to the provisions of the Investment Advisers Act of 1940, as amended. In 2012, we formed Upromise Investments Recordkeeping Services, LLC, which is registered with the SEC as a transfer agent pursuant to the Securities and Exchange Act of 1934, as amended.
14
Table of Contents
| Item 1A. | Risk Factors |
Our business activities involve a variety of risks. Below we describe the significant risk factors affecting our business. The risks described below are not the only risks facing us — other risks also could impact our business.
Economic Environment
Economic conditions could have a material adverse effect on our business, results of operations, financial condition and stock price.
Our business is always influenced by economic conditions. Economic growth in the United States remains slow and uneven. High unemployment rates and decreasing college graduation rates are two of the most significant macroeconomic factors that could increase loan delinquencies, defaults and forbearance, or otherwise negatively affect performance of our existing education loan portfolio. Since 2009, the unemployment rate has been higher than historical norms. In 2008, the unemployment rate was 5.8 percent, reaching a high of 9.6 percent in 2010 and declining to 8.1 percent in 2012. Forbearance programs may have the effect of delaying default emergence as customers are granted a temporary waiver from having to make payments on their loans. If the type and amount of federal funds available to pay for a college education or refinance existing education loans increases, the volume of our new loan originations and the repayment rates of our existing loans could be materially and adversely effected.
Further deterioration in the economy could result in a decrease in demand for consumer credit and credit quality could adversely be affected. Higher credit-related losses and weaker credit quality could negatively affect our business, financial condition and results of operations and limit funding options, including capital markets activity, which could also adversely impact our liquidity position.
Funding and Liquidity
Our business can be affected by the cost and availability of funding in the capital markets. The interest rate characteristics of our earning assets do not always match the interest rate characteristics of our funding arrangements. These factors may increase the price of or decrease our ability to obtain liquidity necessary to maintain and grow our business.
The capital markets could experience periods of significant volatility. This volatility can dramatically and adversely affect our financing costs when compared to historical norms. Additional factors that could make financing more expensive or unavailable include, but are not limited to, financial losses, events that have an adverse impact on our reputation, changes in the activities of our business partners, events that have an adverse impact on the financial services industry, counterparty availability, changes affecting our assets, corporate and regulatory actions, absolute and comparative interest rate changes, ratings agencies’ actions, general economic conditions and the legal, regulatory, accounting and tax environments governing our funding transactions. If financing becomes more difficult, expensive or unavailable, our business, financial condition and results of operations could be materially and adversely affected.
During 2012, we funded Private Education Loan originations through term-brokered and retail deposits raised by the Bank. Assets funded in this manner result in re-financing risk because the average term of the deposits is shorter than the expected term of some of the assets. There is no assurance that this or other sources of funding, such as the term asset-backed securities market, will be available at a level and cost that makes new Private Education Loan originations possible or profitable, nor is there any assurance that the loans can be re-financed at profitable margins. For additional discussion on regulatory and compliance risks relating to the Bank, see below at Item 1A “Risk Factors — Legal, Regulatory and Compliance.” If we were unable to obtain funds from which to make new Private Education Loans, our business, financial condition and results of operations would be materially and adversely affected.
15
Table of Contents
The interest rate characteristics of our earning assets do not always match the interest rate characteristics of our funding arrangements. This mismatch exposes us to risk in the form of basis risk and repricing risk. Moreover, it may not always be possible to hedge all of our exposure to such basis risks. While the asset and hedge indices are short-term with rate movements that are typically highly correlated, there can be no assurance that the historically high correlation will not be disrupted by capital market dislocations or other factors not within our control. In such circumstances, our earnings could be adversely affected, possibly to a material extent.
Adverse market conditions or an inability to effectively manage our liquidity risk could negatively impact our ability to meet our liquidity and funding needs, which could materially and adversely impact our business operations and our overall financial condition.
We must effectively manage the liquidity risk to which we are exposed. We require liquidity to meet cash requirements such as day-to-day operating expenses, extensions of credit on our Private Education Loans, required payments of principal and interest on our borrowings, and distributions to our shareholders. Our primary sources of liquidity and funding are from fees we collect for servicing education loans, payments made on FFELP and Private Education Loans that we hold, proceeds and distributions from securitization transactions and trusts that we undertake and offerings of debt and equity securities. We may maintain too much liquidity, which can be costly, or we may be too illiquid, which could result in financial distress during times of financial stress or capital market disruptions.
Higher than expected prepayments of education loans could reduce servicing revenues we receive or reduce or delay payments we receive as the holder of the residual interests of securitization trusts holding education loans. While some fluctuation in prepayment levels is to be expected, extraordinary or extended increases in prepayment levels could materially adversely affect our liquidity, income and the value of those residual interest assets.
Education loans may be voluntarily prepaid by borrowers or, in the case of FFELP Loans, may also be consolidated with the borrowers’ other education loans through refinancing into the DSLP. FFELP Loans may also be repaid after default by the guarantors of FFELP Loans. Prepayment rates and levels are subject to many factors which are beyond our control, including repayment through loan consolidation programs. When education loans contained within a securitization trust are prepaid the fees we earn as servicer decrease and the value of any residual interest we own in the securitization trust may decline. If we experience significantly higher than expected prepayments, our liquidity, income and future value of assets could be materially and adversely affected.
Operations
A failure of our operating systems or infrastructure or a breach or violation of law by one of the many third-party vendors we rely on to deliver services and information, including confidential customer information, to our customers could disrupt our business, result in disclosure of confidential customer information, damage our reputation, cause significant losses and provide our competitors with an opportunity to enhance their position at our expense. We may also be exposed to litigation and regulatory risk for failure to provide proper oversight to these third-party vendors.
A failure of operating systems or infrastructure could disrupt our business. Our business is dependent on our ability to process and monitor large numbers of daily transactions in compliance with legal and regulatory standards and our product specifications, which change to reflect our business needs and new or revised regulatory requirements. As processing demands change and our loan portfolios grow in both volume and differing terms and conditions, developing and maintaining our operating systems and infrastructure becomes increasingly challenging and there is no assurance that we can adequately or efficiently develop, maintain or acquire access to such systems.
16
Table of Contents
Our loan originations and conversions and the servicing, financial, accounting, data processing or other operating systems and facilities that support them may fail to operate properly or become disabled as a result of events that are beyond our control, adversely affecting our ability to process these transactions. Any such failure could adversely affect our ability to service our clients, result in financial loss or liability to our clients, disrupt our business, result in regulatory action or cause reputational damage. Despite the plans and facilities we have in place, our ability to conduct business may be adversely affected by a disruption in the infrastructure that supports our businesses. This may include a disruption involving electrical, communications, Internet, transportation or other services used by us or third parties with which we conduct business. Notwithstanding our efforts to maintain business continuity, a disruptive event impacting our processing locations could adversely affect our business, financial condition and results of operations.
Our operations rely on the secure processing, storage and transmission of personal, confidential and other information in our computer systems and networks. Although we take protective measures, our computer systems, software and networks may be vulnerable to unauthorized access, computer viruses, malicious attacks and other events that could have a security impact beyond our control. Our technologies, systems, networks and those of third parties may become the target of cyber-attacks or information security breaches that could result in the unauthorized release, gathering, monitoring, misuse, loss or destruction of our or our customers’ confidential, proprietary and other information, or otherwise disrupt our or our customers’ or other third parties’ business operations. Moreover, information security risks for large financial institutions such as Sallie Mae have generally increased in recent years in part because of the proliferation of new technologies, the use of the Internet and telecommunications technologies to conduct financial transactions, and the increased sophistication and activities of organized crime, hackers, terrorists, activists, and other external parties.
If one or more of such events occur, personal, confidential and other information processed and stored in, and transmitted through, our computer systems and networks, could be jeopardized or could cause interruptions or malfunctions in our operations that could result in significant losses or reputational damage. We also routinely transmit and receive personal, confidential and proprietary information, some through third parties. We have put in place secure transmission capability, and work to ensure third parties follow similar procedures. An interception, misuse or mishandling of personal, confidential or proprietary information being sent to or received from a customer or third party could result in legal liability, regulatory action and reputational harm. In the event personal, confidential or other information is jeopardized, intercepted, misused or mishandled, we may be required to expend significant additional resources to modify our protective measures or to investigate and remediate vulnerabilities or other exposures, and we may be subject to fines, penalties, litigation costs and settlements and financial losses that are either not insured against or not fully covered through any insurance maintained by us. If one or more of such events occur, our business, financial condition or results of operations could be significantly and adversely affected.
We increasingly depend on third parties for a wide array of services, systems and information technology applications. Third-party vendors are significantly involved in aspects of our software and systems development, the timely transmission of information across our data communication network, and for other telecommunications, processing, remittance and technology-related services in connection with our banking and payment services businesses. We also utilize third-party debt collectors significantly in the collection of defaulted Private Education Loans. If a service provider fails to provide the services we require or expect, or fails to meet applicable contractual or regulatory requirements, such as service levels or compliance with applicable laws, the failure could negatively impact our business by adversely affecting our ability to process customers’ transactions in a timely and accurate manner, otherwise hampering our ability to serve our customers, or subjecting us to litigation and regulatory risk for matters as diverse as poor vendor oversight or improper release or protection of personal information. Such a failure could adversely affect the perception of the reliability of our networks and services, and the quality of our brands, and could materially adversely affect our revenues and/or our results of operations.
17
Table of Contents
Federal funding constraints and spending policy changes triggered by associated federal spending deadlines may result in disruption of federal payments for services we provide to the government, which could materially and adversely affect our business strategy or future business prospects.
We receive payments from the federal government on our FFELP Loan portfolio and for other services we provide to them, including servicing Direct Loans, default aversion and contingency collections. Funding to pay for these services may be affected by various factors, including the following:
| • | Debt Limit: The federal government is expected to reach the statutory borrowing limit by the end of the first half of 2013 and, once the limit is reached, the federal government will not be able to borrow to meet its payment obligations. |
| • | 2013 Appropriations: Congress and the Administration must address the expiration at the end of March 2013 of funding for federal government operations. |
| • | Sequestration: In August 2011, Congress passed the Budget Control Act of 2011, which committed the federal government to significantly reduce the federal deficit over ten years by $1 trillion relative to the fiscal year 2012 Administration budget submission. Under this Act, as amended, substantial automatic spending cuts, known as “sequestration,” are scheduled to be implemented on March 1, 2013. |
| • | President’s budget: The President’s fiscal 2014 budget is expected to be released in March 2013. Previous budgets have included a number of education lending-related initiatives, including proposed reductions in payments by ED to service providers assisting students with the rehabilitation of defaulted FFELP loans. If proposals such as these are enacted, they could be detrimental to our business. |
It is possible that the Administration and Congress could engage in a prolonged debate linking the federal deficit, debt ceiling and other budget issues resulting in a similar debate that occurred around the Budget Control Act of 2011. If U.S. lawmakers now or in the future fail to reach agreement on these issues, the federal government could stop or delay payment on its obligations, including those on services we provide. We cannot predict how or what programs will be impacted by any actions that Congress or the federal government may take. Further, legislation to address the federal deficit and spending could include proposals that would adversely affect our FFELP and Direct Loan-related servicing businesses. A protracted reduction, suspension or cancellation of the demand for the services we provide, or proposed changes to the terms or pricing of services provided under existing contracts we have with the federal government, could have a material adverse effect on our revenues, cash flows, profitability and business outlook, and, as a result, could materially adversely affect our business, financial condition and results of operations.
We continue to undertake numerous cost-cutting initiatives to realign and restructure our business in light of significant legislative changes in the past several years and the amortization of the FFELP Loan portfolios we service. Our business, results of operations and financial condition could be adversely affected if we do not effectively align our cost structure with our current business operations, regulatory compliance obligations and future business prospects.
In response to significant legislative changes in the past several years, including the end of FFELP, we have undertaken and continue to undertake cost-cutting initiatives, including workforce reductions, servicing center closures, restructuring and transfers of business functions to new locations, enhancements to our web-based customer services, adoption of new procurement strategies and investments in operational efficiencies. Our business and financial condition could be adversely affected by these cost-cutting initiatives if cost reductions taken are so dramatic as to cause disruptions in our business, reductions in the quality of the services we provide or cause us to fail to comply with applicable regulatory standards. We may be unable to successfully execute on certain growth and other business strategies or achieve certain business goals or objectives if cost reductions are too dramatic. Alternatively, we may not be able to achieve our desired cost savings. In either case our business, results of operations and financial condition could be adversely affected.
18
Table of Contents
Incorrect estimates and assumptions by management in connection with the preparation of our consolidated financial statements could adversely affect the reported assets, liabilities, income and expenses.
Incorrect estimates and assumptions by management in connection with the preparation of our consolidated financial statements could adversely affect the reported amounts of assets and liabilities and the reported amounts of income and expenses. The preparation of our consolidated financial statements requires management to make certain critical accounting estimates and assumptions that could affect the reported amounts of assets and liabilities and the reported amounts of income and expense during the reporting periods. A description of our critical accounting estimates and assumptions may be found in Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Estimates” and in “Note 2 — Significant Accounting Policies.” If we make incorrect assumptions or estimates, we may under- or overstate reported financial results, which could materially and adversely affect our business, financial condition and results of operations.
