SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Commission File No. 1-7657
American Express Company
(Exact name of registrant as specified in its charter)
Registrant’s telephone number, including area code: (212) 640-2000
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☑ No ☐
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☑
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for a shorter period that the registrant was required to submit and post such files). Yes ☑ No ☐
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☑
As of June 30, 2016, the aggregate market value of the registrant’s voting shares held by non-affiliates of the registrant was approximately $56.1 billion based on the closing sale price as reported on the New York Stock Exchange.
As of February 8, 2017, there were 901,270,758 common shares of the registrant outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Part III: Portions of Registrant’s Proxy Statement to be filed with the Securities and Exchange Commission in connection with the Annual Meeting of Shareholders to be held on May 1, 2017.
TABLE OF CONTENTS
This Annual Report on Form 10-K, including the “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 that are subject to risks and uncertainties. You can identify forward-looking statements by words such as “believe,” “expect,” “anticipate,” “intend,” “plan,” “aim,” “will,” “may,” “should,” “could,” “would,” “likely,” “estimate,” “predict,” “potential,” “continue” or other similar expressions. We discuss certain factors that affect our business and operations and that may cause our actual results to differ materially from these forward-looking statements under “Risk Factors” and “Cautionary Note Regarding Forward-Looking Statements.” You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date on which they are made. We undertake no obligation to update publicly or revise any forward-looking statements.
This report includes trademarks, such as American Express®, which are protected under applicable intellectual property laws and are the property of American Express Company or its subsidiaries. This report also contains trademarks, service marks, copyrights and trade names of other companies, which are the property of their respective owners. Solely for convenience, our trademarks and trade names referred to in this report may appear without the ® or TM symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the right of the applicable licensor to these trademarks and trade names.
American Express Company, together with its consolidated subsidiaries, is a global services company that provides customers with access to products, insights and experiences that enrich lives and build business success. Our principal products and services are charge and credit card products and travel-related services offered to consumers and businesses around the world.
We were founded in 1850 as a joint stock association and were incorporated in 1965 as a New York corporation. American Express Company and its principal operating subsidiary, American Express Travel Related Services Company, Inc. (TRS), are bank holding companies under the Bank Holding Company Act of 1956, as amended (the BHC Act), subject to supervision and examination by the Board of Governors of the Federal Reserve System (the Federal Reserve).
Our headquarters are located in lower Manhattan, New York, New York. We also have offices in other locations throughout the world.
During 2016, we principally engaged in businesses comprising four reportable operating segments: U.S. Consumer Services, International Consumer and Network Services, Global Commercial Services and Global Merchant Services. Corporate functions and certain other businesses are included in Corporate & Other. You can find information regarding our reportable operating segments, geographic operations and classes of similar services in Note 25 to our “Consolidated Financial Statements.”
Products and Services
Our range of products and services includes:
Our various products and services are sold globally to diverse customer groups, including consumers, small businesses, mid-sized companies and large corporations. These products and services are sold through various channels, including online applications, direct mail, in-house teams, third-party vendors and direct response advertising. Business travel-related services are offered through our non-consolidated joint venture, American Express Global Business Travel (the GBT JV).
Our general-purpose card network, card-issuing and merchant-acquiring and processing businesses are global in scope. We are a world leader in providing charge and credit cards to consumers, small businesses, mid-sized companies and large corporations. These cards include cards issued by American Express as well as cards issued by third-party banks and other institutions that are accepted by merchants on the American Express network. American Express® cards permit Card Members to charge purchases of goods and services in most countries around the world at the millions of merchants that accept cards bearing our logo.
Our business as a whole has not experienced significant seasonal fluctuations, although card billed business tends to be moderately higher in the fourth quarter than in other quarters. As a result, the amount of Card Member loans and receivables outstanding tend to be moderately higher during that quarter. The average discount rate also tends to be slightly lower during the fourth quarter due to a higher level of retail-related billed business volumes.
The American Express Brand
Our brand and its attributes — trust, security and service — are key assets. We continue to focus on our brand, and our products and services are evidence of our commitment to its attributes. Our brand has consistently been rated one of the most valuable brands in the world, and we believe it provides us with a significant competitive advantage.
We believe our brand is critical to our success, and we invest heavily in managing, marketing, promoting and protecting it. We also place significant importance on trademarks, service marks and patents, and seek to secure our intellectual property rights around the world.
