Yesterday, we reiterated our Neutral recommendation on MasterCard Inc. (MA) given the current sustainability factor. The company’s fourth quarter operating earnings per share of $3.16 came in substantially ahead of the Zacks Consensus Estimate of $3.05 and $2.24 in the year-ago quarter.
Results for the reported quarter improved over the prior-year quarter primarily attributable to better pricing, an increased number of processed transactions, strong gross dollar volume (GDV) growth and a lower tax rate that also drove the operating margin. However, increase in rebates and incentives and slightly higher operating expenses were on the downside.
MasterCard continues to drive growth through increased cross-border volumes, improved pricing coupled with consistent growth of processed transactions. Besides, GDV growth also buckled up remarkably in 2010, after declining in 2009. These signs are encouraging as they account for key revenue drivers of MasterCard’s business.
Moreover, the debit card business continues to pose modest growth amid the global challenging environment. MasterCard brand mark appeared on approximately 297 million debit cards globally, growing 15.8% year over year in 2010. Going ahead, the company is expected to deliver further on this momentum once the global economy revives to its historical highs.
Additionally, MasterCard enjoys a strong cash, investment and operating cash flow with no long-term debt. This not only provides an operating leverage to the balance sheet but also provides acquisition opportunities as well as scope for liability reduction, acquisitions, stock repurchase and capital expenditure that will in turn enhance the long term growth.
However, the deteriorating credit quality due to the recent global crisis has adversely affected MasterCard’s credit and charge card growth. This also affects the GDV growth since consumer credit and charge programs represented 57% of total GDV in 2010, which is a significant portion. MasterCard brand mark appeared on approximately 648 million consumer credit and charge cards globally, marking a 2.4% year-over-year decline in 2010. Moreover, currency fluctuations along with higher rebates and incentives passed on to the customers and intermediaries also added to the woes. Although the GDV growth is recovering, uncertainty prevails over the consistency to significantly support the company’s top-line growth in the near future.
More significantly, regulatory measures enacted in the U.S. in 2009 have taken effect after the U.S. financial reform bill was passed in July 2010. In December 2010, this consumer protection Act proposed that the interchange fee on debit transactions, charged by banks on the merchants, should be restricted to about 7–12 cents, against the average debit card interchange fee of 44 cents charged in 2009. This profound slashing will hamper revenues of the banks, which in turn will affect the card companies as banks would now try to trim the fee that they pay to use the respective card networks. The Act also proposed that merchants will now have the choice of processing transactions through unrelated networks.
Such regulations may hamper the number of transactions processed coupled with the cost of such transactions, which is again a key growth component for the card companies. Moreover, a part of these costs will be shifted to the consumers, which tend to shrink consumer spending and risks a decline of transaction and payments volumes through its systems. While the actual effect of these regulations is not expected before mid-2011, the cycle of actions could turn out to be detrimental to the growth potential in the upcoming years.
Nevertheless, through a strong and strategic acquisitions and alliances such as the recent acquisition of Travelex and DataCash plc coupled with the Memorandum of Understanding with China’s UnionPay, MasterCard continues to strengthen its business model. Besides, the company is also diversifying its product portfolio through innovations that include e-commerce, mobile payments and smart cards in order to realign itself to capitalize on the most promising growth opportunities from both a geographic and product development standpoints. Such long-term growth strategies are also required for sustaining competitive pressures, primarily from Visa Inc. (V) and American Express Co. (AXP).
Overall, MasterCard benefits from strong secular demand growth, meaningful international exposure, high barriers, excellent pricing power and impressive operating leverage. Moreover, the above-average earnings growth, strong competitive position and leverage to an eventual economic recovery will result in a relative valuation premium. Further, strategic acquisitions and partnerships are well poised for long-term growth. However, we are concerned about MasterCard’s resilience and ability to raise prices, the detrimental effects of the reduction in interchange fees under the consumer protection Act and consistency in expense control.
AMER EXPRESS CO (AXP): Free Stock Analysis Report
MASTERCARD INC (MA): Free Stock Analysis Report
VISA INC-A (V): Free Stock Analysis Report
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