Acquisitions or strategic investments that we pursue may not be successful and could disrupt our business, harm our financial condition or reduce our earnings.
We may consider or undertake strategic acquisitions of, or material investments in, businesses, products, or portfolios of loans. We may not be able to identify suitable opportunities and, if not, some of our strategies could fail. We may not be able to obtain necessary financing on satisfactory terms. We may not be able obtain necessary regulatory approvals or complete the transactions on appropriate terms. If we pay the purchase price of any acquisition or investment in cash, it may have an adverse effect on our financial condition; if the purchase price is paid with our stock, it could be dilutive to our shareholders. We may assume liabilities, including unrecorded liabilities that are not discovered at the time of the transaction, and the repayment of those liabilities may have an adverse effect on our financial condition.
We may not be able to successfully integrate personnel, operations, businesses, products, or technologies of an acquisition. There may be additional risks if we enter into a line of business in which we have limited experience or the business operates in a legal, regulatory or competitive environment with which we are not familiar. We may not have or be able to maintain the expertise needed to manage the new business. Acquisitions and investments also may not perform to our expectations for various reasons, including the loss of key personnel, customers or vendors. If we fail to integrate acquisitions or investments or realize the expected benefits, we may lose the return on these acquisitions or investments or incur additional transaction costs, and our business and financial condition may be harmed as a result.
Competition
We operate in a competitive environment. Our product offerings are primarily concentrated in loan and savings products for higher education.
We compete in the private credit lending business with banks and other consumer lending institutions, many with strong consumer brand name recognition and greater financial resources. We compete based on our products, origination capability and customer service. To the extent our competitors compete aggressively or more effectively, we could lose market share to them or subject our existing loans to refinancing risk. Our product offerings may not prove to be profitable and may result in higher than expected losses.
We are a leading provider of saving- and paying-for-college products and programs. This concentration gives us a competitive advantage in the marketplace. This concentration also creates risks in our business, particularly in light of our concentrations as a Private Education Loan lender and as a servicer for the FFELP and DSLP. If population demographics result in a decrease in college-age individuals, if demand for higher education decreases, if the cost of attendance of higher education decreases, if public resistance to higher education costs increases, or if the demand for higher education loans decreases, our consumer lending business could be negatively affected. In addition, the federal government, through the DSLP, poses significant competition to our
19
Table of Contents
private credit loan products. If loan limits under the DSLP increase, DSLP loans could be more widely available to students and their families and DSLP loans could increase, resulting in further decreases in the size of the Private Education Loan market and demand for our Private Education Loan products.
Credit and Counterparty
Unexpected and sharp changes in the overall economic environment may negatively impact the performance of our loan and credit portfolios.
Unexpected changes in the overall economic environment, including unemployment, may result in the credit performance of our loan portfolio being materially different from what we expect. Our earnings are critically dependent on the expected future creditworthiness of our student loan customers. We maintain a reserve for credit losses based on expected future charge-offs which considers many factors, including levels of past due loans and forbearances and expected economic conditions. However, management’s determination of the appropriate reserve level may under- or over-estimate future losses. If the credit quality of our customer base materially decreases, if a market risk changes significantly, or if our reserves for credit losses are not adequate, our business, financial condition and results of operations could suffer.
In addition to the credit risk associated with our education loan customers, we are also subject to the creditworthiness of other third parties, including counterparties to our derivative transactions. For example, we have exposure to the financial condition of various lending, investment and derivative counterparties. If any of our counterparties is unable to perform its obligations, we could, depending on the type of counterparty arrangement, experience a loss of liquidity or an economic loss. In addition, we might not be able to cost effectively replace the derivative position depending on the type of derivative and the current economic environment, and thus be exposed to a greater level of interest rate and/or foreign currency exchange rate risk which could lead to additional losses. Our counterparty exposure is more fully discussed in Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Counterparty Exposure.” If our counterparties are unable to perform their obligations, our business, financial condition and results of operations could suffer.
Legal, Regulatory and Compliance
Delays and continuing uncertainties surrounding the ultimate scope and implementation by regulators of various provisions of the Dodd-Frank Act make us unable to assess the risks and implications that implementation and enforcement of the law or related regulations applicable to our business could have on our profitability, results of operations, financial condition, cash flows or future business prospects.
The Dodd-Frank Act contains comprehensive provisions to govern the practices and oversight of financial institutions (including large non-bank financial institutions) and other participants in the financial markets. It imposes significant regulations on almost every aspect of the U.S. financial services industry, including increased capital and liquidity requirements, limits on leverage and enhanced supervisory authority, and on our various businesses. Many of the Dodd-Frank Act’s provisions have become effective but many remain subject to formal implementation by regulatory agencies through final rulemaking. The CFPB and other financial regulators have introduced and continue to introduce new regulations and guidance, even as they impose enforcement actions against financial institutions and financial service providers which often contain additional cautions and guidance which must be taken into consideration. Due to the uncertainty of these pending regulations, guidance and actions, we are unable to predict the nature, extent or impact of any further changes or additions to statutes, regulations or practices. Consequently, we are also not able to estimate their ultimate impact on our financial results, business operations or strategies. We continue to believe our costs of compliance with these evolving laws and regulations, as well as any guidance from enforcement actions, will likely continue to increase, as will the risk of penalties and fines from any enforcement actions that may be imposed on our businesses. Consequently, our profitability, results of operations, financial condition, cash flows or future business prospects could be materially and adversely affected as a result.
20
Table of Contents
The CFPB is now exercising the full authority provided to it by the Dodd-Frank Act although much uncertainty remains about how this authority will be implemented or utilized. A number of our businesses will likely be subject to new rules and regulations not yet proposed or finalized and we may face complaints and challenges to our practices from the CFPB or state regulatory counterparts.
In July 2011, responsibility for many consumer financial protection functions formerly assigned to the federal banking and other agencies were transferred to the CFPB. The CFPB now has broad authority with respect to many of the businesses in which we engage. It has authority to write regulations under federal consumer financial protection laws, and to directly or indirectly enforce those laws and examine financial institutions for compliance. Moreover, the CFPB has examination and enforcement authority with respect to certain federal consumer financial laws for some providers of consumer financial products and services, including the Bank. It is authorized to collect fines and provide consumer restitution in the event of violations, engage in consumer financial education, track consumer complaints, request data and promote the availability of financial services to underserved consumers and communities. The CFPB has authority to prevent unfair, deceptive or abusive acts or practices and to ensure that all consumers have access to fair, transparent and competitive markets for consumer financial products and services. The review of products and practices to prevent unfair, deceptive or abusive conduct will be a continuing focus of the CFPB and banking regulators more broadly. The ultimate impact of this heightened scrutiny is uncertain, but it has resulted in, and could continue to result in, changes to pricing, practices, products and procedures. It could also result in increased costs related to regulatory oversight, supervision and examination, additional remediation efforts and possible penalties.
The Dodd-Frank Act authorizes state officials to enforce regulations issued by the CFPB and to enforce the Dodd-Frank Act’s general prohibition against unfair, deceptive or abusive practices, and makes it more difficult than in the past for federal financial regulators to declare state laws that differ from federal standards preempted. To the extent states enact requirements that differ from federal standards or state officials and courts adopt interpretations of federal consumer laws that differ from those adopted by the CFPB, our compliance costs could increase and reduce our ability to offer the same products and services to consumers nationwide and we may be subject to a higher risk of state enforcement actions.
The scope and profitability of our businesses remain subject to risks arising from legislative and administrative actions. We cannot estimate the timing, method of implementation or likelihood of passage of any of the Congressional or administrative proposals that may affect our businesses, nor anticipate their ultimate content. However, the adoption and implementation of any such proposals, individually or in combination, could significantly increase our costs, affect our ability to service and collect loans, significantly alter whether or not we remain in certain businesses and the form in which we do so and materially and adversely impact our business, financial condition and results of operations.
Private Education Loans
The CFPB’s July 2012 Report on this industry provided a number of recommendations including mandatory school certification that loan amounts not exceed student need, reconsideration by Congress of federal Bankruptcy Code’s treatment of Private Education Loans and determine if more and better information is needed to inform consumer decision-making and lender underwriting. In the future Congress or the Administration may act on these recommendations or choose to take actions beyond or unrelated to the CFPB’s recommendations to further regulate the Private Education Loan market or dictate the terms and conditions applicable to Private Education Loans. The taking of any such actions may adversely impact the profitability and growth of our business and/or significantly alter the costs and manner in which we choose to conduct this business.
FFELP Loans and FFELP-Related Services
Despite the end of FFELP, Congress, ED and the Administration still exercise significant authority over the servicing and administration of existing FFELP Loans. Because of the ongoing uncertainty around efforts to
21
Table of Contents
reduce the federal budget deficit, the timing, method and manner of implementation of various education lending initiatives has become less predictable. For example, in early 2012 the Administration by executive authority implemented a Special Direct Consolidation Loan Initiative, which had initially been included in the Administration’s 2011 budget not passed by Congress. This initiative provided a temporary incentive to certain borrowers to consolidate their FFELP Loans into the DSLP program by providing interest rate reductions on FFELP loans eligible for consolidation. This program ended on June 30, 2012. Approximately $5 billion of our loans were consolidated to ED in 2012 under this initiative. The President’s fiscal 2014 budget is expected to be released in March. Previous budgets included a number of education lending-related initiatives, including a proposed reduction in payments by ED to service providers assisting students with the rehabilitation of defaulted FFELP Loans. If proposals such as these are included in the 2014 budget and passed by Congress, they have the potential to reallocate federal funding and appropriations in ways that could be detrimental to our businesses.
For additional information on the potential implications of Congressional and Administration actions with respect to federal budget funding generally, see Item 1A “Risk Factors — Operations — Federal funding constraints and spending policy changes triggered by associated federal spending deadlines may result in disruption of federal payments for services we provide to the government, which could materially and adversely affect our business strategy or future business prospects.”
Consumer Banking
Banks chartered as industrial banks under various state laws have long been statutorily exempt from the requirements of the Bank Holding Company Act of 1956, as amended (the “BHCA”). Our Bank is an industrial bank chartered under the laws of the state of Utah, regulated by the UDFI and the FDIC, and whose deposits are insured by the FDIC. Various federal banking authorities, including the FRB and the FDIC, as well as members of Congress, have frequently objected to the continuation of the statutory exemption of industrial banks from the BHCA and the FDIC has, from time to time, voluntarily placed moratoriums on accepting new applications for federal deposit insurance by industrial banks. The Dodd-Frank Act statutorily placed a moratorium on the approval of new applications for federal deposit insurance and on certain changes in control of existing industrial banks. This moratorium will expire in July 2013. We have no way of knowing whether this statutory moratorium will be further extended legislatively by Congress or administratively by the FDIC or whether its expiration will lead to reconsideration and revisions to the manner in which industrial banks are regulated. If the industrial bank exemption to the BHCA were to be repealed, the costs of SLM Corporation becoming and remaining compliant with the provisions of the BHCA, including the new minimum capital requirements imposed on us at the consolidated level, would be material. If the BHCA were determined to be applicable to SLM Corporation it would become subject to the same prudential and regulatory standards described below applicable to bank holding companies with $50 billion or more in consolidated assets. Being subjected to these requirements would have a material impact on our business, results of operations and financial condition.
The FSOC could designate SLM Corporation as a systemically important non-bank financial company to be supervised by the FRB. Designation of SLM Corporation as a so-called “SIFI” would impose significant additional statutorily–defined monitoring and compliance regimes on our business and could significantly increase the levels of risk-based capital and highly liquid assets we are required to hold. Required implementation of some or all of the measures currently proposed by the FRB to be applicable to SIFIs would have a material impact on our business, results of operations and financial condition.
As directed by the Dodd-Frank Act, on April 3, 2012, FSOC approved the final rule and interpretive guidance regarding the designation of non-bank financial companies as SIFIs. If designated as a SIFI, a non-bank financial company will be supervised by the FRB and be subject to enhanced prudential supervision and regulatory standards. The new rule sets forth a three-stage determination process for designating non-bank SIFIs. In Stage 1, FSOC would apply a set of uniform quantitative criteria to determine the non-bank financial companies that will be subject to further evaluation. Based on its financial condition as of December 31, 2012, SLM Corporation would meet the criteria in Stage 1 and would be subject to further evaluation by FSOC in the SIFI determination process. Because Stages 2 and 3 involve qualitative judgment by FSOC, we cannot predict
22
Table of Contents
whether SLM Corporation will be designated as a SIFI under the rule. For a further discussion of our belief as to the limited risk SLM Corporation poses to the financial stability of the United States, see Item 1 “Business — Supervision and Regulation — Regulatory Outlook — Regulation of Systemically Important Non-Bank Financial Companies.”
