I Have One Major Problem With MasterCard

| About: MasterCard Incorporated (MA)


Everyone knows MasterCard.

Shares are up about 10% from my initial buy call.

Q1 earnings are out and I discuss the key metrics and tell you the one major issue I have with the company.

MasterCard (NYSE:MA) is a company that everyone in America probably knows, and most people in developed nations are likely familiar with. It is simply a global enterprise and I regularly do business with them. The business model has only improved over the years as consumers have moved away from physical assets and cash for purchases, to more electronic means. Today MasterCard is up about 10% from where I recommended it at $90 a share. Thus, I wanted to check in on the name to see if this is a rare buying opportunity, or if there are performance concerns.

Just this morning the company announced its Q1 2016 results. Once again, I am impressed because the results indicate that the company will continue its slow but reliable growth. It really is just a powerhouse. Net revenue for the quarter came in at $2.45 billion, a 10% increase over Q1 2015. However, due to currency changes and a stronger dollar, it may not be directly comparable of course. Thus if we control for currency and look at things on a constant dollar basis, the company actually saw a 14% increase in revenues. This was primarily due to a 13% jump in gross dollar volume and a 14% increase in processed transactions to approximately 12.6 billion. That is pretty sizable growth for a long-standing company like MasterCard. Further, global purchasing volumes rose another 12% to over $838 billion year-over-year. My problem with the company isn't volumes or revenues.

So revenues were up nicely and they beat expectations very slightly by $70 million. That said, expenses were higher year-over-year versus last year. Total operating expenses as reported were actually up 25% year-over-year. However, as I did above for revenues, we really have to consider currency changes. When we adjust for changes in currency, we see operating expenses were up almost 29%. This rise led to total operating expenses that were $1.1 billion for several reasons. The increase was primarily due to the difference between foreign exchange gains related to currency hedging and balance sheet re-measurement which occurred in Q1 2015 versus foreign exchange losses on currency hedging in Q1 2016. This was of course offset by ongoing cost management initiatives. All of this led to operating income increasing 9% as reported. However, it was up a whopping 17% currency adjusted year-over-year. Operating margins were a strong 55.1% and operating income was up 4% on a constant dollar basis. While expenses were up, these are not my major issue.

Factoring in the growth in revenues and the expenses of the company, the company reported net income of $959 million, a decrease of 6% as reported. Once again, adjusting to a constant currency basis, net income actually declined 2% year-over-year. This translated to earnings per share of $0.86 which beat estimates by a penny. All in all it was a strong quarter and net income only dipped due to the expense issue and the problems in Venezuela. Earnings are however not my problem.

To be clear, these numbers are strong once again, even if some people were expecting better revenue and earnings growth. Revenues were up 10% year-over-year and beat estimates. That is a win. On top of it all, the company continues to be shareholder friendly, but not as friendly as I would like. During Q1 2016, MasterCard bought back 15 million shares for approximately $1.4 billion. Here in the present Q2 2016, the company has bought back another 3.0 million shares at a cost of approximately $288 million (through 4/21/16). There is still another $2.9 billion remaining under the current repurchase program authorization. So what is the problem? The company now pays a $0.76 annual dividend; $0.19 quarterly. This only translates to a 0.8% yield. While a dividend is shareholder friendly, I expect this dividend to grow in the coming years. With the earnings this company posts, shareholders deserve a higher payout, especially after it exhausts its buyback program. Shares have risen nicely, but if you can get them on a good pullback I would do some long-term buying.

Note from the author: Christopher F. Davis has been a leading contributor with Seeking Alpha since early 2012. If you like his material and want to see more, scroll to the top of the article and hit "follow." He also writes a lot of "breaking" articles, which are time sensitive, actionable investing ideas. If you would like to be among the first to be updated, be sure to check the box for "Real-time alerts on this author" under "Follow."

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.