<PAGE>
--------------------------------------------------------------------------------
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
(MARK ONE)
<TABLE>
<C> <S>
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT
OF 1934
</TABLE>
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000 OR
<TABLE>
<C> <S>
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT
OF 1934
</TABLE>
FOR THE TRANSITION PERIOD FROM ______________ TO ______________
(Amended by Exch Act Rel No. 312905. eff 4/26/93.)
Commission File Number: 001-13251
------------------------
USA EDUCATION, INC.
(FORMERLY SLM HOLDING CORPORATION)
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
DELAWARE 52-2013874
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
11600 SALLIE MAE DRIVE, RESTON, VIRGINIA 20193
(Address of principal executive offices) (Zip Code)
</TABLE>
Registrant's telephone number, including area code: (703) 810-3000
------------------------
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
<TABLE>
<CAPTION>
CLASS OUTSTANDING AT SEPTEMBER 30, 2000
----- ---------------------------------
<S> <C>
Common Stock, $.20 par value 164,059,978 shares
</TABLE>
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<PAGE>
USA EDUCATION, INC.
FORM 10-Q
INDEX
SEPTEMBER 30, 2000
<TABLE>
<S> <C>
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.............................. 3
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 14
PART II OTHER INFORMATION
Item 1. Legal Proceedings................................. 33
Item 2. Changes in Securities............................. 33
Item 3. Defaults Upon Senior Securities................... 33
Item 4. Submission of Matters to a Vote of Security
Holders................................................. 33
Item 5. Other Information................................. 33
Item 6. Exhibits and Reports on Form 8-K.................. 33
SIGNATURES.................................................. 34
</TABLE>
2
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
USA EDUCATION, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- ------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Student loans............................................... $35,949,209 $33,808,867
Warehousing advances........................................ 860,565 1,042,695
Academic facilities financings
Bonds available-for-sale.................................. 521,576 640,498
Loans..................................................... 361,286 387,267
----------- -----------
Total academic facilities financings.................... 882,862 1,027,765
Investments
Available-for-sale........................................ 3,000,819 4,396,776
Held-to-maturity.......................................... 912,638 788,180
----------- -----------
Total investments....................................... 3,913,457 5,184,956
Cash and cash equivalents................................... 704,559 589,750
Other assets, principally accrued interest receivable....... 3,333,362 2,370,751
----------- -----------
Total assets............................................ $45,644,014 $44,024,784
=========== ===========
LIABILITIES
Short-term borrowings....................................... $30,900,143 $37,491,251
Long-term notes............................................. 11,522,577 4,496,267
Other liabilities, principally accrued interest payable..... 1,672,131 982,469
----------- -----------
Total liabilities....................................... 44,094,851 42,969,987
----------- -----------
COMMITMENTS AND CONTINGENCIES
MINORITY INTEREST IN SUBSIDIARY............................. 213,883 213,883
STOCKHOLDERS' EQUITY
Preferred stock, par value $.20 per share, 20,000,000 shares
authorized: 3,300,000 and 3,300,000 shares, respectively,
issued at stated value of $50 per share................... 165,000 165,000
Common stock, par value $.20 per share, 250,000,000 shares
authorized: 187,593,000 and 186,069,619 shares issued,
respectively.............................................. 37,519 37,214
Additional paid-in capital.................................. 76,517 62,827
Unrealized gains on investments (net of tax of $160,986 and
$160,319, respectively)................................... 298,974 297,735
Retained earnings........................................... 1,743,593 1,462,034
----------- -----------
Stockholders' equity before treasury stock.................. 2,321,603 2,024,810
Common stock held in treasury at cost: 23,533,022 and
28,493,072 shares, respectively........................... 986,323 1,183,896
----------- -----------
Total stockholders' equity.............................. 1,335,280 840,914
----------- -----------
Total liabilities and stockholders' equity.............. $45,644,014 $44,024,784
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
USA EDUCATION, INC.
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS AND SHARES IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------- -------------------------
2000 1999 2000 1999
----------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Interest income:
Student loans............................................. $769,965 $640,198 $2,072,087 $1,732,346
Warehousing advances...................................... 13,194 13,567 41,049 53,826
Academic facilities financings:
Taxable................................................. 8,441 9,614 28,471 29,703
Tax-exempt.............................................. 7,403 8,693 23,602 26,819
-------- -------- ---------- ----------
Total academic facilities financings...................... 15,844 18,307 52,073 56,522
Investments............................................... 99,983 53,285 360,541 156,255
-------- -------- ---------- ----------
Total interest income....................................... 898,986 725,357 2,525,750 1,998,949
Interest expense:
Short-term debt........................................... 587,214 448,343 1,704,215 1,206,056
Long-term debt............................................ 151,439 92,656 337,692 278,177
-------- -------- ---------- ----------
Total interest expense...................................... 738,653 540,999 2,041,907 1,484,233
-------- -------- ---------- ----------
Net interest income......................................... 160,333 184,358 483,843 514,716
Less: provision for losses.................................. 5,428 6,545 22,766 27,210
-------- -------- ---------- ----------
Net interest income after provision for losses.............. 154,905 177,813 461,077 487,506
-------- -------- ---------- ----------
Other income:
Gains on student loan securitizations..................... 22,656 3,627 91,010 11,540
Servicing and securitization revenue...................... 80,027 61,866 210,694 228,499
Gains on sales of student loans........................... 122 -- 122 --
Gains on sales of securities.............................. 25 8,706 43,817 9,779
Guarantor servicing fees.................................. 50,636 -- 50,636 --
Other..................................................... 52,450 21,111 110,542 63,762
-------- -------- ---------- ----------
Total other income........................................ 205,916 95,310 506,821 313,580
Operating expenses:
Salaries and benefits..................................... 86,727 49,461 187,945 138,571
Other..................................................... 80,389 42,059 170,454 125,627
Integration charge........................................ 53,000 -- 53,000 --
-------- -------- ---------- ----------
Total operating expenses.................................... 220,116 91,520 411,399 264,198
-------- -------- ---------- ----------
Income before income taxes and minority interest in net
earnings of subsidiary.................................... 140,705 181,603 556,499 536,888
-------- -------- ---------- ----------
Income taxes:
Current................................................... 67,042 85,878 208,945 248,947
Deferred.................................................. (21,229) (28,354) (26,827) (78,957)
-------- -------- ---------- ----------
Total income taxes.......................................... 45,813 57,524 182,118 169,990
Minority interest in net earnings of subsidiary............. 2,674 2,674 8,021 8,021
-------- -------- ---------- ----------
NET INCOME.................................................. 92,218 121,405 366,360 358,877
Preferred stock dividends................................... 2,865 -- 8,657 --
-------- -------- ---------- ----------
Net income attributable to common stock..................... $ 89,353 $121,405 $ 357,703 $ 358,877
======== ======== ========== ==========
Basic earnings per share.................................... $ .56 $ .76 $ 2.26 $ 2.22
======== ======== ========== ==========
Average common shares outstanding........................... 160,652 159,661 157,989 161,377
======== ======== ========== ==========
Diluted earnings per share.................................. $ .55 $ .75 $ 2.20 $ 2.19
======== ======== ========== ==========
Average common and common equivalent shares outstanding..... 163,279 162,303 162,504 163,916
======== ======== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements
4
<PAGE>
USA EDUCATION, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
PREFERRED COMMON STOCK SHARES ADDITIONAL
STOCK ---------------------------------------- PREFERRED COMMON PAID-IN
SHARES ISSUED TREASURY OUTSTANDING STOCK STOCK CAPITAL
--------- ----------- ----------- ------------ --------- -------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT JUNE 30, 1999.......... -- 184,976,111 (24,068,203) 160,907,908 $ -- $36,995 $ 34,964
Comprehensive income:
Net income....................
Other comprehensive income,
net of tax:
Change in unrealized gains
(losses) on investments,
net of tax................
Comprehensive income............
Cash dividends:
Common stock ($.15 per
share)......................
Issuance of common shares....... 520,355 520,355 104 9,788
Premiums on equity forward
purchase contracts............ (8,144)
Repurchase of common shares..... (2,344,799) (2,344,799)
--------- ----------- ----------- ------------ -------- ------- ----------
BALANCE AT SEPTEMBER 30, 1999..... -- 185,496,466 (26,413,002) 159,083,464 $ -- $37,099 $ 36,608
========= =========== =========== ============ ======== ======= ==========
BALANCE AT JUNE 30, 2000.......... 3,300,000 186,266,879 (31,063,031) 155,203,848 $165,000 $37,253 $ 52,742
Comprehensive income:
Net income....................
Other comprehensive income,
net of tax:
Change in unrealized gains
(losses) on investments,
net of tax................
Comprehensive income............
Cash dividends:
Common stock ($.16 per
share)......................
Preferred stock ($.88 per
share)......................
Issuance of common shares....... 1,326,121 9,034,505 10,360,626 266 61,194
Premiums on equity forward
purchase contracts............ (37,419)
Repurchase of common shares..... (1,504,496) (1,504,496)
--------- ----------- ----------- ------------ -------- ------- ----------
BALANCE AT SEPTEMBER 30, 2000..... 3,300,000 187,593,000 (23,533,022) 164,059,978 $165,000 $37,519 $ 76,517
========= =========== =========== ============ ======== ======= ==========
<CAPTION>
UNREALIZED
GAINS
(LOSSES) TOTAL
ON RETAINED TREASURY STOCKHOLDERS'
INVESTMENTS EARNINGS STOCK EQUITY
----------- ---------- ----------- -------------
<S> <C> <C> <C> <C>
BALANCE AT JUNE 30, 1999.......... $330,973 $1,249,278 $ (992,827) $ 659,383
Comprehensive income:
Net income.................... 121,405 121,405
Other comprehensive income,
net of tax:
Change in unrealized gains
(losses) on investments,
net of tax................ (25,776) (25,776)
----------
Comprehensive income............ 95,629
Cash dividends:
Common stock ($.15 per
share)...................... (23,890) (23,890)
Issuance of common shares....... 9,892
Premiums on equity forward
purchase contracts............ (8,144)
Repurchase of common shares..... (99,130) (99,130)
-------- ---------- ----------- ----------
BALANCE AT SEPTEMBER 30, 1999..... $305,197 $1,346,793 $(1,091,957) $ 633,740
======== ========== =========== ==========
BALANCE AT JUNE 30, 2000.......... $295,378 $1,680,283 $(1,292,645) $ 938,011
Comprehensive income:
Net income.................... 92,218 92,218
Other comprehensive income,
net of tax:
Change in unrealized gains
(losses) on investments,
net of tax................ 3,596 3,596
----------
Comprehensive income............ 95,814
Cash dividends:
Common stock ($.16 per
share)...................... (26,043) (26,043)
Preferred stock ($.88 per
share)...................... (2,865) (2,865)
Issuance of common shares....... 370,000 431,460
Premiums on equity forward
purchase contracts............ (37,419)
Repurchase of common shares..... (63,678) (63,678)
-------- ---------- ----------- ----------
BALANCE AT SEPTEMBER 30, 2000..... $298,974 $1,743,593 $ (986,323) $1,335,280
======== ========== =========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
USA EDUCATION, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
PREFERRED COMMON STOCK SHARES ADDITIONAL
STOCK ---------------------------------------- PREFERRED COMMON PAID-IN
SHARES ISSUED TREASURY OUTSTANDING STOCK STOCK CAPITAL
--------- ----------- ----------- ------------ --------- -------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1998...... -- 184,453,866 (20,327,213) 164,126,653 $ -- $36,891 $ 26,871
Comprehensive income:
Net income....................