Our Closed-Loop Network and Spend-Centric Model
Wherever we manage both the card-issuing activities of the business and the acquiring relationship with merchants, there is a “closed loop,” which distinguishes our network from the bankcard networks, in that we have access to information at both ends of the card transaction. We maintain direct relationships with both our Card Members (as a card issuer) and merchants (as an acquirer), and we handle all key aspects of those relationships. Through contractual relationships, we also obtain data from third-party card issuers, merchant acquirers and processors with whom we do business. Our “closed loop” allows us to analyze information on Card Member spending and build algorithms and other analytical tools that we use to underwrite risk, reduce fraud and provide targeted marketing and other information services for merchants and special offers and services to Card Members through a variety of channels, all while respecting Card Member preferences and protecting Card Member and merchant data in compliance with applicable policies and legal requirements.
Our “spend-centric” business model focuses on generating revenues primarily by driving spending on our cards and secondarily by finance charges and fees. Spending on our cards, which is higher on average on a per-card basis versus our competitors, offers superior value to merchants in the form of loyal customers and larger transactions. Because of the revenues generated from having high-spending Card Members, we have the flexibility to invest in attractive rewards and other benefits for Card Members, as well as targeted marketing and other programs and investments for merchants. This creates incentives for Card Members to spend more on their cards and positively differentiates American Express cards.
We believe our “closed-loop” network and “spend-centric” business model continue to be competitive advantages by giving us the ability to provide differentiated value to Card Members, merchants and our card-issuing partners.*
We offer a wide range of charge cards and revolving credit cards to consumers in the United States and internationally through our U.S. Consumer Services (USCS) and International Consumer & Network Services (ICNS) segments. In addition to our proprietary cards, we partner with banks and other organizations to issue American Express-branded products. Moreover, we offer several services that complement our core business, including consumer travel services and deposit and non-card financing products.
Our global proprietary card business offers a broad set of card products, rewards and services to acquire and retain high-spending, creditworthy Card Members. Core elements of our strategy are:
Our charge cards are designed primarily as a method of payment with Card Members generally paying the full amount billed each month. Charges are approved based on a variety of factors, including a Card Member’s current spending patterns, payment history, credit record and financial resources. Revolving credit card products and features provide Card Members with the flexibility to pay their bill in full each month or carry a monthly balance on their cards to finance the purchase of goods or services.
* The use of the term “partner” or “partnering” does not mean or imply a formal legal partnership, and is not meant in any way to alter the terms of American Express’ relationship with third-party issuers and merchant acquirers.
Our Global Network Services (GNS) business, which is under our ICNS segment, establishes and maintains relationships with banks and other institutions around the world that issue cards and, in certain countries, acquire local merchants onto the American Express network. In assessing whether we should pursue a proprietary or GNS strategy in a given country, or some combination thereof, we consider a wide range of country-specific factors, including the stability and attractiveness of financial returns, the size of the potential Card Member base, the strength of available marketing and credit data, the size of cobrand opportunities and how we can best create strong merchant value. Our GNS arrangements are categorized as follows:
The GNS business has established 150 card-issuing and/or merchant-acquiring arrangements with banks and other institutions in more than 130 countries and territories. GNS strengthens our brand visibility around the world, drives more transaction volume on the American Express network and increases the number of merchants choosing to accept the American Express card, generally without assuming additional Card Member credit risk or having to invest a large amount of resources, as our GNS partners already have established attractive customer bases and are responsible for most of the operating costs as well as for managing the credit risk associated with the cards they issue.
Global Commercial Services
In our Global Commercial Services (GCS) segment, we offer a wide range of payment and expense management solutions to companies and organizations of all sizes, including card and other payment solutions, cross border payment services and commercial financing solutions.
We have a suite of business-to-business payment solutions to help companies manage their spending and realize other potential benefits, including cost savings, process control and efficiency, and improved cash flow management. We offer local currency corporate cards and other expense management products in more than 85 countries and territories, and have global U.S. dollar and euro corporate cards available in more than 100 countries and territories. We also provide products and services, including charge cards, revolving credit cards and non-card payment and financing solutions, to small and mid-sized businesses and entrepreneurs in the United States and internationally.
We also engage in advocacy efforts on behalf of small businesses, including through our OPEN for Government Contracting program to help U.S. small businesses learn how to obtain government contracts as well as through programs designed to help women entrepreneurs learn how to grow and sustain businesses. We seek to increase awareness of the importance of small businesses in our communities and continued to lead Small Business Saturday® in 2016.
