Thread by @investing_city

American Express is not like Visa and Mastercard. 💳

The business model is much more like a bank than anything else. 🏦

Business Breakdown [THREAD] 👇🏽

1/ Before getting into it, it's helpful to understand how credit cards actually work. Check this out first:

https://twitter.com/investing_city/status/1058840239693684736

2/ Ok, just to recap

There are 5 parties:
- account holder (us!)
- issuing bank (our bank!)
- card network (Visa/Mastercard!)
- merchant (where we buy stuff!)
- acquiring bank (merchant's bank!)

Technically we left out processors like Fiserv but some acquiring banks do that.

3/ And here is everything in action. Hopefully, this gives more context for what we're about to talk about with American Express.

You can see that the card networks exist outside of the issuing and acquiring banks.

4/ Instead, American Express acts as an issuing bank AND the card network. So it would look something like this:

5/ Rather than act like a toll collector (V/MA), American Express issues cards to its clients and has relationships with merchants. It's called a closed-loop system.

6/ Here's another graphic just to hammer to point home:

7/ Now, let's see how all of this affects the revenue segments.

American Express makes money in 4 main ways:
- discount revenue
- interest on outstanding credit
- annual card fees
- other fees (delinquency/forex/rewards)

8/ One thing that stands out is the net interest income. You obviously won't see that for Visa and Mastercard.

On the left is Visa and the right is Mastercard:

9/ This comes back to the fact that American Express is also an issuer.

So it makes money from the merchant discount rate (typically 1.8-2%) that is taken from the merchant on a purchase.

As well as from the outstanding credit for its account holders.

Whereas Visa/(MA)...

10/ That's why the margin structures are so different.

Visa's EBIT margin: 65%
Mastercard's EBIT margin: 56%
American Express EBIT margin: 20%

To crystallize this, we can break down Amex's discount revenue further...

11/ About 86% of Amex's business comes from the issuing side but the other 14% is pretty similar to Visa and Mastercard where it partners with other financial institutions and acquirers (we'll label this: network)

12/ But as you might imagine, the margins for the "Network" segment are much higher so it makes up a larger portion of overall EBIT.

13/ Another interesting way to look at it is the difference between issuing revenue (aka discount) and interest income. That gives you an idea of how much a bank makes on credit card interest vs. merchant discount rate.

For Amex, net interest income makes up 21% of net revenue.

14/ I would've thought that issuing banks make most of their money from charging crazy credit card interest rates to consumers.

But it's really the merchants who account for most of an issuing bank's revenue.

The merchants pay the issuing bank for the right to take a card.

15/ It's a really interesting network effect. A long time ago, banks started offering consumer credit and people were like "this is awesome!"

Then the banks went to merchants and said "you should accept this plastic thing and pay us b/c people want to use it."

16/ There you have it, American Express is more like a bank than a card network.

The problem is that this creates a harder time for Amex to partner with other financial institutions. But in turn, it has more control over the account holder's experience.

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