Ken Shubin Stein VIF 2008.

1,498 views

Published on

Ken Shubin Stein, Managing Partner, Spencer Capital.

Published in: Economy & Finance
0 Comments
0 Likes
Statistics
Notes
  • Be the first to comment

  • Be the first to like this

No Downloads
Views
Total views
1,498
On SlideShare
0
From Embeds
0
Number of Embeds
54
Actions
Shares
0
Downloads
0
Comments
0
Likes
0
Embeds 0
No embeds

No notes for slide

Ken Shubin Stein VIF 2008.

  1. 1. A Good Idea for a Bad Market May 2008Spencer Capital Management, LLC
  2. 2. Disclaimer This document is not a solicitation to invest in any investment product nor is it intended to provide investment advice. While every effort has been made to provide data from sources considered to be reliable, no guarantee of accuracy is given. Private investment vehicles and / or accounts managed by Spencer Capital Management, LLC and / or its owners, employees or affiliates may have positions in, and may make purchases or sales of, securities discussed in this presentation and / or securities whose performance is related to matters discussed in this presentation.2
  3. 3. Spencer Capital Management • 7 year track record • $225 million of AUM • Concentrated, event-driven value investing • Look for asymmetric payoffs Low-case outcome = No capital loss High-case outcome = Double or triple our investment over 3 years3
  4. 4. Research Process • Internally generated ideas • Rigorous bottom-up fundamental analysis • 4-Step Research Process 1. Formulate Thesis 2. Define a Strategy to Collect the Data That Will Support or Refute the Thesis 3. Collect Data 4. Analyze • Research time allocation: 4 lists 1. Portfolio 2. Active Research 3. Waitlist 4. Watch List4
  5. 5. We Eat Our Own Cooking• Spencer Capital grew out of a partnership that managed family money• 30% of capital from employees, friends and family• Long-Term investment perspective• Volatility is key to successful long-term investing
  6. 6. Thriving in a Bear Market To survive a bear market and plant the seeds for future returns you need three things: Hands, Head and Heart – Hands: • Financially strong hands to hold onto what you own, as well as liquidity to take advantage of great new opportunities – Head: • A library of already well-researched ideas – Heart: • The emotional ability to invest and take on more risk during a crisis6
  7. 7. American Express Company Market Cap: $56 billion 2008E Revenues: $31 billion 2008E Earnings: $3.9 billion Ticker: AXP 2008E EPS: $3.33 Price: $48 P/ 2008E EPS: 14.4X Fiscal Year End: 12/317
  8. 8. American Express Business Description • World’s largest issuer of charge and credit cards as measured by purchase volume – 88 million cards-in-force generating over $650bn of spend • Premium customers best in class credit quality • “Closed loop” payments network Irreplaceable global franchise with significant and growing competitive advantages8
  9. 9. American Express Timeline American Express has evolved into a pure-play payments company by divesting non-core and low return businesses9
  10. 10. Average Return on Equity 1998 - 200710
  11. 11. Capital Returned to Shareholders: 1998 - 200711
  12. 12. American Express Thesis • Uncertain near-term earnings, negative sentiment • Valuable network and processing segment • Robust long-term growth prospects Intrinsic value well in excess of current share price12
  13. 13. American Express 1-Year Stock Chart Amex sees weaker economy and increases reserves13
  14. 14. Industry Trends • Cash Plastic • Merchant discount rates increasing • American Express increasing market share • Card associations now publicly traded corporations – MasterCard (MA) shares up 5x since IPO – Visa (V) shares up 70% since IPO – Highlights value of networks with scale14
  15. 15. Paper or Plastic?15
  16. 16. Total Card Purchase Transactions (billions)16
  17. 17. Merchant Discount Rates 2001 - 200617
  18. 18. Credit Card Purchase Volume Market Share (U.S.) Only network increasing market share18
  19. 19. American Express Spend-Centric Model19
  20. 20. High Average Spend20
  21. 21. Premium Economics21
  22. 22. Rewards & Service • American Express spent over $5 billion on rewards and cardmember services in 2007 • The redemption rate for rewards has been increasing, a reflection the appropriateness of the reward offers and cardmember loyalty • Rewards and customer service improve: – Attrition rates – Credit quality – Customer satisfaction22
  23. 23. Rewards & Service = Customer Satisfaction23
  24. 24. Closed-Loop: A Key Differentiator • Direct relationships • Robust data • Valuable spending incentives • Marketing and loyalty programs for merchants – Example: cardmember access to a limited supply of hot items customized using past purchase behavior. Doubled average transaction size for participating merchants. – Co-branded cards – Business savings: merchant community Merchant discount rates based on value delivered24
