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We initiated our coverage on Alliance Data Systems Corporation (ADS - Analyst Report) with Neutral recommendation. The stock carries a Zacks Rank #3 (Hold).

Why Neutral?

Alliance Data has made strategic acquisitions to grow inorganically. With the vision of obtaining a leading position in digital agency, Alliance Data purchased Hyper Marketing (HMI) group of companies in Nov 2012. With the addition of HMI, Epsilon will have brands including Mars, Unilever, The Home Depot, and Kellogg in its kitty. In Dec 2012, it also acquired Advecor Inc. Earlier the company acquired Aspen Marketing Holdings, Inc. in May 2011

ROI-based targeted marketing has equal weightage as conventional marketing and is projected to grow in the mid to high-single-digit rate annually. Therefore, it is a prudent decision for Alliance to acquire assets that have ROI-based targeted marketing and to thus solidify its position to capitalize on the opportunities offered by this segment of the market. As such in Jul 2010, it acquired Direct Marketing Services and Database Marketing divisions of Equifax, Inc.

The company’s growth trajectory seems impressive based on its inorganic story.

The dotz coalition loyalty program in Brazil, where the company has a 37% stake, continued its national rollout. It now operates in more than five markets with more than 8.2 million customers enrolled in the program. The company aims to enter four additional Brazilian markets in the second half of 2013. It is on track to exceed $100 million in revenues in 2013 and will have 10 million collectors by the end of the year.

Alliance Data remains focused to return value to its shareholders via share buybacks. In the first half of 2013, the company bought back 1.3 million shares for $208 million and currently is left with shares worth $192 million under its $400 million authorization.

On the tepid side, we are skeptical about Alliance Data’s dependence on limited clients for a major chunk of revenues besides increasing expenses. If magnitude of revenue growth lags pace compared to magnitude of increase in operating expenses, it might take a toll on operating margin expansion.

Moreover, the ten largest clients of the company generate a major portion of Alliance Data's revenues. A failure to retain these clients might be unfavorable for Alliance Data’s top line.

Other Stocks to Consider

Financial transaction services provider Fidelity National Information Services, Inc. (FIS - Analyst Report), Heartland Payment Systems, Inc. (HPY - Snapshot Report) and Total System Services, Inc. (TSS - Analyst Report) are also worth taking a look at. These stock carry Zacks Rank #2 (Buy).

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