On the surface they're all just credit card companies, by virtue of all being in the card-payment business. Dig deeper though. Most of the major players in the industry are distinctly different from one another, with some of them even being dependent on one another.
And this reality translates into opportunity for Capital One Financial (COF +0.32%) following its recently completed acquisition of credit card company Discover. With this move, Capital One is positioned to threaten the dominant reach of Visa (V 0.42%) and Mastercard (MA 1.41%), while simultaneously putting more direct competitive pressure on all-inclusive competitor American Express (AXP 1.00%).
Here's what investors need to know.
It's (kinda) complicated
Contrary to a common assumption, they're not all the same.
Consumers rarely think about it, but the Visa or Mastercard cards likely to be in your wallet or purse are neither issued by Visa nor Mastercard. Although one or the other's name appears on the card, a bank like JP Morgan's Chase or Citigroup is actually the issuer, providing all the service (including the billing) your account requires. Banks simply need -- and pay -- Visa or Mastercard to facilitate your purchases using their payment networks extending out to tens of millions of retailers, restaurants, and other types of consumer-facing businesses all over the world. Capital One's cards either rely on Visa or Mastercard to serve as their point-of-purchase middleman.
Image source: Getty Images.
American Express and Discover are different. They're the card issuer as well as the payment network, although neither of their networks are nearly as big as Mastercard's or Visa's. Indeed, Capital One says Discover's network only facilitates about 2% of the United States' total card transactions, and only 1% of the entire world's. American Express's U.S. share is 11%, for perspective. The rest, of course, are Mastercard's and Visa's.
Still, while its business may be smaller, Discover is collecting more net revenue per transaction by not needing third-party payment networks like Visa or Mastercard.
And as of May, Capital One wholly owns Discover.
Casting a wider net
Capital One hasn't expressly said it, but it's pretty obvious where all of this is going -- the company intends to leverage both brand names as well as Discover's payment network to become a more complete and competitive player.
That's easier said than done. Even if the combined companies are willing to offer merchants better terms than Visa, Mastercard, or American Express, there are still significant challenges. Chief among them is reach, or lack thereof.
Even though Discover cards are accepted almost everywhere any credit cards can be used to make a purchase, clearly consumers remain far more comfortable with established names like Visa and Mastercard, and more familiar issuers like Chase or Bank of America. Again, Discover only handles about 2% of the nation's card-based purchases, while its 72 million worldwide cardholders are only a fraction of the 1 billion-plus that both Visa and Mastercard boast.
NYSE: COF
Key Data Points
Don't count Capital One out just yet though. It's still got a lever to pull. That's Capital One's huge customer. It's consistently one of the top five issuers in terms of total payments, total card balances, and total purchase volume. Merchants -- and U.S. merchants in particular -- can't simply pretend the company doesn't support a sizable chunk of their total revenue.
Capital One is also a chartered bank. It's not a massive one, but it's not an insignificant one either. Federal Reserve data indicates that with nearly $650 billion in total assets, Capital One is the United States' sixth-biggest banking entity, right behind U.S. Bank, and right in front of Goldman Sachs. Although it hasn't done a great deal yet in terms of offering traditional banking services, if it wanted to, it's certainly got the option of making itself something more like all-inclusive and fast-growing online-banking name SoFi.
More to the point for interested investors, Capital One's entire business ecosystem is increasingly complete, with some pockets of existing scale already in place. The weakest link is arguably its relatively tiny payment network. But, never say never.
It doesn't need the biggest payment network to reward shareholders
But the question remains. Is Capital One going to turn Discover's card-payment network into the country's biggest?
Probably not.
That's not a dig against Discover or Capital One. It's just realistic. Visa and Mastercard are deeply entrenched. Even American Express is established with its small but growing cardholder base. The market may not need a major fourth option; the business is pretty price-competitive already.
Nevertheless, for would-be investors there's little downside risk here, but a respectable degree of potential growth. It's unlikely Discover's payment network is going to get any smaller. Capital One does, however, have several tools in its toolbox it could use to expand its footprint. And even just growing it from its current share of 2% to a mere 4% of the U.S. market would double its size. That's not insignificant for the company even if it is insignificant for entire payment processing sliver of the business.
This might help convince you: Despite the stock's persistent bullishness since late 2023, the analyst community's consensus target of $255.52 is still 20% above the stock's current price. That suggests there's some underappreciated upside with the recent union of Discover and Capital One.
