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Credit Cards Deal a Losing Hand to Cap One


To see how quickly fortunes have turned for credit-card companies, just look at giant Capital One (COF).

A year ago, Cap One was cruising, reporting profits of $1.57 billion for all of 2007. But on Jan. 23 the company, awash in card delinquencies, reported a 2008 loss of $46 million, its first yearly loss ever. And that only starts to capture how bad things are getting: In the last three months of this year alone, Cap One lost a staggering $1.42 billion. That includes money it set aside to deal with $1 billion in expected losses from deteriorating credit quality in its outstanding loans.

Cap One's woes may be a harbinger of things to come for all credit-card companies, which have said that 2009 will be a dark year for them as the recession and rising unemployment cut into cardholders' wallets. Cap One's 2008 loan losses of $6.4 billion far exceeded the $5.6 billion in losses it had predicted. Consumers are struggling to pay their bills as the recession continues to roil the economy, and credit-card companies aren't being spared.

Petitioning for a Lifeline

In a November report, Fitch Ratings said that defaults on credit cards are likely to get increasingly ugly this year, setting records. American Express' (AXP) stock price plummeted 63% in 2008. Lenders are scaling back credit lines and hiking rates to insulate themselves against a coming storm. Card issuers have also petitioned the government for a lifeline. American Express is likely to receive roughly $3.3 billion of taxpayer funds, and Cap One got $3.6 billion.

Cap One CEO Richard Fairbank is trying to keep a positive outlook. Throughout an earnings call with analysts, Fairbank stressed that the company would weather the economic turmoil. "I continue to believe it will be the most resilient lending business in the downturn," he said.

Cap One executives said that a planned acquisition of Chevy Chase Bank will go through, but that the deal might further weaken Cap One's loan portfolio as it takes on a host of new loans.

Skittish investors took note. Capital One's shares dropped 2.61, or 12%, to 19.33—their lowest point in 11 years. As recently as last September, the shares were trading around 56.

Countdown to an Overhaul

Credit-card companies have reported that a growing number of consumers are falling behind on their payments. Charge-offs, or accounts that are sent to collections, rose 44% in 2008 from the year earlier, according to research by Standard & Poor's. And accounts that were more than 30 days late were up 20% from a year before.

While the number of people who can afford credit is dwindling, new customers are scarce as well. Capital One said that the number of its U.S. cardholders has dipped by 3.6 million, to 37.4 million, since the end of 2007.

Good thing for the credit-card companies, then, that they have another 17 months before they face new, tougher rules on how they treat consumers. In December, the Federal Reserve Board, in conjunction with the Office of Thrift Supervision, approved the most aggressive overhaul of credit-card company billing practices in more than a decade.

The long-debated rules won't hit the books until July 1, 2010. Then card companies will no longer be able to hike up interest rates on outstanding balances or penalize borrowers for late payments in the same way. They will have to give customers at least 45 days' notice before raising rates, and even if they hike them, the new rate will only apply to future purchases. The rules will also ban one of the industry's more controversial practices, universal default, where issuers track cardholders' payment history by scrutinizing their record of paying electric, cell phone, and other bills, raising rates if customers become delinquent on any of their accounts.

Back in the spring, card issuers, already starting to feel the pinch of the recession and consumers' eroding credit quality, denounced the proposed rules as shortsighted. The American Bankers Assn. argued that consumers would suffer as companies were forced to pass on the rising cost of issuing credit to their customers.

Now, of course, the rules aren't in place yet to help beleaguered consumers. When they do arrive, it could be just another blow to the profits of a suffering industry.

The original version of this story mistakenly reported that Capital One's acquisition of Chevy Chase Bank was imperiled. While Cap One officials expressed concern that the deal might further weaken their loan portfolio, they said it remains on track.

Silver-Greenberg is a reporter for BusinessWeek.com.


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