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Executives

Ron Stovall - SVP IR

Daniel T. Henry - EVP and CFO

Analysts

David Hochstim - Bear Stearns

Meredith Whitney - Oppenheimer & Co.

Christopher Brendler - Stifel Nicolaus & Company, Inc.

Bruce Harding - Lehman Brothers

Sanjay Sakhrani - Keefe, Bruyette & Woods

Eric Wasserstrom - UBS

Robert Napoli - Piper Jaffray

Scott Valentin - Friedman, Billings, Ramsey & Co.

Brad Ball - Citigroup

American Express Company (AXP) Q4 2007 Earnings Call January 28, 2008 5:00 PM ET

Operator

Ladies and gentlemen, good afternoon. Thank you for standing by, and welcome to the 2007 fourth quarter earnings conference call. (Operator Instructions)

At this time, it's my pleasure to turn the conference to our host, Senior Vice President, Investor Relations, Mr. Ron Stovall. Please go ahead.

Ron Stovall - SVP IR

Thank you, Tom, and welcome to everyone. We appreciate all of you joining us for today's discussion.

As usual, it's my job to remind you that the discussion today contains certain forward-looking statements about the company's future financial performance and business prospects which are subject to risks and uncertainties and speak only as of today. The words believe, expect, anticipate, optimistic, intend, plan, aim, will, should, could, likely and similar expressions are intended to identify forward-looking statements. Factors that could cause actual results to differ materially from these forward-looking statements, including the company's financial and other goals, are set forth within today's earnings press release, which was filed in an 8K report and in the company's 2006 10-K report already on file with the Securities and Exchange Commission.

In the fourth quarter 2007 earnings release and supplement, which are now posted on our web site at ir.americanexpress.com and on file with the SEC in an 8-K report, we have provided information that describes the company's managed basis and other non-GAAP financial measures and the comparable GAAP financial information, and we explain why these presentations are useful to management and to investors. We urge you to review that information in conjunction with today's discussion.

Daniel Henry, Executive Vice President and Chief Financial Officer of American Express will provide some introductory remarks highlighting the key points related to today's announcement. Once he completes his remarks, we will turn to the moderator, who will announce your opportunity to get into the queue for the Q&A period. Up until then, no one is actually registered to ask questions.

While we will attempt to respond to as many of your questions as possible before we end the call, we do have a limited amount of time. Based on this, we ask that you limit yourself to one question at a time during the Q&A.

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

Daniel T. Henry - EVP and CFO

Thanks, Ron, and thanks to everyone for joining the call today.

As usual, my remarks today will mostly focus on the results for the fourth quarter as you are already familiar with our results for the first three quarters of the year. However during the Q&A, I will be happy to respond to any question you might have on our full year results in addition to your questions on the quarter.

As you've seen in the earnings documents, our fourth quarter results reflect the continuation of the strong business growth we reported throughout recent years. As you know, these results reflect the benefits of our multiyear investments in a broad range of business building initiatives which have yielded industry leading performance for the quarter and over the past few years.

When you compare our revenue from continuing operations to the fourth quarter of last year, net revenues grew 10%, income decreased 6%, and diluted EPS of $0.71 decreased 3%, but was in line with our previously announced expectations.

For the full year 2007, we reported income from continuing operations of $4 billion, up 12% from 2006, and diluted EPS of $3.39, which rose 16%. ROE for the prior 12 months was 37%.

The results for the quarter reflect the significant items that we highlighted in our recent announcement and include the recognition of $700 million after-tax reduction in operating expenses from the $1.1 billion initial payment in the company's litigation settlement with VISA, $89 million after-tax of incremental investments in marketing, promotion and other business building initiatives, $46 million after-tax of litigation-related costs pertaining to the lawsuit against VISA and MasterCard, $31 million after-tax of additional contribution to the American Express Charitable Fund, and a $274 million after-tax credit-related charge which reflected the impact of the weakening economy during the latter part of the quarter.

In addition, the quarter included a $430 million after-tax charge to increase the membership rewards liability based on our decision to adopt more of an actuarial-based method to estimate the ultimate redemption rate of rewards points earned by cardmembers.

Last year's fourth quarter included a $42 million after-tax gain related to the rebalancing program within the Travelers Cheque and Gift Card investment portfolio and $45 million of after-tax benefits related to certain foreign losses and the finalization of state tax returns.

In addition, both quarters included reengineering costs totalling $10 million aftertax in the fourth quarter of 2007 versus $42 million of after-tax last year.

During the quarter and year-to-date, we returned 99% and 88% respectively of total capital generated to our shareholders through repurchase of shares and dividends. Since 1994, we have returned 71% of capital generated to shareholders, which above our 65% long-term target.

The 10% revenue growth in the quarter reflects strong double-digit increases in a number of revenue categories, including discount revenue and cardmember lending finance revenues. This growth rate was somewhat suppressed by our higher interest expense.

As far as our consolidated results go, they continue to be driven by strong growth in cardmember spending, loans, and cards in force. Billed business growth for the quarter remains strong, even with the slower growth in December that we discussed with you two weeks ago. Each of our customer segments and geographic regions contributed to the 16% growth worldwide, or 13% growth on an FX adjusted basis.

