American Express (AXP) Q2 2016 Results - Earnings Call Transcript

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American Express Co. (NYSE:AXP)

Q2 2016 Earnings Call

July 20, 2016 5:00 pm ET

Executives

Toby Willard - Head of Investor Relations

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Analysts

Donald Fandetti - Citigroup Global Markets, Inc. (Broker)

Elizabeth Lynn Graseck - Morgan Stanley & Co. LLC

Christopher R. Donat - Sandler O'Neill & Partners LP

Eric Wasserstrom - Guggenheim Securities LLC

Moshe Ari Orenbuch - Credit Suisse Securities (NYSE:USA) LLC (Broker)

Christopher Brendler - Stifel, Nicolaus & Co., Inc.

Jason E. Harbes - Wells Fargo Securities LLC

Craig Jared Maurer - Autonomous Research US LP

Sanjay Sakhrani - Keefe, Bruyette & Woods, Inc.

David Mark Togut - Evercore Group LLC

Arren Cyganovich - D. A. Davidson & Co.

Bob P. Napoli - William Blair & Co. LLC

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the American Express Second Quarter 2016 Earnings Call. At this time, all lines are in a listen-only mode. Later, there'll be an opportunity for your questions and instructions will be given at that time. And as a reminder, this conference is being recorded.

I'll now turn the conference over to Toby Willard, Head of Investor Relations. Please go ahead, sir.

Toby Willard - Head of Investor Relations

Thanks, Cathy. Welcome. We appreciate all of you joining us for today's call. The discussion contains certain forward-looking statements about the company's future financial performance and business prospects, which are based on management's current expectations and are subject to risks and uncertainties. Factors that could cause actual results to differ materially from these forward-looking statements are set forth within today's presentation slides and in the company's reports on file with the Securities and Exchange Commission.

The discussion today also contains certain non-GAAP financial measures. Information relating to comparable GAAP financial measures may be found in the second quarter 2016 earnings release and presentation slides as well as the earnings materials for prior periods that may be discussed, all of which are posted on our website at ir.americanexpress.com. We encourage you to review that information in conjunction with today's discussion.

Today's discussion will begin with Jeff Campbell, Executive Vice President and Chief Financial Officer, who will review some key points related to the quarter's results through the series of presentation slides. Once Jeff completes his remarks, we will move to a Q&A session.

With that, let me turn the discussion over to Jeff.

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Thanks, Toby, and good afternoon, everyone. Earnings per share for our second quarter was $2.10 and, as expected, included a number of discrete items, creating some complexity in our results. This complexity included a $1.1 billion pre-tax gain for the sale of the Costco cobrand portfolio, a continued slowdown in Costco-related volumes leading up to the date of the sale, a $232 million restructuring charge related to our ongoing cost reduction efforts, and an elevated level of investment spending.

Looking beyond these discrete items, our underlying results for the second quarter were solid and consistent with the outlook we provided at our Investor Day in March for both 2016 and 2017.

Excluding the impact from Costco-related volumes and FX, billings and adjusted revenue growth were generally consistent with recent quarters and our Investor Day expectations. On the expense side, provision and rewards were both modestly better than our expectations as write-off rates have remained steady and growth in rewards has been slightly slower than growth in billed business.

As expected, marketing and promotion expenses continued to reflect an elevated level of investment spending, while operating expenses were also impacted this quarter by the Costco gain and the restructuring charge, underlying expenses remain well controlled. And during the quarter, we continued to use our capital strength to create value for shareholders including repurchasing $1.7 billion of outstanding shares. We also made progress on our key initiatives to accelerate growth including driving new card acquisitions across our global consumer and commercial portfolios, expanding merchant coverage and driving strong momentum across our lending growth initiatives. In addition, we continue to make good progress on the steps needed to reduce our cost base by $1 billion, which drove the $232 million restructuring charge.

Beginning now with the summary of our financial results on slide 2. Billed business increased by 3% year-over-year during Q2 and was up 4% versus the prior year on an FX adjusted basis. Revenues decreased by 1% versus the prior year and increased 1% on an FX adjusted basis. As you know, our agreements with Costco ended on June 19 and we completed the portfolio sale and related transition. Primarily due to the Costco related impacts, we did see a sequential decline in billed business and revenue growth rates versus the first quarter in line with our expectations.

Net income was up 37% versus the prior year due primarily to the gain from the Costco portfolio sale, the majority of which held to the bottom line during the second quarter. The gain was offset in part by the restructuring charge and the continuation of the elevated level of spending on growth initiatives that we expect to maintain for all four quarters of 2016.

As I mentioned, we repurchased over $1.7 billion of shares during the quarter, which when combined with the $1.1 billion we repurchased in Q1 represents our highest ever level of share buybacks over a two quarter period. This higher level of share repurchases helped drive a 7% reduction in average share count versus the prior year. Our net income for the quarter combined with the decline in average shares outstanding, drove EPS of $2.10, which was 48% higher than the prior year. Since we have provided our 2016 EPS outlook excluding restructuring charges, I would point out that our EPS adjusted for the $0.16 restructuring charge was $2.26. These results brought our reported ROE for the 12 months ended June 30 to 26%.

Moving now to our performance metrics during Q2, starting with billed business on slide 3. Worldwide FX adjusted billings growth slowed sequentially to 4% during the quarter driven by the decline in Costco-related volumes. Similar to last quarter, we've provided a trend of adjusted worldwide billed business growth rate excluding both Costco cobrand volumes at all merchants and non-cobrand volumes at Costco on slide 4. Billings growth adjusted for Costco and FX was consistent with the prior quarter at 8%, though I would remind you that Q1 included an extra day for leap year.

To put this metric into context, I would also remind you that a portion of the new cards acquired in recent quarters relates to Costco cobrand card members who have signed up for a new Amex product. Our efforts around this began early last year and continued until the portfolio sale date.

