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Mastercard, Inc. (NYSE:MA)

Q1 2013 Earnings Call

May 1, 2013 9:00 AM ET

Executives

Barbara Gasper – Head, IR

Ajaypal Banga – President and CEO

Martina Hund-Mejean – CFO

Analysts

Craig Maurer – CLSA

Chris Brendler – Stifel

Jason Kupferberg – Jefferies

Sanjay Sakhrani – KBW

David Hochstim – Buckingham Research

Bill Carcache – Nomura

Moshe Orenbuch – Credit Suisse

Rod Bourgeois – Bernstein

Bryan Keane – Deutsche Bank

Moshe Katri – Cowen & Company

Julio Quinteros – Goldman Sachs

Bob Napoli – William Blair

Operator

Welcome to the First Quarter 2013 Earnings Conference Call. My name is John and I’ll be your operator for today’s call. (Operator Instructions) Later we will conduct a question-and-answer session. Please note that this conference is being recorded.

I will now turn the call over to Ms. Barbara Gasper, Head of Investor Relations. Ms. Gasper, you may begin.

Barbara Gasper

Thank you, John. Good morning, everyone, and thank you for joining us for a discussion about our first quarter 2013 financial results. With me on the call today are Ajay Banga, our President and Chief Executive Officer; and Martina Hund-Mejean, our Chief Financial Officer. Following comments from Ajay and Martina, the operator will announce your opportunity to get into queue for the Q&A session. Up until then, no one is actually registered to ask a question.

This morning’s earnings release and the slide deck that will be referenced on this call can be found in the Investor Relations section of our website at mastercard.com. These documents have also been attached to an 8-K that we filed with the SEC earlier this morning.

A replay of this call will be posted on our website for one week through May 8.

Finally, as set forth in more detail in today’s earnings release, I need to remind everyone that today’s call may include some forward-looking statements about MasterCard’s future performance. Actual performance could differ materially from what is suggested by our comments today. Information about the factors that could affect future performance are summarized at the end of our press release, as well as contained in our recent SEC filing.

With that, I would now like to turn the call over to our CEO, Ajay Banga. Ajay?

Ajay Banga

Thank you. Good morning, everyone. In the first quarter, we reported net revenue growth of 8% or 9% after adjusting for currency. And this, combined with operating expense growth of 6%, helped drive our EPS growth of 16% or 17% on an FX-adjusted basis. This quarter’s performance was in line with our expectations, which took into account last year’s strong first quarter as well as the mixed global economic environment, both things that Martina and I have been talking about for a while.

So let’s start at the US Consumer spending started out the year, rebounding from what was a weak holiday season at the end of last year, but started to cool in February as consumers adjusted to higher payroll taxes, to some inflation in food and gas prices, as well as the effects of late season winter storms in March. I think these factors contributed to consumer confidence levels fluctuating over the quarter.

Our first quarter spending pulse data mirrored these trends, showing that US retail sales ex-auto grew by only 2.6% in the first quarter this year compared to 3.9% in the fourth quarter of last year and 7.4% in the first quarter of last year.

So you could see the declining trend in these US retail sales ex-auto. Much of this deceleration is attributable to slower consumer spending, but of course some of it is also the result of the leap year comparison as well as comparisons against a strong first quarter in 2012, when an early spring helped boost retail sales growth to that 7.4% number I just talked about.

Overall, our US business reflected these mixed conditions. First quarter process transactions and GDP growth were lower than what we saw in the fourth quarter of 2012. And looking ahead, recent positive news about the strengthening US housing market, which as we’ve been talking about has been going on for a few quarters, could be a good signal that the economy is turning, but we’re going to watch, and the second half of 2013 will be the test of that.

Europe. The environment in Europe remains similar to what we saw last quarter. Both the economic situation and our business there can best be described as a tale of two regions – developed versus emerging. The Eurozone in the U.K. developed. So retail sales growth slowed despite improvements in consumer confidence and in business sentiment.

And MasterCard’s business in these markets reflected that slowing growth trend, still growing but slower than the past. We also experienced some slowdown in growth in the eastern European countries Poland and Russia, but this company is more of a function of the denominator based on the expanding size of that market rather than a real decline in economic drivers.

MasterCard’s total Europe in volume growth was in the low teens, a little bit lower than the last couple of quarters but still pretty good as the secular shift away from cash accompanied by a continuing growth in share helped overcome the headwinds from economic uncertainty.

In Asia, indicators show that consumer confidence and business sentiment were on the rise in the majority of markets. And as a result, consumer spending and retail sales in some of the major markets are picking up. Australia’s projecting economic acceleration, but on the other hand, views on the outlook for China’s economic growth are currently mixed.

As you know, China would be impacted by any deterioration in the European economy. Europe is one of the largest trading partners, and that, of course, has potential implications for the broader Asian economy. Having said all of that, our business in Asia-Pacific remained at healthy levels, similar to the past several quarters.

In Latin America, growth projections from Brazil and Mexico indicated a slight improvement over 2012 lower levels of economic growth. Consumer sentiment was mixed across the region, with Brazil at its lowest levels in three years, while Mexico is bouncing up against five-year highs. Overall, our business in Latin America saw transaction and volume growth in the mid teens, similar to the past two quarters.

So looking ahead to the rest of the year of 2013, we’re still maintaining the same cautious outlook we’ve talked about for a while. Europe’s economic picture remains mixed. Uncertainty will likely continue there for the near future. In the US, the second quarter right now looks a little dodgy, but there could be some upside going into the second half of 2013 as far as US economic growth is concerned. Economic growth rates in Asia-Pacific and Latin America have softened a little than for the past couple of years. From the ground, there is still a great deal of energy.

So with all of that as a backdrop, our focus remains clear. We are still focusing on our strategy to displace cash to increase our share of electronic payments. So before we move on to recent business highlights, I know there have been some recent news reports about European regulatory matters, so let me quickly give a few words about those.

Fist, as for the investigation launched by the European Commission in early April, based upon what the commissioners told us and stated publicly, we do not believe that the investigation is about our network fees. Rather, we understand that it is about our inter-regional interchange fees that are paid by E.U. merchants, as well as our cross-border acquiring and point-of-sale acceptance rules, including the Honor Roll cards rule. The commission had already launched a similar investigation on Visa’s inter-regional interchange fees.