Other comprehensive income,
net of tax:
Unrealized gains (losses) on
investments,
net of tax..................
Comprehensive income............
Cash dividends:
Common stock ($.45 per
share)......................
Issuance of common shares....... 1,042,600 1,042,600 208 27,585
Tax benefit related to employee
stock option
and purchase plan............. 2,497
Premiums on equity forward
purchase contracts............ (20,345)
Repurchase of common shares..... (6,085,789) (6,085,789)
--------- ----------- ----------- ------------ -------- ------- ----------
BALANCE AT SEPTEMBER 30, 1999..... -- 185,496,466 (26,413,002) 159,083,464 $ -- $37,099 $ 36,608
========= =========== =========== ============ ======== ======= ==========
BALANCE AT DECEMBER 31, 1999...... 3,300,000 186,069,619 (28,493,072) 157,576,547 $165,000 $37,214 $ 62,827
Comprehensive income:
Net income....................
Other comprehensive income,
net of tax:
Change in unrealized gains
(losses) on investments,
net of tax................
Comprehensive income............
Cash dividends:
Common stock ($.48 per
share)......................
Preferred stock ($2.64 per
share)......................
Issuance of common shares....... 1,523,381 9,084,505 10,607,886 305 70,088
Premiums on equity forward
purchase contracts............ (56,398)
Repurchase of common shares..... (4,124,455) (4,124,455)
--------- ----------- ----------- ------------ -------- ------- ----------
BALANCE AT SEPTEMBER 30, 2000..... 3,300,000 187,593,000 (23,533,022) 164,059,978 $165,000 $37,519 $ 76,517
========= =========== =========== ============ ======== ======= ==========
<CAPTION>
UNREALIZED
GAINS
(LOSSES) TOTAL
ON RETAINED TREASURY STOCKHOLDERS'
INVESTMENTS EARNINGS STOCK EQUITY
----------- ---------- ----------- -------------
<S> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1998...... $371,739 $1,060,334 $ (842,209) $ 653,626
Comprehensive income:
Net income.................... 358,877 358,877
Other comprehensive income,
net of tax:
Unrealized gains (losses) on
investments,
net of tax.................. (66,542) (66,542)
----------
Comprehensive income............ 292,335
Cash dividends:
Common stock ($.45 per
share)...................... (72,418) (72,418)
Issuance of common shares....... 27,793
Tax benefit related to employee
stock option
and purchase plan............. 2,497
Premiums on equity forward
purchase contracts............ (20,345)
Repurchase of common shares..... (249,748) (249,748)
-------- ---------- ----------- ----------
BALANCE AT SEPTEMBER 30, 1999..... $305,197 $1,346,793 $(1,091,957) $ 633,740
======== ========== =========== ==========
BALANCE AT DECEMBER 31, 1999...... $297,735 $1,462,034 $(1,183,896) $ 840,914
Comprehensive income:
Net income.................... 366,360 366,360
Other comprehensive income,
net of tax:
Change in unrealized gains
(losses) on investments,
net of tax................ 1,239 1,239
----------
Comprehensive income............ 367,599
Cash dividends:
Common stock ($.48 per
share)...................... (76,144) (76,144)
Preferred stock ($2.64 per
share)...................... (8,657) (8,657)
Issuance of common shares....... 372,366 442,759
Premiums on equity forward
purchase contracts............ (56,398)
Repurchase of common shares..... (174,793) (174,793)
-------- ---------- ----------- ----------
BALANCE AT SEPTEMBER 30, 2000..... $298,974 $1,743,593 $ (986,323) $1,335,280
======== ========== =========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
USA EDUCATION, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
-----------------------------
2000 1999
------------- -------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C>
OPERATING ACTIVITIES
Net income.................................................. $ 366,360 $ 358,877
Adjustments to reconcile net income to net cash provided by
operating activities:
Gains on student loan securitizations..................... (91,010) (11,540)
Gains on sales of student loans........................... (122) --
Gains on sales of securities.............................. (43,817) (9,779)
Provision for losses...................................... 22,766 27,210
(Increase) in accrued interest receivable................. (49,294) (132,911)
Increase (decrease) in accrued interest payable........... 3,592 (68,880)
(Increase) decrease in other assets....................... (160) 27,001
Increase in other liabilities............................. 455,532 146,654
------------- -------------
Total adjustments......................................... 297,487 (22,245)
------------- -------------
Net cash provided by operating activities................... 663,847 336,632
------------- -------------
INVESTING ACTIVITIES
Insured student loans purchased............................. (8,428,740) (9,427,361)
Reduction of insured student loans purchased:
Installment payments...................................... 1,723,354 2,136,388
Claims and resales........................................ 375,137 366,261
Proceeds from securitization of student loans............. 8,734,901 2,031,320
Proceeds from sales of student loans...................... 126,172 --
Warehousing advances made................................... (800,324) (577,459)
Warehousing advance repayments.............................. 982,454 810,365
Academic facilities financings made......................... (11,609) (35,919)
Academic facilities financings reductions................... 155,075 118,733
Investments purchased....................................... (32,888,320) (7,958,809)
Proceeds from sale or maturity of investments............... 34,302,642 8,351,871
Purchase of subsidiaries, net of cash acquired (Note 6)..... (448,754) (317,722)
------------- -------------
Net cash provided by (used in) investing activities......... 3,823,988 (4,502,332)
------------- -------------
FINANCING ACTIVITIES
Short-term borrowings issued................................ 580,847,220 409,501,619
Short-term borrowings repaid................................ (584,160,609) (406,398,210)
Long-term notes issued...................................... 13,523,596 10,283,891
Long-term notes repaid...................................... (14,710,000) (8,907,072)
Equity forward contracts and common stock issued............ 386,361 9,945
Common stock repurchased.................................... (174,793) (249,748)
Common dividends paid....................................... (76,144) (72,418)
Preferred dividends paid.................................... (8,657) --
------------- -------------
Net cash (used in) provided by financing activities......... (4,373,026) 4,168,007
------------- -------------
Net increase in cash and cash equivalents................... 114,809 2,307
Cash and cash equivalents at beginning of period............ 589,750 115,912
------------- -------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD.................. $ 704,559 $ 118,219
============= =============
Cash disbursements made for:
Interest.................................................... $ 1,788,202 $ 1,323,214
============= =============
Income taxes................................................ $ 95,000 $ 248,500
============= =============
</TABLE>
See accompanying notes to consolidated financial statements.
7
<PAGE>
USA EDUCATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION AT SEPTEMBER 30, 2000 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 AND 1999 IS UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNT OR AS OTHERWISE NOTED)
1. SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of USA
Education, Inc. (the "Company"), formerly SLM Holding Corporation, have been
prepared in accordance with generally accepted accounting principles ("GAAP")
for interim financial information. Accordingly, they do not include all of the
information and footnotes required by GAAP for complete consolidated financial
statements. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. Actual results
could differ from those estimates. Operating results for the three and nine
months ended September 30, 2000 are not necessarily indicative of the results
for the year ending December 31, 2000.
2. NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative
Instruments and Hedging Activities," which requires that every derivative
instrument, including certain derivative instruments embedded in other
contracts, be recorded on the balance sheet as either an asset or liability
measured at its fair value. SFAS 133, as amended by Statement of Financial
Accounting Standards No. 137, "Accounting for Derivative Instruments and Hedging
Activities--Deferral of Effective Date of FASB Statement No. 133," and Statement
of Financial Accounting Standards No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities," is effective for the Company's
financial statements beginning January 1, 2001. SFAS 133, as amended, requires
that changes in the derivative instrument's fair value be recognized currently
in earnings unless specific hedge accounting criteria are met. Special
accounting for derivative financial instruments that qualify as fair value
hedges allows a derivative instrument's gains and losses to offset related fair
value changes on the hedged item in the income statement. Derivative financial
instruments that qualify as cashflow hedges are reported as adjustments to
stockholders' equity as a component of other comprehensive income and require
that a company formally document, designate and assess the effectiveness of
transactions that receive hedge accounting treatment. SFAS 133 could result in
increased period to period volatility in reported net income. Management is
continuing to assess the potential impact of SFAS 133 on the Company's reported
results of operations and financial position. The Company will implement the new
standard on January 1, 2001.
On March 16, 2000, the Emerging Issues Task Force ("EITF") issued EITF Issue
No. 00-7 ("EITF No. 00-7"), "Application of Issue No. 96-13, 'Accounting for
Derivative Financial Instruments Indexed to, and Potentially Settled in, a
Company's Own Stock,' to Equity Derivative Instruments That Contain Certain
Provisions That Require Net Cash Settlement If Certain Events Occur." The EITF
announced a consensus that any equity derivative contract that could require net
cash settlement (as defined in EITF Issue No. 96-13) must be accounted for as an
asset or liability and cannot be included in the permanent equity of the
Company. In addition, any equity derivative contracts that could require
physical settlement by a cash payment to the counterparty in exchange for the
issuer's shares, must be accounted for as temporary equity as defined by the SEC
under Accounting Series Release (ASR)
8
<PAGE>
USA EDUCATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 2000 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 AND 1999 IS UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNT OR AS OTHERWISE NOTED)
2. NEW ACCOUNTING PRONOUNCEMENTS (CONTINUED)
No. 268, "Presentation in Financial Statements of 'Redeemable Preferred
Stocks.' " EITF No. 00-7 is effective immediately for all new contracts entered
into after March 16, 2000. The EITF met on July 19, 2000 to discuss various
issues and questions concerning EITF No. 00-7. Following that meeting, the EITF
issued EITF Issue No. 00-19 ("EITF No. 00-19"), "Determination of Whether Share
Settlement is within the Control of the Issuer for Purposes of Applying Issue
No. 96-13." On September 20, 2000, the EITF reached a final consensus on EITF
Issue No. 00-19. EITF Issue No. 00-19 provides that in order for the contract to
be accounted for as permanent equity, the contract's provisions should put the
company's counterparty in no better position than the company's common
shareholders. The EITF also confirmed the effective date of EITF Issue No. 00-7
to be June 30, 2001 for contracts entered into before September 20, 2000. If the
contract is entered into after September 20, 2000, EITF Issue No. 00-19 is
applicable at contract inception.
The Company currently accounts for its equity forward contracts through
equity in accordance with EITF Issue No. 96-13. The Company is reviewing
potential amendments on its equity forward contracts in place at March 16, 2000
to satisfy the requirements of EITF No. 00-7 and EITF No. 00-19 to allow
accounting through permanent equity. If the Company cannot amend the contracts
and does not terminate such positions, EITF No. 00-7 and EITF No. 00-19 could,
depending upon the Company's share price at and after the effective date,
materially affect the Company's capital position as well as its future earnings.
