Time for a look at a stock teased in ads for Nathan Slaughter’s Takeover Trader (“on sale” for $995/yr, no refunds)… it’s all about another takeover target for Amazon (AMZN), this time in the credit card space.

There’s urgency to this ad, since Slaughter says this takeover could be announced following a key Amazon meeting, as soon as April 27th. Amazon is announcing its quarterly results this week, after the market close on Thursday (the 28th), and they do have their annual meeting scheduled for May 25, but I wouldn’t overthink those dates — certainly Amazon’s board could be gathered at any time for a key acquisition discussion, and it’s very likely that their earnings report will cause a move in the stock on Friday one way or another, but usually such dates in teaser ads are “false urgency,” designed just to get you to make a decision quickly and sign up for a (nonrefundable) subscription before you really have a chance to think it over.

But still, we’re curious what he’s teasing, yes? Let’s see what he says in the ad, and what solution the Thinkolator might provide…

He starts with a few examples from Amazon’s past — like most large companies, they have made dozens of meaningful acquisitions in building up their portfolio of products and services over the years…

“Over the last three decades, Amazon’s takeover spree has handed investors the chance at 1,400%, 1,846%, and even 2,300% gains….

“When Amazon wanted to start selling medicine online, instead of building an online pharmacy…

“They just bought one called PillPack.

“By signing on the dotted line and forking over $1 billion, Amazon broke into a $338 billion market…

“And investors holding PillPack watched their shares skyrocket as much as 1,604%….

“Recently, Amazon closed a mega-deal to buy MGM Studios for $8.45 billion.

“And MGM shareholders witnessed a lightning-quick 400% gain…

“But that’s only ONE in a string of entertainment takeovers…

“To build their entertainment empire in record time, Amazon has also bought…

“The video game platform Twitch for $970 million…

“The podcast network Wondery for $300 million…

“Just like the eCommerce takeovers, these entertainment acquisitions handed well-positioned investors monster profit opportunities.”

That’s generally true, along with a half-dozen other examples given in the ad, and companies that are acquired do almost always see a significant price “pop” when either a takeover bid or a rumor hits the news, since the board of a target company would usually only approve an acquisition if it comes at a good premium to the current valuation… though I should point out that MGM Studios was not a publicly traded company, and its shareholders did not get a “lightning-quick 400% gain” when Amazon made its deal to acquire them last year — MGM Studios was privately held, owned by a group of private equity funds for a decade after it came out of bankruptcy in 2010, and it had been shopped around to potential buyers for years before Amazon finally committed to its purchase (Apple and Comcast had reportedly been wiling to pay 30-40% less than Amazon’s eventual winning bid). I don’t know what those private buyers paid, or how many were lenders to MGM before the bankruptcy, maybe they did earn 400% in the end — but it wasn’t “lightning quick.”

And then he gets into hinting at the current takeover target, starting with the usual caveats:

“Now, of course, not every Amazon takeover will deliver those kinds of sky-high gains…

“And it goes without saying that every investment (Amazon or otherwise) comes with risk.

“Which is why you should never invest more than you’re willing to walk away from.”

And part of the rationale is that Slaughter thinks Andy Jassy, Amazon’s new CEO, will want to make a big, bold move — MGM Studios was their second-largest acquisition, but that deal was agreed to while Jeff Bezos was still running the show. He ought to be comfortable with such things, Jassy made lots of acquisitions to bolster the Amazon Web Services business over the years, but I have no idea whether or not he feels any pressure to “go big” and excite investors.

Slaughter goes on…

“With Bezos gone, Amazon’s new CEO has big shoes to fill

“Not to mention the $79 billion pile of cash currently “burning a hole in his pocket”…

“I expect Amazon’s takeover spree to continue at a breakneck pace…

“Amazon could be days away from pulling the trigger on one of the biggest (and most profitable) takeover deals in history.”

And then, finally, gets to hinting at the specific takeover deal that he thinks is in the works:

“I believe Amazon’s next blockbuster takeover will be a credit card company

“Picture it…

“Soon after taking over a credit card company, Amazon could launch the brand new Amazon Card.

“First, the new card would be offered to all Amazon Prime members.

“All 153 million of them.

“To put that in perspective…

“The largest credit card company, Visa, has 125 million cardholders.

“Which means…

“Amazon could become the “King Kong” of credit cards… practically overnight”

Slaughter talks about several other reasons why Amazon would want to buy a credit card company — including the ability to move into more “brick and mortar” retail and get a piece of that business, as well as a way to recoup some of the $1.9 billion in credit card fees that Amazon paid last year.

And he drops a few hints about this secret card company:

“I’ve identified the one-of-a-kind credit card company that could unleash a tsunami of takeover profits into your brokerage account.

