Sell Visa. Now.

Let me get one thing out in front: Visa (NYSE: V  ) is a phenomenal company. I mean really, really good. High-quality. Strong moat. Well-managed. Sturdy balance sheet. The works. It's the epitome of what you should look for in long-term investments.

Alas, Visa's stock scares me silly. Why? Amid all the happy things you can say about the company, it's easy to overlook two important points:

  • Investors are infatuated with this stock. They seem to ignore the considerable uncertainty and risk that lie ahead. Now up more than 30% year to date, Visa's shares are priced for perfection and nothing else.
  • Visa's not invulnerable to the dwindling economy. In fact, it's extremely vulnerable to consumers' strength or weakness.

Before you send that hate mail, let me explain.  

Crazy for cards
To gauge investor sentiment on Visa's future, I pulled up analysts' earnings expectations for the next four years. Have a look:

Year

2009

2010

2011

2012

EPS Estimates

$2.83

$3.37

$3.95

$4.58

Source: Capital IQ, a division of Standard and Poor's.

This is pretty serious stuff. On average, it's an expectation of 17.4% annual growth, based upon predictions that Visa -- along with rival MasterCard (NYSE: MA  ) -- will ride a global shift from paper to plastic commerce. These assumptions are also based on a business model that accepts no credit risk. Unlike American Express (NYSE: AXP  ) or Discover (NYSE: DFS  ) , Visa simply makes money off transactions -- an inherently safe and lucrative business model. It's great work if you can get it.

And investors know this. They're so confident, in fact, that shares have been bid up to more than 24 times this year's earnings, and more than 20 times next year's.

Think about that for a moment, tend to your nosebleed, and acknowledge this point: Yes, earnings are expected to skyrocket, but shares are valued at a level that entirely reflects this. Growth -- even tremendous growth -- is already priced in.

Hence, meeting these lofty expectations will likely result in less-than-awesome returns. Here's a simple example: Say Visa meets 2011 earnings expectations of $3.95 per share, and still commands a multiple of 20 times earnings. Under these assumptions, it'll reward shareholders with annual returns of less than 8% per year -- nothing to sneeze at, but nothing to drool over, either. You can pick apart the assumptions all you'd like, but you'll be hard pressed to come up with anything that's both rational and spectacular. That's just the nature of stocks priced for perfection.

Here's where things get exciting
Now, curious investors will read the above and ask a simple question: What happens if things don't go as planned? What if growth doesn't materialize as investors imagine? This is smart thinking. Expectations of assured and unremitting growth are almost invariably wrong. Anyone alive over the past two years can relate.  

And with Visa, let me be blunt: I think the hype over its supposed explosive growth in the coming years is spectacularly overblown.

Why? Glad you asked.

As we speak, banks like Citigroup (NYSE: C  ) , Bank of America (NYSE: BAC  ) , and JPMorgan Chase (NYSE: JPM  ) are slashing credit card lines like their lives depend on it. One estimate tags this number at $2.7 trillion by 2010, which equates to the evaporation of 60% of the dollar amount of extended credit. The era of consumers' attachment to credit cards is simply toast.

This point is sometimes pooh-poohed by those who note Visa's dominance in debit transactions. Debit, they insist, will pick up where credit left off.

This is true to a point. But perspective is in order. While debit gets all the attention, credit is still responsible for around two-thirds of total payment volume. Some might argue that payment volume isn't the end-all profit driver, and that the number of transactions -- where debit is still king -- matters, too. This is true. But this source of revenue, called data processing fees, represents only 33% of total revenue, compared to nearly 50% captured by service fees, which is tied to payment volume.

Credit is still a main factor in Visa's bottom line, and that division is -- and will be -- weighed down by consumers adjusting to frugality and banks pulling credit lines. This point should not be ignored. It's big. It's real. And it's dangerous for investors to overlook. The growth expectations for which this stock is priced seem out of touch with the credit card industry's ongoing paradigm shift.  

Excitement, meet caution
Again, let me reiterate: I think Visa is a top-notch company. It really is. But there seems to be a disconnect between the odds of faltering and the odds of perfection. Even if my fear of credit annihilation is totally misguided, shares are still priced at levels that won't let investors fully capitalize on Visa success. Any way you spin it, I don't see how you can be excited about these prices.

Which is why I'll say it again: Sell Visa. Now.

Get a charge out of further Foolishness:

Fool contributor Morgan Housel doesn't own shares in any of the companies mentioned in this article. American Express and Discover Financial Services are Motley Fool Inside Value picks. The Fool owns shares of American Express.The Fool's disclosure policy wonders whether you take Diners Club.


