Discover Financial (DFS) Grows On Loans, High Debt Hurts

Discover Financial Services (NYSE:DFS) is one of the major card issuers in the United States and a leading innovator in the credit card industry.

In the recent past, Discover Financial witnessed solid growth in its total loans — comprising credit card loans, personal loans and private student loans. It also saw improvement in credit quality trends. Management anticipates total loan portfolio to grow 5.5-7.5% by the end of 2017.

The company's banking business has been performing well for the past many years. Within this business, the private student loan portfolio has grown significantly from $1 billion in 2010 to nearly $9 billion in 2016 followed by further improvements in 2017

In the last six months, shares of the company have gained 26%, outperforming the industry’s rally of 13.7%.

The stock price appreciation may primarily attributed to the company’s solid brand recognition, strong credit card business, continuous product innovation and customer acquisition strategies.

Moreover, the company’s capital strength enables it to take up several capital deployment initiatives to enhance shareholders’ value. Notably, Discover Financial has received non-objection from the Fed for its proposed capital actions.

However, the company’s bottom-line growth has been limited by increasing costs. Discover Financial incurs substantial expenses owing to marketing and business development. These apart, anti-money laundering program enhancements, infrastructure investments and high legal, regulatory and compliance costs have contributed to the escalating expenses.

In addition, the company’s over dependence on debt has resulted in a continuous increase in the level of leverage. The rise in level of debt has also led to increase in interest expenses since 2012. This rising level of financial leverage has resulted in financial risk and increasing interest expenses that continue to weigh on the margins.

Zacks Rank & Stocks to Consider

Discover Financial presently carries a Zacks Rank #3 (Hold).

Investors interested in the Payments space can consider companies like Green Dot Corporation (NYSE:GDOT) , Western Union Company (NYSE:WU) and Total System Services, Inc. (NYSE:TSS) . All of these stocks carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Green Dot delivered positive surprises in all of the last four quarters, with an average beat of 27%.

Western Union delivered positive surprises in three of the last four quarters, with an average beat of 9.1%.

Total System delivered positive surprises in each of the last four quarters, with an average beat of 5.7%.

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