Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549



FORM 10-Q



(MARK ONE)ý

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For The Quarterly Period Ended December 31, 2008ORo

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period
from                                to


Commission File Number 001-31825



The First Marblehead Corporation(Exact Name of Registrant as Specified in Its Charter)



Delaware(State or Other Jurisdiction of
Incorporation or Organization)

04-3295311(I.R.S. Employer
Identification No.)The Prudential Tower
800 Boylston Street, 34th Floor
Boston, Massachusetts(Address of Principal Executive Offices)

02199-8157(Zip Code)


Registrant's
telephone number, including area code:(617) 638-2000



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 ý    No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting
company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ý

Accelerated filer o

Non-accelerated filer o (Do not check if a smaller reporting company)

Smaller reporting company o


Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act). Yes o    No ý

As of February 6, 2009, the registrant had 99,121,546 shares of Common Stock, $0.01 par value per share, outstanding.



---





Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES        Table of Contents



Part I. Financial InformationItem 1



Financial StatementsCondensed Consolidated Balance Sheets as of December 31, 2008 and June 30,
 2008

1Condensed Consolidated Statements of Operations for the three months and six months ended
December 31, 2008 and 2007

2Condensed Consolidated Statement of Changes in Stockholders' Equity for the six months ended
December 31, 2008

3Condensed Consolidated Statements of Cash Flows for the six months ended December 31, 2008 and
2007

4Notes to Unaudited Condensed Consolidated Financial Statements

5Item 2



Management's Discussion and Analysis of Financial Condition and Results of Operations

33Item 3



Quantitative and Qualitative Disclosures about Market Risk

72Item 4



Controls and Procedures

73Part II. Other InformationItem 1



Legal Proceedings

74Item 1A



Risk Factors

74Item 2



Unregistered Sales of Equity Securities and Use of Proceeds

99Item 4



Submission of Matters to a Vote of Security Holders

100Item 5



Other Information

100Item 6



Exhibits

100SIGNATURES

101EXHIBIT INDEX

102


---





Table of Contents

Part I. Financial Information

Item 1Financial Statements



THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES        CONDENSED CONSOLIDATED BALANCE SHEETS        (unaudited)        (in thousands, except per share
amounts)

December 31,
2008

June 30,
2008ASSETSCash and cash equivalents

$
125,103

$
70,280Federal funds sold


23,420


80,215Investments


73,467


70,629Loans held for sale


460,987


497,324Service receivables:Structural advisory fees


64,935


113,842Residuals


144,017


293,255Processing fees from The Education Resources Institute (TERI)


67


4,086Total service receivables


209,019


411,183Property and equipment


87,976


92,273Less accumulated depreciation and amortization


(60,753
)

(54,592
)Property and equipment, net


27,223


37,681Goodwill





1,701Intangible assets, net


1,569


1,956Other prepaid expenses


9,153


15,377Mortgage loans held to maturity, net


9,831


10,754Prepaid income tax


6,772


Net deferred income tax asset


91,789


Other assets


5,409


3,798Total assets

$
1,043,742

$
1,200,898LIABILITIES AND STOCKHOLDERS' EQUITYLiabilities:Deposits

$
137,967

$
244,113Education loan warehouse facility


245,663


242,899Federal Reserve Bank discount window borrowing


50,000


Accounts payable and accrued expenses


20,085


20,543Income taxes payable





31,275Net deferred income tax liability





10,385Other liabilities


11,027


14,071Total liabilities


464,742


563,286Commitments and contingenciesStockholders' equity:Preferred stock, par value $0.01 per share; 19,739 and 19,940 shares authorized at December 31, 2008 and June 30, 2008, respectively; no shares
issued or outstanding





Series A non-voting convertible preferred stock, par value $0.01 per share; 60 shares authorized at December 31, 2008 and June 30, 2008; no
shares issued or outstanding





Series B non-voting convertible preferred stock, par value $0.01 per share; 201 shares authorized at December 31, 2008 and June 30, 2008; 133
shares issued and outstanding at December 31, 2008 and no shares issued and outstanding at June 30, 2008


1


Common stock, par value $0.01 per share; 250,000 shares authorized at December 31, 2008 and June 30, 2008; 106,764 and 106,456 shares issued at
December 31, 2008 and June 30, 2008, respectively; 99,121 and 98,886 shares outstanding at December 31, 2008 and June 30, 2008, respectively


1,068


1,065Additional paid-in capital


428,332


300,498Retained earnings


333,650


519,933Treasury stock, 7,643 and 7,570 shares held at December 31, 2008 and June 30, 2008, respectively, at cost


(184,246
)

(183,993
)Accumulated other comprehensive income


195


109Total stockholders' equity


579,000


637,612Total liabilities and stockholders' equity

$
1,043,742

$
1,200,898


See accompanying notes to unaudited condensed consolidated financial statements.

1

---





Table of Contents



THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES        CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS        (unaudited)        (in thousands, except
per share amounts)

Three months ended
December 31,

Six months ended
December 31,2008

2007

2008

2007Service revenues:Up-front structural advisory fees

$


$
524

$


$
178,066Additional structural advisory fees:From new securitizations











24,304Trust updates


(29,513
)

(10,775
)

(47,403
)

(7,916
)Total additional structural advisory fees


(29,513
)

(10,775
)

(47,403
)

16,388Residuals:From new securitizations











116,972Trust updates


(69,082
)

(159,746
)

(149,238
)

(173,854
)Total residuals


(69,082
)

(159,746
)

(149,238
)

(56,882
)Processing fees from TERI


244


37,280


2,630


83,529Administrative and other fees


4,782


3,129


8,400


24,890Total service revenues


(93,569
)

(129,588
)

(185,611
)

245,991Net interest income


7,474


6,778


14,612


11,161Total revenues


(86,095
)

(122,810
)

(170,999
)

257,152Non-interest expenses:Compensation and benefits


10,295


19,734


25,552


51,737General and administrative expenses


19,540


53,959


43,987


119,457Unrealized losses on loans held for sale


29,303





50,530


Total non-interest expenses


59,138


73,693


120,069


171,194Income (loss) before income taxes


(145,233
)

(196,503
)

(291,068
)

85,958Income tax expense (benefit)


(51,846
)

(78,828
)

(104,785
)

34,813Net income (loss)

$
(93,387
)
$
(117,675
)
$
(186,283
)
$
51,145Net income (loss) per share, basic

$
(0.94
)
$
(1.26
)
$
(1.88
)
$
0.55Net income (loss) per share, diluted


(0.94
)

(1.26
)

(1.88
)

0.54Cash dividends declared per share





0.12





0.395Weighted average shares outstanding, basic


99,116


93,500


99,040


93,469Weighted average shares outstanding, diluted


99,116


93,500


99,040


94,108


See
accompanying notes to unaudited condensed consolidated financial statements.

2

---





Table of Contents



THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES        CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY        (unaudited)        (in
thousands, except per share amounts)

Series B
non-voting
convertible
preferred stock

Common stockIssued

Issued

In treasury





Accumulated
other
comprehensive
incomeAdditional
Paid-in
capital

Retained
earnings

Total
stockholders'
equityShares

Amount

Shares

Amount

Shares

AmountBalances at June 30, 2008








106,456

$
1,065


(7,570
)
$
(183,993
)
$
300,498

$
519,933

$
109

$
637,612Comprehensive income (loss)Net loss























(186,283
)




(186,283
)Accumulated other comprehensive income, net


























86


86Total comprehensive loss























(186,283
)

86


(186,197
)Issuance of preferred stock


133


1














125,857








125,858Net stock issuance from vesting of restricted stock units








308


3


(73
)

(253
)

(3
)







(253
)Stock-based compensation




















4,230








4,230Tax expense from stock-based compensation




















(2,250
)







(2,250
)Balances at December 31, 2008


133

$
1


106,764

$
1,068


(7,643
)
$
(184,246
)
$
428,332

$
333,650

$
195

$
579,000


See accompanying notes to unaudited condensed consolidated financial statements.

3

---





Table of Contents



THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES        CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS        (unaudited)        (in thousands)

Six months ended
December 31,2008

2007Cash flows from operating activities:Net income (loss)

$
(186,283
)
$
51,145Adjustments to reconcile net income (loss) to net cash used in operating activities:Depreciation and amortization


9,735


9,420Deferred income tax benefit


(102,174
)

(46,609
)Stock-based compensation


4,230


4,037Unrealized loss on loans held for sale


50,530


Loss on disposal of property and equipment


1,401


Structural advisory fee distributions


1,504


Goodwill impairment


1,701


Change in assets/liabilities:(Increase) in loans held for sale


(14,193
)

(320,971
)(Increase) decrease in structural advisory fees


47,403


(16,388
)Decrease in residuals


149,238


56,882(Increase) decrease in processing fees from TERI


4,019


(1,266
)(Increase) decrease in prepaid income taxes


(6,772
)

79,404(Increase) decrease in other prepaid expenses


6,224


(4,803
)(Increase) in other assets


(1,611
)

(8,438
)(Decrease) in accounts payable and accrued expenses, income taxes payable and other liabilities


(32,916
)

(28,287
)Net cash used in operating activities


(67,964
)

(225,874
)Cash flows from investing activities:Net changes in federal funds sold


56,795


(58,949
)Dispositions of investments


24,148


45,908Purchases of investments


(26,900
)

(25,000
)Purchases of property and equipment


(291
)

(7,458
)Net change in loans held to maturity


923


Payments to TERI for loan database updates





(124
)Net cash provided by (used in) investing activities


54,675


(45,623
)Cash flows from financing activities:Increase (decrease) in deposits


(106,146
)

93,370Increase in education loan warehouse facility


2,764


235,400Increase in other short-term borrowings


50,000


Repayment of capital lease obligations


(1,861
)

(2,043
)Repayment of notes payable to TERI





(419
)Tax benefit (expense) from stock-based compensation


(2,250
)

581Issuances of common stock, net





507Issuance of non-voting convertible preferred stock, net


125,858


59,800Repurchases of common stock


(253
)

(805
)Cash dividends on common stock





(36,944
)Net cash provided by financing activities


68,112


349,447Net increase in cash and cash equivalents


54,823


77,950Cash and cash equivalents, beginning of period


70,280


95,937Cash and cash equivalents, end of period

$
125,103

$
173,887Supplemental disclosures of cash flow information:Interest paid

$
10,189

$
6,892Income taxes paid

$
37,686

$
38,401Supplemental disclosure of non-cash activities:Acquisition of property and equipment through capital leases

$


$
200


See accompanying notes to unaudited condensed consolidated financial statements.

4

---





Table of Contents



THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES        NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS        (dollars and shares in thousands, except
per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies

Nature of Business

The First Marblehead Corporation (FMC, and together with its subsidiaries, the Company) provides outsourcing services for private
education lending in the United States. The Company offers services to national and regional financial institutions and educational institutions for designing and implementing education loan programs
intended to help meet the demand for private education loans. FMC's subsidiary, Union Federal Savings Bank (Union Federal), is a federally chartered thrift that has offered private education loans
directly to consumers and offers residential retail mortgage loans, retail savings products, time deposit products, money market accounts and demand deposit accounts. As a result of its ownership of
Union Federal, FMC is a savings and
loan holding company subject to regulation, supervision and examination by the U.S. Office of Thrift Supervision (OTS).

Business Trends, Uncertainties and Outlook

Historically, the Company has been entitled to receive structural advisory fees and residuals for its services in connection with
securitizations of loans generated by the loan programs that it has facilitated. In the past, the Company has also received reimbursement for marketing coordination services provided to certain
clients, marketing premiums from its proprietary brands and fees for administrative services provided to the discrete trust vehicles that the Company has formed for securitizations that it has
facilitated. Historically, the Company has also received reimbursement from The Education Resources Institute, Inc. (TERI) for outsourced services the Company performed on TERI's behalf. TERI
is a not-for-profit organization that functioned as a guarantor of education loans.

Education
loan asset-backed securitizations have been the Company's sole source of permanent financing for its clients' private education loan programs. The conditions of the debt
capital markets generally, and the asset-backed securities (ABS) market specifically, rapidly deteriorated during the second quarter of fiscal 2008. This deterioration accelerated during the third
quarter of fiscal 2008 and has persisted through February 9, 2009. The Company's business has been and continues to be materially adversely impacted by the current market dynamics, including an
inability to access the securitization market or interim financing facilities. The Company did not complete a securitization transaction during the second, third or fourth quarters of fiscal 2008 or
during the first or second quarters of fiscal 2009. The Company does not expect to complete a securitization in the near-term and may not complete any securitizations during fiscal 2009.
In addition, it expects pricing terms in future securitizations, if any, to be substantially less favorable than in the past. In the near-term, it also expects investors to have limited or
no demand for subordinate tranches of ABS in securitization transactions, if any, that it is able to facilitate. Credit rating agencies have taken negative rating actions with respect to certain
securitizations that the Company has previously facilitated, including downgrades announced by Fitch Ratings on February 6, 2009.

On
April 7, 2008, TERI filed a voluntary petition for relief (TERI Reorganization) under Chapter 11 of the United States Bankruptcy Code (Bankruptcy Code) in the United
States Bankruptcy Court for the District of Massachusetts (Bankruptcy Court). As of February 9, 2009, TERI continued to operate its business as "debtor-in-possession"
under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and orders of the Bankruptcy Court.

5

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies (Continued)

FMC's
inability to access the securitization markets since September 2007, together with the TERI Reorganization, has had, and will likely continue to have, a material negative effect on
the Company's client relationships, its facilitated loan volume, its ability to structure loan securitizations, the value of its service receivables, and its ability to fully realize the cost
reimbursement and guaranty obligations of TERI. In addition, the credit environment may continue to have a material negative effect on the value of the Company's service receivables and the portfolio
of private education loans held by Union Federal. As a result of the TERI Reorganization, certain clients, including JPMorgan Chase Bank, N.A. (JPMorgan Chase), Bank of America, N.A. (Bank of America)
and RBS Citizens, N.A. (RBS), terminated some or all of their agreements with the Company, and the Company has not received processing fees totaling $16,025 from TERI that were due, but unpaid, prior
to the filing of TERI's petition. The Company has fully reserved for these processing fees. In addition, the Company's "master" agreements with TERI have been terminated in the context of the TERI
Reorganization.

The
Company has developed alternatives to the loan guaranty and loan origination services that TERI historically provided to the Company's clients. The Company has implemented a private
education loan program that does not include a third party guaranty. In addition, the Company provides outsourced loan origination services and portfolio management services to a limited number of
clients on a fee-for-service, stand-alone basis. The Company is developing a new private education loan product that it expects to have available to prospective lender clients
in the fourth quarter of fiscal 2009. The success of the product under development will be critical to growing and diversifying the Company's revenues and client base in the future. Compared to past
TERI-guaranteed education loan programs, the Company is designing the loan product to strengthen the creditworthiness of the resulting assets, through redesigned risk-based
pricing and enhanced cosigner participation, and by aligning risk and product options to promote a greater proportion of immediate-repayment loans, or loans for which payment of principal and interest
begins shortly after final disbursement, and interest-only loans, or loans for which payment of interest begins shortly after disbursement but payment of principal is deferred during
enrollment. The Company's near-term financial performance and future growth depend, however, in large part on its ability to structure securitizations or alternative financings. The
Company is uncertain whether former, current or prospective lender clients will be interested in the loan product under development, particularly in the current economic environment. Union Federal is
not, as of the date of this report, able to fund loan originations due to its current lack of funding capacity, and it may be necessary for Union Federal to obtain regulatory clearance before offering
such a product. See "Management's Discussion and Analysis of Financial Condition and Results of OperationsExecutive Summary."

Basis of Presentation

The Company's accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting
principles generally accepted in the United States of America (GAAP) for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for
complete consolidated financial statements. In the opinion of management, all adjustments (consisting of only normal recurring accruals) considered necessary for a fair statement of the results for
the interim periods have been included. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions, including the determination of the fair
value of expected future cash flows, that affect the amounts

6

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies (Continued)

reported
in the condensed consolidated financial statements and accompanying notes. Interim results are not necessarily indicative of results to be expected for the entire fiscal year. All significant
intercompany balances and transactions have been eliminated in consolidation. These unaudited financial statements should be read in conjunction with the audited consolidated financial statements and
related notes for the fiscal year ended June 30, 2008 included in the Company's Annual Report on Form 10-K filed with the Securities and Exchange Commission (SEC) on
August 28, 2008.

Education Loan Market Seasonality and Revenue Related to Securitization Transactions

Origination of education loans is generally subject to seasonal trends, with the volume of loan applications increasing with the
approach of tuition payment dates. Historically, the Company has processed the greatest application volume during the summer months, as students and their families seek to borrow money in order to pay
tuition costs for the fall semester or the entire school year. The Company has also tended to process an increased volume of loan applications during November, December and January, as students and
their families seek to borrow money to pay tuition costs for the spring semester. Historically, this seasonality of loan originations has impacted the timing and size of securitization transactions,
the amount of processing fees from TERI that the Company earned in a particular quarter, and the level of expenses incurred to market and process the higher origination activity.

The
Company expects to facilitate a significantly lower volume of loan applications during fiscal 2009 compared to past fiscal years as a result of, among other factors, the TERI
Reorganization. The Company processed a significantly lower application volume during the summer months of calendar 2008 compared to calendar 2007, as the Company's clients instructed TERI to stop
accepting applications or suspended their marketing of TERI-guaranteed loans and certain clients
terminated their agreements with the Company. During the first six months of fiscal 2008, the Company facilitated loans with an aggregate principal balance of $3,482,865, of which $33,566 was not
TERI-guaranteed. During the same period, the Company received $83,529 in processing fees from TERI. During the first six months of fiscal 2009, the Company facilitated loans with an
aggregate principal balance of $193,372, of which $93,899 was not TERI-guaranteed. During the same period, the Company received $2,630 in processing fees from TERI. Processing fees from
TERI have historically consisted of reimbursement of expenses incurred by the Company relating to services performed on behalf of TERI under the terms of the master servicing agreement between the
Company and TERI (Master Servicing Agreement). In June 2008, the Bankruptcy Court entered an order approving a motion by TERI to reject the Master Servicing Agreement effective May 31, 2008,
and to enter into a transition services agreement (Transition Services Agreement), which expired on September 29, 2008.

If
the Company is able to facilitate the securitization of TERI-guaranteed loans in the future, its up-front structural advisory fee yields would likely decline
and market conditions would likely dictate that the Company obtain additional credit enhancement for such securitizations, the cost of which would result in lower revenues and additional cash
requirements. Variations in the size, timing and type of financing transactions the Company facilitates has in the past, and may in the future, contribute to variability in quarterly operating
results.

At
December 31, 2008, the principal balance of loans facilitated and available to FMC for securitization was $2,359,110. Under the terms of its purchase agreements with lender
clients, FMC

7

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies (Continued)

generally
has an obligation to use its best efforts to facilitate the purchase of the client's private education loans during a specified loan purchase period. The length of the loan purchase period
varies by client and generally ranges from 195 days to 555 days following final loan disbursement. Under the terms of certain of its purchase agreements, if FMC fails to facilitate a
purchase in breach of its obligations, FMC's liability would be limited to liquidated damages of one percent of the total principal amount of the loans as to which the loan purchase period had
expired. Those purchase agreements that limit FMC's liability to liquidated damages generally provide that FMC's obligation to close a securitization is subject to the condition that no "market
disruption event" has occurred. Under certain of these purchase agreements, the TERI Reorganization constitutes a "market disruption event," suspending FMC's contractual obligation to close a
securitization. Any liquidated damages would be due at expiration of the relevant loan purchase period, which would not occur for a period of time after the market disruption event ceases. FMC's
purchase agreements applicable to approximately $1,162,262 of FMC's facilitated loan volume available for securitization as of December 31, 2008 do not include a liquidated damages provision in
the event FMC fails to facilitate a securitization in breach of its obligations, and the amount of the Company's potential liability with respect to such loans is not determinable at this time. The
purchase agreements generally require the Company to use its best efforts to facilitate a securitization of loans available for securitization within 555 days after final loan disbursement.

Although
FMC generally has an obligation to use its best efforts to facilitate the purchase of its clients' loans during a specified loan purchase period, no amounts have been accrued in
the financial statements as a result of the market disruption clauses and the TERI Reorganization.

PHEAA

As of December 31, 2008, there were eight loan servicers servicing loans on behalf of the Company or the securitization trusts.
Servicers provide administrative services relating to loans, including processing deferment and forbearance requests, sending out account statements and accrual notices, responding to borrower
inquiries, and collecting and crediting payments received from borrowers. As of December 31, 2008, Pennsylvania Higher Education Assistance Agency (PHEAA) serviced a significant majority of the
loans for which the Company facilitated origination. PHEAA also operates under the name American Education Services (AES). If the Company's relationship with PHEAA terminates, the Company would either
need to expand or develop a relationship with another loan servicer, which could be time-consuming and costly.

Revenue Concentration

The Company did not facilitate any securitizations in the first six months of fiscal 2009. The Company earned $319,300 in
securitization-related revenues from the trusts used to securitize education loans in the first six months of fiscal 2008. The securitization trusts facilitated during the first quarter of fiscal 2008
purchased private education loans from several lenders, including JPMorgan Chase, Bank of America, RBS and Union Federal. The Company did not recognize more than 10% of total revenue from any other
client in the first quarter of fiscal 2008.

8

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies (Continued)

Significant Accounting Policies and Estimates

The preparation of the Company's consolidated financial statements requires the Company to make estimates, assumptions and judgments
that affect the reported amounts
of assets and liabilities and the reported amounts of income and expenses during the reporting periods. The Company bases its estimates and judgments on historical experience and on various other
factors, and actual results may differ from these estimates under varying assumptions or conditions. On an ongoing basis, the Company evaluates its estimates and judgments, particularly as they relate
to accounting policies that the Company believes are most important to the portrayal of the Company's financial condition and results of operations, such as its accounting policies involving the
recognition and valuation of the Company's securitization-related service revenues and the valuation of the portfolio of private education loans held by Union Federal and with respect to the
determination of whether or not to consolidate the securitization trusts that it facilitates. For a discussion of the Company's critical accounting policies, see "Management's Discussion and Analysis
of Financial Condition and Results of OperationsExecutive SummaryApplication of Critical Accounting Policies and Estimates." For a discussion of changes made during fiscal
2009 to the assumptions used to determine the fair value of the Company's residual and additional structural advisory fees receivables, see Note 2.

Cash and Cash Equivalents

Cash and cash equivalents at December 31, 2008 included $123,942 held in money market funds and $1,161 in
non-interest bearing deposit accounts. Included in cash and cash equivalents are compensating balances held in money market funds supporting various financing arrangements of $2,053 and
$7,550 at December 31, 2008 and June 30, 2008, respectively.

Investments

The Company classifies all of its short-term investments as either held-to-maturity or
available-for-sale investments. Held-to-maturity investments are carried at amortized cost. Available-for-sale investments are
carried at fair value. The Company reports unrealized gains and losses within comprehensive income. Investments at December 31, 2008 and June 30, 2008 primarily consisted of variable
rate demand notes. Variable rate demand notes may be redeemed as interest rates reset, which occurs at least weekly in the case of all securities held by the Company at December 31, 2008 and
June 30, 2008. The carrying value of available-for-sale securities was $73,467 and $70,629, including an unrealized gain of $195 and $109 as of December 31, 2008
and June 30, 2008 respectively.

Loans Held for Sale

Loans held for sale at December 31, 2008 included outstanding principal balance and interest receivable of approximately
$509,004 and $9,885, respectively, of variable-rate education loans, of which loans with a principal and interest receivable balance of $258,285 were pledged as collateral under the
education loan warehouse facility of UFSB Private Loan SPV, LLC (UFSB-SPV), a subsidiary of Union Federal. Interest income is recognized on the interest method. Loans held for sale
are carried at the lower of cost or fair value. The carrying value as of December 31, 2008 included a fair value adjustment of $57,902. A reduction in the carrying value of loans held for sale
of $50,530 was recorded

9

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies (Continued)

during
the six-month period ended December 31, 2008. As of December 31, 2008, $7,752 of the loans held for sale were greater than 90 days past due.

The
estimated fair value of loans held for sale is evaluated on a periodic basis and in the absence of readily determined market values, based on the present value of expected future
cash flows, using management's estimates. These estimates are based on historical and third party data and the Company's industry experience with assumptions for, among other things, defaults,
recovery rates on defaulted loans, prepayment rates, borrowing costs and discount rates commensurate with the risks involved. If readily determined market values become available, or if actual
performance were to vary appreciably from assumptions used, the evaluation of the loans may need to be further adjusted, which could result in material differences from the recorded carrying amounts.

The
following table summarizes changes in the estimated fair value of the Company's loans held for sale during the first six months of fiscal 2009 and fiscal 2008:

Six months ended
December 31,2008

2007Fair value at beginning of period

$
497,324

$
37,052New loans issued





567,410Securitized loans





(214,063
)Accrued interest


21,837


11,556Cash receipts and cancellations


(7,644
)

(43,932
)Fair value adjustment


(50,530
)

Fair value at end of period

$
460,987

$
358,023


The
carrying value at December 31, 2007 included $11,651 of mortgage loans which were transferred to held to maturity loans beginning in the third quarter of fiscal 2008 and
$346,372 of education loans.

Mortgage Loans Held to Maturity

Mortgage loans held to maturity at December 31, 2008 totaled approximately $10,342, $5,736 of which have a variable interest
rate. Mortgage loans held to maturity at December 31, 2008 were carried at cost net of an allowance for loan losses of $509 and net deferred fees of $2. Loan origination fees, net of certain
direct organization costs, are deferred and recognized as an adjustment of the related loan yield using the interest method. If a mortgage loan is delinquent by greater than 90 days, the
interest income on that loan is discontinued until the loan is brought current or paid. Past due status is based on the contractual terms. An allowance for loan losses is established through a charge
to operations. When management believes that the collection of a loan's principal balance is unlikely, the principal amount is charged to the allowance. Recoveries are credited to the allowance as
amounts are received.

10

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(1) Nature of Business and Summary of Significant Accounting Policies (Continued)

Income Taxes

In determining a quarterly provision for income taxes, the Company uses an estimated annual effective tax rate which is based on its
expected annual income, statutory tax rates and tax planning opportunities available to it in the various jurisdictions in which it operates. The Company's estimated annual effective tax rate also
includes its best estimate of the ultimate outcome of tax audits. The net deferred income tax liability as of June 30, 2008 changed to a deferred tax asset during the first quarter of fiscal
2009 primarily as a result of the reduction of the estimated value of the Company's residuals and additional structural advisory fees receivables, and two Massachusetts tax law changes that became
effective in the first quarter of fiscal 2009, which reduced the beginning deferred tax liability by approximately $3,509.

The
Company has determined that a valuation allowance is necessary for certain deferred tax assets associated with its service receivables. As such, a valuation allowance totaling $6,433
was recorded during the second quarter of fiscal 2009. The Company has determined that a valuation allowance is not necessary for the remaining deferred tax assets, as it is more likely than not that
these assets will be realized through future reversals of existing temporary differences, and through future taxable income. The Company will continue to review the recognition of deferred tax assets
on a regular basis.

Included
in the net deferred income tax asset balance at December 31, 2008, were $12,781 of unrecognized tax benefits of which $8,308, if recognized, would favorably affect the
effective income tax rate. The Company recognizes interest accrued related to unrecognized tax benefits in income tax expense. The Company recognizes penalties, if any, in income tax expense. During
the first half of fiscal 2009, the Company accrued interest of approximately $10 and had approximately $1,866 accrued for interest and no amount accrued for the payment of penalties at
December 31, 2008.

The
Company is subject to U.S. federal income tax, as well as income tax in multiple U.S. state and local jurisdictions. The Internal Revenue Service completed an examination of the
Company's U.S. income tax return for the year ended June 30, 2004. All significant state and local income tax matters have been concluded through June 30, 2003. The Company's state
income tax returns for the year ended June 30, 2004, and state and federal income tax returns for the years ended June 30, 2005, 2006, 2007 and 2008 remain subject to examination.

(2) Service Receivables

Additional structural advisory fees and residuals receivables represent the estimated fair value of additional structural advisory fees and residuals expected to be collected over the
life of the various separate securitization trusts that have purchased education loans facilitated by the Company. The fees are expected to be paid from the various securitization trusts to the
Company. Processing fees receivable from TERI represents amounts due from TERI for expenses incurred by the Company on TERI's behalf.

On
a quarterly basis, the Company updates its estimates of the fair value of its structural advisory fees and residuals receivables to reflect the passage of time, any change in discount
rates used to estimate their fair value, any changes in the estimated operational expenses for the separate securitization trusts and any changes to the trust performance assumptions that the Company
considers

11

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(2) Service Receivables (Continued)

in
its fair value estimates, such as the expected annual rate and timing of loan defaults and TERI's obligation and ability to pay default claims, expected recoveries on defaulted loans, including use
of recoveries to replenish the segregated reserve accounts pledged to the securitization trusts by TERI to secure its guaranty obligations (Pledged Accounts), the annual rate and timing of education
loan prepayment, the trend of interest rates over the life of the loan pool, including the forward London Interbank Offered Rate (LIBOR), and the cost of funding outstanding auction rate notes.

The
following table shows the approximate weighted average assumptions for loan performance and discount rates at December 31, 2008, September 30, 2008 and June 30,
2008 for the Company's private label loan trusts:

Percentage rate

Percentage discount rateDefault

Recovery

Prepayments

Structural
advisory fees

ResidualsDecember 31, 2008


16.58
%

48
%

8.12
%

12.21
%

18.40
%September 30, 2008


15.96
%

48
%

8.40
%

11.07
%

16.35
%June 30, 2008


14.83
%

48
%

8.40
%

9.72
%

14.88
%


During
the first quarter of fiscal 2009, the Company adjusted its performance assumptions with respect to gross default rates and discount rates applicable to both its residuals
receivables and its additional structural advisory fees. During the second quarter of fiscal 2009, the Company adjusted its performance assumptions with respect to gross default rates, prepayment
rates, discount rates and auction rates.

Default Rates.In response to an acceleration in default activity coupled with deterioration in overall consumer credit quality, the
Company
increased the weighted average gross default rate assumptions used to estimate the fair value of its residuals and additional structural advisory fees receivables from 14.83% to 15.96% during the
first quarter of fiscal 2009. The Company also increased its assumed weighted average net default rate from 7.68% to 8.30% during the first quarter of fiscal 2009. The increases in the default rate
assumptions during the first quarter of fiscal 2009 resulted in a decrease in the estimated fair value of the Company's residuals receivable of $40,728 and a decrease in the estimated fair value of
its additional structural advisory fees receivable of $3,133.

During
the second quarter of fiscal 2009, the Company further increased the weighted average gross default rate assumptions from 15.96% to 16.58%, as a result of the trusts' actual
default experience and general economic pressure on all consumer asset classes. The Company also increased its assumed weighted average net default rate from 8.30% to 8.62% during the second quarter
of fiscal 2009. These increases in the default rates assumptions resulted in a decrease in the estimated fair value of the Company's residuals receivable of $9,380 and a decrease in the estimated fair
value of its additional structural advisory fees receivable of $3,031.

Prepayment Rates.In response to a historically low prepayment rate, the current interest rate environment and limited availability of
consumer
credit, the Company adjusted its prepayment assumption during the second quarter of fiscal 2009 by extending the period during which decreased prepayments are expected to persist. As of
December 31, 2008, the Company assumed that the current prepayment rate would generally persist for 12 months and eventually revert to historical norms during

12

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(2) Service Receivables (Continued)

the
ensuing 12 months. This change resulted in a $11,336 increase in the value of the residuals and a $2,358 increase in the structural advisory fees.

