Most of us would consider several hundred dollars to be a big spend at popular retailer Costco Wholesale (NASDAQ:COST), but banking giant Citigroup (NYSE:C) just filled its shopping basket with over $1 billion worth of goods.
The merchandise in question is the co-branded, Costco True Earnings credit card loan portfolio currently managed by American Express (NYSE:AXP). This is a big piece of business. Let's see what's behind it, and who stands to gain the most from the deal.
Last year the "don't leave home without it" credit card giant left its position as Costco's exclusive payment card of choice, plus the co-branding partner of the True Earnings card. The deal between the two companies had been in force since 1999, but was up for renewal, and they couldn't agree on new terms.
Visa (NYSE:V) was chosen as Costco's one accepted card brand, while Citigroup got the job as the co-branding partner for the retailer's credit cards (which will carry the Visa brand). All eligible current AmEx/Costco cards will port over to accounts maintained by Citigroup.
Both arrangements were contingent upon Citigroup reaching a deal to buy out AmEx from its contract with Costco. Late last month, it did. Terms of the sale were not specified, but AmEx did say it expected a gain of around $1 billion. The deal is expected to close in June.
It almost goes without saying that the loss of Costco exclusivity was a hard blow to American Express. It's about to vaporize a partner that was responsible for roughly 20% of the payment card company's overall loan portfolio.
Although AmEx has managed to drum up new business -- with brokerage Charles Schwab and Walmart unit Sam's Club -- both its fundamentals and its share price have yet to recover from the loss.
It'll book a nice gain from the sale of the card portfolio to Citigroup, but this is a one-time item and it doesn't change AmEx's underlying fundamentals. Stripping out the deal's anticipated take from fiscal 2016 guidance reveals that the company is projecting a decline in core profit.
For Citigroup, the immediate future is sunnier. Sure, $1 billion (or thereabouts) is a mountain of money to you and me, but Citi won't have a problem writing that big of a check -- the monster bank's net interest income alone was almost 50 times that number in fiscal 2015.
Costco will also benefit mightily from the new arrangement. It can use the win too, as it's posted year-over-year earnings declines in both of its last two quarters.
Once the dust settles and the new arrangements are in place, Costco's fundamentals should recover, and pleasantly so. Not least because it inked a sweetheart of a deal with Visa that will see it pay almost zero in swipe fees for purchases.
Plus, since Visa cards are much more numerous than AmEx plastic, the retailer has access to a much larger group of cardholders. The potential benefits of this are obvious.
Know when to hold 'em, know when to fold 'em
So how does the longer-term future look for the three players involved in Costco's big card game?
AmEx will probably continue to struggle with growth, but it's a dynamic company with a good business, and it should recover eventually. Citigroup, a veteran card issuer, will do just fine with the co-branded Costco plastic, although this will constitute a relatively small part of its sprawling, multi-national business.
As for the retailer, it's probably going to do best of all. It's getting plugged into the most extensive card payments network in town and is paying peanuts to use it. Before long, the earnings erosion of the recent past should be nothing but a fading memory.