Although the ultimate outcome will play out over time, we are pleased with the demand for our products and the success we've had in putting cards into the hands of former Costco cobrand card members while, of course, closely following the terms of our agreements with Citi and Costco. We expect to capture at least 20% – we expect to capture at least 20% of the out-of-store spending of the former Costco cobrand card members as a result of our acquisition efforts prior to the sale. This spending is helping to provide a lift in the adjusted billings growth rate shown on slide 4 and will create a number of lapping dynamics as we move forward.

Stepping back, the sale of the Costco cobrand portfolio highlights the continuing evolution of the competitive landscape and why we have been adapting our strategy to meet the needs of our customers and accelerate growth. We plan to continue to aggressively pursue the full range of growth opportunities that we discussed at our Investor Day in March.

These efforts cut across all our businesses, customer segments and geographies, including our initiatives to grow lending, our push towards parity coverage in the U.S., our focus on accelerating growth in small business and middle market, continued strong growth outside the U.S., and of course, our efforts to grow our Consumer business in the U.S. where there will be many complex market dynamics in coming quarters. These efforts all have the common goal of helping to accelerate the company's overall revenue growth which is what we as a management team are focused on. Going forward, while we will provide the adjusted billings and revenue performance of the company for the next four quarters, our focus will be on the outcomes of all of these efforts, not just the narrower performance around former Costco cobrand card members.

If we turn now to the segment and regional billings performance on slides 5 and 6, clearly Costco had a significant impact on our U.S. results, as well as on the performance of our USCS and GCS segments. Given that impact, I'll highlight a few of the other significant drivers of our billings performance during the quarter rather than reviewing the regions and segments individually.

Lower gas and airline ticket prices remain headwinds across our U.S. businesses and had a similar impact to the prior quarter. International volumes continue to be strong with FX adjusted growth of 10% and performance remained relatively consistent across most regions. To turn to EMEA in particular, given the recent Brexit vote, I would remind you that the EMEA region constituted approximately 10% of our worldwide volumes in Q2. Our U.K. business constitutes 3% to 4% of worldwide billings and it has been growing in excess of 10% in recent quarters. We did see a noticeable slowdown in this growth in the first several days immediately after the Brexit vote. But that growth has since rebounded to its prior strong levels.

From an FX perspective, we are relatively hedged naturally against the pound as the U.K. serves as the headquarters for many of our international operations. Like all companies with European operations, we are monitoring the situation closely to determine whether we will need to make any modifications to our business practices. At this point, we continue to operate as usual.

Turning now to loan performance on slide 7. Our loans on a GAAP basis were down 13% compared to Q2 2015 reflecting the sales of the Costco and JetBlue cobrand portfolios in the first half of this year. To help understand the underlying trends, on the right side of the slide we had excluded the Costco and JetBlue portfolios from the prior year, and adjusted for FX.

Adjusted worldwide loan growth of 13% is slightly higher than the first quarter and continues to outpace the industry. Now similar to my earlier comments on billings, I would point out that a portion of the loan growth in recent quarters comes as a result of our efforts to have former Costco cobrand card members sign up for another Amex product. Taking a step back, we have been pleased by our steady growth in loans for several years now and we continue to see opportunities to increase our share of lending from both existing customers and high quality prospects without significantly changing the overall risk profile of the company.

Turning now to revenue performance on slide 8. Reported revenues were down 1% but grew by 1% after adjusting for changes in FX. FX-adjusted revenue growth reflected increases in underlying billings and loans, offset by declines in Costco volumes and a decrease in the calculated discount rate. I'll provide some additional details on the drivers of discount rate performance and the impact from Costco in a few minutes. Turning first, though, to the other drivers of revenue growth in the quarter, we saw a 7% increase in card fees versus the prior year. The growth was again driven in part by strong performance within our platinum, gold and delta portfolios and is a clear indication that our value propositions continue to resonate in the marketplace.

Net interest income increased by 2% during the quarter, though growth did slow sequentially versus the first quarter due primarily to the sales of the Costco and JetBlue cobrand portfolios, as well as the continued drop-off in Costco loans prior to the portfolio sale date in June. As we disclosed previously, the JetBlue cobrand portfolio constituted between 1% and 2% of our worldwide loan balances. Looking forward, given all the recent uncertainty around forward interest rate expectations, I'd remind you that unlike most other banks, we benefit from lower interest rates and are negatively impacted by rising rates, due primarily to the presence of our charge card portfolio.

To turn back now to the drivers of our discount rate and revenue performance, on slide 9 we are again showing the trends in our reported and calculated discount fees. As expected, discount revenue growth during Q2 was impacted by a larger year-over-year decline in the reported discount rate than in Q1, due to the prior-year merchant rebate accrual benefit. On a year-to-date basis, the reported discount rate is down six basis points versus the prior year, which is at the low end of our six basis point to seven basis point expectation from Investor Day. Similar to last quarter, we are also seeing an impact on the discount rate from the continued expansion of OptBlue and merchant negotiations, including those resulting from the regulatory changes in the EU that went into effect late last year. We do expect to see a much smaller drop in the reported discount rate during the second half of the year due to the end of the Costco relationship.

Coming back to the calculated discount rate, it was down 10 basis points versus the prior year during Q2, driven in part by the six basis point drop in the reported discount rate. As a reminder, a calculated rate is also influenced by contra-revenue items including cash rebate rewards, corporate client incentives and cobrand partner payments, as well as by growth in our GNS volumes. Growth in cash rebate rewards continues to make up the majority of the year-over-year change, driven primarily by our strong cash rebate card acquisitions and billings growth in recent quarters.