Management is continuing to assess the potential impact of EITF No. 00-7 and
EITF No. 00-19 on the Company's reported results of operations and financial
position.
In October 2000, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 140 ("SFAS 140"), "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities--a Replacement of FASB Statement No. 125." SFAS 140 requires new
disclosures about securitizations and retained interests in securitized
financial assets and revises the criteria involving qualifying special purpose
entities. Under SFAS 140, entities will be required to disclose information
about securitizations regarding accounting policies, securitization
characteristics, key assumptions used and cash flows between the securitization
special purpose entities and the transferor. Additionally, entities will be
required to disclose information related to retained interests in securitized
financial assets, regarding accounting policies for subsequent measuring of
retained interests, key assumptions used in subsequent fair value measurements,
sensitivity analysis showing hypothetical effects on fair values based on
unfavorable variations from key assumptions and general characteristics of the
securitized assets such as principal balances, delinquencies and credit losses.
These new disclosure requirements are to be provided for fiscal years ending
after December 15, 2000. Additionally, SFAS 140 revises the criteria involving
qualifying special purpose entities. These revisions related to special purpose
entities are to be applied prospectively to transfers of financial assets and
extinguishments of liabilities occurring after March 31, 2001.
9
<PAGE>
USA EDUCATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 2000 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 AND 1999 IS UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNT OR AS OTHERWISE NOTED)
3. ALLOWANCE FOR LOSSES
The following table summarizes changes in the allowance for losses for the
three and nine months ended September 30, 2000 and 1999, respectively.
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
BALANCE AT BEGINNING OF PERIOD...................... $299,392 $298,704 $303,743 $293,185
Additions
Provisions for losses............................. 5,428 6,545 22,766 27,210
Recoveries........................................ 16,373 17,641 21,159 20,672
Deductions
Reductions for sales of student loans............. (3,679) (1,668) (16,648) (2,735)
Write-offs........................................ (5,990) (13,582) (19,496) (30,692)
-------- -------- -------- --------
BALANCE AT END OF PERIOD............................ $311,524 $307,640 $311,524 $307,640
======== ======== ======== ========
</TABLE>
4. STUDENT LOAN SECURITIZATION
For the three months ended September 30, 2000 and 1999, the Company
securitized $2.0 billion and $1.0 billion, respectively, of student loans and
recorded pre-tax gains of $23 million and $4 million, respectively. For the nine
months ended September 30, 2000 and 1999, the Company securitized $8.5 billion
and $2.0 billion, respectively, of student loans and recorded pre-tax gains of
$91 million and $12 million, respectively. At September 30, 2000 and
December 31, 1999, outstanding securitized student loans that the Company
continues to manage totaled $30.7 billion and $19.5 billion, respectively.
5. COMMON STOCK
Basic earnings per share are calculated using the weighted average number of
shares of common stock outstanding during each period. Diluted earnings per
share reflect the potential dilutive effect of additional common shares that are
issuable upon exercise of outstanding stock options and warrants,
10
<PAGE>
USA EDUCATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 2000 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 AND 1999 IS UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNT OR AS OTHERWISE NOTED)
5. COMMON STOCK (CONTINUED)
determined by the treasury stock method, and equity forwards, determined by the
reverse treasury stock method, as follows:
<TABLE>
<CAPTION>
AVERAGE EARNINGS
NET INCOME SHARES PER SHARE
---------- ----------- ----------
(THOUSANDS)
<S> <C> <C> <C>
THREE MONTHS ENDED SEPTEMBER 30, 2000
Basic earnings per share.................................. $ 89,353 160,652 $ .56
Dilutive effect of stock options, warrants and equity
forwards................................................ -- 2,627 (.01)
-------- ------- -----
Diluted earnings per share................................ $ 89,353 163,279 $ .55
======== ======= =====
THREE MONTHS ENDED SEPTEMBER 30, 1999
Basic earnings per share.................................. $121,405 159,661 $ .76
Dilutive effect of stock options, warrants and equity
forwards................................................ -- 2,642 (.01)
-------- ------- -----
Diluted earnings per share................................ $121,405 162,303 $ .75
======== ======= =====
</TABLE>
<TABLE>
<CAPTION>
AVERAGE EARNINGS
NET INCOME SHARES PER SHARE
---------- ----------- ----------
(THOUSANDS)
<S> <C> <C> <C>
NINE MONTHS ENDED SEPTEMBER 30, 2000
Basic earnings per share.................................. $357,703 157,989 $2.26
Dilutive effect of stock options, warrants and equity
forwards................................................ -- 4,515 (.06)
-------- ------- -----
Diluted earnings per share................................ $357,703 162,504 $2.20
======== ======= =====
NINE MONTHS ENDED SEPTEMBER 30, 1999
Basic earnings per share.................................. $358,877 161,377 $2.22
Dilutive effect of stock options, warrants, and equity
forwards................................................ -- 2,539 (.03)
-------- ------- -----
Diluted earnings per share................................ $358,877 163,916 $2.19
======== ======= =====
</TABLE>
6. ACQUISITIONS
In July 1999, the Company completed the purchase of Nellie Mae Corporation
for $332 million in cash and stock in an acquisition accounted for as a
purchase. As a result of the purchase, the Company recognized $90 million in
goodwill. At the time of the acquisition, Nellie Mae had an outstanding student
loan portfolio of $2.6 billion and in 1998, Nellie Mae originated more than
$375 million in student loans. Nellie Mae's pro-forma results of operations for
the years ended December 31, 1999 and
11
<PAGE>
USA EDUCATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 2000 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 AND 1999 IS UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNT OR AS OTHERWISE NOTED)
6. ACQUISITIONS (CONTINUED)
1998 were immaterial to the Company's financial position and its results of
operations. The fair value of Nellie Mae's asset and liabilities at the date of
acquisition are presented below (dollars in millions):
<TABLE>
<S> <C>
Student loans............................................... $ 2,585
Cash and investments........................................ 15
Goodwill.................................................... 90
Other assets................................................ 97
Short-term borrowings....................................... (1,373)
Long-term notes............................................. (1,029)
Other liabilities........................................... (53)
-------
Net assets acquired......................................... $ 332
=======
</TABLE>
Effective as of July 7, 2000, the Company completed the acquisition of
Student Loan Funding Resources, Inc. ("SLFR") from the Thomas J. Conlan
Education Foundation for $117 million in cash. SLFR was the eighth largest
holder of federal student loans in the nation with a $3.1 billion portfolio.
Based on a preliminary allocation of the purchase price, the Company recognized
$49 million in goodwill. SLFR's pro-forma results of operations for the year
ended 1999 and for the nine months ended September 30, 2000 were immaterial to
the Company's financial position and its results of operations. The fair value
of SLFR's asset and liabilities at the date of acquisition are presented below
(dollars in millions):
<TABLE>
<S> <C>
Student loans............................................... $ 3,103
Cash and investments........................................ 368
Goodwill.................................................... 49
Other assets................................................ 112
Short-term borrowings....................................... (753)
Long-term notes............................................. (2,692)
Other liabilities........................................... (70)
-------
Net assets acquired......................................... $ 117
=======
</TABLE>
Effective as of July 31, 2000, the Company completed the acquisition of the
guarantee servicing, student loan servicing and secondary market operations of
USA Group, Inc. ("USA Group"). The Company did not acquire the operations of the
sellers' affiliates, USA Group Funds, Inc. and Secondary Market
Services--Hawaii. The acquisition price was $795 million in cash and stock.
Based on a preliminary allocation of the purchase price, the Company recognized
$458 million in goodwill. The purchase consideration included approximately one
million shares of restricted stock with the exercise contingent upon the
combined company's achievement of certain income and cost reduction goals. USA
Group's pro-forma results of operations for the year ended 1999 and for the nine
months ended September 30, 2000 were immaterial to the Company's financial
position and its results of
12
<PAGE>
USA EDUCATION, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 2000 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2000 AND 1999 IS UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNT OR AS OTHERWISE NOTED)
6. ACQUISITIONS (CONTINUED)
operations. The fair value of USA Group's asset and liabilities at the date of
acquisition are presented below (dollars in millions):
<TABLE>
<S> <C>
Student loans............................................... $ 1,421
Cash and investments........................................ 217
Goodwill.................................................... 458
Other assets................................................ 345
Long-term notes............................................. (1,489)
Other liabilities........................................... (157)
-------
Net assets acquired......................................... $ 795
=======
</TABLE>
7. SUBSEQUENT EVENTS
On October 3, 2000, the Company issued $500,000,000 of its Senior Notes due
September 16, 2002. The proceeds to the Company from the sale of these notes,
before expenses, were $498,750,000 and were used for general corporate purposes.
Effective October 27, 2000, the Company renewed its $600 million 364-day
revolving credit facility for an additional 364-day period. Liquidity support
for the Company's commercial paper program is provided by this $600 million
364-day revolving credit facility which matures on October 26, 2001 and a
$400 million 5-year revolving credit facility which matures on October 29, 2004.
13
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
OVERVIEW
SLM HOLDING CORPORATION ("SLM HOLDING") WAS FORMED ON FEBRUARY 3, 1997 AS A
WHOLLY OWNED SUBSIDIARY OF THE STUDENT LOAN MARKETING ASSOCIATION (THE "GSE").
ON AUGUST 7, 1997, PURSUANT TO THE STUDENT LOAN MARKETING ASSOCIATION
REORGANIZATION ACT OF 1996 (THE "PRIVATIZATION ACT") AND APPROVAL BY
SHAREHOLDERS OF AN AGREEMENT AND PLAN OF REORGANIZATION, THE GSE WAS REORGANIZED
INTO A SUBSIDIARY OF SLM HOLDING (THE "REORGANIZATION"). EFFECTIVE AS OF
JULY 31, 2000, SLM HOLDING WAS RENAMED USA EDUCATION, INC. UPON THE COMPLETION
OF THE ACQUISITION OF THE GUARANTEE SERVICING, STUDENT LOAN SERVICING AND
SECONDARY MARKET OPERATIONS OF USA GROUP. THE COMPANY DID NOT ACQUIRE THE
OPERATIONS OF THE SELLERS' AFFILIATES, USA GROUP FUNDS, INC. AND SECONDARY
MARKET SERVICES--HAWAII. USA EDUCATION, INC. IS A HOLDING COMPANY THAT OPERATES
THROUGH A NUMBER OF SUBSIDIARIES INCLUDING THE GSE. REFERENCES HEREIN TO THE
"COMPANY" REFER TO THE GSE AND ITS SUBSIDIARIES FOR PERIODS PRIOR TO THE
REORGANIZATION AND TO USA EDUCATION, INC. AND ITS SUBSIDIARIES FOR PERIODS AFTER
THE REORGANIZATION.
The Company is the nation's largest private source of financing and
servicing for education loans in the United States, primarily through its
participation in the Federal Family Education Loan Program ("FFELP"), formerly
the Guaranteed Student Loan Program. The Company's products and services include
student loan purchases and commitments to purchase student loans, as well as
operational support to originators of student loans and to post-secondary
education institutions, guarantors and other education-related financial
services. The Company also originates, purchases, and holds unguaranteed private
loans.
