This mega deal in the credit card and banking industries is getting closer to being finalized.
Discover Financial (NYSE:DFS) and Capital One (NYSE:COF) reported fourth quarter earnings this week, just weeks or months, potentially, before they merge.
The merger of these two major banks and credit card providers was first announced about a year ago. The $35 billion deal would be one of the largest bank mergers in U.S. history and could reshape the credit and payment processing industry.
While it is a merger, Capital One, the nation’s ninth largest bank, is acquiring Discover, the 27th largest. But it is more than a bank merger, because these two are among the largest players in the credit card world.
Both Capital One, which reported Tuesday, and Discover, which reported Wednesday, easily topped estimates and both have seen their stock prices spike. Discover stock rose 3% today and climbed nearly 8% since Tuesday. Capital One has had similar results, jumping 3% on Thursday and rising about 7% since Tuesday.
A mega merger that could reshape payments industry
The deal is significant, mainly because it could reshape the credit card space. Currently, Discover is the fourth largest credit card/payment processor through its Discover Card network behind Visa (NYSE:V), Mastercard (NYSE:MA), and American Express (NYSE:AXP). As a closed-loop provider, Discover is both a lender, an issuer, and a payment processor, collecting interest on credit card loans and swipe fees. Discover has its own network and is not part of Visa’s or Mastercard’s.
Capital One is a traditional bank, but it specializes in credit card lending, so most of its revenue is from credit card loans. It is one of the largest issuers, meaning it issues credit cards that are used on Visa’s and Mastercard’s networks. The company makes interest income off of the loans, but not the swipe fees when the card is used.
So now, with Capital One set to buy the Discover network, it remains one of the largest card issuers. However, it would also have Discover’s network. Discover has long been the fourth biggest player in a four-company industry. But combining Discover with Capital One could be a game changer that puts Discover on competitive footing with Visa, Mastercard, and American Express.
“The acquisition of Discover is a singular opportunity,” Capital One Chairman and CEO Richard Fairbank said on the Q4 earnings call. “It will create a consumer banking and global payments platform with unique capabilities, modern technology, powerful brands, and a franchise of more than 100 million customers.”
Don’t crush the butterfly
While Capital One plans to continue to issue Visa and Mastercard cards as it has always done, the details on how it will integrate the Discover business have not yet been fully laid out. But it appears that the Discover Bank will merge into Capital One, but the Discover credit card network will maintain its name.
But Fairbank did elaborate somewhat on the earnings call Tuesday.
“Where we would love to be, over time, [is] in a position to add more and more volume onto the Discover network,” Fairbank said. “We think an incredibly important objective is to increase the depth and breadth of acceptance internationally.”
He added that the company will “be able to enjoy the vertically integrated economics of owning a network, and the scale that comes, of course, from pulling Discover and a bunch of Capital One’s volume together.”
Fairbank said that the acquisition represents a boost to the strategy it has pursued for more than a decade.
“If I were to summarize our strategy, it will be to continue everything we were doing as Capital One because we’re getting a lot of traction in that,” said Fairbank. “And then, making very sure that we don’t crush the butterfly of this beautiful business model that Discover has in the prime part of the market.”
Should close soon
In December, the merger got a key approval from the Delaware State Bank Commissioner, as Discover is a Delaware-chartered bank. It has also received the approval of both boards.
On February 18, shareholders from both companies will vote on the merger. After that, the final approvals must come from the Federal Reserve Board, the Department of Justice, and the Office of the Comptroller of the Currency.
Fairbank is confident that the deal will close in early 2025. Whether that means in the first quarter remains to be seen.
While impossible predict, the Trump administration has vowed to deregulate banks. It also has a more favorable view of mergers and acquisition, which could bode well for the deal getting done.
Capital One got multiple price target raises after earnings, with Jefferies bumping it up to $225 and Barclays increasing the target to $220. That would represent a 7% to 10% increase over the current price of $205 per share.
The new entity has the potential to be a great investment as the merger of two strong companies. But investors may want to wait for more news on the merger before making any major commitments.