Discount RateResiduals.In determining an appropriate discount rate for valuing its residuals, the Company historically has
considered a
number of factors, including market data made available to the Company on spreads on federally guaranteed loans and private education loans as well as rates used in the much broader ABS market. The
Company also evaluates yield curves for corporate subordinated debt with maturities similar to the weighted average life of its residuals. At September 30, 2008, due to the dislocation in the
capital markets and the private education loan securities sector, the Company increased its discount rate by 150 basis points. The Company applied a discount rate of 16.0% for purposes of estimating
the fair value of residuals from securitization trusts that had not issued Triple B-rated securities and a discount rate of 17.0% for purposes of estimating the fair value of residuals
from securitization trusts that had issued Triple B-rated securities, which resulted in a decrease of $43,643 in the estimated fair value of the Company's residuals during the first
quarter of fiscal 2009.

During
the second quarter of fiscal 2009, the Company further increased the discount rate by 200 basis points, applying a discount rate of 18.0% for purposes of estimating the fair value
of residuals from securitization trusts that had not issued Triple B-rated securities and a discount rate of 19.0% for purposes of estimating the fair value of residuals from
securitization trusts that had issued Triple B-rated securities. In increasing the discount rate, the Company considered, among other things, widening spreads in subordinate tranches of
actual federal loan ABS issuances and actual transactions involving other ABS asset classes, as well as widening indicative spreads, not supported by actual transactions, in subordinate tranches of
private education loan ABS. The increase in the discount rate resulted in a decrease of $39,991 in the estimated fair value of the Company's residuals during the second quarter of fiscal 2009.

Discount RateAdditional Structural Advisory Fees.The Company has historically based the discount rate that it uses to estimate
the fair
value of its additional structural advisory fees on a
spread over the 10-year U.S. Treasury Note rate. At September 30, 2008, due to the dislocation in the capital markets and the private education loan securities sector, the Company
increased its discount rate spread by 150 basis points, to 725 basis points. As a result, the Company applied a discount rate of 11.07% for purposes of estimating the fair value of the additional
structural advisory fees, which resulted in a decrease of $14,066 in the estimated fair value of the Company's additional structural advisory fees during the first quarter of fiscal 2009.

During
the second quarter of fiscal 2009, the Company further increased the discount rate spread by 275 basis points, to 1,000 basis points. In increasing the discount rate spread, the
Company considered, among other things, increasing yield curves for certain composite indices for BBB- and BB-rated corporate bond indices with 10-year maturities.
The 10-year U.S. Treasury Note rate decreased by 161 basis points during the fiscal quarter, to 2.21% at December 31, 2008. As a result, the Company applied a discount rate of
12.21% for purposes of estimating the fair value of the additional structural advisory fees, which resulted in a net decrease of $6,123 in the estimated fair value of the Company's additional
structural advisory fees during the second quarter of fiscal 2009.

13

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(2) Service Receivables (Continued)

Auction Rates.Five private securitization trusts have issued auction rate notes to finance the purchase of education loans. Interest
rates for the
auction rate notes are determined from time to time at auction. The Company uses a spread over LIBOR to project the future cost of funding of the auction rate notes issued by each such trust. The
spread over LIBOR used to estimate the future cost of funding is based on historical trends, then current auction rates for each trust and assumptions for future auction rates.

During
the second quarter of fiscal 2009, Moody's Investors Service (Moody's) downgraded the insurance financial strength of Ambac Assurance Corporation (Ambac) to Baa1 from Aa3. Ambac
has provided credit enhancement for certain ABS issued in securitizations that the Company has facilitated, including with regard to certain auction rate notes. The downgrading of Ambac's ratings
resulted in a downgrading of the ratings assigned to certain of the Company's auction rate notes. As a result, the interest rate on certain of those auction rate notes increased from
one-month LIBOR plus 1.5% to one-month LIBOR plus 2.5% or, in some cases, to one-month LIBOR plus 3.5%, and the interest rate of certain of those auction rate notes
increased from one-month LIBOR plus 2.5% to one-month LIBOR plus 3.5%. The Company assumed at December 31, 2008 that those auction rate notes would continue to bear
interest at their respective increased rates until their expected maturity dates. The increased cost of funding of these notes resulted in a decrease of $13,087 in the estimated fair value of the
Company's additional structural advisory fees, and a decrease of $31,779 in the estimated fair value of the Company's residuals, during the second quarter of fiscal 2009.

Forward LIBOR Curve.LIBOR is the underlying rate for most of the trusts' assets and liabilities and can have a significant effect on
the cash flows
generated by each trust. Changes in the forward LIBOR curve affect the principal balances of education loans held by the trusts, particularly as interest is capitalized during loan deferment, which
affects the net interest margin that the trust generates. In addition, certain trusts have issued a tranche of ABS that bears a fixed interest rate. A decrease in the forward LIBOR may result in a
reduced spread on the fixed-interest tranche, which in turn decreases the estimated fair value of the Company's service receivables. Significant changes to the forward LIBOR curve can also affect the
estimated fair value of the Company's additional structural advisory fees, which bear interest at the rate of LIBOR plus 150 basis points to the extent such fees are accrued but unpaid by the trusts.

During
the second quarter of fiscal 2009, the forward LIBOR curve decreased by approximately 200 basis points, an unusually large change. The change reduced the estimated fair value of
the Company's residuals receivable by $16,129, primarily as a result of a reduced spread on the fixed interest ABS, and reduced the estimated fair value of the Company's additional structural advisory
fees by $15,396, primarily as a result of a lower interest rate applicable to accrued but unpaid fees.

14

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(2) Service Receivables (Continued)

The
following table summarizes changes in the estimated fair value of the Company's structural advisory fees receivables during the first six months of fiscal 2009 and fiscal 2008:

Six months ended
December 31,2008

2007Fair value at beginning of period

$
113,842

$
133,644Additions from new securitizations





24,304Cash received from trust distributions


(1,504
)

Trust updates:Passage of time (fair value accretion)


5,430


5,071Assumption changes:(Increase) decrease in average prepayment rate


2,358


(3,535
)Increase in discount rate assumption


(20,189
)

(622
)Increase in timing and average default rate


(6,164
)

(2,668
)Increase in auction rate notes spread


(13,087
)

(86
)(Decrease) in forward LIBOR curve


(19,531
)

(5,798
)Other factors


3,780


(278
)Net change from trust updates


(47,403
)

(7,916
)Fair value at end of period

$
64,935

$
150,032


The
following table summarizes the changes in the estimated fair value of the Company's residuals receivable during the first six months of fiscal 2009 and fiscal 2008:

Six months ended
December 31,2008

2007Fair value at beginning of period

$
293,255

$
665,115Additions from new securitizations





116,972Trust updates:Passage of time (fair value accretion)


19,752


43,570Assumption changes:(Increase) decrease in average prepayment rate


11,336


(46,597
)Increase in discount rate assumption


(83,634
)

(71,680
)Increase in timing and average default rate


(50,108
)

(36,173
)Increase in auction rate notes spread


(31,779
)

(34,323
)(Decrease) in forward LIBOR curve


(22,113
)

(12,957
)Other factors


7,308


(15,694
)Net change from trust updates


(149,238
)

(173,854
)Fair value at end of period

$
144,017

$
608,233


15

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(2) Service Receivables (Continued)

For a discussion of the sensitivity of the additional structural advisory fees and residuals receivable to variations in the Company's assumptions and estimates, see "Service Revenue and
Receivables" and "Sensitivity Analysis" under "Management's Discussion and Analysis of Financial Condition and Results of OperationsExecutive SummaryApplication of Critical
Accounting Policies and Estimates."

The
Company did not adjust its assumptions during the six months ended December 31, 2008 regarding TERI. TERI may seek to reject its guaranty obligations entirely in the context
of the TERI Reorganization. As of February 9, 2009, TERI had not rejected or otherwise indicated how it will treat its guaranty obligations to lenders, including Union Federal. As a
consequence, it is uncertain how collateral securing such obligations will be treated or applied to satisfy TERI's obligations. On January 30, 2009, the official committee of unsecured
creditors of TERI (Creditors Committee), of which the Company is not a member, filed an adversary complaint in the Bankruptcy Court against the owner trustee and indenture trustee of 17 securitization
trusts, and against First Marblehead Data Services, Inc. (FMDS), as administrator of such trusts. See "Commitments and ContingenciesTERIChallenge to Security Interests" in
Note 13. The complaint generally alleges that the security interests granted by TERI to the trusts, excluding the security interests in the Pledged Accounts, are unperfected or may otherwise be
avoided under Section 552 of the Bankruptcy Code. In particular, the complaint alleges that the trusts do not have enforceable rights to future recoveries on defaulted loans owned by TERI with an
aggregate principal and accrued interest balance of approximately $575,100 as of January 31, 2009, or in amounts owed or transferred by TERI to Pledged Accounts after the filing of TERI's
petition for reorganization totaling approximately $26,964 as of January 31, 2009. The Company cannot predict at this time the timing, costs or outcome of the adversary proceeding. For purposes
of estimating the fair value of the Company's service receivables, the Company assumed at December 31, 2008 that the application of collateral will continue in the ordinary course in accordance
with existing agreements and that the trusts have rights to the amounts that are the subject of the Creditors Committee's complaint. A successful challenge to the security interests could decrease
materially the value of Company's service receivables.

(3) Securitization Trusts and Related Revenue

The Company historically structured and facilitated securitization transactions for its clients through a series of bankruptcy remote, qualified special purpose statutory trusts. Through
the securitization process, the trusts obtain private education loans from the originating lenders or their assignees, which relinquish to the trust their ownership interest in the loans. The debt
instruments that the trusts issue to finance the purchase of these education loans are obligations of the trusts, rather than the Company's obligations or those of originating lenders or their
assignees. The Company refers to the trusts utilized in the securitization of private education loans as private label loan trusts.

At
December 31, 2008 and June 30, 2008, the aggregate outstanding principal balance of the debt issued by the trusts was $13,925,740 and $14,610,470, respectively.

The
underlying assets in the trusts were private education loans of which approximately 39.0% were in deferment, 5.9% were in forbearance and 55.1% were in repayment status as of
December 31, 2008. Approximately 89.0% of the loans in repayment status as of December 31, 2008 were current, 5.6% were between 31 and 90 days past due, 3.6% were between 91 and
180 days past due, and 1.7%

16

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(3) Securitization Trusts and Related Revenue (Continued)

were
greater than 180 days past due. As of December 31, 2008, the cumulative gross default rate with regard to loans in, and loans that have previously been in, repayment status was
8.07% for the aggregate loans in the trusts.

The
Company has received several types of fees in connection with its past securitization services:



At
December 31, 2008, the Company expects to receive the additional fees beginning five to 17 years after the date of a particular securitization transaction. The stipulated parity ratio
levels may be raised if certain trust characteristics change. The level applicable to a particular private label loan trust is determined at the time of securitization. Actual parity ratios of the
Company's private label loan trusts as of December 31, 2008 ranged from 93.7% to 100.3%. For the three and six months ended December 31, 2008 the Company collected $27 and $1,504,
respectively in additional structural advisory fees from the trusts.

17

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(3) Securitization Trusts and Related Revenue (Continued)



(4) Fair Value Measurement

The Company adopted Statement of Financial Accounting Standards (SFAS) No. 157,Fair Value Measurement, effective July 1,
2008. SFAS No. 157 defines fair value as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the
measurement date and establishes a framework for measuring fair value. It establishes a three-level hierarchy for fair value measurements based upon the transparency of inputs to the valuation of an
asset or liability as of the measurement date and expands the disclosures about instruments measured at fair value. SFAS No. 157 requires consideration of a company's own creditworthiness when
valuing liabilities.

The
Company also adopted SFAS No. 159,The Fair Value Option for Financial Assets and Financial Liabilities, effective
July 1, 2008. SFAS No. 159 provides an option to elect fair value as an alternative measurement basis for selected financial assets, financial liabilities, unrecognized firm commitments
and written loan commitments which are not subject to fair value under other accounting standards. The adoption of SFAS No. 159 did not result in the election by the Company of fair value
accounting for any other assets and liabilities not previously carried at fair value.

18

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(4) Fair Value Measurement (Continued)



At December 31, 2008, the Company applied fair value to eligible assets based on quoted market prices, where available. For
financial instruments for which quotes from recent
exchange transactions are not available, the Company determines fair value based on discounted cash flow analysis and comparison to similar instruments. Discounted cash flow analysis is dependent upon
estimated future cash flows and the level of interest rates. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value.

The
methods described above may produce a current fair value calculation that may not be indicative of net realizable value or reflective of future fair values. If readily determined
market values became available or if actual performance were to vary appreciably from assumptions used, assumptions may need to be adjusted, which could result in material differences from the
recorded carrying amounts. The Company believes its methods of determining fair value are appropriate and consistent with other market participants. However, the use of different methodologies or
different assumptions to value certain financial instruments could result in a different estimate of fair value.



SFAS No. 157 establishes a three-level valuation hierarchy for the use of fair value measurements based upon the transparency of
inputs to the valuation of an asset or liability as of the measurement date:

Level 1.Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 1 assets and liabilities include debt and equity securities and derivative financial instruments actively traded on exchanges, as well as U.S. Treasury securities and U.S. Government and
agency mortgage-backed securities that are actively traded in highly liquid over the counter markets.

Level 2.Observable inputs other than Level 1 prices such as quoted prices for similar assets and liabilities in active
markets, quoted
prices for identical or similar assets or liabilities in markets that are not active, and inputs that are observable or can be corroborated, either directly or indirectly, for substantially the full
term of the financial instrument. Level 2 assets and liabilities include debt instruments that are traded less frequently than exchange traded securities and derivative instruments whose model
inputs are observable in the market or can be corroborated by market observable data. Examples in this category are certain variable and fixed rate non-agency mortgage-backed securities,
corporate debt securities and derivative contracts.

Level 3.Inputs to the valuation methodology are unobservable but significant to the fair value measurement. Examples in this
category include
interests in certain securitized financial assets, certain private equity investments, and derivative contracts that are highly structured or long-dated.



A financial instrument's categorization within the valuation hierarchy is based upon the lowest level of input that is significant to
the fair value measurement. The following is a description of the

19

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(4) Fair Value Measurement (Continued)

valuation
methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Cash Equivalents.Cash equivalents consist of money market funds with available quoted market prices on active markets that the Company
classifies as
Level 1 of the valuation hierarchy.

Investments.As quoted prices are available in an active market for all securities that the Company holds, the Company classifies
investments within
Level 1 of the valuation hierarchy.

Structural Advisory Fees Receivable.Market prices are not available for the Company's additional structural advisory fees. As a result,
 the Company
estimates the fair value utilizing internally-developed discounted cash flow models that include assumptions regarding prepayment rates, net default rates, LIBOR forward interest rate curve, TERI's
obligation and ability to pay claims, operational expenses and the auction rate note interest rates which are discounted using an interest rate appropriate for the estimated life of the asset.
Additional structural advisory fees carried at fair value are classified within Level 3 of the valuation hierarchy.

Residuals Receivable.Market prices are not available for the Company's residuals receivable. As a result, the Company estimates the
fair value
utilizing internally-developed discounted cash flow models that include assumptions regarding prepayment rates, net default rates, LIBOR forward interest rate curve, TERI's obligation and ability to
pay claims, operational expenses and, the auction rate note interest rates which are discounted using an interest rate appropriate for the estimated life of the asset. Residuals receivable carried at
fair value are classified within Level 3 of the valuation hierarchy.

Loans Held for Sale.Market prices are not available for the Company's education loans held for sale. As a result, the Company bases
the fair value
utilizing an internally-developed discounted cash flow model which includes assumptions regarding prepayment rates, net default rates and the LIBOR forward interest rate curve. Loans held for sale are
carried at lower of cost or fair value and are classified within Level 3 of the valuation hierarchy.

The
following table presents the financial instruments carried at fair value as of December 31, 2008, by caption on the consolidated balance sheet and by SFAS No. 157
valuation hierarchy described above.

Assets measured at fair value on a
recurring and nonrecurring basis
at December 31, 2008:

Level 1

Level 2

Level 3

Total
carrying
valueRecurring:Cash equivalents

$
115,124

$


$


$
115,124Investments


73,467








73,467Structural advisory fees








64,935


64,935Residuals








144,017


144,017Nonrecurring:Loans held for sale








460,987


460,987Total assets at fair value

$
188,591

$


$
669,939

$
858,530


20

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(4) Fair Value Measurement (Continued)

Please
see note (1) for a rollforward of the loans held for sale and note (2) for a rollforward of the structural advisory fees and residuals receivables.

(5) Net Interest Income

The following table reflects the components of net interest income for the six months ended December 31, 2008, and 2007.

Six Months ended
December 31,2008

2007Interest IncomeCash and cash equivalentstaxable

$
587

$
2,338Cash and cash equivalentstax exempt


60


310Federal funds sold


462


872Investmentstaxable


251


309Investmentstax exempt


889


2,314Education loans


21,837


11,526Mortgage loans


285


384Total interest-earning assets


24,371


18,053Interest ExpenseSavings accounts

$
1,012

$
1,189Money market accounts


829


Brokered deposits


1,750


1,631Warehouse line of credit


5,737


3,734Other short-term borrowings


38


Other interest-bearing liabilities


393


338Total interest-bearing liabilities


9,759


6,892Net Interest Income

$
14,612

$
11,161


(6) Related Party Transactions

At December 31, 2008, the Company had invested approximately $107,875 of cash equivalents in a money market fund. The investment adviser for this fund is Milestone Capital
Management, LLC (MCM), an institutional money management firm. In addition, approximately $71,299 of investments and cash equivalents were invested by MCM on behalf of the Company under an
investment management agreement. MCM receives a fee for services it performs under this agreement. MCM is a wholly owned subsidiary of Milestone Group Partners. Members of the immediate family of one
of the Company's directors owned approximately 65% of Milestone Group Partners as of December 31, 2008.

21

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(7) Deposits

The table below represents the Company's deposit balances as of December 31, 2008 and June 30, 2008, respectively:

December 31,
2008

June 30,
2008Savings accounts

$
12,868

$
14,887Money market and demand deposit accounts


46,407


31,447Time deposits


78,692


197,779$
137,967

$
244,113


The
aggregate amount of time deposits in denominations greater than $100 or more was $48,766 and $165,593 as of December 31, 2008 and June 30, 2008, respectively. Included
in time deposits above were brokered deposits totaling $35,000 and $150,194 at December 31, 2008 and June 30, 2008, respectively. Included in money market accounts at June 30,
2008 was $31,323 deposited by TERI and pledged to Union Federal to secure TERI's guaranty obligations with regard to the TERI-guaranteed education loans held by Union Federal. In October
2008, the Bankruptcy Court ordered that this TERI segregated reserve be moved from Union Federal to another depository bank. No amounts related to the TERI segregated reserve were included in money
market accounts at December 31, 2008. The Bankruptcy Court order preserved the rights of Union Federal in the segregated reserve as they existed on the date that TERI filed its bankruptcy
petition.

A
summary of time deposits, by maturity at December 31, 2008 and June 30, 2008, is as follows:

December 31, 2008

June 30, 2008Amount

Weighted
average
rate

Amount

Weighted
average
rateWithin one year

$
78,591


3.13
%
$
197,579


3.13
%Over one year


101


3.55
%

200


3.58
%$
78,692




$
197,779


(8) Education Loan Warehouse Facility

In July 2007, UFSB-SPV, entered into a $300,000 education loan warehouse facility to fund the purchase of education loans from Union Federal. At December 31, 2008,
$245,663 was outstanding under the facility. UFSB-SPV has pledged the purchased education loans as collateral for the advances it received from the conduit lender.

The
TERI Reorganization, and subsequent TERI ratings downgrades, resulted in events of termination under the indenture relating to the facility. As a result, the facility termination
date was declared, UFSB-SPV is not eligible for further borrowings under the facility and the conduit lender may elect to accelerate repayment of notes outstanding under the facility. In
April 2008, UFSB-SPV entered into a letter agreement pursuant to which it agreed to pay higher fees to the conduit lender in consideration for an acknowledgement by the conduit lender that
interest on the notes issued under the facility would not be payable based on an alternative rate set forth in the indenture (Default Rate) unless and until the conduit lender delivered further notice
to UFSB-SPV. The conduit lender may

22

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(8) Education Loan Warehouse Facility (Continued)

elect
for interest on outstanding notes to become payable at the Default Rate for periods following delivery of notice of such election, in which case UFSB-SPV would pay fees at the lower
rates in effect prior to the letter agreement. The facility termination date had been scheduled to occur on July 16, 2008. Under the indenture, the facility termination date commences a
liquidation period that ends on the date immediately following the later of July 14, 2010 and the date on which the principal and interest on all outstanding notes, and all amounts otherwise
payable by UFSB-SPV in connection with the facility, are paid in full. In October, November and December 2008, additional events of termination occurred under the indenture relating to the
one- and three-month default ratios on the underlying portfolio. The conduit lender's recourse under the indenture is limited to education loans pledged as collateral.

(9) Other Short-Term Borrowings

The Company had $50,000 in other short-term borrowings outstanding at December 31, 2008 from the Federal Reserve Bank of Boston. Such borrowings are collateralized by up to 75% of
the education loans held by Union Federal, not including education loans held by UFSB-SPV. The short-term borrowings mature at various dates over the 90-day period subsequent to December 31,
2008.

(10) Stockholders' Equity

Investment Agreement

In December 2007, FMC entered into an investment agreement (Investment Agreement) with GS Parthenon A, L.P. and GS Parthenon
B, L.P., affiliates of GS Capital Partners (Purchasers), pursuant to which the Company sold 60 shares of newly designated Series A Non-Voting Convertible Preferred Stock,
$0.01 par value per share (Series A Preferred Stock), at a purchase price of $1,000 per share. Pursuant to the Investment Agreement, the Company also agreed to sell, after receipt of applicable
regulatory approvals and determinations and satisfaction of other closing conditions, up to 201 shares of newly-created Series B Non-Voting Convertible Preferred Stock, $0.01 par
value per share (Series B Preferred Stock), at a purchase price of $1,000 per share. FMC granted to GS Parthenon A, L.P. the right to designate one representative to FMC's Board of
Directors and provided to the Purchasers required and incidental rights to register under the Securities Act of 1933, as amended, any common stock of the Company (Common Stock) obtained from the
conversion of preferred stock.

The
total investment by the Purchasers, including their initial investment of $59,800, was capped by the terms of the Investment Agreement at an amount not to exceed 25% of the Company's
total stockholders' equity, consistent with regulations of the OTS. As a result of a decrease in the Company's stockholders' equity after the time of the initial investment by the Purchasers, and
based on the Company's stockholders' equity as of June 30, 2008, the subsequent equity investment by the Purchasers, which closed on August 18, 2008, was limited to $132,700. See
"Series B Non-Voting Convertible Preferred Stock" below. The Company received aggregate gross proceeds of approximately $192,500 from the sale of the Series A Preferred Stock
and the Series B Preferred Stock pursuant to the Investment Agreement. In January 2008, the Purchasers elected to convert their Series A Preferred Stock into an aggregate of 5,320 shares
of Common Stock.

23

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(10) Stockholders' Equity (Continued)

Series B Non-Voting Convertible Preferred Stock

On August 18, 2008, FMC issued 133 shares of newly designated Series B Preferred Stock at a purchase price of $1,000 per
share. The Series B Preferred Stock is convertible, at the option of the holders, into 8,847 shares of Common Stock, at a conversion price of $15.00 per share. Dividends would be paid on the
Series B Preferred Stock when, as and if, and in the same amounts (on an as-converted basis), declared on the Common Stock. Upon liquidation, dissolution or winding up of FMC,
holders of Series B Preferred Stock would have the right to receive an amount equal to $0.01 per share of Series B Preferred Stock, plus the amount of any declared but unpaid dividends
thereon. After payment of this amount, holders of the Series B Preferred Stock would be entitled to participate (on an as-converted basis) with the Common Stock in the distribution
of remaining assets.

2003 Stock Incentive Plan

In September 2003, the Board of Directors and stockholders approved the 2003 Stock Incentive Plan. A total of 4,050 shares of Common
Stock are authorized for issuance pursuant to awards under this plan. During the first six months of fiscal 2009, the Company granted 21 fully vested stock units pursuant to the Company's stock unit
program for non-employee directors, each such stock unit representing the right to receive one share of Common Stock. As of December 31, 2008, there were 296 restricted stock units
outstanding and 3,253 shares available for future grant under 2003 Stock Incentive Plan.

2003 Employee Stock Purchase Plan

In October 2003, the Board of Directors and stockholders approved the 2003 Employee Stock Purchase Plan (Stock Purchase Plan). A total
of 600 shares of Common Stock were authorized for issuance under this plan. The Stock Purchase Plan permitted eligible employees to purchase shares of Common Stock at the lower of 85% of the fair
market value of the Common Stock at the beginning or at the end of each offering period. Participation was voluntary. Under the Stock
Purchase Plan, 30 and 15 shares of Common Stock were issued in January 2008 and July 2007, respectively. In April 2008, the Board of Directors, which administers the Stock Purchase Plan, terminated
the offering period that began on January 1, 2008 and indefinitely suspended the Stock Purchase Plan. At December 31, 2008, 406 shares were available for future purchase under the Stock
Purchase Plan.

2008 Meyers' Option Plan

The Board of Directors elected Daniel Meyers as President and Chief Executive Officer and as a member of the Board of Directors,
effective September 1, 2008, subject to any required regulatory approvals. In connection with the election, the Board of Directors and a subcommittee of the Compensation Committee of the Board
of Directors approved the grant on August 18, 2008 (Grant Date) of stock options to Mr. Meyers to purchase (a) 2,000 shares of Common Stock, at an exercise price of $6.00 per
share, that will vest and become exercisable as to 25% of the shares underlying the stock option on each of the first, second, third and fourth anniversaries of the Grant Date ($6.00 Stock Options);
(b) 2,000 shares of Common Stock, at an exercise price of $12.00 per share, that vested and became exercisable in full on November 30, 2008; and (c) 2,000 shares of Common Stock,
at an exercise price of $16.00 per share, that vested and became exercisable in full on November 30, 2008.

24

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(10) Stockholders' Equity (Continued)

Any
unvested stock options will vest and become exercisable in full (a) if the closing sale price of the Common Stock is at least 150% of the exercise price of the applicable option for a
period of five consecutive trading days (assuming the trading on each day is not less than 90% of the average daily trading volume for the prior three months prior to such five day period),
(b) in the event of Mr. Meyers's death or disability, as defined in his employment agreement, or (c) in the event that Mr. Meyers's employment is terminated by the Company
without Cause, as defined in his employment agreement, or by Mr. Meyers with Good Reason, as defined in his employment agreement. In addition, subject to certain conditions set forth in his
employment agreement, the $6.00 Stock Options may be exercised beginning 90 days after the Grant Date prior to vesting, provided that the unvested shares issued will be held in escrow by the
Company and will be subject to a repurchase option by the Company. Each of the stock options will expire ten (10) years from the Grant Date. The stock options were not granted under any of the
Company's existing stockholder-approved incentive plans.

Share Repurchase Program

In April 2007, the Board of Directors authorized the repurchase of up to 10,000 shares of Common Stock from time to time on the open
market or in privately negotiated transactions. The 10,000 shares authorized for repurchase included 3,393 remaining shares available for
repurchase as of April 24, 2007 under a previously authorized repurchase program. The repurchase program approved on April 24, 2007 does not have a fixed expiration date. Through
December 31, 2008, the Company had repurchased an aggregate of 1,169 shares of Common Stock under this program. The Company did not repurchase any shares of its Common Stock under this program
during the first six months of fiscal 2009.

Cash Dividends

The Board of Directors declared no cash dividends during the first six months of fiscal 2009, and the Company does not expect to
declare any cash dividends in the foreseeable future. Any decision to pay future dividends will be made by the Board of Directors and will depend upon the Company's earnings, financial condition,
capital requirements and such other factors as the Board of Directors deems relevant.

(11) Union Federal Regulatory Capital Requirements

Union Federal is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain
mandatory and possibly additional discretionary actions by the regulators that, if undertaken, could have a direct material effect on the Company's financial condition. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, Union Federal must meet specific capital guidelines that involve quantitative measures of Union Federal's assets, liabilities and
certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators
about components, risk weighting and other factors. Additionally, Union Federal may not pay dividends to FMC or originate private education loans in the future without prior approval of the regulatory
authorities. UFSB's equity capital was $91,559 at December 31, 2008.

25

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(11) Union Federal Regulatory Capital Requirements (Continued)

Quantitative
measures established by regulation to ensure capital adequacy require Union Federal to maintain minimum amounts and ratios of total capital and Tier 1 capital (as
defined in the regulations) to risk-weighted assets (as defined). As of December 31, 2008 and June 30 2008, Union Federal met all quantitative capital adequacy requirements
to which it was subject and had total risk-based ratios of 18.07% and 22.14%, Tier 1 risk-based ratios of 18.06% and 22.08%, and Tier 1 core capital ratios of
17.03% and 18.43%, respectively. As of December 31, 2008 and June 30, 2008, Union Federal was well capitalized under the regulatory framework for prompt corrective action. Union
Federal's regulatory authorities have from time to time requested that the Company provide additional capital to Union Federal, and the Company is currently in discussions with the OTS regarding,
among other things, the provision by the Company of additional regulatory capital. Additional infusions of regulatory capital into Union Federal could adversely affect the Company's
short-term liquidity.

(12) Net Income (Loss) per Share

The following table sets forth the computation of basic and diluted net income (loss) per share of Common Stock for the three months and six months ended December 31, 2008 and
2007:

Three months ended
December 31,

Six months ended
December 31,2008

2007

2008

2007Net income (loss)

$
(93,387
)
$
(117,675
)
$
(186,283
)
$
51,145Shares used in computing net income (loss) per common sharebasic


99,116


93,500


99,040


93,469Effect of dilutive securities:Stock options











120Restricted stock units











206Preferred stock











313Dilutive potential common shares











639Shares used in computing net income (loss) per common sharediluted


99,116


93,500


99,040


94,108Net income (loss) per common share:Basic

$
(0.94
)
$
(1.26
)
$
(1.88
)
$
0.55Diluted

$
(0.94
)
$
(1.26
)
$
(1.88
)
$
0.54


The
Company did not include 3 dilutive shares underlying stock options, 453 dilutive shares underlying restricted stock units or 8,847 shares of Series B Preferred Stock in the
computation of diluted net loss per share for the three months ended December 31, 2008 as the effect would have been antidilutive. The Company did not include 4 dilutive shares underlying stock
options, 629 dilutive shares underlying restricted stock units or 6,539 shares of Series B Preferred Stock in the computation of diluted net loss per share for the six months ended
December 31, 2008 as the effect would have been antidilutive.

26

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(13) Commitments and Contingencies

TERI

TERI is a private, not-for-profit Massachusetts organization as described under section 501(c)(3) of the
Internal Revenue Code. Incorporated in 1985, TERI is the oldest and largest guarantor of alternative, or private, education loans. In its role as guarantor in the private education lending market,
TERI agreed to reimburse lenders and securitization trusts for unpaid principal and interest on defaulted loans. Historically, TERI was the exclusive third party provider of borrower default
guarantees for the Company's clients' private education loans.

