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MasterCard Incorporated (NYSE:MA)

Q3 2007 Earnings Call

October 31, 20079:00 am ET

Executives

Barbara Gasper - Investor Relations

Robert W. Selander - President, Chief Executive Officer,Director

Chris A. McWilton - Chief Financial Officer

Analysts

Patrick M. Burton - Citigroup

Adam Frisch - UBS

Elizabeth W. Grausam- Goldman Sachs

Christopher Mammone - Deutsche Bank

Tien-Tsin Huang - J.P. Morgan

Craig Maurer - Calyon Securities

Moshe Katri - Cowen & Co.

Christopher Brendler - Stifel Nicolaus

Howard Shapiro - Fox-Pitt Kelton

Kenneth A. Posner -Morgan Stanley

Bruce W. Harting -Lehman Brothers

Anurag Rana - Keybanc Capital

Gregory Smith - Merrill Lynch

Robert J. Dodd -Morgan, Keegan

Mark Sproule - Thomas Weisel Partners

Operator

Good day, ladies and gentlemen, and welcome to the thirdquarter 2007 MasterCard Incorporated earnings conference call. My name isFrancis and I will be your coordinator for today. (Operator Instructions) Iwould now like to turn the call over to Barbara Gasper, Head of InvestorRelations. Please proceed.

Barbara Gasper

Thank you, Francis. Good morning, everyone, and thank you byjoining us today, either by phone or on our webcast for a discussion about ourthird quarter financial results. With me on the call this morning are BobSelander, President and Chief Executive Officer; Chris McWilton, our ChiefFinancial Officer; and Tara Maguire, our Corporate Controller.

Following comments by Bob and Chris highlighting some keypoints about the third quarter, we will open up the call to your questions. Intotal, the call will last up to one hour. For your reference, this morning’searnings release and the slide deck that will be referenced on this call, aswell as an updated chart of our classes of stock issued can be found on theinvestor relations section of our website at MasterCard.com. The earningsrelease and slide deck have also been attached to an 8-K that we filed with theSEC this morning. A replay of this call will be posted on our website for oneweek until November the 7th.

Finally, as set forth in more detail in today’s earningsrelease, I need to remind everyone that today’s call may include someforward-looking statements about MasterCard’s future performance. Actualperformance could differ materially from what is suggested by our commentstoday. Information about the factors that could affect future performance aresummarized at the end of our press release, as well as contained in our recentSEC filings.

With that, I would now like to turn the call over to BobSelander. Bob.

Robert W. Selander

Thanks, Barbara and good morning, everyone. We are verypleased with our third quarter financial performance. These results show thatour strategy is working, as we are able to deliver value to both our customersand shareholders as a unified, global company.

Turning to page two of the slide deck, we delivered netincome of $314 million or $2.31 per share on a diluted basis. This includesafter-tax gains of $70 million, or $0.51 per share from the sale of 25% of ourinvestment in Redecard.

For the first time in MasterCard's history, we recordedquarterly revenue of over $1 billion. This was driven primarily by stronggrowth in dollar volume and process transactions, including cross-bordervolumes, which grew 20.6%.

Additionally, several pricing adjustments in totalcontributed approximately 2% of the revenue growth in the quarter.

Finally, we saw our operating margin improve 2.1 percentagepoints to 32.6% from 30.5% in the third quarter of 2006. On a year-to-datebasis, our operating margin improved by 7.2 percentage points, excluding theimpact of special items, and this demonstrates the continued leveragability ofour business model.

In addition to the financial results, there are a fewbusiness developments on page three that I would like to highlight.

We are pleased to report that our Board of Directors hasapproved an incremental $750 million Class A share repurchase program, bringingour total Class A share repurchase program since the IPO to $1.25 billion. Weplan to complete the incremental $750 million program through open marketrepurchases by June 30, 2008.

We are also announcing plans for a second Class B shareconversion program in 2007, which allows for the conversion of up to $5.8million shares of Class B into Class A common stock. This represents thebalance of the $13.4 million shares that our board approved for conversionearlier this year. Elections for this second conversion program begin November17th and will end no later than December 14, 2007.

Last quarter, we promised to provide you with a statusupdate of our Class A share repurchase program and accelerated Class Bconversion program. As of September 30th, we had repurchased approximately 2million shares of Class A common stock in the open market for an aggregate costof $277 million.

Subsequent to September 30th, we repurchased an additional1.4 million shares for an aggregate of $223 million, and completed our initial$500 million Class A share repurchase plan with a total of 3.4 million sharesrepurchased.

With respect to the Class B share conversion program, as ofSeptember 30th, certain Class B shareholders elected to convert approximately 5million shares of Class B common stock to Class A common stock.

Subsequent to September 30th, Class B shareholders convertedan additional 2.6 million shares, for a total of 7.6 million shares convertedin this first program. Based on the progress from the initial conversionprogram and the shares that we repurchased, Class A shares now represent 64% oftotal shares outstanding, 10% of which is held by the MasterCard Foundation.

In the second quarter, we also mentioned that we woulddisclose the details of any sales of our Redecard shares. In the third quarter,we recognized after-tax gains of $70 million from the sale of 25% of ourinvestment in Redecard. The pretax gain has been recorded as investment incomeon our income statement. The market value of MasterCard's remaining Redecardshares was $381 million as of September 30, 2007.

Before Chris goes into the specifics about the quarterlyresults, I would like to spend a few moments commenting about the state of thebusiness around the world. Starting in the U.S., our volume growth has farexceeded retail sales growth to date in 2007. While we cannot control orpredict the future of the overall U.S. economy, we expect our results to trendabove typical market indicators during difficult economic climates.

Clearly since MasterCard does not have exposure to consumercredit receivables, we may not benefit from the upside when credit trends arefavorable but we also do not suffer the downside during tough times.

While consumer credit volume growth is slowing in the U.S.,we are making progress in the debit arena. We are very pleased that we are nowworking with Banc of America on the introduction of a new debit affinityproduct tied to Major League Baseball and National Football League sportsteams.

Meanwhile, we continue to see markets outside of the U.S.driving significant growth for the company. Latin America and South Asia,Middle East, Africa regions were particularly strong. In these markets, theopportunity is about penetrating the emerging middle class and young consumermarkets, as well as expanding merchants’ acceptance.

