Discover Financial: A Creditable Investment - Barron's

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Includes: AXP, BAC, C, COF, DFS, JPM, MA, V
by: Rachael Granby

Discover Financial (NYSE:DFS) has long lagged behind American Express (NYSE:AXP), MasterCard (NYSE:MA) and Visa (NYSE:V) in the credit card market. Its focus on slow and selective growth has netted it just 7% in Q1 of the $666B in combined outstandings of Bank of America (NYSE:BAC), JPMorgan Chase (NYSE:JPM) and Citigroup (NYSE:C) with market shares of over 20% each, and Capital One (NYSE:COF) and American Express (AXP) with shares of 10% each. Still, Barron's says Discover's slow, methodical growth has its advantages, and thinks the stock is poised to rise.

Discover's conservative credit policy means it is less likely to be hurt by the wave of loan charge-offs now hitting the industry. The company has been negotiating several deals that will expand its market share in the U.S. and internationally to levels close to Visa and MasterCard. Since Discover not only issues credit cards but also does its own transaction processing, higher market share helps both the credit side of the business and increases processing efficiencies.

In addition to Discover's stand-alone strength, the company could also be a potential buyout target. With its Friday closing price of $16.42, a buyout could generate a premium of 20-30% from an acquirer looking to scale up credit-card issuance and processing.

  • William Ryan of Portales Partners thinks a Discovery takeover bid could be in the high 20s to low 30s.

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  • Discover reported this month that its consumer spending index reached its highest level so far this year. This marks the second consecutive month with a positive outlook, and could be a sign that consumer spending is starting to recover.