In December 2011, the FRB proposed enhanced prudential supervisory and regulatory standards that would require bank holding companies with $50 billion or more in consolidated assets, as well as SIFIs, to, among other things:
| • | Have a minimum Tier 1 common risk-based capital ratio of 5 percent and under stressed conditions pursuant to the FRB’s capital plan rule, meet the bank regulatory capital and leverage requirements applicable to bank holding companies, subject to any case-by-case exceptions as the FRB might approve; |
| • | Comply with formal regulatory liquidity standards and hold highly liquid assets on hand sufficient to survive a projected 30-day liquidity stress event; |
| • | Be subject to new liquidity risk management and governance requirements, approval of liquidity risk models, and implementation of liquidity monitoring and compliance regimes; |
| • | Employ a chief risk officer to report directly to the chief executive officer and maintain a designated risk committee of the Board of Directors; |
| • | Be subject to periodic company and FRB-run supervisory stress tests; and |
| • | Periodically report to the FDIC and FRB on plans for rapid and orderly resolution of company affairs in the event of a material financial distress or failure. |
We are not currently subject to consolidated capital requirements though we maintain significantly higher capital levels against our Private Education Loans. Unless an exception were made to recognize the unique, federally insured nature of FFELP Loans, if we were designated as a SIFI or a bank holding company with $50 billion or more in consolidated assets, our capital requirements would significantly increase. While we maintain our own contingency funding plans and conduct our own internal periodic stress tests, we have never been subject to an FRB supervised stress test nor have we developed a plan for orderly resolution of the scope and magnitude currently being demanded of large bank holding companies. Complying with these measures and implementing any or all of these monitoring and compliance requirements could significantly increase our cost of doing business and the levels of capital and liquidity we are required to hold and, consequently, have a material and adverse impact on our business, results of operations and financial condition.
Our businesses are regulated by various state and federal laws and regulations, and our failure to comply with these laws and regulations may result in significant costs, sanctions, litigation or the loss of insurance and guarantees on affected FFELP Loans.
Our businesses are subject to numerous state and federal laws and regulations and our failure to comply with these laws and regulations may result in significant costs, including litigation costs, and/or business sanctions. In addition, changes to such laws and regulations could adversely impact our business and results of operations if we are not able to adequately mitigate the impact of such changes.
Our consumer lending and debt collection businesses are subject to regulation and oversight by various state and federal agencies, particularly in the area of consumer protection. In addition, in October 2012, the CFPB issued its final debt collection larger participation rule and examination procedures that will allow the CFPB to federally supervise larger consumer debt collectors for the first time, including our collection subsidiaries. Some state attorneys general continue to be active in this area of consumer protection regulation. We are subject, and may be subject in the future, to inquiries and audits from state and federal regulators as well as frequent litigation from private plaintiffs.
23
Table of Contents
The Bank is subject to state and FDIC regulation, oversight and regular examination, including by the CFPB. The FDIC and state regulators have the authority to impose fines, penalties or other limitations on the Bank’s operations should they conclude that its operations are not compliant with applicable laws and regulations. At the time of this filing, the Bank is subject to a cease and desist order for weaknesses in its compliance function. While we believe the issues addressed in the order have largely been remediated, the order has not yet been lifted. Our failure to comply with various laws and regulations or with the terms of the cease and desist order or to have issues raised during an examination could result in litigation expenses, fines, business sanctions, and limitations on our ability to fund our Private Education Loans, which are currently funded by deposits raised by the Bank, or restrictions on the operations of the Bank. The imposition of fines, penalties or other limitations on the Bank’s business could materially and adversely impact our business, financial condition and results of operations.
Loans serviced under the FFELP are subject to the HEA and related regulations. Our servicing operations are designed and monitored to comply with the HEA, related regulations and program guidance; however, ED could determine that we are not in compliance for a variety of reasons, including that we misinterpreted ED guidance or incorrectly applied the HEA and its related regulations or policies. Failure to comply could result in fines, the loss of the insurance and related federal guarantees on affected FFELP Loans, expenses required to cure servicing deficiencies, suspension or termination of our right to participate as a servicer, negative publicity and potential legal claims. A summary of the FFELP may be found in Appendix A “Federal Family Education Loan Program.” The imposition of significant fines, the loss of the insurance and related federal guarantees on a material number of FFELP Loans, the incurrence of additional expenses and/or the loss of our ability to participate as a FFELP servicer could individually or in the aggregate have a material, negative impact on our business, financial condition or results of operations.
Our ability to continue to grow our businesses related to contracting with state and federal governments is partly reliant on our ability to remain compliant with the laws and regulations applicable to those contracts.
We are subject to a variety of laws and regulations related to our government contracting businesses, including our contracts with ED. In addition, these government contracts are subject to termination rights, audits and investigations. If we were found in noncompliance with the contract provisions or applicable laws or regulations, or the government exercised its termination or other rights for that or other reasons, our reputation could be negatively affected, and our ability to compete for new contracts could be diminished. If this were to occur, the future prospects, revenues and results of operations of this portion of our business could be negatively affected.
Our framework for managing risks may not be effective in mitigating our risk of loss.
Our risk management framework seeks to mitigate risk and appropriately balance risk and return. We have established processes and procedures intended to identify, measure, monitor, control and report the types of risk to which we are subject. We seek to monitor and control our risk exposure through a framework of policies, procedures, limits and reporting requirements. Management of risks in some cases depends upon the use of analytical and/or forecasting models. If the models that we use to mitigate these risks are inadequate, we may incur increased losses. In addition, there may be risks that exist, or that develop in the future, that we have not appropriately anticipated, identified or mitigated. If our risk management framework does not effectively identify or mitigate our risks, we could suffer unexpected losses and our financial condition and results of operations could be materially adversely affected.
| Item 1B. Unresolved | Staff Comments |
None.
24
Table of Contents
| Item 2. | Properties |
The following table lists the principal facilities owned by us as of December 31, 2012:
| Location |
Function | Business Segment(s) | Approximate Square Feet |
|||||
| Fishers, IN |
Loan Servicing and Data Center | Consumer Lending; Business Services; FFELP Loans | 450,000 | |||||
| Newark, DE |
Headquarters | Consumer Lending; Business Services; FFELP Loans; Other | 160,000 | |||||
| Wilkes-Barre, PA |
Loan Servicing Center | Consumer Lending; Business Services; FFELP Loans | 133,000 | |||||
| Indianapolis, IN |
Loan Servicing Center | Business Services | 100,000 | |||||
| Big Flats, NY |
GRC — Collections Center | Business Services | 60,000 | |||||
| Arcade, NY(1) |
Pioneer Credit Recovery — Collections Center |
Business Services | 46,000 | |||||
| Perry, NY |
Pioneer Credit Recovery — Collections Center |
Business Services | 45,000 | |||||
| (1) | In 2005, we entered into a ten-year lease with the Wyoming County Industrial Development Authority. This property reverts back to us in March 2015. |
The following table lists the principal facilities leased by us as of December 31, 2012:
| Location |
Function | Business Segment(s) | Approximate Square Feet |
|||||
| Reston, VA |
Administrative Offices | Consumer Lending; Business Services; FFELP Loans; Other | 90,000 | |||||
| Newark, DE |
Sallie Mae —Operations Center | Consumer Lending; Business Services; Other | 86,000 | |||||
| Niles, IL(1) |
N/A | N/A | 84,000 | |||||
| Newton, MA |
Upromise | Business Services | 78,000 | |||||
| Cincinnati, OH |
GRC Headquarters and Collections Center |
Business Services | 59,000 | |||||
| Muncie, IN |
Collections Center | Consumer Lending; Business Services | 54,000 | |||||
| Moorestown, NJ |
Pioneer Credit Recovery — Collections Center |
Business Services | 30,000 | |||||
| Kansas City, MO |
Upromise | Business Services | 21,000 | |||||
| Whitewater, WI(2) |
N/A | N/A | 16,000 | |||||
| Salt Lake City, UT |
Sallie Mae Bank | Consumer Lending | 11,000 | |||||
| (1) | Space vacated in 2011. Lease expires July 2013. |
| (2) | Space vacated in 2010 and space is partially subleased. Lease expires June 2014. |
None of the facilities that we own is encumbered by a mortgage. We believe that our headquarters, loan servicing centers, data center, back-up facility and data management and collections centers are generally adequate to meet our long-term student loan and business goals. Our headquarters are currently in owned space at 300 Continental Drive, Newark, Delaware, 19713.
25
Table of Contents
| Item 3. | Legal Proceedings |
Investor Litigation
In Re SLM Corporation ERISA Litigation. On May 8, 2008, a class action complaint was filed in U.S. District Court for the Southern District of New York against the Company, certain current and former officers, retirement plan fiduciaries, and the Board of Directors of the Company, formerly in the U.S. District Court for the Southern District of New York. The complaint alleged breaches of fiduciary duties and prohibited transactions in violation of the Employee Retirement Income Security Act arising out of alleged false and misleading public statements regarding our business made during the 401(K) Class Period and investments in our common stock by plan participants in the 401(K) Plans. The class consists of participants in or beneficiaries of the Sallie Mae 401(K) Retirement Savings Plan and Sallie Mae 401(k) Savings Plan (together, the “401K Plans”) between January 18, 2007 and “the present” whose accounts included investments in our common stock (“401K Class Period”). On September 24, 2010, the District Court dismissed the complaint. The Plaintiffs appealed to the U.S. Court of Appeals for the Second Circuit; however, on December 26, 2012, the Second Circuit affirmed the District Court’s dismissal of the complaint.
Lending and Collection Litigation and Investigations
Mark A. Arthur et al. v. Sallie Mae, Inc. On February 2, 2010, a class action lawsuit was filed by a borrower in U.S. District Court for the Western District of Washington alleging that we contacted consumers on their cellular telephones via autodialer without their consent in violation of the Telephone Consumer Protection Act, 47 U.S.C. § 227 et seq. (“TCPA”). On October 7, 2011, we entered into an amended settlement agreement under which the Company agreed to a settlement fund of $24.15 million. On December 5, 2012, the U.S. Court of Appeals for the Ninth Circuit dismissed an appeal filed by two individual objectors. We have denied vigorously all claims asserted against us, but agreed to settle to avoid the burden, expense, risk and uncertainty of continued litigation.
We and our subsidiaries and affiliates also are subject to various claims, lawsuits and other actions that arise in the normal course of business. Most of these matters are claims by borrowers disputing the manner in which their loans have been processed or the accuracy of our reports to credit bureaus. In addition, our collections subsidiaries are routinely named in individual plaintiff or class action lawsuits in which the plaintiffs allege that those subsidiaries have violated a federal or state law in the process of collecting their accounts. We believe that these claims, lawsuits and other actions will not have a material adverse effect on our business, financial condition or results of operations. Finally, from time to time, we and our subsidiaries and affiliates receive information and document requests from state attorneys general, legislative committees and administrative agencies concerning certain business practices. Our practice has been and continues to be to cooperate with these bodies and to be responsive to any such requests.
| Item 4. | Mine Safety Disclosures |
N/A
26
Table of Contents
PART II.
| Item 5. | Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |
Our common stock is listed and traded on the NASDAQ Global Select Market under the symbol SLM since December 12, 2011. Previously, our common stock was listed and traded on the New York Stock Exchange. As of January 31, 2013, there were 453,341,352 shares of our common stock outstanding and 451 holders of record. The following table sets forth the high and low sales prices for our common stock for each full quarterly period within the two most recent fiscal years.
Common Stock Prices
| 1st Quarter | 2nd Quarter | 3rd Quarter | 4th Quarter | |||||||||||||||
| 2012 |
High | $ | 16.89 | $ | 15.96 | $ | 16.94 | $ | 17.99 | |||||||||
| Low | 13.11 | 12.85 | 15.07 | 15.75 | ||||||||||||||
| 2011 |
High | $ | 15.60 | $ | 17.11 | $ | 17.11 | $ | 14.53 | |||||||||
| Low | 12.61 | 14.40 | 11.60 | 10.91 | ||||||||||||||
We paid quarterly cash dividends on our common stock of $.10 per share for the last three quarters of 2011, and $.125 per share for the four quarters of 2012.
Issuer Purchases of Equity Securities
The following table provides information relating to our purchase of shares of our common stock in the three months ended December 31, 2012.
| Total Number of Shares Purchased(1) |
Average Price Paid per Share |
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(2) |
Approximate Dollar Value of Shares that May Yet Be Purchased Under Publicly Announced Plans or Programs(2) |
|||||||||||||
| (In millions, except per share data) |
||||||||||||||||
| Period: |
||||||||||||||||
| October 1 – October 31, 2012 |
5.8 | $ | 17.06 | 5.4 | $ | 79 | ||||||||||
| November 1 – November 30, 2012 |
4.8 | 17.57 | 4.5 | — | ||||||||||||
| December 1 – December 31, 2012 |
.1 | 17.00 | — | — | ||||||||||||
|
|
|
|
|
|
|
|||||||||||
| Total fourth quarter |
10.7 | $ | 17.29 | 9.9 | ||||||||||||
|
|
|
|
|
|
|
|||||||||||
| (1) | The total number of shares purchased includes: (i) shares purchased under the stock repurchase program discussed below and (ii) shares of our common stock tendered to us to satisfy the exercise price in connection with cashless exercise of stock options, and tax withholding obligations in connection with exercise of stock options and vesting of restricted stock and restricted stock units. |
| (2) | On January 26, 2012, our board of directors authorized us to purchase up to $500 million of shares of our common stock. An additional $400 million of purchases was authorized on May 24, 2012. |
27
Table of Contents
Stock Performance
The following graph compares the yearly change in our cumulative total shareholder return on our common stock to that of Standard & Poor’s 500 Stock Index and Standard & Poor’s Financials Index. The graph assumes a base investment of $100 at December 31, 2007 and reinvestment of dividends through December 31, 2012.
