Recently, we have initiated coverage on Visa Inc. (V) with a Neutral recommendation. The company’s fiscal first quarter 2010 earnings of 99 cents per share were substantially ahead of the Zacks Consensus Estimate of 91 cents due to better pricing, an increased number of processed transactions, higher cross border volumes and a lower tax rate. However, credit card growth remained tepid due to the overall economic hangover and new U.S. regulations.
Visa enjoys an industry leading position among its peer group with respect to total payment volume, total transactions and total number of cards in circulation. These are encouraging as they account as key revenue drivers of Visa’s business. The company posts continued positive secular trends and business model resilience despite the economic slowdown during the last couple of years.
Moreover, the debit card business continues to post modest growth amid the global challenging environment. The company’s current 16?17% gross revenue growth is encouraging, given the current negative global cues. Going ahead, the company is expected to deliver further on this momentum once the global economy revives to its historical highs.
Despite the economic turmoil that eroded the reserves of most of the organizations, Visa enjoys a strong cash and available-for-sale investment position along with strong free cash flow reserve, boasting a risk-free balance sheet. This not only provides an operating leverage to the balance sheet but also provides acquisition opportunities as well as scope for debt reduction and capital expenditure that will enhance long-term growth.
Besides, the company had increased its quarterly dividend by 19% in the fiscal fourth quarter of 2009. With a free cash flow reserve of more than $750 million, the capital expenditure projection of about $200 million for fiscal 2010 also appears sustainable and scope-driven for the company’s ongoing share repurchase program and other growth projects.
However, the deteriorating credit quality of the market amid the furor of the recent global crisis has adversely affected Visa’s credit card growth. The credit market turmoil has resulted in a substantial consolidation in the banking industry that has hampered the credit card growth also pressuring the fees charged to customers and pricing discounts. Moreover, currency fluctuations along with higher volume and support incentives passed on to the customers and intermediaries also retarded the expected revenue growth.
The recovery of credit card growth is critical for Visa’s top-line growth as it is one of the principal revenue drivers for the company. Further, cross-border transactions continue to remain tepid in the Latin American region, particularly in Venezuela, as customers fluctuate with cross-border travel and the extent to which Visa-branded products are utilized for travel purposes.
Besides, being a leading global operating organization, Visa is subject to increasing global regulatory focus in the payments industry. Further, regulatory measures enacted in the U.S. in fiscal 2009 are expected to take effect in the second quarter of fiscal 2010, which could contract credit offerings from financial institutions.
Alongside, the regulations also impose numerous costly new compliance burdens on the company and its customers, which could lead to increased service costs and legal compliance costs. Concurrently, a part of these costs are shifted to the consumers, which impacts consumer spending and results in the risk of declining transaction and payment volumes through its systems.
Overall, Visa benefits from strong secular demand growth, meaningful international exposure, high barriers to entry, excellent pricing power and impressive operating leverage. Also, the above-average earnings growth, strong competitive position and leverage to an eventual economic recovery will result in a relative valuation premium.
However, we are concerned about Visa’s resilience and ability to raise prices and reduce expenses amid the regulatory compliances.
On Friday, the shares of Visa closed at $93.25, up 0.6%, on the New York Stock Exchange.
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