The following Management's Discussion and Analysis contains forward-looking
statements and information that are based on management's current expectations
as of the date of this document. Discussions that utilize the words "intends,"
"anticipate," "believe," "estimate" and "expect" and similar expressions, as
they relate to the Company's management, are intended to identify forward-
looking statements. Such forward-looking statements are subject to risks,
uncertainties, assumptions and other factors that may cause the actual results
of the Company to be materially different from those reflected in such
forward-looking statements. Such factors include, among others, changes in the
terms of student loans and the educational credit marketplace arising from the
implementation of applicable laws and regulations and from changes in such laws
and regulations, which may reduce the volume, average term and costs of yields
on student loans under the FFELP or result in loans being originated or
refinanced under non-FFELP programs or may affect the terms upon which banks and
others agree to sell FFELP loans to the Company. The Company could also be
affected by changes in the demand for educational financing and consumer lending
or in financing preferences of lenders, educational institutions, students and
their families; and changes in the general interest rate environment and in the
securitization markets for education loans, which may increase the costs or
limit the availability of financings necessary to initiate, purchase or carry
education loans.
Set forth below is Management's Discussion and Analysis of Financial
Condition and Results of Operations of the Company for the three and nine months
ended September 30, 2000 and 1999. This section should be read in conjunction
with Management's Discussion and Analysis of Financial Condition and Results of
Operations for the years ended December 31, 1997-99 presented in the Company's
Annual Report on Form 10-K as filed with the Securities and Exchange Commission.
All dollar amounts are in millions, except per share amounts or as otherwise
noted.
14
<PAGE>
SELECTED FINANCIAL DATA
CONDENSED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED INCREASE ENDED INCREASE
SEPTEMBER 30, (DECREASE) SEPTEMBER 30, (DECREASE)
------------------- ------------------- ------------------- -------------------
2000 1999 $ % 2000 1999 $ %
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net interest income................... $160 $184 $ (24) (13)% $ 484 $ 515 $(31) (6)%
Less: provision for losses............ 5 6 (1) (17) 23 27 (4) (16)
---- ---- ----- ---- ----- ----- ---- ----
Net interest income after provision
for losses.......................... 155 178 (23) (13) 461 488 (27) (5)
Gains on student loan
securitizations..................... 23 4 19 525 91 12 79 689
Servicing and securitization
revenue............................. 80 62 18 29 211 229 (18) (8)
Guarantor servicing fees.............. 51 -- 51 100 51 -- 51 100
Other income.......................... 52 30 22 76 154 73 81 110
Operating expenses and integration
charge.............................. 220 92 128 141 412 264 148 56
Income taxes.......................... 46 58 (12) (20) 182 170 12 7
Minority interest in net earnings of
subsidiary.......................... 3 3 -- -- 8 9 (1) --
---- ---- ----- ---- ----- ----- ---- ----
Net income............................ 92 121 (29) (24) 366 359 7 2
Preferred dividends................... 3 -- 3 100 8 -- 8 100
---- ---- ----- ---- ----- ----- ---- ----
Net income attributable to common
stock............................... $ 89 $121 $ (32) (26)% $ 358 $ 359 $ (1) --%
==== ==== ===== ==== ===== ===== ==== ====
Basic earnings per share.............. $.56 $.76 $(.20) (27)% $2.26 $2.22 $.04 2%
==== ==== ===== ==== ===== ===== ==== ====
Diluted earnings per share............ $.55 $.75 $(.20) (27)% $2.20 $2.19 $.01 --%
==== ==== ===== ==== ===== ===== ==== ====
Dividends per share................... $.16 $.15 $ .01 7% $ .48 $ .45 $.03 7%
==== ==== ===== ==== ===== ===== ==== ====
</TABLE>
CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
INCREASE
(DECREASE)
SEPTEMBER 30, DECEMBER 31, -------------------
2000 1999 $ %
------------- ------------ -------- --------
<S> <C> <C> <C> <C>
ASSETS
Student loans........................................ $35,949 $33,809 $ 2,140 6%
Warehousing advances................................. 861 1,043 (182) (17)
Academic facilities financings....................... 883 1,028 (145) (14)
Cash and investments................................. 4,618 5,775 (1,157) (20)
Other assets......................................... 3,333 2,370 963 41
------- ------- ------- ---
Total assets......................................... $45,644 $44,025 $ 1,619 4%
======= ======= ======= ===
LIABILITIES AND STOCKHOLDERS' EQUITY
Short-term borrowings................................ $30,900 $37,491 $(6,591) (18)%
Long-term notes...................................... 11,523 4,496 7,027 156
Other liabilities.................................... 1,672 983 689 70
------- ------- ------- ---
Total liabilities.................................... 44,095 42,970 1,125 3
------- ------- ------- ---
Minority interest in subsidiary...................... 214 214 -- --
Stockholders' equity before treasury stock........... 2,321 2,025 296 15
Common stock held in treasury at cost................ 986 1,184 (198) (17)
------- ------- ------- ---
Total stockholders' equity........................... 1,335 841 494 59
------- ------- ------- ---
Total liabilities and stockholders' equity........... $45,644 $44,025 $ 1,619 4%
======= ======= ======= ===
</TABLE>
15
<PAGE>
RESULTS OF OPERATIONS
EARNINGS SUMMARY
For the three months ended September 30, 2000, the Company's "core cash
basis" net income was $128 million ($.77 diluted earnings per share), versus
"core cash basis" net income of $110 million ($.68 diluted earnings per share)
in the third quarter of 1999. For the nine months ended September 30, 2000, the
Company's "core cash basis" net income was $355 million ($2.13 diluted earnings
per share) versus $298 million ($1.82 diluted earnings per share) for the nine
months ended September 30, 1999. "Core cash basis" results measure only the
recurring earnings of the Company. Accordingly, securitization transactions are
treated as financings, not sales, and thereby gains on such sales are
eliminated. In addition, the effect of floor revenue, certain one-time gains on
sales of investment securities and student loans, certain integration charges
and the amortization of goodwill are also excluded from net income calculated in
accordance with generally accepted accounting principles ("GAAP"). See
"Pro-forma Statements of Income" for a detailed discussion of "core cash basis"
net income.
The increase in "core cash basis" net income in the third quarter of 2000
versus the third quarter of 1999 is due to the $11.7 billion increase in the
average balance of the Company's managed portfolio of student loans partially
offset by higher funding costs. The additional operating expenses from the
acquisitions of both USA Group and SLFR are offset by the significant increase
in fee income and net interest income due to these acquisitions. For the nine
months ended September 30, 2000, the increase in "core cash basis" net income
versus the year-ago period is mainly due to the $8.4 billion increase in the
average balance of the Company's managed portfolio of student loans, partially
offset by higher funding costs.
For the three months ended September 30, 2000, the Company's GAAP net income
was $92 million ($.55 diluted earnings per share), versus GAAP net income of
$121 million ($.75 diluted earnings per share) in the third quarter of 1999. The
decrease in GAAP net income in the third quarter of 2000 versus the year-ago
quarter is mainly due to a $32 million after-tax integration charge related to
the USA Group acquisition and a decrease in after-tax floor revenue of
$8 million, partially offset by an increase in after-tax securitization gains of
$12 million and an increase in after-tax servicing and securitization revenue of
$12 million. For the nine months ended September 30, 2000, the Company's GAAP
net income was $366 million ($2.20 diluted earnings per share), versus GAAP net
income of $359 million ($2.19 diluted earnings per share) for the nine months
ended September 30, 1999. The increase in year-to-date 2000 GAAP net income
versus year-to-date 1999 GAAP net income is due to a $1.9 billion increase in
the average balance of the Company's on-balance sheet portfolio of student
loans, an increase of $52 million in after-tax securitization gains, and an
increase of $22 million in after-tax gains on sales of investment securities.
The increase in GAAP net income for the first nine months of 2000 versus the
year-ago period is partially offset by a decrease in after-tax floor revenue of
$36 million, lower after-tax servicing and securitization revenue of
$12 million, and a $32 million after-tax integration charge related to the USA
Group acquisition.
As a result of the USA group acquisition, the Company issued approximately
10 million shares during the third quarter of 2000. The Company repurchased
1.5 million shares during the quarter through open market purchases. The net
result was an increase in outstanding shares to 164 million at September 30,
2000.
NET INTEREST INCOME
Net interest income is derived largely from the Company's portfolio of
student loans that remain on-balance sheet. Additional information regarding the
return on the Company's student loan portfolio is set forth under "Student
Loans--Student Loan Spread Analysis."
16
<PAGE>
Taxable equivalent net interest income for the three months ended
September 30, 2000 versus the three months ended September 30, 1999 decreased by
$27 million while the net interest margin decreased by .41 percentage points.
The $39 million decrease in taxable equivalent net interest income attributable
to the change in rates for the three months ended September 30, 2000 versus the
three months ended September 30, 1999 was partially due to the decreases in
floor revenue and the student loan spread. In addition, the Higher Education
Amendments of 1998 which decreased the spread for special allowance payments
("SAP") on student loans also contributed to the decrease in taxable equivalent
net interest income as the percentage of student loans affected by this change
continued to increase. The decrease in taxable equivalent net interest income
attributable to the change in rates was partially offset by a $12 million
increase to the change in volume due to the $2.5 billion increase in the average
balance of investments over the year-ago quarter.
Taxable equivalent net interest income for the nine months ended
September 30, 2000 versus the nine months ended September 30, 1999 decreased by
$32 million while the net interest margin decreased by .32 percentage points.
The $79 million decrease in taxable equivalent net interest income attributable
to the change in rates for the nine months ended September 30, 2000 versus the
nine months ended September 30, 1999 was partially due to the decreases in floor
revenue, the SAP spread, and the student loan spread (discussed in more detail
below). The decrease to taxable equivalent net interest income attributable to
the change in rates was partially offset by a $47 million increase to the change
in volume due to the $3.7 billion increase in the average balance of investments
over the year-ago period.
TAXABLE EQUIVALENT NET INTEREST INCOME
The amounts in the following table are adjusted for the impact of certain
tax-exempt and tax-advantaged investments based on the marginal corporate tax
rate of 35 percent.
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED INCREASE ENDED INCREASE
SEPTEMBER 30, (DECREASE) SEPTEMBER 30, (DECREASE)
------------------- ------------------- ------------------- -------------------
2000 1999 $ % 2000 1999 $ %
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income
Student loans........................ $770 $640 $130 20% $2,072 $1,732 $340 20%
Warehousing advances................. 13 14 (1) (3) 41 54 (13) (24)
Academic facilities financings....... 16 18 (2) (13) 52 56 (4) (8)
Investments.......................... 100 53 47 88 361 156 205 131
Taxable equivalent adjustment........ 5 8 (3) (40) 22 24 (2) (7)
---- ---- ---- --- ------ ------ ---- ---
Total taxable equivalent interest
income............................... 904 733 171 23 2,548 2,022 526 26
Interest expense....................... 739 541 198 37 2,042 1,484 558 38
---- ---- ---- --- ------ ------ ---- ---
Taxable equivalent net interest
income............................... $165 $192 $(27) (14)% $ 506 $ 538 $(32) (6)%
==== ==== ==== === ====== ====== ==== ===
</TABLE>
17
<PAGE>
AVERAGE BALANCE SHEETS
The following table reflects the rates earned on earning assets and paid on
liabilities for the three and nine months ended September 30, 2000 and 1999.