“Because, for Amazon, it’s the total package:

“With 60 million active cardholders…

“A rock-solid management team that would continue to run the business after the takeover…

“And it gives Amazon instant access to the $212 billion treasure trove of credit card fees… at 1/10th the price tag of the biggest credit card players.

“But here’s what puts this credit card company over the top.

“See: Amazon CFO Brian Olsavsky discussed what the company looks for in an acquisition:
“Recently, we’re looking for well-run companies…a real sense of customer obsession that matches ours.”

“Turns out customer obsession is good business.”

So this is apparently a “customer obsession” credit card company, which also narrows it down a bit…

“… what sets it apart from the rest is an obsessive focus on customer service…

“For the last 8 years running, this credit card company has consistently ranked at the top for customer service according to JD Power….

“Bottom line: this credit card company is a perfect fit to be Amazon’s next takeover target…

“But Amazon better make its bid soon…

“Because the competition for this credit card company is getting fierce”

That’s an implication that the other big banks would also want to own this credit card company, and that a bidding war will ensue that could drive up the share price.

So what’s the stock? Thinkolator sez this must be Discover Financial Services (DFS), which owns the Discover Card network and issues those cards (there are roughly 60 million outstanding these days). This is the newest of the big four card networks (Mastercard, Visa, American Express are the other three), and all four are publicly traded… with, yes, Discover being by far the cheapest of the bunch. That’s not entirely a fair comparison — Discover is also really a bank, they hold on to the loans and actually take the risk with their borrowers’ balances, and also offer other banking services (largely student and personal loans), and American Express (AXP) similarly holds on to debt and earns money on it (and takes risk) in addition to the credit card fees… but Mastercard (MA) and Visa (V) are just technology and network providers, they facilitate transactions but don’t issue cards or hold debt balances on their own accounts, that’s done by the issuing banks.

Is it possible that Amazon could want to acquire the fourth largest credit card network and an issuing bank? I suppose, this is the credit card brand with the lowest valuation, and Amazon could pretty instantly both benefit from the network and the card user base and create a vastly larger user base of its own customers, which could bring the network into the big time to compete more meaningfully with Visa, Mastercard and American Express in the US and several other markets. It would not be an easy deal, however, and I can also picture the teeth-gnashing in Congress if Amazon announces a big acquisition like this. It is likely to be tough for the big tech companies to get approval for any meaningful M&A in the near future — not impossible, as we saw with Amazon’s purchase of MGM Studios to get some more content for Amazon Prime, but tough. Just imagine the politicians on both sides having a chance to rail against both Amazon and the credit card companies at the same time… that’s nigh on irresistible.

It would probably be pretty enticing for Amazon — credit card fees are indeed a big cost center for large retailers, I just can’t imagine that regulators would be excited about it. Walmart has also wanted to get deeper into financial services over the years, and has been stymied in those efforts ever since their failed application for a bank charter ushered in a storm of controversy in 2005.

I haven’t seen any rumors about Discover being a takeover target recently, but they have cropped up several times since Discover was spun out by previous owner Morgan Stanley back in 2007… it has grown up to be somewhat competitive with Mastercard and Visa over the past few decades of heavy marketing, but continues to have that “second tier” vibe, mostly because there are still a meaningful number of retailers that don’t take the Discover Card (or Diners Club, which they also own). The distinction doesn’t sound huge, but 95% coverage is a lot worse than 100% coverage. It’s survived to this point, though, and it does offer a huge jump start for someone wanting to enter this business… at a price tag that is indeed about 1/10th that of the giants (Discover Financial has a market cap around $32 billion, so it would become by far Amazon’s largest acquisition, but that’s still quite tiny compared to the $350-400 billion market caps at Mastercard and Visa).

And how is it that Slaughter thinks we’ll make big money here?

“The way that takeovers work is the acquiring company pays a premium to buy the target…

“In the past, Amazon has paid up to 30% to take over a company.

“But I’m not talking to you today for a piddly 30% return.

“I’m talking about the potential to collect a 2,064% profit surge.

“How is that possible?

“One word… Options.”

So… yes, if you get lucky and there’s a takeover bid you might get a pop of as much as 30-40% in some cases, if you’re fortunate, but to get those wild returns like 2,000% you do have to make a more aggressive and levered bet using options. The disclosures he makes about his past trading results indicate that he usually chooses call options a few months out, at prices about 20% above the current market price, so with the stock currently trading at about $112 he might be looking at the June or July call options with a strike price probably $135 or so. Right now, the July $135 calls would cost about $1.20, so in order to get a 2,056% return from that investment you’d have to see Amazon offer something in excess of $160 for Discover within the next couple months (or see the shares drift up to near $160 for some other reason).