I'll note that while this is driving increased contra-revenues, we are seeing an offset in the rewards expense line, which I'll discuss in a little more detail later in my remarks. Moving now to slide 10, we've included our estimate of Costco-related revenues. I'll remind you that there is some judgment involved with this estimate. Based on our analysis, we estimate that Costco-related revenues declined by approximately 32% versus last year during the quarter. Based on this estimate, FX-adjusted revenue growth, excluding Costco, slowed modestly on a sequential basis to 4% in Q2, driven primarily by the prior-year discount rate benefit.

On a year-to-date basis, FX-adjusted revenue growth, excluding Costco, has been about 5%, slightly above our exit rate from 2015. As we discussed at Investor Day, adjusted for the impact of Costco, we remain focused on driving revenue growth above the 4% level that we generated in 2015 during the second half of the year. Moving now to credit performance on slide 11. Our lending credit metrics have remained relatively stable on a year-to-date basis and remain best-in-class amongst large issuer peers. Overall, our credit performance is slightly better than our expectation at Investor Day that write-off rates would begin to trend up a little bit, given the seasoning of our loan portfolio.

I would note that as part of the portfolio sale, we retained approximately $250 million of loan balances from the Costco cobrand portfolio, which related primarily to cancelled accounts. These accounts are not expected to have a significant impact on provision as they are already reserved for at higher levels. But they did increase our delinquency rate by about 10 basis points during Q2 and will impact our reported write off rate over the next two quarters.

Turning to Provision on slide 12, total provision decreased by 1% versus Q2 2015 as you can see on the left side of the slide. But this result reflects the impact of the held for sale accounting changes. Credit costs for the held for sale portfolios were accounted for through a valuation allowance within operating expenses. When you exclude those credit costs for the prior year as we do on the right side of the slide, adjusted provision increased by 13%, which was relatively consistent with loan growth and our Q1 performance. Consistent with our Investor Day comments, we expect that both continued growth in loans as well as some modest upward pressure on our write-off rates due primarily to the seasoning of loans related to new card members, will contribute to an increase in provision going forward.

Turning then to expense performance on slide 13. Total expenses decreased by 15% versus the prior year but were impacted by several discrete items. Excluding the Costco portfolio sale gain and the restructuring charge in the current quarter, adjusted total expenses increased by 1% versus the prior year and continued to reflect an elevated level of investment spending. Looking at the individual expense line, M&P was up 4% versus the prior year as we continue to invest in growth initiatives. As we've discussed, new card acquisitions has been one of the key areas of focus for our investments and we were pleased that these efforts drove 2.1 million new card acquisitions across our U.S. issuing businesses this quarter and 3 million on a worldwide basis. As I mentioned, Costco cobrand card members signing up for new cards has been a key driver of the increased acquisitions in recent quarters. But we do expect acquisitions to slow somewhat during the second half of the year.

While we had previously expected our total spending on growth initiatives during full year 2016 to be similar to 2015, we now expect to spend at a somewhat higher level. The increased spending will support a range of initiatives across the company including some of the potential opportunities within the U.S. marketplace that I mentioned earlier. Our ultimate investment level will, of course, be driven by the opportunities that we see in the marketplace but we now anticipate that marketing and promotion expenses during 2016 will be at least $200 million above the 2015 level of $3.1 billion.

Coming back to the other drivers of expense performance, rewards expense decreased by 2% versus the prior year despite there being a 2% year-over-year increase in proprietary billings. This trend is being driven by a shift in volumes from products that have their rewards costs classified as an expense item, such as Costco cobrand, to products that have rewards recorded as contra-revenue items, such as cash back. Total rewards costs including cash rebates, were up 1% in the current quarter, which is roughly in line with the growth in proprietary billings. While at the smaller expense line, cost of card member services increased by 16% versus the prior year. This line can be a bit volatile quarter-to-quarter due to timing issues but due to increased usage of some of the card member benefits that we've recently added, including new airport clubs and Airline Fee Credits, I would expect it to be up around 10% for the full year.

Operating expenses were down 31% versus the prior year but were impacted by both the portfolio sale gain and the restructuring charge. Excluding these items, adjusted operating expenses were flat year-over-year reflecting our strong focus on controlling costs. We feel good about our progress on our effort to reduce our cost base by $1 billion on a run-rate basis by the end of 2017. As a continuing part of that effort, we do expect to incur some additional restructuring charges in future quarters as we continue to roll out our plans, though I'd expect they will be smaller than what we incurred this quarter. We also anticipate that a portion of our increased investment spending will occur in operating expenses over the balance of 2016.

Turning last to capital on slide 14. We continued to be pleased with our ability to return excess capital to our shareholders. During the quarter, we finished fully utilizing our 2015 CCAR authorization, repurchasing $6.6 billion of shares over the past five quarters, including $1.7 billion in the second quarter. As you recall, our 2015 CCAR submission included a higher level of net income than our actual performance since it assumed that our relationship with Costco would continue. However, given the performance of our underlying business and the benefits from the Costco portfolio sale, we were still able to fully utilize our CCAR 2015 capacity while maintaining our strong capital ratios.

We were also pleased with the 2016 CCAR results, which were released last month, as the Federal Reserve did not object to our CCAR 2016 plan to return up to $4.4 billion in the form of dividends and share repurchases over the next four quarters. These potential payouts are aligned with our Investor Day expectations and will enable us to provide a steady return of capital to our shareholders. As you are all well aware, CCAR continues to be a very complex process. In general, capital plans are governed by the Fed's model, which can have very different results from a bank's own expectations. For example, in the current year, the Fed assumed that our risk-weighted assets would increase in a severe stress scenario despite the loss of the Costco cobrand portfolio. It was very different from our own projections.

