November 5, 2008 - Zacks Investment Research



November 18, 2008

Research Associate: Anirban Samaddar, MBA

Editor: Madhurima Majumdar, CA

Sr. Ed.: Ian Madsen, CFA; imadsen@; 1-800-767-3771, x9417

111 N. Canal Street, Suite 1101 ( Chicago, IL 60606

|First Marblehead Corp. |(FMD–NYSE) |$1.32* |

Note: This report contains substantially new material. Subsequent reports will have changes highlighted.

Reason for Report: 1Q09 Earnings Update

Prev. Ed.: September 4, 2008; 4Q08 & FY08 Earnings Update (broker material considered till August 29, 2008)

Brokers’ Recommendations: Neutral: 100.0% (2 firms); Negative: 0.0% (0); Positive: 0.0% (0) Prev. Ed.: 1; 1; 0

Brokers’ Target Price: $1.83 (↓ $1.80 from last edition; 2 firms) Brokers’ Avg. Expected Return: 38.6%

*NOTE: Though dated November 18, share price is of November 6; broker material is as of November 6.

NOTE: Flash Update on 1Q09 earnings update done on November 5, 2008.

Recent Events

On November 5, 2008, FMD announced its 1Q09 financial results. Highlights are as follows:

• Total revenue was ($84.9) million in 1Q09 versus $380.0 million in 1Q08.

• Net Interest income was $7.1 million, up 61.4% from $4.4 million in 1Q08.

• Total non-interest expenses were $60.9 million, down 37.5% from $97.5 million in 1Q08.

• Net loss was $92.9 million versus a net income of $168.8 million in 1Q08.

• Net loss per diluted share was $0.94 versus a net income per share of $1.80 in 1Q08.

On November 5, 2008, FMD announced a 24% cut in its employee strength to reduce costs. The move is likely to affect staff at its corporate headquarters in Boston and processing center in Medford, Massachusetts.

On September 22, 2008, FMD announced that Chief Financial Officer John Hupalo will resign, with Kenneth Klipper filling the position effective immediately. Klipper is a senior vice president, treasurer, and chief accounting officer at the company.

Overview

Brokerage firms identified the following factors for evaluating investment merits of FMD:

|Key Positive Arguments |Key Negative Arguments |

|Fundamentals |Macro Issues |

|Strong loan volume growth |Widening credit spreads could result in lower gain-on-sale margins |

|Good long-term value |Exposure to credit market uncertainty |

|Product mix shift toward the more profitable direct-to-consumer (DTC) |Future competition expected in the student loan market |

|channel |Highly regulated market |

| | |

|Growth Opportunities |Fundamentals |

|Student lending market is seen as the fastest growing segments of consumer|Risk of not being able to execute its securitizations under reasonable |

|finance |terms is hampering earnings |

|Healthy increase in new client relationships | |

The First Marblehead Corporation (FMD) provides outsourcing services for private education lending in the United States. It offers an integrated suite of design, implementation, and securitization services, including design and marketing, borrower inquiry and application, loan origination and disbursement, and loan securitization services, as well as loan servicing for student loan programs, which are tailored to meet the needs of the respective customers, students, employees, and members of national and regional financial institutions, and educational institutions, as well as businesses and other enterprises. The company primarily focuses on loan programs for undergraduate, graduate, and professional education, as well as on the primary and secondary school market. It also offers services such as, private label programs and the guaranteed access to education programs. The company has strategic relationship with The Education Resources Institute. The First Marblehead was founded in 1991 and is headquartered in Boston, Massachusetts. The company’s website is

NOTE: The Company’s fiscal year ends on June 30. All references are to the fiscal year.

November 18, 2008

Revenue

Total revenue in 1Q09 was ($84.9) million versus $380 million in 1Q08. Revenue declined mainly due to illiquidity in the financing market for private student loans. The company did not complete a securitization transaction during 1Q09, while it completed two securitizations during 1Q08. In addition, non-cash adjustments made to the discount rate and default assumptions used to estimate the fair value of the company's service receivables, net of time value accretion, resulted in a $98.0 million pre-tax reduction in revenues during 1Q09.

Revenue, as compiled by Zacks Digest, is shown in the table below:

| ($ Million) |

|Positive |0% |

|Neutral |100%↑ |

|Negative |0%↓ |

|Average Target Price |$1.83↓ |

|Digest High |$2.00↓ |

|Digest Low |$1.65↓ |

|No of the firms with target price/ Total |2/2 |

Risks

Revenue: FMD generates a significant portion of its revenue and nearly all of its income from structuring securitizations. In addition, a large portion of the company's revenue is recorded as noncash residuals. Any changes in interest rates, prepayments, and credit losses could have a significant impact on results.

Political risk: The student loan market is highly regulated, and any changes in the federal guaranteed loan program could affect the private student loan market. Greater availability of federal funds, such as an increase in borrowing limits, is likely to offset directly the amount of private financing needed by students.

Competition: Competitors, such as Sallie Mae and others, recently entered the market, which could drive down spreads while private consolidation loans have been made available. As performance data on private student loans become available in the marketplace, the company might face increased competition in future.

