If the rich get richer, which seems to be the case now more than ever, then credit card companies catering to the rich get richer too (check out Barron's most recent cover story). American Express (NYSE: AXP) confirmed this with another strong quarter.
Penny pinching
AmEx missed analyst expectations by a penny or two (depending on who you ask) per share. In addition, during the conference call, CFO Gary Crittenden noted that interest income could lag as well-timed interest rate hedges roll off, and that loan loss expenses would face tougher comparisons due to the fact that bankruptcy regulatory changes made last year's comparisons easier, and this upcoming year's more difficult.
However, AmEx seems to be in a class of its own and produced strong results once again. For the quarter, the U.S. card segment's sales increased 18% -- echoing Capital One's (NYSE: COF) strong performance in this area. Global Network and Merchant Services continues to benefit from a favorable 2004 ruling against Visa and Mastercard (NYSE: MA) that effectively brought AmEx into the banking network. Since then, AmEx has partnered with big banks like Bank of America (NYSE: BAC) and Citigroup's (NYSE: C) Citibank. For the quarter, this segment increased sales 20%. The laggard was the 6% growth in the international segment, which sold off some foreign operations.
In total, AmEx grew sales 13% over the fourth quarter of last year. Operating expenses generally grew in line or faster than revenues; however, most of the expense increase was offset by a 4% decrease in loan loss provisions and a 10% increase in marketing expenses. This doesn't bode well for near-term results because, as previously mentioned, loan losses could creep up as the benefits from the bankruptcy regulatory changes wear off. However, this boosted net income for the quarter by 24%, to $922 million.
AmEx's management expressed a great deal of optimism about its small-business segment, where industrywide credit card penetration was only 15%, compared to U.S. consumer and international consumer credit card penetration of more than 40% and 25% respectively. AmEx also noted its business with Costco (Nasdaq: COST) was going well, as was its Blue card.
Investors with long-term horizons shouldn't be bothered by the somewhat pessimistic near-term outlook. AmEx has one of the widest economic moats in the world, evidenced by its scintillating return on average equity, which increased 9% to 34.7%, due to the spinoff of the lower-returning Ameriprise (NYSE: AMP). AmEx's virtue is that it has a vise-like grip on the big-spender crowd. As a result, AmEx can charge merchants more to accept its credit cards -- and merchants are forced to accept AmEx if they want access to those big spenders. And big spenders tend to spend more and pay off their debt. As a result, AmEx grows faster than the industry, thanks to ever-increasing purchase volume by its cardholders, and it can spend more on advertising to attract more and more cardholders. Not only that, but AmEx can also spend more on rewards for its cardholders. The result is a self-reinforcing cycle that keeps AmEx's returns on capital so high. In a recent presentation by Capital One (another stellar performer in the industry), American Express was the best performer among its peers in organic U.S. card growth and U.S. purchase volume growth, and had the lowest charge-off rate. Not bad. As a result, I'm rooting for the stock to fall so I can buy some shares.
For some more credit card commentary:
MasterCard is an Inside Value recommendation, Costco is a Stock Advisor recommendation, and Bank of America is an Income Investor recommendation. Check out our full suite of newsletter services for any investing appetite.
Fool contributor Emil Lee is an analyst and a disciple of value investing. He doesn't own shares in any of the companies mentioned above and appreciates your comments, concerns, and complaints. The Motley Fool has a disclosure policy.
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