Let me give you some more details.

In our U.S. proprietary business, Consumer spending grew 10% for the quarter, Small Business spending increased 14%, and Corporate Services volumes improved by 11%. In total, U.S. volumes for retail and everyday spend grew 14%. This category represented about 72% of U.S. billings. Travel and Entertainment-related spending, which accounts for the remainder, rose 9%.

Outside the U.S. proprietary billings billed business grew 11% on an FX adjusted basis. This was driven by 9% growth within our Consumer and Small Business activity and 14% growth within Corporate Services.

Within Global Network Services, billed business rose 39%, driven by continued robust growth both in and outside of the U.S.

Worldwide cards in force rose 11%. We added 1.7 million net new cards during the quarter and 8.4 million net new cards since last year. This reflects 5% growth versus last year in proprietary cards, and 35% growth in network partner cards.

Spending per proprietary card rose 8% worldwide, even with the suppressing effects of the substantial card additions over the past few years. Our average discount rate of 2.54% decreased slightly from last year, and consistent with seasonal patterns, declined 3 basis points versus last quarter.

Net card fee revenues increased 14% due to strong growth in cards as well as higher average fee per card.

Travel commissions and fees increased 14%, reflecting an 18% increase in travel sales.

Once again, we saw our strong growth in cardmember spending generate a high level of loan growth. Worldwide lending balances on an own basis rose 26%. On a managed basis, balances grew 22% on 23% growth in the U.S. and a 15% increase in our non-U.S. portfolios. This growth continues to reflect the flow-through of particularly strong spending levels within our co-brand, lending on charge and other credit card relationships as well as successful acquisition efforts surrounding these products.

In the U.S. some of this growth is also related to the slowdown in payment rates which we believe is consistent with the weaker economic environment.

While we know that some of you have questioned the logic of such strong growth in this environment, we are confident in the attractive underlying economics of this business growth through the cycle.

Securitization income decreased 6% as higher finance charge and fee revenue, driven by a greater average balance of securitized loans, was more than offset by higher write-offs and a decrease in the valuation of the interest only strip that was included in this quarter's credit-related charge.

Cardmember lending finance revenues rose 27% on growth of the owned portfolio.

Interest expense increased 34%. This was due to a 35% increase in funding costs within the lending business and a 33% increase within the charge card and other interest expense line. Most of this reflects the volume increases within the business, however, as we discussed with you during the year, the higher interest expense was also driven by the expiration of some fixed-rate debt and hedges at the end of the 2006. Specifically, fixed-rate debt and hedges within the U.S. card business declined by $11 billion. The effective funding rate on that amount was 3.2%. It was replaced by funding based on higher market rates of approximately 5.1% in the quarter. This resulted in about $48 million of incremental expense in the quarter versus last year.

Marketing, promotions, rewards and cardmember services expense increased 57%, reflecting the charge to increase the membership rewards reserve and the incremental investment in marketing and promotions resulting from the VISA settlement. The increase also reflects higher volumes related to rewards cards.

As you can see within our segment results, our marketing efforts this past quarter were again somewhat more focused on spending outside of the U.S. versus the more U.S.-oriented investment activity during the first half of the year.

The increase in rewards costs continues to reflect our strong spending growth and increasing cardmember participation. The charge taken this quarter increases the global ultimate redemption rate assumption for the program participants - the assumption for current program participants - within the reserve model to approximately 90%. We believe this is consistent with the increased usage of the program by our cardmembers and our plan to continually vigorously utilize rewards as a centrepiece of our competitive strategy.

Human resource expense increased 6% due to merit increases, greater benefit costs, and a higher number of employees, primarily resulting from customer service initiatives and an acquisition within corporate services.

The growth in the remaining operating expenses reflect the impact of increased volumes within our technology and cardmember service activity and shows the underlying operating expense has continued to be well controlled.

The total provision for losses and benefits increased 70% versus last year, and the lending provision increased 100% and the charge provision rose 51% and other provisions decreased 2%. The increase in lending provision reflects the credit-related charge, higher loan volumes, and increased past due and write-off rates in the U.S. portfolio.

Delinquencies for the U.S. Card Services segment increased from 2.9% of managed loans in the third quarter to 3.2% in the fourth quarter '07. And write-off rates on a managed basis for this segment also increased from 3.7% in the third quarter to 4.3% in the fourth quarter '07.

As we said, the changes that we saw in the credit performance are reflective of the external economic environment and don't specifically stem from individual products or cardmember tenure segments, although, as you would expect, we have seen greater deterioration in geographic areas where the housing market has contracted more severely such as California and Florida. We have also seen a somewhat higher level of weakness in accounts that have not yet gone through the natural seasoning process as well as in lower FICO bands within the portfolio. The increase in the charge card provision also reflects the credit-related charge in volume growth, however, the deterioration we saw during the quarter here was less than we experienced in the lending portfolio.

The consolidated tax rate of 26% for the quarter compares with a 25% rate last year.

