2 Capital One Opportunities
Capital One (COF) is buying Discover Financial (DFS)
Disclaimer / Disclosure long Freddie and Fannie prefs.
They signed a definitive merger agreement in which Capital One is paying just over 1 share of COF for each share of DFS (1.0192). First they need to secure a bunch of regulatory approvals that mean timing and deal risk. These include approvals from the Fed, OCC, FINRA, and the Delaware State Bank Commission. The deal also needs approvals from both sets of shareholders.
While this administration has been fanatical about blocking deals, they should not only approve this one; it should be required. Capital One is far better managed. I’ve long admired their CEO, Rich Fairbank. He’s a brilliant innovator, manager, and risk manager as well as an all around good person. He would be a major upgrade for DFS on all fronts. Our financial system would be more stable with his team in charge of DFS. The chance that Capital One creates a problem that these regulators have to confront is low; the chance that DFS creates such a problem isn’t low.
Today, the spread between DFS’s market price and the deal price is over $15 ($15.63 net). That means that if you buy DFS shares and if the deal closes by March based on today’s COF price, you’d capture a 30% IRR. My favorite election related investments remain Freddie and Fannie prefs but DFS should be another beneficiary as a Trump administration could be less likely to further delay or block this deal.
Capital One remains committed to this deal with Fairbank saying yesterday,
And turning to the Discover acquisition, we’re working closely with the regulators as our applications continue to work their way through the regulatory approval process. Separately, Discover mentioned in their press release and on their earnings call last week that they continue to work in parallel with the SEC to resolve comments regarding their accounting approach for their card mis-classification matter. As soon as that process wraps up, we expect to mail out a joint proxy and a schedule — and to schedule a shareholder vote most likely early next year.
We remain well positioned to get shareholder and regulatory approvals and we expect to be in a position to complete the acquisition early in 2025 subject to regulatory and shareholder approval. Pulling way up, the acquisition of Discover is a singular opportunity. It will create a consumer banking and global payments platform with unique capabilities, modern technology, powerful brands and a franchise of more than 100 million customers. It delivers compelling financial results and offers the potential to enhance competition and create significant value for merchants and customers.
Discover’s CFO John Greene said that,
As part of its review of the joint proxy statement and prospectus, the staff of the SEC has indicated that they disagree with certain aspects of Discover’s accounting approach for the card misclassification matter. We are working diligently to resolve their comments, which largely focus on the allocation of previously incurred card misclassification charges between revenue and expense. We do not anticipate resolution of this matter to have an impact to cumulative historical earnings, capital or our counterparty restitution plan liability.
This isn’t good. But DFS’ CEO has left since the deal’s announcement and turning the company over to Capital One should be seen as part of the solution to their problems. In short, this deal is a semi-bailout. And after DFS’ problem, the SEC’s knowledge of the company is practically proctological; once they can agree on the accounting issues, the proxy approval should be forthcoming.
Here’s a simpler one: Capital One has a shopping portal. Just download it to get a free $30. Not as scalable as the merger arb opportunity, but not as risky either.
