markb

The Long Case for American Express

One reason to look hard at AXP now...Buffett has 13%. Buffett said he is looking for something big. Buffett has liked AXP for 40 years. According to Motley Fool, AXP changed bylaws to make takeovers easier (50% vs 66%). AXP would benefit from not being public. Buffett likes Chenault. Would be surprised if Warren isn't sniffing around at this PE.

The Long Case for American Express

This is a good analysis and I agree with its conclusion.

People conclude the world is ending because AXP has some credit losses. But AXP has been building share with the knowledge that increased losses will result as the new clients are seasoned: an investment in the future. They aren't too worried because V and MA are in effect funding those losses with the $4B pretax they need to fork over. Once the good loans are seasoned and the bad ones are written off, AXP will be sitting pretty.

V/MA investors are full of themselves now because they don't have credit risk. But the cycle will turn and they won't have credit profit. Further, they won't have a friend in the banks anymore. They are simply processors with a monopoly, and they still have a big target on their backs from antitrust regulators. As Markham points out, they don't own their customers so AXP will try and pick off their best ones. They will be targets of merchant ire. They don't really have a strong position in foreign intracountry charges so don't benefit from that growth. They are overvalued.

This idea that "V/MA good, AXP bad" regardless of current valuation is so simplistic it would be funny except that a lot of naive investors may end up getting burned.

Why American Express Should Be Ignored

I actually like AXP and am looking for an entry point. I think Ian's article is somewhat "naive" in that there is no information an average investor hasn't already considered.

Here are some new tidbits:

1. AXP is mostly a network business like MC and V (eg no lending on most AXP products). They also have some lending, but they are not primarily a lender like a bank card issuer.

2. AXP has been building share in both network and lending by winning in the marketplace. On the lending side, even in a stable economy, you would be seeing AXP default rates go up now as recent balances are seasoned. But that lending would still be profitable on an IRR basis...the default rates are timing related.

3. OK, we don't have a stable economy, but the sky isn't falling either, particularly for AXP's premium customers. But if default rates go up for a few years, so what? Did you forget that AXP won judgements of about $1B each from V and MC? Goes a long way to shoring up an already very strong balance sheet.

4. Regarding valuation and sentiment, I agree with mrbill that V and MC fans, at least here on SA, are like a cult that wants you to drink their kool aid. The V/MC business model doesn't involve debt at a time when debt is out of fashion, fine. But what are they really? Back office processors. And their only real advantage is monopoly status...do people say "I choose Visa over X, Y or Z networks?" Not really. As monopololists they will invite continued governmental scrutiny on interchange, especially overseas and possibly in the US under a more populist democratic regime.

Recall that V/MC do not control their own customers. The banks do. And the supreme court case that led to V/MC giving AXP billions also said banks should feel free to issue cards on the AXP network. AXP interchange rates are much higher than V/MC so banks have an incentive to split profits on their high spending non-revolvers with AXP rather than sending them through V/MC. This is a real business at AXP called GNS and its one of their fastest growing.

So in conclusion, V/MC might do ok over the next 5 years but I'm betting AXP will do better. I don't view that position as naive.

Enjoy the kool-aid.

Visa: Trading Transparency

Man this is a funny thread. Especially Cats Eye giving everyone supportive kudos about how wonderful it is they drank the Visa Kool-Aid and how later we'll be holding hands singing Kumbaya.

When everybody is thinking one way, I think that should be viewed as a big yellow flag. If I held some V I would be much more interested in visiting the "Why Visa Sucks" website to pressure test my hypothesis than being part of the Visa lovefest cult.

A Reason To Be Cautious on Visa, Mastercard

OK...here's one more thing for you V/MC lovers to chew on. Something a bit more strategic.

Shane and chauncey above correctly point out that V/MC have large market shares. Not surprising since the DOJ found them to be an illegal monopoly for years.

V settled to AXP for about $1B and MC will do the same. But that's just the appitizer.

Remember how AXP charges merchants a discount rate of about 250bp and V/MC charge an interchange rate of maybe 180bp?

And remember that the DOJ ruling was not really about a cash settlement...that was gravy...the DOJ said the banks could start issuing AXP cards.

Well the banks have plenty of customers who don't revolve. If you are Citi and you have a high end non-revolver, would you rather have him earning 180bp or 200bp? 200bp of course. With a Citi/AXP cobrand card. And AXP will be happy to cobrand and take the 50bp off the top because Citi is bringing the customer.

This is one of AXPs fastest growing business lines...its called GNS.

Remember that V/MC are processors so they make money off transaction volume. But they don't control the customers...the banks do. And the banks have a nice financial incentive to send their best customers to AXP on a cobrand.

So I agree with James...V/MC have a weakness and AXP will exploit.

A Reason To Be Cautious on Visa, Mastercard

AXP has yet to receive the MC side of the V/MC litigation settlement. Likely to be around $1B which will be very helpful in strengthening BS reserves.