With that, let me conclude with a few final comments. While the quarter's earnings growth reflects the negative impacts of the significant items I referenced earlier, we did deliver strong revenue growth and excellent returns while continuing to invest in key business initiatives and maintain balance sheet strength. And for the full year, earnings were strong despite the fourth quarter impact.

Business metric performance, like growth in billed business and loan balance, continues to be in the top tier of the industry. The gap between our growth rate and that of most major competitors demonstrates the effectiveness and ongoing benefit of our ongoing marketing and rewards investments over the past several years.

While losses and past-due levels within the U.S. lending portfolio have trended higher, our credit quality indicators compare favorably to the industry and continue to reflect the benefits from our focus on the premium market sectors.

As we've discussed before, our write-off rate calculations include principal, accrued interest, and accrued fees verse the principal only calculations that our competitors generally publish and utilize. This serves to overstate our comparable rate by about 20%.

As previously disclosed, our business plan for 2008 assumes a moderately weaker U.S. economy and reflects the slowing billed business growth and rising write-off rates that we saw during the latter part of the quarter. We assume billed business growth of 8% to 10% compared to the 10% FX adjusted growth we saw in December. We also assume that the managed U.S. lending write-off rate will be in the 5.1% to 5.3% range for the year versus the 4.3% in the fourth quarter.

In addition, we expect to pull back on certain discretionary expenses and assume marketing and promotion expense will be somewhat below the 2007 levels. We believe that spending at this level will allow us to capitalize on competitive opportunities and position the company to continue to gain share over the medium to long term.

The interest expense levels that impacted us in 2008 are obviously dependent upon the credit market environment, however, our plan does not reflect last week's Fed rate cut.

The plan also considers the availability of the $70 million per quarter settlement-related payments from VISA. Here, we are optimistic that the U.S. G&S business is well positioned to meet the quarterly performance criteria necessary to receive these payments. This provides us with the additional flexibility within the plan so if the business is performing at the strong end of our assumptions, we will likely invest these payments. But if performance is at the weak end, we can use them to bolster the bottom line.

In this type of business scenario, we believe the flexibility that we have built into our business model generally positions us to grow EPS in the 10% to 12% range, however, given the comparisons to a year that included several significant positive items, the plan assumes 2008 reported EPS will increase in the 4% to 6% range.

The quarterly year-over-year EPS comparisons are likely to show significant variances, with the 2008 first quarter earnings level forecasted to be below that of last year, in part as a result of the relatively low level of marketing spending in the fourth quarter of 2007.

These results are based on the assumption that the build business growth and write-off rates in the plan are met, and that macro economic indicators such as employment, consumer spending and funding costs do not deteriorate significantly from current levels.

But we do recognize that the plan assumptions that we've made will have to change if the economy varies from our expectation. In that case, we will consider what the economic environment is, be focused on the long-term health of the franchise, and we will take actions that are appropriate depending on the circumstances.

Our investment optimization process positions us to identify opportunities to increase or decrease our business building investments quickly and thoughtfully. We have a strong planning and forecasting process which dynamically incorporates changes in the environmental conditions, and we remain focused on reengineering, which in recent years has yielded a far leaner expense base.

Collectively, we believe these efforts will help us to maximize our ability to invest in key growth opportunities even in a difficult economic environment. We will continue to manage the company for the long-term interests of the shareholders and be guided by our on-average and overtime financial objectives.

Since we set our targets in 1993, we have generally performed consistent with those goals, and, in fact, have outperformed them in recent years. While we expect our 2008 EPS growth will fall below our 12% to 15% targeted growth range, we continue to believe that this is still an appropriate target for the medium to long term. And despite the tougher environment, our plan for 2008 anticipates that our return on equity should be consistent with our 33% to 36% target.

Given our industry leading results in recent years and the product, customer and geographic breadth of our franchise, we believe we are well positioned to execute against our growth opportunities in a manner that continues to appropriately balance our short, medium and long-term business objectives and financial goals.

Thank you for listening. We are now ready to take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question today comes from the line of David Hochstim representing Bear Stearns. Please go ahead.

David Hochstim - Bear Stearns

Yeah, hi. I'm wondering, could you give us some sense of how billed business growth was in January or January to date, and could you kind of clarify or maybe speak more about what the trend was like over the month of December. Was it appreciably worse in the last two weeks or just dropped off December 1?

Daniel T. Henry - EVP and CFO

No, David, I think in December, as we indicated, it was a sudden drop - it dropped about 300 basis points from a level that was running at about 13% down to about 10%.

We saw the drop over the course of December, although it was probably a little bit more noticeable towards the end of December.

In terms of what's taken place since the forecast that we made the announcement of our targets for 2008, which was about two and a half weeks ago, things are dimensionally the same as they were at the time that we shared with you our forecast for 2008. So everything, things are dimensionally the same currently as they were at the time of our forecast.

David Hochstim - Bear Stearns

Okay. And then could you just clarify what you were saying about marketing spending in '08? You reported $2.7 billion roughly in the fourth quarter, and that included, I guess, the $685 million expense. Is there anything else in that number, so it's a little over $2 billion, then, if you take that out?