In Europe, we continue to make progress with securing SAPArelated business through our flexible, commercially driven approach for ourcustomers. We have already secured Maestro agreements with many banks incountries such as Germany, Belgium, The Netherlands, and Austria, ensuring theobjective of a uniform cardholder experience anywhere in the SAPA region.

Asia-Pacific is a region experiencing strong economicgrowth. As the number of affluent consumers here continues to grow, we continueto work with our customers to leverage that trend. In response, MasterCard istaking a leadership position in the premium space within this region. Recently,many customers have chosen World MasterCard premium card programs, includingcustomers in Taiwan, Australia, and in India, where the country’s first WorldMasterCard card was issued this quarter.

Finally, while Chris will be going into more details onexpenses later in the call, I would like to quickly comment on our broaderthinking about expenses going forward. Similar to our comment on the secondquarter earnings call, as we go through our 2008 budget process, we are veryfocused on ensuring that our expenses support the many global opportunities ofour business, while being mindful of our objective to consistently improve ouroperating results.

We are in the middle of our 2008 budget process and I fullyexpect that we will find the right balance between investment in the businessand continued long-term margin expansion.

With that, I will now turn the call over to Chris McWiltonfor more details on the financials. Chris.

Chris A. McWilton

Thanks, Bob. Let’s turn to page four of the slide deck; asBob mentioned, net revenue for the quarter was a record at almost $1.1 billion,a 20.1% increase over 2006. Currency fluctuation on the Euro relative to theU.S. dollar contributed approximately 2.3 percentage points of the net revenueincrease.

Net income was $314 million, or $2.31 per share on a dilutedbasis. Without the impact of gains from the sale of a portion of our investmentin Redecard, third quarter EPS would have been $1.80 on a diluted basis.

Turning to page five, in the third quarter, we experiencedcontinued growth in both GDV and process transactions across all regions. GDVgrew 12.8% on a local currency basis and 16.6% on a U.S. dollar converted basisto $577 billion. The third quarter was the 14th consecutive quarter ofdouble-digit worldwide GDV growth on a local currency basis.

Although not shown on page five, purchase volume was up14.1% on a local currency basis, cash volume was up 9.1% on a local currencybasis. Additionally, cross-border volume, or the volume that is generated fromcardholders who travel outside of the country where their card is issued, wasup 20.6%. In the third quarter, cross-border volume came primarily from Europe,Asia-Pacific, and Latin America.

Process transactions, or the transactions processed acrossMasterCard's networks, increased 13.3% to $4.8 billion in the quarter.

As we’ve discussed in the past, one of the metrics we focuson is revenue yield, or the net revenue per $1,000 of GDV. This metric was 18.8basis points in the quarter versus 18.2 basis points in the third quarter oflast year. While we have said in the past that we expect a slight annualdown-draft in this metric, the strength of our business, particularlycross-border volume growth, has put us on a trajectory to experience a slightpositive lift in this metric for the full year of 2007.

While the possibility of a broad slowdown in U.S. consumerspending associated with sub-prime mortgage issues is yet to be determined, theglobal diversification of our business results and MasterCard's ability togenerate significant volume and revenue from non-U.S. economies remain verystrong.

For example, gross dollar volume in both the Latin Americaand the South Asia, Middle East, and Africa region continued to grow at veryhealthy rates. As we’ve discussed in the past, MasterCard's performance-basedpricing serves to moderate the impact on revenue driven by swings and volumes.Because of our tiered-based pricing arrangements, not meeting volume hurdlescan result in lower rebate incentives.

History demonstrates that we’ve been very resilient inweathering macro-economic events and the cycle shift from paper to electronicforms of payment continues in spite of any local economic downturns.

Note that our U.S. GDV growth rate of 7.7% is now completelynormalized after the anniversary of a large debit portfolio conversion thatoccurred in the second quarter of 2006. Additional details about our operatingperformance can be found on page 10 of our earnings press release and on the IRsection of our website.

On page six, we show that net assessments increased 20.7% versusthe third quarter of 2006, or $50 million to $291 million. In the thirdquarter, gross assessments increased 15.4%, or $70 million to $525 million, dueto strong GDV growth. Because our incentives are based on more than just GDVand include payments for things like new cards or program launches, therelationship between gross and net assessments can vary.

Similar to last quarter, net assessments as a percentage ofgross assessments improved slightly.

Turning to page seven, you can see that net operations feesincreased 19.8% or $131 million to $792 million in the third quarter. Grossoperations fees increased 20.6%, or $150 million to $879 million. This growthwas driven by several factors. First, growth in process transactions, grossdollar volume, and cross border volumes that I previously mentioned describedon page five.

Second, pricing adjustments and new programs, includinggrowth in authorization, settlement, and switch revenue, driven by higherutilization of stand-in authorization services, as well as pricing changes forthese services, acceptance development fees, driven by increased volumes and anew fee associated with Rewards programs that was implemented in June, 2007;other operations fees driven by new account enhancement programs that allow ourcustomers to move cardholders to different programs without a change in theiraccount numbers.

Turn to page eight for some detail on expenses. During thethird quarter, total operating expenses increased 16.3% to $730 million. Thisincrease was driven mainly by advertising and marketing expenses, whichincreased 26.4% or $55 million resulting from a change in the timing of 2007initiatives compared to the same period last year. You’ll recall that in thefirst half of 2006, we had significant World Cup sponsorship activity versusthis year. We plan to shift more of the spending to the second half of theyear.

Additionally, general and administrative expenses increased10.2% for a couple of reasons. First, an increase in personnel costs related tothe hiring of additional staff and contractors to support our customer focusstrategy. Planned staff hires were made to support our global sales efforts, aswell as our product and advisors initiative, primarily in our U.S.and European regions; second, an increase in employee performance incentiveaccruals.

Partially offsetting the growth in G&A was the impact ofhigher severance in the third quarter of 2006, due to an adjustment in theassumptions of our severance plan. The increase in total operating expenses wasalso driven by a $10 million cash contribution for the MasterCard foundationthis quarter. We have now made a $30 million contribution of our planned $40million contribution to the MasterCard Foundation, which we said will becompleted within four years of our IPO in May, 2006.

