American Express (AXP -0.62%) is one of Warren Buffett's favorite and longest-held stocks. It hasn't always been a market-beating investment, but this well-established financial giant is gaining momentum, and it may just be entering its prime. Should you add it to your portfolio?
How American Express is different
The financial services company owns one of the four large credit card processing networks in the U.S. The others, of course, are Visa, Mastercard, and Discover, although Discover is being acquired by Capital One.
But American Express is different from Visa and Mastercard because it runs a closed-loop model, which means that it acts as its own funding bank. The other networks partner with banks to fund credit card lending, which is why their credit cards are approved by their issuing banks. Under this model, Visa and Mastercard don't have much exposure to consumer debt -- they just take swipe fees on the transactions. The advantage for American Express is that as a bank, it has loads of cash deposits that it can use as funding, and that provide it with net interest income. In 2023, its net interest income rose by 33% and accounted for 22% of total revenue.
American Express has expanded during the past few years to offer a larger suite of financial services including savings accounts, checking accounts, and CDs, and it also has a robust small business segment. It's a lot more than just a credit card network.
How American Express is changing
The company has changed in other ways as well. It has embraced a new, younger clientele that's affluent and loves its unmatched perks and rewards program. This premium customer base is the foundation of its membership fee model. American Express charges annual fees for its cards, which feeds its bottom line, and its high-earning members are also high spenders. Card fees increased 20% year over year in 2023 and accounted for 12% of total revenue.
Millennial and Gen Z customers accounted for more than 60% of new consumer accounts globally last year, and 75% of new U.S. consumer platinum and gold accounts. American Express maintains high retention rates and best-in-class credit metrics, which isn't surprising given the affluent customer base it caters to. These customers will grow with American Express and drive its revenues higher.
Chief Executive Officer Stephen Squeri noted that the company has four differentiating features that are difficult for challengers to replicate: diverse revenue sources, which include the recurring membership fees; a focus on premium customers that drives spending, good credit, and loyalty; a growing partner base; and strong brand value. Together, those comprise its moat -- and a durable moat is one of Buffett's favorite characteristics in a company.
Getting the most out of its customers
Despite the challenging economic climate last year, American Express delivered excellent results. Revenue increased 14%, and net income was up 11% inclusive of increased provisions for losses, which it more than doubled year over year.
It's still a boutique business compared with rivals Visa and Mastercard. It has about 140 million cards in circulation vs. Visa's 4.3 billion. But its customers are high-quality spenders, and it has a more diversified overall business. Putting that together, American Express brings in almost twice as much revenue as Visa.
AXP Revenue (TTM) data by YCharts.
Why this might be a great time to buy
In 2022, American Express management presented a new growth strategy and offered a long-term projection for annualized growth in revenue of at least 10%, and growth in earnings per share in the mid-teens percentages. It's already exceeding those goals, and it's setting itself up to keep winning. It has its finger on the pulse of its customers, and it's launching products and offering rewards that meet their needs. It still serves the older demographics that it did before, but it has expanded its target customer base and is creating new opportunities for growth. It also pays a dividend that yields 1.2% at the current share price.
American Express is a top Buffett stock with plenty of potential. Value investors should consider adding the stock to their portfolios.