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
------------------------------------------ ------------------------------------------
2000 1999 2000 1999
------------------- ------------------- ------------------- -------------------
BALANCE RATE BALANCE RATE BALANCE RATE BALANCE RATE
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
AVERAGE ASSETS
Student loans.................... $36,440 8.41% $34,595 7.34% $33,836 8.18% $31,988 7.24%
Warehousing advances............. 737 7.12 913 5.90 798 6.87 1,267 5.68
Academic facilities financings... 963 8.19 1,122 8.12 1,007 8.59 1,164 8.15
Investments........................ 5,792 6.92 3,280 6.85 7,191 6.87 3,455 6.40
------- ---- ------- ---- ------- ---- ------- ----
Total interest earning assets...... 43,932 8.18% 39,910 7.29% 42,832 7.95% 37,874 7.14%
==== ==== ==== ====
Non-interest earning assets........ 2,926 2,229 2,476 2,079
------- ------- ------- -------
Total assets....................... $46,858 $42,139 $45,308 $39,953
======= ======= ======= =======
AVERAGE LIABILITIES AND
STOCKHOLDERS' EQUITY
Six month floating rate notes.... $ 4,310 6.58% $ 4,625 5.29% $ 4,538 6.41% $ 4,520 5.23%
Other short-term borrowings...... 30,731 6.68 29,087 5.27 31,362 6.33 26,807 5.13
Long-term notes.................. 9,038 6.67 6,514 5.64 6,927 6.51 6,748 5.51
------- ---- ------- ---- ------- ---- ------- ----
Total interest bearing
liabilities...................... 44,079 6.67% 40,226 5.34% 42,827 6.37% 38,075 5.21%
==== ==== ==== ====
Non-interest bearing liabilities... 1,604 1,272 1,484 1,238
Stockholders' equity............... 1,175 641 997 640
------- ------- ------- -------
Total liabilities and stockholders'
equity........................... $46,858 $42,139 $45,308 $39,953
======= ======= ======= =======
Net interest margin................ 1.50% 1.91% 1.58% 1.90%
==== ==== ==== ====
</TABLE>
18
<PAGE>
RATE/VOLUME ANALYSIS
The Rate/Volume Analysis below shows the relative contribution of changes in
interest rates and asset volumes.
<TABLE>
<CAPTION>
INCREASE
(DECREASE)
TAXABLE ATTRIBUTABLE TO
EQUIVALENT CHANGE IN
INCREASE -------------------
(DECREASE) RATE VOLUME
---------- -------- --------
<S> <C> <C> <C>
THREE MONTHS ENDED SEPTEMBER 30, 2000 VS. THREE MONTHS ENDED
SEPTEMBER 30, 1999
Taxable equivalent interest income.......................... $171 $ 95 $76
Interest expense............................................ 198 134 64
---- ---- ---
Taxable equivalent net interest income...................... $(27) $(39) $12
==== ==== ===
</TABLE>
<TABLE>
<CAPTION>
INCREASE
(DECREASE)
TAXABLE ATTRIBUTABLE TO
EQUIVALENT CHANGE IN
INCREASE -------------------
(DECREASE) RATE VOLUME
---------- -------- --------
<S> <C> <C> <C>
NINE MONTHS ENDED SEPTEMBER 30, 2000 VS. NINE MONTHS ENDED
SEPTEMBER 30, 1999
Taxable equivalent interest income.......................... $526 $252 $274
Interest expense............................................ 558 331 227
---- ---- ----
Taxable equivalent net interest income...................... $(32) $(79) $ 47
==== ==== ====
</TABLE>
STUDENT LOANS
STUDENT LOAN SPREAD ANALYSIS
The following table analyzes the reported earnings from student loans both
on-balance sheet and those off-balance sheet in securitization trusts. The line
captioned "Adjusted student loan yields" reflects contractual student loan
yields. For student loans off-balance sheet, the Company will continue to earn
servicing fee revenues over the life of the securitized student loan portfolios.
The off-balance sheet information presented in "Securitization
Program--Servicing and Securitization Revenue" analyzes the on-going servicing
revenue and residual interest earned on the securitized portfolios of student
loans. For an analysis of the Company's student loan spread for the entire
portfolio of
19
<PAGE>
managed student loans on a similar basis to the on-balance sheet analysis, see
" `Core Cash Basis' Student Loan Spread and Net Interest Income."
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
ON-BALANCE SHEET
Adjusted student loan yields............................ 9.10% 7.94% 8.84% 7.88%
Consolidated loan rebate fees........................... (.26) (.22) (.26) (.22)
Offset fees............................................. (.14) (.15) (.13) (.14)
Borrower benefits....................................... (.07) (.07) (.07) (.06)
Premium amortization.................................... (.22) (.16) (.20) (.22)
------- ------- ------- -------
Student loan income..................................... 8.41 7.34 8.18 7.24
Cost of funds........................................... (6.62) (5.29) (6.34) (5.18)
------- ------- ------- -------
Student loan spread..................................... 1.79% 2.05% 1.84% 2.06%
======= ======= ======= =======
OFF-BALANCE SHEET
Servicing and securitization revenue.................... 1.15% 1.37% 1.17% 1.74%
======= ======= ======= =======
AVERAGE BALANCES
Student loans........................................... $36,440 $34,595 $33,836 $31,988
Securitized loans....................................... 27,756 17,888 24,124 17,585
------- ------- ------- -------
Managed student loans................................... $64,196 $52,483 $57,960 $49,573
======= ======= ======= =======
</TABLE>
The Company's portfolio of student loans originated under the FFELP has a
variety of unique interest rate characteristics. The Company generally earns
interest at the greater of the borrower's rate or a floating rate determined by
reference to the average of the weekly auctions of 91-day Treasury bills by the
government, plus a fixed spread which is dependent upon when the loan was
originated. If the floating rate exceeds the borrower rate, the Department of
Education makes a payment directly to the Company based upon the SAP formula
established under the Higher Education Act. If the floating rate is less than
the rate the borrower is obligated to pay, the Company simply earns interest at
the borrower rate. In all cases, the rate a borrower is obligated to pay sets a
minimum rate for determining the yield the Company earns on a loan. The
borrowers' interest rates are either fixed to term or are reset annually on
July 1 of each year depending on when the loan was originated.
The Company generally finances its student loan portfolio with floating rate
debt tied to the average of the 91-day Treasury bill auctions, either directly
or through the use of derivative financial instruments, intended to mimic the
interest rate characteristics of the student loans. Such borrowings float over
all interest rate ranges. As a result, in periods of declining interest rates,
the portfolio of managed student loans may be earning at the borrower rate while
the Company's funding costs (exclusive of fluctuations in funding spreads)
generally continue to decline along with Treasury bill rates. When this happens,
the difference between the interest earned from the rate paid by the borrower
and the interest that would have been earned under the SAP formula is referred
to as "floor revenue." For loans where the borrower's interest rate is fixed to
term, declining interest rates may benefit the spread earned on student loans
for extended periods of time. For loans where the borrower's interest rate is
reset annually, any benefit of a declining interest rate environment will only
enhance student loan spreads through the next annual reset of the borrower's
interest rates, which occurs on July 1 of each year.
Due to the continued rise in Treasury bill rates since the third quarter of
1999, the Company earned floor revenue of $0.01 million in the third quarter of
2000 versus $13 million of such revenue in the year-ago quarter. The floor
revenue earned in the third quarter of 2000 was attributable to student
20
<PAGE>
loans whose minimum borrower rates adjust annually on July 1, while in the third
quarter of 1999, $12 million of the floor revenue earned was from student loans
whose borrower rates are fixed to term, and $0.4 million was from student loans
whose borrower rates reset annually. The reduction in floor revenue decreased
the third quarter 2000 on-balance sheet student loan spread by 15 basis points
versus the year-ago quarter. For the nine months ended September 30, 2000, the
Company earned floor revenue of $3 million of which $2 million was attributable
to student loans whose minimum borrower rates are fixed to term and $1 million
was attributable to student loans whose minimum borrower rates adjust annually
on July 1. For the nine months ended September 30, 1999, the Company earned
floor revenue of $58 million, of which $40 million was attributable to student
loans whose minimum borrower rates are fixed to term and $18 million was
attributable to student loans whose minimum borrower rates adjust annually on
July 1. The reduction in floor revenue decreased the year-to-date 2000
on-balance sheet student loan spread by 23 basis points versus the year-ago
period.
The Company's match funding of its student loan portfolio on a managed basis
affects servicing and securitization revenue in the opposite direction from its
effect on the on-balance sheet student loan spread. Specifically, the Company's
on-balance sheet use of funding indexed to the July 1999 reset of the 52-week
Treasury bill to fund off-balance sheet PLUS student loans decreased servicing
and securitization revenue by $18 million for the nine months ended
September 30, 2000 versus the prior year due to the rise in Treasury bill rates
which increased off-balance sheet funding costs for debt indexed to the 91-day
Treasury bill and funding PLUS loans. The opposite effect occurs on-balance
sheet as the Company uses the excess of off-balance sheet 91-day Treasury bill
funding to fund on-balance sheet student loans indexed to the 91-day Treasury
bill.
The following table analyzes the ability of the FFELP student loans in the
Company's managed student loan portfolio to earn at the minimum borrower
interest rate at September 30, 2000 and 1999, based on the last Treasury bill
auctions of September 2000 and September 1999 for fixed rate loans
(6.18 percent and 4.86 percent, respectively), and based on the last Treasury
bill auctions of May 2000 and May 1999 for variable rate loans (5.89 percent and
4.62 percent, respectively).
<TABLE>
<CAPTION>
SEPTEMBER 30, 2000 SEPTEMBER 30, 1999
------------------------------ ------------------------------
FIXED VARIABLE TOTAL FIXED VARIABLE TOTAL
(DOLLARS IN BILLIONS) -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Student loans eligible to earn at the minimum borrower
rate................................................. $16.0 $36.9 $52.9 $13.0 $28.8 $41.8
Less notional amount of floor interest contracts....... (4.7) (2.0) (6.7) (3.5) (3.1) (6.6)
----- ----- ----- ----- ----- -----
Net student loans eligible to earn at the minimum
borrower rate........................................ $11.3 $34.9 $46.2 $ 9.5 $25.7 $35.2
===== ===== ===== ===== ===== =====
Net student loans earning at the minimum borrower
rate................................................. $ -- $ -- $ -- $ 7.7 $ -- $ 7.7
===== ===== ===== ===== ===== =====
</TABLE>
STUDENT LOAN FLOOR REVENUE CONTRACTS
For the three months ended September 30, 2000 and 1999, the amortization of
the upfront payments received from the sale of Floor Revenue Contracts on the
Company's on-balance sheet student loans with fixed borrower rates was
$7 million and $5 million, respectively, and for Floor Revenue Contracts with
annually reset borrower rates was $0.01 million and $0.4 million, respectively.