Currency fluctuation of the Euro relative to the U.S. dollarincreased total operating expenses by approximately 1.6 percentage points inthe quarter.

Moving to the cash flow statement and balance sheethighlights on page nine, we’ve generated $718 million in cash flow fromoperations during the first nine months of 2007; $272 million of which wasgenerated in the third quarter. We ended the quarter with $3.3 billion in cash,cash equivalents, and available for sale securities. We also had $3.2 billionin stockholders equity.

During the third quarter, we repurchased approximately 2million Class A shares for an aggregate of $277 million. All of the Class Ashares repurchased in our now completed $500 million share repurchase programare classified as treasury stock on our balance sheet.

Finally, investment securities available for saleincreased $299 million, mainly due to amark-to-market adjustment of our remaining Redecard investment.

Turning to page 10, there are a few items that I would liketo highlight for your consideration as you refine and update your models forthe fourth quarter of 2007.

First, there was one special item in the fourth quarter of2006 -- litigation settlements of $2 million.

Second, with respect to G&A, due to delays in hiring andshifts in the timing of technology projects, we now expect second half growthto be slightly lower than the first half growth of 16.4%. However, the fourthquarter will have the highest sequential and year-over-year growth rate for anyquarter in 2007.

Third, we continue to anticipate low single-digit full yeargrowth in A&M in 2007. Also, consistent with our comments from the secondquarter call, we expect that the highest quarter of spend will occur in thefourth quarter, the spend will be more evenly distributed between the third andfourth quarters than in prior years.

Finally, we expect to provide an update on the second phaseof our Class B share conversion program and the incremental $750 million ClassA share repurchase program on our fourth quarter and full year 2007 earningsconference call.

To wrap up, we’ll pleased -- very pleased with our thirdquarter results and are encouraged by the global momentum we continue to see inthe business. While the broader U.S. economy is undergoing some challenges, weare on an excellent trajectory. We continue to demonstrate global strength andthe ability to deliver value to our customers, merchants and shareholders.

Barbara Gasper

Thank you, Chris and Bob. We are now ready to begin thequestion-and-answer period. In order to get to as many people as possibleduring our allotted timeframe, we ask that you limit yourself to a singlequestion with one follow-up and the re-queue if you have additional questions.Operator, I’ll turn the call over to you.

Question-and-AnswerSession

Operator

(Operator Instructions) Your first question comes from theline of Pat Burton with Citigroup. Please proceed.

Patrick M. Burton -Citigroup

Congratulations on your first $1 billion quarter --tremendous numbers. My question is for Chris, and that is Chris, the factorsbetween the 12.8% local currency GDV growth and the 20% net revenue growth,could you again just outline basically what the difference is there -- priceincrease, foreign currency, et cetera -- and how sustainable those factors are?Thanks.

Chris A. McWilton

You will see a disconnect as you have over time, Pat, on thegrowth rates between revenue and GDV on a local basis. We do assess, outside ofEurope, on a U.S. dollar basis so we do get revenue growth because we take atransaction that occurs volume wise in a foreign currency, we convert that toU.S. dollars and then we [set] based on that, so you are going to see upliftfrom that process. You are going to see the normal currency conversion of theEuropean operations back to U.S. dollars. You are going to see the impact ofpricing, which was about 2% in the quarter. So all of those things haveresulted in us being able to get that spread between revenue growth and GDV upto a pretty healthy level this quarter.

Now, the strengthening of different currencies around theworld to the U.S. dollar, we don’t control. However, I think we’ve done a verygood job of maintaining our pricing. I talked about the revenue yield a littlebit in my comments and I think 18.7 basis points on volume is something we arepretty proud of.

Patrick M. Burton -Citigroup

And the cross-border number of 20.6, is that on the higherend of where we normally see it?

Chris A. McWilton

That’s a very healthy number and that is another reason weare seeing the revenue growth outpace the GDV because on those transactions, weare profiting the transaction across our network and we are also gettingcross-border fees on that, which have been very healthy for us. So those arevery healthy cross-border numbers.

Patrick M. Burton -Citigroup

Thanks.

Operator

Your next question comes from the line of Adam Frisch withUBS. Please proceed.

Adam Frisch - UBS

Thanks, guys, Pretty impressive quarter you guys just put upagain. Two questions here; setting up some pretty tough revenue and margincomps for ’08. Obviously if there is a slowdown in the U.S. that perpetuates orgets more intense, it’s going to create some headwinds for you.

Bob, you mentioned in your opening comments that you aregoing to find a balance in operating expenses between growth and marginexpansion, so with the realization that maybe next year, to Pat’s question,some of the things that are really driving top line this year, like cross-border,et cetera, may or may not continue in ’08. Should we expect a bigger focus onexpenses going forward?

Robert W. Selander

Adam, I think we’ve always had a good focus on expenses andfrom my perspective, we are going to continue that going forward. And as Imentioned in my remarks, as we go through the budget process, I’m beingpresented -- we’re reviewing opportunities from all over the world for thevarious business units and I’m in the fortunate position of having moreinteresting things to invest in in order to build this franchise over time asopposed to people coming in and going jeez, we don’t know what to do next.

I recognize that there’s a pacing challenge there and I alsoknow that we’ve made commitments, both inside and outside this company, to seemargin improvements, and so that’s the balancing act we are going through now,and I feel quite confident that we are going to get ourselves to a position interms of our budget, which lets us fund those things that are important to thefuture of the company but still show those operating margin improvements.

If the world gives us a more challenging environment than wemay anticipate, then I think we also have an approach which builds flexibilityinto that budget because people know those things, if we get wind at our back,those things that we’ll probably move to next and if we have wind in our face,those things that we’ll probably have to slow down the pacing of.

Adam Frisch - UBS

Okay. Well said. A quick question on interchange, the textin the 10-Q seemed a little bit more guarded on Europe. A ruling from thegoverning body over there is widely expected in the next few months oncross-border interchange. Two aspects of this; one, obviously reducedinterchange doesn’t impact you directly in your revenues or margins, but canyou speak to some of the indirect impact? And then two, do you think this couldtrigger other activities in Europe, whether it belitigation or bank movement or whatever?

