Shares of debit-card companies MasterCard (MA 0.78%) and Visa (V 0.59%) were on a tear in fiscal 2013. As a result, their valuations have skyrocketed considerably. Other leading bank-card stocks such as American Express (AXP -1.04%) and Discover Financial also made huge gains, yet their valuations remain within healthy ranges.
MasterCard in particular looks quite pricey, which has investors worried about where the shares will go from here. This is perfectly understandable given the company's latest earnings miss, which led to a huge sell-off of the shares.
MasterCard badly missed the consensus earnings estimate for the company in the fourth quarter of 2013. Investors expected earnings of $0.60 per share; MasterCard only managed to chalk up just $0.52 per share on net income of $623 million. The number does not look too bad when you exclude the $61 million after-tax expense that's related to merchant litigation, but this results in earnings of $0.57 per share, which is still below the consensus.
MasterCard has wild currency fluctuations in its Asian market to blame for its poor results. The company's gross dollar volume, or GDV, growth in this region would have come in at a healthy 20% when calculated on a local-currency basis. However, once you factor in forex adjustments it drops to just 14%.
It looks like everything that could have gone wrong for MasterCard certainly did go wrong. While its net revenue grew by 11%, this was more than offset by a huge 23% increase in rebates and incentives as the company went out on a limb to sign new agreements that will help it expand its business.
Although the bankcard industry as a whole performed well, we should avoid the kind of Pollyanna thinking that assumes that the tide lifts all boats and that MasterCard will continue to soar and be carried along by the good fortune of its industry peers. Visa and American Express have easily exceeded investors' expectations lately, and MasterCard's shares have benefited as a result. MasterCard's less-than-ringing results just as easily undid these considerable gains, and interestingly dragged Visa along in the mire. Only the underlying fundamentals of the company will dictate the long-term outlook for its shares.
Although MasterCard seems to have outdone itself as far as disappointing investors goes, the company really has very good long-term growth prospects.
Healthy U.S. growth
MasterCard reported a worrying decline in U.S. growth, which fell from 9% in the third quarter to 7% in the fourth quarter. Visa also reported a 2% slowdown in U.S. growth. American Express, however, saw a healthy 9% jump in card-member spending. This problem was not of MasterCard's making in any way, since it can be pinned on inclement weather that led to a huge 15% drop in customer traffic in the months of November and December.
Card penetration is already very high in the U.S. with more than 60% of personal consumption expenditures, or PCE, in the country consisting of non-cash transactions. Thus, growth in this market largely depends on consumer sentiment. The good news, however, is that recent figures released by the U.S. Department of Commerce have revealed that Americans are loosening their purse strings now. Personal savings calculated as a percentage of disposable income has fallen from 6.6% in 2012 to just 4.9% in 2013. Unemployment levels have also been steadily falling and the level was below 7% in the month of December. At the same time, wages and salaries improved 4% from 12 months ago.
These positive trends will have huge positive impacts on card companies such as MasterCard and Visa. MasterCard has 337 million cards in the U.S. and it is solely responsible for a good 10% of PCE in the country. The company recently completed an agreement with Chase Bank regarding its commercial card portfolio in the U.S., and it has also extended its partnership with Citibank. Trefis analysts expect MasterCard to sustain 7%-8% U.S. growth in the coming years.
Better international prospects
MasterCard relies very heavily on international business to obtain its revenue. More than 70% of its GDV derives from international markets. This makes MasterCard more vulnerable to international currency fluctuations than Visa, which has much less international exposure. For instance, MasterCard generates 28% of its revenue in Europe, while Visa gets just 2% of its revenue from this region. With the sovereign debt crisis easing and the European economy and currency strengthening, MasterCard stands to benefit.
MasterCard's management recently expressed its fears that a slowdown in the Chinese economy, the second-largest in the world, might negatively impact its growth in the Asia-Pacific region. However, the debit card company can still leverage its huge presences in the emerging economies of Brazil, Mexico, Russia, India, South Africa, and the UAE. Electronic payment use in these countries is well below 60%, and PCE growth has averaged a blistering 10% across these nations in the last 10 years. Thus there is ample room for growth for MasterCard.
Significant transaction growth ahead
MasterCard can grow by either increasing its GDV or by increasing its volume of transactions. The company recently completed the acquisition of Provus, a Turkish provider of issuer and acquirer services. MasterCard also announced tie-ups with Belgian Telecom Company, or BICS, and mobile money solutions provider eServGlobal. These ventures will provide money transfer services in 50 countries.
Visa also stands to benefit from the improving macro-economic conditions in its main U.S. market, and to a lesser extent the rapidly expanding emerging economies. Several analysts, including Barrons analysts, predict that Visa's growth will outpace MasterCard's growth in 2014 and 2015. Since Visa's shares currently trade at a considerable discount to those of MasterCard, it's therefore quite likely that Visa's shares will gradually trade up to approach MasterCard's valuation as the quarters roll on.
American Express delivered stellar fourth-quarter and full-year fiscal 2013 results. Better still, the company's billings are expected to grow considerably in tandem with the recovering U.S. economy. Management says that Amex's billings grow at about 4.5 times the U.S. economic growth rate. The company's cards have a very low fraud rate due to the closed-loop network American Express operates, and this makes them very popular, especially with higher-end clients.
Although MasterCard's latest results were nothing to write home about, investors should treat this as one of the usual comeuppances that all companies have to deal with every now and then. The company still has plenty of room to grow, and its shares remain great investments.