Discover’s New “it” Card Looks Lucrative But Will It Affect The Stock Price?

Discover Financial (NYSE:DFS) has started the new year on the front foot with the launch of a new credit card named Discover it ^TM. ^[1] The company’s website lists a number of features offered via the new card, but the line that stands out is that cardmembers will not be charged annual fees for the use of the card. Discover will look to attract market share in the U.S. credit cards market where it currently stands third in terms of cards in use with around 50 million cardholders. ^[2]

Our $38 price estimate for Discover Financial is in-line with the current market price.

See our complete analysis of Discover Financial here

Credit cards are Discover’s most important business, accounting for about 80% of the company’s revenues and gross profit. Around 66% of the revenues are derived from interest income from credit loans with another 16% coming from discount fees charged from merchants accepting Discover cards. Although the company is looking to expand its global operations, it earns most of its income from the U.S. It is currently in fourth place in terms of dollar volume of purchase transactions in the country behind Visa (NYSE:V), American Express (NYSE:AXP) and MasterCard (NYSE:MA).

Discover’s main competitor is American Express, as both companies issue their own cards through banking subsidiaries whereas Visa and MasterCard cards are issued by third-party banks. American Express charges an average annual fee of $45 per card. With its lucrative 0 annual fees offer, the “Discover it” card might help Discover increase the number of cards in circulation but the company is already ahead of Amex in this regard.  American Express has about 30 million cards in force in the U.S. but customers tend to spend more on Amex cards than on Discover cards.

According to the November issue of the Nilson Report, the dollar volume of transactions carried out via American Express credit cards in the first nine months of 2011 was over $432 billion on 2 billion transactions. For Discover, the dollar volume of transactions during the same period was $90 billion on 1.38 transactions. These figures indicate that Discover needs to promote spending on its credit cards.

The company has seen a healthy growth rate in sales volume over the last two years but this is primarily due to increased adoption of credit cards across the country. We currently forecast a low single digit growth rate for Discover’s sales volume in the coming years, but should the company be able to increase customer spend per credit card to even half the level achieved by American Express there might be an upside of 20% to the current price. You can modify the interactive chart below to gauge the effect a change in spend volume would have on our price estimate.

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1. Discover Launches Game-Changing New “it” Credit Card, Press Release, Discover Financial, 2^nd January, 2013 [↩]
2. Discover Financial, Wikipedia [↩]