Annual Statements Open main menu

NELNET INC - Quarter Report: 2019 September (Form 10-Q)


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2019 
or
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from  to  
Commission File Number: 001-31924
NELNET, INC.
(Exact name of registrant as specified in its charter)
Nebraska
84-0748903
(State or other jurisdiction of incorporation or organization)(I.R.S. Employer Identification No.)
121 South 13th Street, Suite 100
Lincoln,Nebraska68508
(Address of principal executive offices)(Zip Code)
(402) 458-2370
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each classTrading SymbolName of each exchange on which registered
Class A Common Stock, Par Value $0.01 per ShareNNINew York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.       Yes No
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).        Yes No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer                                                Accelerated filer
Non-accelerated filer      Smaller reporting company
  Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  No
As of October 31, 2019, there were 28,416,724 and 11,279,641 shares of Class A Common Stock and Class B Common Stock, par value $0.01 per share, outstanding, respectively (excluding a total of 11,305,731 shares of Class A Common Stock held by wholly owned subsidiaries).




NELNET, INC.
FORM 10-Q
INDEX
September 30, 2019


 
 Item 1.
 Item 2.
 Item 3.
 Item 4.
    
 
Item 1.
 Item 1A.
 Item 2.
 Item 6.
    
 






PART I. FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share data)
(unaudited)
 
As of
As of
 September 30, 2019December 31, 2018
Assets:  
Loans receivable (net of allowance for loan losses of $66,417 and $60,388, respectively)
$21,071,441  22,377,142  
Cash and cash equivalents:  
Cash and cash equivalents - not held at a related party20,897  9,472  
Cash and cash equivalents - held at a related party140,082  111,875  
Total cash and cash equivalents160,979  121,347  
Investments and notes receivable212,416  249,370  
Restricted cash667,919  701,366  
Restricted cash - due to customers309,309  369,678  
Accrued interest receivable736,901  679,197  
Accounts receivable (net of allowance for doubtful accounts of $4,482 and $3,271, respectively)
67,079  59,531  
Goodwill156,912  156,912  
Intangible assets, net89,499  114,290  
Property and equipment, net342,401  344,784  
Other assets121,806  45,533  
Fair value of derivative instruments57  1,818  
Total assets$23,936,719  25,220,968  
Liabilities:  
Bonds and notes payable$20,910,190  22,218,740  
Accrued interest payable52,345  61,679  
Other liabilities310,210  256,092  
Due to customers309,309  369,678  
Total liabilities21,582,054  22,906,189  
Commitments and contingencies
Equity:
  Nelnet, Inc. shareholders' equity:  
Preferred stock, $0.01 par value. Authorized 50,000,000 shares; no shares issued or outstanding
—  —  
Common stock:
Class A, $0.01 par value. Authorized 600,000,000 shares; issued and outstanding 28,411,506
     shares and 28,798,464 shares, respectively
284  288  
Class B, convertible, $0.01 par value. Authorized 60,000,000 shares; issued and outstanding
     11,279,641 shares and 11,459,641 shares, respectively
113  115  
Additional paid-in capital3,678  622  
Retained earnings2,343,185  2,299,556  
Accumulated other comprehensive earnings2,890  3,883  
Total Nelnet, Inc. shareholders' equity2,350,150  2,304,464  
Noncontrolling interests4,515  10,315  
Total equity2,354,665  2,314,779  
Total liabilities and equity$23,936,719  25,220,968  
Supplemental information - assets and liabilities of consolidated education and other lending variable interest entities:
Loans receivable$21,069,156  22,359,655  
Restricted cash650,673  677,611  
Loan accrued interest receivable and other assets736,768  679,735  
Bonds and notes payable(21,143,811) (22,146,374) 
Accrued interest payable and other liabilities (212,160) (163,327) 
Net assets of consolidated education and other lending variable interest entities$1,100,626  1,407,300  
See accompanying notes to consolidated financial statements.

2


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except share data)
(unaudited)
 Three months endedNine months ended
 September 30,September 30,  
 2019201820192018
Interest income:      
Loan interest$229,063  232,320  709,618  653,414  
Investment interest9,882  7,628  26,701  18,581  
Total interest income238,945  239,948  736,319  671,995  
Interest expense:   
Interest on bonds and notes payable172,488  180,175  551,221  487,174  
Net interest income66,457  59,773  185,098  184,821  
Less provision for loan losses10,000  10,500  26,000  18,000  
Net interest income after provision for loan losses56,457  49,273  159,098  166,821  
Other income:   
Loan servicing and systems revenue113,286  112,579  342,169  327,265  
Education technology, services, and payment processing revenue
74,251  58,409  213,753  167,372  
Communications revenue16,470  11,818  46,770  31,327  
Other income13,439  16,673  38,658  44,808  
Derivative market value adjustments and derivative settlements, net
1,668  17,098  (33,959) 100,927  
Total other income219,114  216,577  607,391  671,699  
Cost of services:
Cost to provide education technology, services, and payment processing services
25,671  19,087  62,601  44,087  
Cost to provide communications services5,236  4,310  15,096  11,892  
Total cost of services30,907  23,397  77,697  55,979  
Operating expenses:      
Salaries and benefits116,670  114,172  338,942  321,932  
Depreciation and amortization27,701  22,992  76,398  62,943  
Loan servicing fees to third parties3,382  3,087  9,431  9,428  
Other expenses54,947  45,194  138,131  119,020  
Total operating expenses202,700  185,445  562,902  513,323  
Income before income taxes41,964  57,008  125,890  269,218  
Income tax expense8,829  13,882  26,429  63,369  
Net income33,135  43,126  99,461  205,849  
Net loss (income) attributable to noncontrolling interests
77  (199) (38) 438  
Net income attributable to Nelnet, Inc.
$33,212  42,927  99,423  206,287  
Earnings per common share:
Net income attributable to Nelnet, Inc. shareholders - basic and diluted
$0.83  1.05  2.48  5.04  
Weighted average common shares outstanding - basic and diluted
39,877,129  40,988,965  40,098,346  40,942,177  

See accompanying notes to consolidated financial statements.

3


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Dollars in thousands)
(unaudited)
Three months endedNine months ended
September 30,September 30,
2019201820192018
Net income$33,135  43,126  99,461  205,849  
Other comprehensive (loss) income:
Available-for-sale securities:
Unrealized holding (losses) gains arising during period, net(334) 2,438  (1,306) 964  
Reclassification adjustment for gains recognized in net income, net of losses
—  (765) —  (817) 
Income tax effect80  (402) 313  (46) 
Total other comprehensive (loss) income(254) 1,271  (993) 101  
Comprehensive income32,881  44,397  98,468  205,950  
Comprehensive loss (income) attributable to noncontrolling interests77  (199) (38) 438  
Comprehensive income attributable to Nelnet, Inc.$32,958  44,198  98,430  206,388  

See accompanying notes to consolidated financial statements.

4


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(Dollars in thousands, except share data)
(unaudited)
 
Nelnet, Inc. Shareholders
 Preferred stock sharesCommon stock sharesPreferred stockClass A common stockClass B common stockAdditional paid-in capital Retained earningsAccumulated other comprehensive (loss) earningsNoncontrolling interestsTotal equity
 Class AClass B
Balance as of June 30, 2018  —  29,331,002  11,468,587  $—  293  115  2,586  2,271,171  2,704  9,834  2,286,703  
Issuance of noncontrolling interests—  —  —  —  —  —  —  —  —  326  326  
Net income—  —  —  —  —  —  —  42,927  —  199  43,126  
Other comprehensive income—  —  —  —  —  —  —  —  1,271  —  1,271  
Distribution to noncontrolling interests—  —  —  —  —  —  —  —  —  (95) (95) 
Cash dividend on Class A and Class B common stock - $0.16 per share
—  —  —  —  —  —  —  (6,525) —  —  (6,525) 
Issuance of common stock, net of forfeitures—  14,086  —  —  —  —  580  —  —  —  580  
Compensation expense for stock based awards—  —  —  —  —  —  1,934  —  —  —  1,934  
Repurchase of common stock—  (3,297) —  —  —  —  (192) —  —  —  (192) 
Balance as of September 30, 2018—  29,341,791  11,468,587  $—  293  115  4,908  2,307,573  3,975  10,264  2,327,128  
Balance as of June 30, 2019  —  28,399,526  11,279,641  $—  284  113  1,670  2,317,115  3,144  4,292  2,326,618  
Issuance of noncontrolling interests—  —  —  —  —  —  —  —  —  4,165  4,165  
Net income (loss)—  —  —  —  —  —  —  33,212  —  (77) 33,135  
Other comprehensive loss—  —  —  —  —  —  —  —  (254) —  (254) 
Distribution to noncontrolling interests—  —  —  —  —  —  —  —  —  (3,865) (3,865) 
Cash dividend on Class A and Class B common stock - $0.18 per share
—  —  —  —  —  —  —  (7,142) —  —  (7,142) 
Issuance of common stock, net of forfeitures—  15,345  —  —  —  —  524  —  —  —  524  
Compensation expense for stock based awards—  —  —  —  —  —  1,705  —  —  —  1,705  
Repurchase of common stock—  (3,365) —  —  —  —  (221) —  —  —  (221) 
Balance as of September 30, 2019—  28,411,506  11,279,641  $—  284  113  3,678  2,343,185  2,890  4,515  2,354,665  
Balance as of December 31, 2017  —  29,341,517  11,468,587  $—  293  115  521  2,143,983  4,617  15,858  2,165,387  
Issuance of noncontrolling interests—  —  —  —  —  —  —  —  —  847  847  
Net income (loss) —  —  —  —  —  —  —  206,287  —  (438) 205,849  
Other comprehensive income  —  —  —  —  —  —  —  —  101  —  101  
Distribution to noncontrolling interests  —  —  —  —  —  —  —  —  —  (351) (351) 
Cash dividends on Class A and Class B common stock - $0.48 per share
—  —  —  —  —  —  —  (19,539) —  —  (19,539) 
Issuance of common stock, net of forfeitures  —  319,365  —  —   —  4,662  —  —  —  4,665  
Compensation expense for stock based awards  —  —  —  —  —  —  4,526  —  —  —  4,526  
Repurchase of common stock  —  (319,091) —  —  (3) —  (4,801) (11,716) —  —  (16,520) 
Impact of adoption of new accounting standards  —  —  —  —  —  —  —  2,007  (743) —  1,264  
Acquisition of noncontrolling interest  —  —  —  —  —  —  —  (13,449) —  (5,652) (19,101) 
Balance as of September 30, 2018  —  29,341,791  11,468,587  $—  293  115  4,908  2,307,573  3,975  10,264  2,327,128  
Balance as of December 31, 2018  —  28,798,464  11,459,641  $—  288  115  622  2,299,556  3,883  10,315  2,314,779  
Issuance of noncontrolling interests  —  —  —  —  —  —  —  —  —  4,217  4,217  
Net income  —  —  —  —  —  —  —  99,423  —  38  99,461  
Other comprehensive loss  —  —  —  —  —  —  —  —  (993) —  (993) 
Distribution to noncontrolling interests  —  —  —  —  —  —  —  —  —  (3,978) (3,978) 
Cash dividends on Class A and Class B common stock - $0.54 per share
—  —  —  —  —  —  —  (21,546) —  —  (21,546) 
Issuance of common stock, net of forfeitures  —  156,874  —  —   —  4,400  —  —  —  4,401  
Compensation expense for stock based awards  —  —  —  —  —  —  4,663  —  —  —  4,663  
Repurchase of common stock  —  (723,832) —  —  (7) —  (6,007) (34,248) —  —  (40,262) 
Impact of adoption of new accounting standard  —  —  —  —  —  —  —  —  —  (6,077) (6,077) 
Conversion of common stock—  180,000  (180,000) —   (2) —  —  —  —  —  
Balance as of September 30, 2019  —  28,411,506  11,279,641  $—  284  113  3,678  2,343,185  2,890  4,515  2,354,665  

See accompanying notes to consolidated financial statements.

5


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(unaudited)
 Nine months ended
September 30,
 20192018
Net income attributable to Nelnet, Inc.$99,423  206,287  
Net income (loss) attributable to noncontrolling interests
38  (438) 
Net income
99,461  205,849  
Adjustments to reconcile net income to net cash provided by operating activities, net of acquisition:
  
Depreciation and amortization, including debt discounts and loan premiums and deferred origination costs
142,519  136,816  
Loan discount accretion(27,554) (31,315) 
Provision for loan losses26,000  18,000  
Derivative market value adjustments73,265  (49,909) 
Payments from termination of derivative instruments, net(13,940) —  
(Payments to) proceeds from clearinghouse - initial and variation margin, net(59,967) 46,418  
Loss on extinguishment of debt15,815  —  
Gain from sale of loans (1,712) —  
Gain from debt repurchases
(136) (359) 
Gain from investments and notes receivable, net(4,891) (9,106) 
Deferred income tax (benefit) expense(9,592) 23,574  
Non-cash compensation expense4,948  4,781  
Impairment expense—  3,907  
Other(141) (30) 
Increase in accrued interest receivable(57,864) (193,926) 
Increase in accounts receivable(7,637) (15,328) 
(Increase) decrease in other assets(21,976) 49,255  
(Decrease) increase in accrued interest payable(9,334) 10,619  
Increase (decrease) in other liabilities56,023  (7,159) 
(Decrease) increase in due to customers(60,369) 1,470  
Net cash provided by operating activities142,918  193,557  
Cash flows from investing activities, net of acquisition:
 
 
Purchases of loans
(1,360,873) (3,187,434) 
Purchases of loans from a related party(32,580) (44,522) 
Net proceeds from loan repayments, claims, capitalized interest, and other
2,628,156  2,484,596  
Proceeds from sale of loans42,215  23,712  
Purchases of available-for-sale securities(1,010) (38,064) 
Proceeds from sales of available-for-sale securities169  58,594  
Purchases of investments and issuance of notes receivable
(70,600) (49,216) 
Proceeds from investments and notes receivable54,819  21,461  
Purchases of property and equipment(67,681) (96,480) 
Business acquisition, net of cash and restricted cash acquired—  (109,152) 
Net cash provided by (used in) investing activities1,192,615  (936,505) 
Cash flows from financing activities:      
Payments on bonds and notes payable(3,718,851) (2,149,449) 
Proceeds from issuance of bonds and notes payable2,410,363  3,004,848  
Payments of debt issuance costs(10,527) (10,953) 
Payment of debt extinguishment costs(14,030) —  
Dividends paid(21,546) (19,539) 
Repurchases of common stock(40,262) (16,520) 
Proceeds from issuance of common stock1,171  993  
Acquisition of noncontrolling interest—  (13,449) 
Issuance of noncontrolling interests4,138  768  
Distribution to noncontrolling interests(173) (351) 
Net cash (used in) provided by financing activities(1,389,717) 796,348  
Net (decrease) increase in cash, cash equivalents, and restricted cash(54,184) 53,400  
Cash, cash equivalents, and restricted cash, beginning of period1,192,391  942,066  
Cash, cash equivalents, and restricted cash, end of period$1,138,207  995,466  

6


NELNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
(Dollars in thousands)
(unaudited)
Nine months ended
September 30,
20192018
Supplemental disclosures of cash flow information:
Cash disbursements made for interest$518,557  425,782  
Cash disbursements (refunds received) for income taxes, net$14,820  (6,491) 
Noncash investing and financing activity:
Receipt of beneficial interest in consumer loan securitization $7,921  —  
Distribution to noncontrolling interest$3,805  —  
Supplemental disclosures of noncash activities regarding the adoption of the new lease standard on January 1, 2019 are contained in note 1.
The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported in the consolidated balance sheets to the total of the amounts reported in the consolidated statements of cash flows.
As ofAs ofAs ofAs of
September 30, 2019December 31, 2018September 30, 2018December 31, 2017
Total cash and cash equivalents$160,979  121,347  83,537  66,752  
Restricted cash667,919  701,366  723,338  688,193  
Restricted cash - due to customers309,309  369,678  188,591  187,121  
Cash, cash equivalents, and restricted cash
$1,138,207  1,192,391  995,466  942,066  
See accompanying notes to consolidated financial statements.


7


NELNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share amounts, unless otherwise noted)
(unaudited)

1.  Basis of Financial Reporting
The accompanying unaudited consolidated financial statements of Nelnet, Inc. and subsidiaries (the “Company”) as of September 30, 2019 and for the three and nine months ended September 30, 2019 and 2018 have been prepared on the same basis as the audited consolidated financial statements for the year ended December 31, 2018 and, in the opinion of the Company’s management, the unaudited consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of results of operations for the interim periods presented. The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Operating results for the three and nine months ended September 30, 2019 are not necessarily indicative of the results for the year ending December 31, 2019. The unaudited consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2018 (the "2018 Annual Report").
Accounting Standard Adopted in 2019
In the first quarter of 2019, the Company adopted the following new accounting standard:
Leases
In February 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Codification Topic 842, Leases ("ASC Topic 842"). The standard requires the identification of arrangements that should be accounted for as leases by lessees and the disclosure of key information about leasing arrangements. The standard establishes a right-of-use ("ROU") model that requires a lessee to recognize a ROU asset and lease liability for all leases with a term longer than twelve months and classify the lease as operating or financing, with the income statement reflecting lease expense for operating leases and amortization/interest expense for financing leases.
The Company adopted the standard effective January 1, 2019, using the effective date as its date of initial application. Consequently, financial information is not updated and the disclosures required under the new standard are not provided for dates and periods before January 1, 2019. The Company elected to utilize the ‘package of practical expedients’, which permitted it to not reassess under the new standard its prior conclusions about lease identification, lease classification, and initial direct costs.
The most significant impact of the standard relates to (1) the recognition of new ROU assets and lease liabilities on the Company's balance sheet; (2) the deconsolidation of assets and liabilities for certain sale-leaseback transactions arising from build-to-suit lease arrangements for which construction was completed and the Company is leasing the constructed assets that did not qualify for sale accounting prior to the adoption of the new standard; and (3) significant new disclosures about the Company’s leasing activities. The build-to-suit lease arrangements have been reassessed as operating leases as of the effective date under ASC Topic 842.
8


Adoption of the new standard resulted in recognizing lease liabilities of $33.7 million based on the present value of the remaining minimum rental payments. In addition, the Company recognized ROU assets of $32.8 million, which corresponds to the lease liabilities reduced by deferred rent expense as of the effective date. The Company also deconsolidated total assets of $43.8 million and total liabilities of $34.8 million for entities that had been consolidated due to sale-leaseback transactions that failed to qualify for recognition as sales under the prior guidance. Deconsolidation of these entities reduced noncontrolling interests by $6.1 million. The cumulative effect of the changes made to the Company's consolidated balance sheet as of January 1, 2019 for the adoption of the new lease standard was as follows:
Balances at December 31, 2018Adjustments from adoption of new lease standardBalances at January 1, 2019
Assets
   
Cash and cash equivalents$121,347  (646) 120,701  
Investments and notes receivable249,370  (23,134) 226,236  
Accounts receivable59,531  (89) 59,442  
Property and equipment, net344,784  (16,974) 327,810  
Other assets45,533  32,804  78,337  
Liabilities
Bonds and notes payable
22,218,740  (33,182) 22,185,558  
Other liabilities256,092  31,220  287,312  
Equity
Noncontrolling interests10,315  (6,077) 4,238  
At the inception of an arrangement, the Company determines if the arrangement is, or contains, a lease and records the lease in the consolidated financial statements upon lease commencement, which is the date when the underlying asset is made available by the lessor. The Company primarily leases dark fiber to support its telecommunications operations and office and data center space. Leases with an initial term of 12 months or less are not recorded on the balance sheet. The lease expense for these leases is recognized on a straight-line basis over the lease term. All other lease assets and lease liabilities are recognized based on the present value of lease payments over the lease term at the commencement date. When the discount rate implicit in the lease cannot be readily determined, the Company uses its incremental borrowing rate.
The Company has elected to utilize the practical expedient to account for lease and non-lease components together as a single, combined lease component for its office and data center space. In addition, the Company has identified itself as the lessor in its Communications operating segment for services provided to customers that include customer-premise equipment. The Company has also elected to utilize the practical expedient to account for those services and associated leases as a single, combined component. The non-lease services are 'predominant' in those contracts. Therefore, the combined component is considered a single performance obligation under ASC Topic 606, Revenue from Contracts with Customers.
Most leases include one or more options to renew, with renewal terms that can be extended. The exercise of lease renewal options for the majority of leases is at the Company's discretion. Renewal options that the Company is reasonably certain to exercise are included in the lease term.
Certain leases include escalating rental payments or rental payments adjusted periodically for inflation. None of the lease agreements include any residual value guarantees, a transfer of title, or a purchase option that is reasonably certain to be exercised.
The following table provides supplemental balance sheet information related to leases:
As of
September 30, 2019
Operating lease ROU assets, which is included in "other assets" on the
consolidated balance sheet
$34,264  
Operating lease liabilities, which is included in "other liabilities" on the
consolidated balance sheet
$35,237  
9


The following table provides components of lease expense:
Three months ended September 30, 2019Nine months ended September 30, 2019
Rental expense, which is included in "other expenses" on the
consolidated statements of income (a)
$2,776  8,276  
Rental expense, which is included in "cost to provide communications
services" on the consolidated statements of income (a)
428  1,138  
Total operating rental expense$3,204  9,414  

(a) Includes short-term and variable lease costs, which are immaterial.
The following table provides supplemental cash flow information related to leases:
Nine months ended September 30, 2019
Cash paid for amounts included in the measurement of lease liabilities:
Operating cash outflows related to operating leases$7,307  
Supplemental noncash activity:
Operating ROU assets obtained in exchange for lease obligations,
excluding impact of adoption
$7,972  
Weighted average remaining lease term and discount rate are shown below:
As of
September 30, 2019
Weighted average remaining lease term (years)7.2
Weighted average discount rate3.95 %
Maturity of lease liabilities are shown below:
2019 (October 1 - December 31)$2,638  
20209,916  
20216,803  
20224,652  
20233,640  
2024 and thereafter12,996  
Total lease payments40,645  
Imputed interest(5,408) 
Total$35,237  

The Company adopted the new lease standard using the effective date as its date of initial application as noted above, and as required, the following disclosure is provided for periods prior to adoption. Future minimum lease payments as of December 31, 2018 are shown below:
2019$9,181  
20208,261  
20215,776  
20223,745  
20232,904  
2024 and thereafter5,479  
Total minimum lease payments$35,346  

10


2.  Loans Receivable and Allowance for Loan Losses
Loans receivable consisted of the following:
As ofAs of
 September 30, 2019December 31, 2018
Federally insured student loans:
Stafford and other$4,720,338  4,969,667  
Consolidation15,975,499  17,186,229  
Total20,695,837  22,155,896  
Private education loans189,912  225,975  
Consumer loans321,199  138,627  
 21,206,948  22,520,498  
Loan discount, net of unamortized loan premiums and deferred origination costs
(36,483) (53,572) 
Non-accretable discount(32,607) (29,396) 
Allowance for loan losses:
Federally insured loans(37,676) (42,310) 
Private education loans(9,882) (10,838) 
Consumer loans(18,859) (7,240) 
 $21,071,441  22,377,142  
On May 1, 2019, the Company sold $47.7 million (par value) of consumer loans to an unrelated third party who securitized such loans. The Company recognized a $1.7 million (pre-tax) gain as part of this transaction. As partial consideration received for the consumer loans sold, the Company received an approximate 11 percent residual interest in the consumer loan securitization that is included in "investments and notes receivable" on the Company's consolidated balance sheet.
Subsequent to September 30, 2019, the Company made the decision to sell an additional $179.3 million (par value) of consumer loans to an unrelated third party who securitized such loans. As of September 30, 2019, these loans were classified as held for investment and are included in the table above. As partial consideration received for the consumer loans sold, the Company received an approximate 29 percent residual interest in the consumer loan securitization. The Company will recognize a gain in the fourth quarter of 2019 of $15.5 million (pre-tax) from the sale of these loans.

