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AmEx EPS Beats, Spending Climbs

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Yesterday, American Express Co. (AXP - Analyst Report), also known as AmEx, reported second-quarter 2012 operating earnings per share of $1.15 that was modestly higher than the Zacks Consensus Estimate of $1.10 and $1.07 recorded in the year-ago quarter.

Meanwhile, net income from operations edged up 3% year over year to $1.34 billion from $1.3 billion in the year-ago period. However, no extraordinary items were recorded during the reported quarter, while income from discontinued operations of $36 million or 3 cents per share was recorded in the year-ago quarter.

AmEx continues to benefit from an improved credit quality with an increased usage of cards and fewer defaults, across all business segments. Superior market network and moderate growth in spending and loan portfolio also drove the net interest income. However, healthy top-line and earnings growth were partially offset by higher-than-expected provision for losses and expense growth, higher tax rate and lower return on average equity (ROE).

AmEx’s total billed business, or global card spending, continued to witness improvement in the U.S. and beyond climbing 7% year over year to $221.6 billion. After adjusting for foreign currency translations, card spending grew 9% year-over-year. The increase came from international cards-in-force that rose about 11% year over year to $48.9 million while cards-in-use grew 3.0% year over year in the US.

Behind the Headlines

AmEx posted total revenue, net of interest expenses, of $7.97 billion, up 5% year over year from $7.62 billion. However, the revenues fell short of the Zacks Consensus Estimate of $8.11 billion. The upside in revenues was supported by moderate growth in card spending, net interest income and the loan portfolio. Further, lending balances and yield exhibited stability.

Provisions for losses were $461 million, surging 29% from $357 million in the prior-year quarter. The increase was driven primarily by larger reserve release in the year-ago period, partially offset by lower net write-offs in the reported quarter.

However, AmEx’s total expenses edged up 2% year over year to $5.63 billion in the reported quarter, reflecting an escalated cost of card member services and other operating expenses that were partially offset by radical decline in market and promotion expenses and card member rewards. Even tax escalated 29% from 27% in the year-ago quarter, as the company realized some foreign tax credits.

Segment Results

U.S. Card Services reported a net income of $718 million, up 8% from $665 million in the prior-year quarter. Total revenue, net of interest expenses, increased 7% to $4.0 billion from $3.8 billion in the year-ago quarter.

International Card Servicesnet income came in at $178 million, escalating 11% from $161 million in the year-ago quarter. However, total revenue, net of interest expenses, came in at $1.3 billion, down 4% from the year-ago quarter, driven by low net interest income.

Global Commercial Servicesnet income jumped 24% to $219 million from $177 million in the prior-year quarter. Total revenue, net of interest expense, increased 3% year over year to $1.2 billion, reflecting higher spending by corporate card members, while business travel commissions and fees remained stable.

Global Network & Merchant Services reported a net income of $372 million, up 15% from $324 million in the prior-year quarter. Total revenue, net of interest expense, increased 7% year over year to $1.3 billion, driven by higher merchant-related revenues.

Corporate & Other reported net loss of $148 million compared with a net loss of $32 million a year ago. The results in the year-ago quarter included settlements worth $70 million and $150 million with Visa Inc. (V - Analyst Report) and MasterCard Inc. (MA - Analyst Report), respectively.

Financial Update

As of June 30, 2012, AmEx’s total assets stood at $148 billion (down from $153 billion at end of 2011), while long-term debt totalled $56 billion (down from $60 billion) against cash of $22 billion (down from $25 billion). Meanwhile, shareholder’s equity totalled $19 billion at the end of the reported quarter, unchanged from 2011-end.

As of June 30, 2012, AmEx’s ROE was 26.6%, down from 28.2% in the year-ago period. Return on average common equity (ROCE) was 26.3%, dipping from 27.9% in prior-year quarter. Return on average tangible common equity was 34.1%, also down from 36.1% in the comparable quarter last year. However, book value increased 11% year over year to $16.92 per share.

Dividend Update

On May 10, 2012, AmEx paid a regular quarterly dividend of 20 cents per share to shareholders of record as on April 5, 2012. In March 2012, this dividend was hiked by 11% from the prior 18 cents, which was sustained even during the recession period.

Our Take

Despite a challenging regulatory environment and volatile economic outlook that sparks near-term concerns, AmEx is expected to continue to create valued accretion in its interest income and loan portfolio. The company has been able to improve its risk profile through its spend-centric business model and creditworthy customers. We believe that the company’s focus on product diversification such as no-fee prepaid cards along with other innovative card products is contributing to the upside.

Moreover, AmEx has been upgrading its digital payment platform through strategic alliances, which is not only expanding the company’s card membership base and billings but is also helping it penetrate the unexplored market and tap the upcoming opportunities in the field of e-commerce. Going ahead, the company appears to initiate disciplined expense management with the termination of the settlement payments with MasterCard and Visa in 2011.

As a result, we maintain our long-term Neutral recommendation on the stock with a Zacks Rank #3, which implies a short-term Hold rating.

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