I'd also highlight that we have the highest ROE amongst all the bank holding companies that go through the CCAR process. In combination with our high payout ratio, this results in a large reduction in capital levels over the CCAR period in the severely adverse scenario. For example, if we pay out 100% of base case net income, our capital ratios would be reduced by well over 50% in a severe stress scenario. Thinking more broadly, the 2016 CCAR results once again highlighted the strength of our business model and balance sheet as we generated the highest net income amongst all bank holding companies in a severe stress scenario and our capital ratios before the impact of capital actions were also in the top quartile.

So let me now conclude by stepping away from some of the complexity I just took you through and going back to the key themes in our results and our outlook for the balance of the year. During the quarter, we made progress on our key initiatives to accelerate growth, including driving new card acquisitions across our global consumer and commercial portfolios, expanding merchant coverage, driving momentum on our lending growth initiatives. We also remained focused on our cost reduction efforts and continue to leverage our strong capital position to create value for our shareholders.

During the past six months, we have said that our full-year 2016 outlook was for adjusted EPS to be between $5.40 and $5.70. We now believe that full-year 2016 EPS will be at the high end of this range as our year-to-date performance has been better than our original expectations, driven largely by the favorability in our credit and expense performance. As a reminder, this outlook excludes the impact of restructuring charges or other contingencies. Given that we're only halfway through 2016, our outlook for full-year 2017 EPS to be at least $5.60 remains unchanged. We continue to anticipate that earnings will be lower during the second half of 2016 due to the end of our relationship with Costco and the fact that we now expect to invest at higher levels during 2016 than we did in 2015.

As we have discussed several times, there is a bit more uncertainty around our second half 2016 assumptions. While we believe that we have taken a balanced approach, we will have an updated view on the complex dynamics within the U.S. consumer marketplace as we progress through the balance of the year. And of course, we will update our guidance at the end of the third quarter. We're focused on our plan to accelerate revenue growth, optimize investments, and substantially reduce our costs. We continue to believe that the strength of our business model will allow us to drive profitable growth.

With that, I'll turn it back to Toby, and then we'll take your questions.

Toby Willard - Head of Investor Relations

Thanks Jeff. As a reminder, our ongoing goal is to provide a greater opportunity for more analysts to ask a question during the session. Therefore, before we open up the lines for Q&A, I'll ask those in the queue to please limit yourself to just one question. Thank you for your cooperation in this process.

With that, the operator will now open up the line for questions. Cathy?

Question-and-Answer Session

Operator

Thank you. And our first question will come from Don Fandetti of Citigroup. Go ahead, please.

Donald Fandetti - Citigroup Global Markets, Inc. (Broker)

Yes, Jeff. Can you talk a little bit – I mean, you had a benefit from the new Amex cards to the former Costco cobrand cardholders? Is a lot of that in the run rate? Or should we see a continued incremental benefit there? And then also, can you elaborate on what you mean by complex dynamics in the U.S. card market in H2?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

So I think the point I'm trying to make, Don, is we were pleased by our efforts over the last, really year-and-a-half to put other Amex products into the hands of the former Costco cobrand card members. And that's why we feel comfortable with my statement that we'd expect to track to retaining over 20% of the out-of-store spending of those card members.

So I would say that in the run rate for the most part in the second quarter, it continued to build even as we went through the second quarter and should stay in the run rate, subject to the complex dynamics, which I'll come to in a second. And I mentioned that 20% in the context of the disclosure we're making about our billings and revenue, and for that matter, loan growth rates where we pull Costco out of the prior-year base. Some of the growth does come from the efforts and the success we've had at putting other Amex products in the hands of the Costco cobrand card members.

Complex dynamics. When you look at the back half of 2016, it's certainly not news to anyone on this call. It's a very competitive environment right now. And you have many changes that are wrought by the switch from Amex to Citi of the Costco cobrand. You have many other competitors who have launched either new marketing efforts or new products that perhaps are targeted at some of the same types of card members. In our case, we have a range of marketing efforts targeted at lots of consumers and lots of different segments of the consumer world in the U.S., including the fact that the former Costco cobrand card members do just drop into our broader prospect pool at this time.

You also for us have some complex dynamics around geographies and certain geographies where the Costco cobrand card members, for example, might have been a more significant part of total Amex card holders. So all of those dynamics are complex. And then if you think about the broader external environment, you have tremendous uncertainty around interest rates. I would point out to you, as we thought about this call, originally thought I might want to talk about the potential of lower rates when you think about the last 24 hours, you have the Fed sort of back-talking about higher ratings. We'll have to see.

Certainly, all of the election dynamics here in the U.S., and for that matter the dynamics in the UK and the EU, probably create more uncertainty than we're used to. So I could go on. But I think you probably get the point that there's a lot of different changes going on that just make us a little bit cautious, so we've tried to be very balanced in the outlook that we've given you for the back half of 2016 and what that means for 2017, but we'll have to see where things really come out.

Donald Fandetti - Citigroup Global Markets, Inc. (Broker)

Thanks.

Operator

Thank you. Our next question is from Betsy Graseck with Morgan Stanley. Go ahead please.

Elizabeth Lynn Graseck - Morgan Stanley & Co. LLC

Hi. Good evening.

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Hi.

Elizabeth Lynn Graseck - Morgan Stanley & Co. LLC

Just wanted to touch base on the loan growth that you highlight on slide seven. Obviously it's on the ex-Costco basis but increasing accelerating growth rate over the last several quarters. Could you just give us a sense as to key drivers there? And how much of this is new account acquisition versus wallet share increase and other key drivers? And what the kind of trajectory is that you're anticipating? Thanks.

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

I'm just making a few notes here Betsy so I don't forget any parts of the question. I think the first thing that's important to think about is, we now for several years have been steadily growing loans at above industry rates and we've done that while maintaining best-in-class credit metrics and without seeing any significant increase in the credit metrics or changes in our overall risk profile. So this is a continuation of a trend.

