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Thursday, April 17, 2008

Sallie Mae - throwing themselves at the mercy of the government

Earlier in the week I wrote a post listing some of the recent events taking place in the student loan industry. The title of the post, "Student loan industry imploding?", gives a flavor of the point of view of the post.

Since then, we have heard that Bank of America (BAC) will stop making private student loans and Citigroup's Student Loan Corp. (STU) has announced they are discontinuing federal loan consolidations and will scale back lending to students at schools where profitability is lacking.

Finally, Sallie Mae (SLM) reported earnings and held a conference call today. The company lost $104 million in its first quarter but somehow expects to stay on track for its full year target.

Problems faced by the company include the fact that financial and credit market turmoil have impacted Sallie's ability to obtains funds and forced the company to mark down various securities and derivatives.

What is unprecedented is Sallie's contention that they are losing money on all the federally guaranteed loans they are making. Main reason: cost of capital bumping up against government mandated interest rate caps. As CEO Al Lord said on the conference call: "we are looking at 175 to 200 basis point decline in the margin of the student loan that does not have anywhere near 200 basis points to play with." The other quote showing up today: "we’ve been predicting something of a train wreck with the absence of credit and the explosion of demand for student credit."

As a result, Sallie is looking to the government for relief. Management has been testifying on Capital Hill and working with the Education Department, Treasury and the White house. CFO Jack Remondi indicates the company is willing to play chicken with the government: "Although we are waiting a potential resolution to this issue from Washington", he says, "I want to be perfectly clear we will not do business that jeopardizes the company’s liquidity position or franchise value." With the volume of loan applications soaring as other lenders pull back from the industry and Sallie's funding lagging the demand for loans, the company says it is constantly evaluating how long it can continue to originate student loans.

At this rate, something's got to give. Sallie Mae is the largest student lender in the US. With the student lending "peak season" of June, July and August rapidly approaching, the company and the industry needs to be stabilized.

Disclosure: author has no positions in any stocks mentioned in this post

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