Here's Why Prudent Investors Are Holding Discover (DFS) Stock

Discover Financial Services’ DFS growing top line, improving net interest margin, higher loan growth, digital transformation and efforts to boost shareholder value make it worth retaining in one’s portfolio.

It is a leading digital banking and payment services company in the United States. It offers products like credit cards and personal, student and home loans as well as deposit products with acceptance in more than 185 countries and territories.

Zacks Rank & Price Performance

DFS currently carries a Zacks Rank #3 (Hold). In the past six months, the stock has gained 8.8%, outperforming the industry’s growth of 5.1%.

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Return on Equity (ROE)

The ROE of Discover Financial of 33.9% is way higher than the industry average of 16.5%. This reflects its efficiency in utilizing shareholders’ funds.

2023 Estimates & Surprise History

The Zacks Consensus Estimate for DFS’s 2023 earnings is pegged at $13.53 per share. The same for 2023 revenues is pegged at $15.2 billion, suggesting a 13.7% increase from the year-ago reported figure.

The company beat earnings estimates in three of the past four quarters and missed on the other occasion, the average surprise being 6.4%.

Growth Drivers

Discover Financial has witnessed consistent and significant revenue growth for the past few years. Its total revenues increased 10% to $13.3 billion in 2022 due to higher net interest income, new account acquisitions and improving non-interest income. As the Fed continues to keep a high interest rate environment to battle inflation, DFS’s top line is expected to grow further. It is to be seen whether the company can sustain its high net interest margin in the future. Discover Financial expects the net interest margin to be modestly higher in 2023 than 11.04% at 2022-end. It estimates revenue growth to be in double digits for 2023.

Non-interest income contributed 20.6% to total revenues in 2022. The company also earns through net discount, interchange and loan fees apart from interest income. This metric grew 21.4% in the digital banking business due to a higher volume of late payments and improved discount and interchange revenues. This figure is expected to rise further when a strong sales trajectory and favorable sales mix are sustained.

The company’s Digital Banking segment accounted for the majority of revenues in 2022. New card accounts rose 17% year over year in 2022. It is expected to witness more growth accompanied by further moderation in payment rates. Non-card products in the Digital Banking segment include loans provided to individuals through organic student loans, personal loans and credit card loans. DFS’s appealing value proposition and disciplined marketing approach position it well for growth along with strong consumer demand. Solid performance of the Digital Banking segment should drive the top-line growth of Discover Financial.

The company believes in prudently investing in the growth areas. As DFS is exposed to online threats like any other digital banking company, it carries on technological advancements related to cloud, telecommunications, hardware and operating systems. It has partnered with International Business Machines Corporation IBM and TYDEi Health to enhance its technological solutions and ease healthcare purchase payments. These investments are expected to reduce its operating expenses in the future and improve security and efficiencies.

The company manages its excess capital well through share repurchases and debt repayment. It bought back shares worth $2.4 billion in 2022. It also increased its quarterly dividend to 60 cents per share in 2022. Hence, Discover Financial is a good option for an investor looking for returns in the form of dividends.

Key Concerns

There are a few factors that have been impeding the stock’s growth lately.

Rising costs trim its margins. DFS’s total expenses rose 9% in 2022 due to higher employee compensation, benefits and marketing expenses.

Discover Financial’s rising provision for loan losses undermines its growth potential. It rose more than twice in 2022, reflecting high expectations of bad loans in the future. Nevertheless, we believe that a systematic and strategic plan of action will drive growth in the long term.

Stocks to Consider

Some better-ranked stocks from the Consumer Loans space are Regional Management Corp. RM and Enova International, Inc. ENVA. Regional Management sports a Zacks Rank #1 (Strong Buy) and Enova International carries a Zacks Rank #2 (Buy) at present.You can see the complete list of today’s Zacks #1 Rank stocks here.

The Zacks Consensus Estimate for Regional Management 2023 sales indicates 8.5% year-over-year growth. The Zacks Consensus Estimate for RM’s 2023 earnings has moved 17.5% north in the past 60 days.

The bottom line of RM outpaced the Zacks Consensus Estimate inthree of the last four quarters, while it missed in one, the average surprise being 14.9%.

The Zacks Consensus Estimate for Enova 2023 earnings indicates 13.2% year-over-year growth. The Zacks Consensus Estimate for ENVA’s 2023 earnings has moved 1.4% north in the past 60 days.

The bottom line of ENVA outpaced the Zacks Consensus Estimate ineach of the last four quarters, the average surprise being 6.6%.

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