Five Year Cumulative Total Shareholder Return
| Company/Index |
12/31/07 | 12/31/08 | 12/31/09 | 12/31/10 | 12/31/11 | 12/31/12 | ||||||||||||||||||
| SLM Corporation |
$ | 100.0 | $ | 44.2 | $ | 56.0 | $ | 62.5 | $ | 67.9 | $ | 89.7 | ||||||||||||
| S&P 500 Financials |
100.0 | 44.7 | 52.4 | 58.8 | 48.8 | 62.9 | ||||||||||||||||||
| S&P Index |
100.0 | 63.0 | 79.7 | 91.7 | 93.6 | 108.6 | ||||||||||||||||||
Source: Bloomberg Total Return Analysis
28
Table of Contents
| Item 6. | Selected Financial Data |
Selected Financial Data 2008-2012
(Dollars in millions, except per share amounts)
The following table sets forth our selected financial and other operating information prepared in accordance with GAAP. The selected financial data in the table is derived from our consolidated financial statements. The data should be read in conjunction with the consolidated financial statements, related notes, and Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
| 2012 | 2011 | 2010 | 2009 | 2008 | ||||||||||||||||
| Operating Data: |
||||||||||||||||||||
| Net interest income |
$ | 3,208 | $ | 3,529 | $ | 3,479 | $ | 1,723 | $ | 1,365 | ||||||||||
| Net income (loss) attributable to SLM Corporation: |
||||||||||||||||||||
| Continuing operations, net of tax |
$ | 938 | $ | 600 | $ | 597 | $ | 544 | $ | 2 | ||||||||||
| Discontinued operations, net of tax |
1 | 33 | (67 | ) | (220 | ) | (215 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Net income (loss) attributable to SLM Corporation |
$ | 939 | $ | 633 | $ | 530 | $ | 324 | $ | (213 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Basic earnings (loss) per common share attributable to SLM Corporation: |
||||||||||||||||||||
| Continuing operations |
$ | 1.93 | $ | 1.13 | $ | 1.08 | $ | .85 | $ | (.23 | ) | |||||||||
| Discontinued operations |
— | .06 | (.14 | ) | (.47 | ) | (.46 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total |
$ | 1.93 | $ | 1.19 | $ | .94 | $ | .38 | $ | (.69 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Diluted earnings (loss) per common share attributable to SLM Corporation: |
||||||||||||||||||||
| Continuing operations |
$ | 1.90 | $ | 1.12 | $ | 1.08 | $ | .85 | $ | (.23 | ) | |||||||||
| Discontinued operations |
— | .06 | (.14 | ) | (.47 | ) | (.46 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total |
$ | 1.90 | $ | 1.18 | $ | .94 | $ | .38 | $ | (.69 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Dividends per common share attributable to SLM Corporation common shareholders |
$ | .50 | $ | .30 | $ | — | $ | — | $ | — | ||||||||||
| Return on common stockholders’ equity |
21 | % | 14 | % | 13 | % | 5 | % | (9 | )% | ||||||||||
| Net interest margin |
1.78 | 1.85 | 1.82 | 1.05 | .93 | |||||||||||||||
| Return on assets |
.52 | .33 | .28 | .20 | (.14 | ) | ||||||||||||||
| Dividend payout ratio |
26 | 25 | — | — | — | |||||||||||||||
| Average equity/average assets |
2.69 | 2.54 | 2.47 | 2.96 | 3.45 | |||||||||||||||
| Balance Sheet Data: |
||||||||||||||||||||
| Student loans, net |
$ | 162,546 | $ | 174,420 | $ | 184,305 | $ | 143,807 | $ | 144,802 | ||||||||||
| Total assets |
181,260 | 193,345 | 205,307 | 169,985 | 168,768 | |||||||||||||||
| Total borrowings |
172,257 | 183,966 | 197,159 | 161,443 | 160,158 | |||||||||||||||
| Total SLM Corporation stockholders’ equity |
5,060 | 5,243 | 5,012 | 5,279 | 4,999 | |||||||||||||||
| Book value per common share |
9.92 | 9.20 | 8.44 | 8.05 | 7.03 | |||||||||||||||
| Other Data: |
||||||||||||||||||||
| Off-balance sheet securitized student loans, net |
$ | — | $ | — | $ | — | $ | 32,638 | $ | 35,591 | ||||||||||
29
Table of Contents
| Item 7. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
The following discussion and analysis should be read in conjunction with our Consolidated Financial Statements and related Notes included elsewhere in this Annual Report on Form 10-K. This discussion and analysis also contains forward-looking statements and should also be read in conjunction with the disclosures and information contained in “Forward-Looking and Cautionary Statements” and Item 1A “Risk Factors” in this Annual Report on 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.
Overview
Our primary business is to originate, service and collect loans we make to students and their families to finance the cost of education. The core of our marketing strategy is to generate student loan originations by promoting our products on campus through the financial aid office and through direct marketing to students and their families. We also provide servicing, loan default aversion and defaulted loan collection services for loans owned by other institutions, including ED, as well as providing processing capabilities to educational institutions, 529 college-savings plan program management services and a consumer savings network.
In addition we are the largest holder, servicer and collector of loans made under FFELP, a program that was discontinued in 2010.
We monitor and assess our ongoing operations and results based on the following four reportable segments:
(1) Consumer Lending, (2) Business Services, (3) FFELP Loans and (4) Other.
Consumer Lending Segment
In this segment, we originate, acquire, finance and service Private Education Loans. The Private Education Loans we make are primarily to bridge the gap between the cost of higher education and the amount funded through financial aid, federal loans or customers’ resources. In this segment, we earn net interest income on the Private Education Loan portfolio (after provision for loan losses) as well as servicing fees, primarily late fees.
Business Services Segment
Our Business Services segment generates the majority of its revenue from servicing our FFELP Loan portfolio. We also provide servicing, loan default aversion and defaulted loan collection services for loans on behalf of Guarantors of FFELP Loans and other institutions, including ED, as well as processing capabilities to educational institutions and 529 college-savings plan programs. We also operate a consumer savings network that provides financial rewards on everyday purchases to help families save for college.
FFELP Loans Segment
Our FFELP Loans segment consists of our $125.6 billion FFELP Loan portfolio and underlying debt and capital funding these loans. Even though FFELP Loans are no longer originated we continue to seek to acquire FFELP Loan portfolios to leverage our servicing scale to generate incremental earnings and cash flow. This segment is expected to generate significant amounts of cash as the FFELP portfolio amortizes.
30
Table of Contents
Other
Our Other segment primarily consists of activities of our holding company, including the repurchase of debt, the corporate liquidity portfolio and all overhead. We also include results from smaller wind-down and discontinued operations within this segment.
Key Financial Measures
Our operating results are primarily driven by net interest income from our student loan portfolios (which include financing costs), provision for loan losses, the revenues and expenses generated by our service businesses, and gains and losses on loan sales and debt repurchases. We manage and assess the performance of each business segment separately as each is focused on different customers and each derives its revenue from different activities and services. A brief summary of our key financial measures are listed below.
Net Interest Income
The most significant portion of our earnings is generated by the spread earned between the interest income we receive on assets in our student loan portfolios and the interest expense on debt funding these loans. We report these earnings as net interest income. Net interest income in our Consumer Lending and FFELP Loans segments are driven by significantly different factors.
Consumer Lending Segment
Net interest income in this segment is determined by the balance of Private Education Loans outstanding, Private Education Loan asset yields (determined by interest rates we establish based upon the credit of the customer and any cosigner) and the level of price competition in the Private Education Loan market less our cost of funds. As of December 31, 2012, we had $36.9 billion of Private Education Loans outstanding. In 2012, we originated $3.3 billion of Private Education Loans, up 22 percent from $2.7 billion in the prior year. The majority of our Private Education Loans earn variable rate interest and are funded primarily with variable rate liabilities. The Consumer Lending segment’s “Core Earnings” net interest margin was 4.13 percent in 2012 compared with 4.09 percent in 2011. Our cost of funds can be influenced by a number of factors including the quality of the loans in our portfolio, our corporate credit rating, general economic conditions, investor demand for Private Education Loan asset-backed securities (“ABS”) and corporate unsecured debt and competition in the deposit market. At December 31, 2012, 52 percent of our Private Education Loan portfolio was funded to term with non-recourse, long-term securitization debt.
FFELP Loans Segment
Net interest income will be the primary source of cash flow generated by this segment over the next 20 years as this portfolio amortizes. Interest earned on our FFELP Loans is indexed to one-month LIBOR rates and our cost of funds is primarily indexed to three-month LIBOR, creating the possibility of repricing risk related to these assets. The FFELP Loans segment’s “Core Earnings” net interest margin was 0.84 percent in 2012 compared with 0.98 percent in 2011.
The major source of variability in net interest income is expected to be Floor Income we earn on certain FFELP Loans. Pursuant to the terms of the FFELP, certain FFELP Loans continue to earn interest at the stated fixed rate of interest as underlying debt costs decrease. We refer to this additional spread income as “Floor Income.” Floor Income can be volatile. We frequently hedge this volatility by selling Floor Income Contracts which lock in the value of the Floor Income over the term of the contract.
At December 31, 2012, 82 percent of our FFELP Loan portfolio was funded to term with non-recourse, long-term securitization debt.
31
Table of Contents
Provisions for Loan Losses
Management estimates and maintains an allowance for loan losses at a level sufficient to cover charge-offs expected over the next two years, plus an additional allowance to cover life-of-loan expected losses for loans classified as a troubled debt restructuring (“TDR”). The provision for loan losses increases the related allowance for loan losses. Generally, the allowance for loan losses rises when charge-offs are expected to increase and falls when charge-offs are expected to decline. Our loss exposure and resulting provision for losses is small for FFELP Loans because we generally bear a maximum of three percent loss exposure on them. We bear the full credit exposure on our Private Education Loans. Our provision for losses in our FFELP Loans segment was $72 million in 2012 compared with $86 million in 2011. Losses in our Consumer Lending segment are determined by risk characteristics such as school type, loan status (in-school, grace, forbearance, repayment and delinquency), loan seasoning (number of months in active repayment), underwriting criteria (e.g., credit scores), a cosigner and the current economic environment. Our provision for loan losses in our Consumer Lending segment was $1.0 billion in 2012 compared with $1.2 billion in 2011.
Charge-Offs and Delinquencies
When we conclude a loan is uncollectible, the unrecoverable portion of the loan is charged against the allowance for loan losses in the applicable segment. Charge-off data provides relevant information with respect to the performance of our loan portfolios. Management focuses on delinquencies as well as the progression of loans from early to late stage delinquency. The Consumer Lending segment’s charge-off rate was 3.37 percent of loans in repayment in 2012 compared with 3.72 percent of loans in repayment in 2011. Delinquencies are a very important indicator of the potential future credit performance. Private Education Loan delinquencies as a percentage of Private Education Loans in repayment decreased from 10.1 percent at December 31, 2011 to 9.3 percent at December 31, 2012.
Servicing and Contingency Revenues
We earn servicing revenues from servicing student loans, Campus Solutions, and from account asset servicing related to 529 college-savings plans. We earn contingency revenue related to default aversion and contingency collections work we perform primarily on federal loans. The fees we recognize are primarily driven by our success in collecting or rehabilitating defaulted loans, the number of transactions processed and the underlying volume of loans we are servicing on behalf of others.
Other Income / (Loss)
In managing our loan portfolios and funding sources we periodically engage in sales of loans and the repurchase of our outstanding debt. In each case, depending on market conditions, we may incur gains or losses from these transactions that affect our results from operations.
Operating Expenses
The operating expenses reported for our Consumer Lending and Business Services segments are those that are directly attributable to the generation of revenues by those segments. The operating expenses for the FFELP Loans segment primarily represent an intercompany servicing charge from the Business Services segment and do not reflect our actual underlying costs incurred to service the loans. We have included corporate overhead expenses and certain information technology costs (together referred to as “Overhead”) in our Other segment rather than allocate those expenses by segment. Overhead expenses include executive management, the board of directors, accounting, finance, legal, human resources, stock-based compensation expense and certain information technology and infrastructure costs.
32
Table of Contents
Core Earnings
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. “Core Earnings” is the basis in which we prepare our segment disclosures as required by GAAP under ASC 280 “Segment Reporting” (see “Note 16 — Segment Reporting”). For a full explanation of the contents and limitations of “Core Earnings,” see “‘Core Earnings’ —Definition and Limitations” of this Item 7.
2012 Summary of Results
We operate in a challenging economic environment marked by high unemployment and uncertainty which adds uncertainty to Private Education Loan collectibility. On July 1, 2010, the Health Care and Education Reconciliation Act of 2010 (“HCERA”) eliminated FFELP Loan originations, a major source of our net income. All federal loans to students are now made through the DSLP.