11


Activity in the Allowance for Loan Losses
The provision for loan losses represents the periodic expense of maintaining an allowance sufficient to absorb losses, net of recoveries, inherent in the portfolio of loans. Activity in the allowance for loan losses is shown below.
 Balance at beginning of periodProvision for loan lossesCharge-offsRecoveriesLoan sale and otherBalance at end of period
Three months ended September 30, 2019  
Federally insured loans$39,056  2,000  (3,380) —  —  37,676  
Private education loans10,157  —  (459) 184  —  9,882  
Consumer loans13,378  8,000  (2,759) 240  —  18,859  
$62,591  10,000  (6,598) 424  —  66,417  
Three months ended September 30, 2018
Federally insured loans$37,263  8,000  (2,210) —  —  43,053  
Private education loans11,664  —  (535) 124  —  11,253  
Consumer loans4,788  2,500  (1,403) 26  —  5,911  
$53,715  10,500  (4,148) 150  —  60,217  
Nine months ended September 30, 2019
Federally insured loans$42,310  6,000  (10,634) —  —  37,676  
Private education loans10,838  —  (1,529) 573  —  9,882  
Consumer loans7,240  20,000  (7,417) 536  (1,500) 18,859  
$60,388  26,000  (19,580) 1,109  (1,500) 66,417  
Nine months ended September 30, 2018
Federally insured loans$38,706  12,000  (8,653) —  1,000  43,053  
Private education loans12,629  —  (1,846) 470  —  11,253  
Consumer loans3,255  6,000  (3,376) 32  —  5,911  
$54,590  18,000  (13,875) 502  1,000  60,217  

12


Loan Status and Delinquencies
Delinquencies have the potential to adversely impact the Company’s earnings through increased servicing and collection costs and account charge-offs. The table below shows the Company’s loan delinquency amounts.
 As of September 30, 2019As of December 31, 2018As of September 30, 2018  
Federally insured loans:
    
Loans in-school/grace/deferment $1,243,705   $1,298,493   $1,410,902  
Loans in forbearance 1,391,482   1,430,291   1,487,107  
Loans in repayment status:  
Loans current15,646,231  86.7 %16,882,252  86.9 %16,921,119  86.8 %
Loans delinquent 31-60 days662,431  3.8  683,084  3.5  689,454  3.5  
Loans delinquent 61-90 days402,197  2.2  427,764  2.2  412,639  2.1  
Loans delinquent 91-120 days279,524  1.5  283,831  1.5  347,013  1.8  
Loans delinquent 121-270 days
795,230  4.4  806,692  4.2  853,224  4.4  
Loans delinquent 271 days or greater
275,037  1.4  343,489  1.7  269,285  1.4  
Total loans in repayment18,060,650  100.0 %19,427,112  100.0 %19,492,734  100.0 %
Total federally insured loans$20,695,837  $22,155,896  $22,390,743  
Private education loans:
Loans in-school/grace/deferment $3,944  $4,320  $3,550  
Loans in forbearance 2,242  1,494  1,577  
Loans in repayment status:
Loans current173,883  94.7 %208,977  95.0 %156,383  95.2 %
Loans delinquent 31-60 days3,011  1.6  3,626  1.6  1,796  1.1  
Loans delinquent 61-90 days1,370  0.7  1,560  0.7  1,155  0.7  
Loans delinquent 91 days or greater5,462  3.0  5,998  2.7  5,006  3.0  
Total loans in repayment183,726  100.0 %220,161  100.0 %164,340  100.0 %
Total private education loans$189,912  $225,975  $169,467  
Consumer loans:
Loans in repayment status:
Loans current$315,708  98.3 %$136,130  98.2 %$110,885  98.5 %
Loans delinquent 31-60 days2,249  0.7  1,012  0.7  905  0.8  
Loans delinquent 61-90 days1,617  0.5  832  0.6  355  0.3  
Loans delinquent 91 days or greater1,625  0.5  653  0.5  402  0.4  
Total loans in repayment321,199  100.0 %138,627  100.0 %112,547  100.0 %
Total consumer loans$321,199  $138,627  $112,547  

13


3.  Bonds and Notes Payable
The following tables summarize the Company’s outstanding debt obligations by type of instrument:
 As of September 30, 2019
Carrying
amount
Interest rate
range
Final maturity
Variable-rate bonds and notes issued in FFELP loan asset-backed securitizations:
   
Bonds and notes based on indices$18,961,410  2.20% - 3.81%  11/25/24 - 9/26/67
Bonds and notes based on auction773,726  3.02% - 3.84%  3/22/32 - 11/26/46
Total FFELP variable-rate bonds and notes19,735,136  
Fixed-rate bonds and notes issued in FFELP loan asset-backed
securitization
374,500  2.53% / 3.45%  10/25/67
FFELP warehouse facilities739,448  2.22% / 2.26%  11/20/20 / 5/31/22
Consumer loan warehouse facility144,022  2.23%  4/23/22
Variable-rate bonds and notes issued in private education loan asset-
backed securitizations
82,338  3.40% / 3.77%  12/26/40 / 6/25/49
Fixed-rate bonds and notes issued in private education loan asset-backed
securitization
53,368  3.60% / 5.35%  12/26/40 / 12/28/43
Unsecured line of credit—  —  6/22/23
Unsecured debt - Junior Subordinated Hybrid Securities20,381  5.46%  9/15/61
Other borrowings45,465  2.77% - 3.85%  10/7/19 - 5/30/22
 21,194,658    
Discount on bonds and notes payable and debt issuance costs(284,468) 
Total$20,910,190  

 As of December 31, 2018
Carrying
amount
Interest rate
range
Final maturity
Variable-rate bonds and notes issued in FFELP loan asset-backed securitizations:
   
Bonds and notes based on indices$20,192,123  2.59% - 4.52%  11/25/24 - 2/25/67
Bonds and notes based on auction793,476  2.84% - 3.55%  3/22/32 - 11/26/46
Total FFELP variable-rate bonds and notes20,985,599  
FFELP warehouse facilities986,886  2.65% / 2.71%  5/20/20 / 5/31/21
Variable-rate bonds and notes issued in private education loan asset-backed securitization
50,720  4.26%  12/26/40
Fixed-rate bonds and notes issued in private education loan asset-backed securitization
63,171  3.60% / 5.35%  12/26/40 / 12/28/43
Unsecured line of credit310,000  3.92% - 4.01%  6/22/23
Unsecured debt - Junior Subordinated Hybrid Securities20,381  6.17%  9/15/61
Other borrowings120,342  3.05% - 5.22%  1/3/19 - 12/15/45
 22,537,099    
Discount on bonds and notes payable and debt issuance costs(318,359) 
Total$22,218,740  


14


FFELP Warehouse Facilities
The Company funds the majority of its Federal Family Education Loan Program (the "FFEL Program" or "FFELP") loan acquisitions using its FFELP warehouse facilities. Student loan warehousing allows the Company to buy and manage student loans prior to transferring them into more permanent financing arrangements.
As of September 30, 2019, the Company had two FFELP warehouse facilities as summarized below.
NFSLW-I (a)NHELP-II (b)Total
Maximum financing amount
$500,000  500,000  1,000,000  
Amount outstanding387,510  351,938  739,448  
Amount available$112,490  148,062  260,552  
Expiration of liquidity provisions
November 20, 2019May 31, 2020
Final maturity dateNovember 20, 2020May 31, 2022
Advanced as equity support$22,238  25,853  48,091  
(a) On March 8, 2019, the Company decreased the maximum financing amount for this warehouse facility to $500 million. On May 16, 2019, the Company extended the expiration of liquidity provisions to November 20, 2019, and extended the maturity date to November 20, 2020.
(b) On May 30, 2019, the Company extended the expiration of liquidity provisions to May 31, 2020, and extended the maturity date to May 31, 2022.
Asset-Backed Securitizations
The following table summarizes the asset-backed securitization transactions completed during the first nine months of 2019.
2019-12019-2Private education loan
2019-A
2019-32019-42019-5Total
Class A-1 NotesClass A-2 Notes2019-1 total
Date securities issued2/27/192/27/192/27/194/30/196/25/197/24/198/22/199/25/19
Total original principal amount$35,700  448,000  496,800  416,100  47,159  498,300  418,600  374,500  2,251,459  
Class A senior notes:
Total principal amount
$35,700  448,000  483,700  405,000  47,159  485,800  408,000  364,500  2,194,159  
Bond discount—  —  —  —  —  —  —  (114) (114) 
Issue price$35,700  448,000  483,700  405,000  47,159  485,800  408,000  364,386  2,194,045  
Cost of funds
1-month LIBOR plus 0.30%
1-month LIBOR plus 0.75%
1-month LIBOR plus 0.90%
Prime rate less 1.60%
1-month LIBOR plus 0.80%
1-month LIBOR plus 0.87%
2.53%  
Final maturity date4/25/674/25/676/27/676/25/498/25/679/26/6710/25/67
Class B subordinated notes:
Total principal amount
13,100  11,100  12,500  10,600  10,000  57,300  
Bond discount—  —  —  —  (4) (4) 
Issue price13,100  11,100  12,500  10,600  9,996  57,296  
Cost of funds
1-month LIBOR plus 1.40%
1-month LIBOR plus 1.50%
1-month LIBOR plus 1.55%
1-month LIBOR plus 1.65%
3.45%  
Final maturity date4/25/676/27/678/25/679/26/6710/25/67
On June 7, 2019, the Company extinguished all $93.0 million of the notes included in one of its FFELP asset-backed securitizations prior to the notes' contractual maturity. The Company paid a $1.4 million premium to extinguish the notes and wrote off $0.4 million of debt issuance costs. In total, the Company recognized a $1.8 million expense to extinguish the notes, which is included in other expenses on the consolidated statements of income.
During the third quarter of 2019, the Company extinguished an additional $675.6 million of notes payable included in certain FFELP asset-backed securitizations prior to the notes' contractual maturities. To extinguish the notes, the Company paid a premium of $12.6 million and wrote off $1.4 million of debt issuance costs. In total, the Company recognized $14.0 million in expenses in the third quarter of 2019 to extinguish these notes, which is included in other expenses on the consolidated statements of income.
15


Consumer Loan Warehouse Facility
On January 11, 2019, the Company obtained a consumer loan warehouse facility with an aggregate maximum financing amount available of $100.0 million, an advance rate of 70 or 75 percent depending on the type of collateral and subject to certain concentration limits, and a maturity date of January 10, 2022. On April 25, 2019, the Company amended the agreement for this warehouse facility to increase the aggregate maximum financing amount available to $200.0 million, extend the expiration of liquidity provisions to April 23, 2021, and extend the final maturity date to April 23, 2022. As of September 30, 2019, $144.0 million was outstanding under this warehouse facility and $56.0 million was available for future funding. Additionally, as of September 30, 2019, the Company had $50.2 million advanced as equity support under this facility.
Unsecured Line of Credit
The Company has a $382.5 million unsecured line of credit that has a maturity date of June 22, 2023. As of September 30, 2019, no amount was outstanding under the line of credit. The line of credit provides that the Company may increase the aggregate financing commitments, through the existing lenders and/or through new lenders, up to a total of $400.0 million, subject to certain conditions.
Other Borrowings
During 2017, the Company entered into a repurchase agreement, the proceeds of which are collateralized by FFELP asset-backed security investments. Included in "other borrowings" as of September 30, 2019 and December 31, 2018, was $40.5 million and $41.4 million, respectively, subject to this repurchase agreement.
During 2018, the Company entered into a repurchase agreement, the proceeds of which were collateralized by private education loans. On June 25, 2019, the Company terminated this repurchase agreement. Included in "other borrowings" as of December 31, 2018 was $45.0 million subject to this repurchase agreement.
On May 30, 2019, the Company entered into a $22.0 million secured line of credit agreement with a maturity date of May 30, 2022 and an interest rate of one-month LIBOR plus 1.75%. As of September 30, 2019, $5.0 million was outstanding under this line of credit and $17.0 million was available for future use. The line of credit is secured by several Company-owned properties.
The Company had other notes payable included in its consolidated financial statements which were issued by partnerships for certain real estate development projects. Although the Company's ownership interests in these partnerships are 50 percent or less, because the Company was the developer of and is a current tenant in the associated buildings, the operating results of these partnerships were included in the Company's consolidated financial statements. On January 1, 2019, the Company adopted a new accounting standard for leases (see note 1). As a result of the adoption of this new standard, these real estate entities were deconsolidated, including $33.9 million of related debt. Prior to January 1, 2019, this debt was included in "other borrowings."
4.  Derivative Financial Instruments
The Company uses derivative financial instruments to manage interest rate risk. Derivative instruments used as part of the Company's risk management strategy are further described in note 5 of the notes to consolidated financial statements included in the 2018 Annual Report. A tabular presentation of such derivatives outstanding as of September 30, 2019 and December 31, 2018 is presented below.
Basis Swaps
The following table summarizes the Company’s outstanding basis swaps in which the Company receives three-month LIBOR set discretely in advance and pays one-month LIBOR plus or minus a spread as defined in the agreements (the "1:3 Basis Swaps"). 
16


Notional amount
As of September 30,As of December 31,
Maturity20192018
2019$—  3,500,000  
20201,000,000  1,000,000  
2021250,000  250,000  
2022 (a)2,000,000  2,000,000  
2023750,000  750,000  
20241,750,000  250,000  
20261,150,000  1,150,000  
2027 (b)250,000  375,000  
2028 (b)—  325,000  
2029 (b)—  100,000  
2031 (b)—  300,000  
$7,150,000  10,000,000  
(a) $750 million of the notional amount of these derivatives have forward effective start dates in May 2020.
(b) During the third quarter of 2019, the Company terminated $125 million (notional amount), $325 million (notional amount), $100 million (notional amount), and $300 million (notional amount) of 1:3 Basis Swaps that had a maturity date in 2027, 2028, 2029, and 2031, respectively, and received $0.5 million in net proceeds.
The weighted average rate paid by the Company on the 1:3 Basis Swaps as of September 30, 2019 and December 31, 2018 was one-month LIBOR plus 9.7 basis points and 9.4 basis points, respectively.
Interest Rate Swaps – Floor Income Hedges
The following table summarizes the outstanding derivative instruments used by the Company to economically hedge loans earning fixed rate floor income.
As of September 30, 2019As of December 31, 2018
MaturityNotional amountWeighted average fixed rate paid by the Company (a)Notional amountWeighted average fixed rate paid by the Company (a)
2019$500,000  1.12 %$3,250,000  0.97 %
20201,500,000  1.01  1,500,000  1.01  
2021600,000  2.15  100,000  2.95  
2022 (b)250,000  1.65  —  —  
2023150,000  2.25  400,000  2.24  
2024—  —  300,000  2.28  
2027—  —  25,000  2.35  
 $3,000,000  1.37 %$5,575,000  1.18 %
(a) For all interest rate derivatives, the Company receives discrete three-month LIBOR.
(b) These derivatives have forward effective start dates in June 2021.
During the first and third quarters of 2019, the Company received $2.1 million and paid $16.5 million, respectively, to terminate $100.0 million (notional amount) and $700.0 million (notional amount), respectively, of floor income interest rate swaps prior to their final maturity.
Interest Rate Swap Options – Floor Income Hedges
During 2014 and 2018, the Company paid $9.1 million and $4.6 million, respectively, for interest rate swap options to economically hedge loans earning fixed rate floor income. The interest rate swap options gave the Company the right, but not the obligation, to enter into interest rate swaps during the third quarter of 2019 in which the Company would pay a weighted average fixed amount of 3.21 percent and receive discrete one-month or three-month LIBOR. The Company did not exercise its rights on these options, and such swap options expired.
17


Interest Rate Caps
In June 2015 and June 2019, the Company paid $2.9 million and $0.3 million, respectively, for interest rate cap contracts to mitigate a rise in interest rates and its impact on earnings related to its student loan portfolio earning a fixed rate. In the event that the one-month LIBOR or three-month LIBOR rate rises above the applicable strike rate, the Company would receive monthly payments related to the spread difference. The following table summarizes these derivative instruments as of September 30, 2019.
Notional Amount  Strike rateMaturity date
$125,000  2.50% (1-month LIBOR)July 15, 2020
150,000  4.99 (1-month LIBOR)July 15, 2020
500,000  2.25 (3-month LIBOR)September 25, 2020
Consolidated Financial Statement Impact Related to Derivatives
Balance Sheet
The following table summarizes the fair value of the Company’s derivatives as reflected in the consolidated balance sheets. There is no difference between the gross amounts of recognized assets presented in the consolidated balance sheets related to the Company's derivative portfolio and the net amount when excluding derivatives subject to enforceable master netting arrangements and cash collateral received.
 Fair value of asset derivativesFair value of liability derivatives
As of September 30, 2019As of December 31, 2018As of September 30, 2019As of December 31, 2018
Interest rate swap options - floor income hedges
$—  1,465  —  —  
Interest rate caps57  353  —  —  
Total$57  1,818  —  —  
Income Statement Impact
The following table summarizes the components of "derivative market value adjustments and derivative settlements, net" included in the consolidated statements of income.
Three months ended September 30,Nine months ended September 30,
 2019201820192018
Settlements:  
1:3 basis swaps$234  3,361  3,375  4,676  
Interest rate swaps - floor income hedges7,064  19,087  35,931  46,752  
Interest rate swaps - hybrid debt hedges—  (124) —  (410) 
Total settlements - income7,298  22,324  39,306  51,018  
Change in fair value:  
1:3 basis swaps6,636  1,283  4,427  12,058  
Interest rate swaps - floor income hedges(12,094) (7,427) (75,657) 34,008  
Interest rate swap options - floor income hedges(1) (31) (1,465) 437  
Interest rate caps(171) 119  (570) 567  
Interest rate swaps - hybrid debt hedges—  830  —  2,839  
Total change in fair value - (expense) income(5,630) (5,226) (73,265) 49,909  
Derivative market value adjustments and derivative settlements, net - income (expense)
$1,668  17,098  (33,959) 100,927  

18


5.  Investments and Notes Receivable
A summary of the Company's investments and notes receivable follows:
As of September 30, 2019As of December 31, 2018
Amortized costGross unrealized gainsGross unrealized lossesFair valueAmortized costGross unrealized gainsGross unrealized lossesFair value
Investments (at fair value):
Student loan asset-backed and other debt securities - available-for-sale
$48,772  3,802  —  52,574  47,931  5,109  —  53,040  
Equity securities13,913  4,114  (725) 17,302  12,909  5,145  (407) 17,647  
Total investments (at fair value)$62,685  7,916  (725) 69,876  60,840  10,254  (407) 70,687  
Other Investments and Notes Receivable (not measured at fair value):
Venture capital and funds:
Measurement alternative
71,752  70,939  
Equity method
11,396  19,230  
Other
850  900  
Total venture capital and funds83,998  91,069  
Real estate:
Equity method
44,995  29,168  
Other
1,372  34,211  
  Total real estate
46,367  63,379  
Beneficial interest in consumer loan securitization5,755  —  
Tax liens and affordable housing6,420  7,862  
Notes receivable—  16,373  
Total investments and notes receivable (not measured at fair value)142,540  178,683  
      Total investments and notes receivable
$212,416  249,370  




19


6. Intangible Assets
Intangible assets consist of the following:
Weighted average remaining useful life as of
September 30, 2019
(months)
As of  As of  
September 30, 2019  December 31, 2018
Amortizable intangible assets, net:  
Customer relationships (net of accumulated amortization of $53,926
     and $33,968, respectively)
80$78,527  98,484  
Trade names (net of accumulated amortization of $8,367 and
     $5,825, respectively)
928,326  10,868  
Computer software (net of accumulated amortization of $2,741 and
     $15,420, respectively)
172,646  4,938  
Total - amortizable intangible assets, net80$89,499  114,290  
The Company recorded amortization expense on its intangible assets of $8.0 million and $7.9 million during the three months ended September 30, 2019 and 2018, respectively, and $24.8 million and $21.9 million during the nine months ended September 30, 2019 and 2018, respectively. The Company will continue to amortize intangible assets over their remaining useful lives. As of September 30, 2019, the Company estimates it will record amortization expense as follows:
2019 (October 1 - December 31)$7,967  
202029,515  
202118,761  
20227,172  
20236,925  
2024 and thereafter19,159  
 $89,499  

7. Goodwill
The carrying amount of goodwill as of December 31, 2018 and September 30, 2019 by reportable operating segment was as follows:
Loan Servicing and SystemsEducation Technology, Services, and Payment ProcessingCommunicationsAsset Generation and ManagementCorporate and Other ActivitiesTotal
Goodwill balance$23,639  70,278  21,112  41,883  —  156,912  

20


8. Property and Equipment
Property and equipment consisted of the following:
As ofAs of
Useful lifeSeptember 30, 2019December 31, 2018
Non-communications:
Computer equipment and software1-5 years$161,420  137,705  
Building and building improvements5-48 years38,621  50,138  
Office furniture and equipment1-10 years24,354  22,796  
Leasehold improvements1-15 years10,193  9,327  
Transportation equipment5-10 years5,049  5,123  
Land—  1,400  3,328  
Construction in progress—  3,740  3,578  
244,777  231,995  
Accumulated depreciation - non-communications (147,266) (123,003) 
Non-communications, net property and equipment97,511  108,992  
Communications:
Network plant and fiber
4-15 years246,971  215,787  
Customer located property
3-4 years25,966  21,234  
Central office
5-15 years17,499  15,688  
Transportation equipment
4-10 years6,728  6,580  
Computer equipment and software
1-5 years5,443  4,943  
Other
1-39 years3,391  3,219  
Land
—  70  70  
Construction in progress
—  2,051  6,344  
308,119  273,865  
Accumulated depreciation - communications
(63,229) (38,073) 
Communications, net property and equipment
244,890  235,792  
Total property and equipment, net$342,401  344,784  
The Company recorded depreciation expense on its property and equipment of $19.7 million and $15.1 million during the three months ended September 30, 2019 and 2018, respectively, and $51.6 million and $41.1 million during the nine months ended September 30, 2019 and 2018, respectively.


