Citing improved near-term prospects in the payments systems business, Montgomery Securities recently increased its 1995 earnings estimates for First Data Corp. and SPS Transaction Services Inc.
Richard K. Weingarten, an equities analyst with Montgomery in San Francisco, issued reports last month on the two companies that depicted improved earnings prospects for this year. Mr. Weingarten said Montgomery has maintained its "buy" recommendation for both.
Hackensack, N.J.-based First Data and Riverwoods, Ill.-based SPS are among the largest processors of credit card transactions for merchants, a financial technology business that over the past year has seen robust growth combined with quite a bit of merger and acquisition activity.
Mr. Weingarten said his higher earnings estimates are partly based on the vibrant fourth quarter 1994 results for both companies, combined with the secular growth in the payments business, as more and more consumers use credit and debit cards for transactions that were once paid for in cash or by check.
"It's a very strong environment right now for credit card companies," he explained. "Short term, it's being driven by people using incentive cards in more places, because they want to win an award" such as accumulating frequent-flyer miles or earning free gasoline. Payments processors have been among the first to benefit from this trend because they are paid by the number of transactions authorized, he added.
As a result, Montgomery raised SPS Transaction's 1995 earnings estimate by 10 cents a share, to $1.75. The new estimate amounts to a 25% rise from the company's 1994 earnings of $1.40 per common share.
In addition to broader trends in the electronic payments business, Mr. Weingarten said the upgrade of SPS was connected to its acquisition late last year of Tandy Corp.'s private-label credit card business. "We believe the Tandy deal is quite additive," Mr. Weingarten said.
He noted that the agreement builds on the card-processing services SPS already provides to Tandy, as SPS will purchase more than $900 million in card receivables, more than doubling its private-label card portfolio.
He added that while the Tandy deal will give it short-term earnings boost, it will also increase its dependence on earnings coming from card issuing, an interest-rate-sensitive business that usually commands a lower price-to-earnings ratio than fee-based processing services.
"Although the earnings are going up, SPS is experiencing a shift in their earnings stream from pure processing revenues to issuance-related revenues that have a lot of financial risk," Mr. Weingarten said, adding that credit card issuers usually command price-earnings ratios of between 10 and 13, while card processors garner P/E multiples of about 25.
But despite SPS's growing reliance on lower-multiple, card receivable- based revenues, "In my opinion, the stock is still cheap," he noted, citing the fact that SPS stock is currently trading at about 17 times its 1995 earnings estimate.
For First Data, Montgomery raised its earnings-per-share estimate from $2.20 to $2.23, a 19% improvement over 1994 profits.
"I had been little conservative with First Data because they made a ton of acquisitions last year," Mr. Weingarten said, alluding to its purchase of Western Union's money transfer business as well as to the pending acquisitions of merchant processors Card Establishment Services Inc. and Envoy Corp., deals that are expected to be completed by next month.
Increasing his estimate for First Data "reflects a higher degree of confidence in their being able to integrate all the new businesses without much of a bottom-line impact," he explained.
Mr. Weingarten said the upgrades followed an increase he made late last year in his 1995 earnings estimate for another payments processor, First Financial Management Corp. "First Data and First Financial should both grow earnings by 20% per year long term," he said.