Discover Financial profit dives 68% as compliance costs bite

Discover Financial Services, the lender that agreed to be acquired by Capital One Financial Corp. in the year’s biggest announced deal, posted a sharp drop in first-quarter profit as it worked to address compliance and risk-management deficiencies.

Net income plunged 68% to $308 million, or $1.10 a share, for the three months through March, Riverwoods-based Discover said Wednesday in a statement. That missed the $2.96 average estimate of analysts in a Bloomberg survey.

Capital One Chief Executive Officer Richard Fairbank predicted in February, shortly after announcing the $35 billion deal to create the largest U.S. credit-card issuer by loan volume, that the time and expense needed to fix Discover’s regulatory challenges would be high. The acquisition, subject to antitrust reviews and shareholder approvals, is expected to be completed late this year or in early 2025.

Discover’s first-quarter operating expenses surged 67% to $2.31 billion.

In another sign of increased stress for U.S. consumers, the firm reported that credit-card loans at least 30 days overdue climbed to $3.81 billion, up 54% from a year earlier, while those at least 90 days delinquent rose 61%. Earlier this month, the Federal Reserve Bank of Philadelphia said in a report that card delinquency rates in the fourth quarter were the highest since at least 2012.

Net revenue for the quarter totaled $4.21 billion, a 13% increase from a year earlier, beating Wall Street’s average estimate of $4.07 billion.

In July, Discover said it misclassified certain credit-card accounts, resulting in merchants being overcharged, and halted stock buybacks. The lender received a proposed consent order from the Federal Deposit Insurance Corp. for a separate consumer compliance issue.

Those lapses and others prompted the resignation last year of then-CEO Roger Hochschild. His successor, Michael Rhodes, left in recent weeks to take the top job at Ally Financial Inc.

“These results underscore the continued strength of our underlying operating model and our focus on enhancing our risk management and compliance foundation,” Discover’s interim CEO, Michael Shepherd, said in the statement.

Share repurchases will remain suspended through the completion of the merger with Capital One, Chief Financial Officer John Greene said on a conference call Thursday morning.

Discover also adjusted its full-year outlook for net interest margin, or a comparison between what a firm earns on loans to what it pays depositors. The bank now expects NIM between 10.7% and 11%, according to an earnings presentation, which Greene said is adjusted to reflect a forecast of two instead of four rate cuts from the Federal Reserve this year.

Greene also said Discover is on track to offload its student-loan business, and has received interest from “several dozen” potential buyers.

Other first-quarter highlights:

• Net interest income was $3.49 billion, up 11% from a year earlier.

• Provision for credit losses increased 36% to $1.5 billion.

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