One of the most important economic stories of the last five years is the decline in consumer debt burdens. Called "deleveraging," household debt has plunged from its peak in 2007 as consumers defaulted on loans that never should have been made and paid off what they could. As a percentage of household income, debt payments are now at the lowest level since Ronald Reagan's first term.
The numbers are impressive enough, but we have to ask: What can we do with them? What companies might they benefit?
One is MasterCard (NYSE: MA ) .
Here's the story.
MasterCard has an incredible card-processing business, sharing a virtual duopoly with rival Visa (NYSE: V ) . MasterCard's operating margin has averaged 49% over the past five years. Return on equity has averaged 43% since 2009. Try to find other large-cap companies with similar metrics. You'll struggle.
The financial crisis barely nicked MasterCard's business. Since 2008, payment volume -- the total amount of transactions processed -- has grown an average 9.1% per year, and the number of transactions processed grew an average of more than 11% per year. Remember, this was during one of the worst financial disasters in recent memory. It's phenomenal performance.
But what I like most about MasterCard is where it's been somewhat weak. That's where the opportunity lies.
MasterCard's debit card business has boomed for the last five years. But credit card transactions have been a drag on growth -- a consequence of deleveraging, which pushed consumers away from credit cards:
But there's good news. With debt deleveraging coming to an end, the weight on MasterCard's credit card division should ease. And that could make its already-phenomenal results that much better.
U.S. credit cards make up 15% of MasterCard's total volume. If that segment returns to 8% growth -- equal to nominal GDP growth plus a small amount of "releveraging" as consumers begin borrowing again -- a full percentage point of growth could be added to MasterCard's purchase volume.
Management knows U.S. credit holds opportunity. In a recent conference call, CEO Ajay Banga noted:
We know that U.S. consumer credit is what we have to work on. We have got a series of things that we've been doing over the last period of time to try and improve the trajectory of our U.S. consumer credit spend growth ...
I think [consumers] are still behaving the way they choose to behave which to use their debit when they want and their credit when they want. They have affected more by overall trends in the economy. So, I think as the U.S. economy continues to recover generate jobs and the like you will probably see an increase in credit spending that may be faster than debit.
MasterCard trades at 20 times next year's earnings estimates. That's rich. But is it too rich? Earnings have grown at an annualized rate of 21% for the last four years. And growth should pick up with the end of deleveraging. When thinking about MasterCard's valuation, keep in mind what Charlie Munger once said:
If a business earns eighteen percent on capital over twenty or thirty years, even if you pay an expensive looking price, you'll end up with one hell of a result.
MasterCard is a wonderful business with a moat as strong as ever. Despite a rich price, shareholders could end up with one hell of a result.
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