Historical Relationship.In 2001, the Company acquired TERI's historical database and loan processing operations, but not its investment
assets or
guaranty liabilities. In connection with the transaction, the Company entered into a series of agreements with respect to loan processing services, database updates and the securitization of
TERI-guaranteed loans. These included the Master Servicing Agreement, a database sale and supplementation agreement (Database Agreement) and a master loan guaranty agreement (Master Loan
Guaranty Agreement). Pursuant to the Master Servicing Agreement, TERI engaged the Company to provide loan origination, default prevention, claims and default management services. Under TERI's
agreements with lenders, lenders delegated their loan origination functions to TERI, and TERI had the right to subcontract these functions. Pursuant to the Database Agreement, TERI provided updated
information to the Company about the performance of the education loans it had guaranteed, so that the Company could continue to supplement and enhance the Company's database.

Under
the terms of the Master Loan Guaranty Agreement, the Company granted TERI a right of first refusal to provide a third party loan guaranty under existing and future private
education loan programs facilitated by the Company, as well as new loan programs jointly created by the Company and TERI. In addition, the Company agreed to provide a beneficial interest for TERI in a
portion of the residual value of securitization trusts that purchased TERI-guaranteed loans. The Master Loan Guaranty Agreement generally provided that the guaranty fees earned by TERI
upon the disbursement of education loans would be placed by TERI in segregated reserve accounts to be held as collateral to secure TERI's obligations to pay the principal and interest on defaulted
education loans. These accounts were generally held by third party financial institutions for the benefit of the program lender until the education loans were securitized, at which point the accounts
were pledged to the securitization trust that purchased the loans. The Master Loan Guaranty Agreement, as it had been implemented through guaranty agreements with individual lenders, entitled TERI to
retain a portion of its guaranty fees as an administrative fee rather than place them in the Pledged Accounts.

TERI Reorganization.On April 7, 2008, TERI filed a voluntary petition for reorganization under Chapter 11 of the Bankruptcy
Code. The
TERI Reorganization has had, and will likely continue to have, a material negative effect on the Company's client relationships, facilitated loan volume, ability to structure loan securitizations, the
value of its service receivables and its ability to realize fully TERI's cost reimbursement and guaranty obligations.

In
April 2008, the Company received notice that Bank of America elected to terminate its agreements with the Company due to the TERI Reorganization. Loans funded by Bank of America
represented approximately 29% of the Company's total loans available for securitization as of December 31, 2008. The Company has the right to facilitate the securitization of Bank of America

27

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(13) Commitments and Contingencies (Continued)

loans
originated prior to the termination, subject to the terms and conditions of the note purchase agreements between the Company and Bank of America.

The
Company also received notice in April 2008 that RBS elected to terminate certain agreements with the Company and its clients. The Company provided services to RBS in connection with
various private education loan programs (RBS Programs), including RBS Programs marketed by third parties that were not themselves lenders (Program Marketers) and RBS Programs marketed under RBS'
private label brands. Subject to the terms and conditions of note purchase agreements between RBS and the Company, the Company had the right to facilitate securitization of RBS Program loans. The
Company had also entered into agreements among RBS, Program Marketers and the Company pursuant to which the Company coordinated the marketing of certain RBS Programs. As a result of the terminations,
neither RBS nor the Company has any further obligations to sell or purchase certain RBS Program loans, and the affected Program Marketers were required to cease all marketing activities with regard to
their RBS Programs. Loans funded by RBS represented approximately 30% of the Company's total loans available for securitization as of December 31, 2008.

In
July 2008, the Bankruptcy Court entered an order granting a motion by TERI to terminate the loan origination agreement and guaranty agreement between TERI and JPMorgan Chase. TERI and
JPMorgan Chase entered into a stipulation in connection with the motion, providing for certain agreements among the parties with regard to the terminations. Pursuant to the stipulation, TERI agreed to
return to JPMorgan Chase a portion of the guaranty fees previously paid by JPMorgan Chase to TERI with regard to private education loans funded and currently owned by JPMorgan Chase (Program Loans),
and JPMorgan Chase waived and relinquished any further guaranty claims against TERI with regard to the Program Loans. The Company had the right to facilitate securitization of the Program Loans,
subject to the terms and conditions of the note purchase agreement between the Company and JPMorgan Chase (NPA). As a result of the termination of the guaranty agreement, the NPA also terminated. As a
result, JPMorgan Chase no longer has any further obligations to sell and the Company no longer has any obligation to purchase Program Loans pursuant to the NPA. Consequently, the Company will not be
purchasing from JPMorgan Chase, pursuant to the NPA, Program Loans totaling approximately $700,000 funded by JPMorgan Chase prior to the termination of the NPA.

The
Company expects that the guaranty agreements or loan origination agreements that TERI has with a significant number of the Company's clients will be terminated in the context of the
TERI Reorganization. Termination of a client's guaranty agreement or loan origination agreement with TERI would generally result in the termination of the Company's agreements with that client. As a
result, the Company expects its note purchase agreements with additional clients to terminate in the future as the TERI Reorganization evolves. The Company also expects the TERI Reorganization to
materially adversely affect FMC's ability to facilitate the securitization of TERI-guaranteed loans. If FMC is able to facilitate securitizations of TERI-guaranteed loans in
the future, FMC's up-front structural advisory fee yields would decline and market conditions would likely dictate that FMC obtain additional credit enhancement for such securitizations,
the cost of which would result in lower revenues and additional cash requirements.

Transition Services Agreement.In June 2008, the Bankruptcy Court entered an order approving a motion by TERI to reject the Master
Servicing
Agreement, the Master Loan Guaranty Agreement and

28

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(13) Commitments and Contingencies (Continued)

the
Database Agreement, as well as the marketing services agreement pursuant to which the Company provided certain marketing related services to TERI. As a result of the order, each of the agreements,
as amended or supplemented to date, was terminated effective as of May 31, 2008. The order also approved a motion by TERI to enter into the Transition Services Agreement.

The
term of the Transition Services Agreement expired on September 29, 2008. In October 2008, the Company entered into a letter agreement with TERI, subject to subsequent approval
by the Bankruptcy Court, to provide limited additional transition services to TERI, including continued occupancy through December 15, 2008 of certain office space subleased by TERI from the
Company. TERI paid $194 of rent in advance in consideration for the continued occupancy, and the sublease relating to the office space terminated as of December 15, 2008.

Claims Estimation.In November 2008, First Marblehead Education Resources, Inc. (FMER) filed a motion with the Bankruptcy Court
that proposed
a framework for estimating all trust and lender guaranty claims against TERI's bankruptcy estate. The framework would have determined the amount of a trust's or lender's unsecured guaranty claim,
based on certain information provided with regard to its TERI-guaranteed loan portfolio and certain fixed assumptions applied across all portfolios. The motion, which was prompted by the
Company's concern with the efficient administration of the bankruptcy estate, argued that there would be no substantial progress toward a global settlement of claims or plan of reorganization without
a uniform estimation procedure.

Both
TERI and the Creditors Committee formally objected to the motion, generally arguing that they had been developing an alternative framework for use in estimating creditors' guaranty
claims against TERI's estate. In addition, certain lenders objected to the Company's motion, generally arguing with substantive aspects of the estimation methodology that the Company proposed.

The
Bankruptcy Court continued the motion indefinitely in mid-December. The Company has subsequently assisted the Creditors Committee and its advisors in developing their
estimation framework. TERI had not resumed paying guaranty obligations with respect to defaulted loans of lenders holding TERI-guaranteed loans that have not been securitized, including
Union Federal, as of February 9, 2009.

Challenge to Security Interests.In June 2008, the Bankruptcy Court entered an order approving a motion by TERI to purchase defaulted
loans using
cash in the Pledged Accounts. The order was granted subject to the following:



29

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(13) Commitments and Contingencies (Continued)



Neither
the Creditors Committee nor any other party challenged the trusts' security interests in the Pledged Accounts within the 14-day period following the order. As a
result, beginning in
July 2008, TERI resumed paying its obligations under the guaranty agreements with respect to defaulted loans from the trusts, but only to the extent there is cash in the Pledged Account established
for the benefit of the specific trust that owned the defaulted loan.

The
Bankruptcy Court, upon motion of the Creditors Committee, subsequently extended until February 2, 2009 the parties' rights to challenge the trusts' security interests in the
collateral other than the Pledged Accounts. On January 30, 2009, the Creditors Committee filed an adversary complaint in the Bankruptcy Court against the owner trustee and indenture trustee of
17 securitization trusts, and against FMDS, as administrator of such trusts. The complaint generally alleges that the security interests granted by TERI to the trusts, excluding the security interests
in the Pledged Accounts, are unperfected or may otherwise be avoided under Section 552 of the Bankruptcy Code. In particular, the complaint alleges that the trusts do not have enforceable
rights to future recoveries on defaulted loans owned by TERI with an aggregate principal and accrued interest balance of approximately $575,100 as of January 31, 2009, or in amounts owed or
transferred by TERI to Pledged Accounts after the filing of TERI's petition for reorganization totaling approximately $26,964 as of January 31, 2009. The Company cannot at this time predict the
timing, costs or outcome of the adversary proceeding, and has not adjusted its accounting assumptions as of December 31, 2008 in response to this development. To the extent the trusts continue
to request that TERI make guaranty claims payments from the Pledged Accounts and to transfer the defaulted loans to TERI in respect of the guaranty payments, the amount of defaulted loans the
recoveries of which are subject to the Creditors Committee's challenge will continue to increase.

If
the Creditors Committee or any other party is successful in challenging the trusts' security interests in the Post-Petition Transfers or other collateral, the amount of
pledged collateral available exclusively to a particular securitization trust to satisfy TERI's guaranty obligations to that trust would decrease materially. As a result, the trust's unsecured claims
against TERI would increase proportionately. For example, recoveries from defaulted education loans transferred to TERI, which have historically been used to replenish a particular trust's Pledged
Account, would instead become an asset of TERI's bankruptcy estate and available to satisfy administrative claims of TERI's bankruptcy estate and other holders of claims in accordance with the
priorities established by the Bankruptcy Code. Recoveries from defaulted loans not transferred to TERI, however, would remain available to the trusts.

Beginning
in July 2008, TERI resumed paying its obligations under the guaranty agreements with respect to defaulted loans from the trusts, but only using cash in the Pledged Account
established for the benefit of the specific trust that owned the defaulted loan. As of February 9, 2009, TERI is not permitted to satisfy its guaranty obligations using funds from TERI's
general reserves. Funds in the Pledged Accounts of certain trusts have been exhausted, or are expected to be exhausted in the near term, at which point such trust will have a general unsecured claim
against TERI. A successful

30

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(13) Commitments and Contingencies (Continued)

challenge
to the security interests could therefore decrease materially the value of the Company's service receivables.

Securities Litigation

In April and May 2008, seven purported class action lawsuits were filed against the Company and certain of its current and former
officers and directors in the United States District Court for the District of Massachusetts. The plaintiffs allege, among other things, that the defendants made false and misleading statements and
failed to disclose material information in various SEC filings, press releases and other public statements. The complaints allege various claims under the Securities Exchange Act of 1934, as amended
(Exchange Act) and Rule 10b-5 promulgated thereunder. The complaints seek, among other relief, class certification, unspecified damages, fees and such other relief as the court may
deem just and proper. In August 2008, the court consolidated these cases and appointed lead plaintiffs and a lead counsel.

On
November 28, 2008, a consolidated amended complaint was filed by the lead plaintiffs and contained similar allegations as the earlier complaints. On February 9, 2009,
the Company filed a motion to dismiss the amended complaint. Plaintiffs opposition to the Company's motion to dismiss is due to be filed in April 2009. A class had not been certified in the actions as
of February 9, 2009.

In
addition, in May and June 2008, three federal derivative lawsuits were filed against certain of the Company's current and former officers and directors and nominally against it in the
United States District Court for the District of Massachusetts. The complaints are purportedly brought on behalf of the Company to remedy alleged violations of federal and state law, including
violations of the Exchange Act, breaches of fiduciary duties, waste of corporate assets and unjust enrichment, which allegedly occurred between August 2006 and May 2008 or June 2008, as applicable.
The complaints seek a monetary judgment, injunctive relief, restitution, disgorgement and a variety of purported corporate governance reforms. In August 2008, the court consolidated the federal
derivative cases and stayed them pending resolution of the purported class actions described above. A state derivative action was also filed in Massachusetts Superior Court in June 2008. The complaint
is purportedly brought on behalf of the Company to remedy alleged violations of federal and state law, including breaches of fiduciary duties, abuse of control, gross mismanagement, waste of corporate
assets and unjust enrichment, which allegedly occurred between August 2006 and June 2008. The complaint seeks a monetary judgment, injunctive relief, restitution, disgorgement, and costs and
disbursements of the action. In January 2009, the court stayed the case until July 2009.

The
Company intends to vigorously assert its defenses in each of the actions. There can be no assurance, however, that the Company will be successful, and an adverse resolution of any of
the lawsuits could have a material adverse effect on the Company's consolidated financial position and results of operations in the period in which a lawsuit is resolved. In addition, although the
Company carries insurance for these types of claims, a judgment significantly in excess of its insurance coverage could materially and adversely affect the Company's financial condition, results of
operations and cash flows. The Company is not presently able to reasonably estimate potential losses, if any, related to the lawsuits.

31

---



Table of Contents

THE FIRST MARBLEHEAD CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(dollars and shares in thousands, except per share amounts)

(14) New Accounting Pronouncements

In May 2008, the FASB issued SFAS No. 163,Accounting for Financial Guarantee Insurance Contracts, an interpretation of FASB
Statement No. 60. SFAS No. 163 will become effective for the Company beginning in the first quarter of fiscal 2010. The statement requires that an insurance enterprise recognize a claim
liability prior to an event of default (insured event) when there is evidence that credit deterioration has occurred in an insured financial obligation, clarifies how Statement 60 applies to financial
guarantee insurance contracts, including the recognition and measurement to be used to account for premium revenue and claim liabilities, and requires expanded disclosures about financial guarantee
insurance contracts. The adoption of SFAS No. 163 is not expected to have a material impact on the Company's consolidated financial condition or results of operations.

32

---





Table of Contents

Item 2.    Management's Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis of our financial condition and results of operations
together with our unaudited condensed consolidated financial statements and accompanying notes included in this quarterly report.

Factors That May Affect Future Results

In addition to historical information, this quarterly report includes forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and Section 27A of the Securities Act of 1933, as amended, or the Securities Act. For this purpose,
any statements contained herein regarding our strategy, future
operations and products, financial position, future revenues and funding transactions, projected costs, prospects, plans and objectives of management, other than statements of historical facts, are
forward-looking statements. The words "anticipates," "believes," "estimates," "expects," "intends," "may," "observe," "plans," "projects," "will," "would," and similar expressions are intended to
identify forward-looking statements, although not all forward-looking statements contain these identifying words. We cannot guaranty that we actually will achieve the plans, intentions or expectations
expressed or implied in our forward-looking statements, which involve risks, assumptions and uncertainties. There are a number of important factors that could cause actual results, levels of activity,
performance or the timing of events to differ materially from those expressed or implied in the forward-looking statements we make. These important factors include our "critical accounting estimates"
set forth below under "Application of Critical Accounting Policies and Estimates" and factors including, but not limited to, those set forth below under the caption "Risk Factors" in
Item 1A of Part II of this quarterly report. Although we may elect to update forward-looking statements in the future, we specifically disclaim any obligation to do so, even if our
estimates change, and readers should not rely on those forward-looking statements as representing our views as of any date subsequent to February 9, 2009.

Executive Summary

Recent Developments

Our inability to access the securitization markets as a result of market disruptions continued during the second quarter of fiscal
2009. That inability, together with the reorganization in bankruptcy of The Education Resources Institute, Inc., or TERI, has strained our client relationships, resulted in the termination of
several material client agreements, reduced our facilitated loan volume and created uncertainty about our business prospects. We have made significant changes in our senior leadership, and have made
significant expense reductions in an attempt to overcome the challenges currently facing us. In addition, we are developing a new private education loan product that we expect to have available to
prospective lender clients in the fourth quarter of fiscal 2009. We have summarized below developments affecting our business and financial results:



33

---



Table of Contents



Overview

We offer outsourcing services for private education lending in the United States. We offer services to national and regional financial
institutions and educational institutions for designing and implementing private education loan programs. In addition, our wholly owned subsidiary Union Federal is a federally chartered thrift
regulated by the OTS, that has offered private education loans directly to

34

---



Table of Contents

consumers
and currently offers residential retail mortgages, retail savings products, time deposit products and demand deposit accounts.

We
offer services in connection with each of the five typical phases of the education loan lifecycle, enabling our clients to have a single point of interface
for:



Historically,
the primary driver of our results of operations and financial condition has been the volume of education loans for which we have provided outsourcing services from loan
origination through securitization. Securitization refers to the technique of pooling loans and selling them to a special purpose, bankruptcy remote entity, typically a trust, which issues securities
backed by those loans to investors. We have provided structural, advisory and other services for 38 securitization transactions since our formation in 1991, and education loan asset-backed
securitizations have historically been our sole source of permanent financing for our clients' private education loan programs.

We
have not taken a direct ownership interest in the education loans our clients have generated, nor have we served as a guarantor with respect to any education loan programs that we
have facilitated. We have generally assisted the lenders in our loan programs in selecting their underwriting criteria used in deciding whether an education loan will be made to an applicant. However,
each lender has had ultimate control over the selection of these criteria, and in providing our services we have been obligated by contract to comply with them. Union Federal has funded a portion of
our proprietary loan programs in the past, although it is not doing so as of February 9, 2009. Union Federal held approximately $518.9 million of private education loans, at historical
cost, as of December 31, 2008, of which loans with a principal and interest receivable balance of $258.3 million were pledged as collateral under a warehouse facility provided by a
conduit lender. Our proprietary loan programs are Astrive Student Loans, Monticello Student Loans and Laurel Collegiate Loans.

Our
lender clients have previously had the opportunity to mitigate their credit risk through a loan repayment guaranty by TERI, pursuant to which TERI guaranteed repayment of the
borrower's loan principal, including capitalized interest together with accrued and unpaid interest, on defaulted loans. Lenders that wished to have TERI guaranty their loans were required to meet
TERI's underwriting criteria.

In
the past, we offered our clients a fully integrated suite of outsourcing services, but we did not charge separate fees for many of those services. Moreover, although we received fees
for providing loan processing services to TERI in connection with TERI-guaranteed loans, and fees from certain of our clients for marketing coordination services, those fees represented
reimbursement of the direct expenses we incurred. Accordingly, we did not earn a profit on those fees in the past. Although we provided those various services without charging a separate fee, or at
"cost" in the case of processing services for TERI-guaranteed loans and marketing coordination services, we generally entered into agreements with the lender clients giving us the
exclusive right to securitize the education loans that they did not intend to hold. We received structural advisory fees and residuals for facilitating securitizations of those loans.

We
have been unable to access the securitization market since September 2007 as a result of market disruptions that began in the second quarter of fiscal 2008 and persist as of
February 9, 2009. That inability, together with the TERI Reorganization, has impacted our client relationships, resulted in

35

---



Table of Contents

the
termination of certain material client agreements, reduced our facilitated loan volume and challenged our business prospects. During the first six months of fiscal 2008, we facilitated loans with
an aggregate principal balance of $3.5 billion and received $83.5 million in processing fees from TERI. In contrast, during the first six months of fiscal 2009, we facilitated loans with
an aggregate principal balance of $193.4 million and received $2.6 million in processing fees from TERI.

We
have refined our products and services, made major changes in senior management and significantly reduced our operating expenses, in an attempt to overcome the challenges currently
facing us. We have developed a new private education loan program that does not require a guaranty from a third party, as well as outsourced loan origination services and portfolio management services
on a stand alone fee basis. As a result, we are able to offer both a fully integrated suite of services for private education loan programs, as well as certain services on a
fee-for-service basis. We are developing a new private education loan product that we expect to have available to prospective lender clients in the fourth quarter of fiscal
2009. The success of the product under development will be critical to growing and diversifying the Company's revenues and client base. As in the past, we expect our level of profitability to continue
to depend in the future on our ability to earn structural advisory fees, residuals for facilitating securitizations as well as reimbursement for services performed on behalf of our clients.

Changes
in any of the following factors have materially affected, and may continue to materially affect, our financial results:



36

---



Table of Contents



Business Trends and Uncertainties

Portfolio Funding.Dislocations in the debt capital markets persisted throughout the first six months of fiscal 2009, and we did not
complete a
securitization during the period. We expect the TERI Reorganization to materially adversely affect our ability to facilitate the securitization of TERI-guaranteed loans. As a result, we do
not expect to complete a securitization in the near-term and may not complete any securitizations during fiscal 2009.

In
addition, we expect pricing terms in future securitizations, if any, to be substantially less favorable than in the past and investors to have limited or no demand for subordinate
tranches of ABS in securitization transactions, if any, that we are able to facilitate. If we are able to facilitate the securitization of TERI-guaranteed loans in the future, our
up-front structural advisory fee yields would likely decline and market conditions would likely dictate that we
obtain or provide additional credit enhancement for such securitizations, the cost of which would result in lower revenues and additional cash requirements.

Education
loan asset-backed securitizations have historically been our sole source of permanent financing for our clients' private education loan programs. We have pursued alternative
means to finance our clients' loans, but other sources of funding have not been available on acceptable terms, if available at all. Recent conditions in the capital markets have generally resulted in
a substantial widening of credit spreads and significantly more restrictive covenants, which have adversely affected the pricing, terms and conditions of alternative funding mechanisms we have
pursued. In addition, the TERI Reorganization and subsequent TERI ratings downgrades resulted in events of termination under the indenture relating to an education loan warehouse facility to fund the
purchase of education loans from Union Federal. As a result, the facility is no longer available to finance education loans originated by Union Federal on an interim basis.

We
believe that the TALF proposed by the Federal Reserve Board and the U.S. Department of Treasury has the potential to facilitate the issuance of ABS and improve market conditions for
ABS more generally. Under the TALF, which is expected to become operational in February 2009, the Federal Reserve Bank of New York will provide non-recourse three-year loans to
eligible borrowers owning eligible collateral, including ABS backed by private student loans. The terms and conditions of the TALF have not been finalized as of February 9, 2009, but we intend
to participate to the extent of our eligibility.

TERI ReorganizationTransition Services.In June 2008, in the context of the TERI Reorganization, our "master" agreements with
TERI were
terminated, effective as of May 31, 2008. We entered into a transition services agreement with TERI pursuant to which we provided a reduced level of services, and received a reduced level of
fees. The term of the transition services agreement expired on September 29, 2008. In October 2008, we entered into a letter agreement with TERI, subject to subsequent approval by the
Bankruptcy Court, to provide limited additional services to TERI, including continued occupancy through December 15, 2008 of certain office space subleased by TERI from us. TERI paid
$0.2 million of rent in advance in consideration for the continued occupancy, and the sublease relating to the office space terminated on December 15, 2008. We do not expect to receive a
material level of fees from TERI in the future.

TERI ReorganizationClaims Estimation and Plan of Reorganization.We remain uncertain about the amount of unsecured creditors'
claims,
including the unsecured claims of the securitization trusts and Union Federal, or the timing or content of TERI's plan of reorganization.

In
November 2008, we filed a motion with the Bankruptcy Court that proposed a framework for estimating all trust and lender claims against TERI's bankruptcy estate. The framework would
have

37

---



Table of Contents

determined
the amount of a trust's or lender's unsecured guaranty claim, based on certain information provided with regard to its TERI-guaranteed loan portfolio and certain fixed
assumptions applied across all portfolios. The motion, which was prompted by our concern with the efficient administration of the bankruptcy estate, argued that there would be no substantial progress
toward a global settlement of claims or plan of reorganization without a uniform estimation procedure. Both TERI and the creditors committee formally objected to the motion, generally arguing that
they had been developing an alternative framework for use in estimating creditors' guaranty claims against TERI's estate. In addition, certain lenders objected to our motion, generally arguing with
substantive aspects of the estimation methodology that we proposed. The Bankruptcy Court continued the motion indefinitely in mid-December. We have subsequently assisted the creditors
committee and its advisors in developing their estimation framework. Until a framework is finalized and applied to all of TERI's creditors, we will not be able to estimate the amount of unsecured
creditors' claims against TERI in the TERI Reorganization, or the expected rate of recovery with regard to such claims.

On
January 21, 2009, the Bankruptcy Court granted a motion by TERI to extend until April 3, 2009 the exclusive period during which TERI may file a plan of
reorganization. According to the motion, the creditors committee and TERI have made substantial progress on formulating a plan, the proposed timing or terms of which have not been disclosed to us.

TERI ReorganizationChallenge to Security Interests.The creditors committee is challenging certain security interests of the
securitization trusts. We cannot predict the timing, costs or outcome of the challenges, which could decrease materially the collateral available to the trusts and the estimated fair value of our
service receivables.

In
June 2008, the Bankruptcy Court entered an order approving a motion by TERI to purchase defaulted loans using cash in certain accounts, which we refer to as the pledged accounts. The
pledged accounts were funded with guaranty fees earned by TERI upon disbursement of education loans and held as collateral to secure TERI's obligations to pay the principal and interest on defaulted
education loans. The pledged accounts were generally held by third party financial institutions for the benefit of a program lender until the education loans were securitized, at which point the
accounts were pledged to the securitization trust that purchased the loans.

The
Bankruptcy Court's order was granted subject to the following:



Neither
the creditors committee nor any other party challenged the trusts' security interests in the pledged accounts within the 14-day period following the order. As a
result, beginning in July 2008, TERI resumed paying its obligations under the guaranty agreements with respect to defaulted loans from the trusts, but only to the extent there is cash in the pledged
account established for the benefit of the specific trust that owned the defaulted loan.

38

---



Table of Contents

The
Bankruptcy Court, upon motion of the creditors committee, subsequently extended until February 2, 2009 the parties' rights to challenge the trusts' security interests in the
collateral other than the pledged accounts. On January 30, 2009, the creditors committee filed an adversary complaint in the Bankruptcy Court against the owner trustee and indenture trustee of
seventeen securitization trusts, and against FMDS as administrator of such trusts. The complaint generally alleges that the security interests granted by TERI to the trusts, excluding the security
interests in the pledged accounts, are unperfected or may otherwise be avoided under Section 552 of the Bankruptcy Code. In particular, the complaint alleges that the trusts do not have
enforceable rights to future recoveries on defaulted loans owned by TERI with an aggregate principal and accrued interest balance of approximately $575.1 million as of January 31, 2009,
or in amounts owed or transferred by TERI to pledged accounts after the filing of TERI's petition for reorganization totaling approximately $27.0 million as of January 31, 2009. We
cannot at this time predict the timing, costs or outcome of the adversary proceeding, and have not adjusted our accounting assumptions as of December 31, 2008 in response to this development.
To the extent the trusts continue to request that TERI make guaranty claims payments from the pledged accounts and to transfer the defaulted loans to TERI in respect of the guaranty payments, the
amount of defaulted loans the recoveries of which are subject to the creditors committee's challenge will continue to increase.

If
the creditors committee or any other party is successful in challenging the trusts' security interests in the post-petition transfers to the pledged accounts or other
collateral, the amount of pledged collateral available exclusively to a particular securitization trust to satisfy TERI's guaranty obligations to that trust would decrease materially. As a result, the
trust's unsecured claims against TERI would increase proportionately. For example, recoveries from defaulted education loans transferred to TERI, which have historically been used to replenish a
particular trust's pledged account, would instead become an asset of TERI's bankruptcy estate and available to satisfy administrative claims of TERI's bankruptcy estate and other holders of claims.
Recoveries from defaulted loans not transferred to TERI, however, would remain available to the trusts.

Funds
in the pledged accounts of certain trusts have been exhausted, or are expected to be exhausted in the near term, at which point such trust will have a general unsecured claim
against TERI. TERI has not resumed paying guaranty obligations using its general reserves or with respect to defaulted loans that have not been securitized and are held by program lenders, including
Union Federal.

TERI ReorganizationAccounting Assumptions.We did not adjust our accounting assumptions during the six months ended
December 31,
2008 regarding TERI. As of February 9, 2009, TERI had not rejected or otherwise indicated how it will treat its guaranty obligations to lenders, including Union Federal. As a result, it is
uncertain how collateral securing such obligations will be treated or applied to satisfy TERI's obligations. The adversary complaint filed by the creditors committee creates further uncertainty
regarding the trusts' rights to future recoveries on defaulted loans owned by TERI and amounts transferred by TERI to pledged accounts after April 7, 2008. For purposes of estimating the fair
value of our service receivables, we assumed at December 31, 2008 that the application of collateral will continue in the ordinary course in accordance with existing agreements and that the
trusts have rights to the amounts that are the subject of the creditors committee's complaint. A successful challenge to the security interests could decrease materially the value of our service
receivables.

39

---



Table of Contents

TERI ReorganizationClient Terminations.Certain of our agreements with clients provide for termination rights in the event of the
filing
by TERI of a voluntary petition under federal bankruptcy laws. As a result of the TERI Reorganization, certain clients, including JPMorgan Chase Bank, N.A., Bank of America, N.A. and RBS Citizens,
N.A. have terminated some or all of their agreements with us. These terminations will result in a significant reduction in our facilitated loan volumes during fiscal 2009 compared to prior fiscal
years. In addition, we expect that the guaranty agreements or loan origination agreements that a significant number of our clients have with TERI will be terminated in the context of the TERI
Reorganization. Termination of a client's guaranty agreement or loan origination agreement with TERI would generally result in the termination of our agreements with the client. As a result, we expect
to lose additional clients in the future as the TERI Reorganization evolves unless we can develop an alternative to a TERI-guaranteed private education loan program acceptable to former,
current and prospective clients.

Prepayment and Default Trends.Although it can be difficult to discern trends in the overall portfolio, we observed that prepayment
rates continued
to decline during the second quarter of fiscal 2009. Prepayment rates generally rose for the first three quarters of fiscal 2008 and generally fell during the past three fiscal quarters. We estimate
that prepayment rates decreased by more than 50% since March 31, 2008, primarily due, we believe, to an increase in the spread between the forward London Interbank Offered rate, or LIBOR, and
prevailing mortgage rates, limited availability of consumer credit and current economic conditions. During the second quarter of fiscal 2009, we adjusted our
prepayment assumptions to assume that the current historically low prepayment rate would generally persist for 12 months and eventually revert to historical norms during the ensuing
12 months.

During
the second quarter of fiscal 2009, defaults generally increased in our securitized loan portfolio, causing us to adjust upward our assumed gross default assumptions, from 15.96%
to 16.58%, and our net default assumptions, from 8.30% to 8.62%. We believe that defaults trended higher during the quarter primarily as a result of the generally adverse consumer credit trends and,
to a lesser extent, an increase in the number of loans entering repayment. Education loans tend to experience higher rates of delinquencies and defaults in the early years of repayment compared to
later years. Over the past eight months, we have implemented several collections initiatives, including "early awareness" campaigns and increased focus on early stage delinquencies, which we expect to
reduce delinquencies and, ultimately, defaults over the long term. However, in the short term we remain uncertain of their effect, and we have concluded that despite apparently positive initial
results, it would be premature to assume positive long-term trends as of December 31, 2008.

Write-down of Service Receivables and Loans Held for Sale.Our financial results for the second quarter of fiscal 2009 reflected our
inability to access the securitization market, as well as:



In
general, each of these adjustments was necessary as a result of conditions in the capital markets and performance trends. We believe that our portfolios of securitized and
unsecuritized loans may continue to be adversely affected by a negative consumer credit cycle that is affecting many other classes of consumer credit.

Liquidity and Capital Resources.In August 2008, we received $132.7 million in gross proceeds from the sale of shares of
series B
preferred stock to affiliates of GS Capital Partners, or GSCP. The

40

---



Table of Contents

proceeds
provided us with liquidity and capital resources that will be critical to our short-term funding requirements. Our short-term needs, however, remain subject to
uncertainties regarding regulatory capital requirements of Union Federal. Union Federal's regulatory authorities have from time to time requested that we provide additional capital to Union Federal.
If these authorities were to require us to make additional infusions of regulatory capital into Union Federal, our short-term liquidity needs would be adversely affected.

