American Express Can Be More Aggressive in Recovery

American Express (NYSE: AXP) is the third largest card issuer in the US behind Visa (NYSE:V) and MasterCard (NYSE:MA).  It offers credit and charge card products along with travel-related services to consumers and businesses across the globe.

American Express attracts more affluent card-holders on average than its peers due to its ability to cater to these customers better with benefits and rewards packages. Its other distinguishing factor is that it charges no fees on balances that are paid off within a certain grace period. As a result, American Express enjoys some of the lowest charge off rates in the industry.

Given its low charge off rates of around 4.4%, ^[1] American Express could issue cards more aggressively as the economy recovers in order to take advantage of an uptick in consumer spending. Even if we take into account higher charge-off rates, this could still lead to upside to the $47 Trefis price estimate for American Express, which stands roughly 10% above market price.

Lower Charge-Offs Give More Flexibility

American Express’s card transactions and payments processing business accounts for about 3/4ths of our price estimate. The company earns revenue in the form a fee charged to the merchant as a percentage of the transaction size.

The company does not charge interest on balances paid within a certain grace period. If these balances are not paid within 180 days past the due date, it is considered defaulted and classified as a charge-off. Hence, the charge-off rates determine the overall profits for any credit card issuer.

American Express, which has a more affluent customer base and has been conservative in issuing cards, has historically had the lowest charge-off rates, which might have helped American Express to limit losses during the recessionary 2008-09, when the credit card industry as a whole witnessed peak charge-off rates in excess of 10.6%, compared to the pre-recession average of close to 3.2%. ^[2]

As the US economy gradually recovers from economic downturn, the industry is witnessing a decline in charge-off rates. While this trend might have a significant positive impact to other credit card issuers, American Express has little to gain since its charge-off rates have always been the lowest.

This leaves American Express in the enviable position of being able to more aggressively issue cards than its competitors given its low charge off rates.

We currently forecast American Express-Issued Cards-in-Use in US to grow from 30 million in 2010 to 34 million by 2012, and to trend to 43 million over the forecast period. If however, American Express were to increase the number of its own Cards-in-Use in US to 35 million by 2012, eventually reaching 48 million by the end of our forecast, we expect a 6% potential upside to our current Trefis price estimate of its stock.

You can see our detailed $47 Trefis price estimate of American Express stock here.

1. Forbes: American Express Charge-Offs, Late Payments Fall [↩]
2. Bloomberg: Late Credit Card Payments Better in November [↩]