Discover posts 3rd quarter profit helped by gain from lawsuit, raises loan-loss reserves

Discover Financial’s 3Q profit more than triples

CHARLOTTE, N.C. — Discover Financial Services said Thursday it more than tripled its profit in the fiscal third quarter, helped by a payment from a lawsuit settlement.

Even without the gain from the lawsuit settlement, the credit card lender would have been profitable, despite rising defaults and delinquencies and falling card sales volume.

Nearly all lenders are seeing more customers stop making their monthly payments as the economy falters and unemployment rises.

Discover said its earnings available to common shareholders surged to $559.4 million, or $1.07 per share, during the three months ended Aug. 31. That’s up from $180.1 million, or 37 cents per share, a year earlier.

The company’s results were bolstered by a $472 million payment received as part of a $2.75 billion settlement of an antitrust lawsuit with Visa Inc. and MasterCard Inc., raising Discover’s profit by $287 million after taxes. The lawsuit claimed MasterCard and Visa harmed Discover’s business by preventing their member banks from issuing credit cards for Discover’s network.

Analysts surveyed by Thomson Reuters, on average, forecast a loss of 11 cents per share for the quarter. Analyst estimates often do not include one-time items. Discover expected a profit of 52 cents per share, excluding items.

Discover shares rose 34 cents, or 2.2 percent, to $15.66 in afternoon trading.

“Clearly, the antitrust litigation settlement made for a great third quarter,” said Red Gillen, an analyst with Celent, a Boston-based financial research and consulting firm. “Discover’s main concern still has to be the ever-rising charge-off and delinquency rates.”

During the quarter, Discover’s provision for loan losses increased 4.4 percent to $380.1 million from $364.8 million a year ago. The company’s charge-off rate, the percentage of debt it does not expect to be repaid, climbed to 8.39 percent from 7.79 percent in the second quarter.

Discover’s managed 30-day delinquency rate rose to 5.10 percent from 5.08 percent in the prior quarter, but jumped from 3.85 percent a year earlier.

The higher percentage is reflected in the current “challenging environment,” CEO David Nelms told analysts on a conference call.

“Although loan losses in the third quarter came in a bit better than we expected, we believe that we have still not quite reached peak loan losses,” Nelms said, adding that Discover expects its charge-off rate to be in the range of 8.5 percent to 9 percent for the fourth quarter.

Earlier this year, Discover became a bank holding company and received $1.2 billion from the federal government under the Troubled Asset Relief Program.

The company joins hundreds of financial-services companies — including rival American Express Co. — that have gotten government capital during the financial crisis. In June, American Express said it repaid the $3.39 billion it received last fall.

Discover has yet to pay back the government.

“We do have a process that we will go through with our board and our regulators and that we have not yet reached a decision that the time is right,” Nelms said.

In an interview with The Associated Press, Nelms said he was increasingly confident of a repayment. “We are very conservative,” he said. “I see no benefit in rushing to do something.”

During the most recent quarter, Discover card sales volume fell to $23 billion, down 7 percent from last year.

Income from Discover’s third-party payments business — which processes ATM and debit transactions — fell to $27.1 million from $28.5 million a year earlier. Last year, Discover acquired Diners Club International from Citigroup Inc.

In August, Discover said its customers will soon be free of fees for charging over their credit limits.

The move comes before credit card regulations set to take effect in February limit the way credit card issuers may charge such fees. Under the legislation signed by President Obama in May, consumers must agree to pay a fee before they can charge more than their credit limit, and card issuers must tell their customers how much those fees would be.