During
the last two quarters of fiscal 2008, we announced a reduction in our overall cost structure, including the reduction of headcount by over 600 employees. During the first two
quarters of fiscal 2009, we further reduced headcount by approximately 100 employees. Following these reductions, we had 234 full-time employees as of December 31, 2008, compared to
1,048 full-time employees as of December 31, 2007.

Product and Management Changes.We have developed alternatives to the loan guaranty and loan origination services that TERI historically
provided to
our clients. We have implemented a private education loan program that does not include a third party guaranty. In addition, we provide outsourced loan origination services and portfolio management
services to a limited number of clients on a fee-for-service, stand alone basis. We are developing a new private education loan product that we expect to have available to
prospective lender clients in the fourth quarter of fiscal 2009. The success of the product under development will be critical to growing and diversifying our revenues and client base in the future.
Compared to past TERI-guaranteed loan programs, we are designing the loan product to strengthen the creditworthiness of the resulting assets, through redesigned risk-based
pricing and enhanced cosigner participation, and by aligning risk and product options to promote a greater portion of immediate repayment loans, or loans for which payment of principal and interest
begins shortly after final disbursement, and interest-only loans, or loans for which payment of interest begins shortly after disbursement but payment of principal is deferred during
enrollment. We are uncertain of the level of interest from former, current or prospective lender clients with regard to the new program or the offered services, particularly in the current economic
environment. Union Federal is not, as of the date of this report, able to fund loan originations in the private education loan program due to its current lack of funding capacity, and it may be
necessary for Union Federal to obtain regulatory clearance before offering such a product.

We
experienced significant changes in senior management during the first quarter of fiscal 2009. Daniel Meyers returned to the company as Chief Executive Officer and President, and as a
director, effective September 1, 2008. Mr. Meyers co-founded the company and served as our Chief Executive Officer and Chairman of the Board from our incorporation in 1994 to
September 2005 and
as our President from November 2004 to September 2005. In addition, four executive vice presidents left our company as of September 30, 2008, including our chief financial officer, who also
headed our capital markets department, our chief administrative officer, our chief marketing officer and our chief information officer. We have reconstituted our senior management team, and the loss
of any such key employees could adversely affect our business. If we are unable to manage our cost reductions, or if we lose key employees as a result, our operations and our financial results could
be adversely affected. These challenges are further discussed below under Item 1A, "Risk FactorsRisks Related to Our Industry, Business and Operations."

Although
significant uncertainty exists regarding the success or market acceptance of our new products and services and our ability to access the securitization markets, we believe that
the strategic realignment and management changes that we have undertaken should position the company to lead the next product cycle and compete in a re-emerging private education loan
marketplace.

The
information described under the caption "Risk Factors" in Item 1A of Part II of this quarterly report also contains important factors that you should consider in
assessing our business.

41

---



Table of Contents

Securitizations and Related Revenue

We have historically structured and facilitated securitization transactions for our clients through a series of bankruptcy remote,
qualified special purpose statutory trusts. Through the securitization process, the trusts obtain private education loans from the originating lenders or their assignees, which relinquish to the trust
their ownership interest in the loans. The debt instruments that the trusts issue to finance the purchase of these education loans are obligations of the trusts, rather than our obligations or those
of originating lenders or their assignees. We refer to the trusts utilized in the securitization of TERI-guaranteed private education loans as private label loan trusts.

At
December 31, 2008, the principal balance of loans facilitated and available to us for securitization was approximately $2.4 billion of which $94.4 million was
facilitated during the first six months of fiscal 2009. Under the terms of our purchase agreements with lender clients, we generally have an obligation to use our best efforts to facilitate the
purchase of the client's loans during a specified loan purchase period. The length of the loan purchase period varies by client and generally ranges from 195 days to 555 days following
final loan disbursement. Under the terms of certain of our purchase agreements, if
we fail to facilitate a purchase in breach of our obligations, our damages would be limited to liquidated damages of one percent of the total principal amount of the loans as to which the loan
purchase period had expired. Certain other purchase agreements, however, do not include a liquidated damages provision.

Those
purchase agreements that limit our liability to liquidated damages generally provide that our obligation to close a securitization is subject to the condition that no "market
disruption event" has occurred. The TERI Reorganization constitutes a "market disruption event" under certain of these purchase agreements, suspending our contractual obligation to close a
securitization with respect to approximately $701.7 million of our facilitated loan volume available for securitization as of December 31, 2008, excluding approximately
$461.0 million of loan volume originated by Union Federal. Any liquidated damages would be due at the expiration of the relevant loan purchase period, which would not occur for a period of time
after the market disruption event ceases. Our purchase agreements applicable to approximately $1.2 billion of the facilitated loan volume available for securitization as of December 31,
2008 do not include a liquidated damages provision in the event that we fail to facilitate a securitization in breach of our obligations, and the amount of our potential liability with respect to such
loans is not determinable at this time. The purchase agreements generally require us to use our best efforts to facilitate a securitization of loans available for securitization within 555 days
after final loan disbursement.

We
have received several types of fees in connection with our past securitization services:



42

---



Table of Contents



Processing Fees from TERI

Historically, we provided outsourcing services for TERI, including loan origination, customer service, default processing, default
prevention and administrative services under a master servicing agreement between TERI and us. We recognized as revenue the monthly reimbursement that TERI provided us for the expenses we incurred in
providing these services. During fiscal 2008, we received

43

---



Table of Contents

$126.5 million
in processing fees from TERI pursuant to the master servicing agreement. In June 2008, in the context of the TERI Reorganization, the Bankruptcy Court entered an order approving
a motion by TERI to reject the master servicing agreement effective as of May 31, 2008. As a result of the termination, we will not receive processing fees from TERI pursuant to the master
servicing agreement for any period after May 31, 2008. In addition, we have a general unsecured claim with regard to $16.0 million of processing fees from TERI that were due, but unpaid,
prior to the filing of TERI's bankruptcy petition. The order, however, approved a motion by TERI to enter into a transition services agreement with us with a term through September 29, 2008. In
October 2008, we entered into a letter agreement with TERI, subject to subsequent approval by the Bankruptcy Court, to provide limited additional services to TERI, including continued occupancy
through December 15, 2008 of certain office space subleased by TERI from us. Processing fees from TERI during the first six months of fiscal 2009 in the amount of $2.6 million
represented fees from TERI pursuant to the transition services agreement or the subsequent letter agreement. We do not expect to receive a material amount of processing fees from TERI in the future.

Recognition and Valuation of Service Revenue

We recognize up-front structural advisory fees as revenue at the time the securitization trust purchases the loans. In
order for the securitization trust to purchase the loans, all of the applicable services must be performed, rating agencies must deliver their ratings letters, transaction counsel must deliver the
required legal opinions and the underwriters must receive the debt securities issued by the securitization trust. These events indicate that the securitization transaction has been properly structured
and loans have been properly sold to the securitization trust.

As
required under accounting principles generally accepted in the United States of America, or GAAP, we also recognize the fair value of additional structural advisory fees and residuals
as revenue at that time, as they are deemed to be earned at the time of the securitization but before we actually receive payment. These amounts are deemed earned because evidence of an arrangement
exists, we have provided the services, the fee is fixed and determinable based upon a discounted cash flow analysis, there are no future contingencies or obligations and collection is reasonably
assured.

Under
GAAP, we are required to estimate the fair value of the additional structural advisory fees and residuals as if they are investments in debt securities classified as
available-for-sale or trading, similar to retained interests in securitizations. Accordingly, we record additional structural advisory fees and residuals receivable on our
balance sheet at estimated fair value using a discounted cash flow model. Because there are no quoted market prices for our additional structural advisory fees and residuals receivable, we use certain
key assumptions to estimate their values. See "Application of Critical Accounting Policies and EstimatesService Revenue and Receivables and the Valuation of Education Loans
Held for Sale." We estimate the fair value both initially and at each subsequent quarter and reflect the change in the value in earnings for that period.

We
generally recognize administrative and other fees, as well as processing fees from TERI, as revenue at the time that we perform the underlying services. We recognize marketing
coordination fees and marketing premiums earned on proprietary brands, which are components of administrative and other fees, at the time the securitization trust purchases the loans derived from the
related marketing coordination services or when the related expense is incurred.

Quarterly Fluctuations

Our quarterly revenue, operating results and profitability have varied on a quarterly basis in the past primarily as a result of the
timing, size and structure of any capital market transactions that we have facilitated and, to a lesser extent, the seasonality of education loan originations, which in the past has affected the
amount of processing fees from TERI that we earned in a particular quarter. In fiscal

44

---



Table of Contents

2008,
we facilitated two securitizations in the first quarter, but no securitizations during the remainder of the fiscal year. We did not facilitate any securitization transactions during the first
six months of fiscal 2009 and do not expect to facilitate any in the near-term. The variability of our quarterly revenue and operating results may continue on a quarterly basis,
particularly as a result of conditions in the capital markets, developments in the TERI Reorganization and lower levels of facilitated loan volumes. In particular, a continuing inability to access the
capital markets, variations in the size, structure or economic terms of any future transactions, write-downs of our service receivables, write-downs of Union Federal's loan portfolios, and the level
of our facilitated loan volumes and operating expenses, could continue to materially adversely affect and result in increased variability of our operating results on a quarterly basis.

The
following tables set forth certain related quarterly financial and operating data for the first two quarters of fiscal 2009 and each quarter of fiscal 2008:

Fiscal 2009First
Quarter

Second
Quarter

Total(in thousands)Principal amount of education loans facilitated

$
128,089

$
65,283

$
193,372Principal amount of education loans facilitated that were also available to us for securitization

$
83,215

$
11,185

$
94,400Principal and accrued interest balance of education loans securitized

$


$


$
Total revenues

$
(84,904
)
$
(86,095
)
$
(170,999
)Net (loss)

$
(92,896
)
$
(93,387
)
$
(186,283
)




Fiscal 2008First
Quarter

Second
Quarter

Third
Quarter

Fourth
Quarter

Total(in thousands)Principal amount of education loans facilitated

$
2,401,541

$
1,081,324

$
1,249,201

$
271,934

$
5,004,000Principal amount of education loans facilitated that were also available to us for securitization

$
2,227,380

$
982,052

$
1,042,671

$
267,931

$
4,520,034Principal and accrued interest balance of education loans securitized

$
2,027,079










$
2,027,079Total revenues

$
379,962

$
(122,810
)
$
(251,788
)
$
(33,773
)
$
(28,409
)Net income (loss)

$
168,820

$
(117,675
)
$
(229,550
)
$
(56,671
)
$
(235,076
)


Application of Critical Accounting Policies and Estimates

Our consolidated financial statements have been prepared in accordance with GAAP. The preparation of these financial statements
requires us to make estimates, assumptions and judgments that affect the reported amounts of assets and liabilities and the reported amounts of income and expenses during the reporting periods. We
base our estimates, assumptions and judgments
on historical experience and on various other factors that we believe are reasonable under the circumstances. Actual results may differ from these estimates under varying assumptions or conditions.

Our
significant accounting policies are more fully described in Note 2 of the notes to the audited consolidated financial statements for the fiscal year ended June 30,
2008, which are included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC, on August 28, 2008. On an ongoing basis, we evaluate our
estimates and judgments, particularly as they relate to accounting policies that we believe are most important to the portrayal of our financial

45

---



Table of Contents

condition
and results of operations. We regard an accounting estimate or assumption underlying our financial statements to be a "critical accounting estimate" where:



We
have discussed our accounting policies with the audit committee of our board of directors, and we believe that our estimates relating to the recognition and valuation of our
securitization-related revenue and receivables, as described below, fit the definition of critical accounting estimates. We also consider our policy with respect to the determination of whether or not
to consolidate the financial results of the securitization trusts that we facilitate and the valuation of the portfolio of private education loans held by Union Federal to be critical accounting
policies.



For a discussion of our revenue recognition policies, see "Recognition and Valuation of Service Revenue."

On
July 1, 2008, we adopted Statement of Financial Accounting Standards, or SFAS, No. 157, "Fair Value Measurement," effective July 1, 2008. SFAS No. 157
establishes a three-level valuation hierarchy for the use of fair value measurements based upon the transparency of inputs to the valuation of the asset or liability as of the measurement date.

Because
there are no quoted market prices for our additional structural advisory fees, residuals receivable or education loans held for sale, we use discounted cash flow modeling
techniques and the following key assumptions to estimate their values:



We
base these estimates on our proprietary historical data, publicly available third party data and our industry experience, adjusting for specific program and borrower characteristics
such as loan type and borrower creditworthiness. We also monitor trends in loan performance over time and make adjustments we believe are necessary to value properly our receivables balances and
education loans at each balance sheet date. Because our estimates rely on quantitative and qualitative factors, including macroeconomic indicators to predict prepayment, default and recovery rates,
management's ability to determine which factors are more heavily weighted in our estimates, and our ability to accurately incorporate those factors into our estimates, can have a material effect on
our valuations.

We
have posted to our website, and filed as exhibit 99.1 to this quarterly report, static pool data as of December 31, 2008, including actual borrower payment status,
delinquency, cumulative loss and

46

---



Table of Contents

prepayment
data as of December 31, 2008 for certain securitization trusts that we have facilitated. We have also posted to our website, and filed as exhibit 99.2 to this quarterly
report, a supplemental presentation of certain historical trust performance data, including channel-specific loans available for securitization by fiscal quarter, parity ratios by trust, net recovery
rates by trust, FICO score ranges by year of origination and by channel, FICO score distributions for loans disbursed since January 1, 2008, payment status by trust and six-month
rolling prepayment rates by trust.

The
following table shows the approximate weighted average assumptions for loan performance and discount rates at December 31, 2008, September 30, 2008 and June 30,
2008 for our private label loan trusts:

Percentage rate

Percentage
discount rateDefault

Recovery

Prepayments

Structural
advisory fees

ResidualsDecember 31, 2008


16.58
%

48
%

8.12
%

12.21
%

18.40
%September 30, 2008


15.96
%

48
%

8.40
%

11.07
%

16.35
%June 30, 2008


14.83
%

48
%

8.40
%

9.72
%

14.88
%


In
selecting loan performance assumptions, we consider the underlying creditworthiness of the education loan borrowers as well as the type of loans being securitized. We analyze
creditworthiness in several tiers, and select what we believe to be appropriate loan performance assumptions based on those tiers. Past TERI-guaranteed private education loan programs,
under which approximately 77% of the borrowers had a creditworthy cosigner, typically a family member, had an extensive credit underwriting process.

Net Default Rates.The net default rate is calculated as the weighted average for all of our private education loan securitization
trusts
of:



A
securitization trust may have a life of over 24 years, based on a lifecycle for education loans that includes borrowers' in-school deferment, grace, repayment and
forbearance periods. Higher levels of loan defaults are generally expected to occur in the early years of a trust, as loans enter repayment. Recoveries on defaulted loans are expected to lag defaults
by months or years, with cumulative recoveries increasing gradually over an extended period of time later in the life of a trust. As a result, at a single point in time, particularly early in the life
of a trust, a trust may experience an actual net default rate that is higher than the estimated endpoint net default rate for that trust. For the same reason, we assess the actual current net default
rates against an expected default timing curve, which reflects the expected speed of defaults over the life of a trust. The shape of the default curve is based in part on our proprietary database of
more than 20 years of loan performance information, reflecting data through a variety of economic cycles, and influences the estimated endpoint defaults, which in turn influence the net default
rate.

During
the first quarter of fiscal 2009, in response to an acceleration in default activity coupled with deterioration in overall consumer credit quality, we increased the weighted
average gross default rate assumptions used to estimate the fair value of our residuals and additional structural advisory fees receivables from 14.83% to 15.96%. We also increased its assumed
weighted average net default rate from 7.68% to 8.30%. The increases in the default rate assumptions during the first quarter of fiscal 2009 resulted in a decrease in the estimated fair value of our
residuals receivable of $40.7 million and a decrease in the estimated fair value of our additional structural advisory fees receivable of $3.1 million.

47

---



Table of Contents

During
the second quarter of fiscal 2009, we increased the weighted average gross default rate assumptions from 15.96% to 16.58%, as a result of the trusts' actual default experience and
general economic pressure on all consumer asset classes. We also increased our assumed weighted average net default rate from 8.30% to 8.62% during the second quarter of fiscal 2009. These increases
in the default rates assumptions resulted in a decrease in the estimated fair value of our residuals receivable of $9.4 million and a decrease in the estimated fair value of its additional
structural advisory fees receivable of $3.0 million.

TERI's Obligation and Ability to Pay Claims.The indentures relating to the securitization trusts specify certain circumstances, which
we refer to as
trigger events, in which payments that would otherwise be due in respect of additional structural advisory fees and residuals instead be directed to the holders of the notes issued by the trusts until
the conditions causing the trigger event cease to exist or all notes, and related interest, are paid in full. Under the indentures, a trigger event generally occurs when the cumulative gross defaults
of loans held by such trust exceed a specified level. Under certain of the indentures, a trigger event would not occur even if cumulative loan defaults exceed the specified level if
TERI continues to pay claims on defaulted loans and, in the case of certain indentures, is solvent. As a result of the TERI Reorganization, in the third quarter of fiscal 2008, we adjusted our
assumptions to assume that amounts available to pay a trust's default claims will be limited to amounts available from the trust's pledged account, assuming that recoveries on defaulted loans would
replenish such pledged account. Previously, we assumed that TERI would pay default claims on a timely basis and that no default trigger event would occur. Although the overall expected cash flows
generated by the trusts would improve as a result of the higher priority of repayment of the notes, the expected timing of cash payments to us with respect to additional structural advisory fees and
residuals would be delayed, reducing their estimated fair value. The change in our assumptions with regard to TERI's obligation and ability to pay claims resulted in a decrease in the estimated fair
value of our residuals receivable of $219.6 million and a decrease in the estimated fair value of our additional structural advisory fees receivable of $0.5 million during the third
quarter of fiscal 2008. We made no changes to our assumptions regarding TERI's obligation and ability to pay claims during the fourth quarter of fiscal 2008 or the first two quarters of fiscal 2009.

TERI
may seek to reject its guaranty obligations entirely in the context of the TERI Reorganization. As of February 9, 2009, TERI had not rejected or otherwise indicated how it
will treat its guaranty obligations to the trusts or lenders, including Union Federal. As a result, it is uncertain how collateral securing such obligations will be treated or applied to satisfy
TERI's obligations. On January 30, 2009, the creditors committee filed an adversary complaint in the Bankruptcy Court against the owner trustee and indenture trustee of seventeen securitization
trusts, and against FMDS as administrator of such trusts. The complaint generally alleges that the security interests granted by TERI to the trusts, excluding the security interests in the pledged
accounts, are unperfected or may otherwise be avoided under Section 552 of the Bankruptcy Code. In particular, the complaint alleges that the trusts do not have enforceable rights to future
recoveries on defaulted loans owned by TERI with an aggregate principal and accrued interest balance of approximately $575.1 million as of January 31, 2009, or in amounts owed or
transferred by TERI to pledged accounts after the filing of TERI's petition for reorganization totaling approximately $27.0 million as of January 31, 2009. We cannot at this time predict
the timing, costs or outcome of the adversary proceeding. For purposes of estimating the fair value of our service receivables, we assumed at December 31, 2008 that the application of
collateral will continue in the ordinary course in accordance with existing agreements and that the trusts have rights to the amounts that are the subject of the creditors committee's complaint. A
successful challenge to the security interests could decrease materially the value of our service receivables.

Prepayment Rates.We compute prepayments as the difference between the total amount of payments, both principal and interest, received
from or on
behalf of a borrower and the amount of principal and interest billed to the borrower during the same period. To convert this dollar amount into

48

---



Table of Contents

a
rate, we divide these amounts by the dollar amounts that could possibly have been repaid during that period and annualize the result. This approach results in a rate that is expressed as a
conditional prepayment rate, or CPR. The CPR is essentially an estimate of the likelihood that a loan will be prepaid during a period, given that it has not previously defaulted or been prepaid. The
prepayment rate can be significantly different at different points in time over the life of a trust, or any pool of loans, because the prepayment rate for a given cohort of loans will vary with their
seasoning.

A
loan in deferment is expected to have a low likelihood of being prepaid. A loan is expected to have a higher likelihood of being repaid during the first, compared to the second, year
of repayment. However, after the second year, as a loan becomes more seasoned, the likelihood of a prepayment is expected to increase further, as borrowers increase their earnings power and their
ability to partially or fully prepay their loans, or as they establish better credit and are offered more opportunities to consolidate their education loans.

In
response to a historically low prepayment rate, the current interest rate environment and limited availability of consumer credit, we adjusted our prepayment assumption during the
second quarter of fiscal 2009 by extending the period during which decreased prepayments are expected to persist. As of December 31, 2008, we assumed that the current prepayment rate would
generally persist for 12 months and eventually revert to historical norms during the ensuing 12 months. This change resulted in a $11.3 million increase in the value of the
residuals and a $2.4 million increase in the structural advisory fees.

Discount RateResiduals.In determining an appropriate discount rate for valuing our residuals, we historically have considered a
number
of factors, including market data made available to us on spreads on federally guaranteed loans and private education loans, as well as rates used in the much broader ABS market. We also evaluate
yield curves for corporate subordinated debt with maturities similar to the weighted average life of our residuals. At September 30, 2008, due to the continued dislocation in the capital
markets environment and the private education loan securities sector, we increased the discount rate by an additional 150 basis points. We applied a discount rate of 16.0% for purposes of estimating
the fair value of residuals from securitization trusts that had not issued Triple B-rated securities and a discount rate of 17.0% for purposes of estimating the fair value of residuals
from securitization trusts that had issued Triple B-rated securities, which resulted in a decrease of $43.6 million in the estimated fair value of our residuals during the first
quarter of fiscal 2009.

During
the second quarter of fiscal 2009, we increased the discount rate by 200 basis points, applying a discount rate of 18.0% for purposes of estimating the fair value of residuals
from securitization trusts that had not issued Triple B-rated securities and a discount rate of 19.0% for purposes of estimating the fair value of residuals from securitization trusts that
had issued Triple B-rated securities. In increasing the discount rate, we considered, among other things, widening spreads in subordinate tranches of actual federal loan ABS issuances and
actual transactions involving other ABS asset classes, as well as widening indicative spreads, not supported by actual transactions, in subordinate tranches of private education loan ABS. The increase
in the discount rate resulted in a decrease of $40.0 million in the estimated fair value of our residuals during the second quarter of fiscal 2009.

Discount RateAdditional Structural Advisory Fees.Historically, we have based the discount rate that we use to estimate the fair
value
of our additional structural advisory fees on a spread over the 10-year U.S. Treasury Note rate based on the priority payment status of additional structural advisory fees in the flow of
funds out of the securitization trusts and comparable spreads on structured and corporate debt securities. A decrease in the 10-year U.S. Treasury Note rate has the effect of increasing
the estimated fair value of our structural advisory fees receivable, while an increase in the rate has the opposite effect on our estimate of fair value. At September 30, 2008, due to the
continued dislocation in the capital markets environment and the private education loan securities sector, we increased the

49

---



Table of Contents

discount
rate spread by an additional 150 basis points, to 725 basis points. Between June 30, 2008 and September 30, 2008, the 10-year U.S. Treasury Note rate decreased by 15
basis points. As a result we applied a discount rate of 11.07% for purposes of estimating the fair value of the additional structural advisory fees, which resulted in a decrease of
$14.1 million in the estimated fair value of our additional structural advisory fees during the first quarter of fiscal 2009.

During
the second quarter of fiscal 2009, we increased the discount rate spread by 275 basis points, to 1,000 basis points. In doing so, we considered, among other things, increasing
yield curves for certain composite indices for BBB- and BB-rated corporate bond indices with ten year maturities. The 10-year U.S. Treasury Note rate decreased by
161 basis points during the fiscal quarter, to 2.21% at December 31, 2008. As a result, the Company applied a discount rate of 12.21% for purposes of estimating the fair value of the additional
structural advisory fees, which resulted in a net decrease of $6.1 million in the estimated fair value of the Company's additional structural advisory fees during the second quarter of fiscal
2009.

Auction Rate Note Interest Rates.Five private education loan trusts have issued auction rate notes to finance the purchase of
education loans.
Interest rates for the auction rate notes are determined from time to time at auction. We use a spread over LIBOR to project the future cost of funding of the auction rate notes issued by each such
trust. Historically, the spread over LIBOR used to estimate the future cost of funding was based on historical trends, then current auction rates for each trust and assumptions for future auction
rates.

Failed
auctions have occurred and persisted with respect to auction rate notes issued by each of the five securitization trusts that have issued auction rate notes. As a result of the
failed auctions, the auction rate notes bear interest at a maximum rate, which was calculated as of December 31, 2008, as one-month LIBOR plus 1.50%, in the case of auction rate
notes that were rated at least Aa3 by Moody's and AA- by Standard & Poor's, or S&P, as of December 31, 2008, or one-month LIBOR plus 2.50%, in the case of auction
rate notes that were rated at least A3 by Moody's and A- by S&P as of December 31, 2008. Auction rate notes issued by two securitization trusts are also rated by Fitch and bear
interest at a maximum rate, which was
calculated as of December 31, 2008 as one-month LIBOR plus 1.50%, in the case of auction rate notes that were rated at least AA- by Fitch as of December 31, 2008,
or one-month LIBOR plus 2.50%, in the case of auction rate notes that were rated at least A- by Fitch as of December 31, 2008. In the event of certain ratings agency
actions, these maximum spreads increase further. If any auction rate note were to be rated below Aa3 but at least A3 by Moody's, and below AA- but at least A- by S&P and Fitch,
as applicable, it would bear an interest rate of one-month LIBOR plus 2.50%. Furthermore, if any auction rate note were to be rated below A3 by Moody's and below A- by S&P and
Fitch, as applicable, its maximum auction rate would be calculated as one-month LIBOR plus 3.50%.

In
October 2008, Moody's downgraded the ratings assigned to certain subordinated auction rate notes to below A3. As a result, the interest rate spread on these notes increased from
one-month LIBOR plus 1.50% to one-month LIBOR plus 3.50%. In November 2008, Moody's downgraded the insurance financial strength rating of Ambac to Baa1 from Aa3. Ambac has
provided credit enhancement for certain ABS issued in securitizations that we have facilitated, including certain auction rate notes. The downgrading of Ambac's ratings resulted in a downgrading of
the ratings assigned to certain of our auction rate notes. As a result, the interest rate on certain of those auction rate notes increased from one-month LIBOR plus 1.50% to
one-month LIBOR plus 2.50% or, in some cases, to one-month LIBOR plus 3.50%, and the interest rate of certain of those auction rate notes increased from one-month
LIBOR plus 2.50% to one-month LIBOR plus 3.50%. We assumed at December 31, 2008 that all outstanding auction rate notes would continue to bear interest at the
then-current maximum spreads over one-month LIBOR until their expected maturity dates. The increased cost of funding of these notes resulted in a decrease of
$13.1 million in the estimated fair value of our additional structural advisory fees, and a decrease of $31.8 million in the estimated fair value of our

50

---



Table of Contents

residuals,
during the second quarter of fiscal 2009. We provide a sensitivity analysis with respect to auction rate notes below, under the caption "Sensitivity Analysis."

If
auctions do not fail, but the interest rate determined pursuant to the auction procedures exceed the maximum rate, the interest rate for the applicable interest period would be set at
the maximum rate. The amount of the "excess" interest, however, would accrue as "carryover interest." A noteholder's right to receive carryover interest is superior to our additional structural
advisory fees and residual interest in the applicable securitization trust. As a result, our projected cash releases from securitization trusts that have issued auction rate notes, including the
timing of receipt, could be materially adversely affected by increased costs of funding of auction rate notes, including the extent to which a trust accrues carryover interest. In estimating the fair
value of our service receivables, we have assumed that no trust will accrue carryover interest.

Forward LIBOR Curve.LIBOR is the underlying rate for most of the trusts' assets and liabilities and can
have a significant effect on the cash flows generated by each trust. Changes in the forward LIBOR curve affect the principal balances of education loans held by the trusts, particularly as interest is
capitalized during loan deferment, which affects the net interest margin that the trust generates. In addition, certain trusts have issued a tranche of ABS that bears a fixed interest rate. A decrease
in the forward LIBOR may result in a reduced spread on the fixed-interest tranche, which in turn decreases the estimated fair value of our service receivables. Significant changes to the forward LIBOR
curve can also affect the estimated fair value of our additional structural advisory fees, which bear interest at the rate of LIBOR plus 150 basis points to the extent such fees are accrued but unpaid
by the trusts.

During
the second quarter of fiscal 2009, the forward LIBOR curve decreased by approximately 200 basis points, an unusually large change. The change reduced the estimated fair value of
our residuals receivable by $16.1 million, primarily as a result of a reduced spread on the fixed interest ABS, and reduced the estimated fair value of our additional structural advisory fees
by $15.4 million, primarily as a result of a lower interest rate applicable to accrued but unpaid fees.

Fees and Expenses.Beginning in the fourth quarter of fiscal 2008, we took into account default prevention and other collections
related costs for
our estimates of the fair value of our additional structural advisory fees and residuals receivable. Previously, these costs were reimbursed by TERI pursuant to our master loan guaranty agreement and
were excluded from our valuation model. Due to the termination of the master loan guaranty agreement effective as of May 31, 2008, however, we no longer receive reimbursement for such expenses.
At June 30, 2008, we estimated the aggregate costs necessary to achieve our gross default rate assumption, which resulted in a decrease in the estimated fair value of our residual receivable of
$15.9 million and a decrease in the estimated fair value of our additional structural advisory fee receivable of $0.2 million during the fourth quarter of fiscal 2008. We did not change
these estimates during the first six months of fiscal 2009.



Increases in our estimates of defaults, prepayments and discount rates, increases in the spread between LIBOR indices and auction
rates, as well as decreases in default recovery rates and the multi-year forward estimates of LIBOR, would have a negative effect on the value of our additional structural advisory fees
and residuals. Education loan prepayments include either full or partial payments by a borrower in advance of the maturity schedule specified in the credit agreement. If amounts in the pledged
accounts were unavailable to pay the trusts' default claims or if recoveries on defaulted loans were not used to replenish such pledged accounts, or if net defaults increase beyond the level of
expected third party reimbursement assumptions, then these changes will have an additional negative effect on the value of our additional structural advisory fees and residuals. LIBOR is the reference
rate for a substantial majority of the loan assets and, we believe, a reasonable index for borrowings of the trusts. Because the trusts' education loan assets earn interest based on LIBOR and

51

---



Table of Contents

some
trusts have outstanding securities that pay interest based on the results of auction rates, changes in the spread between LIBOR and the auction rate can affect the performance of the trusts which
have issued auction rate notes.

The
following table shows our loan performance and discount rate assumptions and service receivables balances at December 31, 2008 and estimated changes that would result from
changes in our assumptions. The effect on the fair value of the structural advisory fees and residuals receivables are based on variations of 10% or 20%, except for the forward LIBOR rates, which are
based on variations of 1% and 2% from the forward LIBOR rates at December 31, 2008. We also discuss below the effect on the fair value of the structural advisory fees and residuals receivables
of changes in the assumed spread between one-month LIBOR rates and auction rates.

The
sensitivities presented below are hypothetical and should be used with caution. The effect of each change in assumption must be calculated independently, holding all other
assumptions constant. Because the key assumptions may not in fact be independent, the net effect of simultaneous adverse changes in key assumptions may differ materially from the sum of the individual
effects calculated below.

