Why We Expect American Express’ Transaction Fees To Decline

-20.73%
Downside
221
Market
175
Trefis
AXP: American Express Company logo
AXP
American Express Company

American Express (NYSE: AXP) generates revenue from charging a fee on transactions made on its payment network. The fee is a sum of the amount paid to: 1) the acquiring bank, i.e. the bank which processes the payment for the merchant; 2) the payment network, which charges an amount for maintenance of communication systems, databases and servers used in any transaction; and, 3) the issuing bank, which is the bank a customer is responsible for paying for extending credit to them. Therefore, the trends in average transaction fee charged are a result of factors influencing each of these three fees.

axp tf

  • The commission charged by Acquiring Banks tends to be quite stable since these banks perform a task that is quite standardized. The task involved is settling transactions with the issuer and crediting the acquirer. There is not much differentiation in these services across industry, so these banks tend to charge a stable fee. The average fee across industry is 0.1% of the transaction size.
  • The amount charged by payment networks also tends to be constant across industry and will most likely experience a downward trend. The fee that these networks charge is a coverage charge for maintenance of the databases, servers and communication systems that they use for processing the transaction. Since the advent of cloud storage companies like Amazon Web Services, Microsoft Azure and Google Cloud, the costs of storage have been dropping precipitously and this should put a downward pressure on this amount. The average fee across industry is already 0.09% of transaction but could go even further down in the future.
  • The biggest contributor to transaction fees is the interchange fee charged by issuing banks, i.e. the bank extending credit to customers using the credit cards. It is here that American Express differs from other payment companies like Visa, Master Card and Discover. The company charges a much higher inter change fee than other competitors as it generally brings higher spending customers to merchants. Customers in turn spend more as they get access to discounts that the company manages to negotiate by entering into co-branding agreements with these merchants. Therefore, the two ways of expanding revenue generated from transaction fees are: 1) entering into more such partnerships and encouraging customers to spend more at these merchants; and, 2) expanding the number of cards in circulation. Both these methods are costly and put pressure on the company’s margins. The latter is the trend that we have been seeing over the past few years as American Express’ average transaction fee has been dropping as it reduces the commission it charges the retailers for the privilege of accepting American Express Cards. Also, a decline in Interchange Rate encourages retailers who accept multiple cards to accept American Express Cards, thereby increasing billed business on its cards.

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Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for American Express
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