Discount Revenue at AXP

American Express's (AXP) core competitive advantage is the higher spending level of its customers compared to those of Visa and MasterCard; it's four times higher. AXP attracts these "big spenders" by better rewards and benefits than its competitors. AXP can afford to provide these rewards because AXP extracts more money from the merchants in the form of discount revenue.

"Discount revenue" is collected by AXP in the form of a discount in purchasing goods and services from the merchant which are then effectively sold at full price to the consumer of goods and services. Discount revenue forms roughly 50% of the AXP's total revenue. An indicator of AXP's competitive strength is its relative discount rate depicted here:

If discount revenue is the primary profit center for AXP, then it is important to understand how it works. The calculation of discount revenue is based on billed business; the more goods and services purchased, the greater the charge for the services. But discount revenue and billed business are not always in lock-step.

For 2007, worldwide billed service grew 15% over 2006. At the same time, discount revenue grew 12% over 2006. This pattern continues in 2008 with billed service growing at 8%, while discount revenue grows at 5%. AXP explains that the slower comparative growth in discount revenue was caused by sharing with third party card issuers, higher cash-back rewards and corporate incentives. These various marketing costs are reported against revenue (contra-revenue) rather than as an expense for a more accurate discount rate.

Unfortunately, AXP does not provide much clarity on the discount rate for each of its business segments. AXP has four: U.S. Card Services, International Card Services, Global Commercial Services, and Global Network Services. AXP prefers to roll discount revenues, card fees and the ubiquitous "other" into one revenue line. This makes analysis more difficult. In addition, the discount rate will decrease over time because the higher growth segments, such as Global Network Services, have much lower pricing.