Discover Financial stock (NYSE: DFS) has lost roughly 21% YTD, as compared to the 22% drop in the S&P500 over the same period. Further, at its current price of $94 per share, it is trading 32% below its fair value of $138 – Trefis’ estimate for Discover Financial’s valuation. The credit card giant posted mixed results in the first quarter of 2022, with earnings beating the consensus but revenues remaining short of expectations. It reported total revenues of $2.9 billion – up 4% y-o-y, primarily driven by a 6% increase in the net interest income (NII). The NII benefited from a higher average outstanding loan balance and an improvement in net interest margin. Notably, the net interest margin rose due to lower funding costs. The above growth was partially offset by a 9% drop in the noninterest income, due to lower unrealized gains (losses) on equity investments. In addition to this, the provision for credit losses increased from -$365 million to $154 million in the quarter, because of lower reserve releases in the current period. Overall, it translated into a 22% y-o-y decrease in the adjusted net income to $1.2 billion.
The company’s top line increased 9% y-o-y to $12.1 billion in 2021. It was driven by a 3% rise in the NII, followed by a 31% rise in the discount & interchange fees and a $424 million gain on investments. Markedly, the NII contributes around 80% of the total revenues. The growth was mainly due to a recovery in the consumer spending levels driven by improvement in the economy and easing of the Covid-19 related restrictions across the world. Further, the firm reduced its provision for credit losses from $5.1 billion to $218 million. Altogether, the above growth in the top-line and a favorable reduction in the provisions figure translated into a 4x jump in the adjusted net income to $5.4 billion.
The inflation figures in the U.S. are at a record high level. To bring it under control, the Federal Reserve has taken an aggressive stance on the benchmark interest rates, increasing them thrice in 2022 with more to follow. While the rate hikes will likely benefit the net interest margin, the above factors coupled with the Russia-Ukraine crisis can push the economy into a slowdown, negatively impacting consumer spending levels. All in all, Discover Financial’s revenues are forecast to touch $12.6 billion in FY2022. Additionally, DFS’s adjusted net income margin, which increased from 10% to 44.3% in 2021, is expected to normalize to around 33% in the year. It will likely result in an adjusted net income of $4.1 billion and an annual EPS of $14.84. This coupled with a P/E multiple of just above 9x will lead to the valuation of $138.
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|S&P 500 Return||-8%||-22%||84%|
|Trefis Multi-Strategy Portfolio||-9%||-26%||190%|
 Month-to-date and year-to-date as of 6/23/2022
 Cumulative total returns since the end of 2016