Our 2012 accomplishments are discussed below.
GAAP 2012 net income was $939 million ($1.90 diluted earnings per share), versus net income of $633 million ($1.18 diluted earnings per share) in the prior year. The changes in GAAP net income are driven by the same “Core Earnings” items discussed below as well as changes in “mark-to-market” unrealized gains and losses on derivative contracts and amortization and impairment of goodwill and intangible assets that are recognized in GAAP but not in “Core Earnings” results. In 2012 and 2011, GAAP results included losses of $194 million and $540 million, respectively, resulting from derivative accounting treatment which is excluded from “Core Earnings” results.
“Core Earnings” for the year were $1.06 billion compared with $977 million in 2011. “Core Earnings” were up due to an $81 million increase in debt repurchase gains, a $215 million lower loan loss provision and a $104 million reduction in operating expenses, offset in part by a $246 million decrease in net interest income.
During 2012, we raised $2.7 billion of unsecured debt and issued $9.7 billion of FFELP ABS and $4.2 billion of Private Education Loan ABS. We also repurchased $711 million of debt and realized “Core Earnings” gains of $145 million in 2012, compared with $894 million and $64 million, respectively, in 2011.
2012 Management Objectives
In 2012 we set out five major goals to create shareholder value. They were: (1) prudently grow Consumer Lending segment assets and revenue; (2) sustain Business Services segment revenue; (3) maximize cash flows from FFELP Loans; (4) reduce our operating expenses; and (5) improve our financial strength. We believe we achieved each of these objectives in 2012. The following describes our performance relative to each of our 2012 goals.
Prudently Grow Consumer Lending Segment Assets and Revenues
We continued to pursue managed growth in our Private Education Loan portfolio in 2012, exceeding our target with $3.3 billion in new originations for the year compared with $2.7 billion in 2011, a 22 percent increase. The average FICO score of our 2012 originations was 748 and 90 percent of the originated loans were cosigned. We have reduced our Private Education Loan charge-off rate and provision for loan losses in the three years since 2009. For the year ended December 31, 2012 compared with the year ended December 31, 2009, “Core Earnings” charge-off rates (as a percentage of loans in repayment) and “Core Earnings” provision for loan losses declined by 43 percent and 28 percent, respectively.
“Core Earnings” net interest margin increased from 4.09 percent to 4.13 percent. Charge-offs decreased to 3.37 percent of loans in repayment from 3.72 percent in 2011. Provision for loan losses decreased to $1.01 billion from $1.18 billion in 2011.
33
Table of Contents
Sustain Business Services Segment Revenue
Our Business Services segment generates the majority of its net income from servicing and collecting on our FFELP Loan portfolio and FFELP Loans for others. As a result of the elimination of FFELP in 2010, these revenues are in decline. In 2012 we worked to offset these declines through two primary means — pursuing additional growth and expansion of our non-FFELP-related servicing and collection businesses and seeking to increase the FFELP-related loan servicing and collection work we do for third parties. In 2012 we also targeted significant growth in the total assets under management in our 529 college-savings plans. For the year ended December 31, 2012, our Business Services segment revenue was down 5 percent from the year-ago period primarily due to the amortization of our FFELP Loan portfolio. While we considered several servicing acquisitions beyond the education loan market we chose not to pursue them. Nonetheless, in 2012 we did achieve meaningful growth in a number of Business Services activities:
| • | We are currently servicing approximately 4.3 million accounts under the ED Servicing Contract as of December 31, 2012 compared to 3.6 million accounts at December 31, 2011. Market share under the ED Servicing Contract is set annually based on the performance rankings of the four servicing companies that are parties to the contracts. For the current contract year ending August 15, 2013, our allocation of new customer loans awarded under the ED Servicing Contract is 15 percent. We are not pleased with our overall 2012 performance ranking and must remain focused on improving our performance relative to other servicers to increase our allocation for the next contract year. We plan to make these improvements by maintaining our focus on remaining a top performer in helping borrowers repay their loans and enhancing our customer experience, as further discussed below in our 2013 Management Objectives. |
| • | We provide collection services on defaulted student loans to ED. There are 21 other collection providers, of which we compete with 16 other providers for account allocation based on quarterly performance metrics. As a consistent top performer, first in the last quarterly performance metric, our share of allocated accounts has ranged from six percent to eight percent. |
Maximize Cash Flows from FFELP Loans
In 2012 we continued to purchase FFELP Loan portfolios from others. As cash flows from our existing FFELP Loans decline it becomes increasingly important that we reduce operating and overhead costs attributable to this segment. During 2012, we purchased $3.7 billion of FFELP Loans. We expect to make additional purchases during 2013. These acquisitions partially offset the approximately $5.2 billion of loans that were consolidated to ED in 2012 as part of their Special Direct Consolidation Loan Initiative (“SDCL”). See “Business Segment Earnings Summary — “Core Earnings” Basis — FFELP Loans Segment” for further discussion regarding the effect of the Special Direct Consolidation Loan Initiative.
Reduce Operating Expenses
In 2012 we remained focused on reducing operating expenses and achieved our 2012 cost-reduction goals. Our 2012 operating expenses were $996 million, a reduction from the $1.1 billion incurred in 2011.
Improve Our Financial Strength
It was management’s objective for 2012 to provide increased shareholder distributions while at the same time ending 2012 with a balance sheet and capital position as strong as or stronger than those with which we ended in 2011. We increased our regular quarterly common stock dividends to $0.125 per share in 2012, up from $0.10 per share for the last three quarters of 2011. During the year ended December 31, 2012, we repurchased 58 million shares of common stock, fully utilizing all $900 million of existing share repurchase authorizations. We did so while achieving $2.16 diluted “Core Earnings” per common share and maintaining our strong balance sheet and capital positions.
34
Table of Contents
In 2012 we issued $9.7 billion in FFELP ABS, $4.2 billion in Private Education Loan ABS and $2.7 billion of unsecured bonds, while reducing our total debt to $169 billion at December 31, 2012, compared to $181 billion at December 31, 2011.
2013 Outlook
In 2013, we expect to continue the operating strength we demonstrated in 2012. We plan to increase 2013 “Core Earnings,” including in our Consumer Lending segment primarily through increasing loan originations, improving Private Education Loan portfolio performance and reducing our unit costs. Credit losses within our Private Education Loan portfolio are primarily driven by the quality of loan originations and the general economic environment. We believe Private Education Loan charge-offs and provision for loan losses will continue their downward trend. The fourth-quarter 2012 repayment cohort, at $1.7 billion, had better FICO scores and higher cosigner rates than in previous years which should result in lower future losses. The underlying portfolio has continued to improve with 65 percent of the loans cosigned, less than 9 percent non-traditional and 79 percent of our customers currently in repayment greater than 12 months for which a scheduled monthly payment was due. In addition, the loans originated in 2012 had an average FICO score of 748 and were 90 percent cosigned; these statistics are our highest ever for an annual loan origination cohort.
We expect to remain an active participant in the capital markets in 2013. Our term ABS activity will feature multiple transactions backed by both FFELP collateral, primarily reducing the ED Conduit Program Facility (see Note 6, “Borrowings”), as well as Private Education Loan collateral. Recent transactions in all of the above mentioned categories have been met with strong demand and provide term financing which is a key component of our business model.
2013 Management Objectives
In 2013 we have set out five major goals to create shareholder value. They are: (1) prudently grow Consumer Lending segment assets and revenues; (2) maximize cash flows form FFELP Loans; (3) reduce operating expenses while improving efficiency and customer experience; (4) maintain our financial strength; and (5) expand the Bank’s capabilities. Here is how we plan to achieve these objectives:
Prudently Grow Consumer Lending Segment Assets and Revenues
We will continue to pursue managed growth in our Private Education Loan portfolio in 2013 by leveraging our Sallie Mae and Upromise brand while sustaining the credit quality of, and percentage of cosigners for, new originations. We are currently targeting at least $4 billion in new loan originations for 2013, compared with $3.3 billion in 2012. We will also continue to help our customers manage their borrowings and succeed in its payoff, which we expect will result in lower charge-offs and provision for loan losses.
Maximize Cash Flows from FFELP Loans
In 2013, we will continue to purchase additional FFELP Loan portfolios. In February 2013, we sold our ownership interest in one of our FFELP Consolidation Loan securitization trusts. We will continue to explore alternative transactions and structures that can increase our ability to maximize the value of our ownership interests in these trusts and allow us to diversify our holdings while maintaining servicing fee income. We must also continue to reduce operating and overhead costs attributable to the maintenance and management of this segment.
Reduce Operating Expenses While Improving Efficiency and Customer Experience
For 2013, we will reduce unit costs, and balance our Private Education Loan growth and the challenge of increased regulatory oversight. We also plan to improve efficiency and customer experience by replacing certain of our legacy systems and making enhancements to our self-service platform (such as an improved mobile interface) and call centers (including improved call segmentation that routes an in-bound customer call directly to the appropriate agent who can answer the customer’s inquiry).
35
Table of Contents
Maintain Our Financial Strength
In January 2013, we announced an increase in our quarterly common stock dividend to $0.15 per share and a new $400 million common share repurchase program. It is management’s objective for 2013 to provide these shareholder distributions while ending 2013 with capital and reserve positions as strong as those with which we ended 2012. We also plan to continue to issue FFELP ABS primarily to refinance our remaining FFELP loans in ED’s Conduit Program prior to the Conduit Program’s January 19, 2014 maturity date.
Expand Bank Capabilities
The Bank will fund our Private Education Loan originations in 2013. We will continue to evolve the operational and enterprise risk oversight program at the Bank in preparation for expected growth and designation as a “large bank,” which will entail enhanced regulatory scrutiny. In addition, we plan to voluntarily make similar changes at SLM Corporation. See Item 1 “Business — Supervision and Regulation — Regulatory Outlook — Evolving Regulation of the Bank” for additional information about the Bank’s regulatory environment once it becomes a “large bank.”
Results of Operations
We present the results of operations first on a consolidated basis in accordance with GAAP. As discussed earlier, we have four business segments, Consumer Lending, Business Services, FFELP Loans and Other. Since these segments operate in distinct business environments, the discussion following the Consolidated Earnings Summary is presented on a segment basis and is shown on a “Core Earnings” basis. See Item 1 “Business — Business Segments” for further discussion on the components of each segment.