21


9.  Earnings per Common Share
Presented below is a summary of the components used to calculate basic and diluted earnings per share. The Company applies the two-class method in computing both basic and diluted earnings per share, which requires the calculation of separate earnings per share amounts for common stock and unvested share-based awards. Unvested share-based awards that contain nonforfeitable rights to dividends are considered securities which participate in undistributed earnings with common stock.
 Three months ended September 30,
20192018
Common shareholders  Unvested restricted stock shareholders  Total  Common shareholders  Unvested restricted stock shareholders  Total  
Numerator:
Net income attributable to Nelnet, Inc.
$32,778  434  33,212  42,354  573  42,927  
Denominator:
Weighted-average common shares outstanding - basic and diluted
39,356,311  520,818  39,877,129  40,441,783  547,182  40,988,965  
Earnings per share - basic and diluted
$0.83  0.83  0.83  1.05  1.05  1.05  

Nine months ended September 30,
20192018
Common shareholders  Unvested restricted stock shareholders  Total  Common shareholders  Unvested restricted stock shareholders  Total  
Numerator:
Net income attributable to Nelnet, Inc.
$98,125  1,298  99,423  203,881  2,406  206,287  
Denominator:
Weighted-average common shares outstanding - basic and diluted
39,574,868  523,478  40,098,346  40,464,638  477,539  40,942,177  
Earnings per share - basic and diluted
$2.48  2.48  2.48  5.04  5.04  5.04  

22


10.  Segment Reporting
See note 14 of the notes to consolidated financial statements included in the 2018 Annual Report for a description of the Company's operating segments. The following tables include the results of each of the Company's operating segments reconciled to the consolidated financial statements.
 Three months ended September 30, 2019  
Loan Servicing and Systems  Education Technology, Services, and Payment Processing  Communications  Asset
Generation and
Management 
 Corporate and Other Activities  Eliminations  Total  
Total interest income
$532  3,499  —  233,225  2,859  (1,171) 238,945  
Interest expense
51  12  —  171,485  2,110  (1,171) 172,488  
Net interest income (expense)
481  3,487  —  61,740  749  —  66,457  
Less provision for loan losses
—  —  —  10,000  —  —  10,000  
Net interest income (loss) after provision for loan losses
481  3,487  —  51,740  749  —  56,457  
Other income:
Loan servicing and systems revenue
113,286  —  —  —  —  —  113,286  
Intersegment servicing revenue
11,611  —  —  —  —  (11,611) —  
Education technology, services, and payment processing revenue
—  74,251  —  —  —  —  74,251  
Communications revenue
—  —  16,470  —  —  —  16,470  
Other income
2,291  —  532  3,384  7,231  —  13,439  
Derivative settlements, net
—  —  —  7,298  —  —  7,298  
Derivative market value adjustments, net
—  —  —  (5,630) —  —  (5,630) 
Total other income
127,188  74,251  17,002  5,052  7,231  (11,611) 219,114  
Cost of services:
Cost to provide education technology, services, and payment processing services
—  25,671  —  —  —  —  25,671  
Cost to provide communications services
—  —  5,236  —  —  —  5,236  
Total cost of services
—  25,671  5,236  —  —  —  30,907  
Operating expenses:
Salaries and benefits
69,209  23,826  5,763  394  17,479  —  116,670  
Depreciation and amortization
8,565  2,997  10,926  —  5,212  —  27,701  
Loan servicing fees to third parties
—  —  —  3,382  —  —  3,382  
Other expenses
16,686  5,325  3,842  15,672  13,422  —  54,947  
Intersegment expenses, net
12,955  3,194  701  11,678  (16,917) (11,611) —  
Total operating expenses
107,415  35,342  21,232  31,126  19,196  (11,611) 202,700  
Income (loss) before income taxes
20,254  16,725  (9,466) 25,666  (11,216) —  41,964  
Income tax (expense) benefit
(4,861) (4,014) 2,272  (6,160) 3,935  —  (8,829) 
Net income (loss)
15,393  12,711  (7,194) 19,506  (7,281) —  33,135  
  Net loss (income) attributable to noncontrolling interests
—  —  —  —  77  —  77  
Net income (loss) attributable to Nelnet, Inc.
$15,393  12,711  (7,194) 19,506  (7,204) —  33,212  
Total assets as of September 30, 2019$222,606  413,076  306,743  22,520,688  685,998  (212,392) 23,936,719  

23


 Three months ended September 30, 2018  
Loan Servicing and Systems  Education Technology, Services, and Payment Processing  Communications  
Asset
Generation and
Management
Corporate and Other
Activities 
 Eliminations  Total  
Total interest income
$381  1,513   236,039  6,860  (4,846) 239,948  
Interest expense
—   4,174  176,874  3,968  (4,846) 180,175  
Net interest income (expense)
381  1,510  (4,173) 59,165  2,892  —  59,773  
Less provision for loan losses
—  —  —  10,500  —  —  10,500  
Net interest income (loss) after provision for loan losses
381  1,510  (4,173) 48,665  2,892  —  49,273  
Other income:
Loan servicing and systems revenue
112,579  —  —  —  —  —  112,579  
Intersegment servicing revenue
12,290  —  —  —  —  (12,290) —  
Education technology, services, and payment processing revenue
—  58,409  —  —  —  —  58,409  
Communications revenue
—  —  11,818  —  —  —  11,818  
Other income
1,948  —  950  3,267  10,508  —  16,673  
Derivative settlements, net
—  —  —  22,448  (124) —  22,324  
Derivative market value adjustments, net
—  —  —  (6,056) 830  —  (5,226) 
Total other income
126,817  58,409  12,768  19,659  11,214  (12,290) 216,577  
Cost of services:
Cost to provide education technology, services, and payment processing services
—  19,087  —  —  —  —  19,087  
Cost to provide communications services
—  —  4,310  —  —  —  4,310  
Total cost of services
—  19,087  4,310  —  —  —  23,397  
Operating expenses:
Salaries and benefits
70,440  19,972  4,554  424  18,782  —  114,172  
Depreciation and amortization
8,957  3,435  6,167  —  4,433  —  22,992  
Loan servicing fees to third parties
—  —  —  3,087  —  —  3,087  
Other expenses
19,638  4,943  3,151  845  16,616  —  45,194  
Intersegment expenses, net
15,029  2,494  598  12,378  (18,208) (12,290) —  
Total operating expenses
114,064  30,844  14,470  16,734  21,623  (12,290) 185,445  
Income (loss) before income taxes
13,134  9,988  (10,185) 51,590  (7,517) —  57,008  
Income tax (expense) benefit
(3,152) (2,397) 2,444  (12,381) 1,604  —  (13,882) 
Net income (loss)
9,982  7,591  (7,741) 39,209  (5,913) —  43,126  
  Net loss (income) attributable to noncontrolling interests
—  —  —  —  (199) —  (199) 
Net income (loss) attributable to Nelnet, Inc.
$9,982  7,591  (7,741) 39,209  (6,112) —  42,927  
Total assets as of September 30, 2018$276,153  243,497  271,370  23,927,156  723,985  (337,236) 25,104,925  

24


Nine months ended September 30, 2019  
Loan Servicing and Systems  Education Technology, Services, and Payment Processing  Communications  
Asset
Generation and
Management
Corporate and Other
Activities 
 Eliminations  Total  
Total interest income
$1,579  7,175   723,388  7,170  (2,995) 736,319  
Interest expense
70  32  —  544,319  9,796  (2,995) 551,221  
Net interest income (expense)
1,509  7,143   179,069  (2,626) —  185,098  
Less provision for loan losses
—  —  —  26,000  —  —  26,000  
Net interest income (loss) after provision for loan losses
1,509  7,143   153,069  (2,626) —  159,098  
Other income:
Loan servicing and systems revenue
342,169  —  —  —  —  —  342,169  
Intersegment servicing revenue
35,426  —  —  —  —  (35,426) —  
Education technology, services, and payment processing revenue
—  213,753  —  —  —  —  213,753  
Communications revenue
—  —  46,770  —  —  —  46,770  
Other income
6,642  —  1,019  11,796  19,200  —  38,658  
Derivative settlements, net
—  —  —  39,306  —  —  39,306  
Derivative market value adjustments, net
—  —  —  (73,265) —  —  (73,265) 
Total other income
384,237  213,753  47,789  (22,163) 19,200  (35,426) 607,391  
Cost of services:
Cost to provide education technology, services, and payment processing services
—  62,601  —  —  —  —  62,601  
Cost to provide communications services
—  —  15,096  —  —  —  15,096  
Total cost of services
—  62,601  15,096  —  —  —  77,697  
Operating expenses:
Salaries and benefits
201,924  69,656  15,692  1,153  50,517  —  338,942  
Depreciation and amortization
26,236  9,832  26,025  —  14,305  —  76,398  
Loan servicing fees to third parties
—  —  —  9,431  —  —  9,431  
Other expenses
52,732  16,440  11,184  19,667  38,107  —  138,131  
Intersegment expenses, net
40,317  9,642  2,081  35,630  (52,244) (35,426) —  
Total operating expenses
321,209  105,570  54,982  65,881  50,685  (35,426) 562,902  
Income (loss) before income taxes
64,537  52,725  (22,286) 65,025  (34,111) —  125,890  
Income tax (expense) benefit
(15,489) (12,654) 5,349  (15,606) 11,971  —  (26,429) 
Net income (loss)
49,048  40,071  (16,937) 49,419  (22,140) —  99,461  
  Net loss (income) attributable to noncontrolling interests
—  —  —  —  (38) —  (38) 
Net income (loss) attributable to Nelnet, Inc.
$49,048  40,071  (16,937) 49,419  (22,178) —  99,423  
Total assets as of September 30, 2019$222,606  413,076  306,743  22,520,688  685,998  (212,392) 23,936,719  

25


Nine months ended September 30, 2018  
Loan Servicing and Systems  Education Technology, Services, and Payment Processing  Communications  
Asset
Generation and
Management
Corporate and Other
Activities 
 Eliminations  Total  
Total interest income
$931  2,927   662,881  17,673  (12,420) 671,995  
Interest expense
—   9,987  480,729  8,875  (12,420) 487,174  
Net interest income (expense)
931  2,924  (9,984) 182,152  8,798  —  184,821  
Less provision for loan losses
—  —  —  18,000  —  —  18,000  
Net interest income (loss) after provision for loan losses
931  2,924  (9,984) 164,152  8,798  —  166,821  
Other income:
Loan servicing and systems revenue
327,265  —  —  —  —  —  327,265  
Intersegment servicing revenue
34,670  —  —  —  —  (34,670) —  
Education technology, services, and payment processing revenue
—  167,372  —  —  —  —  167,372  
Communications revenue
—  —  31,327  —  —  —  31,327  
Other income
5,196  —  950  9,391  29,272  —  44,808  
Derivative settlements, net
—  —  —  51,428  (410) —  51,018  
Derivative market value adjustments, net
—  —  —  47,070  2,839  —  49,909  
Total other income
367,131  167,372  32,277  107,889  31,701  (34,670) 671,699  
Cost of services:
Cost to provide education technology, services, and payment processing services
—  44,087  —  —  —  —  44,087  
Cost to provide communications services
—  —  11,892  —  —  —  11,892  
Total cost of services
—  44,087  11,892  —  —  —  55,979  
Operating expenses:
Salaries and benefits
198,411  58,552  13,284  1,183  50,502  —  321,932  
Depreciation and amortization
23,237  10,062  16,585  —  13,058  —  62,943  
Loan servicing fees to third parties
—  —  —  9,428  —  —  9,428  
Other expenses
51,591  14,950  8,811  2,982  40,686  —  119,020  
Intersegment expenses, net
43,968  7,630  1,802  34,943  (53,672) (34,670) —  
Total operating expenses
317,207  91,194  40,482  48,536  50,574  (34,670) 513,323  
Income (loss) before income taxes
50,855  35,015  (30,081) 223,505  (10,075) —  269,218  
Income tax (expense) benefit
(12,399) (8,404) 7,220  (53,641) 3,855  —  (63,369) 
Net income (loss)
38,456  26,611  (22,861) 169,864  (6,220) —  205,849  
  Net loss (income) attributable to noncontrolling interests
808  —  —  —  (371) —  438  
Net income (loss) attributable to Nelnet, Inc.
$39,264  26,611  (22,861) 169,864  (6,591) —  206,287  
Total assets as of September 30, 2018$276,153  243,497  271,370  23,927,156  723,985  (337,236) 25,104,925  


26


11. Disaggregated Revenue and Deferred Revenue
The following tables provide disaggregated revenue by service offering and/or customer type for the Company's fee-based reportable operating segments.
Loan Servicing and Systems
 Three months ended September 30,  Nine months ended September 30,  
 2019201820192018
Government servicing - Nelnet$38,645  38,907  118,744  118,015  
Government servicing - Great Lakes46,234  45,671  139,285  122,107  
Private education and consumer loan servicing9,561  10,007  28,026  31,990  
FFELP servicing
6,089  7,422  19,208  24,259  
Software services 10,493  8,201  30,255  24,461  
Outsourced services and other2,264  2,371  6,651  6,433  
Loan servicing and systems revenue
$113,286  112,579  342,169  327,265  
Education Technology, Services, and Payment Processing
 Three months ended September 30,  Nine months ended September 30,  
 2019201820192018
Tuition payment plan services$25,760  19,771  80,589  63,209  
Payment processing
35,138  26,956  85,428  62,908  
Education technology and services
13,067  11,419  46,872  40,411  
Other
286  263  864  844  
Education technology, services, and payment processing revenue
$74,251  58,409  213,753  167,372  
Communications
Three months ended September 30,  Nine months ended September 30,  
2019201820192018
Internet$9,899  6,453  27,641  16,541  
Television4,068  3,380  12,020  9,241  
Telephone2,487  1,962  7,062  5,482  
Other16  23  47  63  
Communications revenue$16,470  11,818  46,770  31,327  
Residential revenue$12,397  8,896  35,351  23,367  
Business revenue4,025  2,861  11,256  7,779  
Other48  61  163  181  
Communications revenue$16,470  11,818  46,770  31,327  
Other Income
The following table provides the components of "other income" on the consolidated statements of income:
Three months ended September 30,  Nine months ended September 30,  
2019201820192018
Borrower late fee income$3,196  3,253  9,870  8,994  
Management fee revenue2,084  1,756  6,007  4,673  
Gain on investments and notes receivable, net of losses1,948  2,503  5,779  10,291  
Investment advisory services753  1,183  2,194  4,169  
Other5,458  7,978  14,808  16,681  
Other income$13,439  16,673  38,658  44,808  

27


Deferred Revenue
Activity in the deferred revenue balance, which is included in "other liabilities" on the consolidated balance sheets, is shown below:
Loan Servicing and SystemsEducation Technology, Services, and Payment ProcessingCommunicationsCorporate and Other ActivitiesTotal
Three months ended September 30, 2019  
Balance, beginning of period$3,315  21,489  3,080  1,611  29,495  
Deferral of revenue881  42,752  9,302  953  53,888  
Recognition of revenue(1,149) (21,820) (9,158) (850) (32,977) 
Balance, end of period$3,047  42,421  3,224  1,714  50,406  
Three months ended September 30, 2018
Balance, beginning of period$3,771  17,989  2,149  1,751  25,660  
Deferral of revenue1,591  34,252  6,567  2,764  45,174  
Recognition of revenue(1,754) (17,049) (6,342) (2,858) (28,003) 
Balance, end of period$3,608  35,192  2,374  1,657  42,831  
Nine months ended September 30, 2019
Balance, beginning of period$4,413  30,556  2,551  1,602  39,122  
Deferral of revenue2,761  81,484  26,366  2,530  113,141  
Recognition of revenue(4,127) (69,619) (25,693) (2,418) (101,857) 
Balance, end of period$3,047  42,421  3,224  1,714  50,406  
Nine months ended September 30, 2018
Balance, beginning of period$4,968  24,164  1,665  1,479  32,276  
Deferral of revenue2,555  65,940  17,916  4,869  91,280  
Recognition of revenue(3,915) (54,912) (17,207) (4,691) (80,725) 
Balance, end of period$3,608  35,192  2,374  1,657  42,831  

12.  Major Customer
Nelnet Servicing, LLC ("Nelnet Servicing"), a subsidiary of the Company, earns loan servicing revenue from a servicing contract with the Department of Education (the "Department"). Revenue earned by Nelnet Servicing related to this contract was $38.6 million and $38.9 million for the three months ended September 30, 2019 and 2018, and $118.7 million and $118.0 million for the nine months ended September 30, 2019 and 2018, respectively.
In addition, Great Lakes Educational Loan Services, Inc. ("Great Lakes"), which was acquired by the Company on February 7, 2018, also earns loan servicing revenue from a similar servicing contract with the Department. Revenue earned by Great Lakes related to this contract was $46.2 million and $45.7 million for the three months ended September 30, 2019 and 2018, respectively, and $139.3 million for the nine months ended September 30, 2019. Revenue of $122.1 million was earned for the period from February 7, 2018 to September 30, 2018.
Nelnet Servicing and Great Lakes' servicing contracts with the Department previously provided for expiration on June 16, 2019. On May 15, 2019, Nelnet Servicing and Great Lakes each received a Modification of Contract from the Department's Office of Federal Student Aid ("FSA") pursuant to which FSA extended the expiration date of the current contracts to December 15, 2019.
In addition, Nelnet Servicing's current Authority to Operate as a loan servicer for the Department expires on December 13, 2019, and is currently under review for renewal. The Company cannot predict the timing or outcome of this review.
28


FSA is conducting a contract procurement process entitled Next Generation Financial Services Environment (“NextGen”) for a new framework for the servicing of all student loans owned by the Department. On January 15, 2019, FSA issued solicitations for three NextGen components:
NextGen Enhanced Processing Solution ("EPS")
NextGen Business Process Operations ("BPO")
NextGen Optimal Processing Solution ("OPS")
On April 1, 2019 and October 4, 2019, the Company responded to the EPS component. In addition, on August 1, 2019, the Company responded to the BPO component. The Company is also part of a team that has responded and intends to respond to various aspects of the OPS component. The Company cannot predict the timing, nature, or outcome of these solicitations.

13. Related Party Transactions (dollar amounts in this note are not in thousands)

On July 26, 2019, the Company, as lender, received a $16.0 million promissory note from Hudl, of which David R. Graff, a member of the Company's Board of Directors, is CEO, co-founder, and a director. The promissory note carried a 14 percent interest rate and was due 180 days from the date of issuance. In connection with this promissory note, the Company entered into a Subordination Agreement with Union Bank and Trust Company ("Union Bank"), a related party, effective as of July 26, 2019, which required the Company to subordinate its promissory note from Hudl to existing notes Union Bank holds from Hudl. The $16.0 million promissory note from Hudl was paid in full to the Company in August 2019.
During the third quarter of 2019, the Company, Farmers & Merchants Investment Inc. (the parent of Union Bank) ("F&M"), and the holding company of BankFirst of Norfolk, Nebraska (BankFirst), of which Michael S. Dunlap is a member of the Board of Directors, co-invested $0.7 million, $2.1 million, and $2.1 million, respectively, in a Company-managed limited liability company that invests in renewable energy. As part of these transactions, the Company receives management and performance fees under a management agreement. During the third quarter of 2019, the Company earned a total of approximately $138,000 of management fees under this agreement, allocable in equal amounts of approximately $69,000 to the investments of each of F&M and BankFirst.
14.  Fair Value
The following tables present the Company’s financial assets and liabilities that are measured at fair value on a recurring basis.
 As of September 30, 2019As of December 31, 2018
 Level 1Level 2TotalLevel 1Level 2Total
Assets:   
Investments:
Student loan and other asset-backed
     securities - available-for-sale
$—  52,471  52,471  —  52,936  52,936  
Equity securities3,263  —  3,263  2,722  —  2,722  
Equity securities measured at net asset
value (a)
14,039  14,925  
Debt securities - available-for-sale103  —  103  104  —  104  
Total investments
3,366  52,471  69,876  2,826  52,936  70,687  
Derivative instruments
—  57  57  —  1,818  1,818  
Total assets$3,366  52,528  69,933  2,826  54,754  72,505  
(a) In accordance with the Fair Value Measurements Topic of the FASB Accounting Standards Codification, certain investments that are measured at fair value using the net asset value per share (or its equivalent) practical expedient have not been classified in the fair value hierarchy.
29


The following table summarizes the fair values of all of the Company’s financial instruments on the consolidated balance sheets:
 As of September 30, 2019
 Fair valueCarrying valueLevel 1Level 2Level 3
Financial assets:    
Loans receivable$21,892,651  21,071,441  —  —  21,892,651  
Cash and cash equivalents160,979  160,979  160,979  —  —  
Investments (at fair value)69,876  69,876  3,366  52,471  —  
Beneficial interest in consumer loan securitization5,755  5,755  —  —  5,755  
Restricted cash667,919  667,919  667,919  —  —  
Restricted cash – due to customers309,309  309,309  309,309  —  —  
Accrued interest receivable736,901  736,901  —  736,901  —  
Derivative instruments57  57  —  57  —  
Financial liabilities:  
Bonds and notes payable20,824,456  20,910,190  —  20,824,456  —  
Accrued interest payable52,345  52,345  —  52,345  —  
Due to customers309,309  309,309  309,309  —  —  