Metrics detailing current management effectiveness are as follows:

|Metric (TTM) |Value |Industry |S&P 500 |

|Return on Assets (ROA) |N.M. |0.9%↓ |8.0%↓ |

|Return on Investments (ROI) |N.M. |1.5%↓ |10.9%↓ |

|Return on Equity (ROE) |N.M. |2.3%↓ |19.1%↓ |

Capital Structure/Cash Flow/Solvency/Governance/Other

Securitization

The company has been unable to access the securitization market since September 2007, as a result of market disruptions that began in 2Q08, accelerated during 3Q08, and persists presently, which along with the TERI Reorganization, impacted client relationships, resulted in the termination of certain material client agreements, reduced facilitated loan volume, and challenged business prospects. The company refined the business model in an attempt to overcome the challenges currently facing. However, near-term financial performance and future growth will depend largely on the ability to structure securitizations.

Loans facilitated decreased to $128 million during 1Q09 compared to $2.4 billion during 1Q08. Loans facilitated and available for securitization decreased to $83 million during 1Q09 compared to $2.2 billion for 1Q08. Loans available for securitization as of September 30, 2008, increased to $2.4 billion, from $1.1 billion as of September 30, 2007. The company does not expect to complete a securitization in the near term.

TERI Reorganization

In June 2001, the company acquired TERI's loan processing operations, including its historical database, but not its investment assets or guaranty liabilities. In connection with this acquisition, the company entered into a master servicing agreement, pursuant to which TERI engaged FMD to provide loan origination and processing services with respect to the student loans generated through the private label programs facilitated, as well as other TERI-guaranteed loans. Pursuant to the master servicing agreement, FMD was entitled to reimbursement from TERI for the expenses incurred in providing these services. Under the terms of a master loan guaranty agreement that the company entered into with TERI, it also agreed to provide a beneficial interest for TERI in a portion of the residual value of securitization trusts that purchased TERI-guaranteed loans, and granted to TERI the right of first refusal to provide a third party guaranty of private label clients' existing and future loan programs. In October 2004, FMD renewed the master servicing agreement, master loan guaranty agreement, and certain additional agreements with TERI, in each case for an additional term through June 2011. On April 7, 2008, TERI filed a voluntary petition for reorganization. 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 certain additional agreements. As a result of the order, the agreements were terminated, effective from May 31, 2008.

Strategic Investment by GSCP

On December 21, 2007, FMD entered into a definitive agreement with GSCP, pursuant to which GSCP will invest up to $260.5 million, equal to 19.99% of the shares currently outstanding upon closing of the transaction. In conjunction with this strategic equity investment, a large investment banking firm offered the company a $1 billion warehouse facility that will allow the company to access a new source of funding for its business. This is the first step in utilizing other funding alternatives to further diversify and strengthen the company's business model. GSCP will invest $59.8 million to acquire securities convertible into 5.3 million shares of common stock at a conversion price of $11.24 per share. Upon receipt of regulatory clearances and determinations, GSCP will invest up to $200.7 million to acquire additional securities convertible into 13.4 million shares of Common Stock, at a conversion price of $15.00 per share. The convertible securities are non-voting and have no coupon and a nominal liquidation preference. The securities to be acquired by GSCP will, on a converted basis, represent 16.7% of FMD's outstanding common stock. GSCP will not hold more than 9.9% of the company's voting shares at any time. Under the terms of the agreement, GSCP will have the right to designate one member of the company's Board of Directors.

November 18, 2008

Potentially Severe Problems

The company has not disclosed any equity-threatening exposure to subprime mortgages, or other impaired financial instruments or derivatives as its peers and some investment banks have.

November 18, 2008

Long-Term Growth

According to one firm (Friedman, Billings), the structure of the new management's compensation packages lowers the likelihood of selling the company in its current state, as it is in management's best interest to await a return to profitability and a bid above at least $6.00 per share, neither of which appears likely at this time.

While FMD should have enough cash on hand to get it through the next 12-18 months, the longer-term viability of the business remains in doubt as the securitization market for private student loans is likely to remain closed for some time. Further, the effects of the restructuring of the business model by CEO Dan Meyers continue to remain in doubt.

However, the firms expect FMD to work diligently to reconstruct its business model in the face of challenges in the securitization market. The change could lead to higher quality and more predictable earnings in the future, compared to its present earnings stream, which is entirely driven by individual transactions. The firms believe that education costs will continue to rise and the need for private student loans will remain robust.

November 18, 2008

Upcoming Events

None

Individual Analyst Opinions

POSITIVE RATINGS (0.0%)

None

NEUTRAL RATINGS (100.0%)

Friedman, Billings – Market Perform ($2.00) – (11/06/08): The firm maintained a Market Perform rating and reduced the target price to $2.00 from $4.00. INVESTMENT SUMMARY: The firm views the franchise as being worth more than the current stock price suggests and considerably more if the company can regain access to funding. However, it believes, the franchise value of the company will continue to deteriorate as it continues to use cash and produce less in terms of revenue.

Sandler – Hold ($1.65) – (11/06/08): The firm maintained a Hold rating and reduced the target price to $1.65 from $3.25.

NEGATIVE RATINGS (0.0%)

None

Research Associate: Anirban Samaddar

Copy Editor: Sudipta Mukherjee

Content Ed.: Priti Dhanuka

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Zacks Research Digest

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