If you’re not familiar with how call options work, they are a bet on a stock reaching or exceeding a set price before a set date. A call option contract represents 100 shares, so if you wanted to make this particular bet, for example, you would pay $120 (plus commissions) for the right to buy 100 shares of DFS for $135 per share anytime before the expiration of the option on July 15. If the shares never go anywhere near that price, and nobody gets excited about bidding up those options, the option will expire worthless, that’s what happens most of the time… if the underlying stock does start to move quickly higher, then anything over $135 would be “in the money” and you would break even in your bet if the shares are above $136.20 at expiration. In practice, most people don’t exercise their call options, they just sell them back, but you could exercise them if you want to — and your bank would likely exercise them automatically if you don’t do anything and the expiration date hits with the shares “in the money.” The closer you want the strike price to be to the current price, or the longer time you want to be right, the more the option contract will cost you — to buy the $120 options for July 15, for example, would cost you $4.75 per share ($475 per contract), and the January 20, 2023 expiration at that same $135 strike price would currently cost about $6 per share, or about $18 per share at the $120 strike price.

Those options contracts are just guesses, based on the picks he said he has made in the past. And to give Slaughter some credit, he does actually include his record of closed “takeover trades” over the past couple years in the ad. The options trades are pretty hit or miss, roughly half were near-100% losers and roughly half had gains of roughly 100%. The closed equity trades did well in 2020 and 2021, as would be expected, almost everything went up in those years, I haven’t checked to see how they did compared to the market. There weren’t a lot of closed trades, only five closed equity trades in 2021 and 2022 so far, and about a dozen options trades, and we do not know what the “open” trades might be, or if this is a complete list, but it’s good to see some details on the track record, at least. He claims an average gain across all closed positions of 61.5%, probably mostly driven by big gains on Roku (ROKU) and TripAdvisor (TRIP) that he closed in mid-2021.

But what stands out for me? As far as takeovers go, among the disclosed closed trades he notes in the ad, the only stock that was actually acquired was Livongo Health (LVGO), and he picked that a couple weeks after their acquisition by Teladoc was announced, without getting much of a profit on the trade. So we might fairly be somewhat skeptical of the predictive quality of his “takeover” screens… despite the fact that he says…

“Over the last 3 years, I conducted a deep-dive study into 4.9 trillion data points and 3.3 million market indices…

“To pinpoint the exact factors that prime a company for explosive takeover deals.”

The options trades he details in his track record were very short-term and simple, they were all call options with expirations out 2-4 months, and with strike prices that were mostly about 20% “out of the money” — which would mean the possibility of big wins if the stock rose more than 20%, or a 100% loss if the stock stayed flat or fell. And yes, that list of past trades includes the last heavily teased target from Slaughter, an options speculation on Centennial Resource Development (CDEV), which has not been the subject of takeover talk but did do fairly well as oil prices spiked following Russia’s invasion of Ukraine. He sold the options in January with a 100% gain, so I guess that’s his signal to take profits, I don’t know whether he has a “live” trade on the equity or not — you can see my article about that previous tease here.

What will happen with Discover Financial Services? I don’t know… I wouldn’t be surprised if Amazon saw reason whey they might want to own them, but I would be surprised if they bothered to make a bid, or if such a bid met with smiles from antitrust regulators.

It’s generally dangerous and not very profitable to speculate on takeovers, since they are rarely very precisely predictable if you don’t have any insider information… and illegal to bet on if you do. But a takeover can reasonably present one possible catalyst for profit, and be part of the reason to buy a stock, if you are comfortable investing in the company for other reasons. DFS is a pretty appealing investment in a lot of ways — they’re the third or fourth place player in their industry, which isn’t often compelling, but they are a lot cheaper, they have managed their loan book pretty well and haven’t had big writeoffs in recent years, and they are nicely profitable and have a strong brand.

The operating risks I’d worry about are the ongoing marketing cost of continuing to sneak a little market share out from under the bigger card networks, the rise of non-card competitors, including the buy now/pay later companies like Affirm (AFRM), and the risk that they’ll have more meaningful losses on their loan books if we go into a protracted recession, but it is probably true that they Discover doesn’t get enough credit for their strong consumer brand and their large cardholder base, and they do get that nice high net interest margin from those expensive credit card balances as long as customers keep paying their bills. One persistent risk for investors is that they may never earn a better valuation. DFS as a stock has done substantially worse than AXP, MA and V over the past five years, and that’s mostly because they’ve not gotten the love from investors in the form of a higher multiple — their sales and income numbers have been in the same ballpark as their larger competitors, roughly speaking, growing at similar rats most of the time, but investors are willing to pay substantially more for a dollar of revenue or profit at MA, V and AXP today than they were five years ago… and that’s not the case for DFS.

Might that turn? Will the investor love flow to DFS some day? Well, you’re an investor, so let’s start with you… want to buy the stock? Want to go one step further and bet on a near-term takeover offer? Let us know with a comment below.

Disclosure: Of the companies mentioned above, I own shares of Amazon. I will not trade in any covered stock for at least three days after publication, per Stock Gumshoe’s trading rules.