Robert W. Selander

Well, the European Commission has said that it’s going toissue a decision regarding MasterCard’s European cross-border interchange fees.I believe they have publicly stated they think that would happen by the end ofthe year. That’s I think how we [put] it in our 2Q 10. I’m not sure exactlywhat the wording was in this quarter’s.

As we said in that filing, we think they could come out witha negative ruling and if that’s the case, at least based on the material thatwe’ve reviewed and the comments we’ve reviewed from them, we’re likely toappeal that, very similar to the way we handled the OFT decision in the U.K. acouple of years ago, because we think we have extremely strong legal argumentsfor doing so.

Having said that, we are examining various scenarios aroundthe possible decisions that might be rendered. And while we can’t concludeexactly how they will rule, until we know the final income, it’s reallydifficult to answer the question, other than to say our primary focus will beto ensure our products remain competitive in the European market.

Adam Frisch - UBS

Thank you.

Operator

Your next question comes from the line of Liz Grausam withGoldman Sachs. Please proceed.

Elizabeth W. Grausam - Goldman Sachs

Thank you very much. You commented on 2% revenue lift thisquarter from pricing changes that you’ve been able to effect. Could you go intoa little bit more detail of where those pricing changes were put in placegeographically? And then also where they are in terms of the services that youare offering?

Chris A. McWilton

We talked on the second quarter call about some additionalpricing we put in place around stand-in services, which is basically, those ofyou who aren’t familiar with that, when a customer’s authorization systems godown, they obviously don’t want their cardholders to be sitting at the cashregister or someplace that they can’t get their purchase authorized. So westand in for them in those cases. They give us parameters with which we can actas a surrogate for them.

So we put some pricing in place around those in pretty muchall regions around the world, and we’ve got the full quarter impact of that inQ2 -- Q3, I’m sorry, Q3. And we also put an additional acceptance fee in placein the U.S. around some enhanced reward platforms.

So it was on the stand-ins, pretty much global, and in theacceptance arena, it was in the U.S.

Elizabeth W. Grausam - Goldman Sachs

Okay, great. And then, on the cross-border transactions,could you give us a sense of what percentage of your total transactions areactually cross-border and how that’s trended over time?

Robert W. Selander

Off the top of my head, I don’t have an answer for you, Liz.We process all of the cross-border, so we have a very good handle on that. Wedon’t necessarily process all the other transactions, so -- the rule of thumbI’ve used is it tends to be less than 5%. Certain markets have the propensityto travel, so it may be higher for a given country but the rule of thumb I’vealways used is somewhere in the 3% to 5% range.

Elizabeth W. Grausam - Goldman Sachs

Great. Thank you very much.

Operator

Your next question comes from the line of ChristopherMammone with Deutsche Bank. Please proceed.

ChristopherMammone - Deutsche Bank

Thanks. It looks like you’ve shifted some advertisingassumptions from the fourth quarter. I think we expected the third quarter tobe slightly higher than the second, and it was down --

Barbara Gasper

Chris, could you speak up closer to the phone?

Christopher Mammone -Deutsche Bank

Sure. Is that better?

Barbara Gasper

Yes.

Christopher Mammone -Deutsche Bank

Okay, sorry. Just on your ad spending assumptions, I thinkthat we had expected that the third quarter would be slightly than the secondquarter and it was slightly down, so it looks like you are shifting some adspending in the fourth quarter. Could you talk about maybe what’s changedthere?

Robert W. Selander

Well, I think the seasonality factor this year is what wewould call a more normal year than last year. As you’ll recall in 2006, we hada very big second quarter as a result of the World Cup spending taking place inthat year. And I think Chris mentioned in his comments that we will have a morenormalized pattern this year where traditionally, as you’ll know from prioryears, the fourth quarter tends to be the heaviest ad and marketing spend inour business.

Chris A. McWilton

I’d just add that we still expect very modest full yearA&M growth.

Christopher Mammone -Deutsche Bank

And then I guess just on a higher level topic, with thedollar continuing to fall, I’m just looking at your U.S. card base being morethan double what it is in Europe. At what point does that start to affectinternational travel trends, U.S. consumers traveling over to Europe and maybeovercompensating for the benefit you are getting from --

Barbara Gasper

Chris, are you speaking on speaker phone? You’re breaking upand we really cannot hear your question.

Christopher Mammone -Deutsche Bank

Sorry, no, I’m on a handset. Is that better?

Barbara Gasper

A little bit, but not --

Christopher Mammone -Deutsche Bank

Sorry. Just on your cross-border, with the weakening dollar,is there a time when it starts to bleed into the numbers as far as your U.S.account, your U.S. card base being more than double what it is in Europe. Atwhat point does that start to affect international travel trends by U.S.consumers traveling over to Europe and more than offsetting the benefits youare getting from currency and the like?

Robert W. Selander

That’s a tough one for I think anybody to answer. From ourperspective, we continue to enjoy very robust cross-border volumes of business.Now clearly, Europeans who are traveling to the U.S. have one of the strongestcurrencies they’ve ever had and so for them, this side of the Atlantic lookslike a bargain basement, whereas of course the U.S., whether it’s a business ortourist trap, are going across to Europe obviously is not spending as much forthe very simple reason that to get that cup of coffee is now $2 as opposed tomaybe $1 a year ago.

We have very strong cross-border volumes, however, comingout of Latin America, coming out of Asia. Cross-border in the Middle Eastregion as well, so I guess from my perspective, I’m more focused on thedomestic activity in the U.S. market and what happens with the economy here. Wehave seen that slow down. We have seen some slowdown in consumer spending andthat is the thing that we are more focused on, if you will, from the standpointof an impact on our business.

Chris A. McWilton

I think the other thing I would add is we process all thetransactions in the U.S., essentially all of them. Outside of the U.S., thereare large [slots] of geography where we don’t process -- we only assess basedon volume. So when the dollar is weak and people travel across the border, wewould get transactions processed that we might not otherwise process. So theweak dollar is helping and as I mentioned earlier, we also assess on the U.S.dollar converted basis, so that tends to improve the revenue growth.

