The original Q2 earnings headlines had American Express (NYSE:AXP) trading up until reality set in on investors. The stock eventually ended down 2% on the report as the market quickly digested all the positives were related to one-time gains from selling the Costco (NASDAQ:COST) portfolio.
The biggest issue with the AmEx report is determining whether to focus on the adjusted numbers or not. The problem with excluding the Costco numbers is the assumption that losing the business was a one-time issue rather than an ongoing shift in the competitive landscape.
Business Under Pressure
For Q2, the company reported an EPS of $1.51 that was nearly flat with the $1.42 earned last year. The actual reported headlines of a $2.10 EPS included a $1.1 billion gain ($677 million after-tax) from selling the Costco U.S. cobrand card portfolio. The 1% decline in revenues tells the real story.
AmEx does a good job of spinning the story showing that a lot of the financial metrics would've been up solid numbers excluding the loss of the Costco business. One though has to be careful excluding the impacts from losing business due to the shift to lower cost card programs.
The company suggests the worldwide billed business would've jumped 8% and loans rose 13% without the impact of losing the Costco business and FX headwinds. The total loans business is a prime example of the issue with excluding lost business.
The adjusted loan position looks solid, but the amount excludes not only Costco, but also the lost business with JetBlue Airways (NASDAQ:JBLU).
Source: AmEx Q216 presentation
All of the spin doesn't address the pressure on rates regardless of the business gained or lost. The quarterly discount rate, rate paid for each transaction, was again down on a sequential and YoY basis.
Source: AmEx Q216 presentation
Huge Capital Returns
The biggest issue with turning too negative on AmEx is that the company is turning huge cash flows into large capital returns. The card provider faces an uphill battle fighting a secular decline though.
The company returned an incredible $1.7 billion to shareholders via stock buybacks during Q1 and a total $2.8 billion during the first six months of the year. For a stock worth only $61 billion, the amounts are huge considering the dividend was raised to $0.32 per quarter or 2% on an annual basis.
Due to these big capital returns, the net payout yield (combination of net stock buyback yield and dividend yield) continues sitting around the 10% level.
With approved stock buybacks of only $3.3 billion over the next four quarters, the net payout yield will fall back to the 7% level at the current market valuation of over $60 billion.
The key investor takeaway is that the return on equity of 26.4% that drives strong profits is impressive, but it doesn't account for the trends in the sector. AmEx continues facing a tough trend of lower discount rates and higher rewards costs.
At the end of the day, investors are paying roughly 12x EPS estimates for a business with more downside risk than growth opportunities.
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