Daniel T. Henry - EVP and CFO

Yes, I think what we've said is we anticipate that marketing promotion expenditures in 2008 would be slightly below what we spent in 2007.

David Hochstim - Bear Stearns

Including the $685?

Daniel T. Henry - EVP and CFO

Yes.

David Hochstim - Bear Stearns

Okay. And just to clarify, so in the fourth quarter I thought you said it was running at about 13% rate for the quarter. Was it 13% in the first two months?

Daniel T. Henry - EVP and CFO

No. I think what we said is we saw a sudden drop in December of about 300 basis points.

David Hochstim - Bear Stearns

Okay. All right, thanks.

Operator

And next we'll go to the line of Meredith Whitney with Oppenheimer. Please go ahead.

Meredith Whitney - Oppenheimer & Co.

Good afternoon. I had a couple of questions, and I hope I'm not re-asking David's question, but this is going back to the last question. So again, I have two questions. This is to clarify something that you had said about a slowdown in spending.

Is it possible that there is a numerator-denominator effect going on that changed your previous budget to the extent that the numerator is tracking along as you guys had expected in terms of the level of charge-offs but because the slowing slowed down on a pronounced basis? Is there a spending slowdown on a pronounced basis towards the end of December, the net effect results in a higher charge-off rate?

Because I want to clarify, in the master trust data, I don't see a material drop off in payment rates, and as someone who looks at that as a leading indicator, I look at the rest of the card issuers and you also don't see a material drop off in payment rates.

I'm just trying to connect the dots here, and then after which I'd like to - after your response, I'd like to ask a follow-up question, please.

Daniel T. Henry - EVP and CFO

Okay. So I don't think it's a numerator-denominator effect. I think the denominator stays pretty much the same. I think we saw an increase in writeoffs, and that's what's leading to the higher write-off rate.

Now as it relates to the trust compared to the owned portfolio, the accounts that are in the trust are more seasoned, okay? Last time we added accounts to the trust was in October of '06, and the accounts we put in at that time had been in the franchise for a little while. So most of the accounts that you have in the trust have been with us for probably two years plus.

So the new accounts that are being added are really on the owned side, and in that you'll see the normal seasoning that takes place there that you're not seeing in the trust. And that's why I think you're probably seeing not the same level of change in write-offs in the trust that you're seeing in the owned portfolio.

Meredith Whitney - Oppenheimer & Co.

Okay, would that suggest, though, Dan, that the accounts originated over the last couple of years when you had the accelerated loan growth are, in fact, performing worse? Because in the last call you'd said that they were performing like the others.

Daniel T. Henry - EVP and CFO

No. I think if you look at the - using FICO scores as an indicator - the accounts that we are acquiring in 2007 have the same quality makeup as the accounts that we acquired in 2006. So we haven't changed our criteria in terms of the customers that we bring in from our creditworthiness perspective.

And what I said last time is that we saw deterioration really across all categories, although we saw it a little bit more in those categories where people are kind of going through the normal seasoning process, okay?

Meredith Whitney - Oppenheimer & Co.

Okay.

Daniel T. Henry - EVP and CFO

Now, that's just a general as you look at the whole portfolio. If you want to compare the trust to the owned receivables, then what I said a minute ago comes into play in that the folks in the trust are probably more tenured.

Meredith Whitney - Oppenheimer & Co.

Okay, I got that. So here's my second question, which is a nuanced question to the extent of regulators and accountants, this credit cycle versus last credit cycle, as the accountants and regulators now require you to basically provide as charge-offs and maybe have a quarter - it seems like a quarter horizon - in terms of expected charge-offs, do you assume - and this is an industry question - that that then will be responsible for more or less predictability in earnings? Is that a contributing factor at all?

Daniel T. Henry - EVP and CFO

So we have not changed our methodology for providing for credit losses anytime really in the last several years. We use historical information as the guidepost in terms of establishing our reserves.

Now our policy also has a factor in there that to the extent we see a trend that's not being captured in the historical information, then we use management judgment. And so in the fourth quarter, that's exactly what we did. We looked at the increase in delinquencies. We looked at what that would do if we stayed simply with our models in terms of driving coverage ratios down. We said we didn't think that made sense given that we were seeing deterioration, and so we actually put up a provision to bring our coverage ratios back up to a level that we thought was appropriate.

So what we did in the fourth quarter has nothing to do with changes from either accountants or regulators. It's management exercising their judgment to bring coverage ratios up to an appropriate level.

Meredith Whitney - Oppenheimer & Co.

Okay, thanks, Dan.

Operator

Next we will go to Chris Brendler's line, with Stifel Nicolaus. Please go ahead.

Christopher Brendler - Stifel Nicolaus & Company, Inc.

Thanks. Good afternoon.

Could you just give us a little more color on what you're seeing in the charge card business? I was a little bit surprised to see not necessarily the delinquency trend there because I think it's a 90-plus number, but maybe beneath the surface, if you could talk about the credit trends in the charge card business because the reserve bill was quite substantial, more than I was looking for. I would think that portfolio would be holding up better.

