DBRS Comments on American Express Company’s Q2 2009 Results – Senior at A (high), Trend Negative

DBRS has today commented that the ratings of American Express Company (Amex or the Company) and its related subsidiaries, including its Issuer and Long-Term Debt of A (high) are unaffected by the Company’s Q2 2009 earnings results. The trend on all non-FDIC guaranteed debt ratings remains Negative.

Today’s comment follows Amex’s Q2 2009 earnings release, which reported that the Company generated income from continuing operations of $342 million before the repayment of preferred shares. Amex’s income from continuing operations, which was down from $443 million in the previous quarter, was down 48% compared to Q2 2008. Consumer and business spend decreased reducing revenue generation, while loan loss provisioning remained elevated. During the quarter, Amex was successful in driving a 16% reduction in total expenses to $4.1 billion from the prior year, reflecting the success in implementation of the Company’s engineering initiatives. The quarter’s income also included a $135 million after-tax gain from the sale of 50% of its investment in the Industrial and Commercial Bank of China (ICBC) as well as $118 million after-tax of net reengineering costs, primarily reflecting a restructuring charge related to Amex’s reengineering initiatives. Impacting earnings available to common shareholders was the repurchase of the preferred shares issued under the U.S. Treasury Capital Purchase Program (TARP), which resulted in a $212 million dividend. With this charge, other preferred dividends and related adjustments, Amex reported a net income applicable to common shareholders of $102 million.

Total revenues, net of interest expense, were up 2.8% on a linked quarter basis to $6.1 billion, although still down 18% from the year-ago quarter. The YoY decline was driven by lower discount revenue owed to reduction in billed business and a 37% decrease in net interest and securitization income, largely attributed to lower excess spread, net, driven by increased write-offs in its securitization trusts. Although the Company’s earnings were reduced year-on-year, the Company generated solid income before taxes and provisions, illustrating the overall resiliency in a challenging operating environment.

The franchise remains strong, which underpins Amex’s ratings. Despite the global recession, the total number of transactions for the quarter held up well, declining modestly from the year-ago quarter. DBRS views the slight decline in overall transactions as an illustration of Amex cardmember loyalty. Billed business, however declined by 13.0% from last year, on a foreign currency (FX) adjusted basis, as consumers have reigned in their discretionary spending and businesses reduced overall travel and entertainment spending relative to last year. Billed business is a major driver in overall revenue for Amex, as it drives the Company’s discount revenue. Accordingly discount revenue declined to $3.3 billion or 17% compared to the second quarter of 2008. Amex’s discount rate, which is another key component of revenue generation ability, was largely flat to Q1 2009 at 2.55%.

Increasing unemployment and the subsequent pressure on household income has resulted in an increase in net write-off rates. For Q2 2009, Amex’s U.S. Card Services (USCS) charge-card net write-off rate was 5.2% compared to 3.9% last year, while the managed worldwide card lending portfolio experienced net write-offs of 9.7% compared with 5.1% for the year-ago quarter. DBRS is mindful that there has been a denominator effect on the Company’s net write-off rates due to the reduced loan book. Indeed, in terms of absolute dollars, net write-offs of lending principal and charge card totaled $1.2 billion, a slight increase from $1.1 billion in Q1 2009.

Loan loss provisions continue have a material impact on net earnings. For the quarter, provision for loan losses was $1.6 billion, a decrease of 13% to Q2 2008; however, the year-ago quarter included a $600 million reserve build. Provisioning was driven by the Company’s lower owned lending balances offset by increased net write-offs resulting from ongoing weakness in U.S employment. As of June 30, 2009, total charge card and lending reserves was $3.9 billion or 9.9% of world-wide owned loans.

Despite the difficult economic environment, early-stage delinquency rates in the U.S. charge and lending portfolios improved on a linked-quarter basis, yet delinquencies in the lending portfolio are still elevated compared to the year-ago quarter. U.S. Card Services (USCS) charge-card 30-days past due rate was 2.6% down from 3.7% at Q1 2009. Meanwhile, USCS card lending managed 30-days past due rate decreased to 4.4% from 5.1% at Q1 2009. The quarter-on-quarter improvement in early stage delinquencies reflects the change in consumer spending habits, the downward trend in consumer leverage, especially for more affluent households, and the impact of the Company’s collection efforts. A continuation of this trend would be positively, as DBRS sees early stage delinquencies as a leading indicator of future credit performance. Nonetheless, given the outlook for further weakness in employment in the U.S. DBRS anticipates that asset quality measures will likely remain stressed through the remainder of 2009.

Amex’s capital base remains sound, enhanced during the quarter by a $500 million equity raise. Adjusted to exclude the recently repaid TARP preferred shares but including the impact of the trust enhancements, Tier 1 leverage and Tier 1 risk-based capital at June 30, 2009 were 9.4% and 9.6%, respectively compared with 9.0% and 9.4% at the end of Q1 2009. In addition, the ratio of tangible common equity to risk-weighted assets improved to 9.1% compared to 8.6% at Q1 2009, adjusted for the recently repaid TARP preferred shares. The liquidity profile remains sound and well-managed. Funding maturities are manageable with $20.5 billion due over the next 12 months. Importantly, Amex maintains a contingent liquidity plan that provides sufficient liquidity to operate for more than 12 months without access to the capital markets. At June 30, 2009, Amex maintained excess cash and readily marketable securities of $22 billion. During the quarter, Amex added $4.0 billion of retail brokered deposits. In addition, the Company launched its on-line direct deposit channel, which DBRS believes, given the Company’s strong franchise and brand awareness, will in the long-term become an important component of a diverse funding profile.

The Negative trend reflects earnings pressures associated with the elevated credit costs, which DBRS expects to persist throughout 2009. Moreover, DBRS remains concerned that continued weakness in the economic environment will constrain U.S. consumer spending.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodologies are Rating Finance Companies Operating in the United States and Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments, which can be found on the DBRS website under Methodologies.