American Express Company — Q1 2011 Form 10-Q Summary
Reporting period: Three months ended March 31, 2011. The interim financial statements are unaudited. Amounts are in U.S. dollars; financial statement amounts are in millions unless otherwise indicated.
Business context
American Express is a global payments and travel company with consumer, small-business, commercial and merchant-network businesses. Its principal revenue sources include merchant discount revenue, card fees, travel and other fees, and interest on cardmember loans. The company also identified online and mobile payments and fee-based services as areas for growth.
Key financial and operating metrics
| Metric | Q1 2011 | Comparable period / change |
|---|---|---|
| Total revenues, net of interest expense | $7.031 billion | $6.560 billion; up 7% |
| Net interest income | $1.134 billion | $1.307 billion; down 13% |
| Provisions for losses | $97 million | $943 million; down 90% |
| Total expenses | $5.202 billion | $4.365 billion; up 19% |
| Income before income taxes | $1.732 billion | $1.252 billion |
| Net income | $1.177 billion | $885 million; up 33% |
| Diluted earnings per share | $0.97 | $0.73 |
| Operating cash flow | $751 million provided | $2.262 billion provided |
| Cash and cash equivalents | $22.027 billion at March 31 | $16.356 billion at December 31 |
| Card billed business | $187.9 billion | $161.0 billion; up 17% |
| Cardmember loans, net | $54.842 billion at March 31 | $57.204 billion at December 31 |
| Long-term debt | $60.730 billion at March 31 | $66.416 billion at December 31 |
| Customer deposits | $31.756 billion at March 31 | $29.727 billion at December 31 |
| Cash dividends declared per share | $0.18 | $0.18 |
Net interest yield on cardmember loans was 9.2%, compared with 10.3% in Q1 2010. The company reported a 3.7% net write-off rate on cardmember loans, versus 7.0%; the loan reserve was $2.921 billion at quarter-end, down from $3.646 billion at year-end 2010. The company said it had approximately $20.0 billion of cash and highly liquid securities available to fund maturities after specified operating cash and short-term obligations. First-quarter cash flow from investing activities was $8.663 billion provided and financing activities used $3.830 billion.
Reported capital ratios at March 31 included an 11.8% Tier 1 risk-based ratio, 13.9% total risk-based ratio and 9.4% Tier 1 leverage ratio. The company’s stated Tier 1 common ratio target was 10%–11%.
Material changes versus Q1 2010
- Net income rose 33%, supported by higher billed business and a sharp decline in loss provisions. The cardmember-loan provision was a $120 million benefit in Q1 2011, compared with a $688 million provision in Q1 2010.
- Worldwide billed business increased 17%; U.S. billed business rose 15% and billed business outside the U.S. rose 20%. Discount revenue increased 14% to $3.902 billion, while the average discount rate remained 2.55%.
- Interest income declined 9%, primarily because of lower loan yields, higher payment rates and lower revolving balances. Interest expense was nearly flat.
- Expenses increased 19%. Cardmember rewards expense rose 30% to $1.577 billion, including approximately $188 million from an increased estimate of the ultimate Membership Rewards redemption rate. Marketing and promotion expense rose 15%.
- Operating cash flow fell to $751 million from $2.262 billion; the filing attributes the decline partly to lower provisions and changes in working-capital-related balances.
- At March 31, total assets were $143.979 billion, down from $146.689 billion at year-end. Long-term debt declined by $5.686 billion, while customer deposits increased by $2.029 billion.
Outlook, management commentary, risks and unusual items
- Management cited strong spending growth and improving credit performance, but said customer spending was growing faster than borrowing. It expected loan write-off rates through 2011 and into 2012 to remain below the prior ten-year average; benefits from reserve releases were expected to diminish.
- Long-term financial targets, stated as averages over time, are revenue growth of at least 8%, EPS growth of 12%–15%, and return on equity of at least 25%. If the company meets its EPS and ROE targets, it aims to return approximately 50% of generated capital to shareholders over time. These are targets, not quarterly guidance.
- Management expected U.S. consumer net interest yield to decline toward historical levels. It also planned to slow operating-expense growth toward late 2011 and into 2012, citing uncertainty, tougher comparisons and the expected end of quarterly Visa and MasterCard litigation payments during 2011.
- The company acquired a controlling interest in Loyalty Partner on March 1 for $616 million, including cash acquired; it may acquire the remaining interest over five years, with an estimated fair value of $150 million. The purchase-price allocation was not final.
- Reengineering charges of $11 million pretax were recorded in Q1 2011. Management expected additional 2011 charges of approximately $60 million–$80 million pretax and said substantially all related activities were expected to be completed by year-end. The previously announced program was expected to eliminate about 3,500 jobs, with an estimated net staffing reduction of about 550.
- Potential legal losses that were reasonably possible and estimable were disclosed as a range of zero to $520 million in excess of accrued liabilities; this is not the company’s maximum exposure. Management did not expect pending matters to materially affect consolidated financial condition or liquidity, but said a particular period’s results could be materially affected.
- The company said unrecognized tax benefits could decrease by as much as $1.0 billion within 12 months, principally through potential resolutions of prior-year tax matters; the effect on the effective tax rate and net income was not fully quantifiable.
- Key risks include evolving CARD Act and Dodd-Frank requirements, future capital and liquidity rules, funding access and credit ratings, consumer spending and credit trends, competition and merchant-pricing pressure, technology and data-security incidents, acquisition integration, and litigation. The company noted that final regulatory capital rules could reduce reported capital ratios; its estimate of the Basel III impact was approximately 80 basis points for Tier 1 risk-based and Tier 1 common ratios and 170 basis points for the Tier 1 leverage ratio.
- The company reported no securitization-triggering events requiring reserve funding or early amortization during the quarter. Its stated potential pretax earnings sensitivities, based on year-end 2010 positions, were approximately $149 million for a hypothetical 100-basis-point interest-rate increase and $152 million for a hypothetical 10% strengthening of the U.S. dollar; management reported no material change in these risks since year-end.
Important facts for investors to verify
- How sustainable the unusually low loss provisions and loan-reserve release are, and whether credit performance remains better than historical averages.
- Whether growth in billed business converts into durable revenue and earnings despite lower loan yields, higher rewards costs and rising operating expenses.
- The effect of CARD Act implementation, Dodd-Frank rulemaking and Basel III on yields, prepaid products, capital requirements and funding costs.
- Liquidity against the disclosed $17.3 billion of debt and certificate-of-deposit maturities through March 31, 2012, and continued access to deposits, securitization markets and committed facilities.
- Developments in merchant antitrust litigation and other proceedings, including potential losses beyond accrued amounts.
- Integration and performance of Loyalty Partner, remaining acquisition consideration, and the costs and execution of the reengineering program.
- Changes in Membership Rewards redemption behavior and the assumptions used to estimate rewards liabilities.