<THE RULE MAKER PORTFOLIO>
Reviewing American Express
Part I of II
By Bill Mann (TMF Otter)
ALEXANDRIA, VA (September 7, 1999) -- This is my first report for the Rule Maker Portfolio, so I thought I'd make a clean start by going over one of the companies to see if it would still qualify for Rule Maker status. To review, the Rule Maker seeks to identify the best and the brightest companies and hold them for a decade. This strategy puts a premium on our ability to select companies with the best long-term growth potential.
Of course, this is the beauty of the Rule Maker investment strategy. We do not have to worry about the next big thing, nor do we have to keep up our membership in the "Church of What's Happening Now." We pick the best companies and we stick with them.
Nevertheless, it is always helpful to review one's choices. So, as a periodic exercise, I'm going to review each company using the original criteria set out by Tom Gardner in Rule Breakers, Rule Makers.
Soooo, without further adieu, let's get underway re-analyzing American Express (NYSE: AXP). This is a fairly involved process, so I'm going to break it up into a two step process, examining the qualitative aspects of the company today, and then looking at the numbers tomorrow. Kind of like the Verbal and Mathematical portions of our Financial SATs.
For those who are interested in going deeper into the subject, I highly recommend the original buy report for AmEx, written by Dale Wettlaufer.
First, a performance review: in the 16 months since we bought American Express, it has returned over 33%. The annualized compound return of 24% is slightly lower than the total portfolio return of 26%, but still ahead of the S&P's return of 21%. All in all, AmEx has been a strong performer thus far.
So let's get down to brass tacks, shall we? These are the criteria set out as Rule Maker necessities:
1) Dominant Brand -- AmEx certainly fits the bill in at least two areas: Traveler's Services and Small Business Services. AmEx is also by far the largest Charge Card company in the world (as opposed to Credit Card company -- more on that later). In the Travelers' Services arena, AmEx traveler's checks have become the world standard, and increasingly are the only ones certain establishments will accept. The only companies with much presence at all are Citigroup (NYSE: C) and privately held Thomas Cook Group. American Express leverages its brand name with an unmatched worldwide presence. Finally, American Express is the dominant force in business charge accounts, holding more than 50% of all accounts.
AmEx trails both Visa and MasterCard in the personal credit market, but again, we must recall that although AmEx provides credit services through its Optima brand, the majority of AmEx's Charge Card services are simply business facilitation, not revolving credit. AmEx offers quicker settlement terms with merchants, and in turn the company requires customers to pay off their debts in full each month.
AmEx's dominant position is secured by its marketing prowess. The company utilizes the information it gathers from its customers' spending habits to "narrowcast" merchant services to specifically targeted sets of consumers. In effect, AmEx tracks the spending habits of all of its cardholders and compiles this data for sale to company clients for advertising campaigns targeted toward the types of customers most likely to purchase these clients' products. These corporate clients remain willing to pay AmEx a premium in part for its ability to improve their return on advertising investment. This combination of consumer and company client services allows AmEx to earn more than 2.5 cents for each dollar charged on its cards.
2) Repeat-purchase Business -- Perhaps the strongest area for AmEx is its "stickiness." This is particularly true for its small business services. At no additional charge, AmEx small business customers are given powerful accounting and itemization tools to help them track spending. This tool develops tremendous brand loyalty, as customers have a strong enticement to remain loyal to AmEx on a transactional and long-term basis to avail themselves of AmEx's expense management systems. This is the added value the company brings to its charge card and is a factor that keeps AmEx out of the commodity trap. For companies or individuals with a high incidence of Travel & Entertainment expenses (T&E), AmEx's automated services offer a tangible benefit, one that encourages incredible brand loyalty and repeat business by decreasing the time and trouble of expense reporting.
3) Convenience -- For companies and persons with high T&E expenses, there may not be any service more convenient than that offered by American Express. As the example in the last paragraph showed, AmEx's expense management system offers a valuable service to cardholders by reducing the time spent generating expense reports. Further, a frequent traveler's first line of convenience more times than not begins with American Express. The company has an unparalleled travel resource center with offices located in cities throughout the world. These offices offer travel agencies, concierge services, exchange bureaus, cardholder services, and travelers check services all under one roof.