Global Merchant Services
Our Global Merchant Services (GMS) business builds and maintains relationships with merchants, merchant acquirers and processors, processes card transactions and settles with merchants that choose to accept our cards for purchases. We sign merchants to accept our cards and provide marketing information and other programs and services to merchants, leveraging the capabilities provided by our closed-loop network. We also offer support for card acceptance, fraud prevention and other value-added services.
Through our direct and inbound channels, we contract with merchants, agree on the discount rate (a fee charged to the merchant for accepting our cards) and handle servicing. We also work with third parties to acquire small- and medium-sized merchants. For example, through our OptBlue® merchant-acquiring program, third-party processors contract directly with small merchants for card acceptance and determine merchant pricing. The OptBlue program provides an alternative for eligible small merchants who may prefer to deal with one acquirer for all their card acceptance needs. OptBlue processors provide relevant merchant data back to us so we can maintain our closed loop of transaction data.
Globally, as acceptance of general-purpose cards continues to increase, we continue to grow merchant acceptance of American Express cards around the world, as well as refine our approach to calculating merchant coverage. We estimate that, as of the end of 2016, our merchant network in the United States could accommodate more than 90 percent of general-purpose card spending. Our international spend coverage is more limited, although we continue to expand our merchant network in locations outside the United States. We estimate that our international merchant network as a whole could accommodate approximately 80 percent of general-purpose card spending. These percentages are based on comparing spending on all networks’ general-purpose credit and charge cards at merchants that accept American Express cards with total general-purpose credit and charge card spending at all merchants.
GMS also builds loyalty coalition programs, such as the Payback® program in Germany, India, Italy, Mexico and Poland and the Plenti® program in the United States. Our loyalty coalition programs enable consumers to earn rewards points and use them to save on purchases from a variety of participating merchants through multi-category rewards platforms. Merchants generally fund the consumer offers and are responsible to us for the cost of loyalty points; we earn revenue from operating the loyalty platform and by providing marketing support.
Corporate & Other
Corporate & Other consists of corporate functions and certain other businesses, including our prepaid services business that offers stored value/prepaid products, such as American Express Serve®, Bluebird®, the American Express® Gift Card and Travelers Cheques. Our support functions, including servicing, credit, insurance and technology, are organized by process rather than business unit, which we believe serves to streamline costs, reduce duplication of work, better integrate skills and expertise and improve customer service.
We compete in the global payments industry with charge, credit and debit card networks, issuers and acquirers, paper-based transactions (e.g., cash and checks), bank transfer models (e.g., wire transfers and Automated Clearing House, or ACH), as well as evolving and growing alternative payment and financing providers. As the payments industry continues to evolve, we face increasing competition from non-traditional players that leverage new technologies and customer relationships to create payment or financing solutions.
As a card issuer, we compete with financial institutions that issue general-purpose charge and revolving credit cards and debit cards. We also encounter competition from businesses that issue their own private label cards or extend credit to their customers, such as retailers and online lenders. We face increasing competition for cobrand relationships, as both card issuer and network competitors have targeted key business partners with attractive value propositions.
Our global card network competes in the global payments industry with other card networks, including, among others, Visa, MasterCard, Discover (primarily in the United States), Diners Club International (which is owned by Discover Financial Services), and JCB and China UnionPay (primarily in Asia). We are the fourth largest general-purpose card network on a global basis based on purchase volume, behind China UnionPay, Visa and MasterCard. In addition to such networks, a range of companies globally, including merchant acquirers and processors, as well as regional payment networks (such as the National Payments Corporation of India), carry out some activities similar to those performed by our GMS and GNS businesses.
The principal competitive factors that affect the card-issuing, network and merchant service businesses include:
Another aspect of competition is the dynamic and rapid growth of alternative payment mechanisms, systems and products, which include aggregators (e.g., PayPal, Square and Amazon), marketplace lenders, wireless payment technologies (including using mobile telephone networks to carry out transactions), web- and mobile-based payment platforms (e.g., PayPal and Venmo), electronic wallet providers (including handset manufacturers, telecommunication providers, retailers, retail coalitions, banks and technology companies), prepaid systems, virtual currencies, gift cards, blockchain and similar distributed ledger technologies, and systems linked to payment cards or that provide payment solutions. Partnerships have been formed by various competitors to integrate more financial services into their product offerings and competitors are attempting to replicate our closed-loop functionality, such as the merchant-processing platform ChaseNet. New payments competitors continue to emerge in response to evolving technologies, consumer habits and merchant needs.
