- AXP is caught in its business model.
- The company is struggling for acceptance among merchants.
- AXP is lacking room for business expansion.
Since AXP's stock price has fallen by roughly 8.5% last month it seems that the right moment for an investment in AXP has come. However, one should consider whether to invest long term or short term in the company. This article focuses on five factors that indicate a not so small risk for investors who favor the latter.
#1 Higher profit due to one time effects - Although the Q2 reports look good with a profit of $ 1.53 billion compared to $ 1.41 billion in Q2 2013, which is a year-to-year increase by roughly 8.5 %, this profit resulted from a higher spending of AXP's cardholders and the selling of parts of AXP's travel business. Both causes of the profit increase can be considered as one time effects.
#2 AXP unpopular among merchants - On the one hand AXP is the second biggest credit card company when considering its market value of $97 billion (Visa: $ 133 billion, MasterCard $90 billion), but it is the less accepted of the three major companies for its higher charges. These high charges make the card relatively unpopular among merchants and prevent the company from further expansion. Yet accordingly to its CEO Kenneth Chenault would it be "disastrous, and [they] would have to rethink everything in [their] business model" when lowering their charges.
Let us concentrate on that business model for a second to make Chenaults point more lucid. AXP focuses on cardholders who really do use their cards. To promote a frequent usage they give exclusive rewards in many different forms to their cardholder in order to make them feel like they are getting value out of their card. As AXP wants to offer more generous rewards than other card companies it has to charge higher fees in order to refinance their reward system. As Bloomberg put it, AXP "courts wealthy clients with perks like access to premium ticket".
The danger in pursuing this model is that a wealthy card holder has some high expectations. The idea is simple: If he uses his card frequently, he wants to get his premium rewards. Therefore, the company cannot reduce their fees in order to pay for the reward system. On the other hand it is the fees what makes the card relatively unattractive to merchants and prevents expansion. This brings us to the next factor.
#3 AXP unable to gain bigger acceptance - Since the card is relatively unpopular among merchants who prefer their customers paying with cheaper cards like MA or Visa that come with lower fees for the merchants to pay, AXP had to prevent them from encouraging shop owners to steer their customers to other cards. (These measures were under investigation of the U.S. Department of Justice) The Wall Street Journal cites industry estimates saying that "AmEx is accepted at three-to-four million fewer U.S. merchants than Visa and MasterCard". This can be a problem in the long run, if the spending of AXP's cardholders won't increase even further. If it doesn't, the formula is pretty simple: No business expansion, no increasing revenue. And Chenault himself admitted "multiple attempts over the years made by AmEx to expand acceptance of its cards among merchants" - mostly in vain.
#4 Need to rebrand AXP's ISIS - Moreover, AXP has to rebrand its ISIS digital wallet system in this quarter, since the Syrian terror group called ISIS is all on the news. Not only does that mean that the name of AXP's digital wallet system may seem inappropriate to some users, it also means that the product will lose - or has already lost - its high ranking on google or bing since news of the terror network will rank higher and higher the more threatening it becomes. However rebranding takes its time, especially letting customers getting used to a new brand name and adding a certain value to it. Yet, both the need and the plan for rebranding is a fact. According to vocativ, CEO of Isis Mobile, Michael Abbott, said that as a company they made the decision to rebrand.
#5 Caught in its business model - Given the factors above AXP's only way to increase its revenue is a higher spending of its cardholders, which is not easy to predict. On the other hand AXP's business is likely to remain strong "since sticking only with customers willing to pay off their balance in full every month was the reason AmEx emerged from the trough of the recession less damaged than its counterparts." And this strategy will keep AXP strong in the long run. But then again keeping a business strong is not the same as expanding it.
AXP has to face two major problems: The company is somehow caught in its current business model which focuses on reliable, wealthy customers who expect exclusive rewards. This model is perfect for an ongoing strong business but it doesn't allow much room for expansion. AXP need to find a way to expand by keeping the focus on reliable customers.
Secondly the brand urgently needs to gain popularity among merchants, so that more and more shops will accept AXP. However, this is pretty much impossible with the current business model of having high fees for paying the reward system.
Given that the U.S. economy will continue to grow in 2015 long term investors might see an increasing value of their AXP stock, but in the short term AXP has to redefine its strategy - and this will be time and money consuming. And even with the big drop of July the stock price rose almost by 23% on a year-to-year basis whereas the increase of profit by 8.5 % cannot keep up with it.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.