The term "credit score" is tossed around like it's going out of style. Even with the plethora of knowledge available on improving this crucial statistic of financial well-being, many consumers fail to pay off their debt.
According to Statistic Brain, which verifies reports through the Federal Reserve and TransUnion, 56% of consumers carried an unpaid balance in the past 12 months. This isn't good for certain aspects of the economy, but some companies are cashing in on those unpaid bills and excessive spending -- companies such as Capital One Financial (NYSE:COF) and Discover Financial Services (NYSE:DFS).
Between expanding banking operations and increasing credit card loans, these two companies are strengthening their brands among the financial juggernauts.
If you ask regular television viewers about Capital One, they'll probably recall humorous commercials led by Alec Baldwin and the simple slogan, "What's in your wallet?" The commercials are about the company's credit cards, but on the banking side, Capital One is taking online banking to a new level in encouraging customers to save.
Transformed from ING Direct (which added over 7 million customers), the new Capital One 360 offers checking accounts that yield interest, access to AllPoint ATM machines nationwide, and no fees or minimum balance. Along with savings accounts and an affordable investment service, Sharebuilder, Capital One has been busy integrating its new brands.
Beyond the newer offerings, consumers have been catching on to the company for some time, as it has compiled over 74 million customer accounts in less than 20 years. Customer satisfaction is so high that Neiman Marcus has agreed to a multi-year extension of its private-label credit card, part of the high-end retailer's loyalty program. Capital One's pursuit of credit card partnerships has proven successful and should translate to increased profits.
Capital One may be smaller than the big boys of the Dow Jones, but it holds its own with over $296 billion in total assets. The stock trades at a discount to book value, and its P/E of about 9 is approximately 25% lower than the average in the financial sector.
The company reduced credit losses and increased revenue 12% in the second quarter, but more importantly for investors, it piled up $2.5 billion in cash last quarter. This cushion should allow Capital One to stay true to its goal to hire 2,100 employees by the end of the year and help investors rest easy in the long term.
Capital One has built a strong brand, but like most credit card providers, it partners with third parties such as Visa and MasterCard for payment processing. However, Discover, which has lending operations and its own closed-loop network, has been soaring as well, with shares up over 22% for the year.
Morningstar calls Discover the "poor man's American Express (NYSE:AXP)" because it targets middle class individuals. If the news during the financial crisis and the last presidential election didn't make it evident, middle class citizens make up a vast portion of the U.S., even though the term is used more broadly than ever.
As the economy slowly recovers, Discover is chugging along because it relies on credit card loans and personal loans for the majority of its profits. Second-quarter earnings reported the former up 5% and the latter up 22%. With net profit at $602 million, the company is far from a "poor man."
When investors are searching for safer investments in the financial sector, they may be hesitant of lenders because delinquency risk can hinder profits. However, Discover's customers have proved diligent because late loan payments are sitting at just 1.5 percent. If customers stay this conservative while the stock remains at a forward P/E less than 10, it may be time to join the club.
Don't forget the VIP
As mentioned earlier, some consumers are struggling to pay off debt, but customers of American Express do not have this problem. The larger closed-loop network and lenders relies more on making money off of customer fees rather than loans. Along with being a symbol of high class, American Express offers exceptional customer service and pairs with successful brands such as Delta Airlines and, more importantly in my book, Costco.
American Express generates annual sales of almost $34 billion, and its wholesale goods partner will carry it when households get stingier. People love to buy in bulk in an effort to save in the long run, and the AmEx/Costco card has been a popular choice there for almost 15 years.
If you apply the same thought process to your investments, the stock may have room to grow, even being up over 25% in 2013. Ignore the "end of the bull run" cries and focus on the average earnings growth of over 5% over the past decade. There are new kids on the block, but this credit card champion isn't slowing down any time soon.
Kyle Vaughan has no position in any stocks mentioned. The Motley Fool recommends American Express, Costco Wholesale, MasterCard, and Visa. The Motley Fool owns shares of Costco Wholesale, MasterCard, and Visa. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.