Shares of Discover Financial have gone down after the firm’s recently reported earnings, but it is confusing why. The credit card issuer has always traded at a somewhat cheap value, and does so today; the thinking is that unsecured credit cards are risky business, so Discover’s p/e multiple has usually been low.
The stock went down during the start of the coronavirus pandemic, but has almost quintupled from its pandemic lows, so maybe the people fortunate enough to purchase close to the bottom are now cashing out their profits.
However, given the good family balance sheets from past government relief checks and the lack of spending in the last year, credit card firms and Discover in particular look like a great bet for 2022, as the economy comes back.
Growth is down for now, but could gain next year
While Discover did beat their earnings expectations, it could also slightly miss its revenue expectations, which might explain the post-earnings sell-off. But the reasons for the revenue fall are deceiving, and growth is possibly going to increase strongly into 2022.
First, revenue was affected by a $167 million unrealized loss on the company’s investments. For some reason, this unrealized loss shows up inside the revenue line for the company, even though it is a non-operating item. Likely, that is a consequence of Discover’s investment in the fintech IPO Marqeta, which saw its shares sell down by about a third in the Sept. quarter.
But remember, these numbers are actually unrealized losses, and Marqeta’s shares have already come back some 25% after October 1 on the heels of the recently announced top-profile partnerships. At the current price, Discover’s ownership in Marqeta is worth around $750 million.
Without this loss, revenue could be up 6% y/y, on loans that were higher by 1%. Some might expect a larger bounce back from a credit card stock as the economy reopens. However, Discover earns most of its money from its loans, not from the fees or its network as its rival American Express does.
While management does not reveal the exact number of its new customers, it did report that account acquisition was “very strong” last quarter on their call with analysts.
Customer cash balances will not be this high for long, so as the payment ratio normalizes in 2022 or in 2023, those fresh accounts should start to revolve some card balances, so these credit card loans could grow next year — possibly by double digits.
Author: Steven Sinclaire