And that loan growth is coming from many different areas. We have a nice loan portfolio that's been growing steadily in our U.S. small business franchise OPEN. We have a range of consumer products targeted at attracting more of our customers' borrowing behavior. And for us, because traditionally and we talked a lot about this at our Investor Day in March, because traditionally over the last probably five years, six years we have probably underinvested in terms of our efforts to attract the borrowing behaviors of our own card members, both consumer and small business, as well as underinvested in terms of targeting prospects, who from a credit perspective, look just like our customers but are a little bit more revolving-centric.

As we have turned our efforts more to those kinds of customers, this is not trying to get more lending growth out of our existing customers, or excuse me, out of customers where we were already tapping into our fair share of their lending behaviors. It's really, how do we tune our efforts to just attract an equivalent lending share to what we already have our customers spend share.

So all of those efforts are what have led to the very steady performance you've seen. Now I think it is fair to say this quarter and last quarter you're getting a little bit of an incremental boost that will fade in the next couple of quarters as we have moved some of the lending behaviors that were being done on the Costco cobrand cards onto other Amex products. And since you're looking at an adjusted number there where we pulled all the Costco amount out of the base, that increases that 13% by a little bit. That will fade a little bit, but the broader trajectory which we feel is a very thoughtful outcome of several years of steady effort in this area, we think that outcome will continue for the foreseeable future.

Operator

Thank you. Our next question will come from Chris Donat with Sandler O'Neill. Go ahead please.

Christopher R. Donat - Sandler O'Neill & Partners LP

Good afternoon. Thanks for taking my question. Wanted to see if we could get a little more quantification around the elevated expenses you expect for the remainder of this year and what they mean for 2017? And I'm asking this because if we look at the implied EPS for the back half of the year, it looks like it's less than a $1 a quarter. And then it seems like it would be a big leap to get from that to, say, a $1.40 a quarter which is what you need to do to do $5.60 a share in 2017. So just on the elevated expense piece, I know there's a lot of other moving pieces there, but can you help us understand what's elevated this year and might drop off next year?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Yes. That's a really good and I think important question, Chris. So couple of comments. The investment piece to start with, as you point out, we have made a decision that, as we look at all of the complex market dynamics, which I just talked about in response to the last question.

We're going to increase somewhat in the second half of the year and increase for full year 2016 over 2015 our overall level of investments. Those investments take many forms. Some of them are pure marketing and acquisitioning investments, some of them are technology investments that are about building capabilities in infrastructure. All of them are targeted at a mixture of very short-term, medium-term and long-term benefits. And as we look at our performance in the first half of the year, where we've done a little bit better on expenses and provision than we expected and revenues are tracking as we expected, we felt very comfortable even going to the higher end of our guidance range in increasing the investments a little bit.

Our view of 2017, though has changed in that in 2017 our expectation would be that elevated level absolutely falls away and particularly some of the capability building that we're funding here. Our projects very naturally will fall away. The question I get a lot is gee, how can you consider a more significant decrease in this investment level without thinking it's going to impact your revenue growth. Well, part of the reason is, it's the things like I just described where these are projects that we very discreetly decided to fund and they will naturally fall away. The other thing to keep in mind is that we feel we are making very good progress on our efforts to pull $1 billion out of the cost base on a run-rate basis by the end of 2017.

As we have said all along, sometimes to get to those ultimate positive outcomes, we actually have to spend some money, right? If you're automating things for a little while you have to spend the money on automation before you can put the automation into place and take the costs out. If you're right-shoring things you often have to have duplicate teams in place for a little while until everything is running smoothly. In the back half of 2016 you have some of those added costs actually working against us. We are very comfortable, though, with the tract and the line of sight we have into 2017 and feel very good about the progress we're making on costs.

So that will be a significant benefit in 2017 versus what you will see in the back half of 2016. So those are the components that go into what we mean when we say we're at an elevated level of investments, going to elevate them a little bit more. If that helps you a little bit think about the big moving pieces that help you get in the back half of 2016 to the EPS guidance we have given you for 2017, which as we sit here today I remain very comfortable with.

Toby Willard - Head of Investor Relations

Next question, operator.

Operator

Thank you. That will come from Eric Wasserstrom with Guggenheim. Please go ahead.

Eric Wasserstrom - Guggenheim Securities LLC

Thanks very much. Jeff, maybe just to understand the – you made several comments about trends but can you just help me think through how I should anticipate billed business growth trends across the three business lines for the back half?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, let me focus on the global consumer versus the global B2B segment. For the most part I would think of GMS, Eric, is just reflecting the tire company. And I think the nuances to think about here and I'll talk about all of these numbers, taking Costco out of the base because it does affect both segments. In the consumer segment, you have had the biggest benefit from the phenomenon I described about the success we've had putting other Amex products into the hands of Costco cobrand card members. As we finish lapping that, you will actually see some just due to that effect alone, modest decline in the U.S. consumer rate. That's something we anticipate and it's consistent with all the plans we've laid out.

Going against that, you have the efforts we have across a broad range of products to drive more billings through a range of efforts in the consumer segment. In the B2B segment, you continue as we talked about initially at Investor Day to have the tail of a couple of different segments of the market. We are seeing really nice growth in the small business and middle market area. And in fact, I would expect to see some acceleration in the middle market area in particular as we get into the back half of the year.

The wild card is in the largest corporate clients where, as we pointed out at our Investor Day, that is not particularly a growth segment for us. And that continues to be a tough segment. I don't think there's many of the Fortune 500 who are going on calls like we're having right now and talking about growing their T&E budgets. And for us in that large segment, we predominantly still have a T&E franchise. So we'll have to see how all those things play out. And, of course, you have the whole range of external factors that I talked about earlier that are a little harder to handicap. But those are a couple of discrete things that I would watch for.

Eric Wasserstrom - Guggenheim Securities LLC

Thanks, Jeff. And as I recall, did you disclose that about 80% of the Costco volume was outside the store? Is that figure about right?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

So on the Costco cobrand spending, 70% of that spending was outside the store.