36
Table of Contents
GAAP Consolidated Statements of Income
| Increase (Decrease) | ||||||||||||||||||||||||||||
| Years Ended December 31, | 2012 vs. 2011 | 2011 vs. 2010 | ||||||||||||||||||||||||||
| (Dollars in millions, except per share amounts) |
2012 | 2011 | 2010 | $ | % | $ | % | |||||||||||||||||||||
| Interest income |
||||||||||||||||||||||||||||
| FFELP Loans |
$ | 3,251 | $ | 3,461 | $ | 3,345 | $ | (210 | ) | (6 | )% | $ | 116 | 3 | % | |||||||||||||
| Private Education Loans |
2,481 | 2,429 | 2,353 | 52 | 2 | 76 | 3 | |||||||||||||||||||||
| Other loans |
16 | 21 | 30 | (5 | ) | (24 | ) | (9 | ) | (30 | ) | |||||||||||||||||
| Cash and investments |
21 | 19 | 26 | 2 | 11 | (7 | ) | (27 | ) | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Total interest income |
5,769 | 5,930 | 5,754 | (161 | ) | (3 | ) | 176 | 3 | |||||||||||||||||||
| Total interest expense |
2,561 | 2,401 | 2,275 | 160 | 7 | 126 | 6 | |||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Net interest income |
3,208 | 3,529 | 3,479 | (321 | ) | (9 | ) | 50 | 1 | |||||||||||||||||||
| Less: provisions for loan losses |
1,080 | 1,295 | 1,419 | (215 | ) | (17 | ) | (124 | ) | (9 | ) | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Net interest income after provisions for loan losses |
2,128 | 2,234 | 2,060 | (106 | ) | (5 | ) | 174 | 8 | |||||||||||||||||||
| Other income (loss): |
||||||||||||||||||||||||||||
| Gains (losses) on loans and investments, net |
— | (35 | ) | 325 | 35 | (100 | ) | (360 | ) | (111 | ) | |||||||||||||||||
| Losses on derivative and hedging activities, net |
(628 | ) | (959 | ) | (361 | ) | 331 | (35 | ) | (598 | ) | 166 | ||||||||||||||||
| Servicing revenue |
376 | 381 | 405 | (5 | ) | (1 | ) | (24 | ) | (6 | ) | |||||||||||||||||
| Contingency revenue |
356 | 333 | 330 | 23 | 7 | 3 | 1 | |||||||||||||||||||||
| Gains on debt repurchases |
145 | 38 | 317 | 107 | 282 | (279 | ) | (88 | ) | |||||||||||||||||||
| Other income |
92 | 68 | 6 | 24 | 35 | 62 | 1,033 | |||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Total other income (loss) |
341 | (174 | ) | 1,022 | 515 | (296 | ) | (1,196 | ) | (117 | ) | |||||||||||||||||
| Expenses: |
||||||||||||||||||||||||||||
| Operating expenses |
996 | 1,100 | 1,208 | (104 | ) | (9 | ) | (108 | ) | (9 | ) | |||||||||||||||||
| Goodwill and acquired intangible assets impairment and amortization expense |
28 | 24 | 699 | 4 | 17 | (675 | ) | (97 | ) | |||||||||||||||||||
| Restructuring expenses |
12 | 9 | 85 | 3 | 33 | (76 | ) | (89 | ) | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Total expenses |
1,036 | 1,133 | 1,992 | (97 | ) | (9 | ) | (859 | ) | (43 | ) | |||||||||||||||||
| Income from continuing operations, before income tax expense |
1,433 | 927 | 1,090 | 506 | 55 | (163 | ) | (15 | ) | |||||||||||||||||||
| Income tax expense |
497 | 328 | 493 | 169 | 52 | (165 | ) | (33 | ) | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Net income from continuing operations |
936 | 599 | 597 | 337 | 56 | 2 | — | |||||||||||||||||||||
| Income (loss) from discontinued operations, net of tax expense (benefit) |
1 | 33 | (67 | ) | (32 | ) | (97 | ) | 100 | 149 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Net income |
937 | 632 | 530 | 305 | 48 | 102 | 19 | |||||||||||||||||||||
| Less: net loss attributable to noncontrolling interest |
(2 | ) | (1 | ) | — | (1 | ) | 100 | (1 | ) | (100 | ) | ||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Net income attributable to SLM Corporation |
939 | 633 | 530 | 306 | 48 | 103 | 19 | |||||||||||||||||||||
| Preferred stock dividends |
20 | 18 | 72 | 2 | 11 | (54 | ) | (75 | ) | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Net income attributable to SLM Corporation common stock |
$ | 919 | $ | 615 | $ | 458 | $ | 304 | 49 | % | $ | 157 | 34 | % | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Basic earnings (loss) per common share attributable to SLM Corporation: |
||||||||||||||||||||||||||||
| Continuing operations |
$ | 1.93 | $ | 1.13 | $ | 1.08 | $ | .80 | 71 | % | $ | .05 | 5 | % | ||||||||||||||
| Discontinued operations |
— | .06 | (.14 | ) | (.06 | ) | (100 | ) | .20 | 143 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Total |
$ | 1.93 | $ | 1.19 | $ | .94 | $ | .74 | 62 | % | $ | .25 | 27 | % | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Diluted earnings (loss) per common share attributable to SLM Corporation: |
||||||||||||||||||||||||||||
| Continuing operations |
$ | 1.90 | $ | 1.12 | $ | 1.08 | $ | .78 | 71 | % | $ | .04 | 4 | % | ||||||||||||||
| Discontinued operations |
— | .06 | (.14 | ) | (.06 | ) | (100 | ) | .20 | 143 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Total |
$ | 1.90 | $ | 1.18 | $ | .94 | $ | .72 | 61 | % | $ | .24 | 26 | % | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
| Dividends per common share |
$ | .50 | $ | .30 | $ | — | $ | .20 | 67 | % | $ | .30 | 100 | % | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
37
Table of Contents
Consolidated Earnings Summary — GAAP-basis
Year Ended December 31, 2012 Compared with Year Ended December 31, 2011
For the years ended December 31, 2012 and 2011, net income was $939 million, or $1.90 diluted earnings per common share, and $633 million, or $1.18 diluted earnings per common share, respectively. The increase in net income was primarily due to a $331 million decrease in net losses on derivative and hedging activities, a $215 million decrease in provisions for loan losses, a $104 million decrease in operating expenses and a $107 million increase in gains on debt repurchases, which more than offset the $321 million decline in net interest income.
The primary contributors to each of the identified drivers of changes in net income for the current year-end period compared with the year-ago period are as follows:
| • | Net interest income declined by $321 million primarily due to an $11 billion reduction in average FFELP Loans outstanding, higher cost of funds, which were partly due to refinancing debt into longer term liabilities, as well as the impact from the acceleration of $50 million of non-cash loan premium amortization in the second-quarter 2012 related to SDCL (see “FFELP Loans Segment” for further discussion). The decline in FFELP Loans outstanding was driven by normal loan amortization as well as loans that were consolidated under SDCL. |
| • | Provisions for loan losses decreased by $215 million primarily as a result of overall improvements in the credit quality and delinquency trends of the Private Education Loan portfolio. In second-quarter 2012, we increased our focus on encouraging our customers to enter repayment plans in lieu of additional forbearance usage to better help customers manage their overall payment obligations. This change was expected to, and resulted in, an increase in charge-offs in fourth-quarter 2012 which are expected to decline in 2013. See “Consumer Lending Segment — Private Education Loan Provision for Loan Losses and Charge-offs” for a further discussion of this change and impact. |
| • | We did not incur any losses on loans and investments in the current year. In 2011, we recorded $26 million of impairment on certain investments in aircraft leveraged leases and a $9 million mark-to-market loss related to classifying our entire $12 million portfolio of non-U.S. dollar-denominated student loans as held-for-sale. |
| • | Net losses on derivative and hedging activities decreased by $331 million. The primary factors affecting the change were interest rate and foreign currency fluctuations, which primarily affected the valuations of our Floor Income Contracts, basis swaps and foreign currency hedges during each period. Valuations of derivative instruments vary based upon many factors including changes in interest rates, credit risk, foreign currency fluctuations and other market factors. As a result, net gains and losses on derivative and hedging activities may continue to vary significantly in future periods. |
| • | Gains on debt repurchases increased $107 million. Debt repurchase activity will fluctuate based on market fundamentals and our liability management strategy. |
| • | Operating expenses decreased $104 million primarily due to the current-year benefit of the cost-cutting efforts we implemented throughout 2011. |
| • | Net income from discontinued operations decreased $32 million due to the sale of our Purchased Paper — Non-Mortgage portfolio in 2011. |
In addition, we repurchased 58.0 million shares and 19.1 million shares of our common stock during the years ended December 31, 2012 and 2011, respectively, as part of our common share repurchase program. Primarily as a result of these repurchases, our average outstanding diluted shares decreased by 40 million common shares.
Year Ended December 31, 2011 Compared with Year Ended December 31, 2010
For the years ended December 31, 2011 and 2010, net income was $633 million, or $1.18 diluted earnings per common share, and $530 million, or $.94 diluted earnings per common share, respectively. The increase in
38
Table of Contents
net income for the year ended December 31, 2011 as compared with the prior year period was primarily due to $660 million of goodwill and intangible asset impairment charges, which were partially non-tax deductible, recorded in the year-ago period, a $124 million decrease in the provisions for loan losses, a $100 million increase in income from discontinued operations and $108 million of lower operating expenses. These improvements were partially offset by a $598 million increase in net losses on derivative and hedging activities, a $279 million decrease in gains on debt repurchases and a $360 million decrease in net gains on loans and investments.
The primary contributors to each component of net income for 2011 compared with 2010 are as follows:
| • | Net interest income increased by $50 million primarily from incremental net interest income earned on $25 billion of securitized FFELP loans acquired on December 31, 2010. |
| • | Provisions for loan losses decreased by $124 million, as a result of overall improvements in credit quality and delinquency and charge-off trends. |
| • | Gains on loans and investments, net, declined $360 million as a result of a $321 million gain recognized in the fourth quarter of 2010 from the sale of FFELP Loans to ED as part of the ED’s Loan Purchase Commitment Program (the “Purchase Program”) which ended in 2010 (see also Note 6, “Borrowings”). Also, in 2011 we recorded $26 million of impairment on certain aircraft leases and a $9 million mark-to-market loss related to classifying our entire $12 million portfolio of non-U.S. dollar-denominated student loans as held-for-sale. |
| • | Net losses on derivatives and hedging activities increased by $598 million primarily due to interest rate and foreign currency fluctuations, affecting the valuations of our Floor Income Contracts, basis swaps and foreign currency hedges during the period. Valuations of derivative instruments vary based upon many factors including changes in interest rates, credit risk, foreign currency fluctuations and other market factors. As a result, net gains and losses on derivatives and hedging activities may vary significantly in future periods. |
| • | Servicing revenue decreased by $24 million primarily due to the end of FFELP in 2010, thereby eliminating Guarantor issuance fees we earn on new FFELP Loans. Outstanding FFELP Loans on which we earn additional fees also declined. |
| • | Gains on debt repurchases decreased $279 million as we repurchased less debt in the current period. Debt repurchase activity will fluctuate based on market fundamentals and our liability management strategy. |
| • | Other income increased by $62 million primarily as a result of a $25 million gain from the termination and replacement of a credit card affiliation contract and $27 million from an increase in foreign currency translation gains. The foreign currency translation gains relate to a portion of our foreign currency denominated debt that does not receive hedge accounting treatment. These gains were partially offset by “losses on derivative and hedging activities, net” line item in the consolidated statements of income related to the derivatives used to economically hedge these debt investments. |
| • | Operating expenses decreased $108 million primarily as a result of our on-going cost savings initiative. |
| • | Goodwill and acquired intangible assets impairment and amortization expense declined $675 million compared with the prior year primarily due to the $660 million impairment recognized in the third quarter of 2010 in response to the passage of the HCERA, which resulted in the elimination of the FFELP and significantly reduced the future earnings for several of our reporting units. |
| • | Restructuring expenses decreased $76 million primarily as a result of the substantial completion of our plan for restructuring initiated in response to legislation ending FFELP in 2010. |
| • | The effective tax rates for the years ended December 31, 2011 and 2010 were 35 percent and 45 percent, respectively. The improvement in the effective tax rate was primarily driven by the impact of non-tax deductible goodwill impairments recorded in 2010. |
| • | Net income from discontinued operations for the year ended December 31, 2011 was $33 million compared with a net loss from discontinued operations of $67 million for the year ended December 31, |
39
Table of Contents
| 2010. The change was primarily driven by a $23 million after-tax gain realized from the sale of our Purchased Paper — Non-Mortgage portfolio in the third quarter of 2011 compared to $52 million of after-tax impairments recognized in 2010. |
“Core Earnings” — Definition and Limitations
We prepare financial statements in accordance with GAAP. However, we also evaluate our business segments 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. For additional information, see “Note 16 — Segment Reporting.”
“Core Earnings” are not a substitute for reported results under GAAP. We use “Core Earnings” to manage each business segment because “Core Earnings” reflect adjustments to GAAP financial results for two items, discussed below, that 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 as we believe it provides investors with additional information regarding the operational and performance indicators that are most closely assessed by management. The two items for which we adjust our “Core Earnings” presentations are (1) our use of derivative instruments to hedge our economic risks that do not qualify for hedge accounting treatment or do qualify for hedge accounting treatment but result in ineffectiveness and (2) the accounting for goodwill and acquired intangible assets.
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, rating agencies, lenders and investors to assess performance.
Specific adjustments that management makes to GAAP results to derive our “Core Earnings” basis of presentation are described in detail in the section entitled “‘Core Earnings’ — Definition and Limitations — Differences between ‘Core Earnings’ and GAAP” of this Item 7.
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 16 — Segment Reporting.”