Christopher Mammone -Deutsche Bank

Okay, thanks. Sorry for the bad connection.

Operator

Your next question comes from the line of Tien-Tsin Huangwith J.P. Morgan. Please proceed.

Tien-Tsin Huang -J.P. Morgan

Thanks. Just a few questions on the revenue yield -- is thelevel sustainable going forward here, adjusting for a seasonal effect? Meaningis this a safety base that we should model from, Chris?

Chris A. McWilton

I would just be cautious about the fourth quarter revenueyield. That tends to be our lowest revenue yield seasonally, because in thatperiod, we are doing a lot of incentive arrangements and promotions withmerchants, so if you pattern out or model revenue yield by quarter, you willsee that the fourth quarter has historically been our lowest quarter. So Iwould not straight-line that across a full year.

As I said in my comments, I think we are pleasantlysurprised by the fact we’ve been able to maintain that revenue yield. Last yearin Q3 we were 18.2 basis points, 18.7 basis points this quarter. And I thinkfull year, as I mentioned on the call, we’re going to see a slight improvementin that trajectory year over year. Last year we were at 17.3% and I think we’llbe able to do a little bit better than that for the full year 2007.

Next year we are cautiously optimistic that we can continueto see good cross-border growth helping to sustain that momentum, and again, wedon’t see any cliff or precipice when it comes to that revenue yield on ashort-term basis.

Tien-Tsin Huang -J.P. Morgan

Okay, just two quick follow-ups to that then; if we stripout the effects of cross-border fees, how would the revenue yield look on ayear-over-year basis? Is it safe to assume that the revenue yield would stillbe up? And then I have a follow-up, if you want to address that first.

Chris A. McWilton

I don’t have that number off the top of my head. I assumethere’s enough disclosure in the Q or around that that you might be able to --

Tien-Tsin Huang -J.P. Morgan

Okay, fair enough. And then longer term, can the revenueyield move higher longer term here, assuming you capture more operation feesinternationally?

Chris A. McWilton

Yes, that’s something we definitely have the highest yieldand we’re processing the transaction, generating cross-border or currencyconversion fees on that. Ticket sizes tend to be higher for cross-borderactivities and doing volume assessments based on that, so if those numbers,those international travel numbers and cross-border numbers continue to behealthy, we will do quite well.

Tien-Tsin Huang -J.P. Morgan

Great. Great results.

Operator

Your next question comes from the line of Craig Maurer withCalyon. Please proceed.

Craig Maurer - CalyonSecurities

Good morning. This question is for Bob. You had mentionedduring your prepared comments, your SAPA achievements. I was hoping you couldjust frame that a little bit for us in terms of what inning you feel we’re inregarding SAPA and that conversion that will continue throughout Europe. And interms of how the market itself is playing out, in terms of processors, merging,selling, what’s going on there and how you plan to pick up additional business.Thanks.

Robert W. Selander

Craig, I can’t pick an inning here, although I am a baseballfan. I can’t assign one to this process. There are clear timetables that wereestablished but I think there is a level of uncertainty for issuers andacquirers, particularly surrounding the commission’s lack of support and thusfar, lack of a decision with regard to interchange.

And as you know, the business models of every player inEurope that issues cards are premised on some form of balancing mechanism,namely interchange. So at this point, I think the timetable is pretty clear butwhether or not that will actually happen I think remains to be seen.

Having said that, we are making good progress, I believe. Asyou know, we have half roughly of our 600-million plus Maestro cards around theworld are in Europe, and we’ve already had very positive developments inSwitzerland and Austria in terms of movement to Maestro. We’ve had commitmentsfrom banks in other countries, including Germany, Italy, recently the AlliedIrish Banks in Ireland made a commitment to move their domestically branded andATM only cards to Maestro.

So I’m feeling good things about the progress, but I thinkthe real evolution of the market is one that is very hard to predict whetherthis is the third inning from a timetable standpoint or really the bottom of afirst inning.

Having said that, I feel really good about how we arepositioned and from a processing standpoint, as you’ve observed, there havebeen various of these previously bank-owned processors that have been acquired.I think I’ve mentioned on past calls or Chris has that we’ve looked atvirtually every one of those and for one reason or another, we’ve decided thatthey weren’t going to be value-adding for our business. But we have seenprocessing competitors move into those marketplaces and we continue to havescale in our processing and I think a very good offering with our Maestroproduct in that marketplace, at least on the debit side.

So all in all, I feel that we are in pretty good shape. Ithink it’s going to be a very competitive marketplace over the next few years.I believe the regulatory positions are ones that are going to have to besolidified in order to give all the businesses there a platform on which theycan then evaluate and judge the investment decisions they have to make.

Craig Maurer - CalyonSecurities

Thank you.

Operator

Your next question comes from the line of Moshe Katri withCowen. Please proceed.

Moshe Katri - Cowen& Co.

Thanks. Good morning. As a follow-up to the question aboutpricing, can we expect further pricing adjustments as we go along, maybethey’re in the fourth quarter? That’s number one.

And then, can you talk a bit about the opportunities forMasterCard in the prepaid card business and how well is actually the companypositioned in that area? Thanks.

Chris A. McWilton

We are always looking at ways to provide value to ourcustomers and do it in a way where they think they are growing their businessand becoming more profitable as a result of the services and products we areproviding. So we are always thinking about -- it doesn’t necessarily have to bea strict pricing increase but new service proposition, new value-addedproposition. So we are always thinking about that.

We have a global committee that’s sitting around, trying tofigure out on a regular basis whether we’ve optimized pricing. We have a veryextensive product development group which is trying to come up with new ways tohelp customers and work with customers on their opportunities.

So we can’t rule out pricing in the fourth quarter but it’ssomething we’re always thinking about and I think we demonstrated that bymaintaining that revenue yield at pretty healthy rates.

Robert W. Selander

On prepaid, just a couple of observations. Obviously this issomething that several of our customers view as very important and we bring thesame strengths from the standpoint of the global acceptance of the brand, etcetera, that we bring to other products that our customers are interested in.

