THE CREDIT CRISIS AND THE DEEPENING RECESSION have dealt a double blow to American Express , which has long been viewed as one of the globe's leading financial companies, due to its enviable card business and consistently high returns.
AmEx shares are off 61% this year to 20 -- back where they stood in 1997 -- and much of the drop has come since mid-September, when the stock traded at 40. Wall Street worries about the company's reliance on credit-markets funding, rising losses on its credit-card loan portfolio and weakening consumer spending worldwide.
These concerns are legitimate, but the market may have overreacted because AmEx should have enough liquidity even if credit-market conditions remain tough in 2009. The company is likely to be solidly profitable next year, even if losses spike on its $75 billion credit-card loan portfolio.
It helps that AmEx's biggest fan is Warren Buffett, whose Berkshire Hathaway is its largest stockholder with 151 million, or 13%, of the company's shares. The combination of AmEx's attractive franchise and Berkshire's stake suggests the company's stock may be near a bottom.
AmEx hasn't needed to turn to Berkshire for help because it's well capitalized compared with most major banks and brokerages, and may avail itself of various government-liquidity facilities to meet maturing debt. AmEx recently got approval to become a bank-holding company, and it is possible AmEx could merge with a bank in the next year to more quickly achieve its goal of getting a significant share of its funding from deposits.
AMEX ALSO REPORTEDLY has sought about $3.5 billion of capital under the Treasury's TARP program. That capital -- 5% preferred stock with warrants -- is more attractive to AmEx than the terms Buffett would exact.
Buffett couldn't be reached for comment -- and he rarely talks about potential investments -- but our sense is he'd probably pump in several billion dollars in new capital if needed. Berkshire also might be willing to buy the whole company if AmEx's financial condition unexpectedly deteriorates. AmEx's market value has shrunk to $23 billion, making it easily digestible for Berkshire, even assuming Buffett pays a premium. Berkshire's market value is $155 billion. Buffett usually likes paying cash for businesses, but he might be willing to make an exception and issue Berkshire equity in the case of AmEx.
Buffett knows and loves AmEx, having first invested in the stock during the 1960s. Its appeal lies in a business model based on generating fee income from consumer and business spending on American Express cards, rather than profits from a credit-card loan portfolio. More than half of AmEx's annual revenue comes from the fee charged to merchants -- now averaging about 2.5% -- on purchases made with American Express cards. Spending on the cards worldwide should top $700 billion this year, up from $647 billion in 2007.
Looking out a year, the stock could hit 30 if the company navigates the credit crisis and looks on track to earn in 2010 anything close to its target of a 30%-plus return on equity. That would imply profits of over $3 a share; it's earned a 27% return on equity so far this year.
NEXT YEAR'S PROFITS are apt to fall, along with those of most big financial companies. The Wall Street consensus for '09 of $2.50 a share seems high. We're assuming $2 a share, down from an estimated $2.59 a share this year.
Even under the gloomy scenario of Barclays Capital analyst Bruce Harting, AmEx will remain in the black next year. He cut his '09 estimate last week to $1.60 from $2.25 a share. Harting assumes that charge-offs on AmEx's domestic card-loan portfolio average 9.2% in 2009, up from 5.9% in the third quarter and 3% a year ago. He also assumes domestic spending on American Express cards falls 5% in 2009, compared with a 7% increase in the first three quarters of 2008.
AmEx CEO Ken Chenault is considered among the best financial-services executives, but he erred in rapidly expanding the U.S. credit-card portfolio in recent years to $64 billion from $38 billion in 2004. AmEx's credit-card loan losses are rising. The loss rate on AmEx's charge-card portfolio remains low at just 0.33%.
"This company can weather a huge hurricane and come out fine," says Vitaliy Katsenelson, head of research at Investment Management Associates in Denver. "American Express is one the simplest financial companies to analyze. It's much more transparent than Citigroup or JPMorgan or Goldman Sachs."
He argues that the government safety net removes a key risk with AmEx: funding. AmEx has relied on commercial paper and on securitization of credit-card loans, two markets that are difficult now to access. AmEx says it's comfortable about its ability to refinance some $24 billion in debt maturing in the next year.
The company's ratio of tangible common equity to what it calls "managed" assets of $156 billion -- which include credit-card loans financed with debt and securitizations -- is 6%, versus 4% for Goldman Sachs.
It's understandable that investors shun AmEx because of the company's exposure to the credit markets and the consumer. While next year is likely to be difficult, the company should come through in good shape. And if things get really tough, Chenault probably can pick up the phone and find a willing listener in Omaha.