40
Table of Contents
| Year Ended December 31, 2012 | ||||||||||||||||||||||||||||||||||||||||
| (Dollars in millions) |
Consumer Lending |
Business Services |
FFELP Loans |
Other | Eliminations(1) | Total “Core Earnings” |
Adjustments | Total GAAP |
||||||||||||||||||||||||||||||||
| Reclassifications | Additions/ (Subtractions) |
Total Adjustments(2) |
||||||||||||||||||||||||||||||||||||||
| Interest income: |
||||||||||||||||||||||||||||||||||||||||
| Student loans |
$ | 2,481 | $ | — | $ | 2,744 | $ | — | $ | — | $ | 5,225 | $ | 858 | $ | (351 | ) | $ | 507 | $ | 5,732 | |||||||||||||||||||
| Other loans |
— | — | — | 16 | — | 16 | — | — | — | 16 | ||||||||||||||||||||||||||||||
| Cash and investments |
7 | 10 | 11 | 3 | (10 | ) | 21 | — | — | — | 21 | |||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total interest income |
2,488 | 10 | 2,755 | 19 | (10 | ) | 5,262 | 858 | (351 | ) | 507 | 5,769 | ||||||||||||||||||||||||||||
| Total interest expense |
825 | — | 1,591 | 38 | (10 | ) | 2,444 | 115 | 2 | (4) | 117 | 2,561 | ||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net interest income (loss) |
1,663 | 10 | 1,164 | (19 | ) | — | 2,818 | 743 | (353 | ) | 390 | 3,208 | ||||||||||||||||||||||||||||
| Less: provisions for loan losses |
1,008 | — | 72 | — | — | 1,080 | — | — | — | 1,080 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net interest income (loss) after provisions for loan losses |
655 | 10 | 1,092 | (19 | ) | — | 1,738 | 743 | (353 | ) | 390 | 2,128 | ||||||||||||||||||||||||||||
| Servicing revenue |
46 | 910 | 90 | — | (670 | ) | 376 | — | — | — | 376 | |||||||||||||||||||||||||||||
| Contingency revenue |
— | 356 | — | — | — | 356 | — | — | — | 356 | ||||||||||||||||||||||||||||||
| Gains on debt repurchases |
— | — | — | 145 | — | 145 | — | — | — | 145 | ||||||||||||||||||||||||||||||
| Other income (loss) |
— | 33 | — | 15 | — | 48 | (743 | ) | 159 | (5) | (584 | ) | (536 | ) | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total other income (loss) |
46 | 1,299 | 90 | 160 | (670 | ) | 925 | (743 | ) | 159 | (584 | ) | 341 | |||||||||||||||||||||||||||
| Expenses: |
||||||||||||||||||||||||||||||||||||||||
| Direct operating expenses |
265 | 462 | 702 | 7 | (670 | ) | 766 | — | — | — | 766 | |||||||||||||||||||||||||||||
| Overhead expenses |
— | — | — | 230 | — | 230 | — | — | — | 230 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Operating expenses |
265 | 462 | 702 | 237 | (670 | ) | 996 | — | — | — | 996 | |||||||||||||||||||||||||||||
| Goodwill and acquired intangible assets impairment and amortization |
— | — | — | — | — | — | — | 28 | 28 | 28 | ||||||||||||||||||||||||||||||
| Restructuring expenses |
2 | 6 | — | 4 | — | 12 | — | — | — | 12 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total expenses |
267 | 468 | 702 | 241 | (670 | ) | 1,008 | — | 28 | 28 | 1,036 | |||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Income (loss) from continuing operations, before income tax expense (benefit) |
434 | 841 | 480 | (100 | ) | — | 1,655 | — | (222 | ) | (222 | ) | 1,433 | |||||||||||||||||||||||||||
| Income tax expense (benefit)(3) |
156 | 303 | 173 | (36 | ) | — | 596 | — | (99 | ) | (99 | ) | 497 | |||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) from continuing operations |
278 | 538 | 307 | (64 | ) | — | 1,059 | — | (123 | ) | (123 | ) | 936 | |||||||||||||||||||||||||||
| Income from discontinued operations, net of tax expense |
— | — | — | 1 | — | 1 | — | — | — | 1 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) |
278 | 538 | 307 | (63 | ) | — | 1,060 | — | (123 | ) | (123 | ) | 937 | |||||||||||||||||||||||||||
| Less: net loss attributable to noncontrolling interest |
— | (2 | ) | — | — | — | (2 | ) | — | — | — | (2 | ) | |||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) attributable to SLM Corporation |
$ | 278 | $ | 540 | $ | 307 | $ | (63 | ) | $ | — | $ | 1,062 | $ | — | $ | (123 | ) | $ | (123 | ) | $ | 939 | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| (1) | The eliminations in servicing revenue and direct operating expense represent the elimination of intercompany servicing revenue where the Business Services segment performs the loan servicing function for the FFELP Loans segment. |
| (2) | “Core Earnings” adjustments to GAAP: |
| Year Ended December 31, 2012 | ||||||||||||
| (Dollars in millions) |
Net Impact of Derivative Accounting |
Net Impact of Goodwill and Acquired Intangibles |
Total | |||||||||
| Net interest income after provisions for loan losses |
$ | 390 | $ | — | $ | 390 | ||||||
| Total other loss |
(584 | ) | — | (584 | ) | |||||||
| Goodwill and acquired intangible assets impairment and amortization |
— | 28 | 28 | |||||||||
|
|
|
|
|
|
|
|||||||
| Total “Core Earnings” adjustments to GAAP |
$ | (194 | ) | $ | (28 | ) | (222 | ) | ||||
|
|
|
|
|
|||||||||
| Income tax benefit |
(99 | ) | ||||||||||
|
|
|
|||||||||||
| Net loss |
$ | (123 | ) | |||||||||
|
|
|
|||||||||||
| (3) | Income taxes are based on a percentage of net income before tax for the individual reportable segment. |
| (4) | Represents a portion of the $42 million of “other derivative accounting adjustments.” |
| (5) | Represents the $115 million of “unrealized gains on derivative and hedging activities, net” as well as the remaining portion of the $42 million of “other derivative accounting adjustments.” |
41
Table of Contents
| Year Ended December 31, 2011 | ||||||||||||||||||||||||||||||||||||||||
| (Dollars in millions) |
Consumer Lending |
Business Services |
FFELP Loans |
Other | Eliminations(1) | Total “Core Earnings” |
Adjustments | Total GAAP |
||||||||||||||||||||||||||||||||
| Reclassifications | Additions/ (Subtractions) |
Total Adjustments(2) |
||||||||||||||||||||||||||||||||||||||
| Interest income: |
||||||||||||||||||||||||||||||||||||||||
| Student loans |
$ | 2,429 | $ | — | $ | 2,914 | $ | — | $ | — | $ | 5,343 | $ | 902 | $ | (355 | ) | $ | 547 | $ | 5,890 | |||||||||||||||||||
| Other loans |
— | — | — | 21 | — | 21 | — | — | — | 21 | ||||||||||||||||||||||||||||||
| Cash and investments |
9 | 11 | 5 | 5 | (11 | ) | 19 | — | — | — | 19 | |||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total interest income |
2,438 | 11 | 2,919 | 26 | (11 | ) | 5,383 | 902 | (355 | ) | 547 | 5,930 | ||||||||||||||||||||||||||||
| Total interest expense |
804 | — | 1,472 | 54 | (11 | ) | 2,319 | 71 | 11 | (4) | 82 | 2,401 | ||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net interest income |
1,634 | 11 | 1,447 | (28 | ) | — | 3,064 | 831 | (366 | ) | 465 | 3,529 | ||||||||||||||||||||||||||||
| Less: provisions for loan losses |
1,179 | — | 86 | 30 | — | 1,295 | — | — | — | 1,295 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net interest income after provisions for loan losses |
455 | 11 | 1,361 | (58 | ) | — | 1,769 | 831 | (366 | ) | 465 | 2,234 | ||||||||||||||||||||||||||||
| Servicing revenue |
64 | 970 | 85 | 1 | (739 | ) | 381 | — | — | — | 381 | |||||||||||||||||||||||||||||
| Contingency revenue |
— | 333 | — | — | — | 333 | — | — | — | 333 | ||||||||||||||||||||||||||||||
| Gains on debt repurchases |
— | — | — | 64 | — | 64 | (26 | ) | — | (26 | ) | 38 | ||||||||||||||||||||||||||||
| Other income (loss) |
(9 | ) | 70 | 1 | (9 | ) | — | 53 | (805 | ) | (174 | )(5) | (979 | ) | (926 | ) | ||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total other income (loss) |
55 | 1,373 | 86 | 56 | (739 | ) | 831 | (831 | ) | (174 | ) | (1,005 | ) | (174 | ) | |||||||||||||||||||||||||
| Expenses: |
||||||||||||||||||||||||||||||||||||||||
| Direct operating expenses |
304 | 482 | 760 | 12 | (739 | ) | 819 | — | — | — | 819 | |||||||||||||||||||||||||||||
| Overhead expenses |
— | — | — | 281 | — | 281 | — | — | — | 281 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Operating expenses |
304 | 482 | 760 | 293 | (739 | ) | 1,100 | — | — | — | 1,100 | |||||||||||||||||||||||||||||
| Goodwill and acquired intangible assets impairment and amortization |
— | — | — | — | — | — | — | 24 | 24 | 24 | ||||||||||||||||||||||||||||||
| Restructuring expenses |
3 | 3 | 1 | 2 | — | 9 | — | — | — | 9 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total expenses |
307 | 485 | 761 | 295 | (739 | ) | 1,109 | — | 24 | 24 | 1,133 | |||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Income (loss) from continuing operations, before income tax expense (benefit) |
203 | 899 | 686 | (297 | ) | — | 1,491 | — | (564 | ) | (564 | ) | 927 | |||||||||||||||||||||||||||
| Income tax expense (benefit)(3) |
75 | 330 | 252 | (109 | ) | — | 548 | — | (220 | ) | (220 | ) | 328 | |||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) from continuing operations |
128 | 569 | 434 | (188 | ) | — | 943 | — | (344 | ) | (344 | ) | 599 | |||||||||||||||||||||||||||
| Income from discontinued operations, net of tax expense |
— | — | — | 33 | — | 33 | — | — | — | 33 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) |
128 | 569 | 434 | (155 | ) | — | 976 | — | (344 | ) | (344 | ) | 632 | |||||||||||||||||||||||||||
| Less: loss attributable to noncontrolling interest |
— | (1 | ) | — | — | — | (1 | ) | — | — | — | (1 | ) | |||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) attributable to SLM Corporation |
$ | 128 | $ | 570 | $ | 434 | $ | (155 | ) | $ | — | $ | 977 | $ | — | $ | (344 | ) | $ | (344 | ) | $ | 633 | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| (1) | The eliminations in servicing revenue and direct operating expense represent the elimination of intercompany servicing revenue where the Business Services segment performs the loan servicing function for the FFELP Loans segment. |
| (2) | “Core Earnings” adjustments to GAAP: |
| Year Ended December 31, 2011 | ||||||||||||
| (Dollars in millions) |
Net Impact of Derivative Accounting |
Net Impact of Goodwill and Acquired Intangibles |
Total | |||||||||
| Net interest income after provisions for loan losses |
$ | 465 | $ | — | $ | 465 | ||||||
| Total other loss |
(1,005 | ) | — | (1,005 | ) | |||||||
| Goodwill and acquired intangible assets impairment and amortization |
— | 24 | 24 | |||||||||
|
|
|
|
|
|
|
|||||||
| Total “Core Earnings” adjustments to GAAP |
$ | (540 | ) | $ | (24 | ) | (564 | ) | ||||
|
|
|
|
|
|||||||||
| Income tax benefit |
(220 | ) | ||||||||||
|
|
|
|||||||||||
| Net loss |
$ | (344 | ) | |||||||||
|
|
|
|||||||||||
| (3) | Income taxes are based on a percentage of net income before tax for the individual reportable segment. |
| (4) | Represents a portion of the $(32) million of “other derivative accounting adjustments.” |
| (5) | Represents the $(153) million of “unrealized losses on derivative and hedging activities, net” as well as the remaining portion of the $(32) million of “other derivative accounting adjustments.” |
42
Table of Contents
| Year Ended December 31, 2010 | ||||||||||||||||||||||||||||||||||||||||
| (Dollars in millions) |
Consumer Lending |
Business Services |
FFELP Loans |
Other | Eliminations(1) | Total “Core Earnings” |
Adjustments | Total GAAP |
||||||||||||||||||||||||||||||||
| Reclassifications | Additions/ (Subtractions) |
Total Adjustments(2) |
||||||||||||||||||||||||||||||||||||||
| Interest income: |
||||||||||||||||||||||||||||||||||||||||
| Student loans |
$ | 2,353 | $ | — | $ | 2,766 | $ | — | $ | — | $ | 5,119 | $ | 888 | $ | (309 | ) | $ | 579 | $ | 5,698 | |||||||||||||||||||
| Other loans |
— | — | — | 30 | — | 30 | — | — | — | 30 | ||||||||||||||||||||||||||||||
| Cash and investments |
14 | 17 | 9 | 3 | (17 | ) | 26 | — | — | — | 26 | |||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total interest income |
2,367 | 17 | 2,775 | 33 | (17 | ) | 5,175 | 888 | (309 | ) | 579 | 5,754 | ||||||||||||||||||||||||||||
| Total interest expense |
758 | — | 1,407 | 45 | (17 | ) | 2,193 | 69 | 13 | (4) | 82 | 2,275 | ||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net interest income |
1,609 | 17 | 1,368 | (12 | ) | — | 2,982 | 819 | (322 | ) | 497 | 3,479 | ||||||||||||||||||||||||||||
| Less: provisions for loan losses |
1,298 | — | 98 | 23 | — | 1,419 | — | — | — | 1,419 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net interest income after provisions for loan losses |
311 | 17 | 1,270 | (35 | ) | — | 1,563 | 819 | (322 | ) | 497 | 2,060 | ||||||||||||||||||||||||||||
| Servicing revenue |
72 | 912 | 68 | 1 | (648 | ) | 405 | — | — | — | 405 | |||||||||||||||||||||||||||||
| Contingency revenue |
— | 330 | — | — | — | 330 | — | — | — | 330 | ||||||||||||||||||||||||||||||
| Gains on debt repurchases |
— | — | — | 317 | — | 317 | — | — | — | 317 | ||||||||||||||||||||||||||||||
| Other income (loss) |
— | 51 | 320 | 13 | — | 384 | (819 | ) | 405 | (5) | (414 | ) | (30 | ) | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total other income (loss) |
72 | 1,293 | 388 | 331 | (648 | ) | 1,436 | (819 | ) | 405 | (414 | ) | 1,022 | |||||||||||||||||||||||||||
| Expenses: |
||||||||||||||||||||||||||||||||||||||||
| Direct operating expenses |
350 | 500 | 736 | 12 | (648 | ) | 950 | — | — | — | 950 | |||||||||||||||||||||||||||||
| Overhead expenses |
— | — | — | 258 | — | 258 | — | — | — | 258 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Operating expenses |
350 | 500 | 736 | 270 | (648 | ) | 1,208 | — | — | — | 1,208 | |||||||||||||||||||||||||||||
| Goodwill and acquired intangible assets impairment and amortization |
— | — | — | — | — | — | — | 699 | 699 | 699 | ||||||||||||||||||||||||||||||
| Restructuring expenses |
12 | 7 | 54 | 12 | — | 85 | — | — | — | 85 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Total expenses |
362 | 507 | 790 | 282 | (648 | ) | 1,293 | — | 699 | 699 | 1,992 | |||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Income (loss) from continuing operations, before income tax expense (benefit) |
21 | 803 | 868 | 14 | — | 1,706 | — | (616 | ) | (616 | ) | 1,090 | ||||||||||||||||||||||||||||
| Income tax expense (benefit)(3) |
8 | 288 | 311 | 4 | — | 611 | — | (118 | ) | (118 | ) | 493 | ||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) from continuing operations |
13 | 515 | 557 | 10 | — | 1,095 | — | (498 | ) | (498 | ) | 597 | ||||||||||||||||||||||||||||
| Loss from discontinued operations, net of tax benefit |
— | — | — | (67 | ) | — | (67 | ) | — | — | — | (67 | ) | |||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| Net income (loss) |
$ | 13 | $ | 515 | $ | 557 | $ | (57 | ) | $ | — | $ | 1,028 | $ | — | $ | (498 | ) | $ | (498 | ) | $ | 530 | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||||
| (1) | The eliminations in servicing revenue and direct operating expense represent the elimination of intercompany servicing revenue where the Business Services segment performs the loan servicing function for the FFELP Loans segment. |
| (2) | “Core Earnings” adjustments to GAAP: |
| Year Ended December 31, 2010 | ||||||||||||
| (Dollars in millions) |
Net Impact of Derivative Accounting |
Net Impact of Goodwill and Acquired Intangibles |
Total | |||||||||
| Net interest income after provisions for loan losses |
$ | 497 | $ | — | $ | 497 | ||||||
| Total other loss |
(414 | ) | — | (414 | ) | |||||||
| Goodwill and acquired intangible assets impairment and amortization |
— | 699 | 699 | |||||||||
|
|
|
|
|
|
|
|||||||
| Total “Core Earnings” adjustments to GAAP |
$ | 83 | $ | (699 | ) | (616 | ) | |||||
|
|
|
|
|
|||||||||
| Income tax benefit |
(118 | ) | ||||||||||
|
|
|
|||||||||||
| Net loss |
$ | (498 | ) | |||||||||
|
|
|
|||||||||||
| (3) | Income taxes are based on a percentage of net income before tax for the individual reportable segment. |
| (4) | Represents a portion of the $(54) million of “other derivative accounting adjustments.” |
| (5) | Represents the $454 million of “unrealized gains on derivative and hedging activities, net” as well as the remaining portion of the $(54) million of “other derivative accounting adjustments.” |
43
Table of Contents
Differences between “Core Earnings” and GAAP
The two adjustments required to reconcile from our “Core Earnings” results to our GAAP results of operations relate to differing treatments for: (1) our use of derivative instruments to hedge our economic risks that do not qualify for hedge accounting treatment or do qualify for hedge accounting treatment but result in ineffectiveness and (2) the accounting for goodwill and acquired intangible assets. The following table reflects aggregate adjustments associated with these areas.