Second, in terms of the commission’s plan to announce proposed legislation related to card payments within the E.U. by summer, we have no new insight to offer you either about the timing or the potential complements that proposal. As you probably know, the EC has publicly said that it plans to propose legislation during June.

So now let me move on to some of our recent business activities. We are continuing to work on improving our US Consumer Credit business where we are winning new deals with more in the pipeline. This effort will be a slow, steady build from what I shared with you last quarter.

And this quarter, to add to some of the wins we had from last quarter, I’m pleased to report that Bank of America recently launched a new consumer credit card called Better Balance Rewards, which provides consumers cash back for responsible payment practices. This is the first Bank of America product other than our Core brand that is exclusive to us at MasterCard.

In Canada, TD Bank, a long-time customer of one of our competitors, has now launched their very first TD-branded MasterCard product, a credit card that offers cash-back rewards. And we’re continuing momentum in the commercial space. In the US, we continue to work in corporate DNB with issuing partners so that Bank of America, Citibank, Capital One and HSBC have just signed both large and small deals across a number of industries.

The government of Canada is converting their travel expense program to MasterCard early next year. The win builds on our current partnership with Bank of Montreal for the Canadian government for MasterCard program that started years ago in 2004.

In Latin America, there are a couple of examples from Colombia in the micro business commercial space. Ban Colombia chose us to help them develop a micro business credit card program which includes things like credit risk modeling. We also won Bank Kalmias micro business debit card program, which includes a flexible insurance package customized for that market segment.

We launched a number of new travel, eCommerce and management programs around the world, which will continue to aim to enhance the cross-border component of our business. So I’ll give you a few examples. In Australia, Qantas will upgrades its Frequent Flyer program cards to enable prepaid functionality. This feature will be available to all its nine million Australia-based members. In addition to the existing functions, this Qantas cash card will now allow members to transfer money, withdraw cash and foreign currency from locals as well as earn Frequent Flyer points from purchases made at MasterCard-accepting locations.

And in March, we signed an MoU with Alibaba Group, Asia’s largest eCommerce company, to establish an enhanced eCommerce environment that we think will benefit consumers and small businesses both within and outside of China. This MoU has many potential opportunities, including making the MasterPass wallet available to Ali’s 800 million users, providing the ability to offer virtual card numbers for online payments, giving Alibaba’s six million merchants the ability to acquire MasterPass payments and providing Alibaba with fraud and risk management tools.

Rakuten, Japan’s largest eCommerce shopping site and the second largest online retailer in Asia, launched a service which will provide the Japanese Rakuten credit card owners access to virtual MasterCard prepaid cards that can be used to shop online safely and securely.

A new prepaid program for Chinese tourists traveling to the US is being launched this spring for a company called Oriental Tours, a China-based travel company. MasterCard prepaid cards can be loaded in advance with US dollars through Western Union outlets in China and then picked up from the tour company when you get here to the US. This program will be available to an estimated 600,000 Chinese tourists annually.

And we’ve got a number of affluent launches around the world. I’ll give you a few. In Canada, CIBC launched two world lead programs, one travel, one cash back. In France, Credit Mutuel is converting their title and portfolio to World Elite. In Mexico, Banka Marcel launched World Elite as their new top-tier consumer credit product. In addition, Citibank launched their Citi Prestige program in Hong Kong, Malaysia, Mexico, Singapore and the US.

And most interestingly in South Africa, Net Bank, one of the four largest banks in the country and a long-time key income customer of one of our competitors is now converting the bulk of their entire business to MasterCard. Net Bank will also be issuing our platinum and gold cards for the first time. When this thing is fully implemented, we will become the market leaders in South Africa.

On the mobile front, we continue with our efforts to develop partnerships in mobile network operators around the world. We now have relationships with over 30, with a combined reach of 1.3 billion people in 28 countries. So a few examples of some of these recent mobile deployments. We’ve launched MasterPass in Australia and Canada and the US. In the US alone, currently 100 merchants are now able to accept MasterPass.

We are partnering with banks around the world, West Bank and Government Bank in Australia, Bank of Montreal in Canada, Citi Trip Card and several credit unions in the US, and the launch of MasterPass in the U.K. is on track. We’re aiming for the end of summer and we hope to be available in at least nine other countries by the end of this year, meaning a total of 13 by the end of 2013.

MasterCard and VimpelCom, a telecommunications provider with over 200 million subscribers in 18 countries around the world, recently announced a strategic partnership. We expect the first deployment end of 2013. Wind Italy, a VimpelCom division and Italy’s third largest mobile operator, will now enable subscribers to pick up a prepaid card at one of Wind’s retail stores, link it to the mobile phone and then use apps on the phone to top off the prepaid card, pay bills, purchase additional air time.

And building on our partnership with Telefonica in Latin America, we now launched two more initiatives with Telefonica this past quarter, this time both in Europe. The first is the Mobile PayPass program in the Czech Republic; the second is an O2 branded wallet in Germany.

And finally, one of the largest banks in Indonesia, Bank Negara Indonesia, launched a mobile payments program that also leverages our in Control platform. For the first time, this bank’s nine million debit MasterCard cardholders can shop online, thanks to virtual card numbers which we’ll give them on demand through their mobile banking applications.

So with that, let me turn the call over to Martina for a detailed outlook on our financial results and our operational metrics.

Martina Hund-Mejean

Thanks, Ajay, and good morning, everyone. Let me begin on Page 3 of our slide deck, where you see them as reported as well as the FX-adjusted growth rates. All of my comments pertain to the FX-adjusted figures, which as you can see this quarter are almost the same as the as-reported numbers.

As Ajay said, we are pleased with our performance this quarter given the tough comps we were up against from the first quarter of last year and the relatively sharp economic environment. Net revenue growth of 9%, combined with operating expense growth of 6%, supported our net income growth of 13%. EPS growth of 17% also benefited from our share repurchase program. Cash flow from operations was $872 million and we ended the quarter with cash, cash equivalents and other liquid investments of about $5 billion.

During the first quarter, we repurchased about 1.5 million shares at a cost of approximately $766 million. Through April 25, we repurchased a little more than 340,000 shares at a cost of $182 million, and now we have about $1.7 billion remaining under the current authorization. We will continue to look to repurchase shares on an opportunistic basis.