Daniel T. Henry - EVP and CFO

So the charge card portfolio is holding up better than what we're seeing on the lending side. We did see a little bit of change in the credit metrics, and so again, we exercised judgment as it relates to that portfolio to ensure that we continue to show the same kind of appropriate coverage ratios, just like we did on the lending side.

So we did see some movement from a credit metric perspective. We think the impact will be less there than on the lending side.

And as we go forward in terms of our ability to manage the charge card portfolio, it's very high because every charge that a cardmember looks to make, we're basically making a decision about whether we let that charge go through or not. So we think we have a very good ability to control credit on the charge card portfolio.

Christopher Brendler - Stifel Nicolaus & Company, Inc.

And along those lines and a follow-up to Meredith's question on the growth in the credit card business and the deterioration that you're seeing on the on-book recently originated portfolio, how can you tell if your models are calibrated to sort of a higher-quality customer and you're encouraging spending, how do you try to limit spending, I guess, when the cycle turns, it turns out to be spending and loan growth that you didn't want?

Daniel T. Henry - EVP and CFO

Let's take a longer view of history in terms of the decisions we've made to put customers on the books.

I think we have been investing heavily over a multiyear period to bring in new customers. The result of that is our cards and loan growth has been very strong over the last several years. Our billings growth has been very successful, and notably above what our competition has accomplished. And as a result, we've had the flow-through of that into our loan portfolio.

The economic gain that we've realized over the last several years by outperforming the competition in terms of both billings and loan growth is substantial. We think we continue to have good credit capability. We are monitoring the behavior of our customers very closely. And so we think those decisions are valid and we have good underlying economics to the investment that we have made.

So we're very comfortable with what we've done to date.

You know, another way to look at it would be what were our expectations when we decided to bring owned groups to customers in either 2005, 2006 or 2007, and based on the assumptions of how many cards we would get, what their spending would be, what loan balances would be, and what write-offs would be, they're very attractive from a financial perspective.

Even if you took those same models and plugged in much higher write-off rates for 2008 and 2009, they continue to be very attractive financial decisions.

So I thin the investments we've made have done very well for us, put us in a leadership position, and now, if we have a down cycle in the economy, we just have to manage our way through that very smartly in terms of who we allow to spend and at what levels we allow them to spend.

Christopher Brendler - Stifel Nicolaus & Company, Inc.

Are you tightening up a little more right now on that last point?

Daniel T. Henry - EVP and CFO

So I think we are very focused on certain geographies where there has been a greater deterioration in home prices. We are also focused on certain industries that may be more inclined to have a downturn. So we're being very targeted in terms of how we're controlling spending.

But at the same time, on a broader base we're being very focused in terms of what are the right credit criterias we should use, even for the broad population.

Christopher Brendler - Stifel Nicolaus & Company, Inc.

All right. Thanks, Dan.

Operator

And next we'll go to Bruce Harding's line, with Lehman Brothers. Please go ahead.

Bruce Harding - Lehman Brothers

You said that you're not really - you didn't factor in the Fed ease or any perspective Fed eases into your model, and then you talked about how you would treat the $70 million quarterly payment.

Can you speak to how you see the Fed ease impacting the model going forward now that's happened and any perspective, you know, the sort of 50 that's highly expected, and any perspective from here, both on your P&L and how your consumer's ability to pay in the last quarter or two may be impacted?

And also whether or not as far as any pricing or interest rate changes you may put into place, you know, based on what you did in the last recession.

Daniel T. Henry - EVP and CFO

Well, you know, obviously to the extent the Fed eases prices, that's a clear benefit for us. But as you know, the credit markets are pretty volatile right now, and while Fed has improved, we have also seen credit spreads above LIBOR that we pay expand, which is moderating or mitigating the benefits that we're seeing.

In our business, there's something of a built-in hedge here. To the extent credit gets worse, you have easing on the Fed side and you have lower interest, which helps to mitigate what you're seeing from the slow economy in terms of credit losses. So that's kind of a built-in hedge in the process.

So as we go forward in evaluating what level we continue to invest in the business, we will certainly take into effect both the benefits that we're reaping from a lower Fed rate, what's happening on the credit side, and what knock-on effect the actions by the government will have on the broader economy in terms of their ability to pay.

So we don't ever manage the business by looking at one line. You really need to look across all the lines - what's happening in billings, what's happening in credit, what's happening in interest rates. And as I said, we feel we have a very strong ability for forecasting and integrating these changes in the environment into our forecast that help us react to all the things that are happening, both in the marketplace and within our business.

Operator

Let's go to the next question. Our next question is from the line of Sanjay Sakhrani with KBW. Please go ahead.

Sanjay Sakhrani - Keefe, Bruyette & Woods

Thanks. Just a follow up on that question on the funding costs. You know, LIBOR's moved down quite a bit, you know, year-to-date, and I was just wondering, I mean, how should we think about that in terms of flowing through to the interest margin in the first quarter? I think it's down over 65 basis points.

