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Discover Financial Services (DFS)

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Discover Financial Services' (DFS) second quarter earnings surpassed the Zacks Consensus Estimate but lagged the year-ago earnings due to lower reserve releases, which offset higher revenue and interest income. Nevertheless, higher transaction and credit card sales volumes as well as record-low delinquency and charge-off rates were positives.

Dividend increment and share buyback also injected optimism. The company's strong inorganic growth policy and introduction of home loan products are expected to boost revenues and diversify the product portfolio, although regulatory restrictions and higher expenses could weigh on the margins.

Overall, the company's extensive network, sound capital position, stable ratings, rapidly expanding acceptances and cost-containment initiatives will help accentuate growth over the long term. Our six-month target price of $44.00 equates to 10.5x our earnings estimate for 2012. Given the annual cash dividend of $0.40, this price target implies an expected total return of 19.8% over that period.

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