So let’s turn to Page 4, where you can see the operational metrics for the first quarter. Our worldwide gross dollar volume or GDV was up 12% on a local currency basis. US GDV grew 4%, with credit volumes growing 2%. US commercial credit growth was in the low teens and slowed somewhat from last quarter as we have left a couple of deals. US consumer credit growth remains slightly negative, similar to last quarter. Our US debit growth slowed to 6% as we have now fully lapped our signature debit wins in a large seasonal program expected to decline versus last year.

Outside of the US, volume growth was 16% on a local currency basis, and this continues to be driven by APMEA with more than 20% growth and a solid double-digit growth in Europe and in Latin America. Graforda volume grew 16% on a local currency basis, including more than 20% in Latin America and APMEA and growth in the high teens in Europe.

So let me turn to Page 5. On here, you see process transactions grew just over 12%. As expected, this deceleration from the fourth quarter was mainly driven by the lapping of our processing wins from new PIN debit transactions in the US and the effect of leap year. After considering the start of the lapping off the US PIN debit wins as well as normalizing for the effect of the leap year, our underlying growth rate was about 11%. And globally, the number of cards grew 8% to 1.9 billion MasterCard and Maestro branded cards.

Let’s turn to Page 6 for some insights on a couple of our revenue line items. Again, I will be talking only about the FX-adjusted figures. Domestic assessments grew 8% while worldwide GDV grew 12%. The gap between these two growth rates is 4 PPT, which is driven primarily by the contribution of higher growth outside the US with lower than average revenue yields. Cross-border fees grew 14% while cross-border volumes grew 16%. Similar to last quarter, the primary reason for this difference was a higher mix of inter-Europe activity, which comes with a lower revenue yield.

Transaction processing fees grew 9%, driven mainly by the 12% growth in process transactions I just spoke about. The gap between these two growth rates can be attributed mainly to US PIN debit transactions that come at a lower-than-average revenue yield.

So I’m moving to look at the components of total operating expenses on Page 7. The increase in G&A expense was primarily driven by the impact of higher compensation cost as a result of the increase in a number of employees compared to the same time last year to support our growth initiative. And the slight increase in advertising and marketing expense was mainly due to the impact of new and renewed sponsorship.

Turning to Slide 8, let me discuss what we have seen for the second quarter through April 28. Globally, our cross-border volumes grew about 15%, slightly lower than what we saw in the first quarter. This is primarily driven by slower growth in Europe and Latin America. In the US, our processed volume grew 6%, up from our first quarter growth due to improvements in both debit and prepaid. Our US credit growth remains about the same as what we saw in the first quarter.

Process volume growth outside the US grew about 14%, equal to what we saw in the first quarter. In particular, our European process volume growth was in the low teens, similar to what we saw in the first quarter. And globally, our process transaction growth was 8%. That’s down from 12% that we saw in the first quarter, driven by the full lapping of our US PIN debit wins and merchant routing decisions that began last April. We expect our transaction growth for the entire second quarter to be closer to our normalized growth rate of 10% to 11% as the impact of these merchant routing decisions from April 2012 settle out.

Looking forward let me start with our long-term performance objective. We continue to remain confident that our business can deliver an 11% to 14% net revenue CAGR and at least 20% EPS CAGR over the 2013 to 2015 period. These growth rates are on a constant currency basis and exclude any new acquisitions. We also remain committed to our annual operating margin target of at least 50%.

And as we said several times in the past, based on our current view of the economic environment, we expect that net revenue and EPS growth in the early part of this three-year period might be slightly below the 11% minimum for net revenue growth and 20% EPS growth. In later years, assuming the world returns to a more stable environment, we believe net revenue growth could be at the higher end of the range. And that could also benefit EPS growth in that particular period.

I just want to reiterate one other comment about our EPS CAGR objective, which we said was based on a normalized tax rate that excludes the impact of several one-time benefits that we were able to achieve in 2012. So our 2012 normalized tax rate of 31.8% would have resulted in a pro forma EPS of $21.44, which becomes the base on which you should be modeling EPS growth beyond 2012. I think most people are clear on this point, but I wanted to mention it again for those who might be newer to the MasterCard story.

Now, I would like to share with you a few specific thoughts about 2013, which really haven’t changed from what we have said on our year-end call back – our year call back in late January. We expect that – I’m sorry, let me start again on this one. We expect net revenue growth in the first half of 2013 to be below the 10.7% currency adjusted rate that we saw in the second half of 2012. We expect the second half of 2013 to be slightly better than the first half given our current view on the economic environment.

Given the complicated economic environment, we continue to spend on the right things to support our growth initiative such as mobile, e-commerce and information services but are keeping a close eye on other more discretionary expenses. As a result, we expect total 2013 operating expenses to grow a bit below the 8% currency adjusted growth rate we saw in 2012.

We expect to be able to deliver some operating margin expansion in 2013. The amount of an improvement will depend on both top line growth and investment opportunities that may surface during the year. And for modeling purposes, you should continue to assume a tax rate of roughly 31.8% for the remaining quarters of 2013.

With respect to FX, while it proved to be a slight head wind for us in Q1, we expect a tailwind of at most one percentage point to as recorded net revenue, net income and EPS growth for full year 2013. And this obviously is assumes that the euro continues to trade at the 131 level and the Brazilian real at the 198 level for the rest of the year.

Now let me turn the call back to Barbara to begin the Q&A session.

Barbara Gasper

Thank you, Martina. We’re now ready to begin the question-and-answer period. And in order to get to as many people as possible, we ask that you limit yourself to single question and then queue back in for additional questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Craig Maurer of CLSA. Please go ahead.

Craig Maurer – CLSA

Good morning, everyone. Wanted to ask on rebates and incentives. They were materially higher in the quarter than what I was expecting, both absolute and as a percentage of gross. As we look through the year, was there a timing issue that inflated first quarter? And what should we expect that pattern to look like through the rest of the year?

Martina Hund-Mejean

Let me take this. First of all, I have to tell you that actually rebates and incentives came in spot on, on our expectation. When I look at the consensus out there, the consensus seems to be actually really spot on with what we expected. As you know, there are durations from time to time and from quarter to quarter really depend on when we sign new deals and renewed deals. In fact for this quarter, we had actually the lapping of a new deal. And we actually got a little benefit from that, and that was the reverse in the year ago quarter. So I’m not sure how to guide you other than to say what people have out there is pretty much spot on with what we expect.