 As of December 31, 2018
 Fair valueCarrying valueLevel 1Level 2Level 3
Financial assets:    
Loans receivable$23,521,171  22,377,142  —  —  23,521,171  
Cash and cash equivalents121,347  121,347  121,347  —  —  
Investments (at fair value)70,687  70,687  2,826  52,936  —  
Notes receivable16,373  16,373  —  16,373  —  
Restricted cash701,366  701,366  701,366  —  —  
Restricted cash – due to customers369,678  369,678  369,678  —  —  
Accrued interest receivable679,197  679,197  —  679,197  —  
Derivative instruments1,818  1,818  —  1,818  —  
Financial liabilities:  
Bonds and notes payable22,270,462  22,218,740  —  22,270,462  —  
Accrued interest payable61,679  61,679  —  61,679  —  
Due to customers369,678  369,678  369,678  —  —  
The methodologies for estimating the fair value of financial assets and liabilities are described in note 20 of the notes to consolidated financial statements included in the 2018 Annual Report.
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 is for the three and nine months ended September 30, 2019 and 2018. All dollars are in thousands, except per share amounts, unless otherwise noted.)
The following discussion and analysis provides information that the Company’s management believes is relevant to an assessment and understanding of the consolidated results of operations and financial condition of the Company. The discussion should be read in conjunction with the Company’s consolidated financial statements included in the 2018 Annual Report.
Forward-looking and cautionary statements
This report contains forward-looking statements and information that are based on management's current expectations as of the date of this document. Statements that are not historical facts, including statements about the Company's plans and expectations for future financial condition, results of operations or economic performance, or that address management's plans and objectives for future operations, and statements that assume or are dependent upon future events, are forward-looking statements. The words “anticipate,” “assume,” “believe,” “continue,” “could,” “estimate,” “expect,” “forecast,” “future,” “intend,” “may,” “plan,” “potential,” “predict,” “scheduled,” “should,” “will,” “would,” and similar expressions, as well as statements in future tense, are intended to identify forward-looking statements.
The forward-looking statements are based on assumptions and analyses made by management in light of management's experience and its perception of historical trends, current conditions, expected future developments, and other factors that management believes are appropriate under the circumstances. These statements are subject to known and unknown risks,
30


uncertainties, assumptions, and other factors that may cause the actual results and performance to be materially different from any future results or performance expressed or implied by such forward-looking statements. These factors include, among others, the risks and uncertainties set forth in the “Risk Factors” section of the 2018 Annual Report and elsewhere in this report, and include such risks and uncertainties as:
loan portfolio risks such as interest rate basis and repricing risk resulting from the fact that the interest rate characteristics of the student loan assets do not match the interest rate characteristics of the funding for those assets, the risk of loss of floor income on certain student loans originated under the Federal Family Education Loan Program (the "FFEL Program" or "FFELP"), risks related to the use of derivatives to manage exposure to interest rate fluctuations, uncertainties regarding the expected benefits from purchased securitized and unsecuritized FFELP, private education, and consumer loans and initiatives to purchase additional FFELP, private education, and consumer loans, and risks from changes in levels of loan prepayment or default rates;
financing and liquidity risks, including risks of changes in the general interest rate environment, including the availability of any relevant money market index rate such as LIBOR or the relationship between the relevant money market index rate and the rate at which the Company's assets and liabilities are priced, and in the securitization and other financing markets for loans, including adverse changes resulting from unanticipated repayment trends on student loans in FFELP securitization trusts that could accelerate or delay repayment of the associated bonds, which may increase the costs or limit the availability of financings necessary to purchase, refinance, or continue to hold student loans;
risks from changes in the educational credit and services markets resulting from changes in applicable laws, regulations, and government programs and budgets, such as the expected decline over time in FFELP loan interest income and fee-based revenues due to the discontinuation of new FFELP loan originations in 2010 and potential government initiatives or legislative proposals to consolidate existing FFELP loans to the Federal Direct Loan Program or otherwise allow FFELP loans to be refinanced with Federal Direct Loan Program loans;
the uncertain nature of the expected benefits from the acquisition of Great Lakes Educational Loan Services, Inc. ("Great Lakes") on February 7, 2018 and the ability to successfully integrate technology and other activities and successfully maintain and increase allocated volumes of student loans serviced under existing and any future servicing contracts with the U.S. Department of Education (the "Department"), which current contracts accounted for 30 percent of the Company's revenue in 2018, risks to the Company related to the Department's initiatives to procure new contracts for federal student loan servicing, including the risk that the Company or Company teams may not be successful in obtaining contracts, risks related to the development by the Company of a new student loan servicing platform, including risks as to whether the expected benefits from the new platform will be realized, and risks related to the Company's ability to comply with agreements with third-party customers for the servicing of Federal Direct Loan Program, FFELP, and private education and consumer loans;
risks related to a breach of or failure in the Company's operational or information systems or infrastructure, or those of third-party vendors, including cybersecurity risks related to the potential disclosure of confidential student loan borrower and other customer information, the potential disruption of the Company's systems or those of third-party vendors or customers, and/or the potential damage to the Company's reputation resulting from cyber-breaches;
uncertainties inherent in forecasting future cash flows from student loan assets and related asset-backed securitizations;
risks and uncertainties related to the ability of ALLO Communications LLC to successfully expand its fiber network and market share in existing service areas and additional communities and manage related construction risks;
risks and uncertainties related to initiatives to pursue additional strategic investments and acquisitions, including investments and acquisitions that are intended to diversify the Company both within and outside of its historical core education-related businesses, as well as other strategic initiatives; and
risks and uncertainties associated with litigation matters and with maintaining compliance with the extensive regulatory requirements applicable to the Company's businesses, reputational and other risks, including the risk of increased regulatory costs, resulting from the politicization of student loan servicing, and uncertainties inherent in the estimates and assumptions about future events that management is required to make in the preparation of the Company's consolidated financial statements.
All forward-looking statements contained in this report are qualified by these cautionary statements and are made only as of the date of this document. Although the Company may from time to time voluntarily update or revise its prior forward-looking statements to reflect actual results or changes in the Company's expectations, the Company disclaims any commitment to do so except as required by securities laws.
31


OVERVIEW
The Company is a diverse company with a focus on delivering education-related products and services and loan asset management. The largest operating businesses engage in student loan servicing; education technology, services, and payment processing; and communications. A significant portion of the Company's revenue is net interest income earned on a portfolio of federally insured student loans. The Company also makes investments to further diversify the Company both within and outside of its historical core education-related businesses, including, but not limited to, investments in real estate and early-stage and emerging growth companies.
GAAP Net Income and Non-GAAP Net Income, Excluding Adjustments
The Company prepares its financial statements and presents its financial results in accordance with U.S. GAAP. However, it also provides additional non-GAAP financial information related to specific items management believes to be important in the evaluation of its operating results and performance. A reconciliation of the Company's GAAP net income to net income, excluding derivative market value adjustments, and a discussion of why the Company believes providing this additional information is useful to investors, is provided below.
Three months ended September 30,Nine months ended September 30,
2019201820192018
GAAP net income attributable to Nelnet, Inc.
$33,212  42,927  99,423  206,287  
Realized and unrealized derivative market value adjustments
5,630  5,226  73,265  (49,909) 
Tax effect (a)
(1,351) (1,254) (17,584) 11,978  
Net income attributable to Nelnet, Inc., excluding derivative market value adjustments (b)
$37,491  46,899  155,104  168,356  
Earnings per share:
GAAP net income attributable to Nelnet, Inc.
$0.83  1.05  2.48  5.04  
Realized and unrealized derivative market value adjustments
0.14  0.12  1.83  (1.22) 
Tax effect (a)
(0.03) (0.03) (0.44) 0.29  
Net income attributable to Nelnet, Inc., excluding derivative market value adjustments (b)
$0.94  1.14  3.87  4.11  
(a) The tax effects are calculated by multiplying the realized and unrealized derivative market value adjustments by the applicable statutory income tax rate.
(b) "Derivative market value adjustments" includes both the realized portion of gains and losses (corresponding to variation margin received or paid on derivative instruments that are settled daily at a central clearinghouse) and the unrealized portion of gains and losses that are caused by changes in fair values of derivatives which do not qualify for "hedge treatment" under GAAP. "Derivative market value adjustments" does not include "derivative settlements" that represent the cash paid or received during the current period to settle with derivative instrument counterparties the economic effect of the Company's derivative instruments based on their contractual terms.
The accounting for derivatives requires that changes in the fair value of derivative instruments be recognized currently in earnings, with no fair value adjustment of the hedged item, unless specific hedge accounting criteria is met. Management has structured all of the Company’s derivative transactions with the intent that each is economically effective; however, the Company’s derivative instruments do not qualify for hedge accounting.  As a result, the change in fair value of derivative instruments is reported in current period earnings with no consideration for the corresponding change in fair value of the hedged item. Under GAAP, the cumulative net realized and unrealized gain or loss caused by changes in fair values of derivatives in which the Company plans to hold to maturity will equal zero over the life of the contract. However, the net realized and unrealized gain or loss during any given reporting period fluctuates significantly from period to period.
The Company believes these point-in-time estimates of asset and liability values related to its derivative instruments that are subject to interest rate fluctuations are subject to volatility mostly due to timing and market factors beyond the control of management, and affect the period-to-period comparability of the results of operations. Accordingly, the Company’s management utilizes operating results excluding these items for comparability purposes when making decisions regarding the Company’s performance and in presentations with credit rating agencies, lenders, and investors. Consequently, the Company reports this non-GAAP information because the Company believes that it provides additional information regarding operational and performance indicators that are closely assessed by management. There is no comprehensive, authoritative guidance for the presentation of such non-GAAP information, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance.
32


GAAP net income decreased for the three and nine months ended September 30, 2019 compared to the same periods in 2018 primarily due to the following factors:
The recognition of a net loss for the nine months ended September 30, 2019, as compared to a net gain in 2018, related to changes in the fair values of derivative instruments that do not qualify for hedge accounting;
The recognition of $14.0 million ($10.7 million after tax) of expenses during the three months ended September 30, 2019 and $15.8 million ($12.0 million after tax) of expenses during the nine months ended September 30, 2019 to extinguish notes payable in certain asset-backed securitizations prior to the notes' contractual maturities;
A decrease in derivative settlements received by the Company due to a decrease in the notional amount of derivatives outstanding used by the Company to hedge loans earning fixed rate floor income; and
An increase in the provision for loan losses related to the Company's growing portfolio of consumer loans.
These factors were partially offset by the contribution to net income from the Company's Loan Servicing and Systems and Education Technology, Services, and Payment Processing operating segments.
Operating Results
The Company earns net interest income on its loan portfolio, consisting primarily of FFELP loans, in its Asset Generation and Management ("AGM") operating segment. This segment is expected to generate a stable net interest margin and significant amounts of cash as the FFELP portfolio amortizes. As of September 30, 2019, the Company had a $21.1 billion loan portfolio that management anticipates will amortize over the next approximately 20 years and has a weighted average remaining life of 8.8 years. The Company actively works to maximize the amount and timing of cash flows generated by its FFELP portfolio and seeks to acquire additional loan assets to leverage its servicing scale and expertise to generate incremental earnings and cash flow. However, due to the continued amortization of the Company’s FFELP loan portfolio, over time, the Company's net income generated by the AGM segment will continue to decrease. The Company currently believes that in the short-term it will most likely not be able to invest the excess cash generated from the FFELP loan portfolio into assets that immediately generate the rates of return historically realized from that portfolio.
In addition, the Company earns fee-based revenue through the following reportable operating segments:
Loan Servicing and Systems ("LSS") - referred to as Nelnet Diversified Solutions ("NDS")
Education Technology, Services, and Payment Processing ("ETS&PP") - referred to as Nelnet Business Solutions ("NBS")
Communications - referred to as ALLO Communications ("ALLO")
Other business activities and operating segments that are not reportable are combined and included in Corporate and Other Activities ("Corporate"). Corporate and Other Activities also includes income earned on certain investments and interest expense incurred on unsecured debt transactions.
The information below provides the operating results for each reportable operating segment and Corporate and Other Activities for the three and nine months ended September 30, 2019 and 2018 (dollars in millions). See "Results of Operations" for each reportable operating segment under this Item 2 for additional detail.
33


nni-20190930_g1.jpg
(a) Revenue includes intersegment revenue earned by LSS as a result of servicing loans for AGM.
(b) Total revenue includes "net interest income" and "total other income" from the Company's segment statements of income, excluding the impact from changes in fair values of derivatives. Net income excludes changes in fair values of derivatives, net of tax. For information regarding the exclusion of the impact from changes in fair values of derivatives, see "GAAP Net Income and Non-GAAP Net Income, Excluding Adjustments" above.
Certain events and transactions from 2018 and 2019, which have impacted or will impact the operating results of the Company and its operating segments, are discussed below.
Loan Servicing and Systems
On February 7, 2018, the Company acquired Great Lakes. The operating results of Great Lakes are reported in the Company's consolidated financial statements from the date of acquisition. Thus, there are nine months of Great Lakes' operations included in the nine months ended September 30, 2019 as compared to approximately eight months of activity in the nine months ended September 30, 2018.
Nelnet Servicing, LLC ("Nelnet Servicing") and Great Lakes have student loan servicing contracts awarded by the Department in June 2009 to provide servicing for loans owned by the Department. As of September 30, 2019, Nelnet Servicing was servicing $184.4 billion of student loans for 5.6 million borrowers under its contract, and Great Lakes was servicing $240.3 billion of student loans for 7.4 million borrowers under its contract. These contracts previously provided for expiration on June 16, 2019. On May 15, 2019, Nelnet Servicing and Great Lakes each received a Modification of Contract from the Department's Office of Federal Student Aid ("FSA") pursuant to which FSA extended the expiration date of the current contracts to December 15, 2019.
In addition, Nelnet Servicing's current Authority to Operate as a loan servicer for the Department expires on December 13, 2019 and is currently under review for renewal. The Company cannot predict the timing or outcome of this review.
FSA is conducting a contract procurement process entitled Next Generation Financial Services Environment (“NextGen”) for a new framework for the servicing of all student loans owned by the Department. On January 15, 2019, FSA issued solicitations for three NextGen components:
NextGen Enhanced Processing Solution ("EPS")
NextGen Business Process Operations ("BPO")
NextGen Optimal Processing Solution ("OPS")

On April 1, 2019 and October 4, 2019, the Company responded to the EPS component. In addition, on August 1, 2019, the Company responded to the BPO component. The Company is also part of a team that has responded and intends to respond to various aspects of the OPS component. The Company cannot predict the timing, nature, or outcome of these solicitations.
34


For the three months ended September 30, 2019 and 2018, and nine months ended September 30, 2019 and 2018, the before tax and noncontrolling interest operating margin (income before income taxes and noncontrolling interest divided by revenue) was 15.9 percent, 10.4 percent, 16.8 percent, and 14.1 percent, respectively. The third quarter of 2018 included an impairment charge of $3.9 million ($3.0 million after tax). The remaining increase in operating margin in the 2019 periods as compared to the same periods in 2018 was due primarily to efficiencies gained as a result of the completion of certain integration activities related to the Great Lakes acquisition.
Education Technology, Services, and Payment Processing
On November 20, 2018, the Company acquired Tuition Management Systems ("TMS"), a services company that offers tuition payment plans, billing services, payment technology solutions, and refund management to educational institutions. The TMS acquisition added 380 higher education schools and 170 K-12 schools to the Company’s customer base. The results of TMS’ operations are reported in the Company’s consolidated financial statements from the date of acquisition.
For the three months ended September 30, 2019 and 2018 and nine months ended September 30, 2019 and 2018, before tax operating margin (income before income taxes divided by net revenue) was 34.4 percent, 25.4 percent, 34.9 percent, and 28.4 percent, respectively. The increase in the before tax operating margin in the 2019 periods as compared to the same periods in 2018 was due to operating leverage and cost reductions resulting from the Company's decision in October 2018 to terminate its investment in a proprietary payment processing platform.
Communications
ALLO recognized losses of $7.2 million and $16.9 million for the three and nine months ended September 30, 2019, respectively, as compared to losses of $7.7 million and $22.9 million for the same periods in 2018, respectively. The decrease in ALLO's net loss in 2019, as compared to 2018, was primarily due to a decrease in interest expense. ALLO recognized $4.2 million and $10.0 million of interest expense to Nelnet, Inc. (parent company) during the three and nine months ended September 30, 2018, respectively. Subsequent to October 1, 2018, ALLO will not report interest expense in its income statement related to amounts contributed to ALLO from Nelnet, Inc. due to a recapitalization of ALLO.
ALLO's management uses earnings (loss) before interest, income taxes, depreciation, and amortization ("EBITDA") to eliminate certain non-cash and non-operating items in order to consistently measure performance from period to period. For the three months ended September 30, 2019 and 2018, ALLO had positive EBITDA of $1.5 million and $0.2 million, respectively, and for the nine months ended September 30, 2019 and 2018, ALLO had positive EBITDA of $3.7 million and negative EBITDA of $3.5 million, respectively. EBITDA is a supplemental non-GAAP performance measure which the Company believes provides useful additional information regarding a key metric used by management to assess ALLO's performance. See "Communications Operating Segment - Results of Operations - Summary and Comparison of Operating Results" below for additional information regarding the computation and use of EBITDA for ALLO.
ALLO has made significant investments in its communications network and currently provides fiber directly to homes and businesses in communities in Nebraska and Colorado. ALLO plans to continue to increase market share and revenue in its existing markets and is currently evaluating opportunities to expand to other communities in the Midwest. During the second quarter of 2019, ALLO announced plans to expand its network to make services available in Breckenridge, Colorado. ALLO began providing services in Lincoln, Nebraska in September 2016 as part of a multi-year project to pass substantially all commercial and residential properties in the community. As of the end of the first quarter of 2019, the build-out of the Lincoln community was substantially complete. For the nine months ended September 30, 2019, ALLO's capital expenditures were $37.2 million. The Company anticipates total ALLO network capital expenditures in the fourth quarter of 2019 will be approximately $13.0 million. However, this amount could change based on customer demand for ALLO's services.

The Company currently anticipates ALLO's operating results will be dilutive to the Company's consolidated earnings as it continues to develop and add customers to its network in Lincoln, Nebraska and other communities, due to large upfront capital expenditures and associated depreciation and upfront customer acquisition costs.
Asset Generation and Management
35


For the third quarter of 2019, the AGM segment recognized net interest income of $61.7 million, compared with $59.2 million for the same period in 2018. The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. The AGM segment recognized income from derivative settlements of $7.3 million during the third quarter of 2019, compared with income of $22.4 million for the same period in 2018. Derivative settlements for each applicable period should be evaluated with the Company's net interest income. Net interest income and derivative settlements for the AGM segment totaled $69.0 million and $81.6 million in the third quarter of 2019 and 2018, respectively.

The Company's average balance of loans decreased to $21.6 billion for the third quarter of 2019, compared with $23.0 billion for the same period in 2018. Loan spread increased to 1.04 percent for the quarter ended September 30, 2019, compared with 0.90 percent for the same period in 2018. Core loan spread, which includes the impact of derivative settlements, decreased to 1.17 percent for the quarter ended September 30, 2019, compared with 1.30 percent for the same period in 2018. Core loan spread, a non-GAAP measure, is computed as set forth in "Asset Generation and Management Operating Segment - Results of Operations - Loan Spread Analysis" below. Management believes core loan spread is a useful supplemental non-GAAP measure that reflects adjustments for derivative settlements related to net interest income (loan spread). However, there is no comprehensive authoritative guidance for the presentation of this measure, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance.
The Company recognized $19.7 million and $32.7 million in fixed rate floor income during the three months ended September 30, 2019 and 2018, respectively (which includes $7.1 million and $19.1 million, respectively, of settlement payments received on derivatives used to hedge student loans earning fixed rate floor income). Fixed rate floor income contributed 36 basis points and 57 basis points of core loan spread for the three months ended September 30, 2019 and 2018, respectively. The decrease in gross fixed rate floor income was due to higher interest rates in 2019 as compared to 2018, and the decrease in derivative settlement payments received on derivatives used to hedge student loans earning fixed rate floor income was due to a decrease in the notional amount of derivatives outstanding in 2019 as compared to 2018, partially offset by higher interest rates.
Provision for loan losses was $10.0 million and $10.5 million for the three months ended September 30, 2019 and 2018, respectively, and $26.0 million and $18.0 million for the nine months ended September 30, 2019 and 2018, respectively.
Provision for loan losses for federally insured loans was $2.0 million and $8.0 million for the three months ended September 30, 2019 and 2018, respectively, and $6.0 million and $12.0 million for the nine months ended September 30, 2019 and 2018, respectively. During the third quarter of 2018, the Company determined an additional allowance was necessary related to a portfolio of federally insured loans that were purchased in 2013 and 2014, and recognized $5.0 million in provision expense related to these loans.
Provision for loan losses for consumer loans was $8.0 million and $2.5 million for the three months ended September 30, 2019 and 2018, respectively, and $20.0 million and $6.0 million for the nine months ended September 30, 2019 and 2018, respectively. The increase in provision was a result of the increased amount of consumer loan purchases during 2019. The Company purchased $298.1 million of consumer loans during the nine months ended September 30, 2019 ($113.3 million of which were purchased during the third quarter) compared to $80.4 million during the same period in 2018 ($42.8 million during the third quarter of 2018).
The Company recognized $14.0 million of expenses during the three months ended September 30, 2019 and $15.8 million of expenses during the nine months ended September 30, 2019 related to the extinguishment of notes payable in certain asset-backed securitizations prior to the notes' contractual maturities (as further described below). These expenses consisted of premium payments made by the Company of $12.6 million and $14.0 million during the three and nine months ended September 30, 2019, respectively, and the write-off of $1.4 million and $1.8 million of debt issuance costs during the three and nine months ended September 30, 2019, respectively.
Corporate and Other Activities
The Company adopted a new lease accounting standard effective January 1, 2019. The most significant impact of the standard to the Company relates to (1) the recognition of new right-of-use ("ROU") assets and lease liabilities on its balance sheet primarily for office, data center, and dark fiber operating leases; (2) the deconsolidation of assets and liabilities for certain sale-leaseback transactions arising from build-to-suit lease arrangements for which construction was completed and the Company is leasing the constructed assets that did not qualify for sale accounting prior to the adoption of the new standard; and (3) significant new disclosures about the Company’s leasing activities.
Adoption of the new standard resulted in recognizing lease liabilities of $33.7 million based on the present value of the remaining minimum rental payments. In addition, the Company recognized ROU assets of $32.8 million, which corresponds to the lease liabilities reduced by deferred rent expense as of the effective date. The Company also deconsolidated total assets of $43.8 million and total liabilities of $34.8 million for entities that had been consolidated
36


due to sale-leaseback transactions that failed to qualify for recognition as sales under the prior guidance. Deconsolidation of these entities reduced noncontrolling interests by $6.1 million.
Liquidity and Capital Resources
As of September 30, 2019, the Company had cash and cash equivalents of $161.0 million. In addition, the Company had a portfolio of available-for-sale investments, consisting primarily of student loan asset-backed securities, with a fair value of $52.6 million as of September 30, 2019.
As of September 30, 2019, the Company's $382.5 million unsecured line of credit had no amount outstanding and $382.5 million was available for future use. During the second quarter of 2019, the Company entered into a $22.0 million secured line of credit agreement, and as of September 30, 2019, this line of credit had $5.0 million outstanding and $17.0 million available for future use.
The Company has repurchased certain of its own asset-backed securities (bonds and notes payable) in the secondary market. For accounting purposes, these notes are eliminated in consolidation and are not included in the Company's consolidated financial statements. However, these securities remain legally outstanding at the trust level and the Company could sell these notes to third parties or redeem the notes at par as cash is generated by the trust estate. Upon a sale of these notes to third parties, the Company would obtain cash proceeds equal to the market value of the notes on the date of such sale. As of September 30, 2019, the Company holds $15.0 million (par value) of its own asset-backed securities.
During the nine months ended September 30, 2019, the Company generated $142.9 million of cash from operating activities.
The majority of the Company’s portfolio of student loans is funded in asset-backed securitizations that will generate significant earnings and cash flow over the life of these transactions. As of September 30, 2019, the Company currently expects future undiscounted cash flows from its securitization portfolio to be approximately $1.88 billion.
Certain of the Company’s asset-backed securitizations were structured as “Turbo Transactions” which required all cash generated from the student loans (including excess spread) to be directed toward payment of interest and any outstanding principal generally until such time as all principal on the notes had been paid in full. Once the notes in such transactions were paid in full, the remaining unencumbered student loans (and other remaining assets, if any) in the securitization would be released to the Company, at which time the Company would have the option to refinance or sell these assets, or retain them on the balance sheet as unencumbered assets.
During the second and third quarters of 2019, the Company extinguished a total of $768.5 million of notes payable in certain asset-backed securitizations, including six of the Company's seven Turbo Transactions, prior to the notes' contractual maturities, resulting in the release of $1.15 billion in student loans and accrued interest receivable that were previously encumbered in the asset-backed securitizations. Upon extinguishment of the notes payable throughout the second and third quarters, the Company refinanced the student loans in its FFELP warehouse facilities and new asset-backed securitizations, resulting in net cash proceeds of $369.0 million. The Company used a portion of these proceeds to pay down the outstanding balance on its unsecured line of credit.
The cash proceeds generated by the debt extinguishments provide the Company with increased liquidity and the opportunity to invest the previously underutilized capital at higher returns.
On January 11, 2019, the Company obtained a consumer loan warehouse facility with an aggregate maximum financing amount available of $100.0 million. On April 25, 2019, the Company amended the agreement for this warehouse facility to increase the aggregate maximum financing amount available to $200.0 million and extend the final maturity date to April 23, 2022. As of September 30, 2019, $144.0 million was outstanding under this facility and $56.0 million was available for future funding.
During the first nine months of 2019, the Company completed five FFELP asset-backed securitizations totaling $2.2 billion (par value). The proceeds from these transactions were used primarily to refinance student loans included in the Company's FFELP warehouse facilities and unencumbered student loans from the extinguishment of certain asset-backed securitizations.
On June 25, 2019, the Company completed a private education loan asset-backed securitization totaling $47.2 million (par value). The proceeds from this transaction were used to refinance private education loans previously funded via a private loan repurchase agreement that was terminated on June 25, 2019.
37