In addition to the discussion in this section, see “Our operating results may suffer because of substantial and increasingly intense competition worldwide in the payments industry” in “Risk Factors” for further discussion of the potential impact of competition on our business, and “Ongoing legal proceedings regarding provisions in our merchant contracts could have a material adverse effect on our business, result in additional litigation and/or arbitrations, subject us to substantial monetary damages and damage to our reputation and brand” in “Risk Factors” for a discussion of the potential impact on our ability to compete effectively if ongoing legal proceedings limit our ability to prevent merchants from engaging in various actions to discriminate against our card products.
SUPERVISION AND REGULATION
As a participant in the financial services industry, we are subject to substantial regulation in the United States and in other jurisdictions, and the costs of compliance are substantial. In recent years, the financial services industry has been subject to rigorous scrutiny, high regulatory expectations, and a stringent and unpredictable regulatory enforcement environment. In addition, legislators and regulators in various countries in which we operate have focused on the operation of card networks, including through antitrust actions, legislation and regulations to change certain practices or pricing of card issuers, merchant acquirers and payment networks, and, in some cases, to establish broad and ongoing regulatory oversight regimes for payment systems. See “Risk Factors—Legal, Regulatory and Compliance Risks” for a discussion of the potential impact legislative and regulatory changes may have on our results of operations and financial condition.
Federal and state banking laws, regulations and policies extensively regulate the Company, TRS and our two U.S. bank subsidiaries, American Express Centurion Bank (Centurion Bank) and American Express Bank, FSB (American Express Bank). Both the Company and TRS are subject to comprehensive consolidated supervision, regulation and examination by the Federal Reserve under the BHC Act. Centurion Bank, a Utah-chartered industrial bank, is regulated, supervised and examined by the Utah Department of Financial Institutions and the Federal Deposit Insurance Corporation (FDIC). American Express Bank, a federal savings bank, is regulated, supervised and examined by the Office of the Comptroller of the Currency (OCC). The Company and its subsidiaries are also subject to the rulemaking, enforcement and examination authority of the Consumer Financial Protection Bureau (CFPB). Banking regulators have broad examination and enforcement power, including the power to impose substantial fines, limit dividends and other capital distributions, restrict operations and acquisitions and require divestitures. Many aspects of our business also are subject to rigorous regulation by other U.S. federal and state regulatory agencies and by non-U.S. government agencies and regulatory bodies.
The BHC Act generally limits bank holding companies to activities that are considered to be banking activities and certain closely related activities. Each of the Company and TRS is a bank holding company and each has elected to become a financial holding company, which is authorized to engage in a broader range of financial and related activities. In order to remain eligible for financial holding company status, we must meet certain eligibility requirements. Those requirements include that the Company and each of its subsidiary U.S. depository institutions must be “well capitalized” and “well managed,” and each of its subsidiary U.S. depository institutions must have received at least a “satisfactory” rating on its most recent assessment under the Community Reinvestment Act of 1977 (the CRA). The Company and TRS engage in various activities permissible only for financial holding companies, including, in particular, providing travel agency services, acting as a finder and engaging in certain insurance underwriting and agency services. If the Company fails to meet eligibility requirements for financial holding company status, it is likely to be barred from engaging in new types of financial activities or making certain types of acquisitions or investments in reliance on its status as a financial holding company, and ultimately could be required to either discontinue the broader range of activities permitted to financial holding companies or divest its subsidiary U.S. depository institutions. In addition, the Company and its subsidiaries are prohibited by law from engaging in practices that the relevant regulatory authority deems unsafe or unsound (which such authorities generally interpret broadly).
Acquisitions and Investments
Applicable federal and state laws place limitations on the ability of persons to invest in or acquire control of us without providing notice to or obtaining the approval of one or more of our regulators. In addition, we are subject to banking laws and regulations that limit our investments and acquisitions and, in some cases, subject them to the prior review and approval of our regulators, including the Federal Reserve, the OCC and the FDIC. The banking agencies have broad discretion in evaluating proposed acquisitions and investments that are subject to their prior review or approval.
Stress Testing and Capital Planning
The Dodd-Frank Wall Street Reform and Consumer Protection Act imposes heightened prudential requirements on bank holding companies with at least $50 billion in total consolidated assets, such as the Company, and requires the Federal Reserve to establish prudential standards that are more stringent than those applicable to smaller bank holding companies. Under the Federal Reserve’s regulations, the Company is subject to annual supervisory and semiannual company-run stress testing requirements that are designed to evaluate whether a bank holding company has sufficient capital on a total consolidated basis to absorb losses and support operations under adverse economic conditions. The FDIC and the OCC have also issued rules to implement annual stress testing requirements that are applicable to Centurion Bank and American Express Bank. We publish the stress test results for the Company, Centurion Bank and American Express Bank on our Investor Relations website.