Craig Maurer – CLSA

Okay. If I could just follow up. The Alibaba announcement, you were talking about MasterPass wallet possibly getting into – well, it was a very big number. I think you said 800 million users, which I know is just the market size. But what’s the economic value of getting those wallets out there?

Ajay Banga

Craig, it’s actually – I’m not making money out of a fee from the wallet. That’s the big difference in our program. I don’t want to charge consumers for the privilege of having the wallet. There could be 150,000 wallets out there before we know what’s going on. I don’t want to be the one charging fees on it. I want to make money from it when they use their wallet.

So if they use their card or they use services that the wallet will provide, that’s how we make our money. So I’m not doing it based on how many users pick up the wallet. It’s really – to me, what Alibaba is, is a partnership that expands the distribution footprint of MasterPass wallets across the 6 million merchants Alibaba has. And as the ability to make it available to as many as 800 million users. They are adding 300,000 users every month. There’s a whole new number there. But I don’t know how many of them will adopt it. We’ll see.

But the merchant for 6 million that will be a big distribution footprint expansion. In addition, they’re going to use virtual card numbers for the merchants to buy goods across border as well as within China, which has been a big problem for them to be able to do thus far on e-commerce. So I believe that’s going to help them honestly with the facility issue of that purchase. And then, of course, we’re going to work with Alibaba and so in helping them with fraud security and the like. So it’s got three components to it.

Craig Maurer – CLSA

Thank you.

Operator

Your next question comes from Chris Brendler of Stifel. Please go ahead.

Chris Brendler – Stifel

Hi. Thanks. Good morning. I wanted to ask a question on the US debit business. Do you think at this point we should start to see the more normal debit rates continue? And also pressure on the yield relation to PIN debit press played its way through here? And I have a follow-up as well. Think thanks.

Ajay Banga

Yeah, Chris, on the US debit business I think about the numbers and what I said about April, you’re starting to see everything going more to normalized rates and to the market growth. Right? I mean we think from a volume, the US debit volume point of view, the market growth will be around the 6% to 8% for the foreseeable future. That is kind of what we are trending to. And something very similar you’re actually seeing from a transaction processing point of view. And you have one more quarter to round out and then you should really see us coming back to market.

Chris Brendler – Stifel

Okay. Great. Thanks. And my follow-up is a more a strategic question. We are hearing a lot of noise on mostly complaints about the US EMV initiative. Is there anything you can sort of say to give issuers and merchants a little more of an incentive. Why is this going to benefit them? I think a lot of merchants in particular don’t see much benefit from moving to EMV. It sounds like some merchants are actually in the liability shift is not much of an incentive. Can you just give me color there? Thanks.

Ajay Banga

I think you’re mixing up a couple things. Let me just help a little bit put into context. The liability shift is right now being discussed mostly with the ATM operators. That’s where the conversation is different from merchants. The objective of that was people who had EMV cards from other parts of the world, when they came to the US, which was the mag stripe environment, the level of fraud was much higher. Fraud still will move to where the security and protection is the weakest in the chain.

EMV is clearly the higher security protocol than mag stripe. All we’re trying to do is ensure that card consumers who were traveling from other parts of the world when they come to the US do not have experiences that make them feel that their cards are not safe.

A number of the operators and banks are actually quite comprehending of that. A number of them are spending the effort and energy to get some of their ATMs upgraded.

In others what we’re try to do is to roll out a tool or fraud risk manager, which allows the ATM operator and the insurer and the acquirer at the other end of the game to look at the risks involved in an EMV card coming to a mag stripe ATM and that helps them to manage that risk.

My expectation is not, just to make clear, that people are like a fountain, switch on April 19 when tens of thousands of ATMs switch. I never expected that. What I expect is that a roadmap that shows that in most places that tourists travel with the frequency of utilization of ATM will be maximum but they will get the right experience with an EMV enabled card. My expectation over a period of time most ATMs in the US will switch. I think it will take some time. Because it will be the right thing to do for all the right reasons.

And I think it’s connected a lot of the launch of EMV issued cards as well in the US eventually. There will be a timeframe all come together. Starting with ATMs. It will move to the issuance of cards, which may take two to three years to play out in its full form, and I understand that. But all we are trying to do here is protect consumers who travel as well as ensure that banks overseas do not get unnecessary thought experiences because this market has the lowest ability to provide security protection based on mag stripe versus EMV. That’s what we’re trying to do.

Chris Brendler – Stifel

Thank you.

Ajay Banga

I think we’ve had a very productive dialogue with a number of merchants and banks and ATM providers. And all big changes like this – this is a very big change. In all big changes like this you will have people pulling in different directions. Our job is to try and make them get the incentive to go and feel the importance of going to the right level of security protocol. That’s all we’re trying to do.

Barbara Gasper

Next question, please.

Operator

Our next question comes from Jason Kupferberg from Jefferies. Please go ahead.

Jason Kupferberg – Jefferies

Hey. Thanks, guys. So I just wanted to try and get a read on the overall tone and message that you guys want us to be picking up on here. I mean obviously your guidance is unchanged which I think is what people had expected but should we be reading any kind of nuance difference in your overall tone just in terms of thoughts on the macro and the general outlook for the business?

I mean it sounds pretty consistent with the past couple of quarters but just wanted to verify that you’re still feeling essentially exactly the same about the macro picture and its impact on your business now as you were a quarter or two ago. Is that accurate or should we be feeling a little better or a little bit worse?

Ajay Banga

Accurate. Just absolutely accurate. Everything we said was what we said second half, we’d probably be a little better than the first half. That’s kind of coming to where we part where we are right on where we expected in the first quarter. I continue to believe that the second quarter, the US economic growth will be somewhat less than what people might be hoping for. I think that there’s a lot of mixed sort of targets in the US between payroll taxes and all the moving parts there.

Oh the housing looks like it’s better but if you look at spending pulse and if you look within spending pulse, it’s really interesting why earlier categories of everything that had to do with housing was going positive for the previous four quarters. In the first quarter, out of the two categories to do with housing, one went slightly negative, one remained positive. That’s the first time in five quarters I saw that. But I expected some of that given that I think the first half will move in and out a little. So no change in how I feel about where the economy is in the US, in Asia, in Latin America and in Europe. No change at all.

Jason Kupferberg – Jefferies

Okay. Thanks for clarifying. And just can you give us a couple comments on your reaction to the Chase-Visa deal? Is that something you guys might be interested in pursuing similarly with other issuers? And just how you feel philosophically about giving one of your issuers the ability to negotiate interchange directly with a merchant?