  25. 25. Closed Loop: A Key Differentiator • Competition has tried to replicate the success of American Express with mixed results – Interchange fees have been increasing to allow issuers to fund better rewards programs – Visa Incentive Network • American Express spent nearly $8 billion on marketing, promotion, rewards and cardmember services in 2007, or $90 per card-in-force – Total non-interest and non-provision expense for JP Morgan Chase was $4.9 billion, or $32 per card-in-force25
  26. 26. Closed Loop: A Key Differentiator • Merchant acceptance – Over 90% of spend covered in the U.S. – Over 80% of spend covered outside the U.S. • Growth in acceptance accelerating – Network partnerships – Recent deals with FDC, Heartland Payment Systems and Nova to increase location penetration amongst small and medium- sized merchants26
  27. 27. Payments Value Chain27
  28. 28. Payments Value Chain - Revenue28
  29. 29. American Express - Closed Loop29
  30. 30. American Express as a Card Issuer Growth vs. FY06 15% 12% 7% 4% 3% 3%30
  31. 31. American Express as a Card Issuer Growth vs. 2007 Net FY06 Write-Offs 13% 4.7% 3% 5.0% 4% 3.7% 22% 3.3% 8% 4.1% -3% 4.3%31
  32. 32. American Express as a Network32
  33. 33. American Express as a Network • Global Network Services (GNS) = bank co-branded cards issued on American Express network – Prevented from operating in the U.S. until 2004 – Today includes large issuers such as Citi and BofA – Increasingly significant contributor – Provides strategic optionality – Expands merchant acceptance – particularly internationally33
  34. 34. American Express as a Network All business metrics have been growing dramatically, adding scale to the American Express brand and network34
  35. 35. American Express as a Merchant Acquirer35
  36. 36. Bear Case • Credit quality • Funding costs • Credit card securitization market • Investment portfolio risk36
  37. 37. Credit Quality Total provision for losses is 3.5% of total receivables37
  38. 38. Credit Quality38
  39. 39. Credit Quality In a worst case scenario, we believe that American Express could lose 1 - 2 years earnings due to charge-offs39
  40. 40. Credit Quality • American Express is reacting – Lowering credit lines – Adjusting models for higher default probability – Increasing credit and collection staff – Increasing FICO score at acquisition American Express has a flexible business model to adapt to changing market conditions40
  41. 41. Credit Quality41
  42. 42. Funding Costs • American Express borrows in the commercial paper, unsecured and securitization markets – Commercial paper: ongoing access at favorable rates – Unsecured debt & securitizations: liquidity at higher spreads • Risk is long-term disconnect between LIBOR and Fed Funds – Customer is priced off of Prime (Fed Funds) Spreads have widened but benchmarks have come down42
  43. 43. Credit Card Securitization Market • Different than subprime mortgages – Lending standards not compromised – Credit card issuers maintain financial stake – Long-term relationship between originator and customer – Most transactions investment grade – Credit enhancement levels sized to withstand significant stress • AAA prime credit card ABS sized to withstand over 25% charge-offs • Open for business – Q407 volume up 77% versus Q406 – Expected to be biggest ABS sector in 2008 American Express has continued to have access to the securitization market throughout the credit crisis43
  44. 44. Investment Portfolio American Express has a high quality, low risk portfolio and has been reducing exposure to ABS Less than $0.8B at 3/31/08 Our target price for American Express is $81 - $9544
  45. 45. Valuation • We believe American Express will earn at least $4.50 per share in 2011 (approximately 3 years from today) – Implies a 7% annual EPS growth rate from 2007, significantly below management’s target of 12 – 15% “on average over time” • We believe American Express should (and will) trade between 18 – 21x earnings, based on: – Comparable company analysis – Discounted cash flow analysis – Historical precedent Our target price for American Express is $81 - $9545
  46. 46. Comparable Company Analysis American Express is both an issuer and a network/ processor. Using a blended multiple of the two segments yields a 18x multiple46
  47. 47. Discounted Cash Flow • Assumptions – 10 year DCF – 28% average return on equity (versus 33-35% management target) – 65% payout ratio – Implied annual EPS growth = 10% – Terminal Multiple: 12x – Discount rate: 6% • Net Present Value per share: $68 • Implied multiple on 2008E EPS: 19x47
  48. 48. P/E Ratio 1988 - Present48
  49. 49. Target Price Summary We believe the stock offers upside of 86% by 2011 (3 years from today)49
  50. 50. Conclusion • Strong and growing competitive advantage • Historically low valuation • Robust long-term growth prospects Intrinsic value well in excess of the current share price50
  51. 51. Contact Information Ken Shubin Stein, MD, CFA Portfolio Manager (212) 586-4190 kss@spencercapital.com Emily Geiger Investor Relations (212) 799-4711 ejg@spencercapital.com51

×