After a 66% rally off the March bottom, Mastercard’s stock (NYSE: MA) looks fully valued based on its historic P/E multiples. Mastercard, the second-largest global payment solutions company in the world, has seen its stock rally from $203 to $338 off the recent bottom compared to the S&P which moved around 50%. The stock is leading the broader markets as investors are positive about a rebound in consumer demand over the coming months, leading to higher transaction volumes. Notably, the market has witnessed some negative movement since early September due to a bout of profit-booking after a strong run – MA’s stock is down 6%. However, it is still up 14% from levels seen in late 2019.
Mastercard’s stock has partially reached the level it was at before the drop in February due to the coronavirus outbreak becoming a pandemic. This seems to make it fully valued as, in reality, demand and revenues will likely be lower than last year.
Some of the rise of the last 3 years is justified by the roughly 57% growth seen in Mastercard’s revenue from 2016 to 2019, which translated into a 100% growth in the Net Income figure. Notably, the net income dropped in 2017 mainly driven by higher income taxes due to the enactment of the U.S Tax Act. Further, the net income margin improved from 37.7% in 2016 to 48.1% in 2019, as general & administrative (G&A) and advertising expenses decreased in terms of % of revenues.
While the company has steady revenue and earnings growth over recent years, its P/E multiple has increased. We believe the stock is unlikely to see a significant upside after the recent rally and the potential weakness from a recession-driven by the Covid outbreak. Our dashboard ‘What Factors Drove 235% Change In Mastercard Stock Between 2016 And Now?’ has the underlying numbers.
Mastercard’s P/E multiple changed from around 27x in 2016 to just above 37x at the end of 2019. While the company’s P/E has increased to about 42x now, there is a downside risk when the current P/E is compared to levels seen in the past years – P/E of 37x at the end of 2019 and around 33x as recently as late 2018.
So what’s the likely trigger and timing for the downside?
Mastercard is a payment processing giant that provides a variety of services to support credit, debit, and related card solutions of over 24,000 financial institutions globally. The company generates revenue by charging fees for transaction processing and other services. The company derives around 22% of its revenues from International Fees and 34% of its revenues from transaction processing fees. Due to the lockdown restrictions and travel bans in the first and second quarters of the year, both these revenues streams have suffered – the company reported a 19% y-o-y drop in revenues for Q2 2020. However, the economy is likely to see some improvement in Q3 and Q4 as lockdown restrictions have been eased in most parts of the world. This is also evident from the recently released consumer spending data which suggests an m-o-m growth of 8.5%, 5.6%, and 1.9% in May, June, and July respectively. Despite this, it is likely to take some time for the transaction volumes to recover to the pre-Covid levels and Mastercard’s Q3 results are likely to be lower than the year-ago period.
The actual recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard Trends In U.S. Covid-19 Cases provides an overview of how the pandemic has been spreading in the U.S. and contrasts with trends in Brazil and Russia. Following the Fed stimulus — which set a floor on fear — the market has been willing to “look through” the current weak period and take a longer-term view. With investors focusing their attention on 2021 results, the valuations become important in finding value. Though market sentiment can be fickle, and evidence of an uptick in new cases could spook investors once again.
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