Visa and Mastercard for decades have had a near duopoly on electronic payments, and investors have paid a premium to own their shares. A trifecta of threats -- from Congress, cryptocurrencies, and financial-technology companies -- seem poised to drain their moat.
But don't be fooled: The impending doom of card networks is a story that has been told for decades, and their position remains strong.
For now, card network profits are mostly a reflection of consumer spending and processing fees. Last quarter, Visa (ticker: V) earned $4.2 billion on $8.1 billion in revenue, while Mastercard $(MA)$ had net income of $2.8 billion on revenue of $6.3 billion.
Those fat profit margins of 52% and 44%, respectively, are maintained because the merchants that pay the fees have little choice. Cash accounted for only 18% of all payments in 2022, down 13 percentage points from 2016, according to the San Francisco Federal Reserve, while credit-card use rose the same amount to 31%.
Analysts love the stocks. Thirty-four of 38 analysts rate Visa a Buy or Overweight with an average price target of about $279, a 16% increase from its current price of $239.83, according to FactSet. And 34 of 37 analysts see the same for Mastercard, with a target of $455, up 15% from a $394.45 share price today. Barron's recommended Visa stock in October; it's up 17.8%, versus 15.9% for the S&P 500 index.
Visa trades at a multiple of about 25 times estimates of the next 12-month earnings, and Mastercard's price/earnings ratio is 29, compared with the S&P 500's 19.1. As noted in the Barron's Trader column last month, Visa and Mastercard look cheap relative to history. Visa's forward earnings multiple is about 31% higher than that of the S&P 500, compared with its five-year average premium of roughly 53%. The picture is similar for Mastercard, which is at a 52% premium compared with its historical average of 75%.
The reason that investors have traditionally paid up is the companies' seemingly unbreakable stranglehold on electronic payments at the register. Visa, for example, has had double-digit year-over-year revenue growth in 11 of the past 15 years, with the only sales drop coming in 2020.
But as cash dies, rivals are champing at the bit to cut into those fat margins.
The most recent attack came courtesy of the U.S. Congress and lobbyists for merchants that have blanched at giving up about 2% of their sales to processing fees every time a customer chooses to use a card.
Lawmakers led by Sen. Dick Durbin (D., Ill.) attempted to attach a provision to a must-pass military bill that would require many bank-issued cards to offer merchants the choice of running transactions over at least two unaffiliated networks.
The idea was to create fee competition, since the merchant would presumably choose whichever network offered a lower fee. But credit-card companies argued that it would also lead them to curtail popular rewards programs, like airline miles or cash back, that make economic sense only if the companies earn fees every time a consumer swipes.
The provision was backed by powerful business lobbying groups but failed to make it to the finish line. Though retailers will keep pressing for the change as opportunities arise, they're unlikely to fare better anytime soon, says BTIG policy analyst Isaac Boltansky.
"Our sense is that there is neither the appetite nor the urgency for sweeping policy changes in that market," Boltansky says.
Fintech and other nonbank financial firms are the next looming threat. Companies including PayPal (PYPL) offer peer-to-peer payments that bypass the networks, while Affirm Holdings $(AFRM)$, Klarna, and others offer "buy now, pay later" services that deter use of cards' credit lines. FedNow, the instant payment network launched this summer by the Federal Reserve, could compete with the card networks' own debit rails.
"None of these are a 'knockout.' It's death by a thousand strokes," says Mizuho analyst Dan Dolev, who downgraded Visa to Neutral in 2022 and has a price target of $240.
But focusing only on the swipe business misses part of the picture, and the card networks aren't standing still. A growing share of Visa's revenue -- 22% in the last quarter -- comes from so-called value-added services, such as fraud prevention and data analytics, that executives believe have room to grow.
"The truth is we are at the beginning of the journey across all of our value-added services businesses," said Visa CEO Ryan McInerney on the company's earnings call in late July. "They have enormous runway in terms of the opportunity to continue to penetrate."
Similarly, Mastercard says that it sees its services business growing faster than its core offerings.
Finally, there's the much-ballyhooed threat of cryptocurrencies and the instant, low-cost payments they could offer. PayPal in August launched its own "stablecoin," pegged to the dollar. The company says the coin, called PayPal USD, will work with crypto-native projects from day one but could also be used to send money among friends and family or in international remittances. Further off but even more of a threat is that the Fed could issue its own digital dollar, called a "central bank digital currency."
But Visa and Mastercard themselves will probably have a big role in getting those innovations into consumers' hands. Both are working on pilot programs to integrate the same technology that powers stablecoins into their own networks. The idea is to ensure that whichever currency or token that consumers prefer for payments, they'll transmit them through the credit-card networks' well-established rails, rather than something entirely new.
"I've been hearing about these kinds of threats for decades," says Wedbush analyst Moshe Katri, who rates both stocks Outperform. "You can form a network tomorrow, but ultimately you have to figure out how to get traction, and nobody has."
