Visa (New York stock market :V) the stock has produced lackluster returns of around 5% over the past year, which doesn’t even keep pace with recent US inflation rate 6.4% in January 2023.
At least the stock outperformed the broader US stock market, using SPDR S&P 500 ETF Trust (TO SPY) as an approximation, which hovered around -7% over the period.
Admittedly, a year is too short an observation period. To be sure, we checked the last 5 and 10 years. Indeed, Visa outperformed in both periods. (Below is a chart of its 10-year returns against the US stock market.)
The 5-year and 10-year CAGR returns of Visa shares are around 19% and 22%, respectively. So its return of around 5% over the past 12 months is disheartening to say the least for investors. What is weighing on the stock?
What weighs on Visa shares
The general environment of relatively high inflation and relatively high interest rates to dampen inflation should weigh on Visa’s short-term results. The recent higher consumer spending for a certain group of Americans are not likely to be sustainable in the current environment. (For reference, for the first fiscal quarter, the United States contributed 46% of Visa’s total volume.)
After all, higher inflation makes goods and services more expensive for the citizens of Earth who cannot maintain their purchasing power. That is, if these people are not earning more money (i.e. salary increases or positive real returns on their investments), they are losing purchasing power.
Higher interest rates also increase the cost of borrowing for consumers and businesses. Many companies have to think twice before passing on higher costs (due to inflation or otherwise) to their customers. In an environment of higher inflation and higher interest rates, intelligent Earthlings are likely to be extremely cautious about where they spend or invest their money.
Visa’s recent results may be indicative of the health of Earth’s largest payment processor.
Recent Visa Results
Visa last released its first quarter 2023 results in late January. Here are some key highlights. Net revenue increased 12% to $7.9 billion, supported by stable payment volume growth of 7% and growth in processed transactions of 10%.
Specifically, gross revenue was primarily split between 33% service revenue, 36% data processing revenue, and 26% international transaction revenue. Visa saw growth across all revenue streams with the largest percentage increase of 29% in revenue from international transactions, which was helped by a continued recovery in cross-border travel.
Notably, Visa saw a whopping 25% increase in operating expenses to $2.8 billion. He explained that the jump was mainly due to the increase in staff costs and the litigation provision associated with the MDL case. As a result, GAAP net income increased only 6% to $4.2 billion, while GAAP earnings per share (“EPS”) increased 8% to $1.99.
Adjusted earnings growth is much more in line with the company’s typical double-digit growth rate. Specifically, adjusted net income increased 17% to $4.6 billion, while adjusted EPS increased 21% to $2.18. EPS metrics were improved by a 2.6% year-over-year reduction in the number of Class A common shares.
Despite an environment of higher inflation and interest rates, the stock continues to trade at a price-to-earnings (P/E) ratio above 27. This is no doubt due to Visa’s quality and its sustainable earnings and cash flow. In the recent quote, the stock appears to be trading at a fair P/E relative to its normal long-term valuation.
Based on price to cash flow, the stock appears to be trading at a slight discount of around 12% on a forward basis. This estimate seems to better align with the analyst consensus objective.
Analysts estimate the stock is trading at a 16% discount to the consensus 12-month price target of $261.48 per share, which also suggests near-term upside potential of 19%. Analysts generally think the stock is slightly discounted.
Visa is a cash flow machine
The quality of Visa is evident. Obviously, it’s a free cash flow machine. From fiscal year 2019 to 2022, it used less than 6% of its operating cash flow for capital expenditures. Over the past 12 months, it has generated free cash flow (“FCF”) of over $17 billion. Thus, its payout rate was <19% FCF.
This strong cash flow generation has allowed the stock to easily grow its dividend at a double-digit rate since its inception in 2008. For reference, its five-year dividend growth rate is 17.8%. And it last increased its dividend by 20.0% in October 2022.
Key takeaway for investors
Visa is a reliable company with a high S&P credit rating of AA-. It is worthy of long-term conservative investors to consider keeping their investment portfolios diversified.
The company generates significant free cash flow throughout economic cycles. Even during the pandemic that has impacted economies around the world, Visa only experienced an 18% decline in free cash flow in fiscal year 2020.
Technically, there’s not much to say about Visa shares other than that they’ve been trading in a sideways range of around $190-$230 for the past couple of years or so. From a technical standpoint, interested investors could aim to accumulate shares in the middle of around $210, if not lower.
As the Class A stock appears to be trading at a fair valuation, even a slight discount, I wouldn’t hesitate to rate the stock as a buy. I would consider this a wonderful business venture at a fair valuation.
It is far better to buy a great business at a fair price than a fair business at a great price. -Warren Buffett