During the nine months ended September 30, 2019, the Company repurchased a total of 723,832 shares of Class A common stock for $40.3 million ($55.62 per share), including 3,365 shares of Class A common stock repurchased during the three months ended September 30, 2019 for $0.2 million ($65.81 per share).
On May 8, 2019, the Board of Directors authorized a new stock repurchase program to repurchase up to a total of five million shares of the Company's Class A common stock during the three-year period ending May 7, 2022. The five million shares authorized under the new program include the remaining unrepurchased shares from the prior program, which the new program replaces. As of September 30, 2019, 4.8 million shares remained authorized for repurchase under the Company's stock repurchase program.
During the nine months ended September 30, 2019, the Company paid cash dividends of $21.5 million ($0.54 per share), including $7.1 million ($0.18 per share) paid during the three months ended September 30, 2019. In addition, the Company's Board of Directors has declared a fourth quarter 2019 cash dividend on the Company's outstanding shares of Class A and Class B common stock of $0.20 per share. The fourth quarter cash dividend will be paid on December 13, 2019 to shareholders of record at the close of business on November 29, 2019.
The Company intends to use its liquidity position to capitalize on market opportunities, including FFELP, private education, and consumer loan acquisitions; strategic acquisitions and investments; expansion of ALLO’s telecommunications network; and capital management initiatives, including stock repurchases, debt repurchases, and dividend distributions. The timing and size of these opportunities will vary and will have a direct impact on the Company’s cash and investment balances.
Subsequent Event
Subsequent to September 30, 2019, the Company made the decision to sell $179.3 million (par value) of consumer loans to an unrelated third party who securitized such loans. As partial consideration received for the consumer loans sold, the Company received an approximate 29 percent residual interest in the consumer loan securitization. The Company will recognize a gain in the fourth quarter of 2019 of $15.5 million (pre-tax) from the sale of these loans.
CONSOLIDATED RESULTS OF OPERATIONS
An analysis of the Company's operating results for the three and nine months ended September 30, 2019 compared to the same periods in 2018 is provided below.
The Company’s operating results are primarily driven by the performance of its existing portfolio and the revenues generated by its fee-based businesses and the costs to provide such services. The performance of the Company’s portfolio is driven by net interest income (which includes financing costs) and losses related to credit quality of the assets, along with the cost to administer and service the assets and related debt.
The Company operates as distinct reportable operating segments as described above. For a reconciliation of the reportable segment operating results to the consolidated results of operations, see note 10 of the notes to consolidated financial statements included under Part I, Item 1 of this report. Since the Company monitors and assesses its operations and results based on these segments, the discussion following the consolidated results of operations is presented on a reportable segment basis.

38


 Three months endedNine months ended
 September 30,September 30,Additional information
 2019201820192018
Loan interest$229,063  232,320  709,618  653,414  
Decrease for the three months ended September 30, 2019 as compared to the same period in 2018 was due to a decrease in the average balance of loans, partially offset by an increase in the gross yield earned on loans. Increase for the nine months ended September 30, 2019 as compared to the same period in 2018, was due primarily to an increase in the gross yield earned on loans, partially offset by a decrease in the average balance of loans and a decrease in gross fixed rate floor income due to higher interest rates in 2019 as compared to 2018.
Investment interest9,882  7,628  26,701  18,581  Includes income from unrestricted interest-earning deposits and investments and funds in asset-backed securitizations. Increase was due to increases in interest-earning investments and interest rates.
Total interest income238,945  239,948  736,319  671,995  
Interest expense172,488  180,175  551,221  487,174  Decrease for the three months ended September 30, 2019 as compared to the same period in 2018 was due to a decrease in the average balance of debt outstanding, partially offset by an increase in cost of funds. Increase for the nine months ended September 30, 2019 as compared to the same period in 2018 was due to an increase in cost of funds, partially offset by a decrease in the average balance of debt outstanding.
Net interest income66,457  59,773  185,098  184,821  See table below for additional analysis.  
Less provision for loan losses10,000  10,500  26,000  18,000  Represents the periodic expense of maintaining an allowance appropriate to absorb losses inherent in the portfolio of loans. See AGM operating segment - results of operations.  
Net interest income after provision for
   loan losses
56,457  49,273  159,098  166,821  
Other income:            
LSS revenue113,286  112,579  342,169  327,265  See LSS operating segment - results of operations.  
ETS&PP revenue74,251  58,409  213,753  167,372  See ETS&PP operating segment - results of operations.  
Communications revenue16,470  11,818  46,770  31,327  See Communications operating segment - results of operations.  
Other income13,439  16,673  38,658  44,808  See table below for the components of "other income."  
Derivative settlements, net
7,298  22,324  39,306  51,018  The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. Derivative settlements for each applicable period should be evaluated with the Company's net interest income. See table below for additional analysis.  
Derivative market value adjustments, net
(5,630) (5,226) (73,265) 49,909  
Includes the realized and unrealized gains and losses that are caused by changes in fair values of derivatives which do not qualify for "hedge treatment" under GAAP. The majority of the derivative market value adjustments related to the changes in fair value of the Company's floor income interest rate swaps. Such changes reflect that a decrease in the forward yield curve during a reporting period results in a decrease in the fair value of the Company's floor income interest rate swaps, and an increase in the forward yield curve during a reporting period results in an increase in the fair value of the Company's floor income interest rate swaps.
Total other income219,114  216,577  607,391  671,699  
Cost of services:
Cost to provide education technology, services, and payment processing services
25,671  19,087  62,601  44,087  Represents primarily direct costs to provide payment processing services in the ETS&PP operating segment.  
Cost to provide communications services5,236  4,310  15,096  11,892  Represents costs of services primarily associated with television programming costs in the Communications operating segment.  
Total cost of services30,907  23,397  77,697  55,979  
Operating expenses:            
Salaries and benefits116,670  114,172  338,942  321,932  
Increase was due to increases in personnel as a result of the TMS acquisition and to support the organic growth in revenue in the ETS&PP operating segment, and increases in personnel at ALLO to support customer and network expansion. These items were partially offset by a decrease in salaries and benefits in the ETS&PP operating segment due to the Company's decision in October 2018 to terminate its investment in a proprietary processing platform. Part of the increase in the nine months ended September 30, 2019 compared to the same period in 2018 was due to an increase in personnel as a result of the acquisition of Great Lakes on February 7, 2018 (nine months of expenses in 2019 as compared to approximately eight months in 2018). See each individual operating segment results of operations discussion for additional information.
Depreciation and amortization27,701  22,992  76,398  62,943  Increase was primarily due to additional depreciation expense at ALLO and the acquisition of Great Lakes on February 7, 2018. See each individual operating segment results of operations discussion for additional information.
Loan servicing fees to third parties3,382  3,087  9,431  9,428  Represents fees paid to third-party loan servicers. Servicing fees paid to the LSS operating segment for servicing loans for the AGM operating segment are eliminated for the consolidated financial statement presentation.  
39


Other expenses54,947  45,194  138,131  119,020  Other expenses includes expenses necessary for operations, such as postage and distribution, consulting and professional fees, occupancy, communications, and certain information technology-related costs. Increase was primarily due to the AGM operating segment recognizing $14.0 million of expenses during the three months ended September 30, 2019 and $15.8 million of expenses during the nine months ended September 30, 2019 to extinguish notes payable from certain asset-backed securitizations prior to their contractual maturities. See each individual operating segment results of operations discussion for additional information.
Total operating expenses202,700  185,445  562,902  513,323  
Income before income taxes41,964  57,008  125,890  269,218  
Income tax expense8,829  13,882  26,429  63,369  
The effective tax rate was 21.0% and 24.4% for the three months ended September 30, 2019 and 2018, respectively, and 21.0% and 23.5% for the nine months ended September 30, 2019 and 2018, respectively. Decrease in the effective tax rate was due to a reduction in state tax costs. The Company currently expects its effective tax rate for 2019 will range between 20 and 22 percent.
Net income33,135  43,126  99,461  205,849  
Net loss (income) attributable to noncontrolling interests
77  (199) (38) 438  
Net income attributable to Nelnet, Inc.$33,212  42,927  99,423  206,287  
Additional information:
Net income attributable to Nelnet, Inc.$33,212  42,927  99,423  206,287  
Derivative market value adjustments, net
5,630  5,226  73,265  (49,909) See "Overview - GAAP Net Income and Non-GAAP Net Income, Excluding Adjustments" above for additional information about non-GAAP net income, excluding derivative market value adjustments.  
Tax effect(1,351) (1,254) (17,584) 11,978  
Net income attributable to Nelnet, Inc., excluding derivative market value adjustments
$37,491  46,899  155,104  168,356  
The following table summarizes the components of “net interest income” and “derivative settlements, net.”
Derivative settlements represent the cash paid or received during the current period to settle with derivative instrument counterparties the economic effect of the Company's derivative instruments based on their contractual terms. Derivative accounting requires that net settlements with respect to derivatives that do not qualify for "hedge treatment" under GAAP be recorded in a separate income statement line item below net interest income. The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. As such, management believes derivative settlements for each applicable period should be evaluated with the Company’s net interest income as presented in the table below. Net interest income (net of settlements on derivatives) is a non-GAAP financial measure, and the Company reports this non-GAAP information because the Company believes that it provides additional information regarding operational and performance indicators that are closely assessed by management. There is no comprehensive, authoritative guidance for the presentation of such non-GAAP information, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance. See note 4 of the notes to consolidated financial statements included under Part I, Item 1 of this report for additional information on the Company's derivative instruments, including the net settlement activity recognized by the Company for each type of derivative for the periods presented in the table under the caption "Income Statement Impact" in note 4 and in the table below.
40


 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Variable loan interest margin
$46,051  42,455  134,312  129,756  Represents the yield the Company receives on its loan portfolio less the cost of funding these loans. Variable loan spread is also impacted by the amortization/accretion of loan premiums and discounts and the 1.05% per year consolidation loan rebate fee paid to the Department. See AGM operating segment - results of operations.
Settlements on associated derivatives
234  3,361  3,375  4,676  Represents the net settlements received related to the Company’s 1:3 basis swaps.
Variable loan interest margin, net of settlements on derivatives
46,285  45,816  137,687  134,432  
Fixed rate floor income
12,685  13,659  33,950  45,359  The Company has a portfolio of student loans that are earning interest at a fixed borrower rate which exceeds the statutorily defined variable lender rates, generating fixed rate floor income. See Item 3, "Quantitative and Qualitative Disclosures About Market Risk - Interest Rate Risk" for additional information.
Settlements on associated derivatives
7,064  19,087  35,931  46,752  Represents the net settlements received related to the Company’s floor income interest rate swaps.
Fixed rate floor income, net of settlements on derivatives
19,749  32,746  69,881  92,111  
Investment interest
9,882  7,628  26,701  18,581   
Corporate debt interest expense
(2,161) (3,969) (9,865) (8,875) 
Includes interest expense on the Junior Subordinated Hybrid Securities and unsecured line of credit. Decrease for the three months ended September 30, 2019 compared to the same period in 2018 was due primarily to a decrease in the average balance outstanding on the Company's unsecured line of credit. Increase for the nine months ended September 30, 2019 compared to the same period in 2018 was due to an increase in interest rates and in the average balance outstanding on the Company's unsecured line of credit.
Non-portfolio related derivative settlements
—  (124) —  (410) Represents the net settlements paid related to the Company’s hybrid debt hedges.
Net interest income (net of settlements on derivatives)
$73,755  82,097  224,404  235,839  
The following table summarizes the components of "other income."
 Three months ended September 30,Nine months ended September 30,
 2019201820192018
Borrower late fee income$3,196  3,253  9,870  8,994  
Management fee revenue (a)2,084  1,756  6,007  4,673  
Gain on investments and notes receivable, net of losses (b)1,948  2,503  5,779  10,291  
Investment advisory services (c)753  1,183  2,194  4,169  
Other5,458  7,978  14,808  16,681  
Other income$13,439  16,673  38,658  44,808  
(a) Represents revenue earned from providing administrative support services to Great Lakes’ former parent company in accordance with a contract that expired in October 2019. The increase for the nine months ended September 30, 2019 as compared to the same period in 2018 was due to nine months of revenue under this contract in 2019 as compared to approximately eight months of revenue (from the Great Lakes acquisition date) in 2018.
(b) During the first quarter of 2018, the Company recognized unrealized gains totaling $6.7 million related to the change in fair value of certain equity securities.
(c) The Company provides investment advisory services through Whitetail Rock Capital Management, LLC, the Company's SEC-registered investment advisor subsidiary, under various arrangements and earns annual fees of 25 basis points on the majority of the outstanding balance of investments and up to 50 percent of the gains from the sale of securities or securities being called prior to the full contractual maturity for which it provides advisory services. As of September 30, 2019, the outstanding balance of investments subject to these arrangements was $966.7 million. The decrease in advisory fees in 2019 as compared to 2018 was the result of a decrease in performance fees earned.



41


LOAN SERVICING AND SYSTEMS OPERATING SEGMENT – RESULTS OF OPERATIONS
The Company purchased Great Lakes on February 7, 2018. The results of Great Lakes' operations are reported in the Company's consolidated financial statements from the date of acquisition.
Loan Servicing Volumes
As of
December 31,
2017
March 31,
2018
June 30,
2018
September 30,
2018
December 31,
2018
March 31,
2019
June 30,
2019
September 30,
2019
Servicing volume
(dollars in millions):
Nelnet:
Government$172,669  176,605  176,179  179,283  179,507  183,093  181,682  184,399  
FFELP27,262  26,969  37,599  37,459  36,748  35,917  35,003  33,981  
Private and consumer11,483  12,116  15,016  15,466  15,666  16,065  16,025  16,286  
Great Lakes:
Government—  242,063  241,902  232,741  232,694  237,050  236,500  240,268  
FFELP (a)—  11,136  —  —  —  —  —  —  
Private and consumer (a)—  1,927  31  —  —  —  —  —  
Total$211,414  470,816  470,727  464,949  464,615  472,125  469,210  474,934  
Number of servicing borrowers:
Nelnet:
Government5,877,414  5,819,286  5,745,181  5,805,307  5,771,923  5,708,582  5,592,989  5,635,653  
FFELP1,420,311  1,399,280  1,787,419  1,754,247  1,709,853  1,650,785  1,588,530  1,529,392  
Private and consumer502,114  508,750  672,520  692,763  696,933  699,768  693,410  701,299  
Great Lakes:
Government—  7,456,830  7,378,875  7,486,311  7,458,684  7,385,284  7,300,691  7,430,165  
FFELP (a)—  461,553  —  —  —  —  —  —  
Private and consumer (a)—  118,609  3,987  —  —  —  —  —  
Total7,799,839  15,764,308  15,587,982  15,738,628  15,637,393  15,444,419  15,175,620  15,296,509  
Number of remote hosted borrowers:
2,812,713  6,207,747  6,145,981  6,406,923  6,393,151  6,332,261  6,211,132  6,457,296  

(a) During the second quarter of 2018, the Company converted Great Lakes' FFELP and private education   servicing volume to Nelnet Servicing's platform to leverage the efficiencies of supporting more volume on   fewer systems.



42


Summary and Comparison of Operating Results
 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Net interest income$481  381  1,509  931  
Increase was due to additional interest earnings on cash deposits due to a higher balance of cash deposits and higher interest rates in 2019 as compared to 2018.
Loan servicing and systems revenue
113,286  112,579  342,169  327,265  See table below for additional analysis.
Intersegment servicing revenue
11,611  12,290  35,426  34,670  
Represents revenue earned by the LSS operating segment as a result of servicing loans for the AGM operating segment. Increase for the nine months ended September 30, 2019 compared to the same period in 2018 was due to the acquisition of Great Lakes on February 7, 2018. Prior to the acquisition, Great Lakes was a third-party servicer to the Company's AGM operating segment. Over time, FFELP intersegment servicing revenue will decrease as AGM's' FFELP portfolio runs off.
Other income2,291  1,948  6,642  5,196  
Represents primarily revenue earned from providing administrative support services to Great Lakes’ former parent company in accordance with a contract that expired in October 2019. Increase in the nine months ended September 30, 2019 compared to the same period in 2018 was due to nine months of revenue in 2019 as compared to approximately eight months of revenue (from the Great Lakes acquisition date) in 2018.
Total other income127,188  126,817  384,237  367,131  
Salaries and benefits69,209  70,440  201,924  198,411  
Decrease for the three months ended September 30, 2019 compared to the same period in 2018 was due to the completion of certain integration activities related to the Great Lakes acquisition. Increase in the nine months ended September 30, 2019 compared to the same period in 2018 was due to nine months of salaries and benefits from the Great Lakes acquisition included in 2019 as compared to approximately eight months of expenses (from the Great Lakes acquisition date) in 2018, partially offset by the reduction of expenses from integration activities.
Depreciation and amortization
8,565  8,957  26,236  23,237  
Increase in depreciation and amortization for the nine months ended September 30, 2019 as compared to the same period in 2018 was primarily due to the acquisition of Great Lakes on February 7, 2018.
Other expenses16,686  19,638  52,732  51,591  Excluding a $3.9 million impairment charge related to external software development costs recognized by the Company during the three months ended September 30, 2018, other expenses were $16.7 million and $15.7 million for the three months ended September 30, 2019 and 2018, respectively, and $52.7 million and $47.7 million for the nine months ended September 30, 2019 and 2018, respectively. Increase was due to the Great Lakes acquisition on February 7, 2018.
Intersegment expenses12,955  15,029  40,317  43,968  
Intersegment expenses represent costs for certain corporate activities and services that are allocated to each operating segment based on estimated use of such activities and services. Decrease for the three and nine months ended September 30, 2019 as compared to the same periods in 2018 was due to the completion of certain integration activities related to the Great Lakes acquisition.
Total operating expenses107,415  114,064  321,209  317,207  
Income before income taxes
20,254  13,134  64,537  50,855  
Income tax expense(4,861) (3,152) (15,489) (12,399) Reflects income tax expense at an effective tax rate of 24% on income before taxes and the net loss attributable to noncontrolling interest.
Net income15,393  9,982  49,048  38,456  
  Net loss attributable to noncontrolling interest
—  —  —  808  Represented 50 percent of the net loss of the GreatNet joint venture that was attributable to Great Lakes prior to the Company's acquisition of Great Lakes on February 7, 2018.
Net income attributable to
Nelnet, Inc.
$15,393  9,982  49,048  39,264  
Before tax and noncontrolling interest operating margin
15.9 %10.4 %16.8 %14.1 %
Excluding the impairment of external software development costs recognized during the three months ended September 30, 2018 as discussed above, before tax and noncontrolling interest operating margin was 13.4% and 15.1% for the three and nine months ended September 30, 2018, respectively. Increase in margin in 2019 as compared to the same periods in 2018 was due primarily to operating leverage and efficiencies gained as a result of the completion of certain integration activities related to the Great Lakes acquisition.