Martina Hund-Mejean

Well, we haven’t done it. So philosophically you can figure out where my philosophical stance is. The fact is that we’re going to see how this thing goes in the marketplace. It’s very early days. A lot depends on how issuers and acquirers respond as well as how merchants respond, a bit like Durbin.

I don’t believe I have the need or the pressure to do anything differently other than look at it strategically. We have the ability to offer a similar thing. It’s a white label capability existed for a long time. We could do it. I just haven’t put on the tap. And so it is where it is today. And that’s what I am. Philosophically, I am unchanged from where I was before the Chase-Visa deal got announced.

Barbara Gasper

Next question.

Operator

Our next question comes from Sanjay Sakhrani from KBW. Please go ahead.

Sanjay Sakhrani – KBW

Thank you. Good morning. So I had a question marking on the domestic assessment revenue line. When I look at that revenue line over GDV, it came down that the yield came down quite dramatically year-over-year. And I was just wondering if it was all the mix shift that you talked about and kind of how we should think about it going forward. Should we expect that decline year-over-year to kind of sustain itself as we move through the quarters? Thanks.

Ajay Banga

Yeah, so, Sanjay, that is a very good question. And really a couple of things going on. One is what I said is when you look at the mix of the growth of the business in the United States, it comes at higher revenue yields versus the growth outside of the United States which does come at times with lower revenue yields especially in some of the emerging markets.

That’s really contributing to that kind of differential. Now you have to understand, domestic assessments are only one set of fees that we are actually charging in the market. You really have to think about at very comprehensively and then those countries that we actually processing we obviously also get the benefit of the processing fee. So that’s one explanation.

The other explanation is in terms of what’s happening from a cash utilization. So especially when you go in new emerging markets and people are getting their cards, they predominantly start to go to the ATM first until we are getting them used to actually going directly to POS. And the ATM fees that we typically get are lower than what you’re getting at the POS. So those are kind of the broad changes.

So in terms of going forward, I do believe – it depends on the mix. It depends on how the US grows versus how other markets are growing. But our current view has that this kind of difference in terms of growth of the domestic assessment fees versus the volume, will persist for the rest of the year.

Sanjay Sakhrani – KBW

Okay. Maybe just one quick follow-up for Ajay. I was wondering strategically kind of how you felt if Visa Europe were to exercise its put as kind of talked about in the market place and kind of what implications does it have on your business? Thanks.

Ajay Banga

So I don’t know what the latest news is. They were supposed to be deciding. It’s been a couple of days. I guess they’re still thinking about it. I don’t know. Maybe you guys know, and have talked to Visa today.

My perspective is whether they go one way or the other. I think we’ve got be, as a company, capable of handling both. Let me put it for you this way, if they exercise the put option, they’re going have to go through two or three things. One is integrating technology, people, systems, cultures.

From our own experience of doing that with MasterCard Europe and before that, with Europe pay, the European – we are working that technology, that association culture, merging that with a different culture. It’s a reasonably preoccupying time. The second part is that we need to innovate, you need focus, you need time, you need attention, you need management energy. If we’re going to divert it to integrations, it makes it a little more difficult.

So I think that in the short to medium term; the reason we have to do all those things, they are the right things to do by the way, if you’re integrating something but it would provide us with our own space and opportunity along with the fact that a number of the Visa-issuing banks, who may be waiting for the put option to be able to get some benefit one time, they may well be in play after that once they’ve booked that relatively large benefit.

On the other hand if they don’t do it, the last carrier is the way it is today and we think we’re doing pretty well in Europe and growing market share and growing our business at the cost of cash and the cost of our competitors. So life will continue in that form. I kind of think about our company as responding with focus in our strategy. Either which way. Just keep plugging away at what they’re doing in Europe. We’re doing well. We want to keep doing well.

Barbara Gasper

Next question.

Operator

Our next question comes from David Hochstim from Buckingham Research. Please go ahead.

Ajay Banga

David, are you there?

Operator

David, if you phone’s on mute, please un-mute it.

David Hochstim – Buckingham Research

It’s not on mute. Can you hear me now?

Ajay Banga

We can hear you.

Barbara Gasper

Hey, David. We can hear you. Oops.

Ajay Banga

Operator, why don’t we go to the next call? We’ll try to get David back after that one.

Operator

Our next question comes from Bill Carcache from Nomura. Please go ahead.

Bill Carcache – Nomura

Thanks. Good morning. Ajay I was hoping to follow-up on a comment that you made about payroll taxes. I was wondering if there were any noteworthy observations relating to the impact of payroll tax increases on the spending behavior among your customers in the US, particularly if you stratify the customers by income segment? And then also could you talk about the potential for a near term upside to numbers, to your earnings from the stage digital wallet operator fees that are scheduled to kick into effect later in the year?

Ajay Banga

So two things. The stage digital wallet operator fee comes in later. But it’s a relative minimum number for a company of our size and scope. So in fact a lot of the noise that is made around how that fee was put in and why it was put in, focus on the economic impact to us and the wallet operators. I think that is completely the wrong noise. It is more about the principals of creating the right rules and the right operating methodology to allow us to operate with stage digital wallet operators. In any case, that number is in the plan and its minimum, so who cares, that’s one number.

The real issue here is the first question, which is about payroll taxes. I don’t have a way, just as nobody else has, for connecting payroll taxes directly to spending impact by segment or type. But I can watch different kinds of retail stores, where people who are more likely to be impacted by small movements in their take home pay, shopping and I could see that they were impacted by the payroll taxes.

They didn’t get impacted in the first time around. It’s almost like they didn’t register how much the impact would be. By the time February came around, boy they felt it. To give you an example, spending pulse, x auto, January retail sales x auto, were actually pretty good. They were back to good. Meaning in this environment, three-something percent.

You come to February, 0.8%. So it’s shows that that came right in their face. Whether it was only payroll taxes, whether that was other issues as well. I have no individual way of segregating those impacts but I’m kind of putting them all together and then putting together anecdotal evidence from different types of stores and different types of merchants and retailers whom I’m in contact with and giving that back to you.

Bill Carcache – Nomura

Thank you.

Operator

We’ll now go back to David. David, your line is open.

Barbara Gasper

David, are you there? Okay.