Eric Wasserstrom - Guggenheim Securities LLC

70%.

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Correct.

Eric Wasserstrom - Guggenheim Securities LLC

Okay. Thank you.

Operator

Thank you. We'll go next to Moshe Orenbuch with Credit Suisse. Please go ahead.

Moshe Ari Orenbuch - Credit Suisse Securities (USA) LLC (Broker)

Great. Thanks. Jeff, I wonder if you could kind of come back a little on talking about the things that you're going be doing actively in terms of expenses for 2017. I mean you talked about $1 billion worth of savings kind of run-rated by the end of 2017. But now it sounds like there's going be some amount of spending in 2016 that won't be there. Can you talk a little bit about that? And maybe you talked about those projects, but how you would think about, in terms of, obviously, marketing to the existing Costco customers is probably somewhat easier. You already know who they are and where they live. Like how do you think about marketing in terms of that for 2017?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, kind of two questions there, Moshe. Let me take them maybe in reverse order. On marketing to Costco cobrand card members, I would remind you that we sold the portfolio. And it's very different from our situation in Canada. So we no longer have any access, or for that matter, knowledge from a marketing perspective, of the former Costco cobrand card members unless they happen to have another Amex card. Now, those people drop anonymously into the broader U.S. prospect pool that we constantly, as our competitors are trying to target with attractive offers, attractive products. But we can absolutely not do any direct marketing to those people at this point.

On the expense side, the way I think about it is that there's a couple of big components of the expenses. So people costs are the largest single components, and the now $315 million or so of restructuring charges that we've taken will get at a big chunk of the people savings. When you look at those restructuring charges, for the most part, those are for exits that occur over the course of 2016, with the overwhelming majority of them done by the end of 2016. But you don't necessarily really start seeing the savings until 2017.

You have other components of costs. So there's a big professional fees component where we think we can get some savings, one of which is in the area of application development where we do a lot of out-source work. Part of the elevated spending or elevated investment spending that we've been talking about is a lot of technological or technology development work that we think is going be really valuable long-term. That's the kind of stuff where we can actually dial it up even as we go through the back half of 2016 and very – roughly dial it down in 2017.

Still you have a variety of other fees, renegotiated contracts, travel, all those kinds of things that constitute the remainder of the $1 billion. So while there are some savings that will begin to creep into the back half of 2017, mostly on the people side, 2016, excuse me. To a great extent, those are offset by some of the other costs I talked about earlier where we sometimes have to spend money to position ourselves to save it in 2017. So the net of all that is I feel very good about the progress we're making on the 2017 target, and we're working real hard to see just how much of it we can get quickly and early in 2017, and we'll obviously need to give you updates on that in future quarters. But I feel really good about the progress.

Moshe Ari Orenbuch - Credit Suisse Securities (USA) LLC (Broker)

Okay. Thanks.

Operator

Thank you. Our next question is from Chris Brendler with Stifel. Please go ahead.

Christopher Brendler - Stifel, Nicolaus & Co., Inc.

Hi. Thanks. Good evening. I'd like to ask a question about the rewards competition, both in the U.S. and the UK. The U.S. seems to be getting more competitive but I don't think Membership Rewards is going through any sort of revamp. It seems like you're sticking with your current strategy and letting customers who are rewards sensitive just to try it, if necessary. But then in the UK, you've had interchange reductions and I think a lot of competitors have pulled back on rewards. I was wondering if you're picking up share in the UK, the 10% growth you mentioned, because of the lack of rewards competition there. Thank you.

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Two good questions. Let me take them in reverse, Chris. So the UK, it is true that since the EU interchange regulations came into effect in early December, you have seen a couple of competitors pull back on some rewards, although it's not universal by any stretch of the imagination. What I would say is while that may help us over time, the really good growth rates we're seeing in the UK have actually been there for quite some time and predate any of those changes.

So look, we always say that regulation in our industry we think is generally not a good thing, not consumer-friendly and necessarily produce the best outcome, and regulation around interchange will not directly impacting us. It does have an impact that is unbalanced, not a good thing. All that said, it does at times create opportunities and the flexibility of our business model gives us a number of levers to pull to try to take advantage of different environments and different sets of regulation. So we'll have to see over time. We feel good about our value proposition in the UK. We feel really good about the growth rates that we've had for quite some time. And if we could even accelerate those further, that would be a tremendous thing.

In terms of the U.S., certainly it's a competitive rewards environment. It has been for quite some time. I would have to say I can't say that we've seen anything in the last 90 days that changes our view of what it would have been 90 days ago. And our broader strategy to compete in that environment, as you point out, Chris, is to have a wide range of value propositions because everybody's different. Everybody has something different they value. And that's why we have cobrand products, we have cash-back products, we have Membership Rewards products, we have fee-based products, we have no fee-based products, et cetera, et cetera. And we think that kind of targeting allows us to deliver the most value to each customer segment in the most efficient way from a shareholder perspective.

Now, I would have to say from our perspective, we are constantly innovating and evolving the Membership Rewards program and we absolutely don't accept just as a matter of course at all. We're going to have people trading out of Membership Rewards. We fight for the loyalty and business and try to earn the business of every one of our card members on an ongoing basis. And the breadth of the Membership Rewards program, our ability to integrate it with other merchants and other offers we think allows us to do some really innovative and unparalleled things that are very difficult for others to offer and match. And we think it's part of why we continue to see good growth in our Membership Rewards products. And we're able to do it while still being able to manage the costs in a reasonable way. So...

Christopher Brendler - Stifel, Nicolaus & Co., Inc.

Okay. Thanks so much, Jeff.

Operator

Thank you. And next we'll have Jason Harbes with Wells Fargo. Please go ahead.

