AmEx to End Contract with Costco U.S.; Shares Decline (Revised) - Analyst Blog

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American Express Company ( AXP ), also known as AmEx, shares lost 9.2% over the last two trading sessions since the company declared that its merchant acceptance agreement with Costco Wholesale Corporation ( COST ) will end on Mar 31, 2016.

Till the contract ends, both the entities will abide by the terms of their existing agreement wherein all American Express credit cards will be accepted at Costco warehouse stores in the U.S. and on Per the agreement all co-branded cards from American Express and Costco are also accepted at all American Express card terminals.

Reason for Ending the Contract

The costs of renewal for co-brand relationships have escalated over the last two decades due to increased competition. American Express has had to witness such inflated costs time and again for contract renewals. American Express has been evaluating its co-branded relationships and decided to accelerate the contract renewal analysis with the co-brand partners before it is actually time to renew the contracts.

The goal behind this strategy is to filter those multi-year contract renewals that would be most fitting to the company's requirements. American Express aims to retain those contracts that would enhance value for Card Members, have best growth potential and best economics for its shareholders.

These initiatives would give the company a clearer picture or more specifically, a certainty about the existing partnerships and thereby help it focus on opportunities that would generate growth and attractive returns in the medium-to-long run.

With more than 70% of the company's purchase volume coming from cards comprising non-co-branded products that have strong economics, attractive value propositions, effective Card Member acquisition engine and industry leading service, American Express has solid reasons to discontinue with the less rewarding co-branded relationships.

Costco and American Express have had a 15-year long merchant acceptance relationship. American Express had been analyzing the contract renewal possibilities with Costco in advance of the expiration of the agreement for the reasons mentioned above, but was unable to reach to terms that would be economically fruitful for itself and its shareholders.

Impact of the Contract Discontinuation

American Express stated that termination of its contract with Costco U.S. could bring about a slowdown in billings, loans and revenue growth related to Costco U.S. co-brand in 2015.

Last year the company had ended its contract with Costco Canada but renewed the long-term partnership with Delta and Starwood. These, along with the pending contract expiration with Costco U.S., are expected to affect the 2015 and 2016 results significantly.

The company expects 2015 earnings per share to be flat with that of 2014 or might even decline. However, the company remained optimistic and expects to recover earnings in 2016. Once the contract with Costco U.S. and other co-branded partner renewals stop impacting company growth rates, earnings are expected to improve. Thus in 2017, American Express projects a 12-15% EPS growth.

Plans Post the Contract Discontinuation

Costco co-brand customers engage in transactions of which 70% occurs outside the Costco warehouses. American Express intends to capitalize on this opportunity and thus post the discontinuation of the contract, it intends to undertake initiatives that would generate value propositions and attract these customers. In other words, the company intends to build on its previous initiatives where it launched SimplyCash and SimplyCash Preferred cards to attract co-brand customers in Canada after the contract expired with Costco in the country.

Zacks Rank

American Express carries a Zacks Rank #3 (Hold). Better-ranked stocks in the financial services space include General Finance Corporation ( GFN ) and Ladder Capital Corp ( LADR ). Both the stocks sport a Zacks Rank #1 (Strong Buy).

(We are reissuing this article to correct a mistake. The original article, issued on 2/13/2015 should no longer be relied upon.)

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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