Read/Post Comments (13) | Recommend This Article (36)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 10, 2009, at 12:43 PM, HidalgoTradingCo wrote:

    With transaction growth only increasing and the possibility of the European Visa getting added...and the fact that they beat numbers and are recession proof it seems like a very safe bet to climb on board this money maker for the next five years. Most will say it is still undervalued for it's true potential growth.

    It's a keeper. If you have not taken profits yet from the IPO and then bought backin at the dips then shame on you!

  • Report this Comment On June 10, 2009, at 2:27 PM, Ellisee wrote:

    I agree with the Bull, and unfortunately, I don't own any.

    Yes the transaction business is in transition, yet, the potential for growth among law abiding citizens is huge.

    If I have no need to hide income, Credit cards are incredible tools for simplifying life. Visa might have some sort of bad news that will kill the shares, but twenty times next year's earnings for an organization like Visa or google or coca cola with huge margins and low debt and low capital requirements is not hyper expensive.

  • Report this Comment On June 10, 2009, at 2:44 PM, chopchop0 wrote:

    Visa's debit and credit moat is quite large (particularly their debit moat).

    It's a high-quality business that is perfect for the buy-and-hold long-term investor.

  • Report this Comment On June 10, 2009, at 3:46 PM, masterN17 wrote:

    I agree with the bearish view on V, which is why I haven't bought any. I don't believe the price of the stock justifies the value of the company. Time will tell if this is true or false.

  • Report this Comment On June 10, 2009, at 3:48 PM, DRWHISKEY wrote:

    Ummm....did you consider that the EPS is misleading due to A) Visa's tempory elevated tax level and B) cash rich balance sheet.

    In fact, Visa is selling at just 11.7x EBIT 2009E. That's not a rich mutiple for a company like Visa.

    So, I suggest, do some more digging. EPS can be misleading....which is the case with Visa.

    So, I pooh-pooh your article since it's based on an economic reality that isn't so.

  • Report this Comment On June 10, 2009, at 5:02 PM, ekramer17 wrote:

    Visa was recommended as a short pitch on the GoodVibe Community CAPS blog two days ago. For the technical analysis, see http://caps.fool.com/Blogs/ViewPost.aspx?bpid=208543&t=0...

  • Report this Comment On June 10, 2009, at 5:02 PM, ekramer17 wrote:

    Comment #9 :)

  • Report this Comment On June 10, 2009, at 5:53 PM, sumbawa wrote:

    A P/E of 24 is expensive? Perhaps so, but the P/E of the S&P 500, based on 2009 EPS estimates, is currently above 20. So perhaps both V and the S&P are overvalued right now. However I think V is well above the average S&P 500 company in terms of quality, moat etc. Looks like one to buy on any dips.

  • Report this Comment On June 10, 2009, at 9:23 PM, tyhardison wrote:

    Looking at the future of the payment system... Positives will be the Visa rail into all the banks supporting the massive adoption of using your mobile phone to buy whatever you want. Negatives will be the challenge to the Interchange model thats driven double digit growth at V for decades. Will ACH or its next gen version be a worthy challenger? Visa is in a powerful position to adapt.

  • Report this Comment On June 11, 2009, at 7:28 AM, chrissolo9 wrote:

    What a dumb article. If you're investing while looking at a 5 year time period you are not an investor - you are a gambler (not necessarily a bad thing). Of course Visa may not explode as predicted in the next few years - but they will inevitably grow and 10 years from now the global use of plastic will have grown tremendously especially in in BRIC nations where Visa has a very strong position. 20 years from now the use of cash and checks will be extremely rare not just in the US but throughout the world. So I hope you all follow this short-sited author's advice. Sell Sell Sell so I can cheaply Buy Buy Buy.

  • Report this Comment On June 11, 2009, at 12:58 PM, minence68 wrote:

    I unfortunately will no longer be a subscriber nor refer any one to Motley Fool. I just don't get it anymore. Sell, sell, sell Visa?? I understand all your basis for your argument..... but I am CONSTANTLY brainwashed from everyone at Motley Fool to do things the Warren Buffet Way which is???? Buy and hold. Hold forever! Hold as long as you can. Go long. In fact I have NEVER read any other article from any other advise columns that talk about Warren Buffet as much as you guys do at Motely Fool. However, here you are telling us to sell Visa when it is undoubtly one of the greatest companies in the World with an incrdible business model. I don't believe anything you guys say anymore. I'll be laughing at you all the way to bank 20 years from now as a Visa Investor along with my other invesments.

  • Report this Comment On June 14, 2009, at 12:42 AM, majordm wrote:

    minence68

    i agree, wtf. 180 degrees on what grounds might i ask?

  • Report this Comment On September 22, 2009, at 10:27 PM, chopchop0 wrote:

    God I hope no one actually took this column's advice. Visa has been doing quite nicely :D

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