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Discover Financial Services (NYSE:DFS) is a leading credit card issuer in the United States and an electronic payment services company. The firm offers credit cards, personal and student loans, and deposit products. It competes with other financial firms like Capital One (NYSE:COF), American Express (NYSE:AXP), Visa (NYSE:V) and MasterCard (NYSE:MA). Discover recently acquired Citigroup’s Student Loan Corp. in a deal valued at $600 million and became the third largest provider private student loans in the U.S.

We estimate that personal and student loans along with investment securities constitute about 10% of the $17.02 Trefis price estimate for Discover’s stock which is about 15% below the current market price.

Discover’s student loans include federal and private loans that help students and parents finance the costs of attending post-secondary educational institutions. Discover’s federal student loans are available to cover education costs at schools that participate in the U.S. government’s Federal Family Education Loan Program (“FFELP”), and are 97% guaranteed by the federal government. Private student loans are available to cover education costs at select schools offering undergraduate and graduate degree programs and are available to students with or without a cosigner. All of the private student loans are certified by schools as part of the approval process to prevent over-borrowing and are disbursed through schools to ensure proper use of loan funds.

Apart from student loans, Discover also provides personal loans which are unsecured loans with fixed interest rates, fixed terms and fixed payments, and are primarily intended to help customers consolidate existing debt, although they can be used for any reason. In addition to the interest earned on the personal loans, Discover also earns loan origination fees on some of its personal loans and fees from customers that enroll in the payment protection product.

(Chart created by using Trefis' app)

Students and Personal Loans

The students and personal loans division was started in 2006 and since then has grown considerably. It grew from $101 million in 2007 to $2.3 billion in 2009. Even during the recession in 2008-2009 student and personal loans outstanding grew by 192%. The largest increase was seen in student loans which grew by $1.6 billion as compared to personal loans, which grew by $360 million. The tremendous growth in student loans can be attributed to the fact that Discover is the preferred lender for more than 750 schools in the US. Students, and Discover enjoys a reputation among students and parents for providing good service and benefits

In March 2010, the U.S. government passed the Student Aid and Fiscal Responsibility Act (“SAFRA”) which require all federal student loans to be made directly by the federal government rather than by private institutions through the Federal Family Education Loan Program. The acquisition of Student Loan Corp. will mitigate the effect of regulation change on Discover as it acquired $4.2 billion worth of private loans, along with $3.4 billion worth of securitized loans. We estimate that Discover’s student and personal loans outstanding will increase to about $4.8 billion by 2013.

Disclosure: No position

Source: With Acquisition, Discover Banks on Student Loan Market Growth