For the nine months ended September 30, 2000 and 1999, the amortization of the
upfront payments received from the sale of Floor Revenue Contracts on the
Company's on-balance sheet student loans with fixed borrower rates was
$17 million and $16 million, respectively, and for Floor Revenue Contracts with
annually reset borrower rates was $1 million and $20 million, respectively.
At September 30, 2000, unamortized payments received from the sale of Floor
Revenue Contracts totaled $72 million, substantially all of which related to
contracts on fixed rate loans. At September 30, 2000, the Company had
$4.7 billion of outstanding fixed borrower rate Floor Revenue Contracts with
21
<PAGE>
expiration dates through the year 2007, and $2.0 billion of annually reset
borrower rate contracts that expire on December 31, 2000.
ON-BALANCE SHEET FUNDING COSTS
The Company's borrowings are generally variable rate indexed principally to
the 91-day Treasury bill rate. The following table summarizes the average
balance of on-balance sheet debt (by index, after giving effect to the impact of
interest rate swaps) for the three and nine months ended September 30, 2000 and
1999.
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
------------------------------------------ ------------------------------------------
2000 1999 2000 1999
------------------- ------------------- ------------------- -------------------
AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE RATE BALANCE RATE BALANCE RATE BALANCE RATE
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Treasury bill, principally
91-day................... $32,043 6.70% $30,388 5.32% $32,757 6.39% $29,134 5.20%
LIBOR...................... 2,468 6.71 2,597 5.12 1,886 6.38 2,551 4.99
Discount notes............. 4,365 6.48 4,286 5.04 4,270 6.11 4,137 4.87
Fixed...................... 1,501 5.98 1,449 5.86 1,444 5.98 1,066 5.97
Zero coupon................ 174 11.17 155 11.14 169 11.17 151 11.14
Commercial paper........... 1,271 6.78 463 5.39 1,061 6.59 156 5.39
Auction rate securities.... 1,495 5.80 -- -- 502 5.80 -- --
Other...................... 762 6.82 888 5.20 738 6.20 880 4.90
------- ----- ------- ----- ------- ----- ------- -----
Total...................... $44,079 6.67% $40,226 5.34% $42,827 6.37% $38,075 5.21%
======= ===== ======= ===== ======= ===== ======= =====
</TABLE>
The following table details the spreads for the Company's Treasury bill
indexed borrowings and London Interbank Offered Rate ("LIBOR") indexed
borrowings:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
INDEXED BORROWINGS 2000 1999 2000 1999
------------------ -------- -------- -------- --------
<S> <C> <C> <C> <C>
TREASURY BILL
Weighted average Treasury bill......... 6.19% 4.83% 5.87% 4.74%
Borrowing spread....................... .51 .49 .52 .46
---- ---- ---- ----
Weighted average borrowing rate........ 6.70% 5.32% 6.39% 5.20%
==== ==== ==== ====
LIBOR
Weighted average LIBOR................. 6.85% 5.29% 6.57% 5.20%
Borrowing spread....................... (.14) (.17) (.19) (.21)
---- ---- ---- ----
Weighted average borrowing rate........ 6.71% 5.12% 6.38% 4.99%
==== ==== ==== ====
</TABLE>
SECURITIZATION PROGRAM
During the third quarter of 2000, the Company completed a securitization
transaction in which a total of $2.0 billion of student loans were sold to a
special purpose finance subsidiary and by that subsidiary to a trust that issued
asset-backed securities to fund the student loans to term. For the nine months
ended September 30, 2000, the Company securitized a total of $8.5 billion of
student loans in four separate transactions.
During the third quarter of 1999, the Company securitized $1.0 billion of
student loans for a total of $2.0 billion for the nine months ended
September 30, 1999.
22
<PAGE>
GAINS ON STUDENT LOAN SECURITIZATIONS
For the three months ended September 30, 2000 the Company recorded a pre-tax
securitization gain of $23 million, which was 1.10 percent of the portfolio
securitized, versus a pre-tax securitization gain of $4 million, which was
0.36 percent of the portfolio securitized in the third quarter of 1999. The
increase in the 2000 third quarter securitization gain as a percentage of the
portfolio securitized versus the year-ago quarter is mainly due to lower
financing spreads. For the nine months ended September 30, 2000, the Company
recorded pre-tax securitization gains of $91 million, which was 1.07 percent of
the portfolios securitized, versus a pre-tax securitization gain of
$12 million, which was .58 percent of the portfolio securitized in the nine
months ended September 30, 1999. Gains on future securitizations will continue
to vary depending on the size and the loan characteristics of the loan
portfolios securitized and the funding costs prevailing in the securitization
debt markets at the time of each transaction.
SERVICING AND SECURITIZATION REVENUE
The following table summarizes the components of servicing and
securitization revenue:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Servicing revenue less amortization of
servicing asset........................... $58 $40 $157 $118
Securitization revenue...................... 22 22 54 111
--- --- ---- ----
Total servicing and securitization
revenue................................... $80 $62 $211 $229
=== === ==== ====
</TABLE>
In the three and nine months ended September 30, 2000, servicing and
securitization revenue was 1.15 percent and 1.17 percent, respectively, of
average securitized loans versus 1.37 percent and 1.74 percent, respectively, in
the corresponding year-ago periods. The decrease in servicing and securitization
revenue as a percentage of the average balance of securitized student loans in
the three and nine months ended 2000 versus the corresponding year-ago periods
is mainly due to the impact of the rise in Treasury bill rates since the second
half of 1999, which decreased floor revenues from student loans in the trusts by
$2 million and $40 million, respectively.
OTHER INCOME
Other income, exclusive of gains on student loan securitizations and
servicing and securitization revenue, totaled $103 million and $30 million for
the three months ended September 30, 2000 and 1999, respectively, and
$205 million and $73 million for the nine months ended September 30, 2000 and
1999, respectively. Other income mainly includes late fees earned on student
loans, gains and losses on sales of investment securities, guarantor servicing
fees, revenue received from servicing third party portfolios of student loans,
and commitment fees for letters of credit. The increase in other income for the
third quarter of 2000 versus the third quarter of 1999 is mainly due to the
inclusion of guarantor servicing, loan servicing and other fee revenue of
$71 million from USA Group. The increase in other income for the nine months
ended September 30, 2000 versus the nine months ended September 30, 1999 is
mainly due to $34 million of additional gains on sales of investment securities,
$7 million additional late fee revenue, $9 million additional fee revenue from
SLM Financial, and $71 million fee revenue associated with the acquisition of
USA Group's operations.
23
<PAGE>
OPERATING EXPENSES
The following table summarizes the components of operating expenses:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Servicing and acquisition expenses.......... $100 $59 $218 $181
General and administrative expenses......... 67 33 140 83
Integration charge.......................... 53 -- 53 --
---- --- ---- ----
Total operating expenses.................... $220 $92 $411 $264
==== === ==== ====
</TABLE>
Operating expenses include costs to service the Company's managed student
loan portfolio, operational costs associated with its guarantor services
operations, operational costs incurred in the process of acquiring student loan
portfolios, and general and administrative expenses. The Company recorded an
integration charge of $53 million in the third quarter of 2000 to cover
severance costs, costs to close facilities and move functional responsibilities
as well as costs to align system capabilities and move the data center.
Exclusive of this one-time integration charge, operating expenses for the three
months ended September 30, 2000 and 1999 were $167 million and $92 million,
respectively. For the nine months ended September 30, 2000 and 1999, total
operating expenses exclusive of this one-time integration charge were
$358 million and $264 million, respectively. The increase in operating expenses
for the three and nine months ended September 30, 2000 over the corresponding
year-ago periods was mainly due to expenses related to SLFR and USA Group
operations which the Company acquired in the third quarter of 2000, and to
expenses of new business initiatives, specifically, SLM Financial, Sallie Mae
Solutions, and e-commerce initiatives.
STUDENT LOAN PURCHASES
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
------------------------------- -------------------------------
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
2000 1999 2000 1999
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
ExportSS-Registered Trademark-,
origination and servicing
clients.................. $ 1,693 $1,438 $ 5,301 $ 6,174
Other commitment clients... 415 1,059 1,226 1,664
Spot purchases............. 279 4 489 65
Consolidations............. 219 207 586 749
Acquisitions............... 4,524 2,585 4,524 2,585
Other...................... 262 268 824 775
------- ------ ------- -------
Total...................... 7,392 5,561 12,950 12,012
Managed loans acquired..... 5,165 -- 5,165 --
------- ------ ------- -------
Total managed loans
acquired................. $12,557 $5,561 $18,115 $12,012
======= ====== ======= =======
</TABLE>
For the three months ended September 30, 2000, the Company purchased
$7.4 billion and acquired $5.2 billion of managed loans for a record total of
$12.6 billion of student loans compared with $5.6 billion in the year-ago
period. Included in the third quarter of 2000 purchases are $1.4 billion of
student loans acquired from USA Group and $3.1 billion of student loans acquired
from SLFR. Included in the third quarter of 1999 purchases are $2.6 billion of
student loans acquired from Nellie Mae. For the nine months ended September 30,
2000, the Company acquired a total of $18 billion of managed student loans
compared with $12 billion in the year-ago period. In the fourth quarter of 1998,
the Company restructured its joint venture with Chase Manhattan Bank ("Chase")
and now purchases
24
<PAGE>
all loans originated by Chase. The purchases in the nine months ended
September 30, 1999 include $1.6 billion of loans from the joint venture that
were previously owned by Chase.
In the third quarter of 2000, the Company's controlled channels of loan
originations totaled $2.4 billion versus $1.6 billion in the year-ago quarter.
The pipeline of loans currently serviced and committed for purchase by the
Company was $3.2 billion at September 30, 2000 and 1999.
The Department of Education offers existing FFELP borrowers the opportunity
to refinance FFELP loans into Federal Direct Student Loan Program ("FDSLP")
consolidation loans. During the three months ended September 30, 2000 and 1999,
approximately $165 million and $92 million, respectively, of the Company's
managed student loans were accepted for refinancing into the FDSLP. During the
nine months ended September 30, 2000 and 1999, approximately $382 million and
$690 million, respectively, of the Company's managed student loans were accepted
for refinancing into the FDSLP. The relatively high balance in the nine months
ended September 30, 1999 was the result of legislation passed in 1998 that
allowed borrowers to submit applications by January 31, 1999 for consolidated
student loans under the FDSLP at advantageous interest rates.
The following table summarizes the activity in the Company's managed
portfolio of student loans for the three and nine months ended September 30,
2000 and 1999.
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
BEGINNING BALANCE....................................... $55,947 $49,516 $53,276 $46,342
Purchases............................................... 12,557 5,561 18,115 12,012
Capitalized interest on securitized loans............... 208 112 479 279
Repayments, claims, other............................... (1,614) (1,224) (4,187) (3,840)
Loan sales.............................................. -- -- (126) --
Loans consolidated from USA Education................... (410) (185) (869) (1,013)
------- ------- ------- -------
Ending balance.......................................... $66,688 $53,780 $66,688 $53,780
======= ======= ======= =======
</TABLE>
PRO-FORMA STATEMENTS OF INCOME
Under GAAP, the Company's securitization transactions have been treated as
sales. At the time of sale, in accordance with Statement of Financial Accounting
Standards No. 125 ("SFAS 125"), the Company records a gain equal to the present
value of the estimated future net cash flows from the portfolio of loans sold.
