American Express Results Q1 2019 – The Devil is in the Details

Has Amex hidden huge legal charges, and why?

Some really interesting developments have emerged about American Express Company according to its 8-k recently filed with the Securities and Exchange Commission in Washington.

Seven key facts about American Express in Q1 2019, according to its filing:

1. US$ hundreds of millions of Amex legal charges hidden in the figures

‘First-quarter earnings per share of $1.80 included an addition to legal reserves of $0.21 per share related to a merchant litigation that has now been resolved. Excluding that litigation-related charge, adjusted earnings per share for the quarter was $2.01.’
We look forward to getting some more explanation from Amex.

2. Amex spent almost one-third of its net income, $494m, on professional services

Expenditure on professional services increased by 8% YOY. This in an extraordinary level of professional service expenditure and challenges the efficiency of how Amex runs its business. It would be interesting to understand what portion of professional fees are legal fees relating to its inflated merchant ‘discount fees’ business.

3. Marketing and business development costs increased by 17% to $1.57bn

This is an interesting development, considering that Amex’s net income fell by 5%. Amex is spending an awful lot of money keeping its existing customers and acquiring new ones. This raises questions about the sustainability of Amex’s lucrative business model.

4. Card member loans grew by $8.8bn at a rate of 11% YOY

Lending is clearly an important growth area for Amex. Amex is clearly learning from Visa and Mastercard partners but actually charges more modest interest rates. Maybe the reason for this is to compensate for the high card fees and FX charges.

 5. Interest earned on Amex cardholder loans grew by 17% to $2.7bn

Amex is clearly increasing the interest rates it charges its cardholders. That’s a 17% increase in loan interest versus growth in loans of only 11%. At what point will Amex customers become frustrated with increasing interest charges?

 6. Card fees increased by 14% to $944m

Here is another line item that Amex is clearly focused on growing. One day more competitive Fintechs will attack this market, but for now, Amex should make hay while the sun shines.

7. American Express deposit interest increased by 70%

Amex is enjoying the benefit of US interest rate rises and being looked after by the banks holding their cash.

However, there are dark clouds on the horizon. Its merchant discount revenue is coming under attack. This huge chunk of its revenue 61% of total revenue in 2018 (US$40,338bn), is at risk.

In Europe Amex is continuing to successfully dodge the regulators despite the ruling from the EU Court of Justice in 2018

“..there is uncertainty as to when or how interchange fee caps and other provisions of the EU payments legislation might apply when we work with cobrand partners and agents in the EU. In a ruling issued on February 7, 2018, the EU Court of Justice confirmed the validity of the application of the fee caps and other provisions in circumstances where three-party networks issue cards with a cobrand partner or through an agent, although the ruling provided only limited guidance as to when or how the provisions might apply in such circumstances.”

Merchants (Businesses that accept card payments) are saying that Amex are ignoring the caps that should have been in place since December 2015.

EU Commission

The EU Commission has taken a hard line with Visa and Mastercard, recently fining Mastercard for violation of merchants rights to settle cross border transactions and both have paid out large settlements to merchants for historical overcharging.

In January 2019, the European Commission fined Mastercard €570 million ($648 million) for now-defunct rules that prevented retailers from shopping around for cheaper fees from acquirers in other EU countries, and experts say it could add to the avalanche of private damages retailers are already seeking following previous Commission actions on card fees.

The EU Commission has long been interested in various aspects of so-called interchange fees, which are paid by merchants when credit and debit card transactions are made.

To address the Commission’s competition concerns, Mastercard and Visa have, each separately, decided to offer the following commitments that would reduce the inter-regional Merchant Interchange Fees by at least 40%.

This is all piling pressure on Amex, particularly in Europe, where repricing of Amex contracts and historical recovery claims are now inevitable.

For now, Amex is weathering the storm.