We do through MasterCard advisors do quite a bit of advisorywork in support of customers’ prepaid initiatives. We do have a platform thatobviously supports those products for those institutions that may not berunning their own platform.

We were able to participate most recently with the fireshere in the United States out in California. We managed to get -- I guess itwas about $25,000 worth of prepaid cards through one of our customers out tothe Red Cross so that they could fuel their vehicles and so forth as theyresponded to those California wildfires. So it’s nice to see some of thefunctionality being utilized in real practical day-to-day basis like that.

Moshe Katri - Cowen& Co.

Do think that on an ongoing basis, maybe starting in 2008,we are going to see a more significant contribution from that area toMasterCard financially, or this is still too early? Thanks.

Robert W. Selander

The way we think about that is it’s embedded in the otherelements of our business, so we get to do the authorization, clearing andsettlement, obviously the processing fees, depending on where these productsare being utilized. They are on our platform or, as a result of our advisorywork, there are other fees to be realized. So it’s similar to the balance ofour business model. There will be some dollar volume related franchise fees,processing fees, and potentially obviously the third category, advisory fees.

Moshe Katri - Cowen& Co.

Thanks. Great quarter.

Operator

Your next question is from the line of Christopher Brendlerwith Stifel Nicolaus. Please proceed.

Christopher Brendler- Stifel Nicolaus

Good morning. Can you just give us a little more color onyour domestic volumes? I know you lapped a big conversion, but you came in alittle bit below our estimates. Do you see any slowdown in spending patterns?

And then also, are you -- any progress to report onadditional debit conversions?

Robert W. Selander

Let me just take a crack at that one. When you say domestic,I’m going to assume you mean U.S. domestic?

Christopher Brendler- Stifel Nicolaus

Correct.

Robert W. Selander

If you take a look at -- I guess it’s in the press release-- we do have specifics with regard to U.S. dollar volume. I happen to lookparticularly at purchase volume, and you’ll see that purchase volume growth forthe third quarter was 9.4%. When you consider that in the context of what rateof retail spending is taking place here, that’s obviously several percentagepoints. I would say probably about six percentage points or so above the ratethat you would see for consumer spending or retail sales broadly in theeconomy. That in part is I think the success of electronic and card-basedpayments and in part, it’s our success in terms of the way we work with ourcustomers.

As the U.S. economy has slowed and we have a service that wecall spending pulse, which is data that comes out just ahead of the Departmentof Commerce data monthly, we’ve seen that spending pulse report showing slowingconsumer and retail level spending from first to second quarter, second tothird quarter. And not surprisingly, we’ve seen our spending volumes trackingdown, although obviously not as low as those growth rates, for the reasons I’vealready mentioned.

As we look forward, we have I guess cautious optimism interms of the control of inflation and the way the fed is going to behave inensuring that the economy weathers some of the challenges coming out of thesub-prime market.

The best news I guess is that we don’t have the creditexposures that some companies have, either through the fact that they arelending money to cardholders or in other ways involved.

So I’m pretty comfortable that with our very strong growthinternationally, we’ll be able to show a good, positive, overall corporategrowth, even if we have a market like the U.S. that may get a little slowerdomestically.

Christopher Brendler- Stifel Nicolaus

Any debit conversion updates?

Robert W. Selander

I’m sorry, any --

Christopher Brendler- Stifel Nicolaus

Any new debit relationships?

Robert W. Selander

I mentioned a couple of the ones that had popped in Europe.Allied Irish Banks recently made a commitment with regard to moving theirdomestically branded and ATM only cards to Maestro. I can’t recall if we sharedwith you the Swiss Bank’s movement. I think in my commentary during my remarksat the opening of the call, I mentioned that we are obviously delighted to beworking with Banc of America on the affinity debit programs with Major LeagueBaseball and National League Football teams here in the U.S.

Christopher Brendler- Stifel Nicolaus

Would you say that your U.S. volumes were in line with your expectationsat the 9% level, the purchase volumes?

Robert W. Selander

I’m sorry, I missed the question.

Christopher Brendler- Stifel Nicolaus

Were they in line with your expectations in the quarter? Doyou see any signs of a slowdown?

Robert W. Selander

I would say they are broadly in line. When we see ourspending pulse data coming out and we see what’s going on overall in theeconomy, if it’s a lower quarter coming up than the one we’ve just experienced,we adjust our expectations accordingly and if it’s an improving quarter, we’llpush them up.

So I was not at all surprised with where we came out in thethird quarter. I guess I’m just delighted with some of the results we aregetting in some other markets which show very robust growth.

Christopher Brendler- Stifel Nicolaus

Without a doubt. One quick one for Chris; you had mentionedin the past not to focus too much on the quarterly movements in rebates andincentives, but throughout most of the year, they have tracked below year-agolevels, which is contrary to the trend in prior years. Any of the priceincreases that you mentioned related to rebates and incentives? Thanks.

Chris A. McWilton

I think from a rebate and incentive perspective, you aregoing to see, particularly in the assessment area, you are going to see thegrowth moderating a bit. What’s happening there is that as the base moves up,you are going to have to have a bigger rebate and incentive against a programto move that dial on a percentage basis, so we are seeing slowdown in theassessment rebates and incentives. And the operation fees, you are coming off avery small base, so even a small change in that number is going to have afairly dramatic impact on the growth rate.

There are cases where, based upon a specific customer situation,if we put a pricing increase in place, we might need to accommodate that forsome contractual issue we might have, or a customer relationship issue. Itdepends upon the facts or circumstances. So sometimes you do see rebates andincentives move up or down with a pricing change.

Christopher Brendler- Stifel Nicolaus

Thank you.

Operator

Your next question comes from the line of Howard Shapirowith Fox-Pitt Kelton. Please proceed.

Howard Shapiro -Fox-Pitt Kelton

Thanks very much. I’m just wondering if you can help usunderstand -- when you allocate spending by region or by product, how does yourassessment of changing economic growth or spending patterns, i.e. a slowdown inthe U.S., influence how you are going to be allocating marketing spend goingforward?

Robert W. Selander

Specifically in the area of advertising and marketing, we gothrough a modeling process which enables us to allocate funds basically on acountry level during our budget process. And one of the indicators that we useis an underlying assumption in terms of what is going to go on with the economyand growth in that market.

