Payment Processing
2009 Outlook: Favoring EPS Defensibility and OPEX
Deleveraging, Staying Long the Networks
Computer Services & IT
Consulting
Tien-tsin Huang, CFAAC
(1-212) 622-6632
tien-tsin.huang@jpmorgan.com
Reginald L. Smith, CFA
(1-212) 622-6743
reginald.l.smith@jpmorgan.com
J.P. Morgan Securities Inc.
See page 41 for analyst certification and important disclosures.
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So Much for Being a Relatively Safe Haven; Stay Long the Networks. 2008 was a
rough year for payment processing stocks (down 49% vs S&P 500 down 41%) as
investors questioned the resiliency of the secular trend and fled higher-P/E stocks. We
believe the payment processing space is far more resilient than recent stock
performance would suggest and will ultimately be one of the first sectors to attract
investment flow once market sentiment improves. We continue to like the payment
networks for their pricing and expense levers, which should sustain earnings growth
through the economic cycle, in our view, and we see them leading the eventual
recovery in the payment processing space. MasterCard is our top pick.
• Acknowledging Macro, Reducing Volume Projections. 2009 will be a watershed
year for payments, in our view. We believe the unprecedented slowdown in retail
sales and the retail store closures will overshadow the secular tailwind in electronic
payments (a departure from our previous thinking). If current trends hold, ’09 could
produce the first decline in total retail sales in more than 30 years. We are reducing
our 2009 domestic purchase volume growth assumption by 150bps to 2.6% (V
+3.6% vs MA +0.7%), which would represent the slowest growth in the modern
payments era (the previous low was 9% in 1991). Our estimates contemplate a retail
sales decline of 0-3%. That said, we continue to like V/MA, despite our reduced
volume outlook, as we believe planned pricing and operating expense initiatives will
drive solid double-digit EPS growth through the cycle. We estimate every 100-bp
change in domestic purchase volume is worth ~$0.02 and ~$0.08 in annualized EPS
for Visa and MasterCard, respectively, or less than 1% of our CY09 EPS estimates.
• Tweaking Thesis, Top Picks MA, WU and V. Our thesis is largely unchanged: we
continue to prefer larger-cap names with greatest earnings visibility. However, we
are reranking the criteria to reflect market conditions and sentiment and have deemphasized
incremental margins in favor of operating expense deleveraging
potential and earnings defensibility. We prefer large-cap names with (1) solid
balance sheets and strong FCF generation, (2) above-average pricing and expense
levers, and (3) above-average international/emerging market exposure. Our top
picks, ranked in the order of upside potential, are Overweight-rated MasterCard,
Western Union, and Visa. We think MA and WU have been unfairly punished based
on near-term guidance concerns and are best positioned for a near-term relief rally,
while V offers the greatest earnings visibility.
• Secular Could Be Worth 5 Points of Growth. Between 2003 and 2007, bank card
purchase volume growth exceeded total retail sales growth by an average of 5
percentage points (or ~$90-120bn on a notional basis), which we think is a good
proxy for secular adoption. Our 2.6% domestic purchase volume assumption
contemplates 4-5% secular growth and a retail sales decline of 0-3%.

Downgrading WXS to Neutral. We are reducing our WXS estimates to reflect even
lower spot fuel prices and downgrading shares to Neutral as we believe (1) near-term
earnings are more sensitive to fluctuations in spot gasoline prices than many investors
may appreciate, (2) WXS’s unhedged earnings exposure poses above-average risk to
’09 Street estimates, and (3) longer-term EPS growth (i.e., 2H10 and beyond) is
heavily contingent on a meaningful increase in gas prices from current levels.
• Decelerating Remittance Growth. Deteriorating employment prospects in the
developed countries is weighing on remittance sentiment. A recent World Bank report
projected a 0-7% decline in remittance volume in ’09 (vs 7% in ’08). We think fears
about the impact of macro on WU business may be overdone as we expect the
company to continue to gain share (and outgrow the broader industry) in FY09. We
are forecasting 8% C2C transaction growth for WU in ’09 (vs 13% in ’08).
• Key Investment Themes. We think payment processing sentiment and share
performance will continue to be driven by (1) earnings defensibility, (2) retail sales
trends (another stimulus package?), (3) bank consolidation or failures, and (4) industry
regulation. Other themes with less breadth but meaningful relevance to a handful of
individual stocks include: (1) cross-border travel (V/MA), (2) consumer credit
sentiment (ADS, V/MA), (3) gas spend/prices (WXS, V/MA), and (4) the remittance
outlook.
• The Best of the Rest. Of our beaten-down Neutral-rated stocks, we think CATM
presents the most interesting opportunity, based on its current valuation (3.6 times our
’09 ests) and relatively nondiscretionary recurring revenue business model, which we
think compares favorably to GCA and PAY.
• Updating Estimates. We are updating our estimates for several of our companies
(ADS, GCA, M, V, and WXS). Our new estimates assume more modest volume
growth, lower interest rates and higher credit losses in FY09.