DBRS Comments on American Express’s 3Q12 Earnings, Ratings Unchanged at A (high), Trend Stable

DBRS, Inc. (DBRS) has today commented that its ratings of American Express Company (Amex or the Company) and its related subsidiaries, including its Issuer & Long-Term Debt rating of A (high), remain unchanged following the Company’s 3Q12 earnings. The trend on all ratings is Stable. For the quarter, Amex reported net income of $1.3 billion, a slight increase from a year ago.

Amex’s results were underpinned by YoY revenue growth although the pace of growth slowed on a sequential basis evidencing the impact of slowing economic growth in many regions across the globe. Nonetheless, given the uneven macroeconomic environment, DBRS considers Amex’s quarterly results as reflecting the sound and resilient earnings ability afforded by the Company’s spend-centric business model. Moreover, the reported solid cost control and low credit losses are a positive reflection of Amex’s solid risk management capabilities.

For 3Q12, Amex reported higher revenues underpinned by growth in cardmember spending and higher net interest income owing to growth in the cardmember loan portfolio. Total revenues, net of interest expense totaled $7.9 billion in the quarter, a 5% YoY increase on an FX adjusted basis. Solid growth in billed business volumes partially offset by a lower discount rate and contra revenues drove a 5% YoY increase in discount revenue to $4.4 billion. Net interest income expanded 6% YoY to $1.2 billion primarily driven by the growth in average cardmember loans and a modestly higher net interest yield.

For the quarter, Amex reported growth in both billed business and average cardmember spend. On an FX adjusted basis, card billed business increased 8% YoY to $220 billion, while average cardmember spend increased 5% over 3Q11. As expected, while still recording positive growth, the Company experienced broad based slowing in the pace of YoY growth in billed business across all regions and business segments reflecting moderating economic growth and activity. DBRS is mindful of the recessionary environment in Europe, and therefore anticipated a reduction in the region’s growth rate, which at 3% (on an FX adjusted basis) was still respectable. Overall however, DBRS views the growth in billed business which outpaced many of its industry peers, as demonstrating the strength of the Amex franchise and evidence of strong customer brand loyalty.

From DBRS’s perspective, Amex’s financial performance evidences positive returns on management efforts to control costs as total expenses declined 2% YoY at $5.5 billion. Despite higher spending volumes cardmember rewards expense was 4% lower YoY. The decline reflects a lower charge incurred in the quarter compared to 3Q11 related changes in the ultimate redemption rate assumption and weighted average cost per reward point. Excluding this charge, cardmember rewards and services expense in 3Q12 grew in line with the growth in billed business. DBRS notes that Amex reported positive operating leverage for the fourth consecutive quarter in 3Q12. Operating expenses, excluding litigation settlements, were 4% lower YoY. DBRS considers Amex’s ability to reduce costs while delivering solid growth in billed business as illustrating good operating flexibility.

Nonetheless, Amex stated that during 4Q12 the Company would be undertaking a periodic review of the estimation process for the ultimate redemption rate (URR) assumption. Based on results from past reviews by the Company, DBRS notes that the current review could potentially result in a material charge to earnings but is unlikely to be a rating event unless outsized beyond DBRS expectations. Marketing and promotion expense was slightly higher YoY, but remains within the Company’s historical range as a percentage of revenue and signals continued investment in the franchise.

Credit performance continues to be best in industry with credit metrics at historic lows. Within the $19.5 billion U.S. Charge Card receivables portfolio, net charge-offs declined 20 bps from the prior quarter to 1.6% while the 30-day past due rate increased slightly to a very low 1.8%. While the world-wide total lending portfolio grew at a solid 6% YoY, asset quality metrics continue to be quite favorable. Indeed, in the $61.8 billion world-wide total lending portfolio, net write-offs declined 30 bps QoQ to 1.9%, and stood some 70 bps lower than a year ago. Delinquencies were stable with 30-day past due loans at 1.3%. Provisions for credit losses were 92% higher YoY at $479 million reflecting significantly reduced lending reserve releases compared to 3Q11 and growth in the cardmember lending portfolio partially offset by lower net write-offs. Nevertheless, DBRS notes that provision expense levels are still low by historical standards driven by the historically strong credit metrics. DBRS views Amex’s reserve coverage as solid given the continuing sound credit performance. Reserve coverage of 30-day past due receivables was 190% in U.S. Charge Card at September 30, 2012, and 182% in worldwide total lending.

In DBRS’s view, Amex’s financial risk profile remains sound supported by a well-managed liquidity and funding profile and solid capital levels. At September 30, 2012, excess cash and securities totaled $18 billion, exceeding the $16.3 billion in funding maturities over the next 12 months. Total deposits grew 3% QoQ to $37.2 billion. Additionally, Amex maintained solid access to the markets issuing $750 million of senior unsecured debt and $2.8 billion of asset-backed securities in the quarter. With regards to capital, Amex maintains a solid cushion and has ample loss absorption capacity. At September 30, 2012, the Company reported a Basel I Tier 1 common ratio of 12.7% and tangible common equity to risk-weighted assets (TCE/RWA ratio) of 12.6%. DBRS views Amex as well-placed to manage forthcoming changes to regulatory capital requirements. To this end, Amex estimated its Basel III Tier 1 common ratio at 12.6% under its current interpretation of the Basel III rules using the standardized approach.

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

The principal applicable methodology is Rating Finance Companies Operating in the United States, which can be found on the DBRS website under Methodologies.

The sources of information used for this rating include company documents and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: William Schwartz
Approver: Roger Lister
Initial Rating Date: 2 May 2008
Most Recent Rating Update: 4 May 2012

For additional information on this rating, please refer to the linking document under Related Research.