Jason E. Harbes - Wells Fargo Securities LLC

Yeah, hey guys. Thanks for taking the question. So, just wanted to get your outlook for credit. Specifically, as I look at the net write-off ratio this quarter, it looks like you benefited a little bit from the sale of the Costco portfolio, so, I think, stripping that out, you're closer to 1.8%. Is that a reasonable run rate as we think about the second half? And then just to expand on that, I think at the Investor Day, you said you expected a bit of normalization, probably in the 10-basis-point to 15-basis-point range over the next year or so. Is that still realistic?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, I'm actually a little puzzled by the math you're doing, Jason. So on balance the sale of the Costco portfolio didn't have a material impact on our metrics other than the phenomenon I talked about in my prepared remarks where, because we retained a small amount, $250 million, $260 million of the cancelled accounts, and those are heavily reserved, they impacted the delinquency rate by about 10 basis points this quarter. And they'll have a lot of probably similarly sized impact on the write-off rate in the next couple of quarters.

Beyond that, what we laid out at our Investor Day was an expectation that you would see just because we're growing loans a lot, there's some seasoning of the portfolio, we expected you would see some modest uptick in write-off rates and then we painted some longer term scenarios where we talked about maybe write-off rates going up 10 basis points, 20 basis points a year. We haven't seen that yet. The legacy parts of our portfolios in most cases continued to actually strengthen. And the loan growth that we've been doing – we've been doing while still maintaining a very similar credit profile to what we've had for years. So if you look at our new card acquisitions this quarter, the FICO has averaged over 750 as they have for many, many quarters in the past. So there's really not a material change there. So look, I think we all are in the camp of saying credit rates will go up. They have to go up at some point with seasonal lows but we feel pretty good about the trajectory right now.

Jason E. Harbes - Wells Fargo Securities LLC

Okay. Thanks.

Operator

Thank you. We have a question from Craig Maurer with Autonomous. Please go ahead.

Craig Jared Maurer - Autonomous Research US LP

Yes. Hi. Thanks for taking the question. Regarding the new loans that you're putting on, the yield was lower overall than what we thought it would be. So could you talk about how aggressively you're using things like deferred interest promotions and perhaps balance transfers to bring that on? And what type of effect that could have on the NIM over the next few years?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Yeah, it's a good question, Craig. So a couple things I'd say. As you – I don't know exactly what calculation you're doing, but it is true that if you look at the competitive environment right now, like others on a lot of our lending products, there is some kind of introductory period, where there is an interest free period. When you suddenly, as you saw this quarter, lop off in effect all of the Costco loans, which were mature loans, not in that intro period, the percentage of the remaining portfolio that is in that introductory period all of a sudden pops up compared to the combined portfolio before. Nothing has actually changed in terms of the dollars. I think you see the proportion change.

And so you do see a little bit of that effect this quarter. One of the complex lapping dynamics that I was referring to earlier in my prepared remarks is as we go through the next couple of quarters, the lapping impact of all of some of the offers and the customer behavior around the new Amex cards we've put in the hands of the Costco cobrand card members, well amongst other things cause billings to trend down a little bit because we've had this surge – adjusted billings to trend down a little bit, we've had this surge as we brought those card members on. It will also, though, have a very positive effect on net interest income and on revenue in a few quarters as we get the majority of those people past those introductory periods.

So when you think very long term, what I would say is that the mix, overall mix that we're offering to new and existing card members from an interest rate perspective is not materially changing. This mix effect that I just described we will work through in the next couple quarters as we finish lapping all the effects of the last five or so quarters of some unusual dynamics around Costco. And once you're through all that I wouldn't expect to see a material change from the prior trends.

Craig Jared Maurer - Autonomous Research US LP

Okay. Thank you.

Operator

Thank you. Our next question comes from Sanjay Sakhrani of KBW Research. Please go ahead.

Sanjay Sakhrani - Keefe, Bruyette & Woods, Inc.

Thank you. I guess when we look at the relatively strong underlying growth ex-Costco, how much of that is being driven by old accounts versus new? I guess when we think about some of these investments that you're making, you've talked about how it takes time for them to kind of spool to get you the growth you expect. Maybe you could just give us an outline of what today's investments will bring in the future and what the timeline would be based on your experience. Thanks.

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, that's a good and very complex question, Sanjay, because of course the dynamics are a little different whether you're talking about a consumer lend card, consumer charge card, an open small business card or new corporate card relationships. But let me maybe make just a few comments.

Certainly our growth has been helped by the really nice progress we've made in the last five quarters on new card acquisitions. That growth manifests itself today particularly in the billings line, and then as the next couple of quarters roll by that growth will increasingly move from the billings line into the loan balance and net interest income line as balance is billed for those who are revolvers. And it will grow into the revenue line as we lap various introductory incentives, et cetera.

That's a general statement. It's part of why we have said for some time, although I guess I haven't repeated it today now when I think about it, that as we get into the last quarter of 2016 in particular, we expect to see some sequential increase in revenue growth rates. And part of the complex lapping dynamics I was talking about earlier is, we may see a little bit of sequential weakening in the billings rate adjusted for Costco but revenue will be going in the other direction as we get into the end of this year for all the reasons that you're asking about.

So the other comment I would make is, one of the things that Doug Buckminster in particular talked about at Investor Day is the fact that we have seen some modest share of wallet losses amongst our existing customers. And one of our key initiatives in the Consumer business is around a range of things we're doing to try to change that trend. I feel really good about the things we're doing. What I would say is, it's a little early in the second quarter to say that they're actually having much of a material impact yet. I would say the second quarter is more impacted by what we've been doing around new card acquisitions. What I conclude from that is, though, because I do feel good about those efforts because I think that is something that you will see the fruits of as we get into the coming quarters.

Operator

Thank you. We'll go next to David Togut with Evercore ISI. Go ahead please.

