Risks many, but rewards priceless in MasterCard IPO

By ALEX PHILIPPIDIS

May 15, 2006

Westchester County Business Journal

westchestercbj.com

With its $2.8 billion initial public offering expected to start trading this week, MasterCard International Inc. must address a series of issues that threatens to wipe out much of what it expects to gain on Wall Street, industry observers agree.

Shares would trade between $40 and $43 a share when the Purchase-based credit card giant begins selling almost half of its stock or 61.5 million shares to the public -- a sale expected May 24.

' It will not generate the kind of exuberance that IPOs in other industries sometimes do. There are too many potentially negative issues affecting MasterCard' s ability to maximize profits,' said David Robertson, editor of The Nilson Report, in a written analysis.

The Purchase-based credit card giant says the IPO proceeds will not only fatten its bottom line but help it fight lawsuits like a class-action case by dozens of retail trade groups, expand beyond banks the companies that could issue its credit cards and even help start up some businesses and teach youths about money.

But MasterCard, like archrival Visa International Service Association, could lose billions of dollars in the next few years if federal courts agree with the retail groups. They have filed several federal class-action suits to end ' interchange' fees charged by credit card-issuing banks for converting charges on the cards into cash deposits at merchants' checking accounts.

Since 2003, Robertson said, MasterCard-member banks have earned more than $18 billion in interchange fees, an amount expected to reach $45 billion in three years. If the courts find member banks were overcharged, they' ll be less likely to carry MasterCard and Visa, which could be exposed to triple damages.

' It could reduce transaction volumes. It could result in dropped customers among member banks, so it could have an impact on them,' said William K. Smith, chief executive officer of IPO tracker Renaissance Capital L.L.C. in Greenwich, Conn. ' They really haven't been able to quantify that impact except to say it's in the billions,' Smith said.

Regulators in the European Union, the United Kingdom and Australia are also working to cut interchange fees.

MasterCard will also lose money because it will stop charging ' special' assessments on member banks. MasterCard has already warned investors in its IPO filing it expects Standard & Poor's to lower the company's credit rating as a result.

Even worse for MasterCard, it can no longer bar banks from issuing cards for smaller rivals like American Express and Discover, thanks to a 2004 U.S. Department of Justice ruling.

' MasterCard may have already had it's ' easy' growth,' judging from these and other risks it highlighted to investors, said Francis Gaskins, editor of Gaskins IPO Desktop in Marina Del Rey, Calif. ' At this point it needs to rely on structural growth in its markets, with most of the growth coming from international markets.'

REVERSING A SLIPPING MARKET

Another key concern for MasterCard is reversing its slipping market share. Last year, MasterCard commanded 28.9 percent of the U.S. credit card market, second to Visa with 53.9 share of market, according to CardData. American Express and Discover round out the top four. Over the past year Visa has gained more than a quarter-percentage point on MasterCard, whose $560 billion in gross dollar volume was just above half of Visa's.

The gap between credit card giants is even wider in the debit-card sphere, where Visa holds a nearly 4-1 edge in dollar volume and more than 2-1 margin in number of cards, says CardData. Visa was faster than MasterCard to capitalize on the debit card boom spawned by widespread merchant acceptance, observers agree.

' The main area that they really need to start moving on is the debit-card market. It's an area where they could grow significantly, but they' re certainly not there now,' Smith said.

MasterCard has also raised eyebrows with its plans to set aside 10 percent of the stock, plus $40 million in cash, for a charitable foundation. ' It will be largely dedicated to the funding of microfinance, youth and education,' said Ruth Ann Marshall, president of MasterCard' s Americas region, keynoting the Westchester County Association' s spring dinner May 11.

Marshall declined to be interviewed after her address, citing the traditional ' quiet period' just before and after initial stock sales.

' As far as I can tell, the $40 million charitable contribution doesn' t make business sense and doesn' t represent the best interests of public stockholders,' Gaskins said.

Gaskins said MasterCard is also giving too much of the proceeds to underwriters led by Goldman Sachs Group -- $729 million through sale of 4.6 million shares: ' The underwriters are in essence bailing out as much as they can, most likely based on the risks. In addition, some of the underwriters may be in a position to issue their own credit/debit cards if they chose to.'

Small businesses and consumers could also emerge winners, since a public MasterCard will be forced to offer users more incentives to compete with banks creating their own payment systems, as Bank of America and other lenders have discussed, and with Wal-Mart, which is looking to process in-house credit and debit transactions made at its stores.

Wal-Mart has been a longtime thorn in MasterCard' s side. Three years ago, the retailer led a successful antitrust lawsuit that resulted in a $3 billion settlement against credit card companies, of which MasterCard shelled out $763 million.