Management
assumption
and
receivables
balance at
December 31,
2008Percentage change
in assumptions

Percentage change
in assumptionsStructural advisory fees

Down 20%

Down 10%

Up 10%

Up 20%(dollars in thousands)Default rate:Management assumption(1)


14.57
%

15.58
%

16.58
%

17.57
%

18.56
%Total structural advisory fees

$
69,241

$
67,980

$
64,935

$
63,049

$
61,985Change in receivables balance


6.63
%

4.69
%




(2.90
)%

(4.54
)%Default recovery rate:Management assumption


38.40
%

43.20
%

48.00
%

52.80
%

57.60
%Total structural advisory fees

$
61,990

$
63,455

$
64,935

$
66,271

$
67,455Change in receivables balance


(4.53
)%

(2.28
)%




2.06
%

3.88
%Annual prepayment rate:Management assumption


6.50
%

7.31
%

8.12
%

8.93
%

9.74
%Total structural advisory fees

$
65,935

$
65,424

$
64,935

$
64,943

$
64,468Change in receivables balance


1.54
%

0.75
%




0.01
%

(0.72
)%Discount rate:Management assumption


9.77
%

10.99
%

12.21
%

13.43
%

14.65
%Total structural advisory fees

$
82,358

$
73,061

$
64,935

$
57,822

$
51,587Change in receivables balance


26.83
%

12.52
%




(10.95
)%

(20.55
)%




Change in assumption



Change in assumptionDown 200
basis points

Down 100
basis points

Receivables
balance

Up 100
basis points

Up 200
basis points(dollars in thousands)Forward LIBOR rates:Total structural advisory fees

$
57,288

$
61,078

$
64,935

$
69,959

$
75,627Change in receivables balance


(11.78
)%

(5.94
)%




7.74
%

16.47
%


---

52

---



Table of Contents

Management
assumption
and
receivables
balance at
December 31,
2008Percentage change
in assumptions

Percentage change
in assumptionsResiduals

Down 20%

Down 10%

Up 10%

Up 20%(dollars in thousands)Default rate:Management assumption(1)


14.57
%

15.58
%

16.58
%

17.57
%

18.56
%Total residual fees

$
182,265

$
157,064

$
144,017

$
137,858

$
127,741Change in receivables balance


26.56
%

9.06
%




(4.28
)%

(11.30
)%Default recovery rate:Management assumption


38.40
%

43.20
%

48.00
%

52.80
%

57.60
%Total residual fees

$
129,315

$
138,781

$
144,017

$
148,014

$
151,879Change in receivables balance


(10.21
)%

(3.64
)%




2.78
%

5.46
%Annual prepayment rate:Management assumption


6.50
%

7.31
%

8.12
%

8.93
%

9.74
%Total residual fees

$
149,961

$
146,950

$
144,017

$
141,147

$
138,316Change in receivables balance


4.13
%

2.04
%




(1.99
)%

(3.96
)%Discount rate:Management assumptionnon-Triple-B trusts


14.40
%

16.20
%

18.00
%

19.80
%

21.60
%Management assumptionTriple-B trusts


15.20
%

17.10
%

19.00
%

20.90
%

22.80
%Total residual fees

$
226,674

$
180,228

$
144,017

$
115,673

$
93,400Change in receivables balance


57.39
%

25.14
%




(19.68
)%

(35.15
)%




Change in assumption



Change in assumptionDown 200
basis points

Down 100
basis points

Receivables
balance

Up 100
basis points

Up 200
basis points(dollars in thousands)Forward LIBOR rates:Total residual fees

$
128,272

$
136,307

$
144,017

$
151,383

$
158,421Change in receivables balance


(10.93
)%

(5.35
)%




5.12
%

10.00
%


---

As
of December 31, 2008, the weighted average interest rate for senior auction rate notes was approximately one-month LIBOR plus 3.14%, and the weighted average
interest rate for subordinate auction rate notes was one-month LIBOR plus 3.50%. As of September 30, 2008, the weighted average interest rate for senior auction rate notes was
one-month LIBOR plus 1.50% and the weighted average interest rate for subordinate auction rate notes was one-month LIBOR plus 2.50%.

If
all outstanding senior auction rate notes were to bear interest at one-month LIBOR plus 2.50%, but all outstanding subordinate auction rate notes were to continue to bear
interest at one-month LIBOR plus 3.50%, the estimated fair value of our residuals would increase
by $3.3 million, or 2.3%, and the estimated fair value of our additional structural advisory fees would increase by $2.4 million, or 3.7%, from their respective valuations as of
December 31, 2008.

If
all outstanding senior auction rate notes were to bear interest at one-month LIBOR plus 3.50%, but all outstanding subordinate auction rate notes were to continue to bear
interest at one-month LIBOR plus 3.50%, the estimated fair value of our residuals would decrease by $4.0 million, or 2.8%,

53

---



Table of Contents

and
the estimated fair value of our additional structural advisory fees would decrease by $8.1 million, or 12.5%, from their respective valuations as of December 31, 2008. See "Risk
Factors" under Item 1A of Part II of this quarterly report for additional information regarding our trusts' auction rate notes.



Our consolidated financial statements include the accounts of The First Marblehead Corporation and its subsidiaries, after eliminating
inter-company accounts and transactions. We have not consolidated the financial results of the securitization trusts purchasing loans that we have facilitated. Prior to July 1, 2003, this
accounting treatment was in accordance with various Emerging Issues Task Force issues and related interpretations. We considered, among other things, the following factors in assessing consolidation
of the securitization trusts:



Beginning
July 1, 2003, and for securitization trusts created after January 31, 2003, we applied Financial Accounting Standards Board, or FASB, Interpretation
No. 46,Consolidation of Variable Interest Entities, an interpretation of ARB No. 51, or FIN No. 46, in assessing consolidation.
FIN No. 46 provided a new framework for identifying variable interest entities and determining when a company should include the assets, liabilities, non-controlling interests and
results of activities of a variable interest entity in its consolidated financial statements.

On
December 24, 2003, the FASB issued FIN No. 46 (revised December 2003),Consolidation of Variable Interest Entities, or
FIN No. 46R, which addressed how a business enterprise should evaluate whether it has a controlling interest in an entity through means other than voting rights and accordingly should
consolidate the entity. FIN No. 46R has replaced FIN No. 46. At December 31, 2008, each securitization trust created after January 31, 2003 has met the criteria to be a
qualified special-purpose entity, or QSPE, as defined in paragraph 35 of FASB Statement No. 140,Accounting for the Transfers and Servicing of Financial Assets
and Extinguishments of Liabilities, or FASB Statement No. 140. Accordingly, we did not consolidate these existing securitization trusts in our financial statements. In
addition, the securitization trusts created prior to January 31, 2003 in which we hold a variable interest that could result in us being considered the primary beneficiary of such trust, have
been amended in order for them to be considered QSPEs. The adoption of FIN No. 46R, which we began to apply in December 2003, did not have a material impact on our consolidated financial
condition, results of operations, earnings per share or cash flows.

The
FASB has embarked upon a project to amend FASB Statement No. 140 that would potentially remove the concept of the QSPE from such statement effective for fiscal years beginning
after November 15, 2009 and thereby eliminate gain on sale accounting as currently utilized. As a result of this, the FASB would then also remove the QSPE exception from FIN No. 46R. The
FASB collected exposure draft comments on this topic on November 14, 2008, however, a final ruling has not been issued as of February 9, 2009. The ultimate impact, if any, of these
deliberations on our accounting practices is uncertain at this time.

54

---



Table of Contents

Results of Operations

Three and six months ended December 31, 2008 and 2007

Revenue Related to Securitization Transactions

We primarily offer services in connection with private label loan products offered through two marketing channels: (a) direct to
consumer, which generally refers to programs that lenders market directly to prospective borrowers and their families, and (b) school channel, which refers to programs that lenders market
indirectly to student borrowers and their families through educational institutions. In either case, lenders may engage third parties that are not themselves lenders but which market loans on behalf
of lenders that fund the loans. We refer to these third parties as loan marketers, and we refer to the lenders that fund these loans as program lenders.

We
facilitated two securitization transactions during the first quarter of fiscal 2008, but did not facilitate any securitization transactions during the second quarter of fiscal 2008,
or during the first or second quarters of fiscal 2009. Our estimates of the allocation by marketing channel of our securitization revenues for the first quarter of fiscal 2008, expressed as a
percentage of the total principal and accrued interest of private education loans securitized in each channel at the date of securitization, are as follows:

Percentage yieldMonth and year of private
label loan securitization

Marketing channel

Volume of
loans
securitized(1)



Up-front
structural
advisory fees

Additional
structural
advisory fees

Residuals

Total(3)(dollars in millions)Fiscal 2008September 2007

Direct to consumer

$
1,640


81
%

9.6
%

1.2
%

6.6
%

17.3
%School channel


387


19


5.1


1.2


2.5


8.8Total

$
2,027Blended yield(2)








8.7


1.2


5.8


15.7


---

These yields by marketing channel represent an approximate allocation of revenues and costs based on various estimates and assumptions regarding
the relative profitability of these loans, and should be read with caution. Furthermore, these yields are dependent on a number of factors, including the mix of loans between marketing channels that
are included in a particular securitization, the average life of loans, which can be impacted by prepayments, the time of year that the loans are securitized and the relative mix of loans from
students with various expected terms to graduation, the structure of, and prevailing market conditions at the time of, a securitization, the marketing fees which our clients earn on loans we
securitize for them, along with a number of other factors. Therefore, readers are cautioned that the approximated blended yields and yields by marketing channel above are not be indicative of yields
that we will be able to achieve in future securitizations.

Market
demand for private education loan ABS has been volatile, and we believe does not exist for TERI-guaranteed loans as of February 9, 2009. This volatility, and
absence of demand for private education loan ABS, has negatively affected, and will likely continue to negatively affect, the cost and availability of certain financing structures previously utilized
in the securitization transactions that we

55

---



Table of Contents

have
facilitated, including the issuance of subordinate classes of ABS. In addition, we are uncertain as of February 9, 2009, whether the fee structure that we have historically used in
facilitating securitization transactions will be used in any future securitizations. In particular, market conditions may dictate that we reduce or forgo our up-front structural advisory
fee in connection with securitizations, if any, that we are able to facilitate in the near-term.



We did not complete a securitization transaction in the second quarter of fiscal 2008 or the first six months of fiscal 2009 and,
accordingly, did not generate any securitization revenues during the periods. We generated $177.5 million in up-front structural advisory fees in the first quarter of fiscal 2008.



The additional component of structural advisory fees decreased to $(47.4) million during the first six months of fiscal 2009 from
$16.4 million during the first six months of fiscal 2008. Additional structural advisory fees decreased to $(29.5) million for the second quarter of fiscal 2009 from $(10.8) million for the
second quarter of fiscal 2008. The decrease in additional structural advisory fees between the six-month and three-month periods was primarily due to the changes in assumptions we use to
estimate the fair value of our additional structural advisory fees, a decrease in LIBOR and decreased securitization volume between the fiscal 2009 and fiscal 2008 periods.

The
following table summarizes the changes in our estimate of the fair value of the structural advisory fees receivable for the six and three months ended December 31, 2008 and
2007:

Six months ended
December 31,2008

2007(in thousands)Fair value at beginning of period

$
113,842

$
133,644Additions from new securitizations





24,304Cash received from trust distributions


(1,504
)

Trust updates:Passage of time (present value accretion)


5,430


5,071Assumption changes:(Increase) decrease in average prepayment rate


2,358


(3,535
)Increase in discount rate assumption


(20,189
)

(622
)Increase in timing and average default rate


(6,164
)

(2,668
)Increase in auction rate notes spread


(13,087
)

(86
)(Decrease) in forward LIBOR curve


(19,531
)

(5,798
)Other factors


3,780


(278
)Net change from trust updates


(47,403
)

(7,916
)Fair value at end of period

$
64,935

$
150,032


56

---



Table of Contents



Three months ended
December 31,2008

2007(in thousands)Fair value at beginning of period

$
94,475

$
160,807Additions from new securitizations





Cash received from trust distributions


(27
)

Trust updates:Passage of time (present value accretion)


2,641


2,662Assumption changes:(Increase) decrease in average prepayment rate


2,358


(3,535
)Increase in discount rate assumption


(6,123
)

(3,423
)Increase in timing and average default rate


(3,031
)

(2,668
)Increase in auction rate notes spread


(13,087
)

(86
)(Decrease) in forward LIBOR curve


(15,396
)

(3,007
)Other factors


3,125


(718
)Net change from trust updates


(29,513
)

(10,775
)Fair value at end of period

$
64,935

$
150,032


On
a quarterly basis, we update our estimate of the fair value of our additional structural advisory fees, which we expect, as of February 9, 2009, to begin to receive
approximately five to 17 years after the date of a particular securitization transaction. In doing so, we give effect to the passage of time, which results in the accretion of the discounting
inherent in the fair value estimates, and we also adjust for any change in the discount rate and other assumptions that we use in estimating the fair value of these receivables. We monitor the
performance of trust assets, including default, recovery, prepayment and interest rate trend experience, which we also consider in our estimates. We also make assumptions about the pledged accounts,
including periodic replenishments thereof, the cumulative loan default rate of each securitization trust and the ability of TERI to pay guaranty claims out of its general reserves. We estimate the
trend of interest rates over the life of the loan pool using an implied forward LIBOR curve, and an assumed spread between LIBOR and auction rates, to estimate trust cash flows. For a discussion of
the assumptions we make in estimating our additional structural advisory fees, see "Executive SummaryApplication of Critical Accounting Policies and
EstimatesService Revenue and Receivables and the Valuation of Education Loans Held for Sale."

During
the first six months of fiscal 2009, our estimate of the fair value of our additional structural advisory fees resulted in a decrease in their carrying value of approximately
$47.4 million. During the first six months of fiscal 2008, our estimates of the fair value of our additional structural advisory fees resulted in a decrease in their carrying value of
approximately $7.9 million. The decrease during the first six months of fiscal 2009 was primarily due to the impact of a decrease in the forward LIBOR curve and changes we made to the
assumptions we use to estimate the fair value of our additional structural advisory fees receivable, particularly an increase in our discount rate assumption and the assumed cost of funding for
auction rate notes, which more than offset the accretion of discounting inherent in the fair value estimates. The decrease during the first six months of fiscal 2008 was primarily due to the impact of
increases we made to the prepayment rate and default rate assumptions we use to estimate the fair value of our additional structural advisory fees receivable.

During
the second quarter of fiscal 2009, our estimate of the fair value of our additional structural advisory fees resulted in a decrease in their carrying value of approximately
$29.5 million. The decrease during the second quarter of fiscal 2009 was due primarily to the impact of a decrease in the forward LIBOR curve and changes we made to the assumptions we use to
estimate the fair value of our additional structural advisory fees receivable, particularly an increase in our discount rate assumption and the assumed cost of funding for auction rate notes. During
the second quarter of fiscal 2008, our

57

---



Table of Contents

estimate
of the fair value of our additional structural advisory fees resulted in a decrease in their carrying value of approximately $10.8 million. The decrease during the second quarter of
fiscal 2008 was due primarily to the impact of changes we made to the assumptions we use to estimate the fair value of our additional structural advisory fees receivable including the forward LIBOR
curve, prepayment rates, and default rates.

For
a discussion of changes we made during the first six months of fiscal 2009 to certain assumptions we use to estimate the fair value of our additional structural advisory fees
receivable, see "Executive SummaryApplication of Critical Accounting Policies and EstimatesService Revenue and Receivables and the Valuation of Education Loans
Held for Sale."



Service revenues from residuals decreased by $92.3 million, to $(149.2) million for the first six months of fiscal 2009 from
$(56.9) million for the first six months of fiscal 2008. Service revenues from residuals decreased by $90.6 million, to $(69.1) million for the second quarter of fiscal 2009, compared to
$(159.7) million for the second quarter of fiscal 2008. We did not conduct a securitization transaction in the second quarter of fiscal 2008 or in the first six months of fiscal 2009. As a result, we
did not recognize any residuals from new securitizations in those periods. The decrease in service revenues from residuals in the fiscal 2009 periods compared to the fiscal 2008 periods was primarily
a result of changes we made to certain assumptions we use to estimate the value of our residuals receivable as well as $117 million of revenues from new securitizations during the first six
months of fiscal 2008.

The
following table summarizes the changes in our estimate of the fair value of the residuals receivable for the six and three months ended December 31, 2008 and 2007:

Six months ended
December 31,2008

2007(in thousands)Fair value at beginning of period

$
293,255

$
665,115Additions from new securitizations





116,972Trust updates:Passage of time (present value accretion)


19,752


43,570Assumption changes:(Increase) decrease in average prepayment rates


11,336


(46,597
)Increase in discount rate assumption


(83,634
)

(71,680
)Increase in timing and average default rate


(50,108
)

(36,173
)Increase in auction rate notes spread


(31,779
)

(34,323
)(Decrease) in forward LIBOR curve


(22,113
)

(12,957
)Other factors


7,308


(15,694
)Net change from trust updates


(149,238
)

(173,854
)Fair value at end of period

$
144,017

$
608,233


58

---



Table of Contents



Three months ended
December 31,2008

2007(in thousands)Fair value at beginning of period

$
213,099

$
767,979Additions from new securitizations





Trust updates:Passage of time (present value accretion)


8,821


23,667Assumption changes:(Increase) decrease in average prepayment rates


11,336


(46,597
)Increase in discount rate assumption


(39,991
)

(46,498
)Increase in timing and average default rate


(9,380
)

(36,173
)Increase in auction rate notes spread


(31,779
)

(34,323
)(Decrease) in forward LIBOR curve


(16,129
)

(7,373
)Other factors


8,040


(12,449
)Net change from trust updates


(69,082
)

(159,746
)Fair value at end of period

$
144,017

$
608,233


As
we do with our additional structural advisory fees, on a quarterly basis, we update our estimate of the fair value of our residuals. In doing so, we give effect to the passage of
time, which results in the accretion of the discounting inherent in these fair value estimates, and we also adjust for any changes in the assumptions that we use in estimating the fair value of these
receivables. We monitor the performance of trust assets, including default, recovery, prepayment and interest rate trend experience, which we consider in our estimates. We also make assumptions about
the pledged accounts, including periodic replenishments thereof, the cumulative loan default rate of each securitization trust and the ability of TERI to pay guaranty claims out of its general
reserves. We estimate the trend of interest rates over the life of the loan pool using an implied forward LIBOR curve, and an assumed spread between LIBOR and auction rates, to estimate trust cash
flows. For a discussion of the assumptions we make in estimating our residuals, see "Executive SummaryApplication of Critical Accounting Policies and
EstimatesService Revenue and Receivables and the Valuation of Education Loans Held for Sale."

Our
estimates of the fair value of our residuals receivable resulted in a decrease in the aggregate carrying value of approximately $149.2 million during the first six months of
fiscal 2009 and a decrease of $173.9 million during the first six months of fiscal 2008. Our estimates of the fair value of our residuals receivable resulted in a decrease in the aggregate
carrying value of approximately $69.1 million during the second quarter of fiscal 2009 and a decrease of $159.7 million during the second quarter of fiscal 2008. The decreases during the
fiscal 2009 periods were due primarily to the impact of changes we made to the assumptions we use to estimate the fair value of our residuals receivable, particularly increases in discount rates,
auction rate note spreads and our weighted average gross default rates. The negative impact of these changes to our assumptions, together with a decrease in securitization volumes between six month
periods, more than offset the positive impact of the passage of time. For a discussion of our decision during the first six months of fiscal 2009 to change the assumptions we use to estimate the value
of our residuals receivable see "Executive SummaryApplication of Critical Accounting Policies and EstimatesService Revenue and Receivables and the Valuation of
Education Loans Held for Sale." During the first six months of fiscal 2008, the positive impact of the passage of time was more than offset by increases in our discount rate, prepayment rate, default
rate, and auction rate note spread assumptions for the same period.

59

---



Table of Contents



Processing fees from TERI decreased to $2.6 million for the first six months of fiscal 2009 from $83.5 million for the
first six months of fiscal 2008. Processing fees from TERI decreased to $0.2 million for the second quarter of fiscal 2009 from $37.3 million for the second quarter of fiscal 2008. The
decrease during the first six months of fiscal 2009 compared to the first six
months of fiscal 2008 was primarily due to the impact of the TERI Reorganization on our facilitated loan volume, including the termination of the master servicing agreement effective May 31,
2008 and transition servicing agreement effective September 29, 2008. We do not expect to receive a material amount of processing fees from TERI in the future.



Administrative and other fees decreased to $8.4 million for the first six months of fiscal 2009 from $24.9 million for
the first six months of fiscal 2008. Administrative and other fees increased to $4.8 million for the second quarter of fiscal 2009 from $3.1 million for the second quarter of fiscal
2008. The decrease during the six month period was primarily due to a reduction in marketing fees earned by us and decreased reimbursable expenses that we generated between periods from marketing
coordination services provided to some of our clients. We generated approximately $3.7 million in marketing fees during the first six months of fiscal 2009, compared to approximately
$20.0 million in marketing fees and reimbursable expenses from marketing coordination services during the first six months of fiscal 2008. We earned administrative fees for the daily management
of the securitization trusts of approximately $3.7 million during the first six months of fiscal 2009 and $3.6 million during the first six months of fiscal 2008. We earned
administrative fees for the daily management of the securitization trusts of approximately $1.8 million during the second quarter of fiscal 2009 and $1.9 million during the second
quarter of fiscal 2008.

Net Interest Income

Net interest income increased to $14.6 million for the first six months of fiscal 2009 from $11.2 million for the first
six months of fiscal 2008. Net interest income increased to $7.5 million for the second quarter of fiscal 2009 from $6.8 million for the second quarter of fiscal 2008. The increases in
the current year periods were primarily due to higher average education loan balances outstanding at our subsidiary, Union Federal, during the first six months of fiscal 2009 compared to the first six
months of fiscal 2008. Net interest income earned by Union Federal of $13.5 million and $7.0 million during the first six months of fiscal 2009 and the second quarter of fiscal 2009,
respectively, and $6.6 million and $4.3 million during the first six months of fiscal 2008 and the second quarter of fiscal 2008, respectively, was primarily derived from education loans
held for sale during each period.

60

---



Table of Contents

The following table reflects the rates earned on interest-earning assets and paid on interest-bearing liabilities for the three and six months ended
December 31, 2008 and 2007.

Consolidated Average Balance Sheet, Interest and Rates
(Taxable-Equivalent Interest and Rates, in thousands, except rates)

Three months ended December 31,2008

2007Average
Daily
Balance

Interest

Rate

Average
Daily
Balance

Interest

RateAssetsCash and cash equivalentstaxable

$
124,561

$
172


0.55
%
$
131,048

$
1,388


4.21
%Cash and cash equivalentstax exempt


3,138


10


2.01


19,458


170


5.36Federal funds sold


42,449


40


0.38


42,266


489


4.60Investmentstaxable


9,245


126


5.38


11,002


151


5.47Investmentstax exempt


71,825


436


3.71


132,550


1,135


5.24Education loans


509,491


11,352


8.84


267,680


7,299


10.85Mortgage loans


10,622


134


5.00


12,035


187


6.18Total interest-earning assets


771,331


12,270


6.53
%

616,039


10,819


7.65
%Cash and cash equivalents


806








449Service receivables


254,547








905,907Other assets


115,320








90,192Total assets

$
1,142,004







$
1,612,587LiabilitiesSavings accounts

$
57,785

$
488


3.35
%
$
50,112

$
616


4.89
%Money market accounts


40,614


453


4.43








Brokered deposits


77,304


585


3.00


63,592


839


5.25Warehouse line of credit


245,074


3,041


4.92


180,358


2,459


5.42Other short-term borrowings


16,957


38


0.89








Other interest-bearing liabilities


12,442


191


6.10


8,417


127


5.98Total interest-bearing liabilities


450,176


4,796


4.23
%

302,479


4,041


5.31
%Noninterest-bearing deposits


8,514








46All other liabilities


37,646








340,198Total liabilities


496,336








642,723Stockholders' equity


645,668








969,864Total liabilities and stockholders' equity

$
1,142,004







$
1,612,587Net interest margin


771,331


7,474


3.84
%

616,039


6,778


4.38
%


61

---



Table of Contents



Six months ended December 31,2008

2007Average
Daily
Balance

Interest

Rate

Average
Daily
Balance

Interest

RateAssetsCash and cash equivalentstaxable

$
109,513

$
587


1.06
%
$
105,000

$
2,338


4.43
%Cash and cash equivalentstax exempt


6,174


60


2.96


16,895


310


5.62Federal funds sold


66,076


462


1.39


36,500


872


4.75Investmentstaxable


9,271


251


5.38


11,253


309


5.46Investmentstax exempt


72,045


889


3.76


127,106


2,314


5.57Education loans


506,195


21,837


8.56


211,532


11,526


10.84Mortgage loans


10,769


285


5.26


12,239


384


6.25Total interest-earning assets


780,043


24,371


6.42
%

520,525


18,053


7.64
%Cash and cash equivalents


685








497Service receivables


320,862








866,976Other assets


83,369








101,255Total assets

$
(1,184,959
)






$
1,489,253LiabilitiesSavings accounts

$
59,863

$
1,012


3.36
%
$
47,627

$
1,189


4.96
%Money market accounts


42,125


829


3.90








Brokered deposits


110,284


1,750


3.15


61,560


1,631


5.27Warehouse line of credit


244,398


5,737


4.66


135,939


3,734


5.46Other short-term borrowings


8,478


38


0.88








Other interest-bearing liabilities


13,290


393


5.86


8,748


338


7.69Total interest-bearing liabilities


478,438


9,759


4.05
%

253,874


6,892


5.40
%Noninterest-bearing deposits


4,851








81All other liabilities


43,876








321,754Total liabilities


527,165








575,709Stockholders' equity


657,794








913,544Total liabilities and stockholders' equity

$
1,184,959







$
1,489,253Net interest margin


780,043


14,612


3.72
%

520,525


11,161


4.26
%


62

---



Table of Contents

Analysis of Changes in Net Interest Income
For the three months ended December 31, 2007 and
the three months ended December 31, 2008
(in thousands)

Due to Change inVolume

Rate

Net ChangeCash and cash equivalentstaxable

$
(65
)
$
(1,151
)
$
(1,216
)Cash and cash equivalentstax exempt


(143
)

(17
)

(160
)Federal funds sold


3


(452
)

(449
)Investmentstaxable


(23
)

(2
)

(25
)Investmentstax exempt


(518
)

(181
)

(699
)Education loans


6,631


(2,578
)

4,053Mortgage loans


(22
)

(31
)

(53
)Total interest income








1,451Savings accounts

$
96

$
(224
)
$
(128
)Money market accounts


453





453Brokered deposits


184


(438
)

(254
)Warehouse line of credit


892


(310
)

582Other short-term borrowings


38





38Other interest-bearing liabilities


61


3


64Total interest expense








755Net increase in net interest income







$
696


Analysis of Changes in Net Interest Income
For the six months ended December 31, 2007 and
the six months ended December 31, 2008
(in thousands)

Due to Change inVolume

Rate

Net ChangeCash and cash equivalentstaxable

$
107

$
1,858

$
1,751Cash and cash equivalentstax exempt


(197
)

(53
)

(250
)Federal funds sold


711


(1,121
)

(410
)Investmentstaxable


(54
)

3


(58
)Investmentstax exempt


(999
)

(426
)

(1,425
)Education loans


16,132


(5,821
)

10,311Mortgage loans


(45
)

(54
)

(99
)Total interest income








6,318Savings accounts

$
309

$
(486
)
$
(177
)Money market accounts


829





829Brokered deposits


1,299


(1,180
)

119Warehouse line of credit


2,998


(995
)

2,003Other short-term borrowings


38





38Other interest-bearing liabilities


177


(122
)

55Total interest expense








2,867Net increase in net interest income







$
3,451


63

---



Table of Contents

Non-interest Expenses

Total non-interest expenses, including compensation and benefits expenses and general and administrative expenses but
excluding unrealized losses on loans held for sale, decreased to $69.5 million for the first six months of fiscal 2009 from $171.2 million for the first six months of fiscal 2008. On the
same basis, non-interest expenses decreased to $29.8 million for the second quarter of fiscal 2009 from $73.7 million for the second quarter of fiscal 2008. Compensation and
benefits decreased to $25.6 million for the first six months of fiscal 2009 from
$51.7 million for the first six months of fiscal 2008. Compensation and benefits decreased to $10.3 million for the second quarter of fiscal 2009 from $19.7 million for the second
quarter of fiscal 2008. General and administrative expenses decreased to $44.0 million for the first six months of fiscal 2009 from $119.5 million for the first six months of fiscal
2008. General and administrative expenses decreased to $19.5 million for the second quarter of fiscal 2009 from $54.0 million for the second quarter of fiscal 2008.

The
decrease in compensation and benefits expense during the first six months of fiscal 2009 and second quarter of fiscal 2009 as compared to the prior year periods was primarily the
result of a decrease in personnel and a decrease in incentive compensation accruals, offset in part by severance costs. During the last two quarters of fiscal 2008, we announced a reduction in our
overall cost structure, including the reduction of headcount by over 600 employees. In September 2008 and November 2008, we further reduced headcount by approximately 100 employees. Following these
reductions, we had 234 full-time employees as of December 31, 2008, compared to 1,048 employees as of December 31, 2007.

General
and administrative expenses decreased during the first six months of fiscal 2009 as compared to the first six months of fiscal 2008 as a result of decreases in several categories
of expenses. Marketing coordination expenses decreased to $3.5 million for the first six months of fiscal 2009 from $46.9 million for the first six months of fiscal 2008. The decrease in
marketing coordination expense was primarily due to the termination by some clients of their marketing coordination agreements. External call center costs and temporary employment services costs
decreased to $1.0 million for the first six months of fiscal 2009 from $23.7 million in the first six months of fiscal 2008. The decrease in these costs was primarily due to decreases in
personnel necessary to process the decreasing volume of loans facilitated between periods. Equipment expenses decreased to $3.6 million for the first six months of fiscal 2009 from
$6.9 million for the first six months of fiscal 2008 principally as a result of lower software license and maintenance costs. The decrease in equipment expenses are due to
non-renewal of contracts and a decrease in spending due to a decrease in loan volumes and a lack of securitizations. Depreciation and amortization expense increased to $9.7 million
for the first six months of fiscal 2009 from $9.5 million for the first six months of fiscal 2008. The increase in depreciation is due to placing certain software projects into service.
Professional fees decreased to $6.2 million for the first six months of fiscal 2009 from $7.5 million for the first six months of fiscal 2008 primarily due to a decrease in the use of
consultants. Occupancy expenses decreased to $4.9 million for the first six months of fiscal 2009 from $7.1 million in the first six months of fiscal 2008 is a result of lower
communications costs, utilities and office maintenance costs.

General
and administrative expenses decreased during the second quarter of fiscal 2009 as compared to the second quarter of fiscal 2008 as a result of decreases in several categories of
expenses. Marketing coordination expenses decreased to $0.1 million for the second quarter of fiscal 2009 from $20.1 million for the second quarter of fiscal 2008. The decrease in
marketing coordination expense was primarily due to the termination by some clients of their marketing coordination agreements between periods. External call center costs and temporary employment
services costs decreased to $0.3 million for the second quarter of fiscal 2009 from $9.8 million in the second quarter of fiscal 2008. The decreases in temporary employment services
expense and external call center costs were primarily due to decreases in personnel necessary to process the decreasing volume of loans facilitated between periods.