43


Loan servicing and systems revenue
 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Government servicing - Nelnet$38,645  38,907  118,744  118,015  
Represents revenue from Nelnet Servicing's Department servicing contract. Revenue increased due to a shift in the portfolio of loans serviced to a greater portion of loans in higher paying repayment statuses, and decreased due to a decrease in the number of servicing borrowers. The combination of these factors resulted in revenue remaining consistent in 2019 as compared to the same periods in 2018.
Government servicing - Great Lakes46,234  45,671  139,285  122,107  
Represents revenue from the Great Lakes' Department servicing contract from the date of acquisition, February 7, 2018. Revenue increased due to a shift in the portfolio of loans serviced to a greater portion of loans in higher paying repayment statuses, partially offset by a decrease in the number of servicing borrowers. Increase in revenue for the nine months ended September 30, 2019 compared to the same period in 2018 was also due to nine months of revenue in 2019 as compared to approximately eight months (from the Great Lakes acquisition date) of revenue in 2018.
Private education and consumer loan servicing
9,561  10,007  28,026  31,990  
Excluding $4.6 million in revenue earned in the first quarter of 2018 related to a private loan customer deconverting from the Great Lakes servicing platform subsequent to the Company’s acquisition of Great Lakes on February 7, 2018, private education and consumer loan servicing revenue was $28.0 million and $27.4 million for the nine months ended September 30, 2019 and 2018, respectively. The increase in revenue was due to nine months of revenue in 2019 as compared to approximately eight months (from the Great Lakes acquisition date) of revenue in 2018 and an increase in loan servicing volume from existing and new clients. These items were partially offset by a decrease in revenue as a result of the change in portfolio mix of private education and consumer loans. The decrease in revenue for the three months ended September 30, 2019 as compared to the same period in 2018 was due to the change in portfolio mix of private education and consumer loans, partially offset by an increase in loan servicing volume from existing and new clients.
FFELP servicing
6,089  7,422  19,208  24,259  
Decrease was due to portfolio runoff and purchases of third-party FFELP portfolios by the Company's AGM operating segment. These items were partially offset by the acquisition of Great Lakes (nine months of revenue during the nine months ended September 30, 2019 as compared to eight months (from the Great Lakes acquisition date) of revenue in 2018). Revenue earned by the LSS operating segment for servicing loans for the AGM operating segment is included in "intersegment servicing revenue." Over time, FFELP servicing revenue will decrease as third-party customers' FFELP portfolios run off.
Software services 10,493  8,201  30,255  24,461  
Historically, the majority of software services revenue related to providing hosted student loan servicing. As a result of the Great Lakes acquisition, LSS added a significant unrelated third-party FFELP guaranty hosted servicing customer. Increase in the three and nine months ended September 30, 2019 as compared to the same periods in 2018 was due to an increase in providing hosted guaranty services to the new guaranty servicing customer. In addition, the increase in revenue for the nine months ended 2019 as compared to the same period in 2018 was due to nine months of revenue from the new guaranty hosted servicing customer in 2019 as compared to approximately eight months (from the Great Lakes acquisition date) of revenue in 2018.
Outsourced services and other
2,264  2,371  6,651  6,433  The majority of this revenue relates to providing contact center outsourcing activities.
Loan servicing and systems revenue
$113,286  112,579  342,169  327,265  

44


EDUCATION TECHNOLOGY, SERVICES, AND PAYMENT PROCESSING OPERATING SEGMENT – RESULTS OF OPERATIONS
As discussed further in the Company's 2018 Annual Report, this segment of the Company’s business is subject to seasonal fluctuations which correspond, or are related to, the traditional school year. Based on the timing of revenue recognition and when expenses are incurred, revenue and pre-tax operating margin are higher in the first quarter as compared to the remainder of the year.
On November 20, 2018, the Company acquired TMS, a services company that offers tuition payment plans, billing services, payment technology solutions, and refund management to educational institutions. The TMS acquisition added 380 higher education schools and 170 K-12 schools to the Company’s customer base. The results of TMS’ operations are reported in the Company’s consolidated financial statements from the date of acquisition.
Summary and Comparison of Operating Results
 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Net interest income$3,487  1,510  7,143  2,924  
Increase was due to additional interest earnings on cash deposits due to a higher balance of cash deposits and higher interest rates in 2019 as compared to 2018.
Education technology, services, and payment processing revenue
74,251  58,409  213,753  167,372  See table below for additional information.
Cost to provide education technology, services, and payment processing services
25,671  19,087  62,601  44,087  See table below for additional information.
Salaries and benefits23,826  19,972  69,656  58,552  Increase was due to the acquisition of TMS along with additional personnel to support the increase in services provided to customers, partially offset by cost reductions due to the Company's decision in October 2018 to terminate its investment in a proprietary payment processing platform.
Depreciation and amortization
2,997  3,435  9,832  10,062  
Amortization of intangible assets related to business acquisitions was $2.8 million for the three months ended September 30, 2019 and 2018, respectively, and $9.3 million and $8.2 million for the nine months ended September 30, 2019 and 2018, respectively.
Other expenses5,325  4,943  16,440  14,950  Increase was due to the acquisition of TMS and additional costs to support the increase in services provided to customers, partially offset by cost reductions due to the Company's decision in October 2018 to terminate its investment in a proprietary payment processing platform.
Intersegment expenses
3,194  2,494  9,642  7,630  Intersegment expenses represent costs for certain corporate activities and services that are allocated to each operating segment based on estimated use of such activities and services.
Total operating expenses
35,342  30,844  105,570  91,194  
Income before income taxes
16,725  9,988  52,725  35,015  
Income tax expense(4,014) (2,397) (12,654) (8,404) Represents income tax expense at an effective tax rate of 24%.
Net income$12,711  7,591  40,071  26,611  


45


Education technology, services, and payment processing revenue
The following table provides disaggregated revenue by service offering and before tax operating margin for each reporting period.
 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Tuition payment plan services$25,760  19,771  80,589  63,209  Increase was due to an increase in the number of managed tuition payment plans resulting from the acquisition of TMS and the addition of new school customers.
Payment processing
35,138  26,956  85,428  62,908  Increase was due to the acquisition of TMS and an increase in payments volume from new and existing school and non-education customers.
Education technology and services
13,067  11,419  46,872  40,411  Increase was due to an increase in the number of customers using the Company’s school administration software and services, higher revenues from financial needs assessment services, and the acquisition of TMS. Additionally, FACTS Education Solutions has experienced growth in the number of students and teachers receiving its professional development and educational instruction services.
Other
286  263  864  844  
Education technology, services, and payment processing revenue
74,251  58,409  213,753  167,372  
Cost to provide education technology, services, and payment processing services
25,671  19,087  62,601  44,087  Costs primarily relate to payment processing revenue. Increase was due to the acquisition of TMS and an increase in payments volume from new and existing school and non-education customers.
Net revenue
$48,580  39,322  151,152  123,285  
Before tax operating margin
34.4 %25.4 %34.9 %28.4 %Before tax operating margin (income before income taxes divided by net revenue) increased due to operating leverage and cost reductions due to the Company's decision in October 2018 to terminate its investment in a proprietary payment processing platform.
46


COMMUNICATIONS OPERATING SEGMENT – RESULTS OF OPERATIONS
Summary and Comparison of Operating Results
Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Net interest income (expense)$—  (4,173)  (9,984) See note (a) below for additional information.
Communications revenue
16,470  11,818  46,770  31,327  Communications revenue is derived primarily from the sale of pure fiber optic services to residential and business customers in Nebraska and Colorado, including internet, television, and telephone services. Increase was primarily due to additional residential households served. See additional financial and operating data for ALLO in the tables below.
Other income532  950  1,019  950  
Total other income17,002  12,768  47,789  32,277  
Cost to provide
communications services
5,236  4,310  15,096  11,892  Cost of services are primarily associated with television programming costs. Other costs include connectivity, franchise, and other regulatory costs directly related to providing internet and voice services.
Salaries and benefits5,763  4,554  15,692  13,284  
As of December 31, 2017, September 30, 2018, December 31, 2018, and September 30, 2019, ALLO had 508, 527, 550, and 544 employees, respectively, including part-time employees. ALLO also uses temporary employees in the normal course of business. Certain costs qualify for capitalization as ALLO develops its network.
Depreciation and
amortization
10,926  6,167  26,025  16,585  
Depreciation reflects the allocation of the costs of ALLO's property and equipment over the period in which such assets are used. A significant amount of property and equipment purchases have been made to support the Lincoln, Nebraska network expansion. The gross property and equipment balances related to this segment as of December 31, 2017, September 30, 2018, December 31, 2018, and September 30, 2019 were $186.4 million, $253.2 million, $273.9 million and $308.1 million, respectively. Amortization reflects the allocation of costs related to intangible assets recorded at fair value as of the date the Company acquired ALLO over their estimated useful lives.
Other expenses3,842  3,151  11,184  8,811  Other expenses includes selling, general, and administrative expenses necessary for operations, such as advertising, occupancy, professional services, construction materials, and personal property taxes. Increase was due to expansion of the Lincoln, Nebraska network and number of households served.
Intersegment expenses
701  598  2,081  1,802  Intersegment expenses represent costs for certain corporate activities and services that are allocated to each operating segment based on estimated use of such activities and services.
Total operating expenses
21,232  14,470  54,982  40,482  
Loss before income taxes(9,466) (10,185) (22,286) (30,081) 
Income tax benefit2,272  2,444  5,349  7,220  Represents income tax benefit at an effective tax rate of 24%.
Net loss$(7,194) (7,741) (16,937) (22,861) The Company anticipates this operating segment will be dilutive to consolidated earnings as it continues to develop and add customers to its network in Lincoln, Nebraska and other communities, due to large upfront capital expenditures and associated depreciation and upfront customer acquisition costs.
Additional information:
Net loss
$(7,194) (7,741) (16,937) (22,861) 
Net interest (income) expense
—  4,173  (3) 9,984  
Income tax benefit
(2,272) (2,444) (5,349) (7,220) 
Depreciation and amortization
10,926  6,167  26,025  16,585  
Earnings (loss) before interest, income taxes, depreciation, and amortization (EBITDA)
$1,460  155  3,736  (3,512) For additional information regarding this non-GAAP measure, see the table below.

(a) Nelnet, Inc. (parent company) previously provided a line of credit to ALLO for network capital expenditures and related expenses. In 2016 and 2017, the outstanding amount owed by ALLO to Nelnet, Inc. and the related interest expense incurred by ALLO and the interest income recognized by Nelnet, Inc. under the line of credit was eliminated in the Company's consolidated financial statements. On January 1, 2018, Nelnet, Inc. contributed equity to ALLO with an associated guaranteed payment and ALLO used the proceeds from this capital contribution to pay off all of the outstanding balance on the line of credit, including all accrued and unpaid interest. For financial reporting purposes, the guaranteed payment recorded by ALLO was classified as debt and such debt and the guaranteed return paid to Nelnet, Inc. (reflected as interest expense for ALLO) was eliminated in the consolidated financial statements. On October 1, 2018, the guaranteed payment was replaced with a yield-based preferred return of future earnings on the contributed equity. For financial reporting purposes, the preferred interest recorded by ALLO is classified as equity and the preferred return on the preferred interest is not treated by ALLO as interest expense. Accordingly, subsequent to October 1, 2018, ALLO will not report interest expense in its income statement related to amounts contributed to ALLO from Nelnet, Inc.
47


Certain financial and operating data for ALLO is summarized in the tables below.
Three months ended September 30,Nine months ended September 30,
2019201820192018
Residential revenue$12,397  75.3 %$8,896  75.3 %$35,351  75.6 %$23,367  74.6 %
Business revenue4,025  24.4  2,861  24.2  11,256  24.1  7,779  24.8  
Other48  0.3  61  0.5  163  0.3  181  0.6  
Communications revenue$16,470  100.0 %$11,818  100.0 %$46,770  100.0 %$31,327  100.0 %
Internet$9,899  60.1 %$6,453  54.6 %$27,641  59.1 %$16,541  52.8 %
Television4,068  24.7  3,380  28.6  12,020  25.7  9,241  29.5  
Telephone2,487  15.1  1,962  16.6  7,062  15.1  5,482  17.5  
Other16  0.1  23  0.2  47  0.1  63  0.2  
Communications revenue$16,470  100.0 %$11,818  100.0 %$46,770  100.0 %$31,327  100.0 %
Net loss$(7,194) (7,741) (16,937) (22,861) 
EBITDA (a)1,460  155  3,736  (3,512) 
Capital expenditures10,187  21,728  37,185  66,816  

As of
September 30,
2019
As of
June 30,
2019
As of
March 31,
2019
As of
December 31,
2018
As of
September 30,
2018
As of
June 30,
2018
As of
March 31,
2018
As of
December 31,
2017
Residential customer information:
Households served45,228  42,760  40,338  37,351  32,529  27,643  23,541  20,428  
Households passed (b)137,269  132,984  127,253  122,396  110,687  98,538  84,475  71,426  
Households served/passed32.9 %32.2 %31.7 %30.5 %29.4 %28.1 %27.9 %28.6 %
Total households in current markets and new markets announced (c)159,974  159,974  152,840  152,840  142,602  137,500  137,500  137,500  

(a) Earnings (loss) before interest, income taxes, depreciation, and amortization ("EBITDA") is a supplemental non-GAAP performance measure that is frequently used in capital-intensive industries such as telecommunications. ALLO's management uses EBITDA to compare ALLO's performance to that of its competitors and to eliminate certain non-cash and non-operating items in order to consistently measure performance from period to period. EBITDA excludes interest and income taxes because these items are associated with a company's particular capitalization and tax structures. EBITDA also excludes depreciation and amortization expense because these non-cash expenses primarily reflect the impact of historical capital investments, as opposed to the cash impacts of capital expenditures made in recent periods, which may be evaluated through cash flow measures. The Company reports EBITDA for ALLO because the Company believes that it provides useful additional information for investors regarding a key metric used by management to assess ALLO's performance. There are limitations to using EBITDA as a performance measure, including the difficulty associated with comparing companies that use similar performance measures whose calculations may differ from ALLO's calculations. In addition, EBITDA should not be considered a substitute for other measures of financial performance, such as net income or any other performance measures derived in accordance with GAAP. A reconciliation of EBITDA from net income (loss) under GAAP is presented under "Summary and Comparison of Operating Results" in the table above.
(b) Represents the number of single residence homes, apartments, and condominiums that ALLO already serves and those in which ALLO has the capacity to connect to its network distribution system without further material extensions to the transmission lines, but have not been connected.
(c) During the second quarter of 2019, ALLO announced plans to expand its network to make services available in Breckenridge, Colorado. ALLO is now in ten communities, including eight in Nebraska and two in Colorado.

48


ASSET GENERATION AND MANAGEMENT OPERATING SEGMENT – RESULTS OF OPERATIONS
Loan Portfolio
As of September 30, 2019, the Company had a $21.1 billion loan portfolio, consisting primarily of federally insured loans, that management anticipates will amortize over the next approximately 20 years and has a weighted average remaining life of 8.8 years. For a summary of the Company’s loan portfolio as of September 30, 2019 and December 31, 2018, see note 2 of the notes to consolidated financial statements included under Part I, Item 1 of this report. 
Loan Activity
The following table sets forth the activity of loans:
 Three months ended September 30,Nine months ended September 30,
 2019201820192018
Beginning balance$21,590,836  22,856,285  22,520,498  21,995,877  
Loan acquisitions:
Federally insured student loans248,542  591,196  1,088,649  3,124,154  
Private education loans3,804  —  3,804  194  
Consumer loans113,338  42,819  298,092  80,385  
Total loan acquisitions365,684  634,015  1,390,545  3,204,733  
Repayments, claims, capitalized interest, and other
(497,762) (502,474) (1,875,948) (1,714,820) 
Consolidation loans lost to external parties(251,810) (292,749) (780,467) (789,321) 
Loans sold—  (22,320) (47,680) (23,712) 
Ending balance$21,206,948  22,672,757  21,206,948  22,672,757  
Allowance for Loan Losses and Loan Delinquencies
The Company maintains an allowance that management believes is appropriate to absorb losses, net of recoveries, inherent in the portfolio of loans, which results in periodic provisions for loan losses. Delinquencies have the potential to adversely impact the Company’s earnings through increased servicing and collection costs and account charge-offs.
For a summary of the activity in the allowance for loan losses for the three and nine months ended September 30, 2019 and 2018, and a summary of the Company's loan delinquency amounts as of September 30, 2019, December 31, 2018, and September 30, 2018, see note 2 of the notes to consolidated financial statements included under Part I, Item 1 of this report.
Provision for loan losses for federally insured loans was $2.0 million and $8.0 million for the three months ended September 30, 2019 and 2018, respectively, and $6.0 million and $12.0 million for the nine months ended September 30, 2019 and 2018, respectively. During the three months ended September 30, 2018, the Company determined an additional allowance was necessary related to a $2.2 billion (principal balance as of September 30, 2018) portfolio of federally insured loans that were purchased in 2013 and 2014, and recognized $5.0 million in provision expense related to these loans.
The Company did not record a provision for private education loan losses for the three or nine months ended September 30, 2019 and 2018.
Provision for loan losses for consumer loans was $8.0 million and $2.5 million for the three months ended September 30, 2019 and 2018, respectively, and $20.0 million and $6.0 million for the nine months ended September 30, 2019 and 2018, respectively. The increase in provision in 2019 as compared to the comparable periods in 2018 was a result of the increased amount of consumer loan purchases during the 2019 periods as reflected in the "Loan Activity" table above.

49


Loan Spread Analysis
The following table analyzes the loan spread on the Company’s portfolio of loans, which represents the spread between the yield earned on loan assets and the costs of the liabilities and derivative instruments used to fund the assets. The spread amounts included in the following table are calculated by using the notional dollar values found in the table under the caption "Net interest income after provision for loan losses, net of settlements on derivatives" below, divided by the average balance of loans or debt outstanding.
 Three months ended September 30,Nine months ended September 30,
2019201820192018
Variable loan yield, gross4.78 %4.57 %4.94 %4.40 %
Consolidation rebate fees(0.83) (0.83) (0.83) (0.84) 
Discount accretion, net of premium and deferred origination costs amortization
0.02  0.03  0.02  0.04  
Variable loan yield, net3.97  3.77  4.13  3.60  
Loan cost of funds - interest expense(3.16) (3.10) (3.35) (2.89) 
Loan cost of funds - derivative settlements (a) (b)0.00  0.06  0.02  0.03  
Variable loan spread0.81  0.73  0.80  0.74  
Fixed rate floor income, gross
0.23  0.23  0.21  0.27  
Fixed rate floor income - derivative settlements (a) (c)
0.13  0.34  0.22  0.28  
Fixed rate floor income, net of settlements on derivatives
0.36  0.57  0.43  0.55  
Core loan spread (d)1.17 %1.30 %1.23 %1.29 %
Average balance of loans$21,600,850  22,971,361  21,917,298  22,600,841  
Average balance of debt outstanding21,371,482  22,557,437  21,632,256  22,165,059  

Three months ended September 30,Nine months ended September 30,
2019201820192018
Core loan spread1.17 %1.30 %1.23 %1.29 %
Derivative settlements (1:3 basis swaps)0.00  (0.06) (0.02) (0.03) 
Derivative settlements (fixed rate floor income)(0.13) (0.34) (0.22) (0.28) 
Loan spread1.04 %0.90 %0.99 %0.98 %
(a) Derivative settlements represent the cash paid or received during the current period to settle with derivative instrument
counterparties the economic effect of the Company's derivative instruments based on their contractual terms. Derivative accounting requires that net settlements with respect to derivatives that do not qualify for "hedge treatment" under GAAP be recorded in a separate income statement line item below net interest income. The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. As such, management believes derivative settlements for each applicable period should be evaluated with the Company’s net interest income (loan spread) as presented in this table. The Company reports this non-GAAP information because it believes that it provides additional information regarding operational and performance indicators that are closely assessed by management. There is no comprehensive, authoritative guidance for the presentation of such non-GAAP information, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance. See note 4 of the notes to consolidated financial statements included under Part I, Item 1 of this report for additional information on the Company's derivative instruments, including the net settlement activity recognized by the Company for each type of derivative for the periods presented in the table under the caption "Income Statement Impact" in note 4 and in this table.
(b) Derivative settlements include the net settlements received related to the Company’s 1:3 basis swaps.
(c) Derivative settlements include the net settlements received related to the Company’s floor income interest rate swaps.
(d) Core loan spread, excluding consumer loans, would have been 1.03% and 1.25% for the three months ended September 30, 2019 and 2018, respectively, and 1.12% and 1.25% for the nine months ended September 30, 2019 and 2018, respectively. Other than consumer loans funded in the Company's consumer loan warehouse facility that was
50


obtained on January 11, 2019, consumer loans were and continue to be funded by the Company using operating cash, until they can be funded in a secured financing transaction. Consumer loans funded with operating cash do not have a cost of funds (debt) associated with them. The average balance of consumer loans outstanding for the three months ended September 30, 2019 and 2018 and nine months ended September 30, 2019 and 2018 was $279.4 million, $91.0 million, $217.1 million, and $79.9 million, respectively. The average balance outstanding on the consumer loan warehouse facility for the three and nine months ended September 30, 2019 was $196.2 million and $138.3 million, respectively.
A trend analysis of the Company's core and variable loan spreads is summarized below.
nni-20190930_g2.jpg
(a) The interest earned on the majority of the Company's FFELP student loan assets is indexed to the one-month LIBOR rate. The Company funds a large portion of its assets with three-month LIBOR indexed floating rate securities. The relationship between the indices in which the Company earns interest on its loans and funds such loans has a significant impact on loan spread. This table (the right axis) shows the difference between the Company's liability base rate and the one-month LIBOR rate by quarter. See Item 3, “Quantitative and Qualitative Disclosures About Market Risk - Interest Rate Risk,” which provides additional detail on the Company’s FFELP student loan assets and related funding for those assets.
Variable loan spread increased during the three and nine months ended September 30, 2019 as compared to the same periods in 2018 due to the impact of the Company's consumer loan portfolio. Variable loan spread without consumer loans was 0.67% and 0.68% for the three months ended September 30, 2019 and 2018, respectively, and 0.69% and 0.70% the nine months ended September 30, 2019 and 2018, respectively.
The difference between variable loan spread and core loan spread is fixed rate floor income. A summary of fixed rate floor income and its contribution to core loan spread follows:
 Three months ended September 30,Nine months ended September 30,
2019201820192018
Fixed rate floor income, gross$12,685  13,659  33,950  45,359  
Derivative settlements (a)7,064  19,087  35,931  46,752  
Fixed rate floor income, net$19,749  32,746  69,881  92,111  
Fixed rate floor income contribution to spread, net0.36 %0.57 %0.43 %0.55 %
(a) Includes settlement payments on derivatives used to hedge student loans earning fixed rate floor income.
The decrease in gross fixed rate floor income for the three and nine months ended September 30, 2019 compared to the same periods in 2018 was due to higher interest rates in 2019 as compared to 2018. The Company has a portfolio of derivative instruments in which the Company pays a fixed rate and receives a floating rate to economically hedge loans earning fixed rate floor income. See Item 3, “Quantitative and Qualitative Disclosures About Market Risk - Interest Rate Risk,” which provides additional detail on the Company’s portfolio earning fixed rate floor income and the derivatives used by the Company to hedge these loans.

