THE HEDGEYE EDGE
Financials analyst Josh Steiner has covered American Express (AXP) for a number of years, and has leaned short, but we think the short case is more glaring than ever.
- Accounting changes have helped to obfuscate the magnitude of those cost increases, but for how much longer? While this spend has fueled top-line growth, it begs the question whether this level of ongoing spend ramp is sustainable.
- Has AXP's target market of affluent, high-income earners been compromised by the entrance of large issuers with capital to deploy and expanded revenue opportunities to offset the increased cost of rewards programs?
- Can brand value combat this large and persistent competitive threat or has American Express' product offering reached full commodity status? As Visa and Mastercard, with their lower transaction costs, continue to expand acceptance among cardholders, do merchants face any significant consequence in forgoing American Express acceptance?
- With mounting pressure on the core business, can the pursuit of increased lending reliably drive sustainable future growth despite being more capital intensive, more cyclical, and lower return than the payments business?
- Alternatively, do bearish sentiments carry enough merit to dissuade investors from a stock trading at a slight discount to the S&P 500, with persistent mid-single digit, FX-adjusted revenue growth still largely achievable, and bolstered by strong capital return in the form of a ~3% annual share buyback and 1.25% dividend yield?
AXP reported second quarter GAAP EPS (diluted) of $2.07, up +12.5% Y/Y and +2% above street estimates for $2.03 / share. With pretax income up +6% Y/Y, the remainder of AXP's +12.5% EPS growth was driven by a lower tax provision and lower share count. Regarding consensus estimates, AXP booked a provision expense -14% below street numbers, powering the slight earnings beat.
Observing key operating metrics, non-interest revenues of $8.76B rose +7% Y/Y, in-line with consensus as a +17% growth in net card fees supplemented the +6% growth in discount revenues. Net interest revenues, however, rose +17% Y/Y as the company continues its pivot towards the more capital intensive, cyclical, and lower quality lending business. Provision expense registered -14% below street estimates, rising +7% Y/Y. Moreover, led by card member rewards and card member services, total expenses grew +9% Y/Y, one percentage point faster than total revenues, resulting in margin compression.
Pricing pressure continues to mount on AXP's core business as it bids to gain favor with merchants and defend its target market of affluent, high-income earners from the entrance of large issuers with capital to deploy and greater abilities to compete on rewards.
AXP has been a bedrock of value investors for decades, but we see increasing risks to key revenue drivers in coming years.
ONE-YEAR TRAILING CHART