64

---



Table of Contents

Unrealized Losses on Loans Held for Sale

Our loans held for sale at December 31, 2008 consisted of $461.0 million in education loans originated by Union Federal.
Under GAAP, we are required to reduce the carrying value of our education loans if their fair value decreases below our cost. In such an event, we are required to write-down the carrying
value of our education loans and may be required to provide additional regulatory capital to Union Federal. We recorded a reduction in the carrying value of loans held for sale of $50.5 million
and $29.3 million during the first six months and the second quarter of fiscal 2009, respectively. We did not adjust the carrying value of loans held for sale during the first six months of
fiscal 2008. As of December 31, 2008, $7.8 million of the loans held for sale were greater than 90 days past due.

Income Tax Expense (Benefit)

Income tax benefit increased to $104.8 million for the first six months of fiscal 2009 from income tax expense of
$34.8 million for the first six months of fiscal 2008. The increase in income tax benefit was primarily the result of a decrease in the amount of income before income tax expense between
periods due to the decrease in securitization volume between periods and the non cash adjustments to our service receivables and loans held for sale. During the first six months of fiscal 2009, our
effective tax rate, or the income tax expense (benefit) as a percentage of income (loss) before income tax expense (benefit), decreased to 36.0% from an effective tax rate of 40.5% for the first six
months of fiscal 2008. The decrease in our effective tax rate was primarily due to valuation allowances provided for certain deductable temporary differences and changes in the relative sources of
total revenues between periods.

Financial Condition, Liquidity and Capital Resources

Our liquidity requirements have historically consisted of capital expenditures, working capital, business development expenses, costs
associated with alternative financing transactions, general corporate expenses, repurchases of our common stock, quarterly cash
dividends and infusions of regulatory capital into Union Federal. In order to preserve capital and maximize liquidity in challenging market conditions, our board of directors has eliminated regular
quarterly cash dividends for the foreseeable future. In addition, we do not expect to repurchase shares of common stock for the foreseeable future. In fiscal 2009, we expect our overall operational
cash spend to decrease on an annualized basis by approximately 70% compared to fiscal 2008, including reduction of marketing coordination and operational expenses.

Short-term Funding Requirements

We expect to fund our short-term liquidity requirements through revenues from operations, cash, cash equivalents and
investments, and, subject to disposition of its current portfolio of education loans, various sources of funding that may be available to Union Federal to finance education loans. In August 2008, we
received aggregate gross proceeds of approximately $132.7 million from the sale of preferred stock to affiliates of GSCP. The proceeds from the sale of preferred stock significantly improved
our ability to meet our short-term liquidity requirements, although we remain uncertain about future regulatory capital requirements relating to Union Federal. We believe, based on our
operating plan as of February 9, 2009 and the proceeds of the sale of preferred stock, that our cash, cash equivalents, investments and revenues from operations will be sufficient to fund our
operations through fiscal 2010.

Our
business has been and continues to be adversely impacted by the current ABS market dynamics, including an inability to access the securitization market and interim financing
facilities. We did not complete a securitization transaction during the first six months of fiscal 2009, and we do not

65

---



Table of Contents

expect
to complete a securitization in the near-term. Our inability to generate up-front structural advisory fees has eroded our short-term liquidity position. We
expect pricing terms in future securitizations, if any, to be substantially less favorable than in the past. In particular, market conditions may dictate that we reduce or forgo our
up-front structural advisory fee in connection with securitizations, if any, that we are able to facilitate in the near term.

Historically,
TERI reimbursed us monthly for the expenses we incurred in providing outsourcing services to TERI pursuant to our master servicing agreement. As a result, TERI reimbursed
us for a significant portion of our operating expenses. Following termination of our master servicing agreement with TERI, and expiration of our transition services agreement, we do not expect to
receive a material amount of fees or reimbursement from TERI in the future. In addition, we expect to incur significant costs, including legal fees, in connection with the TERI Reorganization.

In
July 2007, UFSB Private Loan SPV, LLC, or UFSB-SPV, entered into a $300.0 million education loan warehouse facility with a conduit lender to fund the
purchase of education loans from Union Federal. At December 31, 2008, $245.7 million was outstanding. Under the facility, UFSB-SPV pledged the purchased education loans as
collateral for the advances it received from the conduit lender. The TERI Reorganization, and subsequent TERI ratings downgrades, resulted in events of termination under the indenture relating to the
facility. As a result, the facility termination date was declared, UFSB-SPV is not eligible for further borrowings under the facility and the conduit lender may elect to accelerate payment
of such notes. In April 2008, UFSB-SPV entered into a letter agreement pursuant to which it agreed to pay higher rates of fees to the conduit lender in consideration for an acknowledgement
by the conduit lender that interest on the notes issued under the facility would not be payable based on an alternative rate set forth in the indenture, or the Default Rate, unless and until the
conduit lender delivered further notice to UFSB-SPV. The conduit lender may elect for interest on outstanding notes to become payable at the Default Rate for periods following delivery of
notice of such election, in which case UFSB-SPV would pay fees at the lower rates in effect prior to the letter agreement. The facility termination date had been scheduled to occur on
July 16, 2008. Under the indenture, the facility termination date commences a liquidation period that ends on the date immediately following the later of July 14, 2010 and the date on
which the principal and interest on all outstanding notes, and all amounts otherwise payable by UFSB-SPV in connection with the facility, are paid in full. In October, November and
December 2008, additional events of termination occurred under the indenture relating to the one- and three-month default ratios on the underlying loan portfolio. The conduit lender's
recourse to us under the indenture is limited to education loans pledged as collateral.

In
November 2008, Union Federal entered into an agreement with the Federal Reserve Bank of Boston to provide a credit facility to fund operations. At December 31, 2008,
$50.0 million was outstanding under the facility. Union Federal has pledged education loans as collateral for the advances it received from the facility lender. Union Federal can borrow up to
75%, or $186.4 million, of the outstanding principal of education loans in a current repayment status as of December 31, 2008. The interest rate on the facility is variable based on the
Federal Reserve Bank of Boston's stated rates, which was 0.50% at December 31, 2008. All of the borrowings are due by March 31, 2009.

Union
Federal is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements would initiate certain
mandatory and possibly additional discretionary actions by the regulators that, if undertaken, could have a direct material effect on our liquidity. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, Union Federal must meet specific capital guidelines that involve quantitative measures of Union Federal's assets, liabilities and certain
off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classification, however, are also subject to qualitative judgments by the regulators
about components, risk weighting and other factors.

66

---



Table of Contents

Union
Federal's equity capital was $91.6 million at December 31, 2008. Quantitative measures established by regulation to ensure capital adequacy require Union Federal to
maintain minimum amounts and ratios of total capital and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined). Union Federal met all quantitative
capital adequacy requirements to which it was subject as of December 31, 2008 and June 30, 2008, and had a total risk-based ratio of 18.07% and 22.14%, a Tier 1
risk-based ratio of 18.06% and 22.08%, and a Tier 1 core capital ratio of 17.03% and 18.43%, respectively. As of December 31, 2008 and June 30, 2008, Union Federal was
well capitalized under the regulatory framework for prompt corrective action.

Union
Federal's regulatory authorities have from time to time requested that we provide additional capital to Union Federal, and we are in discussions with the OTS regarding, among other
things, the provision by us of additional regulatory capital. Additional infusions of regulatory capital into Union Federal could adversely affect our short-term liquidity.

Long-term Funding Requirements

We expect to fund our business through revenues from operations and through issuances of common stock, promissory notes or other
securities. We expect to assess our financing alternatives periodically and access the capital markets opportunistically. If our existing resources are insufficient to satisfy our liquidity
requirements, or if we were to enter into a strategic arrangement with another company, we may need to sell additional equity or debt securities. Any sale of additional equity or convertible debt
securities may result in additional dilution to our stockholders, and we cannot be certain that additional public or private financing will be available in amounts or on terms acceptable to us, if at
all. If we are unable to obtain this additional financing, we may be required to further delay, reduce the scope of, or eliminate one or more aspects of our operational activities, which could harm
our business.

Our
actual liquidity and capital funding requirements may depend on a number of factors, including:



67

---







Table of Contents

Treasury Stock

We had treasury stock of $184.2 million at December 31, 2008 and $184.0 million at June 30, 2008. Our
treasury stock balance was primarily derived from the repurchases of our common stock in open market transactions. Treasury stock also includes shares of our stock withheld from employees to satisfy
statutory minimum withholding obligations as equity compensation awards vest. As of December 31, 2008, we had repurchased an aggregate of 7,525,800 shares at an average price, excluding
commissions, of $24.27 per share, under various repurchase programs approved by our board of directors.

On
April 24, 2007, our board of directors approved the repurchase of up to 10 million shares of our common stock. The 10 million shares authorized for repurchase
included 3.4 million shares available for repurchase as of April 24, 2007 under a previously authorized repurchase program. As of December 31, 2008, we had repurchased an
aggregate of 1.2 million shares at an average price, excluding commissions, of $36.17 per share, under this repurchase program. At December 31, 2008, a maximum of 8.8 million
shares may be repurchased under the repurchase program approved by the board of directors on April 24, 2007. We did not repurchase any shares of common stock pursuant to this program during the
first six months of fiscal 2009.

Cash, Cash Equivalents, Federal Funds Sold and Investments

At December 31, 2008 and June 30, 2008, we had $222.0 million and $221.1 million, respectively, in cash,
cash equivalents, federal funds sold and investments. The increase in cash, cash equivalents, federal funds sold and investments is primarily due to cash received from the issuance of series B
preferred stock to affiliates of GSCP, offset by cash used to reduce deposits, fund operations, and pay income taxes.

Cash,
cash equivalents, federal funds sold and investments at December 31, 2008 and June 30, 2008 primarily included investments in variable rate demand notes, mortgage
backed securities, Federal Home Loan Bank bonds, funds deposited in taxable or tax-exempt money market funds and federal funds sold by our subsidiary, Union Federal.

Loans Held for Sale

Our loans held for sale decreased to $461.0 million at December 31, 2008 from $497.3 million at June 30,
2008. The decrease in loans held for sale is due to the fair value writedown of $50.5 million during the first six months of fiscal 2009 partially offset by capitalized interest income. Our
loans held for sale at December 31, 2008 and June 30, 2008 were comprised of education loans.

Service Receivables

Our service receivables decreased to $209.0 million at December 31, 2008 from $411.2 million at June 30,
2008, primarily as a result of changes we made to assumptions we use to estimate the fair value of our residual and additional structural advisory fee receivables. See "Executive
SummaryApplication of Critical Accounting Policies and EstimatesService Revenues and Receivables and the Valuation of Education Loans Held for Sale."

The
following chart illustrates the pre-tax amount and timing of cash flows expected to be released to us from additional structural advisory fees and residuals. The
information presented reflects our trust performance assumptions and undiscounted cash flow estimates from outstanding securitization trusts as of December 31, 2008. See "Executive
SummaryApplication of Critical Accounting Policies and EstimatesService Revenue and Receivables and the Valuation of Education Loans Held for Sale" for a discussion of our
key assumptions, as well as a sensitivity analysis of hypothetical changes to those assumptions. You are cautioned that the valuation assumptions require our subjective judgment and are susceptible to
change. We have made in the past, and will likely need to make in the future,

68

---



Table of Contents

adjustments
to our valuation assumptions. The actual cash releases from additional structural advisory fees and residuals that we receive from the trusts, and the actual timing of receipt, could be
materially different than reflected in the chart below as a result of variances between the actual performance of the securitization trusts and the assumptions as of December 31, 2008,
including assumptions relating to the sufficiency of pledged accounts, and the periodic replenishment thereof, and cumulative default rates of the securitization trusts and TERI's claims paying
ability.

GRAPHIC

The
information above is intended to supplement the financial information prepared and presented in accordance with GAAP appearing elsewhere in this quarterly report. We have provided
the cash flow projections in order to assist investors in assessing our liquidity needs and to provide additional information related to our existing additional structural advisory fees and residuals
receivables. See "Risk Factors" under Item 1A of Part II of this quarterly report for additional factors you should consider in evaluating the cash flow projections.

Property and Equipment, net

During the first six months of fiscal 2009, our property and equipment, net decreased by $10.5 million, primarily as a result of
a $1.4 million write-off of fixed assets that were taken out of service during the period, as well as $9.7 million of depreciation expense recorded during the period. During
the first six months of fiscal 2009, we had $0.3 million in acquisitions of equipment.

Other Prepaid Expenses

Our other prepaid expenses decreased to $9.2 million at December 31, 2008 from $15.4 million at June 30,
2008. The balance at June 30, 2008 included $10.5 million provided to the trusts to cover preclaim collection costs. As of December 31, 2008, the trusts had used
$4.1 million of the

69

---



Table of Contents

$10.5 million
provided to them. The remaining decrease in other prepaid expenses was primarily due to a decrease in prepaid insurance of $0.8 million and other various prepaid items.

Other Assets

Other assets increased to $5.4 million at December 31, 2008 from $3.8 million at June 30, 2008 primarily
due to a receivable of $0.8 million for marketing, processing and origination services performed on behalf of third party lenders and a rental deposit of $0.5 million.

Deposits

Deposits decreased to $138.0 million at December 31, 2008 from $244.1 million at June 30, 2008. Brokered
deposits decreased by $115.2 million and savings accounts decreased by $49.6 million, which were partially offset by an increase of $58.7 million in money market, savings
accounts, demand deposit accounts and time deposits.

Education Loan Warehouse Facility

We had $245.7 million in borrowings outstanding at December 31, 2008 under the education loan warehouse facility between
Union Federal and a conduit lender. We had
$242.9 million in borrowings outstanding under the facility at June 30, 2008. The facility provided interim financing which we used to fund the disbursement of education loans by Union
Federal. The TERI Reorganization, and subsequent TERI ratings downgrades, resulted in events of termination under the indenture relating to the facility. As a result, the facility termination date was
declared, UFSB-SPV is not eligible for further borrowings under the facility and the conduit lender may elect to accelerate payment of such notes. In April 2008, UFSB-SPV
entered into a letter agreement pursuant to which it agreed to pay higher rates of fees to the conduit lender in consideration for an acknowledgement by the conduit lender that interest on the notes
issued under the facility would not be payable based on an alternative rate set forth in the indenture, the Default Rate, unless and until the conduit lender delivered further notice to
UFSB-SPV. The conduit lender may elect for interest on outstanding notes to become payable at the Default Rate for periods following delivery of notice of such election, in which case
UFSB-SPV would pay fees at the lower rates in effect prior to the letter agreement. The facility termination date had been scheduled to occur on July 16, 2008. Under the indenture,
the facility termination date commences a liquidation period that ends on the date immediately following the later of July 14, 2010 and the date on which the principal and interest on all
outstanding notes, and all amounts otherwise payable by UFSB-SPV in connection with the facility, are paid in full. In October, November and December 2008, additional events of termination
occurred under the indenture relating to the one- and three-month default ratios on the underlying loan portfolio. The conduit lender's recourse under the indenture is limited to education
loans pledged as collateral.

Other Short-term Borrowings

We had $50.0 million in other short-term borrowings outstanding at December 31, 2008 from the Federal Reserve
Bank of Boston. Such borrowings are collateralized by up to 75% of the education loans held by our subsidiary, Union Federal, outside of UFSB-SPV. The short-term borrowings
mature at various dates over the 90 day period subsequent to December 31, 2008.

Accounts Payable and Accrued Expenses

Accounts payable and accrued expenses decreased to $20.1 million at December 31, 2008 from $20.5 million at
June 30, 2008. Our accounts payable were $0.4 million lower at December 31, 2008 as compared to June 30, 2008 primarily due to the timing of the receipt and processing of
invoices.

70

---



Table of Contents

Income Taxes Payable

Our income taxes payable liability of $31.3 million at June 30, 2008 changed to a prepaid income tax asset of
$6.8 million at December 31, 2008. The decrease in our income taxes payable is primarily due to tax payments from fiscal 2008 made during the period as well as lower taxable income
earned during the first six months of fiscal 2009.

Net Deferred Income Tax Liability/Asset

Our net deferred income tax liability of $10.4 million at June 30, 2008 changed to a deferred income tax asset of
$91.8 million at December 31, 2008. We have a net deferred income tax asset primarily because, under GAAP, we recognize additional structural advisory fees and residuals in our financial
statements earlier than they are recognized for income tax purposes. Our net deferred income tax liability changed to an asset primarily as a result of the decrease in additional structural advisory
fees and residuals receivables at December 31, 2008 compared to June 30, 2008.

Other Liabilities

Other liabilities decreased to $11.0 million at December 31, 2008 from $14.1 million at June 30, 2008.
Other liabilities primarily include our note payable to TERI, capital lease obligations and deferred rent related to several operating leases for office space. The decrease in other liabilities is
primarily due to a decrease in lease obligations and deferred rent.

Contractual Obligations

As of December 31, 2008, our contractual obligations had not changed materially from those described under the caption
"Item 7. Management's Discussion and Analysis of Financial Condition and Results of OperationsFinancial Condition, Liquidity and Capital ResourcesContractual
Obligations" in our annual report on Form 10-K for the fiscal year ended June 30, 2008.

Cash Flows

Our net cash used in operating activities decreased to $68.0 million for the first six months of fiscal 2009, compared to cash
used in operating activities of $225.9 million for the first six months of fiscal 2008. The decrease in cash used in operations resulted primarily from a $306.8 million reduction in the
funding of education loans.

Our
cash provided by investing activities was $54.7 million for the first six months of fiscal 2009, compared to cash used in investing activities of $45.6 million for the
first six months of fiscal 2008. Net cash provided by investing activities during the first six months of fiscal 2009 was primarily a result of the decrease in federal funds sold of
$57.0 million which were used to repay brokered deposits.

Net
cash provided by financing activities decreased to $68.1 million during the first six months of fiscal 2009, compared to net cash provided by financing activities of
$349.4 million during the first six months of fiscal 2008. Net cash provided by financing activities decreased during the first six months of fiscal 2009 primarily as a result of a lower growth
in deposits and less need to fund education loans.

We
expect that our capital expenditure requirements for the final two quarters of fiscal 2009 will be approximately $0.7 million. We expect to use these funds primarily for
reconfiguration of systems for a new product set that we are developing.

71

---



Table of Contents

Off-Balance Sheet Transactions

We offer outsourcing services in connection with private education loan programs, from program design through securitization of the
loans. We have structured and facilitated the securitization of education loans for our clients through a series of bankruptcy remote, qualified special purpose trusts.

The
principal uses of these trusts have been to generate sources of liquidity for our clients' and Union Federal's assets sold into such trusts and make available more funds to students
and colleges. See "Executive SummaryApplication of Critical Accounting Policies and EstimatesConsolidation" for a discussion of our determination to not
consolidate these securitization trusts.

Inflation

Inflation was not a material factor in either revenue or operating expenses during the periods presented.

Item 3Quantitative and Qualitative Disclosures about Market Risk

Risks Related to Cash, Cash Equivalents, Federal Funds Sold and Investments

We have market risk exposure related to changes in interest rates applicable to our cash, cash equivalents and investments. We manage
our market risk through a conservative investment policy, the primary objective of which is preservation of capital. At December 31, 2008, cash, cash equivalents, investments and federal funds
sold consisted primarily of investments in variable rate demand notes, Federal Home Loan Bank bonds, funds deposited in taxable
or tax-exempt money market funds and federal funds sold by Union Federal, all of which were due on demand or within one year, except the Federal Home Loan Bank bonds, which are due
beginning in 2034. As a result, we do not believe a change in interest rates would have a material impact on the fair value of cash, cash equivalents, federal funds sold or investments.

Risks Related to Loans Held for Sale and Deposits

We also have market risk exposure related to our loans held for sale and deposits. Our loans held for sale at December 31, 2008
consisted of $461.0 million in education loans originated by Union Federal. Our loans held for sale are recorded at lower of cost or fair value and as a result of their variable interest rates,
are not subject to interest rate sensitivity. Under GAAP, we are required to reduce the carrying value of our education loans if their fair value decreases below our cost. In such an event, we are
required to write-down the carrying value of our education loans and may be required to provide additional regulatory capital to Union Federal. At December 31, 2008, our education
loans had an average interest rate of approximately 8.40%. All of our education loans, and approximately 56% of our mortgage loans, have variable interest rates.

We
held deposits of $138.0 million at December 31, 2008. Our deposits are recorded at the amount owed. Our deposit balances are subject to changes in economic value based
on varying market conditions, primarily changes in the levels of interest rates. At December 31, 2008, our deposits had an average interest rate of approximately 3.24%. Less than 1% of our
deposits have fixed interest rates in excess of 12 months. Approximately 84% of our deposits have fixed interest rates of 6 months or less.

We
do not believe a change in interest rates would have a material impact on the fair value of our loans held for sale or deposits since the majority of these assets and liabilities
carry interest rates that are variable and any loss we may incur would not be material relative to our consolidated financial statements.

72

---



Table of Contents

Risk Related to Structural Advisory Fees and Residuals

Because there are no quoted market prices for our additional structural advisory fees and residuals receivables, we use discounted cash
flow modeling techniques and various assumptions to estimate their values. We base these estimates on our proprietary historical data, third party data and our industry experience, adjusting for
specific program and borrower characteristics such as loan type and borrower creditworthiness. We also monitor trends in loan performance over time and make adjustments we believe are necessary to
value properly our receivables balances at each balance sheet date. Because our estimates rely on quantitative and qualitative factors, including macroeconomic indicators to predict prepayment,
default and recovery rates, management's ability to determine which factors are relevant to our estimates, and our ability to accurately incorporate those factors into our estimates, can have a
material effect on our valuations.

Our
assumptions regarding TERI's obligation and ability to pay claims on defaulted loans affects the expected timing of cash payments to us in respect of additional structural advisory
fees and residuals, which in turn affects our estimates of their fair value. If we were to determine that recoveries with respect to a trust's defaulted education loans would be unavailable to
replenish the trust's pledged account, the estimated value of our additional structural advisory fees and residuals would be reduced. In addition, increases in our estimates of defaults, prepayments
and discount rates, increases in the spread between LIBOR indices and auction rates, as well as decreases in default recovery rates and the multi-year forward estimates of the LIBOR rate,
which is the reference rate for the loan assets and borrowings of the securitization trusts, would have a negative effect on the value of our additional structural advisory fees and residuals. For an
analysis of the estimated change in our structural advisory fees and residuals receivables balance at December 31, 2008 based on changes in our loan performance assumptions, see "Management's
Discussion and Analysis of Financial Condition and Results of OperationsExecutive SummaryApplication of Critical Accounting Policies and EstimatesSensitivity
Analysis." For a chart illustrating the amount and timing of cash flows expected to be released to us from additional structural advisory fees and residuals, see "Management's Discussion and Analysis
of Financial Condition and Results of OperationsFinancial Condition, Liquidity and Capital ResourcesService Receivables."

Item 4Controls and Procedures

Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of our
disclosure controls and procedures as of December 31, 2008. The term "disclosure controls and procedures," as defined in Rules 13a-15(e) and 15d-15(e) under the
Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act
is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the SEC.
Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or
submits under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, as appropriate to allow timely decisions
regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and
management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and
procedures as of December 31, 2008, our chief executive officer and chief financial officer concluded that, as of such date, our disclosure controls and procedures were effective at the
reasonable assurance level.

73

---





Table of Contents

No change in our internal control over financial reporting, as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act,
occurred during the fiscal quarter ended December 31, 2008 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Part II. Other Information

Item 1Legal Proceedings

In April and May 2008, seven purported class action lawsuits were filed against us and certain of our current and former officers and
certain of our directors in the United
States District Court for the District of Massachusetts. The plaintiffs allege, among other things, that the defendants made false and misleading statements and failed to disclose material information
in various SEC filings, press releases and other public statements. The complaints allege various claims under the Exchange Act and Rule 10b-5 promulgated thereunder. The complaints
seek, among other relief, class certification, unspecified damages, fees and such other relief as the court may deem just and proper. In August 2008, the court consolidated these cases and appointed
lead plaintiffs and a lead counsel.

On
November 28, 2008, a consolidated amended complaint was filed by the lead plaintiffs and contained similar allegations as the earlier complaints. On February 9, 2009, we
filed a motion to dismiss the amended complaint. Plaintiffs opposition to our motion to dismiss is due to be filed in April 2009. A class had not been certified in the actions as of February 9,
2009.

In
addition, three federal derivative lawsuits, and one state derivative lawsuit, have been filed against certain of our current and former officers and directors and nominally against
us in the United States District Court for the District of Massachusetts and Massachusetts Superior Court, respectively. The derivative complaints allege various violations of federal and state law,
including violations of the Exchange Act, breaches of fiduciary duties, waste of corporate assets and unjust enrichment. The derivative complaints seek a monetary judgment, injunctive relief,
restitution, disgorgement and a variety of purported corporate governance reforms. In August 2008, the federal court consolidated the federal derivative cases and stayed them pending resolution of the
purported class actions described above. In January 2009, the state court stayed the state derivative action until July 2009.

We
intend to vigorously assert our defenses in these actions. There can be no assurance, however, that we will be successful, and an adverse resolution of any of the lawsuits could have
a material effect on our consolidated financial position and results of operations in the period in which a lawsuit is resolved. In addition, although we carry insurance for these types of claims, a
judgment significantly in excess of our insurance coverage could materially and adversely affect our financial condition, results of operations and cash flows. We are not presently able to reasonably
estimate potential losses, if any, related to the lawsuits. We expect that this securities litigation, as well as any future litigation, could result in substantial costs and divert management's
attention and resources from our business.

Item 1ARisk Factors

Investing in our common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below
in addition to the other information included in this quarterly report. If any of the following risks actually occurs, our business, financial condition or results of operations would likely suffer.
In that case, the trading price of our common stock could fall. Although we have grouped risk factors by category, the categories are not mutually
exclusive. Risks described under one category may also apply to another category, and you should carefully read the entire risk factors section, not just any one category of risk factors.

We
have updated certain of the following risk factors to reflect financial, operational and investment information for the most recently completed fiscal quarter. We have made material
changes

74

---



Table of Contents

to
the following risk factors as compared to the version disclosed in our quarterly report on Form 10-Q for the fiscal quarter ended September 30,
2008:



Risks Related to Asset-Backed Securitizations and Other Funding Sources

We have historically derived a significant portion of our revenue and substantially all of our income from structuring securitization transactions; our financial results and
future growth will continue to be adversely affected if we are unable to structure securitizations.

Securitization refers to the technique of pooling loans and selling them to a special purpose, bankruptcy remote entity, typically a
trust, which issues securities backed by those loans to investors. As of the date of this report, we have provided structural advisory and other services for 38 loan securitizations since our
formation in 1991. In connection with past securitizations, we have received compensation in the form of structural advisory fees, residuals and administrative fees for management of the trusts. The
amount and timing of the fees and residuals we recognize are affected, in part, by the timing, size and structure of the securitization transactions, as well as the composition of loan pools to be
securitized, the return expectations of investors and assumptions we make regarding loan portfolio performance, including defaults, recoveries, prepayments and the cost of funding. We derived
approximately $320.4 million in revenue from new securitizations in fiscal 2008.

We
did not complete a securitization during the second, third or fourth quarters of fiscal 2008 or during the first or second quarters of fiscal 2009, which contributed to our net losses
for each quarter. Our securitization volumes materially decreased in fiscal 2008 compared to fiscal 2007. We do not expect to complete a securitization in the near term and may not complete any
securitizations during fiscal 2009. In addition, we expect pricing terms in future securitizations, if any, to be substantially less favorable than in the past. We also expect investors to have
limited or no demand for subordinate tranches of ABS in securitization transactions, if any, that we may be able to facilitate in the foreseeable future. The inability to access the securitization
market, together with the TERI Reorganization, has impacted our client relationships, reduced our facilitated loan volume and challenged our business prospects. If we continue to be unable to access
the ABS market, our revenues may continue to decline and we may continue to generate net losses, which would further erode our liquidity position. We will need to continue to adapt and gain market
acceptance for our products and services, or develop alternative means for generating revenues, in order to overcome the challenges we are facing.

A number of factors, some of which are beyond our control, have adversely affected and may continue to adversely affect our securitization activities and thereby adversely
affect our results of operations.

Our near-term financial performance and the success of our business depend in large part on our ability to structure
securitizations. Several factors have had, and may continue to have, a material

75

---



Table of Contents

adverse
effect on both our ability to structure securitizations and the revenue we generate for providing our structural advisory and other services, including the
following:



We
have actually experienced, or are at particular risk of experiencing in the near term, the first seven factors listed above.

A
portion of the securities issued since 1998 in securitization transactions that we structured were sold to asset-backed commercial paper conduits. If these or similar asset-backed
conduits cease to purchase securities in the securitizations that we structure, we may experience a delay in the timing of our securitizations as we seek to find alternate channels of distribution.

Capital markets dislocations, and the timing, size and structure of any future capital markets transactions, will greatly affect our quarterly financial results.

Our quarterly revenue, operating results and profitability have varied on a quarterly basis in the past primarily as a result of the
timing, size and structure of any capital markets transactions that we

76

---



Table of Contents

have
facilitated and, to a lesser extent, the seasonality of education loan originations, which in the past has affected the amount of processing fees from TERI that we earned in a particular quarter.
Recent disruptions and volatility in the ABS market have adversely affected our ability to structure securitizations and will affect the terms of any future capital markets transactions that we are
able to structure. In fiscal 2008, we facilitated two securitizations in the first quarter, but no securitizations during the remainder of fiscal 2008. We did not facilitate any securitization
transactions during the first six months of fiscal 2009 and do not expect to facilitate any in the near-term. Conditions in the capital markets have also led to significant write-downs of
our service receivables and the portfolio of private student loans held by Union Federal, which have contributed to the variability of our quarterly revenue and operating results. Continuing
dislocations in the capital markets, and the size, structure or economic terms of our future capital markets transactions, if any, could increase the variability of our operating results on a
quarterly basis. We are uncertain whether the fee structure that we have historically used will be used in any future securitization transaction. In particular, market conditions may dictate that we
reduce or forgo our up-front structural advisory fee in connection with securitizations, if any, that we are able to facilitate in the near term. Developments in the TERI Reorganization,
including legal challenges to the trusts' security interests and resulting write-downs in our service receivables, could also contribute to increased variability of our operating results. Finally, our
operating results may continue to be affected by the seasonality of education loan applications and loan originations. Origination of education loans is generally subject to seasonal trends, with the
volume of loan applications increasing with the approach of tuition payment dates.

We may need to pursue alternatives to securitizations, which may not be available or the terms of which may not be attractive.

Education loan asset-backed securitizations have historically been our sole source of permanent financing for our clients' private
education loan programs. We were unable to complete a securitization transaction during the first six months of fiscal 2009, and we do not expect to complete a securitization in the
near-term. In addition, we have been unsuccessful in obtaining alternatives to securitization to finance our clients' loans. Other sources of funding have not been available to us on
acceptable terms, if available at all. Recent conditions in the capital markets have generally resulted in a substantial widening of credit spreads and significantly more restrictive covenants, which
has adversely affected the pricing and terms and conditions of alternative funding mechanisms that we have pursued. In addition, we are uncertain as of February 9, 2009 whether we will be
eligible to participate in the TALF. In the meantime, our facilitated loan volume available for securitization has grown since the securitization transactions we completed in the first quarter of
fiscal 2008. At December 31, 2008, the principal balance of loans facilitated and available to us for securitization was approximately $2.4 billion of which $94.4 million was
facilitated in the first six months of 2009.

