August 15, 2011 - Discover Financial Services (DFS-NYSE), together with its subsidiaries, operates as a credit card issuer and electronic payment services company primarily in the United States. The company offers Discover Card-branded credit cards to individuals and small businesses over the Discover Network.

In addition, the company offers automated teller machine, debit, and electronic funds transfer network; payments network; and credit, debit, and prepaid cards issued by third parties. Discover Financial Services was founded in 1986 and is based in Riverwoods, Illinois.

When a company takes its earnings from $1.22 to $3.55, investors need to take notice. That's what DSF is doing this year, if it closes out the last 2 quarters at analysts' estimates. But earnings haven't been on a steady upward path. In 2009, they were only 10 cents a share, coming down from $1.10 in 2008. In early 2009, the stock bottomed at $4.70 a share, taking an almost straight downard path from its initial public offering in 2007 when it traded at its all-time high of $32.20.

Earnings this year, according to the consensus from 18 analysts, should be $3.55. The range for that consensus is $3.30 to $3.75. Next year, they'll come back to $2.95, but again, the range is wide: $2.47 to $3.65. For the third quarter (fiscal year ends November 30), look for 84 cents compared to 47 cents last year in the third. For the final period, expect 78 cents vs 64 cents in last year's fourth.

The company delivered record net income in the second quarter, showing $1.09 a share (compared to 33 cents last year in the second). The net reflected strong loan demand, up 9% vs last year at this time, to $52.5 billion. Along with more loans came better credit quality, meaning higher profitability as the 30-day delinquency rate descended to a 25 year low of 2.8% and net charge-offs were well contained at 5%. Last year, the charge-off rate ran at 8%.

Of course, when you make large profits, it attracts attention, from investors, and competition. Visa is coming after DFS by lowering vendor rates, the rates it charges for processing credit card purchases. Expect Mastercard to watch how that goes and to jump in the fray. Lower processing fees would hit DFS's bottom line.

In fact one concern for investors is the possibility of lower margins and lower fees as competition seeks to take some of DFS's market share. With a NIM of 9% in this economic environment, many banks will look to see where they can step in and participate. As they look at mortgages at the 4% level, and their spreads diminishing almost daily as rates go lower, they will look at whatever asset or service that will help boost their NIM's.

One area that should see an increase for DFS is student loans. The tightening of the government's budget means fewer dollars for everyone, including students looking for loans. Discover offers student loans for its own portfolio. Expect that to grow over the next several years.

Revenues were $6.66 billion last year. This year should finish with $6.97 billion, then reach $7.16 billion in 2012. Market Cap is almost twice revenues at $12.66 billion.

Essential numbers: Trailing P/E is 7.65 while Forward P/E is 7.87. Price to sales ratio is 2.45. Price to book is 1.66. Book value per share is $13.79. Operating margin is 53.65%. Profit margin is 33.02%. Return on assets is 2.67%. Total cash is $3.79 billion for $6.95 a share. Total debt is $18.04 billion. Total debt to equity is 239%. Current ratio is 1.44. Beta is 1.59. The stock is up 58.5% in the last 52 weeks. There are 545.67 million shares Outstanding with a Float of 540.58 million. Insiders own .4% of the stock and Institutions have 85.2% of the Float. There is an annual dividend of 24 cents for a yield of 1%.

With an appreciation of 58.5% in one year, investors have shown their appreciation for DFS's management. Bringing in record profits will do that for a stock. Going forward it will be tougher to break that record as most likely the NIM will diminish as competition goes after DFS's customers. Still, DFS has proven it can deliver solid earnings in a tough market.

- Company Web site: www.discoverfinancial.com

   Ted Allrich