We tend to make sure we put enough money into a market so wecan get the job done in the market, from the standpoint of trying to meet thecustomers’ expectations where we have agreements with customers to do certainthings, but also to the extent that there’s a threshold of spending that may berequired in order to have adequate impact to achieve a brand awarenessobjective or whatever it may be.

To the extent there is a dramatic change from what we lookat at the time we are doing our budget, that would be something that we wouldmake adjustment for in the course of the year. Obviously if you get into asituation where there’s a catastrophic shutdown, then we would shutdown ourmarketing.

The most recent example I can think of is when we had theSARs scare, I guess it was, back in 2003 and several markets, internationaltravel was basically shut down and so that component of our advertising andmarketing budget, we put into hibernation until that resumed.

So there is a level of flexibility around it but it issomething that we just have to stay on top of day to day.

Howard Shapiro -Fox-Pitt Kelton

Thank you.

Operator

Your next question comes from the line of Ken Posner withMorgan Stanley. Please proceed.

Kenneth A. Posner - Morgan Stanley

Good morning. I wondered if you could just compare andcontrast the net assessment yields in the U.S.versus overseas? Or net revenue yields?

Chris A. McWilton

I don’t think we’ve broken that down in our filings before,Ken. I will tell you that in the U.S., we are going to process the transactionwhether it’s cross-border or not. And, as I’ve indicated before, whenever weprocess a transaction, obviously we’re getting fees that we wouldn’t if werejust simply assessing based upon the volume on the card, which might take placeintra-country within Europe or one of the Asia-Pacific countries.

So yields is much higher generally in the U.S.than we see in other parts of the world if you take out the cross-borderactivity, just based on processing. We also process in the U.K., Canada, andAustralia and Brazil. So you see yields higher in those geographies as well.

Kenneth A. Posner - Morgan Stanley

Chris, without disclosing anything you haven’t disclosed,can we say anything about rough ballparks? Would it be safe to assume that inemerging markets and fast-growing markets, that you get a healthier assessmentthan you do in a mature market like the U.S.?

Robert W. Selander

Let me make an observation on that. I think we havedisclosed the dollar volume that’s in the U.S. versus international. We’ve alsodisclosed the revenue that’s U.S. versus international, and we are looking at Ithink in the second quarter, and I don’t have the third quarter at myfingertips, about 50% of our revenue was U.S. and 50% was international, andsomething around I think 43% or 44% of our volume was U.S., so you can see thatthere is more revenue per dollar of volume coming out of the U.S.

Chris has already hit on the points that drive that. Weprocess everything that we do in the U.S. -- all the transactions, essentially,which is not necessarily the case in other markets outside of the U.S. that youwould expect to get both brand and processing fees.

And then there’s obviously the mix of other revenues interms of advisory services and other things that aren’t necessarily driven offof the actual volume or processing of a transaction, and so that would alsoaffect that yield calculation. But you can do a gross estimate based on thosetwo data points that I mentioned.

Kenneth A. Posner - Morgan Stanley

Thank you. That’s helpful.

Operator

Your next question comes from the line of Bruce Harting withLehman Brothers. Please proceed.

Bruce W. Harting - Lehman Brothers

Thanks for the good news in an otherwise tough year here. Inthe context of your commentary on the fourth quarter, should we just expect netassessment and operation fees to be impacted in ratio terms by incentives orrebates by roughly similar amounts to last year?

And then, very favorably strong growth in GDV outside U.S.-- could you just help us understand that in terms of the proportion ofcontribution from price increase versus your share increase in those marketsversus say consumer organic spending within the local economies? Thanks.

Chris A. McWilton

I think I’ll simplify your question and I would againencourage you to look at revenue yield. I think if you go and you model therevenue yield over the past three years and look at what happens to that yieldin the fourth quarter, I think you can make some observations with respect tothe decline, the gradual decline that takes place in Q4.

As I mentioned in my remarks, there’s a lot of activitygoing on with merchants and acceptance activity in the fourth quarter and thatis reported as contra revenue. Volume does increase but again, we are gettinginto the tail-end of our tier-based pricing arrangements with our majorcustomers, so the pricing on those deals tend to be the lowest in the fourthquarter. So put the two of those together and you do see basis pointdegradation historically in Q4, not something unexpected.

That’s how we look at it. We don’t necessarily dissect therebates and incentives as operations fees or assessments. We are managing thebusiness in terms of the total picture to our shareholders and customers.

Bruce W. Harting - Lehman Brothers

Thanks.

Operator

Your next question comes from the line of Anurag Rana withKeybanc. Please proceed.

Anurag Rana - KeybancCapital

Good morning, gentlemen. Great quarter. Chris, just a quickhousekeeping item; what would be the normalized investment income if we were totake out all the investments or the gains from Redecard? And the D&A wentdown a little bit compared to the last quarter. Could you please help usunderstand that?

Chris A. McWilton

As I mentioned in the call, the gains on the Redecard sales,the 25% of our holdings was $107 million pretax in the quarter, so you can backthat out. And the D&A went down, we had some adjustments around some of ourestimated useful lives and residual values on some of our fixed assets in thequarter, but nothing that I would see as something you would have to considergoing forward in your modeling.

Anurag Rana - KeybancCapital

Thank you.

Operator

Your next question comes from the line of Greg Smith withMerrill Lynch. Please proceed.

Gregory Smith -Merrill Lynch

On the modeling issue, regarding sales and marketing, Ithink you guys had said on the last call o 2Q that it would be up sequentially,when in fact it was down. So I guess the question is, is it possible that wecan see sales and marketing down for the full year, even though you are sayingit might be up?

Chris A. McWilton

Sometimes we have shifts in timing of our end marketingprograms that are driven by our customers that we don’t have unilateral controlover, so we might be planning a program to advertise around a paypass launch ora world card launch with a specific customer, and they call us up two weeksbefore the program is supposed to kick off and say we’re not ready for that,we’re going to do it in Q4 versus Q3, so we did have some slippage from Q4 toQ3 as we forecast our A&M --- Q3 to Q4, I’m sorry, in our A&M spend,but we are still looking at that very modest full-year growth. So it’s simply ashift in timing from Q3 to Q4.