Interest earned on the interest residual and fees earned for servicing the loan
portfolios are recognized over the life of the securitization transaction as
servicing and securitization revenue. Under SFAS 125, income recognition is
effectively accelerated through the recognition of a gain at the time of sale
while the ultimate realization of such income remains dependent on the actual
performance, over time, of the loans that were securitized.
Management believes that in addition to results of operations as reported in
accordance with GAAP, another important performance measure is pro-forma results
of operations under the assumption that the securitization transactions are
financings and that the securitized student loans were not sold. The pro-forma
results of operations also exclude the effect of floor revenue, certain one-time
gains on sales of investment securities and student loans, certain integration
charges and the amortization of goodwill. The following pro-forma statements of
income present the Company's results of operations under the assumption that the
securitization transactions are financings and that the securitized student
loans were not sold. As such, no gain on sale or subsequent servicing and
securitization revenue is recognized. Instead, the earnings of the student loans
in the trusts and related financing costs are reflected over the life of the
underlying pool of loans. The effect of floor revenue and certain one-time gains
on sales of investment securities and student loans are also excluded from
25
<PAGE>
net income. Management refers to these pro-forma results as "core cash basis"
statements of income. Management monitors and reports the periodic "core cash
basis" earnings of the Company's managed student loan portfolio and believes
that they assist in a better understanding of the Company's student loan
business.
The following table presents the "core cash basis" statements of income and
reconciliations to GAAP net income as reflected in the Company's consolidated
statements of income.
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
"CORE CASH BASIS" STATEMENTS OF INCOME:
Insured student loans.................................. $1,366 $ 953 $ 3,574 $ 2,612
Advances/Facilities/Investments........................ 139 86 466 269
------ ------ ------- -------
Total interest income.................................. 1,505 1,039 4,040 2,881
Interest expense....................................... (1,238) (795) (3,274) (2,200)
------ ------ ------- -------
Net interest income.................................... 267 244 766 681
Less: provision for losses............................. 11 11 39 40
------ ------ ------- -------
Net interest income after provision for losses......... 256 233 727 641
------ ------ ------- -------
OTHER INCOME:
Gains on student loan securitizations................ -- -- -- --
Servicing and securitization revenue................. -- -- -- --
Gains on sales of student loans...................... -- -- -- --
Gains on sales of securities......................... -- -- 1 1
Guarantor servicing fees............................. 51 -- 51 --
Other................................................ 52 21 110 63
------ ------ ------- -------
Total other income..................................... 103 21 162 64
Total operating expenses............................... 161 90 349 263
------ ------ ------- -------
Income before taxes and minority interest in earnings
of subsidiary........................................ 198 164 540 442
Income taxes........................................... 67 51 177 136
Minority interest in earnings of subsidiary............ 3 3 8 8
------ ------ ------- -------
"Core cash basis" net income........................... $ 128 $ 110 $ 355 $ 298
Preferred dividends.................................... 3 -- 9 --
------ ------ ------- -------
"Core cash basis" net income attributable to common
stock................................................ $ 125 $ 110 $ 346 $ 298
====== ====== ======= =======
"Core cash basis" diluted earnings per share........... $ .77 $ .68 $ 2.13 $ 1.82
====== ====== ======= =======
</TABLE>
26
<PAGE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
RECONCILIATION OF GAAP NET INCOME TO "CORE CASH BASIS"
NET INCOME:
GAAP net income........................................ $ 92 $ 121 $ 366 $ 359
------ ------ ------- -------
"Cash basis" adjustments:
Gains on student loan securitizations................ (22) (4) (91) (12)
Gains on sales of student loans...................... -- -- -- --
Servicing and securitization revenue................. (80) (62) (211) (228)
Net interest income.................................. 107 75 285 265
Goodwill amortization................................ 6 1 9 1
Provision for losses................................. (6) (4) (16) (13)
------ ------ ------- -------
Total "cash basis" adjustments......................... 5 6 (24) 13
Net tax effect (A)..................................... (1) (1) 10 (4)
------ ------ ------- -------
"Cash basis" net income................................ 96 126 352 368
------ ------ ------- -------
"Core cash basis" adjustments:
Floor income......................................... -- (15) (3) (99)
Integration charge................................... 53 -- 53 --
Gains/losses on sales of securities.................. -- (9) (43) (9)
------ ------ ------- -------
Total "core cash basis" adjustments.................... 53 (24) 7 (108)
Net tax effect (A)..................................... (21) 8 (4) 38
------ ------ ------- -------
"Core cash basis" net income........................... $ 128 $ 110 $ 355 $ 298
====== ====== ======= =======
</TABLE>
(A) Such tax effect is based upon the Company's marginal tax rate for the
respective period.
"CORE CASH BASIS" STUDENT LOAN SPREAD AND NET INTEREST INCOME
The following table analyzes the reported earnings from the Company's
portfolio of managed student loans, which includes those on-balance sheet and
those off-balance sheet in securitization trusts. The line captioned "Cash basis
adjusted student loan yields" reflects contractual student loan yields.
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
"Cash basis" adjusted student loan yields............... 9.10% 7.91% 8.85% 7.91%
Consolidated loan rebate fees........................... (.18) (.16) (.17) (.15)
Offset fees............................................. (.08) (.10) (.08) (.09)
Borrower benefits....................................... (.10) (.10) (.10) (.08)
Premium amortization.................................... (.27) (.23) (.26) (.28)
------- ------- ------- -------
Student loan income..................................... 8.47 7.32 8.24 7.31
Cost of funds........................................... (6.80) (5.39) (6.51) (5.26)
------- ------- ------- -------
"Cash basis" student loan spread........................ 1.67% 1.93% 1.73% 2.05%
======= ======= ======= =======
"Core cash basis" student loan spread................... 1.67% 1.81% 1.73% 1.78%
======= ======= ======= =======
AVERAGE BALANCES
Managed student loans................................... $64,196 $52,483 $57,960 $49,573
======= ======= ======= =======
</TABLE>
27
<PAGE>
The Company earns interest at the greater of the borrower's rate or a
floating rate determined by reference to the average of the weekly auctions of
the 91-day Treasury bills by the government, plus a fixed spread, which is
dependent upon when the loan was originated. In all cases, the rate the borrower
pays sets a minimum rate for determining the yield the Company earns on the
loan. The Company generally finances its student loan portfolio with floating
rate debt tied to the average of the 91-day Treasury bill auctions, either
directly or through the use of derivative financial instruments, to mimic the
interest rate characteristics of the student loans. Such borrowings, however,
generally do not have minimum rates. As a result, in periods of declining
interest rates, the portfolio of managed student loans may be earning at the
minimum borrower rate while the Company's funding costs (exclusive of funding
spreads) will generally decline along with Treasury bill rates. For loans in
which the borrower's interest rate is fixed to term, declining interest rates
may benefit the spread earned on student loans for extended periods of time. For
loans in which the borrower's interest rate is reset annually, any benefit of a
low interest rate environment will only enhance student loan spreads through the
next annual reset of the borrowers interest rates, which occurs on July 1 of
each year. Due to the continued rise in Treasury bill rates since the second
quarter of 1999, the Company earned only $0.01 million from student loans
earning at the minimum borrower rate in the third quarter of 2000 versus
$15 million of such earnings in the year-ago quarter. The negative impact of the
rise in Treasury bill rates on student loans earning at the minimum borrower
rate decreased the "cash basis" student loan spread by 11 basis points versus
the year-ago quarter. These earnings have been excluded from student loan income
to calculate the "core cash basis" student loan spread.
For the three and nine months ended September 30, 2000, the amortization of
the upfront payments received from the sale of Floor Revenue Contracts with
annually reset borrower rates was $0.01 million and $1 million, respectively,
versus $0.4 million and $24 million, respectively, for the three and nine months
ended September 30, 1999. At September 30, 2000, the unamortized balance of
upfront payments received from the sale of fixed borrower rate Floor Revenue
Contracts totaled $72 million. There was substantially no unamortized balance of
upfront payments received on annually reset borrower rate contracts.
In the three months ended September 30, 2000, "core cash basis" net interest
income was $267 million compared with $244 million in the year-ago period. In
the nine months ended September 30, 2000, "core cash basis" net interest income
was $766 million compared with $681 million in the year-ago period. The increase
in "core cash basis" net interest income earned in the three and nine months
ended September 30, 2000 versus the year-ago periods was due to the increase in
the average balance of managed student loans, and the increase in student loans
as a percentage of average earning assets.
FEDERAL AND STATE TAXES
The Company maintains a portfolio of tax-advantaged assets principally to
support education-related financing activities. That portfolio was primarily
responsible for the decrease in the effective federal income tax rate from the
statutory rate of 35 percent to 33 percent for the three and nine months ended
September 30, 2000. The effective federal income tax rate was 32 percent for the
three and nine months ended September 30, 1999. The GSE is exempt from all
state, local and District of Columbia income, franchise, sales and use, personal
property and other taxes, except for real property taxes. However, this tax
exemption applies only to the GSE and does not apply to USA Education, Inc. or
its other operating subsidiaries that are subject to taxation at the state and
local level. State taxes were immaterial in the three and nine months ended
September 30, 2000 and 1999 as the majority of the Company's business activities
were conducted in the GSE.
28
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary requirements for capital are to fund the Company's
operations, the purchases of student loans and the repayment of its debt
obligations while continuing to meet the GSE's statutory capital adequacy ratio
test. The Company's primary sources of liquidity are through debt issuances by
its GSE subsidiary, off-balance sheet financings through securitizations,
borrowings under its commercial paper program, and cash generated by its
subsidiaries' operations and distributed as dividends to the Company.
The Company's unsecured financing requirements are driven by three principal
factors: refinancing of existing liabilities as they mature; financing of
student loan portfolio growth; and the Company's level of securitization
activity. Market conditions for Treasury bill indexed debt improved in the first
nine months of 2000 and the Company has begun to lengthen the term of its GSE
debt.
In the first nine months of 2000, the Company completed four securitization
transactions totaling $8.5 billion in student loans and issued $8.2 billion in
LIBOR-based asset-backed securities. The Company manages the resulting
off-balance sheet basis risk with on-balance sheet financing and derivative
instruments, principally basis swaps and Eurodollar futures.
During the first nine months of 2000, the Company used the net proceeds from
student loan securitizations of $8.7 billion, net proceeds from the sale or
maturity of investments of $1.4 billion, and repayments and claim payments on
student loans of $2.1 billion to purchase student loans of $8.4 billion, to
reduce total debt by $4.5 billion, and to repurchase $175 million of the
Company's common stock.
Operating activities provided net cash inflows of $664 million in the first
nine months of 2000, an increase of $327 million from the net cash inflows of
$337 million in the corresponding year-ago period.
