From regulatory headwinds to uncertainty over consumer expenditures, investors have been on the sidelines for too long in financials. American Express (AXP) and Visa (V) are both rated highly on the Street. Based on my multiples analysis, review of the fundamentals, and DCF model, I find that Amex will outperform its competitor. Secular trends look favorable for the industry as consumers shift from cash to plastic payment.
From a multiples perspective, Amex is the cheaper of the two. It trades at a respective 12.7x and 11.1x with a dividend yield of 1.4% while Visa trades at a respective 29.7x and 16.3x past and forward earnings with a dividend yield of 0.8%. To put this more into perspective, consider that Amex also is valued at 85% of its historical 5-year average PE multiple. This creates strong room for appreciation as employment figures improve.
At the fourth-quarter earnings call, Amex's management noted strong performance for 2011:
Net income is $1.2 billion, EPS is $1.01. That is up 15%. You might remember that in the fourth quarter of last year, we had a reengineering charge, which was $74 million after tax. In the fourth quarter of this year, we also have reengineering, and that's $32 million on an after-tax basis. So if you were to back those out, EPS growth would be 11%.
So return on equity was strong at 28%. You can see that our shares outstanding have decreased compared to last year, and that reflects our share buyback program.
The company has recently opened its network to issuers and has subsequently taken away share from Visa and Mastercard (MA). Despite Amex cards being less accepted, the company still has the largest closed-loop network and a great number of cards outstanding. Most of the company's business further comes from credit card fees, not lending, and thus it is less exposed to interest rate headwinds than many investors recognize. The company's vertical integration further provides for greater certainty and margins. It is now reaching agreements with banks to issue more Amex cards.
Consensus estimates for Amex's EPS forecast that it will grow by 3.4% to $4.23 in 2012, and then by 10.6% and 11.5% in the following two years. Assuming a multiple of 13x and a conservative 2013 EPS of $4.59, the rough intrinsic value of the stock is $59.57, implying 14.6% upside.
While Visa will also benefit from positive secular trends, it faces tremendous pricing pressure given concerns over market share erosion. The company's PIN dominance enables it also to have less cyclical exposure. While this is a plus when economic outlook is uncertain, it limits high-risk adjusted upside.
Consensus estimates for Visa's EPS forecast that it will grow by 19.2% to $5.95 in 2012, and then by 16.8% and 16.5% in the following two years. Modeling a CAGR of 17.5% for EPS over the next three years and then discounting backwards by a WACC of 9% yields a fair value figure of $102.07, implying 9.4% downside.