The shares of this financial business have recently been upgraded by Seaport Global to ‘Buy.’
Discover Financial Services (DFS)
From Argus Weekly Staff Report
Management at Discover Financial Services expects modest loan growth in 2021, though high repayment rates remain a headwind. It expects the net interest margin to expand modestly amid a drop in funding costs, and net charge-offs to decline on improved economic conditions (mainly better employment trends). We look for revenues to rebound 8% in 2021, and to rise more modestly in 2022.
Network sales volume has rebounded strongly after bottoming in March/April 2020, with the third quarter up in the mid-teens, down from the second quarter but matching the strong pace of 1Q21. We look for continued positive sales volume as the economy recovers and credit/debit cards take more share than cash.
With respect to credit costs, the environment has also improved dramatically. An $879 million reserve release in 1Q was driven by reduced credit losses and an improved economic outlook, while modest provisions of $135 million in 2Q and $185 million in 3Q reflected continued low charge-offs.
Discover reported 3Q21 earnings of $3.54 per share, up from $2.45 a year earlier and above the consensus of $3.53. Net revenues rose 2.3%. Net charge-offs fell to a record low level in 3Q21, although we expect a modest increase going forward.
Based on the improving credit quality outlook, we are raising our 2021 EPS estimate to $17.34 from $15.89. We are also raising our 2022 forecast to $12.96 from $12.02, with the decline from 2021 reflecting the absence of an equity investment gain and the sizeable reserve releases that have boosted earnings this year.
Discover is trading near the high end of a wide 52-week range of $62-$136. Average loan balances declined sequentially in both 1Q and 2Q as repayment rates remained high, but sequential growth resumed in 3Q. We expect improved economic conditions and the roll off of government stimulus measures to boost loan balances heading into 2022. The high charge-offs feared during the first months of the pandemic have yet to materialize, and the company now expects lower credit losses in 2021.
We also see brighter long-term prospects for Discover as more spending moves online and to credit cards.
Our target price of $145 implies a multiple of 11-times our revised EPS estimate for 2022. We note the shares have nearly doubled over the past year, which we attribute to the vastly improved credit outlook
Jim Kelleher, CFA, Argus Weekly Staff Report, argusresearch.com, 212-425-7500, November 3, 2021