American Express (AXP, Financial), a 167-year-old and $70 billion financial services company, delivered 2.5% decline in revenue net interest expense to $7.9 billion and 13% profit decline to $1.24 billion in the first quarter –Â a 15.7% margin compared to 17.6% the same period last year.
“Our first-quarter performance marks a good start to the year with momentum in the consumer and commercial businesses in the U.S. and in key markets internationally.
“The results reflect many of the investments we’ve been making to grow the business plus continued progress in reducing operating expenses.
“Card Member spending grew 8%, adjusted for changes in foreign exchange rates and Costco-related business that was included in the prior year. Loans were up 11% and credit indicators remained best in class.
“We acquired 2.6 million new cards across our global issuing businesses during the quarter and continued to broaden our reach among millennials with an expanded merchant network and enhanced benefits and services to earn a greater share of their wallet.
“The last couple of years have been an important transition period, and we’ve entered 2017 stronger, more focused and more resilient. There is still work to do, but our underlying performance this quarter gives me added confidence in our ability to deliver our 2017 EPS outlook of $5.60 to $5.80 and position American Express for sustainable growth in the years ahead.” – Kenneth I. Chenault, chairman and CEO
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In addition, American Express reaffirmed its 2017 financial outlook of having an earnings per share (EPS) of $5.6 to $5.8 – 0.88% growth on midpoint comparison from fiscal 2016.
Valuations
American Express shares traded about at par when compared to peers. According to GuruFocus, the company had a trailing price-earnings (P/E) ratio of 14.2 times vs. the industry median of 14.5 times, a price-book (P/B) ratio of 3.4 times vs. industry 1.3 times and a price-sales (P/S) ratio of 2.3 times vs. industry 3.5 times.
The company had a trailing dividend yield of 1.6% with 23% payout ratio.
Average 2017 sales and EPS expectations indicated forward multiples 2.1 times and 13.8 times.
Total return
American Express shares have underperformed the broader index so far this year with 6.5% total returns compared to 9.5% (Morningstar). In the past five years, the company provided 9.3% total gains vs. the index’s 16.2%.
American Express
According to filings, American Express was founded in 1850. The financial firm is a global services company that has principal products and services that are charge and credit card products and travel-related services offered to consumers and businesses around the world.
American Express has four reportable operating segments: U.S. Consumer Services, International Consumer and Network Services, Global Commercial Services and Global Merchant Services.
U.S. Consumer Services
U.S. Consumer Services issues a wide range of proprietary consumer cards and provides services to consumers in the U.S., including consumer travel services.
In the first quarter, revenue excluding interest expense for the division fell 8% to $3 billion (largest revenue generator at 38% of total unadjusted sales – excluding corporate and other). The segment also delivered a profit margin of 15.5% compared to 21.2% the same period last year.
According to filings, the business segment registered falling revenue secondary to loss of the Costco-related revenue.
International Consumer and Network Services
This segment issues a wide range of proprietary consumer cards outside the U.S. and enters into partnership agreements with third-party card issuers and acquirers, licensing the American Express brand and extending the reach of the global network.
It also provides travel services to consumers outside the U.S.
In the first quarter revenue in this division grew 4.9% to $1.4 billion (17% of total unadjusted company sales) and had a profit margin of 15.8% compared to 14.3% the year-prior period.
Global Commercial Services
This division issues wide range of proprietary corporate and small business cards and provides payment and expense management services globally. In addition, the segment also provides commercial financing products.
In the recent quarter, revenue net expenses grew 2.7% to $2.48 billion (31% of total unadjusted sales) and reported a margin of 16.8% vs. 20.1% in the same quarter last year.
Global Merchant Services
This segment operates a global payments network that processes and settles proprietary and nonproprietary card transactions. It acquires merchants and provides multichannel marketing programs and capabilities, services and data analytics, leveraging American Express’ global closed-loop network.
The segment also operates loyalty coalition businesses in certain countries around the world.