51


Summary and Comparison of Operating Results
 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Net interest income after provision for loan losses
$51,740  48,665  153,069  164,152  See table below for additional analysis.
Other income3,384  3,267  11,796  9,391  The Company sold a portfolio of consumer loans during the second quarter of 2019 and recognized a gain of $1.7 million. The remaining component of other income is primarily earned from borrower late fees.
Derivative settlements, net
7,298  22,448  39,306  51,428  The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. Derivative settlements for each applicable period should be evaluated with the Company's net interest income as reflected in the table below.
Derivative market value adjustments, net
(5,630) (6,056) (73,265) 47,070  Includes the realized and unrealized gains and losses that are caused by changes in fair values of derivatives which do not qualify for "hedge treatment" under GAAP. The majority of the derivative market value adjustments related to the changes in fair value of the Company's floor income interest rate swaps. Such changes reflect that a decrease in the forward yield curve during a reporting period results in a decrease in the fair value of the Company's floor income interest rate swaps, and an increase in the forward yield curve during a reporting period results in an increase in the fair value of the Company's floor income interest rate swaps.
Total other income5,052  19,659  (22,163) 107,889  
Salaries and benefits394  424  1,153  1,183  
Loan servicing fees to third parties3,382  3,087  9,431  9,428  Represents fees paid to third-party loan servicers. Servicing fees paid to the LSS operating segment are included in "intersegment expenses" below.
Other expenses15,672  845  19,667  2,982  
The Company recognized $14.0 million of expenses during the three months ended September 30, 2019 and $15.8 million of expenses during the nine months ended September 30, 2019 to extinguish asset-backed notes from certain securitizations prior to their contractual maturities.
Intersegment expenses11,678  12,378  35,630  34,943  Amounts include fees paid to the LSS operating segment for the servicing of the Company’s loan portfolio. These amounts exceed the actual cost of servicing the loans. Intersegment expenses also include costs for certain corporate activities and services that are allocated to each operating segment based on estimated use of such activities and services.
Total operating expenses31,126  16,734  65,881  48,536  
Excluding the expenses recognized by the Company related to the extinguishment of debt securities prior to their contractual maturities (as described above), total operating expenses were 32 basis points and 29 basis points of the average balance of loans for the three months ended September 30, 2019 and 2018, respectively, and 30 basis points and 29 basis points for the nine months ended September 30, 2019 and 2018, respectively.
Income before income taxes
25,666  51,590  65,025  223,505  


Income tax expense(6,160) (12,381) (15,606) (53,641) Represents income tax expense at an effective tax rate of 24%.
Net income$19,506  39,209  49,419  169,864  
Additional information:
Net income$19,506  39,209  49,419  169,864  
Derivative market value adjustments, net
5,630  6,056  73,265  (47,070) 
See "Overview - GAAP Net Income and Non-GAAP Net Income, Excluding Adjustments" above for additional information about non-GAAP net income, excluding derivative market value adjustments. The decrease in net income, excluding derivative market value adjustments, for the three and nine months ended September 30, 2019 as compared to the same periods in 2018 was due to debt extinguishment costs incurred in 2019, a decrease in the average balance of loans outstanding, a decrease in core loan spread, and an increase in provision for loan losses for consumer loans as a result of the increased amount of consumer loan purchases in 2019 as compared to 2018.
Tax effect(1,351) (1,453) (17,584) 11,297  
Net income, excluding derivative market value adjustments
$23,785  43,812  105,100  134,091  



52


Net interest income after provision for loan losses, net of settlements on derivatives
The following table summarizes the components of "net interest income after provision for loan losses" and "derivative settlements, net."
 Three months ended September 30,Nine months ended September 30,Additional information
 2019201820192018
Variable interest income, gross
$260,089  264,675  809,097  742,938  Decrease for the three months ended September 30, 2019 as compared to the same period in 2018 was due to a decrease in the average balance of loans, partially offset by an increase in the gross yield earned on loans. Increase for the nine months ended September 30, 2019 as compared to the same period in 2018 was due to an increase in the gross yield earned on loans, partially offset by a decrease in the average balance of loans.
Consolidation rebate fees(44,717) (47,868) (136,855) (143,091) Decrease was due to a decrease in the average consolidation loan balance.
Discount accretion, net of premium and deferred origination costs amortization
1,006  1,855  3,426  8,207  
Net discount accretion is due to the Company's purchases of loans at a net discount over the last several years. However, due to more recent purchases in 2018 and 2019 at a net premium, the net discount accretion has decreased in 2019 as compared to 2018.
Variable interest income, net216,378  218,662  675,668  608,054  
Interest on bonds and notes payable
(170,327) (176,207) (541,356) (478,298) Decrease for the three months ended September 30, 2019 as compared to the same period in 2018 was due to a decrease in the average balance of debt outstanding, partially offset by an increase in cost of funds. Increase for the nine months ended September 30, 2019 as compared to the same period in 2018 was due to an increase in cost of funds, partially offset by a decrease in the average balance of debt outstanding.
Derivative settlements, net (a)234  3,361  3,375  4,676  Derivative settlements include the net settlements received related to the Company’s 1:3 basis swaps.
Variable loan interest margin, net of settlements on derivatives (a)
46,285  45,816  137,687  134,432  
Fixed rate floor income, gross
12,685  13,659  33,950  45,359  
Fixed rate floor income decreased due to higher interest rates in 2019 as compared to 2018.
Derivative settlements, net (a)
7,064  19,087  35,931  46,752  
Derivative settlements include the settlements received related to the Company's floor income interest rate swaps. The decrease in settlements for the three and nine months ended September 30, 2019 as compared to the same periods in 2018 was due to a decrease in the notional amount of derivatives outstanding, partially offset by higher interest rates in 2019 as compared to 2018.
Fixed rate floor income, net of settlements on derivatives (a)
19,749  32,746  69,881  92,111  
Core loan interest income (a)
66,034  78,562  207,568  226,543  
Investment interest4,162  3,719  13,770  9,467  
Increase was due to a higher balance of interest-earning investments and higher interest rates in 2019 as compared to 2018.
Intercompany interest(1,158) (668) (2,963) (2,430) 
Provision for loan losses - federally insured loans
(2,000) (8,000) (6,000) (12,000) See "Allowance for Loan Losses and Loan Delinquencies" included above under "Asset Generation and Management Operating Segment - Results of Operations."
Provision for loan losses - consumer loans
(8,000) (2,500) (20,000) (6,000) 
Net interest income after provision for loan losses (net of settlements on derivatives) (a)
$59,038  71,113  192,375  215,580  

(a) Derivative settlements represent the cash paid or received during the current period to settle with derivative instrument counterparties the economic effect of the Company's derivative instruments based on their contractual terms. Derivative accounting requires that net settlements on derivatives that do not qualify for "hedge treatment" under GAAP be recorded in a separate income statement line item below net interest income. The Company maintains an overall risk management strategy that incorporates the use of derivative instruments to reduce the economic effect of interest rate volatility. As such, management believes derivative settlements for each applicable period should be evaluated with the Company’s net interest income as presented in this table. Core loan interest income and net interest
53


income after provision for loan losses (net of settlements on derivatives) are non-GAAP financial measures, and the Company reports this non-GAAP information because the Company believes that it provides additional information regarding operational and performance indicators that are closely assessed by management. There is no comprehensive, authoritative guidance for the presentation of such non-GAAP information, which is only meant to supplement GAAP results by providing additional information that management utilizes to assess performance. See note 4 of the notes to consolidated financial statements included under Part I, Item 1 of this report for additional information on the Company's derivative instruments, including the net settlement activity recognized by the Company for each type of derivative referred to in the "Additional information" column of this table, for the periods presented in the table under the caption "Income Statement Impact" in note 4 and in this table.

LIBOR Benchmark Transition
As of September 30, 2019, the interest earned on a principal amount of $19.2 billion in the Company’s FFELP student loan asset portfolio was indexed to one-month LIBOR, and the interest paid on a principal amount of $19.0 billion of the Company’s FFELP student loan asset-backed debt securities was indexed to one-month or three-month LIBOR. In addition, the majority of the Company’s derivative financial instrument transactions used to manage LIBOR interest rate risks are indexed to LIBOR. The United Kingdom’s Financial Conduct Authority, which regulates LIBOR, has publicly announced that it intends to stop persuading or compelling banks to submit information to the administrator of LIBOR after 2021. Accordingly, there is significant uncertainty regarding the availability of LIBOR as a benchmark rate after 2021, and any market transition away from the current LIBOR framework could result in significant changes to the interest rate characteristics of the Company's LIBOR-indexed assets and funding for those assets, as well as the Company’s LIBOR-indexed derivative instruments.
Although the indentures for student loan asset-backed debt securities issued in the Company’s most recent LIBOR-indexed securitization transactions include new interest rate determination fallback provisions emerging in the market for new issuances of LIBOR-indexed debt securities, many of the contracts for the Company’s existing LIBOR-indexed assets, liabilities, and derivative instruments from historical transactions do not include provisions that contemplated the possibility of a permanent discontinuation of LIBOR and clearly specified a method for transitioning from LIBOR to an alternative benchmark rate, and it is not yet known how the market in general, specific counterparties in particular, the courts, or regulators will address the significant complexities and uncertainties involved in a transition away from LIBOR to an alternative benchmark rate. Specifically, the Department has not yet indicated any market transition away from the current LIBOR framework for paying special allowance payments to holders of FFELP assets. As a result, the Company cannot predict the impact that a transition from LIBOR to an alternative benchmark rate would have on the Company’s existing LIBOR-indexed assets, liabilities, and derivative instruments, but such impact could have material adverse effects on the value, performance, and related cash flows of such LIBOR-indexed items, including the Company’s funding costs, net interest income, loan and other asset values, and asset-liability management strategies. See Item 1A, "Risk Factors - Loan Portfolio - Interest rate risk - replacement of LIBOR as a benchmark rate" in the Company's 2018 Annual Report.
54


LIQUIDITY AND CAPITAL RESOURCES
The Company’s Loan Servicing and Systems and Education Technology, Services, and Payment Processing operating segments are non-capital intensive and both produce positive operating cash flows. As such, a minimal amount of debt and equity capital is allocated to these segments and any liquidity or capital needs are satisfied using cash flow from operations. Therefore, the following Liquidity and Capital Resources discussion is concentrated on the Company’s liquidity and capital needs to meet existing debt obligations in the Asset Generation and Management operating segment and capital needs to expand ALLO's communications network in the Communications operating segment.
Sources of Liquidity
As of September 30, 2019, the Company had cash and cash equivalents of $161.0 million. The Company also had a portfolio of available-for-sale investments, consisting primarily of student loan asset-backed securities, with a fair value of $52.6 million as of September 30, 2019.
The Company also has a $382.5 million unsecured line of credit that matures on June 22, 2023. As of September 30, 2019, no amounts were outstanding on the unsecured line of credit and $382.5 million was available for future use. The line of credit provides that the Company may increase the aggregate financing commitments, through the existing lenders and/or through new lenders, up to a total of $400.0 million, subject to certain conditions. In addition, on May 30, 2019, the Company entered into a $22.0 million secured line of credit agreement that matures on May 30, 2022. As of September 30, 2019, the secured line of credit had $5.0 million outstanding with $17.0 million available for future use.
The Company has repurchased certain of its own asset-backed securities (bonds and notes payable) in the secondary market. For accounting purposes, these notes are eliminated in consolidation and are not included in the Company's consolidated financial statements. However, these securities remain legally outstanding at the trust level and the Company could sell these notes to third parties or redeem the notes at par as cash is generated by the trust estate. Upon a sale of these notes to third parties, the Company would obtain cash proceeds equal to the market value of the notes on the date of such sale. As of September 30, 2019, the Company holds $15.0 million (par value) of its own asset-backed securities.
The Company intends to use its liquidity position to capitalize on market opportunities, including FFELP, private education, and consumer loan acquisitions; strategic acquisitions and investments; expansion of ALLO's telecommunications network; and capital management initiatives, including stock repurchases, debt repurchases, and dividend distributions. The timing and size of these opportunities will vary and will have a direct impact on the Company's cash and investment balances.
Cash Flows
During the nine months ended September 30, 2019, the Company generated $142.9 million in operating activities, compared to $193.6 million for the same period in 2018. The decrease in cash flows from operating activities was due to:
The decrease in net income;
Adjustments to net income for the impact of deferred taxes;
Net payments to the derivative clearinghouse in 2019 of $60.0 million compared to net proceeds received in 2018 of $46.4 million related to the Company's derivative portfolio; and
The impact of changes to other assets, accrued interest payable, and due to customers during the nine months ended September 30, 2019 as compared to the same period in 2018.
These factors were partially offset by:
The adjustments to net income for derivative market value adjustments; and
The impact of changes to accrued interest receivable and other liabilities during the nine months ended September 30, 2019 as compared to the same period in 2018.
The primary items included in the statement of cash flows for investing activities are the purchase and repayment of loans. The primary items included in financing activities are the proceeds from the issuance of and payments on bonds and notes payable used to fund loans. Cash provided by investing activities and used in financing activities for the nine months ended September 30, 2019 was $1.2 billion and $1.4 billion, respectively. Cash used in investing activities and provided by financing activities for the nine months ended September 30, 2018 was $0.9 billion and $0.8 billion, respectively. Investing and financing activities are further addressed in the discussion that follows.

55


Liquidity Needs and Sources of Liquidity Available to Satisfy Debt Obligations Secured by Loan Assets and Related Collateral
The following table shows the Company's debt obligations outstanding that are secured by loan assets and related collateral. 
 As of September 30, 2019
Carrying amount
Final maturity
Bonds and notes issued in asset-backed securitizations$20,245,342  11/25/24 - 10/25/67
FFELP and consumer loan warehouse facilities883,470  11/20/20 - 5/31/22
 $21,128,812   
Bonds and Notes Issued in Asset-backed Securitizations
The majority of the Company’s portfolio of student loans is funded in asset-backed securitizations that are structured to substantially match the maturity of the funded assets, thereby minimizing liquidity risk. Cash generated from student loans funded in asset-backed securitizations provide the sources of liquidity to satisfy all obligations related to the outstanding bonds and notes issued in such securitizations. In addition, due to (i) the difference between the yield the Company receives on the loans and cost of financing within these transactions, and (ii) the servicing and administration fees the Company earns from these transactions, the Company has created a portfolio that will generate earnings and significant cash flow over the life of these transactions.
As of September 30, 2019, based on cash flow models developed to reflect management’s current estimate of, among other factors, prepayments, defaults, deferment, forbearance, and interest rates, the Company currently expects future undiscounted cash flows from its portfolio to be approximately $1.88 billion as detailed below.
The forecasted cash flow presented below includes all loans funded in asset-backed securitizations as of September 30, 2019. As of September 30, 2019, the Company had $20.1 billion of loans included in asset-backed securitizations, which represented 94.9 percent of its total loan portfolio. The forecasted cash flow does not include cash flows that the Company expects to receive related to loans funded in its warehouse facilities as of September 30, 2019, private education and consumer loans funded with operating cash, and loans acquired subsequent to September 30, 2019.

56


Asset-backed Securitization Cash Flow Forecast
$1.88 billion
(dollars in millions)
nni-20190930_g3.jpg
The forecasted future undiscounted cash flows of approximately $1.88 billion include approximately $1.01 billion (as of September 30, 2019) of overcollateralization included in the asset-backed securitizations. These excess net asset positions are reflected variously in the following balances in the consolidated balance sheet: "loans receivable," "restricted cash," and "accrued interest receivable." The difference between the total estimated future undiscounted cash flows and the overcollateralization of approximately $0.87 billion, or approximately $0.66 billion after income taxes based on the estimated effective tax rate, is expected to be accretive to the Company's September 30, 2019 balance of consolidated shareholders' equity.
Certain of the Company’s asset-backed securitizations are structured as “Turbo Transactions” which require all cash generated from the student loans (including excess spread) to be directed toward payment of interest and any outstanding principal generally until such time as all principal on the notes has been paid in full.  Once the notes in such transactions are paid in full, the remaining unencumbered student loans (and other remaining assets, if any) in the securitization will be released to the Company, at which time the Company will have the option to refinance or sell these assets, or retain them on the balance sheet as unencumbered assets.
The Company uses various assumptions, including prepayments and future interest rates, when preparing its cash flow forecast.  These assumptions are further discussed below.
Prepayments:  The primary variable in establishing a life of loan estimate is the level and timing of prepayments. Prepayment rates equal the amount of loans that prepay annually as a percentage of the beginning of period balance, net of scheduled principal payments. A number of factors can affect estimated prepayment rates, including the level of consolidation activity, borrower default rates, and utilization of debt management options such as income-based repayment, deferments, and forbearance. Should any of these factors change, management may revise its assumptions, which in turn would impact the projected future cash flow. The Company’s cash flow forecast above assumes prepayment rates that are generally consistent with those utilized in the Company’s recent asset-backed securitization transactions. If management used a prepayment rate assumption two times greater than what was used to forecast the cash flow, the cash flow forecast would be reduced by approximately $130 million to $160 million.
Interest rates:  The Company funds a large portion of its student loans with three-month LIBOR indexed floating rate securities. Meanwhile, the interest earned on the Company’s student loan assets is indexed primarily to a one-month LIBOR rate. The different interest rate characteristics of the Company’s loan assets and liabilities funding these assets result in basis risk. The Company’s cash flow forecast assumes three-month LIBOR will exceed one-month LIBOR by 12 basis points for the life of the portfolio, which approximates the historical relationship between these indices. If the forecast is computed assuming
57


a spread of 24 basis points between three-month and one-month LIBOR for the life of the portfolio, the cash flow forecast would be reduced by approximately $70 million to $90 million. As the percentage of the Company's outstanding debt financed by three-month LIBOR declines, the Company's basis risk will be reduced.
There is significant uncertainty regarding the availability of LIBOR as a benchmark rate after 2021, and any market transition away from the current LIBOR framework could result in significant changes to the forecasted cash flows from the Company's asset-backed securitizations. See "Asset Generation and Management Operating Segment - Results of Operations - LIBOR Benchmark Transition" above and Item 1A, "Risk Factors - Loan Portfolio - Interest rate risk - replacement of LIBOR as a benchmark rate" in the Company's 2018 Annual Report.
The Company uses the current forward interest rate yield curve to forecast cash flows. A change in the forward interest rate curve would impact the future cash flows generated from the portfolio. An increase in future interest rates will reduce the amount of fixed rate floor income the Company is currently receiving. The Company attempts to mitigate the impact of a rise in short-term rates by hedging interest rate risks. The forecasted cash flow does not include cash flows the Company expects to pay/receive related to derivative instruments used by the Company to manage interest rate risk. See Item 3, "Quantitative and Qualitative Disclosures About Market Risk — Interest Rate Risk."
Extinguishment of Certain Turbo Transactions
On June 7, 2019, the Company paid a premium of $1.4 million to extinguish $93.0 million of notes payable in one of its Turbo Transactions (prior to the notes' contractual maturity). This transaction resulted in the release of $152.7 million of student loans and accrued interest receivable that were previously encumbered in the asset-backed securitization. The Company refinanced the student loans in its FFELP warehouse facilities, resulting in net cash proceeds of $57.5 million. The Company also wrote off $0.4 million of the remaining debt issuance costs associated with this securitization. In total, the Company recognized a $1.8 million expense in the second quarter of 2019 to extinguish these notes.
During the third quarter of 2019, the Company extinguished an additional $675.6 million of notes payable in certain asset-backed securitizations, including five of its remaining six Turbo Transactions, prior to the notes' contractual maturities. These transactions resulted in the release of $996.4 million in student loans and accrued interest receivable that were previously encumbered in the asset-backed securitizations. To extinguish the notes, the Company paid a premium of $12.6 million and wrote off $1.4 million of debt issuance costs associated with these securitizations. In total, the Company recognized $14.0 million in expenses in the third quarter of 2019 to extinguish these notes. Upon extinguishment of the notes payable throughout the third quarter, the Company refinanced the student loans in its FFELP warehouse facilities and new asset-backed securitizations, resulting in net cash proceeds of $311.5 million. The Company used a portion of these proceeds to pay down the outstanding balance on its unsecured line of credit.
The cash proceeds generated by the debt extinguishments provide the Company with increased liquidity and the opportunity to invest the previously underutilized capital at higher returns.
FFELP and Consumer Loan Warehouse Facilities
The Company funds a portion of its FFELP loan acquisitions using its FFELP warehouse facilities. Student loan warehousing allows the Company to buy and manage student loans prior to transferring them into more permanent financing arrangements. As of September 30, 2019, the Company had two FFELP warehouse facilities with an aggregate maximum financing amount available of $1.00 billion, of which $0.74 billion was outstanding, and $0.26 billion was available for additional funding. One warehouse facility has a static advance rate until the expiration date of the liquidity provisions (November 20, 2019). In the event the liquidity provisions are not extended, the valuation agent has the right to perform a one-time mark to market on the underlying loans funded in this facility, subject to a floor. The loans would then be funded at this new advance rate until the final maturity date of the facility (November 20, 2020). The other warehouse facility has static advance rates that requires initial equity for loan funding and does not require increased equity based on market movements. As of September 30, 2019, the Company had $48.1 million advanced as equity support on these facilities. For further discussion of the Company's FFELP warehouse facilities outstanding at September 30, 2019, see note 3 of the notes to consolidated financial statements included under Part I, Item 1 of this report.
On January 11, 2019, the Company obtained a consumer loan warehouse facility with an aggregate maximum financing amount available of $100.0 million, an advance rate of 70 or 75 percent depending on the type of collateral and subject to certain concentration limits, and a maturity date of January 10, 2022. On April 25, 2019, the Company amended the agreement for this warehouse facility to increase the aggregate maximum financing amount available to $200.0 million, extend the expiration of liquidity provisions to April 23, 2021, and extend the final maturity date to April 23, 2022. As of September 30, 2019, $144.0 million was outstanding under this facility and $56.0 million was available for future funding. Additionally, as of September 30, 2019, the Company had $50.2 million advanced as equity support under this facility.
58


On October 17, 2019, the Company sold $179.3 million (par value) of consumer loans to an unrelated third party of which a portion of such loans were funded in the consumer loan warehouse. After completion of this loan sale, the outstanding balance under the consumer loan warehouse was $69.9 million, $130.1 million was available for future funding, and $18.6 million was advanced as equity support. For further discussion of this loan sale, see note 2 of the notes to consolidated financial statements included under Part I, Item 1 of this report.
Upon termination or expiration of the FFELP and consumer loan warehouse facilities, the Company would expect to access the securitization market, obtain replacement warehouse facilities, use operating cash, consider the sale of assets, or transfer collateral to satisfy any remaining obligations.
Other Uses of Liquidity
The Company no longer originates new FFELP loans, but continues to acquire FFELP loan portfolios from third parties and believes additional loan purchase opportunities exist, including opportunities to purchase private education and consumer loans.
The Company plans to fund additional loan acquisitions using current cash and investments; using its Union Bank participation agreement (as described below); using its FFELP and consumer loan warehouse facilities (as described above); increasing the capacity under existing and/or establishing new warehouse facilities; and continuing to access the asset-backed securities market.
Union Bank Participation Agreement
The Company maintains an agreement with Union Bank, a related party, as trustee for various grantor trusts, under which Union Bank has agreed to purchase from the Company participation interests in student loans. As of September 30, 2019, $708.7 million of loans were subject to outstanding participation interests held by Union Bank, as trustee, under this agreement. The agreement automatically renews annually and is terminable by either party upon five business days' notice. This agreement provides beneficiaries of Union Bank’s grantor trusts with access to investments in interests in student loans, while providing liquidity to the Company. The Company can participate loans to Union Bank to the extent of availability under the grantor trusts, previously up to $750.0 million or an amount in excess of $750.0 million if mutually agreed to by both parties. In August 2019, this agreement was amended to increase the maximum participation level to $900.0 million or an amount in excess of $900.0 million if mutually agreed to by both parties. Loans participated under this agreement have been accounted for by the Company as loan sales. Accordingly, the participation interests sold are not included on the Company’s consolidated balance sheets.
Asset-Backed Securities Transactions
During the first nine months of 2019, the Company completed five FFELP asset-backed securitizations totaling $2.2 billion (par value). In addition, on October 30, 2019, the Company completed an asset-backed securitization totaling $145.2 million (par value). The proceeds from these transactions were used primarily to refinance student loans included in the Company's FFELP warehouse facilities and unencumbered student loans from the extinguishment of certain asset-backed securitizations. On June 25, 2019, the Company completed a private education loan asset-backed securitization totaling $47.2 million (par value). The proceeds from this transaction were used to refinance private education loans previously funded via a private loan repurchase agreement that was terminated on June 25, 2019. See note 3 of the notes to consolidated financial statements included under Part I, Item I of this report for additional information on these securitizations.
Depending on future market conditions, the Company currently anticipates continuing to access the asset-backed securitization market. Such asset-backed securitization transactions would be used to refinance loans included in its warehouse facilities, loans purchased from third parties, and/or student loans in its existing asset-backed securitizations.
Liquidity Impact Related to Hedging Activities
The Company utilizes derivative instruments to manage interest rate sensitivity. By using derivative instruments, the Company is exposed to market risk which could impact its liquidity. Based on the derivative portfolio outstanding as of September 30, 2019, the Company does not currently anticipate any movement in interest rates having a material impact on its capital or liquidity profile, nor does the Company expect that any movement in interest rates would have a material impact on its ability to meet potential collateral deposits with its counterparties and/or variation margin payments with its third-party clearinghouse. However, if interest rates move materially and negatively impact the fair value of the Company's derivative portfolio or if the Company enters into additional derivatives for which the fair value becomes negative, the Company could be required to deposit additional collateral with its derivative instrument counterparties and/or pay variation margin to a third-party clearinghouse. The collateral deposits or variation margin, if significant, could negatively impact the Company's liquidity and capital resources. In addition, clearing rules require the Company to post amounts of liquid collateral when executing new
59