David Mark Togut - Evercore Group LLC

Thank you very much. What impact do you expect to see on future merchant discount rates from the recent Appeals Court decision to overturn the merchant interchange litigation settlement between Visa and MasterCard and several million U.S. merchants? And is that factored into your current guidance?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

I would say we factor into our current guidance everything we know about a wide range of internal and external factors including the legal environment. I would remind you that is a case that we were not a party to. We don't see it as having a direct impact on our pending appellate case with the DOJ, which we are still awaiting a verdict on and we'll have to see where it comes out. And look, we every day have to go out and negotiate with merchants and demonstrate the value we're providing. And we've been doing that for many, many years in the face of all kinds of changes in the environment. In the grand scheme of things, I don't think that particular legal judgment has a significant or material impact on those ongoing negotiations.

David Mark Togut - Evercore Group LLC

Just as a quick follow up. To the extent the default interchange rate is reduced as part of a new settlement, wouldn't you expect that to have an impact on your merchant discount rates going forward?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, I'm going be careful because I don't want to get in the middle of trying to opine on someone else's legal settlement. But I think we're always very clear. And Europe is probably the best example, David, that when you have some kind of regulatory or other external intervention that drives down interchange, even though we don't – we're not involved with interchange – that generally puts downward pressure on us. As merchants say, well, you need to remain competitive.

So Europe being a good example where in most of those markets we have long had a premium, significant premium, to the interchange rates. As interchange rates come down, we tend to keep our premium. But the premium sort of stays the same and we move down as interchange moves down. So anything that results in a sharp downward movement of interchange is generally going to have a tough or a follow-on impact on us.

David Mark Togut - Evercore Group LLC

Thank you.

Operator

Thank you. Our next question is from Arren Cyganovich with D.A. Davidson. Please go ahead.

Arren Cyganovich - D. A. Davidson & Co.

Thanks. I was just wondering if you could provide a little bit more granularity on your comments about the discount rate being less of a decline in the second half. I think you talked about it on a reported basis. How does that compare on a calculated basis?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, so the one big change between the first half and the second half is just Costco is no longer a merchant. And so we had a significant chunk, six, seven – I guess we haven't given the second quarter, we had significant chunk of our volume that was running through a merchant with a much, much, much, much lower than normal discount rate. All of a sudden all that volume goes away, and just the sheer mass of it pops the average discount rate up. That's really the only big change between the first half and the second half. And if you go back to our March Investor Day slides and you look at Anré William's presentation, he has a nice summary slide that lays out the components of that. But that's the one big change.

Arren Cyganovich - D. A. Davidson & Co.

Thanks.

Operator

Thank you. We now have a question from Bob Napoli with William Blair Investments. Go ahead, please.

Bob P. Napoli - William Blair & Co. LLC

Thank you. Just on 2017 again, if you could. Obviously, American Express stock is way below its historical valuation. I guess the S&P's at 18 times. Historically you've been around the S&P. Today you're closer to 11 times. And I guess to regain your multiple, I'd be curious if you agree or disagree that American Express had historically you need to deliver 2017 earnings in a quality way and give a good view to growth in 2018. Sounds like you're really confident on the expense side. I was wondering what's your confidence level and what you're expecting on that revenue side into 2017 and how you think of the medium term jumping off into 2018 and onward?

Jeffrey C. Campbell - Chief Financial Officer & Executive Vice President

Well, it's a good question, Bob. We are laser-focused as a management team on getting back to the kind of consistent and fairly simple financial performance and financial model that drove this company for years. We are in an industry and with a business model that should allow us to get very consistent revenue growth. We have a heavily-fixed cost nature, which allows us to get steady operating expense leverage on that, and we're not very capital intensive. So we get a little bit of a capital kicker on top of that.

We feel really good, and I think we've very consistently demonstrated that we can make real good progress on running the cost structure of the company more efficiently, and we're very committed to use of the balance sheet. I think it's fair to say that it was a competitive, economic and regulatory environment, what it's been. That is what has been a larger challenge for us, like many, in the industry. Now as investors look at our results right now, there is a lot of complexity because of the evolution we're going through with Costco. And we're trying to sort through that complexity. But that complexity won't completely go away until you get all the way to the back half of 2017, which is why we won't have to do all the various adjustments and try to help people understand the underlying trends.

I would point out though that if you look at the first half 2016, you strip away Costco, you're at about 5% revenue growth. That's versus 4% last year. That 5% is benefiting a little bit from the Costco cobrand members who would put other Amex products in the hands of. So that's our jumping off point and what we are very focused on as a management team. What we really try to articulate at our Investor Day in March is our goal. Our belief is we can get that number up. In particular, our target is to get it to the 6% scenario that we showed you at Investor Day. And we have a wide range of initiatives across our consumer business, across our B2B business, in terms of how we're working with merchants. Wide range of initiatives targeted at getting us there.

I think what we are working hard to be able to demonstrate to you and to all of our shareholders is that we are getting real traction on those initiatives and you can see it in our results as we get into 2017, because I think we fully appreciate that this is not just about the EPS we put up in 2017, but it's about the way we get that EPS and the momentum it gives us as you go beyond 2017 into 2018. So that's why we have a very simple mantra at the company right now for over 50,000 people. Our priorities are accelerating revenue growth while we reset the cost base, while we be really focused about what we do with our investment dollars. So in many ways, Bob, that's a great last question. And I think we're probably going to stop there.

Toby Willard - Head of Investor Relations

Yeah, thanks, Cathy. We're going cut it off there.

Operator

Okay. Thank you. Do you have any closing remarks?

Toby Willard - Head of Investor Relations

Sure. Just want to thank everybody for joining the call and for your continued interest in American Express. Thanks very much.

Operator

Thank you. And, ladies and gentlemen, that does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.

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