The big three credit card companies — Visa Inc (NYSE:V), Mastercard Inc (NYSE:MA) and American Express Company (NYSE:AXP) — all recently reported quarterly earnings, and all three showed robust growth from the previous year. Rising consumer confidence, the decline of cash transactions, and the growth of e-commerce have all contributed to the rise of plastic. Since all three companies have comfortably outperformed the S&P 500 over the past five years, should investors consider switching all their cash to plastic to reap the long-term benefits?
Consumer spending and confidence are trending higher
In March, consumer spending in the United States rose 0.2%, a decline from 0.7% in February but higher than analyst expectations. Despite that anemic gain, consumer confidence rose in April, according to the Conference Board’s confidence index, which rose to 68.1, ahead of the median analyst estimate of 61. This rise in U.S. consumer confidence indicates that a large number of households – the highest percentage since April 2011 – now project their incomes to rise over the next six months, which will translate into increased spending.
Meanwhile, German consumer sentiment hit a 5½ year high, with the benchmark index expected to rise to 6.2 in May, up from 6.0 in April. This means that despite Europe’s headaches, some people are still willing to shop.
The death of cash is imminent. Credit and debit cards have replaced the need for bills and coins, and smartphones with NFC chips are now being used as alternative methods of payment. Visa and MasterCard now offer NFC services in capable smartphones, which allow handsets to replace credit cards.
This year, the Asia-Pacific region is forecast to overtake the United States as the largest e-commerce market. Total online shoppers in the region are projected to rise to 2.5 times the number in the United States by 2016. Brazil, Russia and India are also seen as major markets where e-commerce is expected to evolve from cash-on-delivery to direct cashless payments.
All of these macro factors will directly or indirectly benefit the three largest credit card companies in the world.
Visa and MasterCard
The two largest credit card payment processors in the world, Visa Inc (NYSE:V) and Mastercard Inc (NYSE:MA), recently reported similar quarterly results. Visa’s net revenue rose 15% to $3.0 billion for its second quarter, while MasterCard’s revenue rose 8% to $1.91 billion. For its top line, Visa topped analyst estimates of $2.85 billion but Mastercard Inc (NYSE:MA) came up short of the expected $1.93 billion.
Visa Inc (NYSE:V)’s profit slid 1.7% to $1.27 billion, or $1.92 per share, while MasterCard’s rose 12% to $766 million, or $6.23 per share. Both companies topped analyst forecasts, which had called for Visa to earn $1.81 per share and Mastercard Inc (NYSE:MA) to earn $6.18.
Both Visa Inc (NYSE:V) and MasterCard are payment networks and not financial institutions. Instead of issuing their own cards, the two companies partner with banks and allow them to issue Visa or Mastercard Inc (NYSE:MA) branded cards. This arrangement allows Visa Inc (NYSE:V) and Mastercard Inc (NYSE:MA) to profit from card transactions through swipe fees, which they charge merchants and banks, without shouldering any of the debt should customers fail to pay their bills. That burden falls on the issuing banks instead.
While both companies share that low-risk, high-reward business model, differences start to appear when we compare their credit and debit card businesses. Visa’s credit card business is considerably stronger than MasterCard’s both at home and worldwide. Visa has been able to maintain the lead in credit cards in the U.S. due to some banks, such as Citigroup Inc (NYSE:C), scaling back their credit card portfolios, dropping MasterCard while keeping Visa.
Yet MasterCard is winning the battle in debit cards, gaining significant market share thanks to new regulations that grant merchants more control over which debit cards they accept. Those changes have encouraged banks that once exclusively issued Visa debit cards to issue MasterCard and other payment network debit cards instead.
In the end, however, Visa still remains firmly ahead of MasterCard in terms of size and global reach. During their most recent quarters, Visa Inc (NYSE:V)’s total processed transactions rose 6% to 13.9 billion, while MasterCard’s rose 12% to 8.7 billion.
Today, MasterCard is the underdog looking for more partnerships from larger financial institutions. Visa is looking to reform its relationships with banks and merchants that have turned away due to its once byzantine pricing rules.