Visa’s Golden Opportunity

Over the past couple of months, Visa Inc. (V) has performed extremely well relative to the S&P 500 (^GSPC).  Year-to-date, Visa has squeaked out a 1.85% gain, while the S&P 500 has rapidly declined over 24%.  Visa has proven their strength even in this recessionary environment.  Last quarter, Visa’s profit increased 35% due to consumers switching to electronic card payments rather than cash.  This was consistent with my argument on “Why Visa Will Thrive“, which I wrote a few months back.  Given Visa’s recent performance, they are positioned well for a few strategic options, but will most likely be focused on Visa Europe.

Currently Visa Europe is a separate operating entity that is not owned by Visa Inc.  When Visa IPO’d in March of 2008, Visa Europe was not included as there were issues with the Single Euro Payments Area, or SEPA.  Visa Europe is a great strategic fit geographically for Visa.  Visa Europe is a membership organization of 4,600 European banks that have collected over $350 million credit, debit, and commercial cards in Europe.  In 2007, Visa Europe had technically advanced their card processing platform and was handling more than 6 billion transactions.  They provide cross-border transactions in at least 36 European countries.  Transaction growth is expected to grow at least 11% each year until 2012.

Visa and Visa Europe entered into a put/call agreement before the IPO.  This gives Visa an option to cause Visa Europe’s members to deliver all shares to Visa under certain conditions.  The put option allows Visa Europe to Visa, where Visa would have to purchase all shares of Visa Europe’s members.  The earliest date which the put can be triggered is March 25, 2009.  The terms of the price is also in the agreement, where Visa Europe’s purchase price will be based on Visa Europe’s sustainable net income multiplied by Visa’s forward P/E and an agreed share of synergies.  The terms of the agreement in which Visa could “call” Visa Europe’s shares are very strict and are extremely unlikely.  If the deal is exercised after the lock-up period of 3 years, then the payment must be in cash.  If exercised after the deadline, then it may be a mixture of cash and stock.

A UBS (UBS) analyst recently noted that the potential acquisition would cost Visa to pay $3-5 billion for Visa Europe.  The consortium of European banks and institutions that currently own a stake in Visa Europe may consider dumping their stake to raise capital.  If Visa Europe exercised their put option to Visa, would Visa be able to afford it?  As of right now the answer to that question is:  Yes.  Currently, Visa has around $3.2 billion of cash on their books and has access to a $3 billion revolver which they haven’t touched yet.  It would be likely that they would issue long-term debt to fund some of this deal so they aren’t reliant completely on the revolver.  The deal could be accretive to Visa in the first year of the deal.  The real benefits from the deal will be experienced a few years later though, as Visa’s management converts Visa Europe’s operational status to behave less like a non-profit organization.

The likelihood of the deal getting done is much higher than analysts would have expected a year ago.  The March 25th date is approaching fast, and this put option can not be ruled out.  Although the likelihood of the deal being completed is relatively low, European banks may strongly consider this option, given their current state.

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