And then also, secondly, just on international credit quality, I saw there was a pretty marked improvement in the charge-off rate internationally on the lending portfolio. Just wondering if you could comment on that.

Thanks.

Daniel T. Henry - EVP and CFO

Okay. So, you know, I think if you look at the curve, we certainly are going to have a benefit, you know, based on the curve, the biggest benefit actually does fall in the first quarter, so we're taking that into consideration in our thinking as we move through the quarter. But we have to take into effect all the other aspects that are taking place at the same time.

Then again, we have a pretty good ability to react from an investment point of view, but that generally takes some lead time of a couple months to actually react. So when there's some movement in external factors that are going to flow through our P&L, we can mitigate them or adjust for them to some extent, but not necessarily fully in all cases. But we try to do it as thoughtfully as we can.

You always have to be careful that you don't look at a couple days or a week or two as a trend because it's just in the normal course of the business there is a certain amount of bounciness in daily or weekly information that we receive.

As it relates to your observation on international, you're absolutely right. Our international credit metrics are improved from where we have been. I think there's been an emphasis in the international markets on our lending portfolios, in terms of controlling credit well, and an emphasis on the premium sector. And I think this emphasis on the premium sector is actually paying dividends to us, and you're seeing that in the results, in particular the credit metrics that you see there.

Sanjay Sakhrani - Keefe, Bruyette & Woods

Is there a specific region that saw more improvement than others?

Daniel T. Henry - EVP and CFO

So on the spot, I don't recall specifically, but in our conversations, there wasn't a call out of a specific region that was acting differently than the others. So I think it was pretty broad based, although I will remind you that last year we probably had higher credit losses in the U.K. and possibly in Taiwan as well. So there's an absence of those higher losses in our current numbers.

Sanjay Sakhrani - Keefe, Bruyette & Woods

Okay, great. And I'm sorry, just one last question.

In the marketing line, are the - the one-times are a boost in incremental business building costs. Is that in the rewards line?

Daniel T. Henry - EVP and CFO

So the line in the P&L is marketing, promotions and rewards. The incremental boost in the fourth quarter would be on that line.

Sanjay Sakhrani - Keefe, Bruyette & Woods

Okay, so that's in addition to the rewards liability increase?

Daniel T. Henry - EVP and CFO

Yes. So let me just go back to a question that someone asked before. When you think about when I was talking about marketing and promotion being slightly below 2007 levels, you shouldn't be looking at that total line because that total line includes rewards, it includes the $685 million that we put up, okay? I'm not talking about either rewards or that addition to the reserve. I'm talking about the marketing promotion aspect within that line being slightly below 2007 levels.

So if I didn't answer that precisely before, I just want to clarify.

Sanjay Sakhrani - Keefe, Bruyette & Woods

Okay, great. Thank you.

Operator

Next we'll go to Eric Wasserstrom's line, representing UBS AG. Please go ahead.

Eric Wasserstrom - UBS

Just to get back to some of these funding issues, are you contemplating any change in the mix of how you fund the business given the current volatility in the credit markets?

Daniel T. Henry - EVP and CFO

So we borrow both short-term instruments and commercial paper. We do some unsecured lending that ranges from one year up to 10 years and sometimes a little longer. We also fund with some deposits as well as securitizations.

So as I said before, we've kind of come through this funding - even though there's a lot of stress in the marketplace - very cleanly. We've been able to fund at the levels that we desire to in commercial paper and short-term. In the unsecured longer-term kind of 10-year money, there's money there, and we've been able to fund in securitization or ABS at the levels that we want to.

Since July, the unsecured - the 5-year market - really hasn't been there or only been there in limited amounts, so as we go forward, if that continues to be the case, we would tend to do some more funding in the unsecured 10-year and possibly do higher levels of securitization than we've done in the past.

So as we think about our funding, that's how we're thinking about it as we go through 2008.

Eric Wasserstrom - UBS

Does that mix - I'm just trying to think about that, but does that mix imply sort of a naturally higher funding cost given the longer duration?

Daniel T. Henry - EVP and CFO

Well, you know, to the extent we put a 10-year deal on and credit spreads are higher than normal, that would drive the rate up. On the other hand, you know, today we're probably a little bit below what historical levels are, right? So those two might, you know, balance off.

If we borrow in the ABS market - we actually did a deal a couple of weeks ago where we did a AAA piece of a securitization for $2.5 billion and we were about 45 basis points above LIBOR, which is a pretty good trade.

And securitizations generally tend to be kind of, again, in a 3- to 5-year range. So to the extent you had to pay up on spread there, it would roll off a little bit more quickly.

Eric Wasserstrom - UBS

Thanks very much.

Operator

And we will go to the line of Bob Napoli with Piper Jaffray. Please go ahead.

Robert Napoli - Piper Jaffray

Thanks. I wanted to clarify two numbers quickly, then a follow up strategic question.

On the marketing spend, I'm sorry, I was unclear, the $2.7 billion that you spent this year, if you back out the $685, you're at $2 billion. Is it slightly less than the $2 billion you expect to spend in 2008?