derivative instruments, which could prevent or limit the Company from utilizing additional derivative instruments to manage interest rate sensitivity and risks. See note 4 of the notes to consolidated financial statements included under Part I, Item 1 of this report for additional information on the Company's derivative portfolio.
Liquidity Impact Related to the Communications Operating Segment
ALLO has made significant investments in its communications network and currently provides fiber directly to homes and businesses in communities in Nebraska and Colorado. ALLO plans to continue to increase market share and revenue in its existing markets and is currently evaluating opportunities to expand to other communities in the Midwest. ALLO began providing services in Lincoln, Nebraska in September 2016 as part of a multi-year project to pass substantially all commercial and residential properties in the community. As of the end of the first quarter of 2019, the build-out of the Lincoln community was substantially complete. For the nine months ended September 30, 2019, ALLO's capital expenditures were $37.2 million. The Company anticipates total ALLO network capital expenditures in the fourth quarter of 2019 will be approximately $13.0 million. However, this amount could change based on customer demand for ALLO's services. The Company currently plans to use cash from operating activities and its third-party unsecured line of credit to fund ALLO's capital expenditures, as well as potentially other third-party financing alternatives.
Other Debt Facilities
As discussed above, the Company has a $382.5 million unsecured line of credit with a maturity date of June 22, 2023. As of September 30, 2019, no amounts were outstanding on the line of credit and $382.5 million was available for future use. On May 30, 2019, the Company entered into a $22.0 million secured line of credit agreement with a maturity date of May 30, 2022. As of September 30, 2019, the secured line of credit had $5.0 million outstanding with $17.0 million available for future use. The line of credit is secured by several Company-owned properties. Upon the maturity date of these facilities in 2022 and 2023, there can be no assurance that the Company will be able to maintain these lines of credit, increase the amount outstanding under the lines, or find alternative funding if necessary.
The Company has issued Junior Subordinated Hybrid Securities (the "Hybrid Securities") that have a final maturity of September 15, 2061. The Hybrid Securities are unsecured obligations of the Company. As of September 30, 2019, the Company had $20.4 million of Hybrid Securities that remain outstanding.
During 2017, the Company entered into a repurchase agreement, the proceeds of which are collateralized by FFELP asset-backed security investments. As of September 30, 2019, $40.5 million was subject to the outstanding repurchase agreement. On October 11, 2019, the Company fully paid down the outstanding balance on this repurchase agreement.
For further discussion of these debt facilities described above, see note 3 of the notes to consolidated financial statements included under Part I, Item 1 of this report.
Stock Repurchases
On May 8, 2019, the Board of Directors authorized a new stock repurchase program to repurchase up to a total of five million shares of the Company's Class A common stock during the three-year period ending May 7, 2022. The five million shares authorized under the new program include the remaining unrepurchased shares from the prior program, which the new program replaces. As of September 30, 2019, 4,803,877 shares remained authorized for repurchase under the Company's stock repurchase program. Shares may be repurchased from time to time depending on various factors, including share prices and other potential uses of liquidity. Shares repurchased by the Company during the three months ended March 31, 2019, June 30, 2019, and September 30, 2019 are shown below. Certain of these repurchases were made pursuant to a trading plan adopted by the Company in accordance with Rule 10b5-1 under the Securities Exchange Act of 1934. For additional information on stock repurchases during the third quarter of 2019, see "Stock Repurchases" under Part II, Item 2 of this report.
Total shares repurchasedPurchase price
(in thousands)
Average price of shares repurchased (per share)
Quarter ended March 31, 2019301,327  $16,358  54.29  
Quarter ended June 30, 2019419,140  23,683  56.50  
Quarter ended September 30, 20193,365  221  65.81  
  Total723,832  $40,262  55.62  
Included in the shares repurchased during the quarter ended June 30, 2019 in the table above are a total of 180,000 shares of Class A common stock the Company purchased on June 17, 2019 from one of the Company's significant shareholders, Shelby J. Butterfield, the widow of Stephen F. Butterfield, the Company's former Vice-Chairman and significant shareholder who
60


passed away in April 2018, and from the Butterfield Family Trust, an estate planning trust for the family of Mr. Butterfield. The shares were purchased at a discount to the closing market price of the Company's Class A common stock as of June 17, 2019, and the transaction was separately approved by the Company's Board of Directors. Immediately prior to the Company's repurchase of such shares from Ms. Butterfield and the Butterfield Family Trust, the repurchased shares were shares of the Company's Class B common stock that Ms. Butterfield and the Butterfield Family Trust converted to shares of Class A common stock.
Dividends
On September 13, 2019, the Company paid a third quarter 2019 cash dividend on the Company's Class A and Class B common stock of $0.18 per share. In addition, the Company's Board of Directors has declared a fourth quarter 2019 cash dividend on the Company's outstanding shares of Class A and Class B common stock of $0.20 per share. The fourth quarter cash dividend will be paid on December 13, 2019 to shareholders of record at the close of business on November 29, 2019.
The Company currently plans to continue making regular quarterly dividend payments, subject to future earnings, capital requirements, financial condition, and other factors. In addition, the payment of dividends is subject to the terms of the Company’s outstanding Hybrid Securities, which generally provide that if the Company defers interest payments on those securities it cannot pay dividends on its capital stock.
RECENT ACCOUNTING PRONOUNCEMENTS
Allowance for Loan Losses
In June 2016, the FASB issued accounting guidance regarding the measurement of credit losses on financial instruments, which will change the way entities recognize impairment of many financial assets by requiring immediate recognition of estimated credit losses expected to occur over the asset's remaining life. The estimate of credit losses under the new guidance considers historical experience, current conditions, and reasonable and supportable forecasts of future conditions. The new guidance provides significant flexibility and permits companies to use judgment in selecting the approach that is most appropriate in their circumstances. The Company currently uses an incurred loss model when calculating its allowance for loan losses. As a result, the Company expects the new guidance will increase the allowance for loan losses. This guidance will be effective for the Company beginning January 1, 2020. Upon adoption, a cumulative effect adjustment to retained earnings will be recorded.
The new guidance will primarily impact the allowance for loan losses related to the Company’s federally insured student loans, which represented approximately 97.6 percent of the Company’s total loan portfolio as of September 30, 2019 and for which the Company’s loss exposure is limited by the applicable federal government guarantee, private education loans, and consumer loans. Implementation efforts are underway including researching key interpretive issues, evaluating accounting policies, developing and validating loss models, and revising internal controls to meet the requirements of the new guidance. This guidance represents a significant change from existing GAAP, and may result in significant changes to the Company's accounting for the allowance for loan losses. The Company is continuing to evaluate the impact this pronouncement will have on its ongoing financial reporting. The extent of the impact upon adoption will depend on the characteristics of the Company's loan portfolio, economic conditions and forecasts upon adoption, and other management judgments.

61


ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
(All dollars are in thousands, except share amounts, unless otherwise noted)
Interest Rate Risk
The Company’s primary market risk exposure arises from fluctuations in its borrowing and lending rates, the spread between which could impact the Company due to shifts in market interest rates.
The following table sets forth the Company’s loan assets and debt instruments by rate characteristics:
 As of September 30, 2019As of December 31, 2018
 DollarsPercentDollarsPercent
Fixed-rate loan assets$3,239,083  15.3 %$2,792,734  12.4 %
Variable-rate loan assets17,967,865  84.7  19,727,764  87.6  
Total$21,206,948  100.0 %$22,520,498  100.0 %
Fixed-rate debt instruments$427,868  2.0 %$88,128  0.4 %
Variable-rate debt instruments20,766,790  98.0  22,448,971  99.6  
Total$21,194,658  100.0 %$22,537,099  100.0 %
FFELP loans originated prior to April 1, 2006 generally earn interest at the higher of the borrower rate, which is fixed over a period of time, or a floating rate based on the special allowance payment ("SAP") formula set by the Department. The SAP rate is based on an applicable index plus a fixed spread that depends on loan type, origination date, and repayment status. The Company generally finances its student loan portfolio with variable rate debt. In low and/or declining interest rate environments, when the fixed borrower rate is higher than the SAP rate, the Company’s student loans earn at a fixed rate while the interest on the variable rate debt typically continues to reflect the low and/or declining interest rates. In these interest rate environments, the Company may earn additional spread income that it refers to as floor income.
Depending on the type of loan and when it was originated, the borrower rate is either fixed to term or is reset to an annual rate each July 1. As a result, for loans where the borrower rate is fixed to term, the Company may earn floor income for an extended period of time, which the Company refers to as fixed rate floor income, and for those loans where the borrower rate is reset annually on July 1, the Company may earn floor income to the next reset date, which the Company refers to as variable rate floor income. All FFELP loans first originated on or after April 1, 2006 effectively earn at the SAP rate, since lenders are required to rebate fixed rate floor income and variable rate floor income for those loans to the Department.
No variable rate floor income was earned by the Company during the nine months ended September 30, 2019 and 2018. A summary of fixed rate floor income earned by the Company follows.
Three months ended September 30,Nine months ended September 30,
2019201820192018
Fixed rate floor income, gross$12,685  13,659  33,950  45,359  
Derivative settlements (a)7,064  19,087  35,931  46,752  
Fixed rate floor income, net$19,749  32,746  69,881  92,111  
(a) Includes settlement payments on derivatives used to hedge student loans earning fixed rate floor income.
Gross fixed rate floor income decreased for the three and nine months ended September 30, 2019 as compared to the same periods in 2018 due to higher interest rates in 2019 as compared to 2018.
Absent the use of derivative instruments, a rise in interest rates will reduce the amount of floor income received and this has an impact on earnings due to interest margin compression caused by increasing financing costs, until such time as the federally insured loans earn interest at a variable rate in accordance with their SAP formulas. In higher interest rate environments, where the interest rate rises above the borrower rate and fixed rate loans effectively become variable rate loans, the impact of the rate fluctuations is reduced.
62


The decrease in derivative settlements from the floor income interest rate swaps for the three and nine months ended September 30, 2019 as compared to the same periods in 2018 was due to a decrease in the notional amount of derivatives outstanding, partially offset by higher interest rates in 2019 as compared to 2018.
The following graph depicts fixed rate floor income for a borrower with a fixed rate of 6.75% and a SAP rate of 2.64%:
nni-20190930_g4.jpg
The following table shows the Company’s federally insured student loan assets that were earning fixed rate floor income as of September 30, 2019.
Fixed interest rate rangeBorrower/lender weighted average yieldEstimated variable conversion rate (a)Loan balance
4.5 - 4.99%4.87 %2.23 %$223,809  
5.0 - 5.49%5.22 %2.58 %493,537  
5.5 - 5.99%5.67 %3.03 %328,048  
6.0 - 6.49%6.19 %3.55 %373,744  
6.5 - 6.99%6.70 %4.06 %367,782  
7.0 - 7.49%7.17 %4.53 %127,786  
7.5 - 7.99%7.71 %5.07 %226,558  
8.0 - 8.99%8.18 %5.54 %530,678  
> 9.0%9.05 %6.41 %200,884  
$2,872,826  
(a) The estimated variable conversion rate is the estimated short-term interest rate at which loans would convert to a variable rate. As of September 30, 2019, the weighted average estimated variable conversion rate was 4.02% and the short-term interest rate was 221 basis points.
63


The following table summarizes the outstanding derivative instruments as of September 30, 2019 used by the Company to economically hedge loans earning fixed rate floor income.
MaturityNotional amountWeighted average fixed rate paid by the Company (a)
2019$500,000  1.12 %
20201,500,000  1.01  
2021600,000  2.15  
2022 (b)250,000  1.65  
2023150,000  2.25  
$3,000,000  1.37 %
(a) For all interest rate derivatives, the Company receives discrete three-month LIBOR.
(b) These derivatives have forward effective start dates in June 2021.
The Company has also entered into interest rate cap contracts to mitigate a rise in interest rates and its impact on earnings related to its student loan portfolio earning a fixed rate. In the event that the one-month LIBOR or three-month LIBOR rate rises above the applicable strike rate, the Company would receive monthly payments related to the spread difference. The following table summarizes these derivative instruments as of September 30, 2019.
Notional Amount  Strike rateMaturity date
$125,000  2.50% (1-month LIBOR)July 15, 2020
150,000  4.99 (1-month LIBOR)July 15, 2020
500,000  2.25 (3-month LIBOR)September 25, 2020

64


The Company is also exposed to interest rate risk in the form of basis risk and repricing risk because the interest rate characteristics of the Company’s assets do not match the interest rate characteristics of the funding for those assets. The following table presents the Company’s FFELP student loan assets and related funding for those assets arranged by underlying indices as of September 30, 2019.
IndexFrequency of variable resetsAssetsFunding of student loan assets
1 month LIBOR (a)Daily$19,207,383  —  
3 month H15 financial commercial paperDaily871,804  —  
3 month Treasury billDaily616,650  —  
1 month LIBORMonthly—  10,910,687  
3 month LIBOR (a)Quarterly—  8,050,723  
Auction-rate (b)Varies—  773,726  
Asset-backed commercial paper (c)Varies—  739,448  
Fixed rate—  —  374,500  
Other (d)—  1,366,431  1,213,184  
  $22,062,268  22,062,268  
(a) The Company has certain basis swaps outstanding in which the Company receives three-month LIBOR and pays one-month LIBOR plus or minus a spread as defined in the agreements (the "1:3 Basis Swaps"). The Company entered into these derivative instruments to better match the interest rate characteristics on its student loan assets and the debt funding such assets. The following table summarizes the 1:3 Basis Swaps outstanding as of September 30, 2019.
MaturityNotional amount
2020$1,000,000  
2021250,000  
2022 (a)2,000,000  
2023750,000  
20241,750,000  
20261,150,000  
2027250,000  
$7,150,000  
(a) $750 million of the notional amount of these derivatives have forward effective start dates in May 2020.
The weighted average rate paid by the Company on the 1:3 Basis Swaps as of September 30, 2019 was one-month LIBOR plus 9.7 basis points.
(b) As of September 30, 2019, the Company was sponsor for $773.7 million of outstanding asset-backed securities that were set and provide for interest rates to be periodically reset via a "dutch auction" (“Auction Rate Securities”). Since the auction feature has essentially been inoperable for substantially all auction rate securities since 2008, the Auction Rate Securities generally pay interest to the holder at a maximum rate as defined by the indenture. While these rates will vary, they will generally be based on a spread to LIBOR or Treasury Securities, or the Net Loan Rate as defined in the financing documents.
(c) The interest rates on the Company's warehouse facilities are indexed to asset-backed commercial paper rates.
(d) Assets include accrued interest receivable and restricted cash. Funding represents overcollateralization (equity) and other liabilities included in FFELP asset-backed securitizations and warehouse facilities.
There is significant uncertainty regarding the availability of LIBOR as a benchmark rate after 2021, and any market transition away from the current LIBOR framework could result in significant changes to the interest rate characteristics of the Company's LIBOR-indexed assets and funding for those assets. See "Asset Generation and Management Operating Segment - Results of Operations - LIBOR Benchmark Transition" above and Item 1A, "Risk Factors - Loan Portfolio - Interest rate risk - replacement of LIBOR as a benchmark rate" in the Company's 2018 Annual Report.
65


Sensitivity Analysis
The following tables summarize the effect on the Company’s earnings, based upon a sensitivity analysis performed by the Company assuming hypothetical increases in interest rates of 100 basis points and 300 basis points while funding spreads remain constant. In addition, a sensitivity analysis was performed assuming the funding index increases 10 basis points and 30 basis points while holding the asset index constant, if the funding index is different than the asset index. The sensitivity analysis was performed on the Company’s variable rate assets (including loans earning fixed rate floor income) and liabilities. The analysis includes the effects of the Company’s derivative instruments in existence during these periods.
 Interest ratesAsset and funding index mismatches
Change from increase of 100 basis pointsChange from increase of 300 basis pointsIncrease of 10 basis pointsIncrease of 30 basis points
 
 DollarsPercentDollarsPercentDollarsPercentDollarsPercent
 Three months ended September 30, 2019
Effect on earnings:   
Decrease in pre-tax net income before impact of derivative settlements
$(6,119) (14.6)%$(12,330) (29.4)%$(2,343) (5.6)%$(7,029) (16.7)%
Impact of derivative settlements
6,932  16.5  20,795  49.6  1,613  3.8  4,839  11.5  
Increase (decrease) in net income before taxes
$813  1.9 %$8,465  20.2 %$(730) (1.8)%$(2,190) (5.2)%
Increase (decrease) in basic and diluted earnings per share
$0.02  $0.16  $(0.01) $(0.04) 
 Three months ended September 30, 2018
Effect on earnings:   
Decrease in pre-tax net income before impact of derivative settlements
$(5,285) (9.2)%$(10,007) (17.6)%$(2,948) (5.2)%$(8,843) (15.5)%
Impact of derivative settlements
15,134  26.5  45,403  79.6  1,966  3.5  5,897  10.3  
Increase (decrease) in net income before taxes
$9,849  17.3 %$35,396  62.0 %$(982) (1.7)%$(2,946) (5.2)%
Increase (decrease) in basic and diluted earnings per share
$0.18  $0.66  $(0.02) $(0.05) 
 Nine months ended September 30, 2019
Effect on earnings:   
Decrease in pre-tax net income before impact of derivative settlements
$(15,042) (11.9)%$(28,881) (22.9)%$(7,343) (5.8)%$(22,028) (17.5)%
Impact of derivative settlements
23,122  18.4  69,366  55.1  5,167  4.1  15,501  12.3  
Increase (decrease) in net income before taxes
$8,080  6.5 %$40,485  32.2 %$(2,176) (1.7)%$(6,527) (5.2)%
Increase (decrease) in basic and diluted earnings per share
$0.15  $0.77  $(0.04) $(0.12) 
 
Nine months ended September 30, 2018  
Effect on earnings:
                
Decrease in pre-tax net income before impact of derivative settlements
$(15,559) (5.8)%$(27,145) (10.1)%$(8,998) (3.3)%$(26,993) (10.0)%
Impact of derivative settlements
47,781  17.7  143,341  53.2  5,822  2.2  17,466  6.6  
Increase (decrease) in net income before taxes
$32,222  11.9 %$116,196  43.1 %$(3,176) (1.1)%$(9,527) (3.4)%
Increase (decrease) in basic and diluted earnings per share
$0.60  $2.16  $0.06  $0.17  
Financial Statement Impact – Derivatives
For a table summarizing the effect of derivative instruments in the consolidated statements of income, including the components of "derivative market value adjustments and derivative settlements, net" included in the consolidated statements of income, see note 4 of the notes to consolidated financial statements included under Part I, Item 1 of this report.
66


ITEM 4.  CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
The Company’s management, with the participation of the Company's principal executive and principal financial officers, evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of September 30, 2019. Based on this evaluation, the Company’s principal executive and principal financial officers concluded that the Company's disclosure controls and procedures were effective as of September 30, 2019.
Changes in Internal Control over Financial Reporting
There were no changes in the Company’s internal control over financial reporting during the fiscal quarter ended September 30, 2019 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Effective January 1, 2019, the Company implemented ASC Topic 842, Leases. As a result, management made the following significant modifications to its internal control over financial reporting environment, including changes to accounting policies and procedures, operational processes, and documentation practices:
(a)  Updated policies and procedures related to accounting for lease assets and liabilities and related income and expense.
(b) Modified contract review controls to consider the new criteria for determining whether a contract is or contains a lease, specifically to clarify the definition of a lease and align with the concept of control.
(c) Added controls for reevaluating significant assumptions and judgments regarding leases on a quarterly basis.
(d) Added controls to address related required disclosures regarding leases, including significant assumptions and judgments used in applying ASC Topic 842.
PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS
There have been no material changes from the information set forth in the Legal Proceedings section of the Company's Annual Report on Form 10-K for the year ended December 31, 2018 under Item 3 of Part I of such Form 10-K.
ITEM 1A.  RISK FACTORS
There have been no material changes from the risk factors described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018 in response to Item 1A of Part I of such Form 10-K.
ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Stock Repurchases
The following table summarizes the repurchases of Class A common stock during the third quarter of 2019 by the Company or any “affiliated purchaser” of the Company, as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934.
PeriodTotal number of shares purchased (a)Average price paid per shareTotal number of shares purchased as part of publicly announced plans or programs (b)Maximum number of shares that may yet be purchased under the plans or programs (b)
July 1 - July 31, 2019843  $59.87  —  4,803,877  
August 1 - August 31, 2019—  —  —  4,803,877  
September 1 - September 30, 20192,522  67.79  —  4,803,877  
Total3,365  $65.81  —   
(a) The total number of shares includes shares owned and tendered by employees to satisfy tax withholding obligations upon the vesting of restricted shares. Shares of Class A common stock tendered by employees to satisfy tax withholding obligations included 843 shares, 0 shares, and 2,522 shares in July, August and September 2019, respectively. Unless otherwise indicated, shares owned and tendered by employees to satisfy tax withholding obligations were purchased at the closing price of the Company's shares on the date of vesting.
(b) On May 8, 2019, the Company announced that its Board of Directors authorized a new stock repurchase program to repurchase up to a total of five million shares of the Company's Class A common stock during the three-year period ending May 7, 2022.
67


Working capital and dividend restrictions/limitations
The Company's $382.5 million unsecured line of credit, which is available through June 22, 2023, imposes restrictions on the payment of dividends through covenants requiring a minimum consolidated net worth and a minimum level of unencumbered cash, cash equivalent investments, and available borrowing capacity under the line of credit. In addition, trust indentures and other financing agreements governing debt issued by the Company's education lending subsidiaries generally have limitations on the amounts of funds that can be transferred to the Company by its subsidiaries through cash dividends at certain times. Further, the payment of dividends by the Company is subject to the terms of the Company's outstanding junior subordinated hybrid securities, which generally provide that if the Company defers interest payments on those securities it cannot pay dividends on its capital stock. These provisions do not currently materially limit the Company's ability to pay dividends, and, based on the Company's current financial condition and recent results of operations, the Company does not currently anticipate that these provisions will materially limit the future payment of dividends.
ITEM 6.  EXHIBITS
10.1
10.2*
10.3*
31.1*
31.2*
32**
101.INS*Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
101.SCH*Inline XBRL Taxonomy Extension Schema Document
101.CAL*Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF*Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB*Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE*Inline XBRL Taxonomy Extension Presentation Linkbase Document
104*Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101).
*    Filed herewith
** Furnished herewith

68


SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. 
 NELNET, INC. 
    
Date:November 7, 2019By:/s/ JEFFREY R. NOORDHOEK 
 Name:Jeffrey R. Noordhoek 
 Title:
Chief Executive Officer
Principal Executive Officer
 
    

Date:November 7, 2019By:/s/ JAMES D. KRUGER 
Name:James D. Kruger 
 Title: 
Chief Financial Officer
Principal Financial Officer and Principal Accounting Officer
 


69