Discover Financial Services’
Capital One Financial plans to acquire Discover in a $35.3 billion deal that would create a credit card behemoth with its own payments network.
The proposed merger of two of the six largest U.S. card issuers requires approval from federal regulators and is likely to invite heavy regulatory scrutiny. The companies, however, say the deal would help the Discover payments network compete against larger rivals such as Visa and Mastercard.
In a joint announcement on Monday, the two companies portrayed Discover as a relative underdog, even as it’s built a “rare and valuable global payments network” that’s accepted at 70 million merchants in more than 200 countries and territories. Despite its growth, Discover is “the smallest of the four US-based global payments networks,” the companies said.
“Our acquisition of Discover is a singular opportunity to bring together two very successful companies with complementary capabilities and franchises, and to build a payments network that can compete with the largest payments networks and payments companies,” Capital One CEO Richard Fairbank said in a news release.
The all-stock deal values Discover at a 26.6% premium, based on its closing price last Friday.
Earlier Monday, analysts had mixed reactions amid
The benefits of gaining its own payments network “could perhaps justify” paying a sizable premium for Discover, according to Brian Foran, an analyst at Autonomous Research. But the deal may also be “disappointing” to Capital One shareholders who were hoping the bank would use some of its excess capital to increase its dividend and buy back more shares, he wrote in a note to clients.
The deal would be made under a “very uncertain environment for executing large bank deals,” Foran noted, pointing to regulatory delays and scrutiny of big-ticket mergers. Last year, TD Bank Group and First Horizon Corp.
A Capital One-Discover merger would combine two major players in the credit card market, which may raise competitive questions for regulators, Foran wrote.
If combined, the two companies would have a 19% share of the $1.3 trillion market in revolving consumer loans, according to Foran. JPMorgan Chase is currently number one with a 16% market share.
Other analysts argued that antitrust considerations should not derail the potential merger.
“While the combination would mean one fewer big credit card issuer, the credit card market would still be fiercely competitive,” said Eric Grover, a principal with Intrepid Ventures LLC. “On the network side, if Capital One made Discover or Pulse its second debit network, that would increase network competition.”
Capital One could migrate some of its existing credit card and debit card volume from Visa and Mastercard’s rails to Discover’s, which would technically diversify competition away from the perceived power of the two dominant card networks, Grover said.
Executives from both companies, who will discuss the deal in an analyst call Tuesday morning, projected their merger would bring some $2.7 billion in pre-tax synergies. More than half of that would come from pure cost savings from running Discover and marketing its brand. The remainder would be “network synergies,” as Capital One debit purchases and “selected” credit card purchases are made on the Discover network, the companies said.
The two companies expect the deal to close in late 2024 or early 2025, pending approvals from regulators and both companies’ shareholders. Three Discover board members, who will be named later, would join Capital One’s board as part of the deal.
For Capital One, one potential downside is that buying Discover would hand it the risk that Discover’s cardholders won’t pay back their loans.
While Capital One’s most recent earnings report showed healthy credit metrics, Discover’s latest quarterly results were relatively bleak. The $151.5 billion-asset company reported a
Discover has been contending with
Analysts have long speculated about Discover’s potential value to a bank, a merchant or a technology company, said Richard Crone, a principal with Crone Consulting LLC.
“Discover for some time has been ripe for a combination with a third party that could be a bank, a neobank, a fintech or a tech titan like Apple, Google or PayPal,” Crone said.
But Discover has unique value to Capital One, since the addition would build on many of the McLean Virginia-based company’s existing strategies and products, he said.
One such product is Capital One Shopping, which the
“Although Discover has long been perceived as having a weaker merchant base than Visa and Mastercard, in fact it’s ubiquitous. And it has 70 million merchants on Discover Network, and every one of them are candidates for a slew of new services Capital One could provide,” Crone said.
For example, the addition of Discover could help Capital One to enhance or develop its point-of-sale financing offerings, including buy now/pay later plans, Crone said.
Discover already has
If the merger comes to fruition, Capital One would also gain Discover’s consumer deposit franchise. Both Capital One and Discover have been using digital banking channels to aggressively build their consumer deposits over the last few years.
Discover’s average consumer deposits rose by $14 billion last year, up 21% over 2022. In the fourth quarter of last year alone, Discover brought in $3 billion of deposits, up 4% from the preceding quarter.
Discover’s credit and debit card network rails would be another jewel in the crown for a buyer.
The
Sens. Josh Hawley, R-Mo., and Jack Reed, D-R.I., were
In Discover’s fourth-quarter earnings report, the firm said its Pulse dollar volume was up 19% in the last quarter of the year compared with the same period a year earlier. Executives attributed the boost to a
Previously, Fed rules hadn’t specified that online transactions were subject to the dual-network requirement, which went into effect for in-store transactions more than a decade ago. The broadened rule went into effect in July 2023, and so far
Discover’s credit card network and its Pulse rails also could also offer a competitive alternative to pay-by-bank options,
“Pulse has the scale to facilitate debit account transactions directly with merchants,” Crone said, suggesting that merchants could lean on Pulse’s existing infrastructure for security and guaranteed payments, rather than relying on bank account-to-merchant payments.
Any acquisition of Discover would likely be contingent upon the expected spin-off of its student loan business, which caused most of its regulatory headaches in recent years, Crone said.
Discover said last month that it’s working on the
“Discover jettisoning their student loan portfolio would be part of their strategy to make an M&A [deal] more attractive by focusing on the firm’s primary payment assets,” Crone said.
Another potential benefit to Capital One: the addition of Discover’s Diners Club network, which could position the buyer for expansion beyond its existing, somewhat limited, international card issuance business in the U.K. and Canada, said Brian Riley, director of credit and co-head of payments at Javelin Strategy & Research.
“With $142 billion in domestic credit cards at Capital One, coupled with Discover’s $100 billion book, Cap One would be at the top in terms of card issuance, but the real value could be in how Capital One leverages Discover’s card networks,” Riley said. “The combined entity would instantly be an alternative payments network.”