Operator

David your line is open.

Barbara Gasper

I guess we’re having problems.

David Hochstim – Buckingham Research

Okay. Go. Is that better?

Barbara Gasper

Yeah, yeah.

David Hochstim – Buckingham Research

Sorry about that. We have a new phone system. I’m sorry. I don’t know how to use it. Anyway, I was wondering if you could update your thoughts on the Chinese market and what your reaction to China UnionPay coming here to issue prepay cards? In the past you said you think it could be many years before they open the market. Has that changed?

Ajay Banga

No. I don’t know, many, many years is what I said. What I said was that China UnionPay has expansion plans around the world. They have been trying to expand for a number of years.

They mostly try and first start doing acceptance deals so that the Chinese users can get to use a China UnionPay card as when they travel as compared to the co-branded card with them is where our strongest partnership is and we’re kind of the ones that have been doing all the deals with them for the last two or three years. If that picks up momentum it impacts the growth rate of our cross border business out of China.

But I haven’t seen great differences there yet. I’ve seen acceptance grow and improve but China is growing at such a great rate on its expansion that I think that increment gets hidden in the wash. As far as their issuing prepaid cards as far as the United States is concerned, what they’re doing is issuing a prepaid card at bank call which has to be then distributed to other US banks because Bancorp doesn’t really have a rush network and other US banks have to agree to distribute to bank official prepaid travel cards to those people who want to buy it from here before they go to China.

I don’t know. We’ll see. We’ll see how that goes. But at the end of the day there’s a large business opportunity in prepaid. I don’t think this changes anything very much. I think China UnionPay will keep attempting to grow its self-standing business as I would in their shoes while trying to keep working the partnership with us, which is what we’re doing. In the meantime the judgment has happened.

China has sent that judgment. I’m expecting in a few months that we will get clarity on the meaning of that acceptance. When we get clarity on that, we’ll figure out how to work our partnership with CUP. I met them in China last month. I met them in New York a couple days ago. We have got a great partnership and I’m still very happy with what we’re doing with them.

David Hochstim – Buckingham Research

Thanks. Can I ask one follow up?

Ajay Banga

Since you waited that long, go for it.

David Hochstim – Buckingham Research

Thanks. Can you give us any thoughts about prospects for some benefits in US credit business from the emergence of the American Airlines bankruptcy and from GM starting to do better? You have a GM co-brand relationship?

Ajay Banga

Yeah, yeah, American Airlines is already a co-brand.

David Hochstim – Buckingham Research

Yep.

Martina Hund-Mejean

And a large part of it is with us. GM is also there. I don’t think people in the case of GM anyway, I don’t think they spend more on that card base on how GM is doing. In the case of American Airlines, it’s without a doubt that a certain amount of American Advantage cards then goes towards the travel on the American Airlines flights, without a doubt.

But it’s only a certain amount. And I think that this utilization of these cards has a little less to do with the parent company’s performance as compared to how the consumer who holds that card is feeling about their spending pattern and the like. That’s a bigger impact.

And so the bigger issue remains about the US consumer and their spending pattern across segments. And that one I’m still not convinced that the second quarter will be much better than the first quarter. I think I use the word dodgy but that’s just a technical term to indicate that I’m not sure that US economic growth in the second quarter will be much better than the first. I do believe, however, that the second half of the year will be better.

We’ve got a number of wins that we’re doing but the US credit business, our predominant business, is with a first set of issuers who themselves are working their way through with what has been a very complicated year for them, and a few years for them. I am reliant on them in many ways but I’m trying to build to comprehend wins and other wins.

You know last quarter we told you about KeyBanc. We told you about the Intercontinental Hotel Group. We talked about Vaspro. We talked about a bunch of those, right, the Shell rewards card and the fuel rewards network and this quarter we talked about Bank of America. We’ve got a bunch of things brewing on the promotion credit side but this is not something that is changed overnight unless a big flip happens which I have no way to be sure. So that’s the nature of our business.

Operator

Our next question comes from Moshe Orenbuch from Credit Suisse. Please go ahead.

Moshe Orenbuch – Credit Suisse

Great. Thanks, just following up on the question about the domestic assessments revenue. If you look at what you said about the first quarter and then the month of April, it seems like that mix shift is kind of continuing if kind of US volumes accelerated but credit was kind of flat with the first quarter. I guess I mean, is that a fair way to think about it that that is – that that’s what’s actually going on that that further shift into debit if credit is kind of flat? And again that would seem to be somewhat of a weakening because obviously the leap year effect doesn’t hurt you through the second quarter.

Martina Hund-Mejean

Moshe, on domestic assessment what the big issue was is between what the growth that we’re seeing in US versus the growth that we’re seeing actually outside of the United States. And that mix effect both from a POS point of view as well as how people are using their cards at ATM especially emerging markets, I did say that we will continue to see that going for the rest of the year. You will see that differential from a growth perspective between the fees and the volume for the rest of the year.

Ajay Banga

Just one thing I want to make sure I indicated on. You said something about the leap year affect impacting us in the second quarter of the year.

Moshe Orenbuch – Credit Suisse

No

Ajay Banga

Actually...

Moshe Orenbuch – Credit Suisse

Right. No. What I said, Ajay, was that you said that the US credit was kind of flat with the performance in the first quarter.

Ajay Banga

Right.

Martina Hund-Mejean

Yes.

Moshe Orenbuch – Credit Suisse

That the first quarter was impacted by that so the second quarter would be somewhat weaker, correct?

Martina Hund-Mejean

No. What we – no. What we actually said is that our process volume fees, the US process volume fees in the second quarter is actually higher at 6% and we said it’s mostly driven by debit and prepaid. And we did say that credit, the credit growth is very similar to what we saw in the first quarter.

Ajay Banga

We said process volume, not process volume fee.

Martina Hund-Mejean

Yes. Process volume.

Ajay Banga

Yeah.

Martina Hund-Mejean

That’s correct. And I also continue to believe that the second quarter in the US will be less than fairly predictable on CCE and consumer spending. That’s kind of what I’m trying to tell you. I’m actually not believing that you should read any more into it than that.

Moshe Orenbuch – Credit Suisse

Okay. I guess I would have thought that some of the stuff in terms of tax refunds and the like would have provided a little bit of a tailwind into Q2.