AmEx makes a strong case for the convenience of a vertically integrated service company. It provides such a slate of inter-related services that a consumer could conceivably handle all of his/her financial needs through AmEx. Need a broker? (Gosh, we hope not, dear Fool!) An accountant? A bank? Insurance? Credit? Asset Management? All right here under one roof.
4) Expanding Possibilities -- The tendency of individual investors to focus upon current earnings, or worse, current share price, misses the boat in one crucial truth, that the share price is based not upon current earnings, but future earnings. This is most important for the Rule Makers. By focusing on existing dominant companies, we are electing to invest in companies for whom the most explosive growth is in the past. So, each Rule Maker must show that it has the ability to further leverage itself into new or growing markets.
American Express is positioned in certain areas where growth potential is extremely large. In the buy report, Dale Wettlaufer pointed out several growth areas, but one of the most important may be in its small business services. According to the trade magazine Credit Card Management, AmEx has nearly 35% of the addressed market, but 85% of this market of $600 billion is as of yet unaddressed. That is an enormous amount of growth potential, and that is only one portion of AmEx's total business growth strategy. Growth also will arise from the fact that, in many countries, plastic is replacing cash as the preferred purchase mechanism. Another growth avenue is in the continued globalization of banking and credit services. For these reasons, significant continued growth for AmEx is -- to put it mildly -- a plausible scenario.
For years, AmEx was known as a status symbol card, one which maintained a fairly high level of snob appeal by enforcing strict membership criteria. This strategy was scrapped in the '80s and early '90s, as it became a hindrance for further market expansion. As a result, 1997 marked the first time in decades that AmEx gained in market share. The turnaround came thanks to an improved marketing focus and the popularity of the Membership Rewards program.
5) Your Familiarity and Interest -- I can't answer this one for you. This is the odd bedfellow of the qualitative factors, as it is the most subjective. With every other factor, you can choose to put on rose colored glasses, or you may hold your nose and flush, determined that you see nothing good about the company, but there's no getting around this one. You either know AmEx and are interested in it, or you don't and are not. Since you have read this far, I'll either assume that you are interested, or you really need to find a hobby. I'll give you a few minutes to noodle this rule yourself.
[tap, tap, tap]
Okay, that's long enough. Still with me? A frank analysis of your own understanding of and interest in a company will dramatically improve the likelihood of long-term success in investing. If you know a company, you know the potential benefits and pitfalls. If not, it's all guesswork, baby -- better let the dart-throwing monkey do the selecting for you.
Well, that's the first five items, and American Express continues to excel in all of them. (Well, I'm interested in the company, at least. If you're not, I'd like to congratulate you on being able to eliminate another company as a potential investment.)
Okay, Fools, pencils down. Tomorrow we'll focus on the math portion of the AmEx Rule Maker Aptitude test, and then put it all together to examine the potential for the company to provide market beating returns for the foreseeable future.
One quick note: Today, the Rule Maker Port finally consummated its purchase of additional shares of Cisco Systems (Nasdaq: CSCO), as announced last Monday. Our 7 new stubs of the networking giant were bought mid-afternoon at a price of $71 3/8. Toss in the $7.95 commission and our total purchase was $507.58. Matt held out till the last of our allotted five trading days before pulling the trigger. He sheepishly admits that he was hoping for a dip in the stock, but it never happened. Goes to show you the value of trying to time your entry point into a stock. We Fools sometimes make mistakes, but at least you can learn from them. That's what our real-money portfolios are all about.
Finally, The Motley Fool Radio Show's Labor Day special was a big hit thanks to our interviews with some of you hardworking Fools who hold an amazingly diverse array of jobs. We got e-mails from hog farmers, romance writers, amusement park ride builders, soil scientists, wedding musicians, and stay-at-home Dads, just to name a few. One e-mail was from the woman who talked about how great of a guest her neighbor would be... he's a horse dentist! We'd like to thank all of you who sent e-mails regarding your unusual jobs. And if you happened to miss the radio show, or if it's not broadcast in your area, you can tune into the archive right here.
- Rule Maker Strategy Board
- Rule Maker Companies Board
- Rule Maker Beginners Board
- Rule Maker Ranker Spreadsheet (Excel 97, 68k)
- Rule Maker Ranker Spreadsheet (Excel 95, 41k)
- Rule Maker Essentials Spreadsheet (Excel 95 or 97, 53k)