AMERICAN EXPRESS CO quarterly report, Q2 FY2015

American Express Company — Q2 2015 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2015; filed July 29, 2015. The unaudited statements are prepared under U.S. GAAP. American Express is a global payments and services company with U.S. and international card, commercial services, and merchant/network businesses.

Financial performance

Metric	Q2 2015	Q2 2014	Six months 2015	Six months 2014
Revenue, net of interest expense	$8.284B	$8.631B	$16.234B	$16.804B
Net interest income	$1.423B	$1.316B	$2.870B	$2.653B
Provisions for losses	$467M	$489M	$887M	$974M
Total expenses	$5.587B	$5.830B	$10.801B	$11.310B
Net income	$1.473B	$1.529B	$2.998B	$2.961B
Diluted EPS	$1.42	$1.43	$2.90	$2.77
Operating cash flow	Not presented quarterly	$4.301B	$4.885B

• Q2 diluted EPS declined 1%; first-half diluted EPS increased 5%. Q2 net income fell 4%, while first-half net income rose 1%.
• Worldwide billed business rose 2% in Q2 and first-half; growth was 6% in both periods on a foreign-exchange-adjusted basis. Q2 U.S. billed business increased 5%, while reported international billed business declined 5% (up 9% adjusted for foreign exchange).
• Q2 discount revenue rose 1% to $4.946B; net card fees fell 3% to $667M. Net interest income increased 8%, mainly on higher average Card Member loans and lower borrowing costs.
• Credit indicators remained strong: Q2 loan net write-off rate was 1.4% on principal-only basis, versus 1.6% a year earlier; 30-day-past-due loans were 1.0% of total, unchanged. First-half loan net write-off rates reflect a change in charge-off timing for certain modification programs.
• At June 30, total assets were $157.152B, total liabilities $135.267B and shareholders’ equity $21.885B. Cash and cash equivalents were $21.071B; customer deposits were $47.166B.
• Short-term borrowings were $4.486B and long-term debt $52.740B, compared with $3.480B and $57.955B, respectively, at December 31, 2014. The filing reports no single debt-to-equity metric.
• First-half investing cash outflow was $2.930B and financing cash outflow $2.489B; cash and cash equivalents decreased $1.217B to $21.071B.
• Q2 return on average equity was 28.1%, versus 28.8% a year earlier; return on average tangible common equity was 35.4%, versus 35.8% (non-GAAP measure).

Material changes versus comparable periods

• Q2 revenue net of interest expense declined 4%, principally reflecting lower travel commissions and fees after the Global Business Travel operations were transferred to a non-consolidated joint venture in June 2014. This also makes year-over-year comparisons of GCS and several expense lines less comparable.
• Q2 GCS segment income fell 64% to $203M, while USCS rose 15% to $886M, ICS rose 62% to $125M and Global Network & Merchant Services rose 20% to $448M. Segment comparisons are affected by the GBT transaction and currency movements.
• Expenses decreased 4% in Q2. Lower marketing and salaries were partly offset by higher rewards and Card Member service costs tied in part to renewed co-brand agreements, and higher other expenses versus a prior-year GBT transaction gain.
• First-half operating cash flow declined $584M year over year; management attributed the decrease principally to a decline in accounts payable associated with changes in merchant payable volumes. Investing cash outflow increased, primarily due to higher restricted cash for upcoming securitization-trust debt maturities.
• Customer deposits increased about $3.0B from year-end. Long-term debt decreased about $5.2B; debt issued and repaid during the first half were $3.457B and $8.476B, respectively.
• The company repurchased 15.6 million shares in Q2 at an average $79.38 per share. It returned $1.5B to shareholders in Q2 through $1.2B of repurchases and $0.3B of common dividends.

Outlook, commentary and risks

• Management maintained its full-year 2015 outlook for EPS growth to be flat to modestly down; it expected positive EPS growth in 2016 and a return to 12%–15% growth in 2017. Management cautioned that quarterly earnings could be uneven and that this outlook excludes possible restructuring charges or other contingencies.
• Management cited a stronger U.S. dollar, uneven global growth, intense payments competition, co-brand partnership costs and the planned expiration of U.S. Costco card and merchant-acceptance agreements on March 31, 2016. It expected foreign exchange to remain a headwind for the rest of 2015 and marketing expense to remain relatively similar to the elevated 2014 level.
• Management said loan growth or deterioration in credit performance could increase provisions and weigh on second-half 2015 growth. It also identified interest-rate changes, tax-law changes, regulatory developments and the ability to realize returns on growth investments as uncertainties.
• The U.S. court injunction in the Department of Justice antitrust case took effect July 20, 2015, after quarter-end. It restricts enforcement of certain merchant anti-steering provisions; American Express was appealing. The company warned that increased merchant steering, related litigation or damages could harm the Card Member experience, brand and results.
• European payments rules adopted in April 2015 include caps on certain interchange fees and restrictions on anti-steering and honor-all-cards terms, with staged effective dates. Although American Express does not generally charge interchange, management warned that the rules could pressure merchant fees and affect network partners.
• For disclosed legal and governmental matters where a loss was reasonably possible and estimable, the aggregate estimated range was $0–$370M in excess of accrued liabilities, if any. The company said this was not its maximum exposure and that actual outcomes could differ materially.
• American Express reported compliance with applicable liquidity requirements, including the liquidity coverage ratio, in both Q1 and Q2. It maintained $6.5B of committed syndicated bank facilities and undrawn secured facilities of $3.0B and $2.0B at June 30. The $3.0B facility was extended on July 15, 2015, after quarter-end.
• Transitional Basel III ratios at June 30 included a 13.5% common equity tier 1 ratio and 16.5% total capital ratio for American Express Company. Management reported no material change in market risks since December 31, 2014.
• Unusual/comparability items include the GBT joint-venture transaction and related prior-year gain, prior-year investment-security gains, a prior-year restructuring charge, and a 2015 reclassification of certain partner payments that reduced both discount revenue and marketing expense; prior periods were reclassified.

Most important facts for investors to verify

• Whether billed-business and revenue trends hold up after adjusting for foreign exchange, GBT comparability and the Costco relationship’s scheduled expiration.
• Progress and financial impact of the DOJ injunction, the appeal and merchant litigation, including any change in merchant steering or customer behavior.
• Whether co-brand rewards and service-cost increases, growth investments and marketing spending can be balanced with management’s EPS outlook.
• Loan growth, delinquency, write-off and reserve trends, including the effect of the modified charge-off timing on comparisons.
• Funding, liquidity and capital trends, including debt maturities, deposit stability, capital distributions and regulatory requirements.
• Developments in the $0–$370M estimated range of reasonably possible legal losses and any material change in contingencies.