Under
the terms of our purchase agreements with lender clients, we generally have an obligation to use our best efforts to facilitate the purchase of a client's loans during a specified
loan purchase period. The length of the loan purchase period varies by client and generally ranges from 195 days to 555 days following final loan disbursement. Our purchase agreements
applicable to approximately $1.2 billion of the facilitated loan volume available for securitization as of December 31, 2008 do not include a liquidated damages provision in the event
that we fail to facilitate a securitization in breach of our obligations, and the amount of our potential liability with respect to such loans is not determinable at this time. If we do not honor our
contractual obligations, our value proposition to clients and prospective clients would be compromised, our relationships with current clients could terminate and our prospective clients may not be
interested in entering into business arrangements with us. In addition, our financial results would be adversely affected if we were required to pay damages.

77

---



Table of Contents

In structuring and facilitating securitizations of our clients' loans and as holders of rights to receive residual cash flows in those trusts, we may incur liabilities to
investors in the asset-backed securities those trusts issue.

We have facilitated and structured a number of different special purpose trusts that have been used in securitizations to finance
education loans that our clients originate. Under applicable state and federal securities laws, if investors incur losses as a result of purchasing ABS that those trusts issue, we could be deemed
responsible and could be liable to those investors for damages. If we failed to cause the trusts to disclose adequately all material information regarding an investment
in the ABS or if the trust made statements that were misleading in any material respect in information delivered to investors, it is possible that we could be held responsible for that information or
omission. In addition, under various agreements entered into with underwriters or financial guaranty insurers of those ABS, as well as certain lenders, we are contractually bound to indemnify those
persons if investors are successful in seeking to recover losses from those parties and the trusts are found to have made materially misleading statements or to have omitted material information.

If
we are liable for losses investors incur in any of the securitizations that we facilitate or structure and any insurance that we may have does not cover this liability or proves to be
insufficient, our profitability or financial position could be materially adversely affected.

Risks Related to Our Financial Reporting and Liquidity

If the estimates we make, or the assumptions on which we rely, in preparing our financial statements prove inaccurate, our actual results may vary materially from those
reflected in our financial statements.

Historically, we have received structural advisory fees for our services in connection with securitization transactions. We have
received an up-front portion of these structural advisory fees when the securitization trust purchases the loans. We are entitled to receive an additional portion of these structural
advisory fees over time, based on the amount of loans outstanding in the trust from time to time over the life of the trust. We also have the right to receive a portion of any residual interests that
the trust creates. As required under GAAP, we recognize as revenue an estimate of the fair value of the additional portion of the structural advisory fees and residuals at the time the securitization
trust purchases the loans because these revenues are deemed to be earned before they are actually paid to us.

We
record additional structural advisory fees and residuals as receivables on our balance sheet at our estimate of their fair value. Because there are no quoted market prices for our
additional structural advisory fees or residuals receivable, we use discounted cash flow modeling techniques and certain assumptions to estimate fair value. We estimate the fair value both initially
and in each subsequent quarter and reflect the change in our estimate of fair value in earnings for that period. Our key assumptions to estimate the fair value include: discount rates; the annual rate
and timing of education loan prepayments; the trend of interest rates over the life of the loan pool, including the forward LIBOR curve, and the spread between LIBOR and auction rates; the expected
annual rate and timing of loan defaults, and TERI's obligation and ability to pay default claims; expected recoveries of defaulted loans, including the use of recoveries to replenish trusts' pledged
funds; the source and amount of guaranty payments made on defaulted loans; and the fees and expenses of the securitization
trusts. Our estimates rely on quantitative and qualitative factors, including macroeconomic indicators to predict prepayment, default and recovery rates, and management's ability to determine which
factors are more heavily weighted in our estimates, and to accurately incorporate those factors into our estimates, are subjective and can have a material effect on valuations.

We
have adjusted our key accounting assumptions throughout fiscal 2008 and the first six months of 2009. During the second quarter of fiscal 2008, changes to our assumptions resulted in
a $183.7 million pre-tax decrease in the value of our additional structural advisory fees and residuals receivables. During the third quarter of fiscal 2008, we changed our key
accounting assumptions,

78

---



Table of Contents

including
our assumptions with regard to TERI's obligation and ability to pay guaranty claims from its general reserves, which resulted in a $322.4 million pre-tax decrease in the
value of our additional structural advisory fees and residuals receivables. During the fourth quarter of fiscal 2008, we further changed our key accounting assumptions, including our assumptions with
regard to the discount rates used in determining the value of our service receivables, which resulted in a $70.9 million pre-tax decrease in the value of those receivables. During
the first quarter of fiscal 2009, we again changed our key accounting assumptions, including our assumptions with regard to the default and discount rates used in determining the value of our service
receivables, which resulted in a $111.7 million pre-tax decrease in the value of those receivables. Finally, during the second quarter of fiscal 2009, we further adjusted our key
accounting assumptions, including our assumptions with regard to the auction rates and discount rates used in determining the value of our service receivables, which resulted in a
$121.2 million pre-tax decrease in the value of those receivables. In general, our adjustments during fiscal 2008 and the first six months of fiscal 2009 were necessary because
securitization trusts had performed below our range of expectations, including with regard delinquencies and defaults, dislocations in the capital markets that began in the second quarter of fiscal
2008 persisted through December 31, 2008 requiring significant adjustments to our discount rate, TERI's claims paying ability is less certain as a result of the TERI reorganization, and the
estimated cost of funding auction rate notes issued by several securitization trusts was projected to be higher than previously estimated. For a discussion of these changes and the sensitivity of the
additional structural advisory fees and residuals to variations in our assumptions and estimates, see "Management's Discussion and Analysis of Financial Condition and Results of
OperationsExecutive SummaryApplication of Critical Accounting Policies and Estimates."

If
the actual performance of some or all of the securitization trusts were to vary appreciably from the adjusted assumptions we use, we may need to adjust further our key assumptions,
which could adversely affect our earnings in the period in which our assumptions change, and the actual additional structural advisory fees and residuals that we receive from the trusts could be
significantly less than reflected in our current financial statements. In addition, our securitization yields, or our structural advisory fees and residuals from a new securitization transaction
expressed as a percentage of the total principal and accrued interest securitized, realized on future securitized transactions could decrease if the actual performance of some or all of the
securitization trusts varies from the key assumptions we have historically used. In particular, economic, regulatory, competitive and other factors affecting prepayment, default and recovery rates on
the underlying securitized loan portfolio, including full or partial prepayments and prepayments as a result of loan consolidation activity, could cause or contribute to differences between the actual
performance of the securitization trusts and our key
assumptions. In addition, developments in the TERI Reorganization, including challenges to the trusts' security interests in collateral securing TERI's guaranty obligations or TERI's rejection of its
guaranty agreements could cause us to adjust further our key assumptions. As of February 9, 2009, TERI had not rejected or otherwise indicated how it will treat its guaranty obligations, and
for purposes of estimating the fair value of our service receivables, we assumed at December 31, 2008 that the application of collateral will continue in the ordinary course in accordance with
existing agreements. Finally, continuing dislocations in the capital markets have resulted in increased volatility in investors' demand and yield requirements for ABS. If such conditions persist, we
may need to adjust further our key assumptions.

While
we have no further obligation to support the obligations within the bankruptcy-remote securitization trusts, our residuals and additional structural advisory fees in each
securitization we have facilitated are subordinate to securities issued to investors in such securitizations and may fail to generate any cash flow for us if the securitized assets do not generate
enough cash flow to pay debt holders in full or only generate enough cash flow to pay the debt holders. Our projected cash flows from service receivables from several securitization trusts are
expected to be eliminated entirely if LIBOR remains at current rates or decreases, or if the future cost of funding auction rate notes does

79

---



Table of Contents

not
decrease from the levels currently projected. As a result of the TERI Reorganization, we expect as of December 31, 2008 to receive additional structural advisory fees and residuals
beginning five to seventeen years and five to eighteen years, respectively, after the date of a particular securitization transaction. At December 31, 2007, we expected to receive such cash
flows beginning five to seven years after the date of a particular securitization.

Our
loans held for sale at December 31, 2008 consisted of $461.0 million in education loans originated by Union Federal. Our loans held for sale are recorded at lower of
cost or fair value. The estimated fair value of loans held for sale is evaluated on a periodic basis and, in the absence of readily determined market values, is based on the present value of expected
future cash flows using management's estimates. Under GAAP, we are required to reduce the carrying value of our education loans if their fair value decreases below our cost. In such an event, we are
required to write-down the carrying value of our education loans, which would result in an increase in our general and administrative expenses, and we may be required to provide additional
regulatory capital to Union Federal. We recorded a valuation adjustment of approximately $7.3 million in fiscal 2008 and $50.5 million in the first six months of fiscal 2009, and we may
be required to make additional adjustments in the future.

Our assumptions regarding the future cost of funding of auction rate notes are highly uncertain and greatly affect the valuation of our service receivables.

Five private education loan trusts have issued auction rate notes to finance, in whole or in part, the purchase of education loans.
Interest rates for the auction rate notes are determined from time to time at auctions. We use a spread over one-month LIBOR to project the future cost of funding of the auction rate notes
issued by each such trust in determining the value of our service receivables.

Prior
to the second quarter of fiscal 2008, the spread over one-month LIBOR that we used to estimate the future cost of funding was based on historical trends, then current
auction rates for each trust and assumptions for future auction rates. During the second quarter of fiscal 2008, material deterioration of the debt capital markets resulted in actual auction rates
that trended significantly higher than the rates we had assumed in the past. We also concluded that the higher actual auction rates would persist, resulting in a greater spread over LIBOR, for a
longer period of time than we had previously estimated. Our assumption with regard to future auction rates, like our other key valuation assumptions, requires our subjective judgment and is
susceptible to change.

The
interest rate on each outstanding auction rate note is limited by a maximum rate. The maximum rate is the least of three rates: a floating interest rate (generally
one-month LIBOR plus a margin), a fixed interest rate and the maximum legally permissible rate. The margin applicable to the floating interest rate is dependent upon the then current
ratings of the notes subject to an auction. If the notes are downgraded, the applicable margin, and the maximum floating rate, would increase. If the interest rate determined pursuant to the auction
procedures would exceed the maximum rate, the interest rate for the applicable interest period would be set at the maximum rate, but the amount of the "excess" interest would accrue as "carryover
interest." A noteholder's right to receive carryover interest is superior to our interests in the applicable securitization trust. As a result, our projected cash releases from securitization trusts
that have issued auction rate notes, including the timing of receipt, could be materially adversely affected by increased costs of funding of auction rate notes, including the extent to which a trust
accrues carryover interest.

Under
the contracts by which auctions are conducted, broker-dealers may submit orders in auctions for their own account. As a result of such bidding, a broker-dealer may prevent a failed
auction, or the interest rate resulting from an auction may be lower than the rate that would have prevailed had the broker-dealer not bid. A failed auction occurs when an existing owner does not have
its notes purchased through the auction procedures because the amount of notes submitted for sale

80

---



Table of Contents

exceeds
the amount of purchase orders. Broker-dealers, some of which have served as underwriters of the securitizations that we have facilitated, have bid, and may continue to bid, in auctions
relating to our trusts' auction rate notes. These bids in the past have both prevented failed auctions and supported interest rates determined at auction. Broker-dealers have no obligation to submit
orders in auctions,
and to the extent broker-dealers do not submit such bids in the future, the interest rates on our trusts' auction rate notes could be higher than they have been historically, including higher than the
maximum rate, which would result in carryover interest, and there could be failed auctions for such notes.

During
the third quarter of fiscal 2008, the auction rate securities market systematically failed. During the third and fourth quarters of fiscal 2008, and the first and second quarters
of fiscal 2009, failed auctions occurred with respect to auction rate notes issued by each of the five securitization trusts that have issued auction rate notes. As a result of the failed auctions,
the auction rate notes bear interest at a maximum rate, which was calculated as of December 31, 2008 as one-month LIBOR plus 1.50%, in the case of auction rate notes that were rated
at least Aa3 by Moody's and AA- by S&P as of December 31, 2008, or one-month LIBOR plus 2.50%, in the case of auction rate notes that were rated at least A3 by Moody's
and A- by S&P as of December 31, 2008. Auction rate notes issued by two securitization trusts are also rated by Fitch, and bear interest at a maximum rate, which was calculated as
of December 31, 2008 as one-month LIBOR plus 1.50%, in the case of auction rate notes that were rated at least AA- by Fitch as of December 31, 2008, or
one-month LIBOR plus 2.50%, in the case of auction rate notes that were rated at least A- by Fitch as of December 31, 2008. During the third quarter of fiscal 2008, we
revised our assumption with regard to the future cost of funding of auction rate notes. We assumed at March 31, 2008 that all outstanding auction rate notes would continue to bear interest at
the then-current spreads over one-month LIBOR until their expected maturity dates. As a result, during the third quarter of fiscal 2008, we decreased the estimated fair value
of our residuals receivable by $59.5 million and the estimated fair value of our additional structural advisory fees receivable by $54,000. See "Management's Discussion and Analysis of
Financial Condition and Results of OperationsExecutive SummaryApplication of Critical Accounting Policies and EstimatesService Revenue and Receivables and the
Valuation of Education Loans Held for Sale", and in the securitization trust cash flow projections included under "Management's Discussion and Analysis of Financial Condition and Results of
OperationsFinancial Condition, Liquidity and Capital ResourcesService Receivables."

In
October 2008, Moody's downgraded the ratings assigned to certain subordinated auction rate notes to below A3. As a result, the interest rate spread on these notes increased from
one-month LIBOR plus 1.50% to one-month LIBOR plus 3.50%. In November 2008, Moody's downgraded the insurance financial strength rating of Ambac to Baa1 from Aa3. Ambac has
provided credit enhancement for certain ABS issued in securitizations that we have facilitated, including certain auction rate notes. The downgrading of Ambac's ratings resulted in a downgrading of
the ratings assigned to certain of our auction rate notes. As a result, the interest rate on certain of those auction rate notes increased from one-month LIBOR plus 1.50% to
one-month LIBOR plus 2.50% or, in some cases, to one-month LIBOR plus 3.50%, and the interest rate of certain of those auction rate notes increased from one-month
LIBOR plus 2.50% to one-month LIBOR plus 3.50%. We assumed at December 31, 2008 that all outstanding auction rate notes would continue to bear interest at the
then-current maximum spreads over one-month LIBOR until their expected maturity dates. The increased cost of funding of these notes resulted in a decrease of
$13.1 million in the estimated fair value of our additional structural advisory fees, and a decrease of $31.8 million in the estimated fair value of our residuals, during the second
quarter of fiscal 2009. We provide a sensitivity analysis with respect to auction rate notes under the caption "under "Management's Discussion and Analysis of Financial Condition and Results of
OperationsApplication of Critical Accounting Policies and EstimatesSensitivity Analysis."

81

---





Table of Contents

Auctions have historically provided a liquid market for our trusts' outstanding auction rate notes. Illiquidity as a result of failed auctions could result in
higher interest rates determined by future auctions, derogatory rating agency action, including ratings downgrades, and impairment charges by the holders of the outstanding auction rate notes, each of
which could materially adversely affect future demand for auction rate notes that we facilitate and limit a financing structure that we have used as recently as the first quarter of fiscal 2008.

Our financial results could be adversely affected if we were required to consolidate the financial results of the entities that we use for securitizations that we
facilitate.

We provide structural advisory and other services for loan securitizations undertaken through statutory trusts. We do not consolidate
the financial results of the trusts with our own financial results. For a discussion of our decision not to consolidate, see "Management's Discussion and Analysis of Financial Condition and Results of
OperationsExecutive SummaryApplication of Critical Accounting Policies and EstimatesConsolidation" included in this quarterly report. Some of the accounting
rules relevant to this issue are in the process of being amended. In particular, the FASB has embarked upon a project to amend FASB Statement No. 140,Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,that would potentially remove the concept of the QSPE from such statement effective for fiscal
years beginning after November 15, 2009 and thereby eliminate gain on sale accounting as currently utilized by us. As a result of this, the FASB would then also remove the
QSPE exception from FIN No. 46R,Consolidation of Variable Interest Entities. The FASB collected comments on an exposure draft on this topic on
November 14, 2008. The ultimate impact, if any, of these deliberations on our accounting practices is uncertain as of February 9, 2009. If we were required to consolidate the financial
results of one or more trusts with our own financial results as a result of amendments or changes in accounting rules, or if the SEC or other accounting authorities do not agree with our current
approach, our financial results could be adversely affected. Our near-term financial results could also be adversely affected if we were to conduct future securitization transactions, or
alternative funding transactions, as "on balance sheet" financing transactions.

Changes in interest rates could affect the value of our additional structural advisory fees and residuals receivable, as well as demand for private education loans and our
services.

Private education loans typically carry floating interest rates tied to prevailing short-term interest rates. Higher
interest rates would increase the cost of the loan to the borrower, which in turn, could cause an increase in default rates for outstanding education loans. In addition, higher interest rates, or the
perception that interest rates could increase in the future, could cause an increase in prepayments, including full or partial prepayments or prepayments as a result of loan consolidation activity. In
particular, prepayments may increase during periods in which long-term interest rates, such as interest rates on mortgages, are lower than short-term interest rates, including
rates on education loans. If the prepayment or default rates increase for the education loans held by the securitization trusts, we may experience a decline in the value of our additional structural
advisory fees and residuals receivable, which could cause a decline in the price of our common stock and could cause future securitization transactions to be less profitable for us. In addition, an
increase in interest rates could reduce borrowing for education generally, which, in turn, could cause the overall demand for our services to decline.

LIBOR
is the underlying rate for most of the trusts' assets and liabilities and changes in LIBOR can have a significant effect on the cash flows generated by each trust. Changes in the
forward LIBOR curve affect the principal balances of education loans held by the trusts, particularly as interest is capitalized during loan deferment, which affects the net interest margin that the
trust generates. In addition, certain trusts have issued a tranche of ABS that bears a fixed interest rate. A decrease in the

82

---



Table of Contents

forward
LIBOR may result in a reduced spread on the fixed-interest tranche, which in turn decreases the estimated fair value of our service receivables. Significant changes to the forward LIBOR curve
can also affect the estimated fair value of our additional structural advisory fees, which bear interest at the rate of LIBOR plus 150 basis points to the extent such fees are accrued but unpaid by
the trusts. During the second quarter of fiscal 2009, the forward LIBOR curve decreased by approximately 200 basis points, an unusually large change. The change reduced the estimated fair value of our
residuals receivable by $16.1 million, primarily as a result of a reduced spread on the fixed interest ABS, and reduced the estimated fair value of our additional structural advisory fees by
$15.4 million, primarily as a result of a lower interest rate applicable to accrued but unpaid fees.

If sufficient funds to finance our business, including Union Federal, are not available to us when needed or on acceptable terms, then we may be required to delay, scale
back or alter our strategy.

We may require additional funds for our programs, our operating expenses, the pursuit of regulatory approvals, acquisition
opportunities and the expansion of our capabilities. Historically, we have satisfied our funding needs primarily through education loan asset-backed securitizations. The securitization market has not
been available to us and may not be available to us when needed in the future, and, if available, the terms may not be acceptable to us. We have also satisfied our funding needs through equity
financings. Pursuant to an investment agreement with affiliates of GSCP, we received aggregate gross proceeds of approximately $192.5 million, $59.8 million of which was received in
December 2007 and $132.7 million of which was received in August 2008, in connection with the sale of equity securities to the purchasers. We cannot assure you that the proceeds of the equity
investment by affiliates of GSCP will be sufficient to satisfy our liquidity needs or capital funding requirements beyond fiscal 2010, particularly in the event of a prolonged dislocation in the
private education loan ABS market. Our short-term needs also remain subject to uncertainties regarding regulatory capital requirements of Union Federal. Union Federal's regulatory
authorities have from time to time requested that we provide additional capital to Union Federal, and we are in discussions with the OTS regarding, among other things, the provisions by us of
additional regulatory capital. Additional infusions of regulatory capital by us into Union Federal could adversely affect our short-term liquidity. Insufficient funds could require us to
delay, scale back or eliminate certain of our programs and further scale back our expenses.

Risks Related to the TERI Reorganization

The TERI Reorganization has had, and will likely continue to have, a negative effect on our client relationships, which will adversely affect our revenue and results of
operations.

We have historically structured and supported private education loan programs for commercial banks, including JPMorgan Chase, Bank of
America and RBS. Structural advisory fees and residuals from securitization of JPMorgan Chase loans represented approximately 34% of our total securitization-related fees from the trusts used to
securitize education loans during fiscal 2008 and approximately 29% of our total revenue for fiscal 2007. Structural advisory fees and residuals from securitization of Bank of America loans
represented approximately 20% of our total securitization-related fees from the trusts used to securitize education loans during fiscal 2008 and approximately 15% of total revenue for fiscal 2007. We
also historically structured and supported private education loan programs for companies such as NextStudent Inc. that assisted lenders such as
RBS in marketing their programs to customers. Structural advisory fees and residuals from securitization of RBS loans, including loans funded by RBS but marketed by third parties on behalf of RBS,
represented approximately 23% of our total securitization-related fees from the trusts used to securitize education loans during fiscal 2008 and approximately 24% of total revenue for fiscal 2007.

Certain
of our client agreements provided for termination rights in the event of the filing by TERI of a voluntary petition under federal bankruptcy laws. In April 2008, we received
notice that Bank of

83

---



Table of Contents

America
elected to terminate its agreements with us due to the TERI Reorganization and RBS elected to terminate certain agreements with our clients and us. In July 2008, our note purchase agreement
with JPMorgan Chase was terminated in the context of the TERI Reorganization. Loans originated by Bank of America and RBS represented approximately 29% and 30%, respectively, of our total principal
amount of loans facilitated and available for securitization as of December 31, 2008. Loans originated by JPMorgan Chase are no longer available for securitization as a result of the
termination of our note purchase agreement with JPMorgan Chase.

Our
clients that have not terminated their agreements have suspended their marketing of TERI-guaranteed loan programs as a result of the TERI Reorganization or instructed
TERI to stop accepting applications for TERI-guaranteed loans. Union Federal, which in the past has funded our proprietary Astrive Student Loan Program, is not doing so as of the date of
this report. These actions resulted in a significant reduction in our facilitated loan volumes during the first six months of fiscal 2009. In addition, we expect that the guaranty agreements and loan
origination agreements that most or all of our clients have with TERI will be terminated in the context of the TERI Reorganization. Termination of the client's guaranty agreement or loan origination
agreement with TERI would generally result in the termination of our agreements with the client.

The
termination of our agreements with Bank of America, RBS and JPMorgan Chase has materially reduced, and the termination of guaranty agreements or loan origination agreements between
TERI and our other clients would further materially reduce, the overall volume of loans we facilitate, which will be difficult to replace. Our revenue, business and financial results will continue to
suffer as a result.

Our master servicing agreement, master loan guaranty agreement and database sale and supplementation agreement, with TERI terminated effective as of May 31, 2008.

TERI has historically been the exclusive third party provider of borrower default guarantees for our clients' private education loans.
In addition, we had an agreement to provide various loan origination services for TERI and an agreement to receive from TERI updated information about the performance of the education loans it had
guaranteed, to allow us to supplement
our database. In June 2008, in the context of the TERI Reorganization, the Bankruptcy Court entered an order approving a motion by TERI terminating our "master" agreements. As a result of the
terminations, our business has been and could continue to be adversely affected for the following reasons:



As
a result, demand for our services, including opportunities to structure and facilitate securitization transactions, could decline, which would adversely affect our business. In
addition, the value of the loans in the securitization transactions we facilitate could decline and the value of our residuals could be reduced.

84

---



Table of Contents

The TERI Reorganization will adversely affect our ability to facilitate the securitization of TERI-guaranteed loans, and could adversely affect our residual
interests in securitization trusts.

In its role as guarantor in the private education lending market, TERI has agreed to reimburse lenders for unpaid principal and
interest on defaulted loans. TERI has historically been the exclusive provider of borrower default guarantees for our clients' private education loans. We expect the TERI Reorganization to adversely
affect our ability to facilitate the securitization of TERI-guaranteed loans. In particular, we expect investors to ascribe little or no value to the TERI-guaranty beyond a
trust's pledged account. As a result, in structuring future securitizations of TERI-guaranteed loans, if any, we will likely be required to reduce or eliminate our up-front
structural advisory fee in order to increase the level of reserves available to the trust. In addition, it is likely that we would need to obtain additional credit enhancement for any future
securitizations of TERI-guaranteed loans, the cost of which would also result in lower revenues.

To
the extent the pledged account or other reserves available to a particular securitization trust were exhausted and loan defaults continued to occur, that trust would have a claim as
an unsecured creditor of TERI in the context of the TERI Reorganization. If TERI's general reserves are insufficient to satisfy the guaranty claims, loan defaults would have a further adverse affect
on the amount or timing of residual cash flows that we would otherwise expect to receive from the trust.

The Creditors Committee is challenging the enforceability of certain of the trusts' security interests, which may result in additional delay and expense, as well as a
significant reduction in collateral available to the trusts

In April and May 2008, the Bankruptcy Court issued interim orders prohibiting TERI from withdrawing any amounts from its segregated
reserve accounts until further order by the Bankruptcy Court. In June 2008, the Bankruptcy Court entered an order approving a motion by TERI to honor its guaranty agreement obligations using cash in
pledged accounts established for the benefit of certain securitization trusts. The order was granted subject to the following:



Neither
the creditors committee nor any other party challenged the trusts' security interests in the pledged accounts within the 14-day period following the order. As a
result, beginning in July 2008, TERI resumed paying its obligations under the guaranty agreements with respect to defaulted loans from the trusts, but only to the extent there is cash in the pledged
account established for the benefit of the specific trust that owned the defaulted loan.

The
Bankruptcy Court, upon motion of the creditors committee, subsequently extended until February 2, 2009 the parties' rights to challenge the trusts' security interests in the
collateral other than the pledged accounts. On January 30, 2009, the creditors committee filed an adversary complaint in the Bankruptcy Court against the owner trustee and indenture trustee of
17 securitization trusts, and against FMDS as administrator of such trusts. The complaint generally alleges that the security interests granted by TERI to the trusts, excluding the security interests
in the pledged accounts, are unperfected or may otherwise be avoided under Section 552 of the Bankruptcy Code. In particular, the complaint

85

---



Table of Contents

alleges
that the trusts do not have enforceable rights to future recoveries on defaulted loans owned by TERI with an aggregate principal and accrued interest balance of approximately
$575.1 million as of January 31, 2009, or in amounts owed or transferred by TERI to pledged accounts after the filing of TERI's petition for reorganization totaling approximately
$27.0 million as of January 31, 2009. We cannot at this time predict the timing, costs or outcome of the adversary proceeding, and did not adjust our accounting assumptions during the
six months ended December 31, 2008 regarding TERI. To the extent the trusts continue to request that TERI make guaranty claims payments from the pledged accounts and to transfer the defaulted
loans to TERI in respect of the guaranty payments, the amount of defaulted loans the recoveries of which are subject to the creditors committee's challenge will continue to increase.

If
the creditors committee or any other party is successful in challenging the trusts' security interests in the post-petition transfers to the pledged accounts or other
collateral, the amount of pledged collateral available exclusively to a particular securitization trust to satisfy TERI's guaranty obligations to that trust would decrease materially. As a result, the
trust's unsecured claims against TERI would increase proportionately. For example, recoveries from defaulted education loans transferred to TERI, which have historically been used to replenish a
particular trust's pledged account, would instead become an asset of TERI's bankruptcy estate and available to satisfy administrative claims of TERI's bankruptcy estate and other holders of claims.

Funds
in the pledged accounts of certain trusts have been exhausted, or are expected to be exhausted in the near term, at which point such trust will have a general unsecured claim
against TERI. TERI has not resumed paying guaranty obligations using its general reserves or with respect to defaulted loans that have not been securitized and are held by program lenders, including
Union Federal.

Risks Related to Our Industry, Business and Operations

Challenges exist in implementing revisions to our business model.

Historically, our net income has been derived almost exclusively from structuring securitizations of our clients' private education
loans. We have been unable to access the securitization market as a result of market disruptions that began in the second quarter of fiscal 2008, accelerated during the subsequent periods and persist
as of the date of this report. That inability, together with the TERI Reorganization, has impacted our client relationships, resulted in the termination of certain material client agreements, reduced
our facilitated loan volume and challenged our business prospects. We have refined our business model in order to address the challenges currently facing us. Our revised business model includes
fee-for-service sales of our capabilities, including loan origination and disbursement, program design, risk management and portfolio management. In addition, we are developing
a new loan product that we expect to have available to prospective lender clients in the fourth quarter of fiscal 2009. It may be necessary for Union Federal to obtain regulatory clearance before
offering such a product. Successful sales of these services will be critical in order to grow our revenues and client base in the future. We have limited experience with the new private education loan
program and our fee-for-service business strategy, and we are uncertain of the level of interest from former, current or prospective clients with regard to the new program or
offered services.

Commercial
banks have historically served as the initial funding sources for loans we manage and have been our principal clients. In the absence of securitizations, we are not able to
provide liquidity necessary to support long term funding of private education loans, and commercial banks are facing liquidity and credit challenges from other sources, in particular mortgage lending
losses. In addition, the synergies that previously existed between federal loan marketing and private education loan marketing have been reduced by both the compression of margins in the federal
program and regulatory restrictions on cross marketing of federal and private education loans. As a result, as of the

86

---



Table of Contents

date
of this quarterly report the private education loan business may generally be less attractive to commercial banks than in the past.

In
this environment, it is uncertain whether commercial banks will continue funding private education loans. Some of our former clients, including Bank of America, have exited the market
segment. To the extent that commercial banks exit the private education loan market, the number of our prospective clients diminishes.

The outsourcing services market for education lending is competitive and if we are not able to compete effectively, our revenue and results of operations may be adversely
affected.

We offer our clients and prospective clients, national and regional financial institutions and educational institutions, services in
structuring and supporting their private education loan programs. The outsourcing services market in which we operate includes a number of service providers, some of which have greater financial,
technical and marketing resources, larger customer bases, greater name recognition and more established relationships with their clients than we have. Larger competitors with greater financial
resources may be better able than we are to overcome capital markets dislocations, respond to the need for technological changes, compete for skilled professionals, build upon efficiencies based on a
larger volume of loan transactions, fund internal growth and compete for market share generally. We may face competition from our clients or former clients if they choose, or acquire the ability to
provide directly the services that we provide, or formerly provided, to them. In addition, to the extent that Union Federal provides education loans directly to consumers, we would compete directly
with clients and former clients. We may face competition from third parties who decide to expand their services to include the suite of services that we provide. We are aware of four principal
competitors, Sallie Mae, Wells Fargo Company, Discover Financial Services, and Student Loan Corporation, an 80% owned subsidiary of Citibank, N.A., that offer a similar range of services to lenders.
Our business could also be adversely affected if Sallie Mae's program to market private education loans directly to consumers continues to grow, if Sallie Mae seeks to market more aggressively to
third parties the full range of services for private education loan programs that we provide or if Sallie Mae's private education loan consolidation product results in increased consolidation of
private education loans held by the securitization trusts we have facilitated. Sallie Mae has announced that it intends to focus increasingly on originating private education loans both through the
school channel and the direct to consumer channel. If we are not able to compete effectively, our revenue and results of operations may be adversely affected. In addition, if third parties choose to
provide the range of services that we provide, pricing for our services may become more competitive, which could lower our profitability.

In
addition, there has been significant consolidation within the banking and financial services industry. Further consolidation could result in a loss of business if one or more of our
clients were acquired by a competitor or a lender that is not our client.

Historically,
lenders in the education loan market have focused their lending activities on federal loans because of the relative size of the federal loan market and because the federal
government guarantees repayment of these loans, thereby significantly limiting the lenders' credit risk. The demand for our services could decline if lenders place additional emphasis on the private
education loan market and offer the services we provide in response to recent legislative initiatives affecting the availability and profitability of federal loans.