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| “Core Earnings” adjustments to GAAP: |
||||||||||||
| Net impact of derivative accounting |
$ | (194 | ) | $ | (540 | ) | $ | 83 | ||||
| Net impact of goodwill and acquired intangible assets |
(28 | ) | (24 | ) | (699 | ) | ||||||
| Net income tax effect |
99 | 220 | 118 | |||||||||
|
|
|
|
|
|
|
|||||||
| Total “Core Earnings” adjustments to GAAP |
$ | (123 | ) | $ | (344 | ) | $ | (498 | ) | |||
|
|
|
|
|
|
|
|||||||
1) Derivative Accounting: “Core Earnings” exclude periodic unrealized gains and losses that are caused by the mark-to-market valuations 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 Consumer Lending, FFELP 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 marked-to-market 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 student loans underlying the Floor Income embedded in those student 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 student loans. Under derivative accounting treatment, the upfront payment is deemed a liability and changes in fair value are recorded through income throughout the life of the contract. The change in the value of Floor Income Contracts is primarily caused by changing interest rates that cause the amount of Floor Income earned on the underlying student loans and paid to the counterparties to vary. This is economically offset by the change in value of the student loan portfolio earning Floor Income but that offsetting change in 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 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 premiums received on the Floor Income Contracts. The amortization of
44
Table of Contents
the net premiums received on the Floor Income Contracts for “Core Earnings” is reflected in student 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 student loan assets that are primarily indexed to LIBOR, Prime or Treasury bill index (for $128 billion of our FFELP assets as of April 1, 2012, we elected to change the index from commercial paper to LIBOR; see “FFELP Loans Segment — FFELP Loans Net Interest Margin” for further discussion). In addition, we use basis swaps to convert debt indexed to the Consumer Price Index to three-month LIBOR debt. 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.
The table below quantifies the adjustments for derivative accounting on our net income.
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| “Core Earnings” derivative adjustments: |
||||||||||||
| Gains (losses) on derivative and hedging activities, net, included in other income(1) |
$ | (628 | ) | $ | (959 | ) | $ | (361 | ) | |||
| Plus: Realized losses on derivative and hedging activities, net(1) |
743 | 806 | 815 | |||||||||
|
|
|
|
|
|
|
|||||||
| Unrealized gains (losses) on derivative and hedging activities, net(2) |
115 | (153 | ) | 454 | ||||||||
| Amortization of net premiums on Floor Income Contracts in net interest income for “Core Earnings” |
(351 | ) | (355 | ) | (309 | ) | ||||||
| Other derivative accounting adjustments(3) |
42 | (32 | ) | (62 | ) | |||||||
|
|
|
|
|
|
|
|||||||
| Total net impact derivative accounting(4) |
$ | (194 | ) | $ | (540 | ) | $ | 83 | ||||
|
|
|
|
|
|
|
|||||||
| (1) | See “Reclassification of Realized Gains (Losses) on Derivative and Hedging Activities” below for a detailed breakdown of the components of realized losses on derivative and hedging activities. |
| (2) | “Unrealized gains (losses) on derivative and hedging activities, net” comprises the following unrealized mark-to-market gains (losses): |
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| Floor Income Contracts |
$ | 412 | $ | (267 | ) | $ | 156 | |||||
| Basis swaps |
(66 | ) | 104 | 341 | ||||||||
| Foreign currency hedges |
(199 | ) | (32 | ) | (83 | ) | ||||||
| Other |
(32 | ) | 42 | 40 | ||||||||
|
|
|
|
|
|
|
|||||||
| Total unrealized gains (losses) on derivative and hedging activities, net |
$ | 115 | $ | (153 | ) | $ | 454 | |||||
|
|
|
|
|
|
|
|||||||
| (3) | Other derivative accounting adjustments consist of adjustments related to: (1) foreign currency denominated debt that is adjusted to spot foreign exchange rates for GAAP where such adjustment are reversed for “Core Earnings” and (2) certain terminated deriviatves that did not receive hedge accounting treatment under GAAP but were economic hedges under “Core Earnings” and, as a result, such gains or losses amortized into “Core Earnings” over the life of the hedged item. |
| (4) | Negative amounts are subtracted from “Core Earnings” net income to arrive at GAAP net income and positive amounts are added to “Core Earnings” to arrive at GAAP net income. |
45
Table of Contents
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 student 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.
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| Reclassification of realized gains (losses) on derivative and hedging activities: |
||||||||||||
| Net settlement expense on Floor Income Contracts reclassified to net interest income |
$ | (858 | ) | $ | (902 | ) | $ | (888 | ) | |||
| Net settlement income on interest rate swaps reclassified to net interest income |
115 | 71 | 69 | |||||||||
| Foreign exchange derivative gains/(losses) reclassified to other income |
— | — | — | |||||||||
| Net realized gains (losses) on terminated derivative contracts reclassified to other income |
— | 25 | 4 | |||||||||
|
|
|
|
|
|
|
|||||||
| Total reclassifications of realized losses on derivative and hedging activities |
$ | (743 | ) | $ | (806 | ) | $ | (815 | ) | |||
|
|
|
|
|
|
|
|||||||
Cumulative Impact of Derivative Accounting under GAAP compared to “Core Earnings”
As of December 31, 2012, derivative accounting has reduced GAAP equity by approximately $1.1 billion as a result of cumulative net unrealized net 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 net losses related to derivative accounting.
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| Beginning impact of derivative accounting on GAAP equity |
$ | (977 | ) | $ | (676 | ) | $ | (737 | ) | |||
| Net impact of net unrealized gains/(losses) under derivative accounting(1) |
(103 | ) | (301 | ) | 61 | |||||||
|
|
|
|
|
|
|
|||||||
| Ending impact of derivative accounting on GAAP equity |
$ | (1,080 | ) | $ | (977 | ) | $ | (676 | ) | |||
|
|
|
|
|
|
|
|||||||
| (1) | Net impact of net unrealized gains (losses) under derivative accounting is composed of the following: |
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| Total pre-tax net impact of derivative accounting recognized in net income(a) |
$ | (194 | ) | $ | (540 | ) | $ | 83 | ||||
| Tax impact of derivative accounting adjustment recognized in net income |
82 | 208 | (27 | ) | ||||||||
| Change in unrealized gains on derivatives, net of tax recognized in Other Comprehensive Income |
9 | 31 | 5 | |||||||||
|
|
|
|
|
|
|
|||||||
| Net impact of net unrealized gains (losses) under derivative accounting |
$ | (103 | ) | $ | (301 | ) | $ | 61 | ||||
|
|
|
|
|
|
|
|||||||
| (a) | See “ ‘Core Earnings’ derivative adjustments” table above. |
46
Table of Contents
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 and are presented net of tax. As of December 31, 2012, the remaining amortization term of the net floor premiums was approximately 3.5 years for existing contracts. 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.
| December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| Unamortized net Floor premiums (net of tax) |
$ | (551 | ) | $ | (772 | ) | $ | (363 | ) | |||
2) 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.
| Years Ended December 31, | ||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | |||||||||
| “Core Earnings” goodwill and acquired intangible asset adjustments(1): |
||||||||||||
| Goodwill and intangible impairment of acquired intangible assets |
$ | (9 | ) | $ | — | $ | (660 | ) | ||||
| Amortization of acquired intangible assets |
(19 | ) | (24 | ) | (39 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Total “Core Earnings” goodwill and acquired intangible asset adjustments(1) |
$ | (28 | ) | $ | (24 | ) | $ | (699 | ) | |||
|
|
|
|
|
|
|
|||||||
| (1) | Negative amounts are subtracted from “Core Earnings” to arrive at GAAP net income and positive amounts are added to “Core Earnings” to arrive at GAAP net income. |
47
Table of Contents
Business Segment Earnings Summary — “Core Earnings” Basis
Consumer Lending Segment
The following table includes “Core Earnings” results for our Consumer Lending segment.
| Years Ended December 31, | % Increase (Decrease) | |||||||||||||||||||
| (Dollars in millions) |
2012 | 2011 | 2010 | 2012 vs. 2011 | 2011 vs. 2010 | |||||||||||||||
| “Core Earnings” interest income: |
||||||||||||||||||||
| Private Education Loans |
$ | 2,481 | $ | 2,429 | $ | 2,353 | 2 | % | 3 | % | ||||||||||
| Cash and investments |
7 | 9 | 14 | (22 | ) | (36 | ) | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total “Core Earnings” interest income |
2,488 | 2,438 | 2,367 | 2 | 3 | |||||||||||||||
| Total “Core Earnings” interest expense |
825 | 804 | 758 | 3 | 6 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Net “Core Earnings” interest income |
1,663 | 1,634 | 1,609 | 2 | 2 | |||||||||||||||
| Less: provision for loan losses |
1,008 | 1,179 | 1,298 | (15 | ) | (9 | ) | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Net “Core Earnings” interest income after provision for loan losses |
655 | 455 | 311 | 44 | 46 | |||||||||||||||
| Servicing revenue |
46 | 64 | 72 | (28 | ) | (11 | ) | |||||||||||||
| Other income (loss) |
— | (9 | ) | — | (100 | ) | (100 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total income |
46 | 55 | 72 | (16 | ) | (24 | ) | |||||||||||||
| Direct operating expenses |
265 | 304 | 350 | (13 | ) | (13 | ) | |||||||||||||
| Restructuring expenses |
2 | 3 | 12 | (33 | ) | (75 | ) | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total expenses |
267 | 307 | 362 | (13 | ) | (15 | ) | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Income before income tax expense |
434 | 203 | 21 | 114 | 867 | |||||||||||||||
| Income tax expense |
156 | 75 | 8 | 108 | 838 | |||||||||||||||
|
|
|
|||||||||||||||||||