Source
AmEx shares are off 61% this year to 20 -- back where they stood in 1997 -- and much of the drop has come since mid-September, when the stock traded at 40. Wall Street worries about the company's reliance on credit-markets funding, rising losses on its credit-card loan portfolio and weakening consumer spending worldwide.
These concerns are legitimate, but the market may have overreacted because AmEx should have enough liquidity even if credit-market conditions remain tough in 2009. The company is likely to be solidly profitable next year, even if losses spike on its $75 billion credit-card loan portfolio.
It helps that AmEx's biggest fan is Warren Buffett, whose Berkshire Hathaway is its largest stockholder with 151 million, or 13%, of the company's shares. The combination of AmEx's attractive franchise and Berkshire's stake suggests the company's stock may be near a bottom.
AmEx hasn't needed to turn to Berkshire for help because it's well capitalized compared with most major banks and brokerages, and may avail itself of various government-liquidity facilities to meet maturing debt. AmEx recently got approval to become a bank-holding company, and it is possible AmEx could merge with a bank in the next year to more quickly achieve its goal of getting a significant share of its funding from deposits.
AMEX ALSO REPORTEDLY has sought about $3.5 billion of capital under the Treasury's TARP program. That capital -- 5% preferred stock with warrants -- is more attractive to AmEx than the terms Buffett would exact.
Buffett couldn't be reached for comment -- and he rarely talks about potential investments -- but our sense is he'd probably pump in several billion dollars in new capital if needed. Berkshire also might be willing to buy the whole company if AmEx's financial condition unexpectedly deteriorates. AmEx's market value has shrunk to $23 billion, making it easily digestible for Berkshire, even assuming Buffett pays a premium. Berkshire's market value is $155 billion. Buffett usually likes paying cash for businesses, but he might be willing to make an exception and issue Berkshire equity in the case of AmEx.
Buffett knows and loves AmEx, having first invested in the stock during the 1960s. Its appeal lies in a business model based on generating fee income from consumer and business spending on American Express cards, rather than profits from a credit-card loan portfolio. More than half of AmEx's annual revenue comes from the fee charged to merchants -- now averaging about 2.5% -- on purchases made with American Express cards. Spending on the cards worldwide should top $700 billion this year, up from $647 billion in 2007.
Looking out a year, the stock could hit 30 if the company navigates the credit crisis and looks on track to earn in 2010 anything close to its target of a 30%-plus return on equity. That would imply profits of over $3 a share; it's earned a 27% return on equity so far this year.
NEXT YEAR'S PROFITS are apt to fall, along with those of most big financial companies. The Wall Street consensus for '09 of $2.50 a share seems high. We're assuming $2 a share, down from an estimated $2.59 a share this year.
Even under the gloomy scenario of Barclays Capital analyst Bruce Harting, AmEx will remain in the black next year. He cut his '09 estimate last week to $1.60 from $2.25 a share. Harting assumes that charge-offs on AmEx's domestic card-loan portfolio average 9.2% in 2009, up from 5.9% in the third quarter and 3% a year ago. He also assumes domestic spending on American Express cards falls 5% in 2009, compared with a 7% increase in the first three quarters of 2008.
AmEx CEO Ken Chenault is considered among the best financial-services executives, but he erred in rapidly expanding the U.S. credit-card portfolio in recent years to $64 billion from $38 billion in 2004. AmEx's credit-card loan losses are rising. The loss rate on AmEx's charge-card portfolio remains low at just 0.33%.
"This company can weather a huge hurricane and come out fine," says Vitaliy Katsenelson, head of research at Investment Management Associates in Denver. "American Express is one the simplest financial companies to analyze. It's much more transparent than Citigroup or JPMorgan or Goldman Sachs."
He argues that the government safety net removes a key risk with AmEx: funding. AmEx has relied on commercial paper and on securitization of credit-card loans, two markets that are difficult now to access. AmEx says it's comfortable about its ability to refinance some $24 billion in debt maturing in the next year.
The company's ratio of tangible common equity to what it calls "managed" assets of $156 billion -- which include credit-card loans financed with debt and securitizations -- is 6%, versus 4% for Goldman Sachs.
It's understandable that investors shun AmEx because of the company's exposure to the credit markets and the consumer. While next year is likely to be difficult, the company should come through in good shape. And if things get really tough, Chenault probably can pick up the phone and find a willing listener in Omaha.
Source
Posts
No comments:
Post a Comment