Daniel T. Henry - EVP and CFO

The $2.7 billion is a quarterly number that is both marketing promotion and rewards, including the $685 million.

Robert Napoli - Piper Jaffray

So looking at the full year, including the $685, you expect to spend a little bit less than that.

Daniel T. Henry - EVP and CFO

No. I'm not being successful here. So that line has marketing and promotion and rewards costs. So rewards of being - membership rewards costs.

Those are two elements on that line, okay?

Robert Napoli - Piper Jaffray

Right.

Daniel T. Henry - EVP and CFO

I'm not talking about rewards.

Robert Napoli - Piper Jaffray

Okay.

Daniel T. Henry - EVP and CFO

I'm not talking about the $685.

Robert Napoli - Piper Jaffray

Okay.

Daniel T. Henry - EVP and CFO

I'm talking about marketing and promotion. So marketing and promotion only, not the rewards piece, in 2008, we think we will spend slightly less than what we spent in 2007.

Robert Napoli - Piper Jaffray

Okay.

Daniel T. Henry - EVP and CFO

So I wasn't addressing the $2.7 billion in the quarter.

Robert Napoli - Piper Jaffray

Okay. And then on the 4% to 6% EPS growth, is that on the $3.42, on top of the $3.42 from continuing operations?

Daniel T. Henry - EVP and CFO

I think $3.39 is our continuing operations diluted EPS. And the 4% to 6% on a reported basis would be offset in the $3.39 number.

Again, I'll remind you that in 2007, there's a number of significant benefits that we've culled out for you in the past, and if we've excluded those, or if we think about just our business model, we would think with the elements that we've laid out of 8% to 10% billed business growth, 1.5% to 1.3% write-offs rates, our business model has the flexibility to generate between 10% and 12% EPS growth, okay?

However, because of the significant items, gain items, that we had in 2007, that would convert into a reported growth rate of between 4% and 6% off of the $3.39.

Robert Napoli - Piper Jaffray

Okay. Yeah, I got that.

And then on the international business and the long-term growth, I guess, of the international business, your cards outstanding were only up 3% year-over-year. Was there during the course of the year, I don't recall, is there a reason why the card growth is only 3% internationally. I mean, it would seem that you should have much higher opportunities to grow outside the U.S., but maybe just with the brand name being American Express you don't have the same type of growth opportunities that a MasterCard or a VISA may have, otherwise we'd be seeing faster growth rates of the cards and, I think, long-term of the billed business and profits.

Daniel T. Henry - EVP and CFO

Yes, I think the 3% is an average for the year. I think we had been improving as we go through the year. I think it's a reflection of what I spoke to before. I think we have been very careful in terms of our lending business, in terms of how we grow that. And there has been more of a focus on the premium market, and so the quality of the cards we've been bringing in we think is very good. I think that's reflective of what you see in terms of the fees per card, which have been improving.

I think it's a reflection of our focus on the premium sector, why the card growth rate is not higher internationally.

Robert Napoli - Piper Jaffray

Okay. Thank you.

Operator

And we will go to Scott Valentin with FBR Capital Markets. Please go ahead.

Scott Valentin - Friedman, Billings, Ramsey & Co.

Good evening. Thanks for taking my question.

Regarding small business, I think in the past it's been referred to kind of as an early indicator of overall credit trends in the economy.

Can you talk a little bit more about small business credit metrics? Are you seeing - the spend looked pretty strong - maybe expectations for small business spend?

Daniel T. Henry - EVP and CFO

In prior slowdowns, we have seen that small business was kind of a leading indicator. However, in 2007 that was not the case.

So this is different than the slowdown that we saw in 2001. That was led by business. The 9/11 event had a dramatic impact on travel, in particular.

This is a different type of recession. It was started by housing and subprime mortgages, and the way it's rolled out to us, we had small business is not a leading indicator.

And as we said, we saw a sudden drop in December in the U.S. of both consumer and small business, so small business behaved very similar to what we saw in the Consumer segment in the month of December.

Scott Valentin - Friedman, Billings, Ramsey & Co.

Okay. And one follow-up question regarding the tax rate. I guess it was 27% for the year in '07 and about 30% in '06. Do you see it holding stable about where it is today?

Daniel T. Henry - EVP and CFO

You know, what we said is we would normally expect our tax rate to be around 30% or 31%. This year there were a number of tax benefits that we realized in the earlier quarters. We broke those out separately so that you could see them.

So this year in the second quarter, we had a gain of $65 million related to an IRS settlement, and we also had a tax benefit in the third quarter of about $75 million.

So against that we did some investment spending in the second quarter, but those two large benefits that were recorded in the second and third quarter is what really took us down below that 30% or 31%. That's the norm in 2007.

Scott Valentin - Friedman, Billings, Ramsey & Co.

Okay, thank you. Very helpful.

Operator

And we will go to Brad Ball's line, representing Citi. Please go ahead.

Brad Ball - Citigroup

Hi, Dan.

Daniel T. Henry - EVP and CFO

Hi, Brad.

Brad Ball - Citigroup

Is there any reason for the decline in the margin quarter-to-quarter besides the seasonality - the discount rate, not the margin, excuse me.

