Visa Earnings: Margin Expansion Drives Profits, New Clients To Accelerate Growth

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Early on November 2nd, Visa (NYSE:V) announced its earnings for its fiscal fourth quarter and year ending September. [1] Continuing its streak of good performances, the company met consensus expectations in Q4, with earnings per share of $0.62 [2]. Much like rival MasterCard (NYSE:MA), which came out with quarterly results last week, Visa’s business growth remained strong in the past three months despite global economic headwinds. Overall, in fiscal 2015, faster growth in net revenues (11% y-o-y) than operating expenses (5% y-o-y) led to an expansion in margins by 2 percentage points and eventually a double-digit growth in adjusted earnings.

Along with the FY 2015 earnings, the company also announced the long-awaited acquisition of its European counterpart, Visa Europe [3]. By expanding into the world’s second-biggest card market, Europe, Visa will extend its lead over competition in terms of scale, which is a key driver of competitive advantage in the industry.

Also, in the last few quarters, Visa has been successful in winning contracts from key clients who earlier had longtime relationships with some of its competitors. As a result, the company expects growth to significantly accelerate in the latter half of fiscal 2016. Below, we discuss some key trends observed in the concluded fiscal as well as Visa’s expectations for the coming 12 months.

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Our price estimate of $70 for Visa’s stock is about 10% below the current market price. We are in the process of updating our model.

See our complete analysis of AmEx’s stock here

Strong Renewals And Key Client Acquisitions

So far in 2015, Visa has completed renewals with some of its top clients including Southwest Airlines and United Airlines, and Wells Fargo and U.S. Bank. The company now has partnership agreements in place with five of its top six clients until at least 2020, which sets it up well on the long-term growth path. The renewal momentum is expected to continue into the first quarter of FY 2016 as activity picks up in Visa’s international markets.

A more significant boost to revenues will come from new clients with which Visa has signed contracts in the last few quarters. In February, it was the Costco deal followed by the more recent contract with USAA. Together, these two companies brought in more than $70 billion in payments volumes in 2014, which indicates the magnitude of these client wins. Benefits from the USAA conversion are expected to reflect in the company’s financials as soon as Q2 FY 2016 (Jan’16 to Mar’16), while those from the Costco will be realized towards the end of fiscal 2016.

More importantly, these wins came against competitors MasterCard and American Express (NYSE:AXP). With a higher share of the payments market, Visa will be able to distribute its technology costs over a wider base, which should in turn help the company offer more competitive fee rates to its clients.

Synergies From Visa Europe Acquisition Will Offset Capex Increase

Going forward, Visa plans to invest in several growth initiatives such as Visa Checkout, Visa Token Service and other strategic programs. While similar key technology and customer service activities have historically been outsourced, the company plans to bring them in-house in the long term, which will involve significant capital outlays. Moreover, Visa will also incur significant costs as it sets up operations in China.

Fortunately, synergies generated from the recent acquisition of Visa Europe will help offset some of the expected cost increases. The management highlighted that the partnership with Visa Europe is unique in that the two companies already work together on multiple levels and share a number of operational practices. This will likely result in a smoother integration of the two companies and more certainty around the realization of expected synergies.

Most of the cost savings are expected to be derived from technology integration of the two companies, which will largely be realized in 2017. Including savings from organizational integration and all revenue and cost synergies, Visa is targeting a total of $200 million in cost savings by 2020. With market share gains and margin improvements, Visa’s position in the payments market is only expected to increase.

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Notes:
  1. Visa Earnings Press Release []
  2. Nasdaq []
  3. Reuters []