By Andrew R. Johnson
Membership has its privileges--and its costs.
Moves by credit-card issuers to make it easier for customers to
use the rewards they earn from spending are helping increase
customer loyalty, experts say, but are also driving up expenses for
some of the industry's biggest names.
American Express Co. (AXP) is the most recent lender to take a
financial hit. The company Thursday announced a $342 million
quarterly charge tied to its Membership Rewards program.
The largest credit-card lender based on customer spending said
its customers are essentially using up the rewards points they
receive for each purchase made with an AmEx card at a higher rate
than it previously calculated. That is forcing the company to
record a larger liability on its balance sheet to pay for the
points it doles out to cardholders, and will increase rewards
expenses by $40 million annually going forward.
AmEx executives say the higher costs are a good sign: higher
participation in its flagship rewards program, which is attached to
most of its proprietary charge and credit cards, reflects strong
customer engagement. This bodes well for the lender, they say, as
other banks aggressively court the well-heeled consumers that are
AmEx's bread and butter.
"It's almost a high-class problem, in a way," said Donald
Fandetti, an analyst with Citigroup Inc.
AmEx Chief Financial Officer Daniel Henry said during a
conference call Thursday that rewards are a "major competitive
advantage for us."
"They drive higher billings and they result in closer,
longer-lasting relationships with our cardmembers," Mr. Henry
added.
AmEx, which does a large amount of its business with wealthier
consumers, has built a reputation for dangling lucrative rewards
and other perks before customers to put its cards in the coveted
"top-of-wallet" position for which card issuers battle with each
other.
Analysts say the higher costs are largely the result of changes
AmEx and competing issuers such as Discover Financial Services
(DFS), J.P. Morgan Chase & Co. (JPM) and Citigroup Inc. (C)
have made to allow customers to use points, cash back and other
"rewards" for more items, in more ways and more frequently.
Credit-card issuers must account for unused rewards points to
ensure they can pay for them when customers redeem them.
Following a recent review of its Membership Rewards program,
AmEx determined the redemption rate for points customers earn
increased to 94% from a previous calculation of 93%, executives
said Thursday. The calculation has risen in recent years, with AmEx
reporting a redemption rate of 90% in 2008, according to regulatory
filings.
Under its new rate, the company will hold a liability on its
balance sheet of $5.8 billion for membership rewards, Mr. Henry
said.
It "reflects consumers are ... becoming more savvy about
redeeming their points," said Mark DeVries, an analyst with
Barclays. "The Internet has made it so much easier for people to
redeem their points."
While historically cards marketed to higher-end consumers were
more likely to come with a program, today even many mass-market
credit cards can earn points or cash back for every dollar a
customer charges.
To that end, issuers are looking for ways to set their programs
apart to prevent customers from ditching their cards for those of
another bank, eliminating restrictions on how many points needed to
redeem for gift cards and striking partnerships with merchants that
allow cardholders to actually use their points as a form of
currency.
Changes to AmEx's calculation for rewards use "reflects an
intensification of competition in the prime card space, as well as
evolving customer preferences," Fitch Ratings said Friday about the
company's fourth-quarter charges.
AmEx has been particularly aggressive on this front, striking
partnerships with Live Nation Entertainment Inc.'s (LYV)
Ticketmaster.com and Amazon.com Inc. (AMZN) that lets its
Membership Rewards members apply points directly to purchases made
on those sites. They also can apply points to travel-related
purchases on AmEx's Membership Rewards site.
Similarly, Citi introduced that capability last year for
cardholders' purchases on LiveNation.com. Citi credit-cardholders
can use their ThankYou Rewards points on purchases from the
site.
J.P. Morgan allows some of its credit-cardholders to use their
rewards points on Amazon.com, as does Discover for its cash-back
cardholders.
Discover executives last month said its rewards expenses
increased higher than expected in the fiscal fourth quarter due in
part to an aggressive promotion it ran offering customers an
accelerated amount of cash back on certain purchases.
"That program was probably a little bit too rich in retrospect,
but it did drive fabulous cardmember engagement, which is great,"
Discover Chief Financial Officer Mark Graf said during a conference
call.
Rewards expenses will likely moderate, he said.
Increased rewards offerings are another way the credit-card
industry is trying to combat tepid loan growth. Most consumers
remain leery about carrying large balances on their cards, crimping
the revenue lenders make from fees charged on revolving loans.
While AmEx and Discover have eked out growth, credit-card issuers
in general are still combating consumer cautiousness.
Richer rewards offerings can help entice new customers and
promote card spending.
"They're kind of buying a little bit better loan growth,
effectively," Mr. Fandetti said.
Write to Andrew R. Johnson at andrew.r.johnson@dowjones.com
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