Should You Buy the Dow — American Express

Today Ill look at American Express (NYSE: AXP ), the financial services company
that does a lot more than just issue charge cards. American Express product
portfolio consists of charge and credit card products; expense management
products and services; consumer and business travel services; stored value
cards, including travelers checks and other prepaid products; network services;
merchant acquisition and processing, point-of-sale, servicing and settlement,
and marketing and information products and services for merchants; and fee
services comprising market and trend analyses and related consulting services,
fraud prevention services, and the design of customer loyalty and rewards
programs. One of the key driving factors regarding American Express is the
health of the general economy. AXP does not earn its money by charging interest
on unpaid balances, which is different from regular credit cards. Instead, it
earns its money by charging each merchant a transaction fee as a percentage of
each charge. These fees are higher than its competitors. So for American
Express, it really all comes down to how much money its cardholders are
spending. Since peaking in 2007, American Express is about 45% below that
amount. So if you are thinking of buying American Express, you are banking that
the economy will continue to improve and/or American Express will seize more
market share. Stock analysts looking out five years on American Express see
annualized earnings growth at 10.5%. But look closer, because net income jumps
19% over last year and 4% for FY 2012, suggesting annualized growth from then to
2015 is around 8%. Thats modest and acceptable growth for a company as big as
AXP. At a stock price of $47.50, on FY 2011 earnings of $3.98, the stock
presently trades at a P/E of 12. MasterCard (NYSE: MA ) trades at a 20 P/E, Visa
(NYSE: V ) at a 17 P/E, and Discover (NYSE: DFS ) at 8.25. So compared to its
peers, its right in the middle. Concerning American Express financials: The
company doesnt carry long-term debt, but it is responsible for paying all the
merchants people charge their card against. AXP owes about $41.2 billion and is
due $43.38 billion in customer receivables. Coupled with the $32.5 billion it
has in cash, American Express is more than covered on what it owes. Trailing
12-month cash flow was more than $8 billion, so the company generates plenty of
cash. The company also had nine times the amount of free cash flow necessary to
pay its 1.5% dividend. So it appears to be on solid footing financially. There
have been two insider purchases of about 25,000 shares in the past year not
great, but its something. Conclusion Placing a 10 P/E on American Express, with
projected 2015 earnings of $5.27 per share, gives us a price target of $52.70.
Thats only a 10% return from here. However, the fact it generates so much cash
each year about $7 per share means we can boost that target. Conservatively
assuming $5 per share in free cash flow, wed add $25 to the price target, which
becomes $77.70. Thats a 64% increase from here, or a nearly 14.5% annual
increase from here, including reinvested dividends. Finally, Warren Buffett owns
13% of the company. That reads to me as a long-term endorsement. I believe
American Express is a buy for regular accounts. I believe American Express is a
buy for retirement accounts. Lawrence Meyers does not own shares of American
Express.