During the first nine months of 2000, the Company issued $13.5 billion of
long-term notes to refund maturing and repurchased obligations. At
September 30, 2000, the Company had $11.5 billion of outstanding long-term debt
issues of which $281 million had stated maturities that could be accelerated
through call provisions. The Company uses interest rate and foreign currency
swaps (collateralized where appropriate), purchases of U.S. Treasury securities
and other hedging techniques to reduce its exposure to interest rate and
currency fluctuations that arise from its financing activities and to match the
variable interest rate characteristics of its earning assets. See "Interest Rate
Risk Management."
On January 1, 2000 the GSE's minimum required statutory capital adequacy
ratio was increased from 2.00 percent to 2.25 percent. At September 30, 2000,
the GSE was in compliance with the new ratio with a statutory capital adequacy
ratio, after the effect of the dividends to be paid in the fourth quarter of
2000, of 2.25 percent.
INTEREST RATE RISK MANAGEMENT
INTEREST RATE GAP ANALYSIS
The Company's principal objective in financing its operations is to minimize
its sensitivity to changing interest rates by matching the interest rate
characteristics of its borrowings to specific assets in order to lock in
spreads. The Company funds its floating rate managed loan assets (most of which
have weekly rate resets) with variable rate debt and fixed rate debt converted
to variable rates with interest rate swaps. The Company also uses interest rate
cap agreements, foreign currency swaps, options on securities, and financial
futures contracts to further reduce interest rate risk and foreign currency
exposure on certain of its borrowings. Investments are funded on a "pooled"
approach, i.e., the pool of liabilities that funds the investment portfolio has
an average rate and maturity or reset date that corresponds to the average rate
and maturity or reset date of the investments which they fund.
29
<PAGE>
In addition to term match funding, the Company's asset-backed securities
generally match the interest rate characteristics of the majority of the student
loans in the trusts by being indexed to the 91-day Treasury bill. However, at
September 30, 2000, there were approximately $3.6 billion of PLUS student loans
outstanding in the trusts, which have interest rates that reset annually based
on the final auction of 52-week Treasury bills before each July 1. In addition,
at September 30, 2000 approximately $16.4 billion of LIBOR-based asset-backed
securities had been issued by the trusts, which have interest rates that
generally reset quarterly. The Company manages this basis risk through its
on-balance sheet financing and hedging activities.
In the table below the Company's variable rate assets and liabilities are
categorized by reset date of the underlying index. Fixed rate assets and
liabilities are categorized based on their maturity dates. An interest rate gap
is the difference between volumes of assets and volumes of liabilities maturing
or repricing during specific future time intervals. The following gap analysis
reflects rate-sensitive positions at September 30, 2000 and is not necessarily
reflective of positions that existed throughout the period.
<TABLE>
<CAPTION>
INTEREST RATE SENSITIVITY PERIOD
------------------------------------------------------------------------------
3 MONTHS 6 MONTHS
3 MONTHS TO TO 1 TO 2 2 TO 5 OVER 5
OR LESS 6 MONTHS 1 YEAR YEARS YEARS YEARS
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Student loans................ $33,871 $ -- $2,078 $ -- $ -- $ --
Warehousing advances......... 833 14 -- -- 2 12
Academic facilities
financings................. 7 6 73 79 308 410
Cash and investments......... 2,666 19 14 59 123 1,737
Other assets................. 27 32 64 118 349 2,743
------- ------- ------ ----- ------ ------
Total assets............... 37,404 71 2,229 256 782 4,902
------- ------- ------ ----- ------ ------
LIABILITIES AND STOCKHOLDERS'
EQUITY
Short-term borrowings........ 29,104 961 835 -- -- --
Long-term notes.............. 10,175 12 -- 476 295 565
Other liabilities............ -- -- -- -- -- 1,672
Minority interest in
subsidiary................. -- -- -- -- -- 214
Stockholders' equity......... -- -- -- -- -- 1,335
------- ------- ------ ----- ------ ------
Total liabilities and
stockholders' equity..... 39,279 973 835 476 295 3,786
------- ------- ------ ----- ------ ------
OFF-BALANCE SHEET FINANCIAL
INSTRUMENTS
Interest rate swaps.......... 3,014 972 (3,039) 100 (61) (986)
Impact of securitized student
loans...................... (3,576) -- 3,576 -- -- --
------- ------- ------ ----- ------ ------
Total off-balance sheet
financial instruments...... (562) 972 537 100 (61) (986)
------- ------- ------ ----- ------ ------
Period gap................... $(2,437) $ 70 $1,931 $(120) $ 426 $ 130
======= ======= ====== ===== ====== ======
Cumulative gap............... $(2,437) $(2,367) $ (436) $(556) $ (130) $ --
======= ======= ====== ===== ====== ======
Ratio of interest-sensitive
assets to
interest-sensitive
liabilities................ 95.2% 4.0% 259.3% 29.0% 146.8% 382.1%
======= ======= ====== ===== ====== ======
Ratio of cumulative gap to
total assets............... 5.3% 5.2% 1.0% 1.2% .3% --%
======= ======= ====== ===== ====== ======
</TABLE>
30
<PAGE>
INTEREST RATE SENSITIVITY ANALYSIS
The effect of short-term movements in interest rates on the Company's
results of operations and financial position has been limited through the
Company's risk management activities. The Company performed a sensitivity
analysis to determine the effect of a hypothetical increase in market interest
rates of 10 percent on the Company's variable rate assets and liabilities and a
hypothetical 10 percent increase in spreads to their underlying index. Based on
this analysis, there has not been a material change in market risk from
December 31, 1999 as reported in the Company's Form 10-K.
AVERAGE TERMS TO MATURITY
The following table reflects the average terms to maturity for the Company's
earning assets and liabilities at September 30, 2000 (in years):
<TABLE>
<CAPTION>
ON- OFF-
BALANCE BALANCE
SHEET SHEET MANAGED
-------- -------- --------
<S> <C> <C> <C>
EARNING ASSETS
Student loans...................................... 7.1 4.3 5.8
Warehousing advances............................... 5.9 -- 5.9
Academic facilities financings..................... 6.8 -- 6.8
Cash and investments............................... 5.8 -- 5.8
--- --- ---
Total earning assets............................... 7.0 4.3 5.8
--- --- ---
BORROWINGS
Short-term borrowings.............................. .4 -- .4
Long-term borrowings............................... 3.8 4.3 4.2
--- --- ---
Total borrowings................................... 1.3 4.3 2.6
--- --- ---
</TABLE>
In the above table, Treasury receipts and variable rate asset-backed
securities, although generally liquid in nature, extend the weighted average
remaining term to maturity of cash and investments to 5.8 years. As student
loans are securitized, the need for long-term on-balance sheet financing will
decrease.
COMMON STOCK
As a result of the USA Group acquisition, the Company issued approximately
10 million shares during the third quarter of 2000. The Company repurchased 1.5
million shares during the quarter through open market purchases. The net result
was an increase in outstanding shares to 164 million at September 30, 2000. At
September 30, 2000, the total common shares that could potentially be acquired
over the next five years under outstanding equity forward contracts was
21 million, and the Company has remaining authority to enter into additional
share repurchases and equity forward contracts for 5 million shares.
31
<PAGE>
The following table summarizes the Company's common share repurchase and
equity forward activity for the three and nine months ended September 30, 2000
and 1999. (All amounts in the tables are common shares in millions.)
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Common shares repurchased:
Open market............................................... 1.5 .9 1.5 1.8
Equity forwards........................................... -- 1.4 2.5 4.3
------ ------ ------ ------
Total shares repurchased.................................... 1.5 2.3 4.0 6.1
====== ====== ====== ======
Average purchase price per share............................ $42.32 $42.25 $42.53 $40.97
====== ====== ====== ======
Equity forward contracts:
Outstanding at beginning of period.......................... 20.6 20.6 21.4 20.5
New contracts............................................... -- 1.5 1.7 4.5
Exercises/Terminations...................................... 3.4 (1.4) (2.5) (4.3)
------ ------ ------ ------
Outstanding at end of period................................ (3.4) 20.7 20.6 20.7
====== ====== ====== ======
Board of director authority remaining at end of period...... 5.4 6.4 5.4 6.4
====== ====== ====== ======
</TABLE>
As of September 30, 2000, the expiration dates and range of purchase prices
for outstanding equity forward contracts are as follows:
<TABLE>
<CAPTION>
SEPTEMBER 30, 2000
-----------------------------
OUTSTANDING RANGE OF MARKET
YEAR OF MATURITY CONTRACTS PRICES
---------------- ----------- ---------------
<S> <C> <C>
2001.............................................. 8.7 32.11 - 45.96
2002.............................................. 5.0 41.01 - 45.55
2003.............................................. 4.0 41.20 - 47.50
2004.............................................. 1.7 39.82 - 45.62
2005.............................................. 1.2 30.00 - 36.04
----
Total............................................. 20.6
====
</TABLE>
OTHER RELATED EVENTS AND INFORMATION
OTHER DEVELOPMENTS
Nothing to report.
SUBSEQUENT EVENTS
On October 3, 2000, the Company issued $500,000,000 of its Senior Notes due
September 16, 2002. The proceeds to the Company from the sale of these notes,
before expenses, were $498,750,000 and were used for general corporate purposes.
Effective October 27, 2000, the Company renewed its $600 million 364-day
revolving credit facility for an additional 364-day period. Liquidity support
for the Company's commercial paper program is provided by this $600 million
364-day revolving credit facility which matures on October 26, 2001 and a
$400 million 5-year revolving credit facility which matures on October 29, 2004.
32
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On November 3, 2000, the Company together with Bank of America, N.A., Wells
Fargo Bank South Dakota, The Student Loan Corporation (a subsidiary of
Citibank), Key Bank USA, N.A., Bank One, N.A., Nel.net, Inc., National Council
of Higher Education Loan Programs, Inc. and several state secondary markets,
filed a complaint against Richard W. Riley, the Secretary of the United States
Department of Education. The complaint, which was filed in the U.S. District
Court for the District of Columbia, challenges certain actions taken by the
Department of Education under the Higher Education Act governing origination
fees, repayment incentives and maximum loan amounts under the Federal Direct
Loan Program. It seeks a declaratory judgment that the actions of the Department
of Education violated the Higher Education Act and the Administrative Procedure
Act.
ITEM 2. CHANGES IN SECURITIES.
Nothing to report.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Nothing to report.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Nothing to report.
ITEM 5. OTHER INFORMATION.
Nothing to Report.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
4.1 Registration Rights Agreement
10.1 Employment Agreement
10.2 Form of Performance Stock Agreement
27 Financial Data Schedule
(b) Reports on Form 8-K
The Company filed no reports on Form 8-K during the quarter ended
September 30, 2000.
33
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned hereunto duly authorized.
<TABLE>
<S> <C> <C>
USA EDUCATION, INC.
(Registrant)
By: /s/ JOHN F. REMONDI
-----------------------------------------
John F. Remondi
SENIOR VICE PRESIDENT, FINANCE
(Principal Financial and Accounting
Officer and Duly Authorized Officer)
</TABLE>
Date: November 14, 2000
34