Daniel T. Henry - EVP and CFO

So the - no. I mean, so we saw the normal 300 basis point drop - or 3 basis point drop - from the third quarter to the fourth quarter, which is seasonal.

We did see a slight drop year-over-year of 1 basis point from last year to this year.

Brad Ball - Citigroup

Okay, so nothing outside of seasonal trends between third and fourth quarters?

Daniel T. Henry - EVP and CFO

No, no, no.

Brad Ball - Citigroup

Okay.

Daniel T. Henry - EVP and CFO

Primarily driven by seasonal trends.

Brad Ball - Citigroup

And separately, you were talking earlier about the differences between your trust and your owned portfolios, indicating the trust was a little more seasoned.

The trust also has a relatively high proportion in some of those high-risk HPA markets like California and Florida - I think 17% and 9%, respectively.

Could you give us some view of what the owned portfolio looks like relative to geographic exposure?

Daniel T. Henry - EVP and CFO

That's something that we haven't historically disclosed. I don't honestly know those numbers off the top of my head.

You know, I think the other thing as it relates to the trust is those write-off rates are not shown net of recoveries. As we've indicated, you know, another thing that we've seen is a little bit of slowdown in pay down. You know, you see that coming through the owned portfolio but you wouldn't see it in the trust data. So that's another thing to think about when you compare the two.

Brad Ball - Citigroup

Okay, but you can't give us a sense as to what the managed exposure is to California or Florida?

Daniel T. Henry - EVP and CFO

So that's something we'll think about in terms of the financial community meeting, whether that's a disclosure that we might be able to make.

Brad Ball - Citigroup

Okay. And then just finally, I know there's been a couple of questions about where your expense levers are in that marketing, promotion and reward line. You know, I understand that you don't break that out for competitive reasons, but how are we to assess how effective you've been at managing that expense when in a given quarter maybe the marketing and promotion is down but rewards are up and they offset? Is there a way you're going to give us some visibility around your ability to manage expenses during this tougher time?

Daniel T. Henry - EVP and CFO

I guess I'd go back to the first quarter of 2007. You know, we said we have the ability to be pretty surgical in terms of when we have to adjust our investment spending so that whatever changes we make minimize the impact on our metric and our future growth.

And I think in the first quarter, we dropped marketing expenses pretty dramatically. And as you saw in the second, third and fourth quarter, that we really didn't see a drop off in metrics. So we think we have very good capabilities in terms of when we need to make adjustments, either reducing or increasing or even shifting.

So we can possibly be shifting spending, investment spending, within the U.S. consumer business to markets that are not seeing the deterioration of housing or to our B2B businesses, where we haven't seen an impact yet, or to the international markets.

So I think we have some pretty good tools here. I think we demonstrated that in the first quarter of last year. If there's in fact a decline and a slowdown in the economy in '08, we'll utilize those skills again.

Now, when we have a drop in marketing, it doesn't necessarily mean we have an increase in our rewards costs. Our rewards costs should generally be driven by volumes, and be increasing at the same rate as our business is increasing.

Brad Ball - Citigroup

Okay, great. And then just one last one before I let you go. In your response to one of your earlier questions, I think you used the word recession in the present tense. Are you saying that we are in a recession right now? And even if you're not, what do you think unemployment rate goes to by the end of '08?

Daniel T. Henry - EVP and CFO

So, you know, I don't want to try to be an economist because I'm not. And I'm not intending to make any statement about whether we're in a recession or not in a recession or forecast whether we will be in the future.

I think we set out the guidance that we did, which we said was basically based on what we saw in December and a modest deterioration in the economy, and that's really the basis for our forecast. I'm not attempting to make any statements about the economic condition today or what it might be over the course of 2008.

Brad Ball - Citigroup

Okay, thank you.

Operator

And there are no further questions at this time. And ladies and gentlemen, that does conclude our conference.

Daniel T. Henry - EVP and CFO

So could I just - Tom, could I just - let me just make a few closing comments before we leave.

So before I sign off, I'd like to say overall 2007 was another year of strong business and financial results. The benefits of our multiyear investment strategy continued to produce business metrics that are in the top tier of the industry.

It's clear that the economic environment this year will be more difficult. Fortunately, we have experience managing through different aspects of the business cycle, and we're facing this environment from a much stronger competitive position than in the past.

As we did in 2002, our focus will be on working to prudently enhance our competitive position. This will entail a continued tight rein on our operating expenses, close management of credit risk, and careful management of our investment activities.

While we plan to invest somewhat less in our marketing and promotion activities in 2008 than in 2007, we still plan to spend at a healthy level. This level of spending should help us to position us to emerge from the downturn in a strong competitive position. It provides flexibility to react to further changes in the economic environment and to capitalize on opportunities in selected consumer segments, among small business, in international markets, and in the B2B sector.

Thanks for joining us. I look forward to speaking to you again at the financial community meeting next week.

Operator

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

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Source: American Express Company Q4 2007 (Qtr End 12/31/2007) Earnings Call Transcript
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