Buy American Express: The Secular Growth Play Is Trading 50% Cheap

| About: American Express (AXP)

American Express (AXP) is one of the premium Payment Industry players. The company has tremendous potential to benefit from the secular shift in the Payments Industry. It also has the required financial muscle to expand inorganically into emerging markets. These are a few reasons that we have given American Express a buy rating.

Company Overview

American Express operates in the global Payments Industry and provides innovative payment, expense management and travel services to consumers and businesses in over 130 countries. The major products and services that the company provides are charge, credit card payment products, travel-related services, network services and other prepaid products, including Travelers Checks. The company generates annual revenues of $30b, and in an attempt to diversify its revenue sources, AXP has focused on fee-based services and online and mobile payments. The company uses various channels to sell its products, including online applications, direct mail and others. About 70% of the revenues for American Express come from card transactions & execution fees, while only 6% accrue from its travel services.

Industry Drivers

The global Payment Industry has been, and continues to be, affected by secular shifts. A clear shift has been seen over the years towards electronic payments. According to a report, the global volume of non-cash payments has increased. The use of instruments, which assist non-cash payments, increased at a compound annual rate of 6.8% in 2001-2009. For non-cash payments, cards remain the most preferred payment instrument, with an average market share of more than 40%. Experts are viewing another shift in the Payment Industry, as more and more consumers prefer to pay using their mobiles. Estimates are that mobile payments, which were $4.6b in 2010, will increase to $15.3b by 2013. In this regard, American Express established the Enterprise Growth Group, which has been made responsible for generating alternate sources of revenues in online and mobile payments. The company is moving forward with the EMV (Europay, Mastercard and Visa), a chip-based technology, which will be introduced in the U.S. in the second half of the current year, and is expected to significantly boost revenues in the coming years.

Source: World Payments Report 2011

Continued instability in debt stricken Europe could have adverse affects on the Payments Industry in general, and American Express in particular. Fears regarding liquidity and defaults of European banks would have a negative impact on consumer spending and corporate confidence. About 11% of the total billed business for American Express comes from Europe. Deterioration in the situation could spillover and impact the company's revenues.

Growth in future revenues would largely depend on penetrating the emerging, and mature, Asia-pacific markets, which have already demonstrated tremendous growth in non-cash payments, as also illustrated by the chart above. The company has made several partnerships, including the one with the Bank of China, to increase its inorganic expansion.

Financial Review (2Q2012 Vs 2Q2011)

The company reported a strong performance over the past five years. It did not post a loss during the credit crisis, while its 5-year sales, earnings per share and dividend growth were 3%, 7% and 5%, respectively.

Driven by low consumer confidence and sluggish card spending, American Express missed analyst estimates moderately. Although the results missed analyst estimates, they showed a slight improvement over the last year. The company earned $1.34b in the second quarter, which was 75bps above what it earned the last year. Its top line advanced by 5% to reach $7.96b. The company relied on its affluent customers, higher other revenues, and higher net interest income to post this surge in the top line, even as retail sales cooled in the U.S.

Provisions for losses were up by 29% to $461mn. Expenses for the second quarter this year rose by 2.3% to $5.6b, compared to the second quarter of the prior year.

Cardmember spending and cardmembers loan portfolio advanced by 9%, after adjusting for foreign currency translations, and 4%, respectively.

A segment-wise analysis revealed that income from Global Commercial Services increased the most (approximately 24%), followed by revenue growth of 15% for Global Network & Merchant Services and 11% for International Cards Services.

Revenues from U.S. Card Services increased by 7% to $4b, reflecting a rise in net interest income, largely due to a growth in cardmember loans and higher cardmember spending. Net income from the segment was up by 8% to $718mn.

The top line from International Card Services decreased by 4%. However, the bottom line surged by 11%, partially due to a 2% decrease in expenses. Expenses plunged due to lower promotion and reward costs and lower marketing costs.

Revenues from Global Commercial Services increased by 3%, largely due to higher cardmember spending. Earnings from the segment surged by a material 24%, partially due to a 1% decrease in expenses.

Global Network & Merchant Services, American Express' largest revenues generating segments, witnessed an earnings surge of 15% on revenues of $1.3b. Revenues increased by 7% from a year ago, reflecting higher earnings accruing from merchants.

The company has less financial distress, as its debt-to-equity ratio is 295%, which is below the industry standard of 355%. It has sufficient ability to service its interest payments, since its interest coverage ratio is 3.77x.

Dividends & Share Repurchases

The stock offers a dividend yield of 1.42%, which is marginally below the prevailing 10-year treasury yield. During the first quarter, it paid $234mn in dividends. Besides this, the company has a share repurchase program, under which it repurchased $233mn worth of shares during the first quarter of the current year. Under the repurchase program, AXP aims to distribute $4b during 2012, of which it has already spent $2b. It also aims to spend another $1b by the end of next year's first quarter.


The stock is trading at a discount to most of its peers with regards to both its book value and earnings. It is trading at a P/E multiple of 13.2x, which is at a 55% and 51% discount when compared to Visa (V) and MasterCard (MA). With regards to its P/B multiple of 3.37x, the stock is trading at a discount of 6% and 60% when compared to Visa and MasterCard .

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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