1 Troubling Trend at Visa

Lean and mean. The credit card business doesn't need a lot of upfront capital to run, or to run successfully -- as evidenced by MasterCard's (NYSE: MA  ) $13 billion in assets and market valuation of $88 billion.

Yet for two of the major industry's companies to compete, they offer incentives to their clients -- which is the money paid out to partners so the partners will keep using their cards.

Both Visa (NYSE: V  ) and MasterCard have partnerships with hundreds of companies -- whether it be a bank such as Bank of America, a retailer such as Amazon.com, or even the NFL -- to provide their credit cards and the associated processing of transactions, as well as other services. For example, you could be a Bank of America customer with a credit card from Visa, and a debit card from MasterCard.

In Visa's most recent annual report, it notes in the first line of its "Core Operations" discussion that the company gets its revenues "primarily from fees paid by our clients based on payments volume, transactions that we process, and other related services we provide." MasterCard similarly says that it generates revenues "by charging fees to our customers for providing transaction processing and other payment-related services and assessing our customers based on [gross dollar volume] on the cards and other devices that carry our brands."

Both Visa and MasterCard emphasize the relationships they have with their partners -- and one way to quantify that is to see how much they're paying out in the form of client incentives (in the case of Visa) and rebates and incentives (in the case of MasterCard). Each of these items are reported as contra-revenues, meaning they aren't realized as an expense, but are instead directly subtracted out of the total revenue number.

Visa has often paid out significantly less in the form of incentives to its partners than MasterCard -- but that gap narrowed significantly in the most recent quarter:


Source: Company earnings reports.

Visa's payouts shot up by more than 20% for the quarter ending in September relative to the one in June, versus just an 8% gain at MasterCard. As a result of the ballooning client incentive payouts at Visa, its top line revenue fell relative to the prior quarter:

 Quarter

Visa

MasterCard

Q3 2012

$2,731

$1,918

Q2 2013

$3,001

$2,096

Q3 2013

$2,973

$2,218

Source: Company earnings reports. Revenue in millions.

This would normally not be a major cause for concern, but the actual transaction volume -- typically what dictates the payout amount -- was up, but not nearly as dramatically:

 Quarter

Visa

MasterCard

Q3 2012

$1,007

$677

Q2 2013

$1,089

$735

Q3 2013

$1,104

$763

Source: Company earnings reports. Purchase volume in billions.

The purchase volume at MasterCard was up 13% versus just 10% at Visa, even though Visa had a much greater increase in the client incentives it paid out, which is somewhat troubling.

There was little discussion in Visa's earnings announcement as to why the client incentives increased so dramatically, and its latest annual report noted that the intention behind these incentives was to "build payments volume, increase product acceptance, and win merchant preference to route transactions over our network." While an increase in these incentives is no reason to consider selling Visa (or not buying it to begin with), it will be important to monitor how this progresses into the future -- because if Visa has to shell out more money for its clients to use its cards, it could face trouble in the future.

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Editor's note: A previous version of this story incorrectly stated: "MasterCard has often paid out significantly less in the form of incentives to its partners than Visa." The Fool regrets the error.


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  • Report this Comment On November 04, 2013, at 11:03 PM, PeteH66 wrote:

    So, you've either mislabeled your blue v. green "Client Incentives" graph, or your data shows Visa with LOWER incentive costs compared to MC throughout. Also the Visa jump from 2Q13 to 3Q13 (as labeled) is 30%, not the 20% you report.

    This means either the MC sales jumps are related to increased incentive payments (assuming you mislabeled the blue-green chart), or Visa's increasing incentive payments, lagging MC's, have not resulted in sales increases relative to MC (assuming your labels are correct).

    Tough to draw a conclusion.

  • Report this Comment On November 04, 2013, at 11:18 PM, Mega wrote:

    "MasterCard has often paid out significantly less in the form of incentives to its partners than Visa -- but that gap narrowed significantly in the most recent quarter:"

    I think this line is backwards as Pete noted.

    It is an interesting catch. I would guess Visa renegotiated some big contracts and this is a new normal level.

  • Report this Comment On November 05, 2013, at 9:05 AM, TMFMorris wrote:

    Great catch guys -- thanks for noting this. The correction has been made.

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