In the first quarter, revenue net interest expense fell by 2.3% to $1.08 billion (14% of total unadjusted sales) and delivered a margin of 33.8% (most profitable among all segments) compared to 32.5% in the same period last year.
American Express again felt the decline secondary to the Costco-related business it once had.
Financial metrics
Net interest yield
Calculated as net interest income divided by average loans, which was 9.4% in the recent quarter compared to 8.9% the same period a year ago. On average, this measure of profitability was 8.6% in the past three fiscal years.
Return on equity
Return on equity (ROE) is the amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation's profitability by revealing how much profit a company generates with the money shareholders have invested (Investopedia).
In the quarter, ROE was 25.1% compared to 23.6%. This figure was 26.41% on average in the past three fiscal years (Morningstar).
Loan loss provision
Loan loss provision is an expense set aside as an allowance for uncollected loans and loan payments (Investopedia).
Total provisions for losses was $573 million in the recent quarter compared to $434 million in the first quarter of fiscal 2016.
Capital adequacy in Tier 1
Tier 1 Capital
Tier 1 capital consists of shareholders' equity and retained earnings. Tier 1 capital is intended to measure a bank's financial health and is used when a bank must absorb losses without ceasing business operations (Investopedia).
Under Basel III, the minimum tier 1 capital ratio is 6%, which is calculated by dividing the bank's tier 1 capital by its total risk-based assets.
American Express reported ratios corresponding to the company and its subsidiaries American Express Centurion Bank and Bank, FSB. In the recent quarter, Tier 1 ratio was 13.9%, 17.7% and 14.3%. This compares to first-quarter 2016’s 13.8%, 17.9% and 14.9%.
Common Equity Tier 1
Basel III requires banks to have the minimum Common Equity Tier 1 capital ratio of 4.5%.
In the same order, the company reported 12.7%, 17.7% and 14.3% in first-quarter 2017 compared to 12.6%, 17.9% and 14.9%.
Sales and profits
On a three-year average, American Express had a sales decline average of 0.87%, profit growth average of 0.3% and profit margin average of 16.3% (Morningstar).
Cash, debt and book value
As of March, American Express had $29.4 billion in cash and cash equivalents and $55.2 billion in borrowings with debt-equity ratio of 2.6 times compared to 2.4 times the same period last year. As observed, $5.34 billion in borrowings has been added while equity increased by $208 million in the same time period.
Meanwhile, book value has grown by one percentage point to $20.9 billion.
Cash flow
In the first quarter, American Express operating cash flow fell by 54% to $1.16 billion. In addition to lower profits, the firm had significant increase in cash outflow from its accounts payable compared to the first quarter of last year.
Capital expenditures were $277 million giving American Express $883 million in free cash flow. The company, nonetheless, paid out $1.24 billion in dividends and share repurchases in the quarter having an average (increasing) free cash flow payout ratio of 66% in the past three years.
According to filings, American Express repurchased 11 million of its common shares in the recent quarter at an average price of $77.93 –Â 0.7% lower than today’s share price of $78.49 (at the time of writing). In fiscal 2016, the firm repurchased 70 million common shares at an average price of $63.11, which was significantly lower than the current share price.
In addition, American Express borrowed $2.7 billion net repayments in the recent quarter.
Conclusion
Despite the haunting results of losing the Costco (COST, Financial) business, American Express does seem able to survive. Low to high single-digit percentage losses were recognized in segments involved in it. Despite the slowdown felt in more than half of the company's revenue-generating business, American Express’s international operations have somewhat offset this occurrence. Nonetheless, the company sees flat profit growth in this fiscal year.
Meanwhile, it carried a leveraged balance sheet despite having a good amount of cash at the same time.
Twenty-seven analysts have an average price target of $83.44 a share –Â 6.3% upside from today’s price of $78.49 per American Express share (at the time of writing). Meanwhile, using three-year revenue growth multiplied by three-year P/S average followed by a 20% margin indicated $70.9 a share.
In summary, American Express is a hold.
Disclosure: I do not have shares in any of the companies mentioned.
