Discover Financial Services (DFS)

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Discover Financial Services (DFS)

F2Q10 (Qtr End 05/31/10) Earnings Call Transcript

June 24, 2010 11:00 am ET

Executives

Craig Streem – VP, IR

David Nelms – Chairman and CEO

Roy Guthrie – EVP and CFO

Analysts

Bill Carcache – Macquarie

Brian Foran – Goldman Sachs

Don Fandetti – Citigroup

David Hochstim – Buckingham Research

Sanjay Sakhrani – KBW

Jason Arnold – RBC Capital Markets

John Stilmar – SunTrust

Scott Valentin – FBR Capital Markets

Henry Coffey – Sterne, Agee

Rick Shane – Jefferies & Company

Chris Brendler – Stifel

Michael Taiano – Sandler O'Neill

Roger Papazian – Morgan Stanley

Bruce Harting – Barclays Capital

Presentation

Operator

Good day, ladies and gentlemen, and welcome to the Q2 2010 Discover Financial Services earnings conference call. My name is Deidra and I will be your coordinator for today's call. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the conference over to your host for today's call, Craig Streem, Vice President of Investor Relations. Please proceed.

Craig Streem

Thank you very much, Deidra. Good morning, everyone and we all want to welcome you to this morning's call. We certainly appreciate your interest and your joining us today. As always, I want to begin by reminding you that the discussion today contains certain forward-looking statements about the company’s future financial performance and business prospects, which are subject to risks and uncertainties and speak only as of today.

Factors that could cause actual results to differ materially from these forward-looking statements are set forth within today’s earnings press release, which was furnished to the SEC in an 8-K report, in our Form 10-Q for the first quarter ended February 28th, and in our Form 10-K for the year ended November 30th, 2009, both of which are on file with the SEC.

In the second quarter 2010 earnings release and financial supplement, which are now posted on our website at discoverfinancial.com and have been furnished to the SEC, we provided information that compares and reconciles our non-GAAP financial measures with the GAAP financial information and of course, we explained why these presentations are useful to management and to investors and we urge you to review that information in conjunction with today’s discussion.

In addition, to make comparisons more meaningful, we are continuing to provide historical results on a basis that excludes income statement impacts of the Visa/MasterCard settlement and the Morgan Stanley special dividend agreement dispute, and also adjust for the effects of FAS 166, 167 and this as-adjusted information was made available in today’s earnings release and in an 8-K filing on March 1st.

Finally, before turning the call over to David Nelms, our Chairman and Chief Executive Officer, I want to mention to everyone that my colleague in Investor Relations, Amit Parikh has been promoted to Director, Global Business Development in our Payment Services business and will be leaving me at the end of next week. I know that many of you have worked closely with Amit during his rotation on the IR team here at Discover and certainly appreciate the contribution he has made. I know that David, Roy and I expect that he will make an even more significant contribution in his new role and I'm sure you will join us in wishing him great success.

As is always our custom, our call this morning will include formal remarks from David and from Roy Guthrie and of course, a question-and-answer session.

And now, it's my pleasure to turn the call over to David.

David Nelms

Good morning and thanks for joining us. This morning, we were very pleased to report second quarter earnings per share of $0.33. Excluding the $0.13 per share impact related to repurchase of TARP preferred stock, which Roy will discuss later, we earned $0.46. The most significant factor in our performance this quarter was the improving outlook for credit, along with contributions from sales volume growth and lower expenses.

So let me begin with credit where we did experience a substantial improvement. It is clear that the performance of our portfolio is beginning to diverge from the national unemployment rate, which remains stubbornly high. In May, the number of long-term unemployed, those jobless for 27 weeks and over, made up nearly half of the total unemployed Americans and this ratio is now quite high relative to previous recessions.

While it is unfortunate that our economy has been very slow to create new jobs, it is the case that people out of work for an extended period have often already moved through delinquency or bankruptcy to charge-off. So we believe that at this stage in the credit cycle, the reduction in new job losses is a better indicator of future loss trends for us than the absolute level of unemployment. We think this helps explain why our overall charge-off ratio came in at 7.97%, slightly better than the low end of the range we had expected, reflecting declines in both contractual and bankruptcy related charge-offs.

Delinquencies have come down as well with the 30-day rate falling by 53 basis points from the first quarter. In fact, our total portfolio of 30-day delinquency rate is now at the lowest level since the fourth quarter of 2008. Looking ahead, indications are that credit will continue to improve and we now project that third quarter charge-offs will come in between 7.5% and 8%. As the positive credit trends continue, reserve releases should also continue, providing an important contribution to future earnings and greater flexibility to investor growth.

Now, let's take a look at some of the other key drivers of our results this quarter. Discover card sales volume was $22.9 billion, up 6% year-over-year and this was the strongest second quarter in our history. We've shared with you the importance of increased merchant acceptance as fundamental to driving better card member engagement and higher spending. And now, I do want to share some metrics that demonstrate our progress.

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