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Capital One will buy Discover for $35 billion
NEW YORK (AP) — Capital One Financial said it will buy Discover Financial Services for $35 billion in a deal that would bring together two of the nation’s credit card companies as well as potentially shake up the payments industrywhich is largely dominated by Visa and Mastercard.
Under the terms of the all-stock transaction, Discover Financial shareholders will receive Capital One shares valued at nearly $140. That’s a significant premium to the $110.49 that Discover shares closed at on Friday. .
The deal brings together two of the largest non-bank credit card companies, JPMorgan Chase and Citigroup, with the notable exception of American Express. It also brings together two companies whose customers are very similar: often Americans looking for money back or modest travel rewards, compared to the premium credit cards dominated by AmEx, Citi and Chase.
“This market dominated by big players is going to shrink a little more now,” said Matt Schulz, chief credit card analyst at LendingTree.
It will also give Discover’s payment network a major credit card partner, in a way that could make the payment network a major competitor once again. The U.S. credit card industry is dominated by the Visa-Mastercard duopoly, with AmEx a distant third and Discover an even more distant fourth. It is unclear whether Capitol One will adopt the Discover payment system or may create a payment network that allows parallel use of Discover and a second payment network like Visa.
“Our acquisition of Discover is a unique opportunity to bring together two very successful companies with complementary capabilities and franchises and to build a payments network that can compete with the largest payments networks and companies,” said Richard Fairbank, president and CEO of Capital One, in a statement.
With the purchase of Discover, Capital One is betting that Americans will continue to use their credit cards more and maintain balances in those accounts to collect interest. In the fourth quarter of 2023, Americans held $1.13 trillion on their credit cards and aggregate household debt balances increased by $212 billion, a 1.2% increase, according to the most recent data of the New York Federal Reserve.
As card balances rise, consumers also pay higher interest rates. The average interest rate on a bank credit card is approximately 21.5%, the highest since the Federal Reserve began tracking data in 1994.
Capital One has long had a business model that seeks out customers who maintain balances on their cards, targeting customers with lower credit scores than American Express or even Discover.
At the same time, both creditors had to increase their reserves against the possibility of increased borrower defaults. After fighting inflation For more than two years, many low- and middle-income Americans have exhausted their savings and are increasingly running up their credit card balances and taking out personal loans.
The additional reserves weighed on both banks’ profits. Last year, Capital One’s net income available to common shareholders fell 35% from 2022 as its loan loss provisions rose 78% to $10.4 billion. Discover’s full-year profit fell 33.6% from 2022 results as its provisions for credit losses more than doubled to $6.02 billion.
Discover customers have balances of $102 billion on their credit cards, a 13% increase from the previous year. Meanwhile, charge-off rates and 30-day delinquency rates have increased.
In addition to increasing bank deposits and loan accounts, the acquisition would give Capital One access to the Discover payment processing network. Although smaller than industry giants Visa and Mastercard, the Discover network will allow Capital One to earn revenue from fees charged for each commercial transaction carried out on the network.
Discover has operated under intense scrutiny from regulators. Last summer, the company revealed that starting in mid-2007, it incorrectly classified certain card accounts at its highest merchant pricing tiers. The company also received an unrelated consent order from the Federal Deposit Insurance Corporation regarding customer compliance management.
Citigroup analysts say regulatory issues may have prompted the sale.
“We are surprised by the sale of DFS, but we hypothesize that its regulatory challenges, such as its recent FDIC consent order in October and the card product misclassification issue, may have opened the door for the board to consider strategic alternatives that perhaps have not done in the past. ,” analysts Arren Cyganovich and Kaili Wang wrote in a note to clients.
It’s unclear whether the deal will pass regulatory scrutiny. Almost all banks issue credit cards to customers, but few companies are credit card companies first and banks second. Both Discover — long ago Sears Card — and Capital One started out as credit card companies that expanded into other financial offerings, like checking and savings accounts.
Consumer groups are expected to exert strong pressure on the Biden administration to ensure the deal is good for consumers as well as shareholders.
“The deal also raises enormous antitrust concerns given the vertical integration of Capital One’s credit card lending with Discover’s credit card network,” said Jesse Van Tol, president and CEO of the National Community Reinvestment Coalition.