Ajay Banga

Until you could see that a little bit of volume increase is happening in Q2. Prepaid and debit have picked up already by April 28 and then Martina is trying to indicate that she thinks it’ll settle to a certain number over the course of the quarter. It’s in credit that we at least have not yet seen a pickup in the second quarter versus the first quarter. That’s what our numbers currently are telling us.

Operator

Our next question comes from Rod Bourgeois from Bernstein. Please go ahead.

Rod Bourgeois – Bernstein

Okay. Hey. So you mentioned that you’re philosophically against licensing the MasterCard network to a bank.

Ajay Banga

I didn’t say that, Rod. I just said I haven’t changed my opinion from where I was earlier. Which is that we are where we are. We do not have that license today. I’m watching what’s going on with Visa and Chase.

If merchants’ issuers and acquirers respond in a way that would put me in a situation where I may need to do something which is thoughtful, I will. But I’m reluctant to just jump to a conclusion that I’m against before anything until I watch what they do. I don’t feel the pressure driving against before right now.

Rod Bourgeois – Bernstein

Right. I mean my guess is that Visa would have said six months ago that it’s philosophically against licensing its network but it sort of needed to do that in order to maintain a relationship with Chase.

And I guess I’m wondering if a bank maybe call it HSBC just as an example, if it were to ask MasterCard to do a Chase/Visa net type of deal even though you’re philosophically not excited about that, is it something that you would look at doing because that may be a trend at certain banks that have a big presence in issuing and acquiring? It could be a new trend that comes down the road. Is that something that you’re looking at?

Ajay Banga

So many, many things there. One is – I look at anything. If clients talk to me, I’ll think about it. I don’t know what I’d conclude because it would depend on what it does for our brand and our company, as well as for that client and for the other clients whom I have relationships with. It’s going to be a very complex Rubik’s Cube to think our way through. So I don’t know the answer to that yet.

The second thing is I don’t know exactly what’s inside the Visa-Chase deal. I may not do it exactly like them. If I do something, it may be done differently. So this is all speculation. I have no clue. I know this, that just like in Durbin, I will watch this very carefully and if I feel the need to make some moves to be able to ensure that the banks will partner with me on my brand, don’t suffer in the marketplace, I will. But I’m not going to jump to a conclusion right now that I need to do something either similar or a little different or nuanced differently. I don’t know yet. I just don’t.

Operator

Our next question comes from Bryan Keane from Deutsche Bank. Please go ahead.

Bryan Keane – Deutsche Bank

Hi, guys. I just wanted to follow up on that Chase UC deal. Obviously, there’s been a lot of questions on it. I guess there’s been some speculation that you’ll lose some Chase card volume in that deal. I just wanted to see if that’s correct. And then I know Chris McWilton questioned the economics of the deal, so I just want to get your thoughts on allowing Chase to do all those transactions. Do you think that model makes sense?

Ajay Banga

Well, we have a certain amount of business with Chase. As you know, Chase was a predominantly Visa bank even earlier. But we have a good relationship with them. We still got business with them. In fact, the recent Intercontinental Hotel co-brand that I talked about with you last quarter is actually with Chase, which was signed and done towards the announcement of this deal.

So I don’t know. My approach is to keep building that relationship with them between businesses on prepaid cards. We’re doing businesses on commercial cards. We’re doing business with them on co-brands, and we have some non-co-brand but simple credit card kind of products with them.

My sense is that what they’ve done with Visa is to allow them to certainly protect the business they have with them. I think they’re still open to doing some business with us and we’re pursuing that relationship. So I don’t know where that will go. I have no idea.

Bryan Keane – Deutsche Bank

And then just did the model make sense to you on how they probably would be paid? And then just the one follow-up is the acquiring. You’re waiting for what the acquirers might do. I just want to make sure I understand what you mean by that.

Ajay Banga

Well, everything depends on how acquirers, issuers and merchants respond to all these deals. It’s like in Durbin. All three players had different responses to the way Durbin played out. I’m just making sure I’m keeping an eye on all the three players and how they respond. Does the model make economic sense? I have no idea. You go and ask Visa because I don’t know what’s inside.

Operator

Our next question comes from Moshe Katri from Cowen & Company. Please go ahead.

Moshe Katri – Cowen & Company

Hey. Thanks. Thanks for take my question. Did Martina mention something in the context of losing some credit portfolios during the quarter and if so, can you kind of elaborate on that?

Ajay Banga

Losing credit portfolios?

Martina Hund-Mejean

No. That’s not what I said but I think I might recall what you are referring to. So this was when Greg was asking about rebates and incentives and the level of that.

And one of my comments is that we actually had the lapping of a new deal. So you might know that whenever we sign a deal, we might have an impact on our rebates and incentive line, and that can happen in any particular quarter and we had some impact in the first quarter of 2012 and that is basically lapping. And it actually was in the fourth quarter of 2011 and that is now lapping in the first quarter of 2013. But the deal is light. It’s just the way that the accounting works.

Moshe Katri – Cowen & Company

Okay. Great. Just as a follow-up, can you talk a bit about what you’re doing in credit in terms of trying to gain share in the market? Maybe talk about what you’re seeing in the US market versus overseas.

Ajay Banga

Overseas is the same business. They’re out there winning deals. A number of the things I talked to you about MedBank as an example in South Africa. It’s both credit and debit and commercial credit and so on. It’s in the US that we’ve got a situation which we’ve talked about, which is our consumer credit share is not where we like it to be.

So it’s not something that will change in a hurry unless some very big portfolio switches over, for which I have no ability to decide yes or no. That depends on how you negotiate it. Typically, large portfolio flips are relatively long selling cycles.

What I am focused on, however, is all the business comes around that. So co-brands, which is what I was telling you about. In the last quarter, I gave you a number of examples. Other opportunities with new launches. I’ve given you the example of Bank of America this quarter and a ton of things on the commercial credit space where we’re doing things with Citibank, Bank of America and with others in a number of industries. That’s what we’ve been up to.

I think our consumer credit share business will not change in a hurry. It will change over a period of time. But we’ve got all the right building blocks and we are out there using both our ability to bring in control, priceless cities and a number of other assets, advisors, to play while also looking at our ability to bring volume to the co-brand partner. So those are the kind of things we’re up to.

Barbara Gasper

Next question, please.

Operator

Next question comes from Julio Quinteros with Goldman Sachs. Please go ahead.

