Capital One acknowledges Discover merger won't close this year

Jeenah Moon/Bloomberg

UPDATE: This story includes additional information and commentary from Capital One's earnings call.

Capital One Financial acknowledged Thursday that its proposed $35 billion acquisition of rival Discover Financial Services — a deal that faces new antitrust scrutiny from New York state officials — won't be finalized this year.

Richard Fairbank, Capital One's longtime CEO, said he anticipates the Discover transaction will close in early 2025, subject to the approval of shareholders and regulators. 

When the Discover acquisition was announced in February, Capital One said the deal was expected to close in either late 2024 or early 2025. It stuck with that timeline until Thursday.

"We're working closely with the regulators as our applications continue to work their way through the regulatory approval process," Fairbank said during Capital One's quarterly earnings call. "We remain well positioned to get shareholder and regulatory approvals."

Those remarks came one day after the emergence of a new potential obstacle to Capital One's effort to acquire Discover.

On Wednesday, New York Attorney General Letitia James sought a judge's permission to issue a subpoena to Capital One as part of a previously undisclosed antitrust investigation of the pending merger. Fairbank did not discuss the New York investigation in his remarks Thursday.

Another complicating factor as Capital One pushes to cross the finish line: a Securities and Exchange Commission investigation into Discover in connection with its long-running practice of overcharging merchants.

A Discover executive said last week that the Riverwoods, Illinois-based company was working with the SEC to resolve the issue. As soon as that process wraps up, Capital One plans to schedule a shareholder vote on the Discover acquisition, according to Fairbank. He said that will most likely occur early in 2025.

'Double the market share of their closest competitor'

In addition to the New York state antitrust probe, Capital One is waiting on action by federal bank regulators and the U.S. Department of Justice, which can either approve or seek to block the company's proposed acquisition.

The Biden administration has taken a more hawkish antitrust stance than previous administrations, and the Capital One-Discover deal is widely seen as a test case of the administration's aggressiveness in the banking sphere.

James' office is seeking — through the use of a subpoena — the same information that Capital One previously turned over to the Department of Justice's antitrust division as part of its merger review.

The New York attorney general went to court this week because Capital One hasn't signed a waiver that would allow the Justice Department to share company documents with Empire State officials. Capital One has indicated that its hands are tied, citing an objection by the Office of the Comptroller of the Currency, which is the bank's primary regulator.

The OCC maintains that granting the requested waiver would constitute an unlawful exercise of visitorial powers by the New York attorney general, in light of the fact that Capital One is a national bank. 

Discover, which is a state-chartered bank, has signed a similar waiver at the request of the New York AG's office, paving the way for relevant documents to be turned over.

In its court filing Wednesday, the New York AG's office expressed particular concern about the impact that a Capital One-Discover merger would have on competition in the subprime card market.

"Together, Capital One and Discover would control over 30% of the subprime credit card market, double the market share of their closest competitor," the filing stated.

Whether antitrust analyses of the proposed merger should look at the narrower subprime credit card market, as opposed to the overall U.S. credit card market, has been a key point of debate since the Capital One-Discover deal was announced eight months ago.

If the merger gets approved, the combined company would own about 24% of all outstanding U.S. credit card loans, according to the New York attorney general's court filing.

'This is very pro-competitive'

A Capital One spokesperson said Thursday that the $486 billion-asset company will be responding to the New York AG's legal action through appropriate legal channels.

"We are well-positioned to obtain approval from our federal banking regulators under the appropriate federal banking laws, and believe we have made a strong case on the pro-competitive and pro-consumer benefits of this transaction," the Capital One spokesperson said.

But Ed Groshans, a policy analyst at Compass Point Research & Trading, wrote in a note to clients that the New York attorney general's action highlights the risk that the Justice Department will challenge the merger on antitrust grounds. Groshans noted that the Department of Justice has said it may challenge a merger on antitrust grounds following the approval of the relevant banking agency. 

"Our conclusion is that bank regulator approval may no longer matter," he wrote.

Over the summer, Capital One rolled out a community benefit plan, which would include both donations and money for community development financial institutions. The plan will take effect if the acquisition of Discover goes through.

M&A

Will the Capital One-Discover merger be approved? A guide to the issues

April 2, 2024 9:00 PM

But the merger continues to face opposition from numerous consumer groups, including the National Community Reinvestment Coalition and Americans for Financial Reform. Some Democratic lawmakers, including Massachusetts Sen. Elizabeth Warren and California Rep. Maxine Waters, have also expressed opposition.

The blockbuster acquisition would make Capital One the largest credit card lender in the country. McLean, Virginia-based Capital One would also get Discover's payment rails, which its CEO has called "game-changing."

In Fairbank's remarks on Thursday, he noted that the Capital One-Discover deal is unusual in the sense that it would give his company an entree into a market, the card network business, where it doesn't currently operate at all. The implication of his remarks was that Capital One could provide fresh competition in a market where the U.S. government believes more competition is needed.

Last year, Mastercard settled a Federal Trade Commission complaint alleging that it used illegal tactics to route debit card payments through its network. And in September, the Department of Justice sued Visa for alleged monopolization in the debit card network business.

"And so certainly, we are making a strong case — to a regulator that obviously has shown they care a lot about competition in that marketplace — that we certainly believe that this is very pro-competitive in that sense," Fairbank said. "Of course, we also believe very much that on the credit card side, the deal is pro-competitive as well."

Earnings beat

During the third quarter, Capital One reported stronger-than-expected net income, citing revenue growth in both its auto lending business and its flagship U.S. credit card segment.

The bank's third-quarter net income of $1.8 billion — or $4.45 per share — was roughly flat from the same period a year earlier. But it easily outstripped the $3.76 per share estimate of analysts surveyed by S&P.

Capital One benefited from a 6% year-over-year increase in period-end domestic card loans in its held-for-investment portfolio. Auto loan originations totaled $9.16 billion in the quarter, up 23% from the same period a year earlier. 

The company's net interest income rose by 9% from the same period last year to $8.08 billion. Its net interest margin rose by 42 basis points to 7.11%.

And while Capital One's net charge-offs, which totaled $2.60 billion, were 30% higher than in the third quarter of 2023, Jefferies analyst John Hecht wrote in a note to clients that the company's credit performance was generally in line with expectations.

In the wake of the COVID-19 pandemic, when government assistance programs and diminished consumer spending contributed to historically strong credit performance, card issuers have been dealing with rising levels of soured loans.

"So in the card business, our delinquencies and charge-offs are consistent with normal seasonality now," Fairbank said Thursday. "And it's clear that our card credit has settled out."