The growth of our business could be adversely affected by changes in government education loan programs or expansions in the population of students eligible for loans under
education loan programs.

We focus our business exclusively on the market for private education loans, and more than 90% of our business is concentrated in loan
programs for post-secondary education. The availability and

87

---



Table of Contents

terms
of loans that the government originates or guarantees affects the demand for private education loans because students and their families often rely on private education loans to bridge a gap
between available funds, including family savings, grants and federal and state loans, and the costs of post-secondary education. The federal government currently places both annual and
aggregate limitations on the amount of federal loans that any student can receive and determines the criteria for student eligibility. These guidelines are generally adjusted in connection with
funding authorizations from the United States Congress for programs under the Higher Education Act. Recent federal legislation expands federal grant and loan assistance, which could weaken the demand
for private education loans. In addition, legislation such as the College Cost Reduction and Access Act of 2007 has significantly reduced the profit margins of traditional providers of federal loans,
which could result in increased competition in the market for private education loans, which could adversely affect the volume of private education loans and the securitization transactions that we
facilitate and structure and, as a result, the growth of our business. Bills recently passed by the U.S. Senate and the House of Representatives, intended to inject liquidity into the education loan
asset-backed securitization market, would enable the Department of Education to buy only federally guaranteed education loans, not private education loans.

In
May 2008, the President signed into law the "Ensuring Continued Access to Student Loans Act of 2008," which contains provisions which might adversely impact the demand for private
education loans and outsourcing services provided by us, availability and flow of funds for private education loans, and our liquidity position. Among other things, the Act:



In
August 2008, President Bush signed the Higher Education Opportunity Act, which will:



In
January 2009, the U.S. House of Representatives passed the "American Recovery and Reinvestment Act of 2009," a stimulus package that would increase by $15 billion funding for
Pell Grants, increase by $2,000 the annual limit for unsubsidized Stafford loans and increase by $8,000 the aggregate limits for
unsubsidized Stafford loans. As of February 6, 2009, the U.S. Senate was considering, but had not passed, this legislation.

Access to alternative means of financing the costs of education may reduce demand for private education loans.

The demand for private education loans could weaken if student borrowers use other vehicles to bridge the gap between available funds
and costs of post-secondary education. These vehicles include, among others:



88

---



Table of Contents



If
demand for private education loans weakens, we would experience reduced demand for our services, which would seriously harm our financial results.

If our clients do not actively or successfully market and fund education loans, our business will be adversely affected.

We have in the past, and will continue in the future, to rely on our clients to market and fund education loans to student borrowers.
If they do not devote sufficient time and resources to their marketing efforts, or if they are otherwise not successful in these efforts, then we may experience a reduction in the volume of loans that
we process and securitize, and our business will be adversely affected. Certain of our clients have terminated their marketing coordination agreements with us, and additional clients that have not
terminated their agreements have suspended their marketing of TERI-guaranteed loan programs as a result of the TERI Reorganization or instructed TERI to stop accepting applications for
TERI-guaranteed loans.

In
addition, if the loans were marketed by our clients in a manner that is unfair or deceptive, or if the marketing, origination or servicing violated any applicable law, state unfair
and deceptive practices acts could impose liability on a securitization trust holding the loan or create defenses to the enforceability of the loan. In response to recent legislative initiatives,
lenders may increasingly focus on the direct to consumer marketing channel, increasing competition within the channel for private education loans. Investigations by the New York Attorney General, the
Attorneys General of other states, the United States Congress or others could have a negative impact on the ability of our clients, and Union Federal, to market education loans. The Higher Education
Opportunity Act of 2008 creates significant additional restrictions on the marketing of private education loans.

If we fail to manage effectively our cost reductions, our business could be disrupted and financial results could be adversely affected.

During the last two quarters of fiscal 2008, we announced a reduction in our overall cost structure, including the reduction of
headcount by over 600 employees. In September 2008 and November 2008, we further reduced headcount by approximately 100 employees, including the departures of our former Chief Executive Officer, Chief
Financial Officer, Chief Administrative Officer, Chief Information Officer and Chief Marketing Officer. Following these reductions, we had 234 full-time employees at December 31,
2008, compared to 1,048 full-time employees as of December 31, 2007. Our cost reduction measures will place a strain on our management, systems and resources at a critical point in
our business and industry. We must develop alternatives to the loan guaranty and origination services that TERI has historically provided to our clients, and we must refine our business development
capabilities, our systems and processes and our access to financing sources. We must retain, train, supervise and manage our remaining employees during this period of change in our business.

We
currently co-source some borrower services and telesales functions in an effort to reduce costs, take advantage of technologies and effectively manage the seasonality
associated with education loan volume. We rely on our vendors to provide high levels of service and support. Our
reliance on these external vendors subjects us to risks associated with inadequate or untimely service and could result in fewer loans than we would experience if we performed the service functions
in-house.

89

---



Table of Contents

We
cannot assure you that we will be able to:



We
are dependent upon the retention of certain key employees and the loss of any such employees could adversely affect our business. If we are unable to manage our cost reductions, or if
we lose key employees as a result, our operations and our financial results could be adversely affected.

If competitors acquire or develop an education loan database or advanced loan information processing systems, our business could be adversely affected.

We own a proprietary database of historical information on private education loan performance that we use to help us establish the
pricing provisions of new loan programs on behalf of lenders, determine the terms of securitization transactions and establish the fair value of the structural advisory fees and residuals that we
recognize as revenue. We also have developed a proprietary loan information processing system to enhance our application processing and loan origination capabilities. Our education loan database and
loan information processing system provide us with a competitive advantage in offering our services. Third parties could create or acquire databases and systems such as ours. For example, as lenders
and other organizations in the education loan market originate or service loans, they compile over time information for their own education loan performance database. If a third party creates or
acquires an education loan database or develops a loan information processing system, our competitive positioning, ability to attract new clients and business could be adversely affected. As a result
of the termination of our agreements with TERI in the context of the TERI Reorganization, we have lost access to continuing updates to the database of TERI-guaranteed loan performance data
with regard to TERI-guaranteed loans that are neither held by securitization trusts facilitated by us nor Union Federal.

If we are unable to protect the confidentiality of our proprietary database and information systems and processes, the value of our services and technology will be adversely
affected.

We rely on trade secret laws and restrictions on disclosure to protect our proprietary database and information systems and processes.
We have sought to limit TERI's rights to disclose its historical loan database in the context of the TERI Reorganization, and we have entered into confidentiality agreements with third parties and
with some of our employees to maintain the confidentiality of our trade secrets and proprietary information. These methods may neither effectively prevent disclosure of our confidential information
nor provide meaningful protection for our confidential information if there is unauthorized use or disclosure.

90

---





Table of Contents

We own no material patents and have filed no patent applications with respect to our proprietary database or loan information processing systems. Accordingly, our
technology is not covered by patents that would preclude or inhibit competitors from entering our market. Monitoring unauthorized use of the systems and processes that we have developed is difficult,
and we cannot be certain that the steps that we have taken will prevent unauthorized use of our technology. Furthermore, others may independently develop substantially equivalent proprietary
information and techniques or otherwise gain access to our proprietary information. If we are unable to protect the confidentiality of our proprietary information and know-how, the value
of our technology and services will be adversely affected.

The loan origination process is becoming increasingly dependent upon technological advancement, and we could lose clients and market share if we are not able to keep pace
with rapid changes in technology.

Our ability to handle an increasing volume of transactions is based in large part on the systems and processes we have implemented and
developed. The loan origination process is becoming increasingly dependent upon technological advancement such as the ability to process loans over the Internet, accept electronic signatures and
provide process updates instantly. Our future success depends in part on our ability to develop and implement technology solutions that anticipate and keep pace with these and other continuing changes
in technology, industry standards and client preferences. We may not be successful in anticipating or responding to these developments on a
timely basis. If competitors introduce products, services, systems and processes that are better than ours or that gain greater market acceptance, those that we offer or use may become obsolete or
noncompetitive. Any one of these circumstances could have a material adverse effect on our ability to obtain and retain key clients.

We
may be required to expend significant funds to develop or acquire new technologies. If we cannot offer new technologies as quickly as our competitors, we could lose clients and market
share. We also could lose market share if our competitors develop more cost effective technologies than those we offer or develop.

Our business could be adversely affected if PHEAA fails to provide adequate or timely services or if our relationship with PHEAA terminates.

As of December 31, 2008, PHEAA serviced a substantial majority of loans held by the securitization trusts that we administer.
This arrangement allows us to avoid the overhead investment in servicing operations but requires us to rely on PHEAA to adequately service the trusts' education loans, including collecting payments,
responding to borrower inquiries and communicating with borrowers whose loans have become delinquent. Our reliance on an external service provider for loan servicing subjects us to risks associated
with inadequate or untimely services, including notice of developments in prepayments, delinquencies and defaults. A substantial increase in these rates could adversely affect our ability to access
profitably the securitization markets for our clients' loans and the value of our additional structural advisory fees and residuals receivables. In addition, if PHEAA were to fail to comply with
TERI's servicing guidelines in servicing securitized TERI-guaranteed education loans, TERI would not be obligated to make guaranty payments on such loans, in which case PHEAA would be
obligated to cure the noncompliance or purchase the loans. Such an event could have a negative impact on the value of our residuals and additional structural advisory fee receivables. If our
relationship with PHEAA terminates, we would either need to expand or develop a relationship with another loan servicer, which could be time consuming and costly. In such event, our business could be
adversely affected. Although we periodically review the costs associated with establishing servicing operations to service loans, we have no plans to establish and perform servicing operations at this
time.

91

---



Table of Contents

An interruption in or breach of our information systems may result in lost business.

We rely heavily upon communications and information systems to conduct our business. Our systems and operations are potentially
vulnerable to damage or interruption from
network failure, hardware failure, software failure, power or telecommunications failures, computer viruses and worms, penetration of our network by hackers or other unauthorized users and natural
disasters. Any failure or interruption, or breach in security, of our information systems or the third party information systems on which we rely could cause underwriting or other delays and could
result in fewer loan applications being received, slower processing of applications and reduced efficiency in loan processing. A failure, interruption or breach in security could also result in an
obligation to notify clients in a number of states that require such notification, with possible civil liability resulting from such failure, interruption or breach. We cannot assure you that such
failures, interruptions or breaches will not occur, or if they do occur that we or the third parties on whom we rely will adequately address them. The precautionary measures that we have implemented
to avoid systems outages and to minimize the effects of any data or telephone systems interruptions may not be adequate, and we may not have anticipated or addressed all of the potential events that
could threaten or undermine our information systems. Key backup and recovery capabilities have been implemented, however, we have not instituted redundancy for all key systems. The occurrence of any
failure, interruption or breach could significantly impair the reputation of our brand, diminish the attractiveness of our services and harm our business.

If we experience a data security breach and confidential customer information is disclosed, we may be subject to penalties imposed by regulators, civil actions for damages
and negative publicity, which could affect our customer relationships and have a material adverse effect on our business. In addition, current state and federal legislative proposals, if enacted, may
impose additional requirements on us to safeguard confidential customer information, which may result in increased compliance costs.

Recently, data security breaches suffered by well-known companies and institutions have attracted a substantial amount of
media attention, prompting state and federal legislative proposals and regulatory rule-making to address data privacy and security. If some of the current proposals are adopted, we may be subject to
more extensive requirements to protect the applicant and borrower information that we process in connection with the loans. Implementation of systems and procedures to address these requirements would
increase our compliance costs. If we were to experience a data security breach, or if we or the securitization trusts that we administer otherwise improperly disclose confidential customer
information, such breach or other disclosure could generate negative publicity about us and could adversely affect our relationships with our clients, including the lenders and educational
institutions with which we do business. This could have a material adverse effect on our business. In addition, pending legislative proposals, if adopted, likely would result in substantial penalties
for unauthorized disclosure of confidential consumer information. Requirements issued by the Federal Financial Institutions Examination Council, or FFIEC, regarding authentication of customers
accessing account information became effective January 1, 2007. Those requirements have posed technology challenges for us, and we have implemented additional authentication procedures in order
to comply with those requirements. Failure to comply with those requirements could result in regulatory sanctions imposed on our client lenders and loss of business for us.

Risks Relating to Regulatory Matters

We are subject to regulation as a savings and loan holding company, and Union Federal Savings Bank is regulated extensively.

As a result of our acquisition of Union Federal in November 2006, we became subject to regulation as a savings and loan holding company
and our business is limited to activities that are financial or real-estate related. We have registered with the OTS and are required to file periodic reports. In addition, we are subject
to examination by the OTS, which has certain types of enforcement

92

---



Table of Contents

powers
over us, including the ability in certain circumstances to review and approve changes in management, issue cease-and-desist orders, force divestiture of Union Federal
and impose civil and monetary penalties for violations of federal banking laws and regulations or for unsafe or unsound banking practices.

In
addition, Union Federal is subject to extensive regulation, supervision and examination by the OTS and the FDIC. Such regulation covers all banking business, including activities and
investments, lending practices, safeguarding deposits, capitalization, risk management policies and procedures, relationships with affiliated companies, recordkeeping and conduct and qualifications of
personnel. In particular, the failure to meet minimum capital requirements could initiate certain mandatory and possibly additional discretionary, actions by regulators that, if undertaken, could have
a direct material adverse effect on our operations and financial statements. As a result of disruptions in the ABS market, we have been unable to facilitate the securitization of private education
loans originated by Union Federal since September 2007. As a result, Union Federal has a concentration of student loans on its balance sheet and consequently has had to rely on brokered deposits and
other non-traditional funding sources for unexpectedly long periods. We have in the past been required to make capital infusions to Union Federal to support the balance sheet. Regulatory
authorities could require additional capital infusions or take other measures to correct these conditions. Such actions could adversely impact our short term liquidity position and our ability
adequately to execute on our new business plans. In addition, Union Federal will not be permitted to serve as a meaningful funding lender in our new private education loan program until it improves
its funding capacity.

There
is a risk that we could incur additional costs in complying with regulations applicable to savings and loan holding companies and savings banks, or significant penalties if we fail
to comply. Our ability to comply with all applicable laws and rules will depend largely on our establishment and maintenance of a system to ensure such compliance, as well as our ability to attract
and retain qualified compliance personnel. Recent significant reductions in staffing levels have made it difficult to retain experienced personnel to maintain adequate internal controls related to
regulatory matters. If severe failures in internal controls occur, regulatory authorities could impose sanctions on Union Federal or us. We have relatively limited experience with these regulations,
and we could in the future be subject to disciplinary, cease and desist, or other actions due to claimed noncompliance, which could have an adverse effect on our business, financial condition and
operating results.

We may become subject to state registration or licensing requirements. If we determine that we are subject to the registration or licensing requirements of any jurisdiction,
our compliance costs could increase significantly and other adverse consequences may result.

Many states have statutes and regulations that require the licensure of small loan lenders, loan brokers and loan arrangers. Some of
these statutes are drafted or interpreted to cover a broad scope of activities. We have not taken formal action regarding licensing or registration with any regulatory body outside the Commonwealth of
Massachusetts, other than the OTS. While we believe that our prior consultations with regulatory counsel and, in some cases local counsel, have identified all material licensing, registration and
other regulatory requirements that could be applicable to us, legislative changes to state licensing schemes have recently raised potential concern in one state. Even if we are not physically present
in a state, its regulators may take the position that registration or licensing is required because we provide services by mail, telephone, the Internet or other remote means.

All
of our operations relating to education loan processing are located in Massachusetts. In 2001, we received determination letters from the Massachusetts Division of Banks confirming
that the loan origination outsourcing services provided under contract to TERI by First Marblehead Education Resources, Inc., or FMER, was not subject to licensing under the Massachusetts Small
Loan Act because FMER did not conduct a lending business with consumers in its own name and its processing centers were not generally open to the public. In May 2008, following the TERI
Reorganization, we

93

---



Table of Contents

received
an additional determination letter from the Massachusetts Division of Banks confirming that FMER's business of back office loan application processing, loan origination and loan underwriting
functions on behalf of lenders was exempt from licensing under the Massachusetts Small Loan Act. The Massachusetts Small Loan Act requires any person that is engaged, for compensation, in the business
of making small loans, or in aiding or assisting the borrower or the lender in procuring or making such loans, to obtain a license. Under the statute, the business of making small loans includes the
making of loans of $6,000 or less with interest rates and expenses of more than 12% per year. The loans that we have facilitated include amounts as small as $1,000, and a portion of those loans have
combined interest rates and fees exceeding 12%.

We
will continue to review state registration and licensing requirements that may become applicable to us in the future. As a result of providing portfolio management services,
additional licensing schemes may apply to us. As a result of our continuing review, we may determine that registration or licensing is required in jurisdictions where we are not currently registered
or licensed. In such a case, we may proceed with licensing or registration in the affected state, or we may attempt to restructure our activities in a manner that we believe to be exempt from such
licensing or registration.

Compliance
with state licensing requirements could involve additional costs, which could have a material adverse effect on our business. Our failure to comply with these laws could lead
to, among other things:



As
a federally chartered institution, Union Federal, including its operating subsidiary, FMLOS, may conduct its business without regard to such state licensing laws and requirements. We
currently provide outsourced education loan origination services through FMLOS on a fee-for-service basis. To the extent that these activities are conducted through Union
Federal or FMLOS, we believe state regulatory requirements affecting loan brokers, small lenders and credit services organizations will be less likely to be asserted.

We may be exposed to liability for failures of third parties with which we do business to comply with the registration, licensing and other requirements that apply to them.

Third parties with which we do business, including federal and state chartered financial institutions, non-bank loan
marketers, as well as TERI, are subject to registration, licensing and extensive governmental regulations, including Truth-in-Lending laws and other consumer protection laws
and regulations. For example, some of the third party marketers with which we have done or may do business may be subject to state registration or licensing requirements and laws and regulations,
including those relating to small loans, loan brokers and credit services organizations. As a result of the activities that we conduct or may conduct for our clients, it may be asserted that we have
some responsibility for compliance by third parties with which we do business with the laws and regulations applicable to them, whether on contractual or other grounds. If it is determined that we
have failed to comply with our obligations with respect to these third parties, we could be subject to civil or criminal liability.

94

---



Table of Contents

Failure to comply with consumer protection laws could subject us to civil and criminal penalties or litigation, including class actions, and have a material adverse effect
on our business.

The federal government and state governments regulate extensively the financial institutions and other entities that originate loans in
the education loan market. These regulations include bankruptcy, tax, usury, disclosure, credit reporting, identity theft, privacy, fraud and abuse and other laws to protect borrowers. Changes in
consumer protection laws or related regulations, or in the prevailing interpretations thereof, may expose us to litigation, result in greater compliance costs, adversely affect the collection of
balances due on the loan assets held by securitization trusts or otherwise adversely affect our business. For example, the federal banking regulators comprising the FFIEC approved in October 2007
final rules implementing identity theft prevention requirements from the Fair and Accurate Credit Transactions Act of 2003. The Federal Trade Commission issued similar rules in October 2007 and other
agencies are expected to follow. We could incur substantial additional expense complying with these requirements and may be required to create new processes and information systems. Moreover, changes
in the consumer protection laws and related regulations, or in the prevailing interpretations thereof, could invalidate or call into question the legality of certain of our services and business
practices.

The
risk of noncompliance with regulatory requirements by our lender clients and their marketing partners has been highlighted by recent state and federal investigations into education
loan marketing practices, particularly the payment of marketing fees directly to schools in exchange for loan referrals. None of our contracts with lenders or marketers involves the payment of fees to
schools for loan volume. State and federal regulatory authorities have sought information from some of our former
clients and us regarding the loan programs we coordinate, and it is possible that some marketing or underwriting practices associated with the programs we coordinate and assets we securitize will be
challenged as a result of such investigations. On August 31, 2007 we announced that, as part of the New York Attorney General's ongoing investigation of several lending, educational, and
nonprofit institutions, we had received a subpoena for information regarding our role in the education loan industry. As of the date of this report, we continue to work with the New York Attorney
General's office regarding the investigation.

The
regulatory actions described above have also prompted state and federal legislation that will affect our operations. The State of New York has enacted legislation that may impede
accepted marketing practices in the school channel, such as school endorsement of loan products that the school believes are beneficial to students. In addition, the New York legislation will require
additional disclosures that will increase our costs. Similarly, the Higher Education Opportunity Act of 2008 amended the federal Truth-in-Lending Act to add new disclosures and
procedural requirements for marketing and originating private education loans.

Violations
of the laws or regulations governing our operations, or the operations of our clients, could result in the imposition of civil or criminal penalties, the cancellation of our
contracts to provide services or our exclusion from participating in education loan programs. These penalties or exclusions, were they to occur, would negatively impair our ability to operate our
business. In addition, the loan assets held by securitization trusts that we have structured could be adversely impacted by violation of tax or consumer protection laws. In such event, the value of
our residual interests could also be adversely impacted. In some cases, such violations may render the loan assets unenforceable.

Recent litigation has sought to re-characterize certain loan marketers and other originators as lenders; if litigation on similar theories were successful
against us or any third party marketer, the loans that we securitize would be subject to individual state consumer protection laws.

All of the lenders with which we work are federally-insured banks and credit unions and, therefore, are not subject to many state
consumer protection laws, including limitations on certain interest rates,

95

---



Table of Contents

fees
and other charges. In providing our private education loan services to our clients, we do not act as a lender, guarantor or loan servicer, and the terms of the loans that we securitize are
regulated in accordance with the laws and regulations applicable to the lenders.

The
association between marketers of high-interest "payday" loans and tax-return anticipation loans, or TRAL, and out-of-state
national banks has come under recent scrutiny. Recent litigation asserts that payday loan and TRAL marketers use out-of-state lenders in order to evade the usury and interest
rate caps, and other consumer protection laws, imposed by the states where they do business. Such litigation has sought, successfully in some instances, to re-characterize the loan
marketer as the lender for purposes of state consumer protection law restrictions. Similar civil actions have been brought in the context of gift cards. We believe that our activities, and the
activities of third parties whose marketing on behalf of lenders is coordinated by us, are distinguishable from the activities involved in these cases.

Additional
state consumer protection laws would be applicable to the loans we facilitate if we, or any third party loan marketer whose activities we coordinate, were
re-characterized as a lender, and the loans (or the provisions governing interest rates, fees and other charges) could be unenforceable. In addition, we could be subject to claims by
consumers, as well as enforcement actions by regulators. Even if we were not required to cease doing business with residents of certain states or to change our business practices to comply with
applicable laws and regulations, we could be required to register or obtain licenses or regulatory approvals that could impose a substantial cost on us. To date, there have been no actions taken or
threatened against us on the theory that we have engaged in unauthorized lending. However, such actions could have a material adverse effect on our business.

Risks Relating to Ownership of Our Common Stock

The price of our common stock may be volatile.

The trading price of our common stock may fluctuate substantially, depending on many factors, some of which are beyond our control and
may not be related to our operating performance. These fluctuations could cause you to lose part or all of your investment in our shares of common stock. Those factors that could cause fluctuations
include, but are not limited to, the following:



96

---



Table of Contents



In
the past, following periods of volatility in the market price of a company's securities, securities class action litigation has often been brought against that company. Due to the
recent volatility of our stock price, we have become the target of securities litigation. In April and May 2008, seven purported class actions were filed against us and certain of our current and
former officers and certain of our directors in the United States District Court for the District of Massachusetts. The plaintiffs allege, among other things, that the defendants made false and
misleading statements and failed to disclose material information in various SEC filings, press releases and other public statements. The complaints allege various claims under the Exchange Act and
Rule 10b-5 promulgated thereunder. The
complaints seek, among other relief, class certification, unspecified damages, fees and such other relief as the court may deem just and proper. In August 2008, the court consolidated these cases and
appointed lead plaintiffs and a lead counsel.

On
November 28, 2008, a consolidated amended complaint was filed by the lead plaintiffs and contained similar allegations as the earlier complaints. On February 9, 2009, we
filed a motion to dismiss the amended complaint. Plaintiffs opposition to our motion to dismiss is due to be filed in April 2009. A class had not been certified in the actions as of February 9,
2009.

In
addition, three federal derivative lawsuits, and one state derivative lawsuit, have been filed against certain of our current and former officers and directors and nominally against
us in the United States District Court for the District of Massachusetts and Massachusetts Superior Court, respectively. The derivative complaints allege various violations of federal and state law,
including violations of the Exchange Act, breaches of fiduciary duties, waste of corporate assets and unjust enrichment. The derivative complaints seek a monetary judgment, injunctive relief,
restitution, disgorgement and a variety of purported corporate governance reforms. In August 2008, the federal court consolidated the federal derivative cases and stayed them pending resolution of the
purported class actions described above. In January 2009, the state court stayed the state derivative action until July 2009.

We
intend to vigorously assert our defenses in these actions. There can be no assurance, however, that we will be successful, and an adverse resolution of any of the lawsuits could have
a material effect on our consolidated financial position and results of operations in the period in which a lawsuit is resolved. In addition, although we carry insurance for these types of claims, a
judgment significantly in excess of our insurance coverage could materially and adversely affect our financial condition, results of operations and cash flows. We are not presently able to reasonably
estimate potential losses, if any, related to the lawsuits. We expect that this securities litigation, as well as any future litigation, could result in substantial costs and divert management's
attention and resources from our business.

97

---



Table of Contents

Insiders have substantial control over us and could limit your ability to influence the outcome of key transactions, including a change of control.

Our directors and executive officers, and entities affiliated with them, beneficially owned approximately 26% of the outstanding shares
of our common stock as of February 9, 2009, excluding shares of preferred stock held by affiliates of GSCP and convertible into additional shares of our common stock. These stockholders, if
acting together, could substantially influence matters requiring approval by our stockholders, including the election of directors and the approval of mergers or other extraordinary transactions. They
may also have interests that differ from yours and may vote in a way with which you disagree and which may be adverse to your interests. The
concentration of ownership may have the effect of delaying, preventing or deterring a change of control of our company, could deprive our stockholders of an opportunity to receive a premium for their
common stock as part of a sale of our company and might ultimately affect the market price of our common stock.

Some provisions in our restated certificate of incorporation and amended and restated by-laws may deter third parties from acquiring us.

Our restated certificate of incorporation and amended and restated by-laws contain provisions that may make the acquisition
of our company more difficult without the approval of our board of directors, including the following:



These
anti-takeover defenses could discourage, delay or prevent a transaction involving a change in control of our company. These provisions could also discourage proxy
contests and make it more difficult for you and other stockholders to elect directors of your choosing or cause us to take other corporate actions you desire.

Section 203 of the Delaware General Corporation Law may delay, defer or prevent a change in control that our stockholders might consider to be in their best
interests.

We are subject to Section 203 of the Delaware General Corporation Law which, subject to certain exceptions, prohibits "business
combinations" between a Delaware corporation and an "interested stockholder," which is generally defined as a stockholder who becomes a beneficial owner of 15% or more of a Delaware corporation's
voting stock, for a three-year period following the date that such stockholder became an interested stockholder. Section 203 could have the effect of delaying, deferring or
preventing a change in control that our stockholders might consider to be in their best interests.

98

---



Table of Contents

Item 2Unregistered Sales of Equity Securities and Use of Proceeds

(b)    Use of Proceeds from Sale of Registered Securities

In our initial public offering, or IPO, we sold 11,859,375 shares of common stock, including an over-allotment option of
1,547,625 shares, pursuant to a registration statement on Form S-1 (File No. 333-108531) that was declared effective by the SEC on October 30, 2003. We
received aggregate net proceeds of approximately $115.1 million, after deducting underwriting discounts and commissions of approximately $8.9 million and expenses of the offering of
approximately $2.5 million. From the effective date of the registration statement through December 31, 2008, we have spent all of the net proceeds from the IPO,
which have been used for general corporate purposes. None of the net proceeds of the IPO has been paid by us, directly or indirectly, to any director, officer, or general partner of us, or any of
their associates, or to any person owning ten percent or more of any class of our equities securities or any of our affiliates.

(c)    Issuer Purchases of Equity Securities

On April 24, 2007, our board of directors authorized the repurchase of up to an aggregate of 10,000,000 shares of our common
stock. The 10,000,000 shares authorized for repurchase on April 24, 2007 included 3,393,300 shares available for repurchase under the previously authorized repurchase plan. The current
repurchase program does not have a fixed expiration date. We did not repurchase any shares of common stock pursuant to this program during the six months ended December 31, 2008. Through
December 31, 2008, we had repurchased an aggregate of 1,169,100 shares under this program at an average price paid per share, excluding commissions, of $36.17. As of December 31, 2008,
8,830,900 shares of our common stock may yet be purchased under this program.

During
the first six months of fiscal 2009 we repurchased 72,452 shares from employees who elected to withhold such shares to satisfy statutory minimum tax withholding obligations in
connection with the vesting of restricted stock units.

99

---



Table of Contents

Item 4Submission of Matters to a Vote of Security Holders

On November 6, 2008 the following proposals were voted on at our 2008 annual meeting of stockholders:

Proposal

For

Against/Withheld

Abstentions

Broker
Non-VotesTo elect the following nine persons to serve as directors until the next annual meeting of stockholders and until their successors are duly elected and
qualified (subject to such director's earlier death, resignation or removal):Stephen E. Anbinder


84,374,969


832,384


N/A


N/AWilliam R. Berkley


72,624,735


12,582,618


N/A


N/ADort A. Cameron III


84,324,672


882,681


N/A


N/AHenry Cornell


84,464,889


742,464


N/A


N/AGeorge G. Daly


84,634,331


573,022


N/A


N/APeter S. Drotch


84,644,394


562,959


N/A


N/AWilliam D. Hansen


84,645,576


561,777


N/A


N/ADaniel Meyers


84,584,249


623,104


N/A


N/APeter B. Tarr


84,507,521


699,832


N/A


N/ATo ratify the appointment of KPMG LLP as First Marblehead's independent registered public accounting firm for the fiscal year ending
June 30, 2009


84,904,064


240,388


62,901


N/A


Item 5Other Information

On February 4, 2009, we entered into a time sharing agreement with Sextant Holdings, LLC, or Sextant, relating to private
air travel by Daniel Meyers in conducting business of the company. Mr. Meyers is our President and Chief Executive Officer, and a director, and the sole member of Sextant Holdings, LLC.

In
December 2008, a special committee authorized by our board of directors, and the nominating and corporate governance committee of our board of directors, separately reviewed and
approved the time sharing agreement and a related reimbursement policy. Pursuant to the policy, we will reimburse Mr. Meyers for specified operating expenses in connection with business-related
travel on a private aircraft owned by Sextant, up to a specified annual limit. A copy of the time sharing agreement is filed as exhibit 10.1 to this quarterly report.

Item 6Exhibits

See the Exhibit Index on the page immediately preceding the exhibits for a list of exhibits filed as part of this quarterly report
which Exhibit Index is incorporated herein by this reference.

100

---





Table of Contents

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.

THE FIRST MARBLEHEAD CORPORATIONDate: February 9, 2009

By:

/s/ KENNETH S. KLIPPER Kenneth S. Klipper Chief Financial Officer, Chief Accounting Officer
and Treasurer (Principal Financial and
Accounting Officer)


101

---





Table of Contents

EXHIBIT INDEX

Exhibit
Number

Description10.1
#
Time Sharing Agreement dated February 4, 2009 by and between Sextant Holdings, LLC and the registrant31.1

Chief Executive OfficerCertification pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 200231.2

Chief Financial OfficerCertification pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 200232.1

Chief Executive OfficerCertification pursuant to Rule 13a-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
200232.2

Chief Financial OfficerCertification pursuant to Rule 13a-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
200299.1
(1)
Trust static pool data as of December 31, 200899.2
(1)
Supplemental presentation


---

102

---