Julio Quinteros – Goldman Sachs

Hey. I wanted to ask you a philosophical question as we’ve been doing a lot of philosophizing today on this white label stuff. I mean, do you believe philosophically that banks are actually trying to give away interchange or not? And then I guess when you think about the value of the network itself, is the value of the network under duress and possibly going into some other areas meaning that you need to be in more advertising areas, loyalty, other things that I guess would be additional sources of potential revenue for your model?

Ajay Banga

Second question, first – I think you’re onto a good topic which is that going forward, people like us, also building revenue streams from other places other than just the traditional clearing authorization and settlement function that in some ways has been certain proportion of our revenue.

I think you’ve heard me talk openly about diversifying our business from the day I joined. The reason is that I believe what we have in the network is the asset of connecting billions of consumers with millions of merchants with tens of thousands of banks in 200 countries with all the local legal regs built in. That’s a great asset.

What we need to do is to able to leverage that asset in many ways. One of the reasons why I’m investing in loyalty and rewards, why I’m investing in things I can control, why we’ve got into prepaid program management, why we are doing those things and the investment putting into data and information services and the advisors business is all about making sure that we build our company not just based on converting cash but also imbedding ourselves better with merchants with issuers, with acquirers, with governments and consumers to these value added services that you can bring by using what you do well which is the network and the data warehouse. And the processing. And that’s what I’ve been doing from the beginning.

And so nothing’s changed in that way. I’m sort of focused on that still and that’s where the investments are going as well. Yes, we’re investing in credit and in debit and in prepaid and commercial. But we are also investing in new channels like mobile and e-commerce and we’re also investing in the diversification. That’s the growth of a diversified strategy that I’ve been laying out for MasterCard for a while.

Julio Quinteros – Goldman Sachs

Right. Okay. Maybe just one quick for Martina on the margins. Thinking about the tradeoffs between revenue growth and the ability to continue to defend EPS. Anything in particular that you would sort of highlight as continued drivers to sort of defend the EPS on margin side you would have left for the rest of the year here?

Martina Hund-Mejean

I think as we have said that it really depends on where the revenue growth comes in for the rest of the year and what we might be doing from an investment point of view where the margin is going to come out for the year. But at this point in time the visibility that we have we do believe that there will be a small margin expansion.

But just to remind everybody we have really a number of levers in terms of EPS growth. One is what’s happening on the revenue and on the expense side. Two, is what’s happening on our tax rate. Everybody knows that we’re working at that. And three, was we’re doing from a share repurchase point of view. So we are looking at all levels to be making sure that we are reducing our financials.

Barbara Gasper

Operator, I think we’ve got one for one last question.

Operator

Our last question comes Bob Napoli from William Blair. Please go ahead.

Bob Napoli – William Blair

I was hoping, Ajay, you could maybe give a feel for the emerging market story over. Do you still think you’re going to be able to grow internationally in a mid to mid upper teens especially in emerging markets over the next several years? And just a minor point if you could. We’ve had some crazy weather in the US I think they’re getting seven inches of snow in Minneapolis today or something and Denver’s getting, but have you seen an effect from some of the unusual weather in the US on your business?

Ajay Banga

So March clearly was a month that got impacted by the unusual weather in terms of spending. So that I think does happen periodically. I tend not to give it more credence because eventually it kind of evens out over time. So I tend to worry about it in the context of a month but not in the context of a longer period of time. I look at the basic franchise and what it’s doing as the real context I think in. I think the emerging markets question, I still believe that there’s enormous opportunity to grow our kind of business in the emerging markets. You take the South Africa story.

We were a smaller market share player there three years ago, but through consistent wins and now the latest one at Merit bank when you finish implementing that bank, we’re in a market where there’s still a great deal of cash. And yet the economy is clearly the most powerful economy in Africa, then I feel that we would end up being a market leader there. That’s a pretty big opportunity.

Because not only would we have the market leader in terms of cards issued. We can keep focusing on the secular change of cash through electronic as well. Hence the focus on the social security payments in South Africa where now 10 million card owners have come out where there were none earlier, their social security payments are now going into their card.

Now as Martina said, a number of them take that card and go to an ATM or a cash point and take out cash. That creates a lower revenue yield than going to the point-of-sale. The next step in all these cases is to find a way to encourage them to go to the point-of-sale rather than taking out cash. So all these things aren’t the emerging markets are a step-by-step building process. You’ve got to build assurance. You’ve got to build the habit of using a card.

You’ve got to build acceptance and you’ve got to build government support and all of that together. So we are systemically going about it in a number of countries. And I just gave you the South Africa example because it’s a live example from this quarter and I was there in January when I signed the bank deal, which we now publicly announced.

And so I feel still that the emerging markets are still a great opportunity to where this company is going and South Africa is just one example. China being another. India being a third. Parts of Southeast Asia. Parts of Southeast Asia, Latin America. There’s a lot going on.

There’s all the emerging markets in Eastern Europe where we’re making really good headway. I think it’s not just in the payments business but to Julio’s earlier question, it’s also in diversifying our revenues through alternative ways whether it be data and analytics or advisors or in control, or different value added services that imbed us better in that marketplace and I’m trying to do all those things as we are growing our future over the next few years.

Bob Napoli – William Blair

Thank you.

Barbara Gasper

Ajay, you want to offer some closing comments?

Ajay Banga

Thank you for all your questions and I want to leave you with a few closing thoughts. We’re going to continue to work through some of these challenging economic conditions that we’ve been talking about for a while. I think we’re off to a good start in 2013. With this last quarter’s performance in the past quarter was absolutely in line with how we thought we would end up. The slower growth in consumer spending and confidence in the second half 2012 has continued into 2013.

We also saw the expansion of electronic forms of payment around the world. So we’re going to keep a careful eye on expenses. We’re going to keep investing in those initiatives that will set up our company for future growth for that diversification as well as that I just talked about. We remain confident in our three-year performance objectives through 2015. As we said last quarter, we expect performance in the early part of that period will probably be slightly below the range with growth picking up as the global economy returns to a more stable environment. There are signs that that stability will come.

All in all, our focus is clear, grow our share and drive the conversion of cash through technology, through partnerships, around the world, while continually developing products and services that imbed us with banks, with merchants, with governments and consumers. So thank you for your participation. Thank you for your support. I appreciate it.

Operator

Thank you, ladies and gentlemen. This concludes today’s conference. Thank you for participating. You may now disconnect.

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