Card companies Visa (V +1.23%), MasterCard (MA +1.76%), Discover Financial Services (DFS +0.00%) and American Express (AXP +1.79%) handily beat the S&P 500 in fiscal 2013 with solid share gains. Visa was up 36%, MasterCard gained a massive 61%, Discover Financial Services climbed 37%, and American Express shot up 46%. In comparison, the S&P 500 was up 30%, its best year since 1997. Although dividend stocks routinely outperform their non-dividend paying brethren, growth stocks with modest dividends but potentially greater runways for growth -- such as Visa -- are good long-term investment tools.
Visa is not your classic dividend champion, yielding just 0.8%. What Visa lacks in hefty dividends it makes up for in other key arenas: it commands the best gross margin among the four card companies with a healthy 43%, and the highest net income of the four. Visa finished fiscal 2013 with a $5 billion net income, a huge 18% jump over last year's figure, while its full-year net income grew 23% to $7.59 per diluted share. Visa looks like a good growth stock, and its valuation relative to MasterCard's still looks quite cheap.
Despite its recent run-up, Visa still has some upside potential.
Income and dividend growing exponentially
Since its maiden year in the market, Visa's income and dividend have grown at a sweltering pace. Its income before taxes has more than doubled since 2009 to hit $7.2 billion in 2009. This sustained growth is part of the reason it was inducted into the Dow Jones in 2013.
Visa's bottom-line grew at an even faster clip than its top-line, with its dividend more than tripling over the same timeline, to stand at $1.32 in fiscal 2013.
Visa has totally eclipsed MasterCard as far as dividend yield goes, with 0.8% vs. MasterCard's 0.3%. Its dividend payout ratio of 17.4% is more than double MasterCard's 7.1%, and close to American Express' 19.6%.
Valuation matters
Visa has grown at a compounded annualized growth rate,or CAGR, of 14.6% over the last six years. Over the same period, its operating margin excluding litigation averaged 55.3% while its incremental margins averaged 79.7%. After adjusting for litigation charges in both fiscal 2012 and 2013, Visa's free cash flow improved to 6.9 billion from 4.8 billion in 2012, a 44% improvement.
Visa's ongoing litigation concerns are perhaps the biggest reason investors are a bit wary of the stock. Even though MasterCard is plagued by similar issues, investors seem to have given it a get-out-of-jail free pass.
Despite the Visa's healthy growth, its trade at a 1.3 times discount relative to MasterCard when you consider their forward P/E multiples. Visa started trading at a considerable discount to MasterCard after the historic July 31 ruling that invalidated Fed rules capping debit interchange rates. That period also coincided with a time when Visa's earnings growth lagged MasterCard's.
But the tables now have turned -- and it's Visa that's exceeding investors' expectations for growth, with MasterCard playing the laggard. Visa's latest earnings report beat consensus estimates, while MasterCard's failed to meet them. In fact, investors were so spooked by MasterCard's below-par earnings report that a huge sell-off of the 'kings of plastic' ensued, with MasterCard's shares tanking a huge 5%. Visa was pulled down by MasterCard's less-than-ringing results and fell 2.1%.
MasterCard had earlier predicted that it was going to grow its top-line at 11% to 14% between 2013 and 2015. The indications now, however, are that the company will more likely than not grow its revenue at the lower end of that forecast. Meanwhile, Visa reiterated its earlier growth forecast for 2014, and expects earnings to grow in the mid-to-high teens range, while its revenue is expected to grow in the low double digits. Its operating margin is expected to stay in the healthy 60% plus range.
With several analysts, including Barrons, predicting that Visa's bottom-line growth will outpace MasterCard's in 2015, the current disparity between the shares of the two companies will likely be gradually wiped off as Visa trades up to approach MasterCard's valuation.
U.S. growth on recovery path
Visa still holds pole position as the dominant card company in the U.S. The firm has roughly 12,000 issuer clients within the U.S., and long-term contracts with more than 600 financial institutions. The huge exposure to the American market slowed down Visa's growth in the first half of fiscal 2013 as the market gradually adapted to the Durbin amendment to the Dodd-Frank bill.
Visa saw a 7% decline in U.S. debit payment volume in the last quarter of 2012, which was followed up by a further 4% decrease in the first-quarter of 2013. The firm was, however, able to reverse this negative trend around mid-year 2013, and managed to post an impressive 10% volume growth in the fourth-quarter of 2013.
Although electronic payment solutions in the U.S. already account for 60% of personal consumption expenditures, or PCE, implying a somewhat limited room for growth, the improving macro-economic conditions should drive more volume growth for Visa in the coming years.
Foolish Bottom-line
Visa's impressive growth is expected to continue in 2014 and beyond. With it trading at a significant relative discount to MasterCard despite this outlook, Visa shares are poised to post some serious growth of their own.