Gregory Smith -Merrill Lynch

And then, it sounds like you guys are suggesting thatG&A is going to be up sequentially a fair amount in the fourth quarter. Aswe think about the first quarter, is it possible that we can see a sequentialdecline, just given all the activity in the fourth quarter that you may nothave in the first quarter?

Chris A. McWilton

I think we would give some commentary and context aroundthat when we get to the year-end. We are still in the midst of -- we’re rightin the middle of our budget process, arm-wresting with all the business unitsand they are working on timing, et cetera, and which programs they willcalendarize which way, so it’s really premature to think about Q1.

Gregory Smith -Merrill Lynch

Okay, we’ll take a guess. Thank you.

Operator

Your next question comes from the line of Robert Dodd withMorgan, Keegan. Please proceed.

Robert J. Dodd - Morgan, Keegan

To extend that question, on the G&A side, I wasexpecting somewhat more substantial growth in Q4 and I think you’ve givenindications that really you are not changing your second half, so along thoselines, what changed during the third quarter to push out some of thosetechnology investments? [It must] take a little bit longer planning than twoweeks ahead on the advertising spend, calling up and pushing it out. So can yougive us an idea why some of those expenses have slipped into Q4?

Chris A. McWilton

A lot of it has to do around hiring and if you look at ourG&A components, the biggest piece is the personnel cost. You know, ourbusiness units do have plans to bring the folks on board to work on projects,initiatives with customers, et cetera. And I think we saw a delay in hiring, asI mentioned in my remarks, that people did not come on as quickly as we thoughtthey would. They will come on in the fourth quarter and that’s why we’vecontinued to project both a sequential growth and the fourth quarter being theabsolute highest spend of any quarter.

So it is sort of a push-out and timing issue from 3Q to 4Q,just around delays in hiring, and when hiring gets delayed, projects getdelayed. So if there is any outside support and vendor support to do a projectand we don’t have the people internally to do it, it compounds that. So we areseeing that shift out from 3Q to 4Q.

Robert J. Dodd - Morgan, Keegan

Just expanding that, I mean, on why are you having thedelays in hiring? Is it problems finding the right IT people or the right salespeople? Are they just not available in the market at this point or is thereanother issue?

Chris A. McWilton

No, I think you hit the nail on the head there. I thinkthere’s a relative scarcity of resources in the technology area, as well ascustomer-facing people that have the skill sets we are looking at to deal withcustomers at the level we are expecting to. We are not looking for clerks andback-office support. We’re looking for people that can go in and deal with sophisticatedcustomers in a sophisticated business and it’s a longer hiring cycle than Ithink we’ve anticipated.

Robert J. Dodd - Morgan, Keegan

Thank you.

Barbara Gasper

Operator, I think we have time for one last question.

Operator

Your last question comes from the line of Mark Sproule withThomas Weisel Partners. Please proceed.

Mark Sproule - ThomasWeisel Partners

Thank you. Maybe if I could touch on -- I guess a little bitof a rehash of some of the other questions, but looking at your spending butalso looking at it in the context of what some of your customers are doing withtheir portfolios and a number of the credit card issuers domesticallyespecially are having --

Robert W. Selander

Mark, could you speak up a bit?

Mark Sproule - ThomasWeisel Partners

Sorry, can you hear me better now?

Robert W. Selander

Yes.

Mark Sproule - ThomasWeisel Partners

Just looking at the credit card issuers that are yourcustomers, many of them are looking to re-center their portfolio to protectthemselves against increased credit losses, maybe putting incremental fees ontheir customers and constricting some of the lending that they are doing out inthe marketplace.

Is there any concern that one, that could have an impact onyour domestic volumes as we go into Q4? But also, how does that play into whatyou’ve talked about briefly a few minutes ago about the timing of youradvertising if some of these guys maybe pull back on their own spending?

Robert W. Selander

Well, let’s use your hypothesis. Let’s assume that turns outto be the case. There is a slowdown in the marketing around card-relatedproducts here in the U.S. There are less incentives being placed out there forcardholders to use their products, than I would say yes, that we would react tothat. One, we would probably see some slowdowns, but we would also see delaysin our marketing spend and support programs that would be used for thosecustomers.

To the extent there is a lessening of domestic volumesversus what we currently anticipated, the vast majority of our customers herein the United States have agreements which involve tiered pricing, and to theextent they don’t get to certain volume levels, they may not qualify for thatlower pricing. I think Chris has made it pretty clear, earlier comments todayand on other calls that the fourth quarter is our quarter generally of lowesteffective yield, and that in part is because we are getting to those highertiers from various lines of business our customers do, and therefore lowerpricing tiers.

To the extent they don’t get there, there is a little bit ofa balancing mechanism, if you will, in terms of the structure of our pricing.

Mark Sproule - ThomasWeisel Partners

That’s helpful. And then, on a different side of theequation, when you look at the debit market, obviously nice growth in thesignature side, is there any inclination of trying to maybe make a biggersplash in the PIN debit market to counteract some of the other players that areout there? Thanks.

Robert W. Selander

Well, the debit market I think of globally and I think weare making pretty big splashes in it. If I look at growth in the U.S., debtcontinues to be stronger than credit, and we had nearly 15% growth in purchasevolume during the quarter in our domestic signature-based debit. I’ve mentionedhere the relationship with Banc of America, which we are delighted to beworking with them.

Outside of the U.S., Maestro is a very strong performer. Wehave over 600 million Maestro cards, and I’ve highlighted some of the thingsthat we’ve been doing with players, particularly in Europe, but we are doingsimilar types of things in other regions of the world as well.

So I feel good about our position in debit. It’s a rapidlygrowing market. It continues to receive focus and we look forward to havingmore successes there.

Operator

I would like to turn the call back over to Mr. Bob Selanderfor closing remarks.

Robert W. Selander

I would like to thank everybody for joining us today. Again,we are just delighted with our results for the quarter and we are glad we wereable to share them with all of you. Have a great day. Thanks.

Operator

Thank you for your participation in today’s conference. Thisconcludes the presentation. You may now disconnect and have a great day.

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