Limited Downside Risk Going Into American Express Q4 2015 Earnings

  • American Express seems to be over the worst. An earnings beat could put a bottom to the stock here.
  • Some divisions are actually growing on a currency neutral basis. Negative top line growth seems to be fully priced into the current stock price.
  • Balance sheet is too strong for stock to decline meaningfully from here. Valuation and cash flow levels are extremely attractive at these levels.

At the moment it seems like things cant get any worse for American Express (NYSE:AXP). The stock is down almost 10% year to date which is on top of the 26% decline the stock suffered in 2015. American Express Q4 2015 earnings will be announced on the 21st of January and the consensus is an EPS of $1.13 a share which is down from $1.22 in Q4 2014. This stock gets hit immediately when partnerships fall through as the market is always forward looking and projecting top line losses from the lost partnerships. We saw this in 2015 with Costco (NASDAQ:COST) and JetBlue Airways (NASDAQ:JBLU) and 2016 is off to a horrible start with the loss of the Fidelity deal. The loss in income may be small from the Fidelity fall out but investors are nervous about possibly bigger losses down the road. Starwood Hotels & Resorts (NYSE:HOT), for example, looks increasingly precarious at the moment due to Marriott International (NASDAQ:MAR) taking it over recently.

The Marriot group has its own relationship with JP Morgan Chase (NYSE:JPM) and may decide to cut ties with Amex in order to amalgamate everything under one roof. Furthermore, the DOJ ruling definitely was a catalyst for Amex's stock decline in 2015 although things may be going in favor of the credit card company here. American Express initially lost its lawsuit against the US department of Justice last February but last month a US court granted a stay on the order meaning American Express can continue to forbid its merchant clients from steering customers to alternative (cheaper) forms of payment. I can see Amex now winning the ongoing appeal here and I must say I believe it would be the right decision. It always should be up to the customer when deciding the payment method and not the merchant. Merchants are always going to look out for their best interests but once the appeal is won, healthy competition in this market will return to take on Visa (NYSE:V) and Mastercard (NYSE:MA) who are dominating at present.

What investors need to remember here is that the EPS miss last quarter was not solely down to reduced business in the quarter. You also had elevated investment and the strong dollar which adversely affected the bottom line. However there are signs that the company's new initiatives are gaining traction. The credit card company has already signed up Sam's Club and Charles Schwab (NYSE:SCHW) which are huge merchants in their own right but the respective deal announcements did little to move the share price. Investors have to remember that an EPS of $5.41 is expected in 2016 which will be an increase on 2015 despite the negative sentiment the stock has endured. Furthermore, on a currency neutral basis, this company is still growing in many areas. Its international card services division for example (which is 15% of revenue) dropped to $1.2 billion last quarter despite higher net card fees being realized. Moreover, the company's bank partner's revenues (global network and merchant services division) fell 6% last quarter to $1.4 billion but in currency neutral terms, again revenues were up. Whats the takeaway here with dollar strength? It seems to be fully priced in especially when you compare this stock to other multi-nationals like Coca Cola (NYSE:KO) where volume gains in the face of falling earnings are keeping valuations high. American Express isn't availing of the same good fortune at present.

However, I just believe that American Express balance sheet is too strong for this stock to keep falling. Why? Because it rewards shareholders, period. Its trailing twelve month return on equity metric has remained elevated at over 27% which is encouraging. Furthermore, the company has approved a new share buyback scheme for the repurchase of 150 million shares. 18 million shares were purchased last quarter compared to 13 million in Q3 2014. This company is backed by very strong hands (Warren Buffet, etc) and the float now has been reduced to 984 million which means strong share buybacks now should put a floor under the stock price. In terms of being a value trap, I just don't see it. All its valuation metrics are much lower than both the industry it operates in and its 5 year average. Net income over the last 12 months tops $5.7 billion and long term debt is actually coming down. Also the company spits out almost $10 billion in cash flow every year and its current pay-out ratio is below 20%. Takeaway - dividends will continue to increase and buybacks won't slow down any time soon..

To sum up, American Express stock may have been treated harshly by the market recently but its troubles may be coming to an end. It was right to walk away from the Costco deal given the extremely low margins which would have increased risk long term. Furthermore, the DOJ ruling looks like it will be over turned which would be bullish for Amex. Emerging market growth combined with some weakness in the dollar could easily have the company beat earnings expectations for 2016. Downside for the American express stock looks limited from here.

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  • I do not have any business relationship with the companies mentioned in this post.
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