The results of the Company’s annual stress test are incorporated into our annual capital plan, which must cover a “planning horizon” of at least nine quarters and which we are required to submit to the Federal Reserve for review under its Comprehensive Capital Analysis and Review (CCAR) process. As part of CCAR, the Federal Reserve evaluates whether the Company has sufficient capital to continue operations under various scenarios of economic and financial market stress (developed by both the Company and the Federal Reserve), including after taking into account planned capital distributions, such as dividend payments and common stock repurchases. Sufficient capital for these purposes is likely to require us to maintain capital ratios appreciably above applicable minimum requirements. The scenarios are designed to stress our risks and vulnerabilities and assess our pro-forma capital position and ratios under hypothetical stress environments.
The Federal Reserve has broad authority to object to capital plans, and to require bank holding companies to revise and resubmit their capital plans. We are also subject to an ongoing requirement to revise and resubmit our capital plans upon the occurrence of certain events specified by rule. In addition to other limitations, our ability to make any capital distributions (including dividends and share repurchases) is contingent on the Federal Reserve’s non-objection to our capital plan.
We are required to submit our capital plans and stress testing results to the Federal Reserve on or before April 5 of each year. The Federal Reserve is expected to publish the decisions for all the bank holding companies participating in CCAR 2017, including the reasons for any objection to capital plans, by June 30, 2017. In addition, the Federal Reserve will publish separately the results of its supervisory stress test under both the supervisory severely adverse and adverse scenarios. The information to be released will include, among other things, the Federal Reserve’s projection of company-specific information, including post-stress capital ratio information over the planning horizon.
Dividends and Other Capital Distributions
The Company and TRS, as well as Centurion Bank, American Express Bank and the Company’s insurance subsidiaries, are limited in their ability to pay dividends by banking statutes, regulations and supervisory policy.
Dividend payments by the Company to shareholders are subject to the oversight of the Federal Reserve. As discussed in “Stress Testing and Capital Planning,” the Company may only make capital distributions that have been included in a capital plan to which the Federal Reserve has issued a non-objection. Even if the Federal Reserve has not objected to a distribution, the Company may still not make a distribution without Federal Reserve approval if, among other things, the Company will not meet a minimum regulatory capital ratio after giving effect to the capital distribution or if changes in facts would result in a requirement to resubmit our capital plan or the Company’s earnings are materially underperforming its projections in the capital plan.
In general, federal and applicable state banking laws prohibit, without first obtaining regulatory approval, insured depository institutions, such as Centurion Bank and American Express Bank, from making dividend distributions to, in our case, TRS, if such distributions are not paid out of available recent earnings or would cause the institution to fail to meet capital adequacy standards. In addition to specific limitations on the dividends the Company’s bank subsidiaries can pay to TRS, federal banking regulators have authority to prohibit or limit the payment of a dividend if, in the banking regulator’s opinion, payment of a dividend would constitute an unsafe or unsound practice in light of the financial condition of the institution.
Capital, Leverage and Liquidity Regulation
The Company, Centurion Bank and American Express Bank are required to comply with the applicable capital adequacy rules established by federal banking regulators. These rules are intended to ensure that bank holding companies and depository institutions (collectively, banking organizations) have adequate capital given the level of assets and off-balance sheet obligations. The federal banking regulators’ current capital rules, which, subject to phase-in provisions, generally became applicable to the Company, Centurion Bank and American Express Bank in 2014 (the Capital Rules), largely implement the Basel Committee on Banking Supervision’s (the Basel Committee) framework for strengthening international capital regulation, known as Basel III. The minimum capital and buffer requirements under the Capital Rules will be fully phased in by January 1, 2019. For additional information regarding our capital ratios, see “Consolidated Capital Resources and Liquidity” under “MD&A.”
Under the Capital Rules banking organizations are required to maintain minimum ratios for Common Equity Tier 1 (CET1), Tier 1 and Total capital to risk-weighted assets. In addition, all banking organizations remain subject to a minimum leverage ratio of Tier 1 capital to average total consolidated assets (as defined for regulatory purposes). The Company, as an advanced approaches institution, will also become subject to a supplementary leverage ratio on January 1, 2018. In addition, the Company, Centurion Bank and American Express Bank are required to calculate risk-based capital ratios under both the generally applicable standardized approach and the advanced approaches capital rule, and then use the lower of each capital ratio to determine whether each meets its minimum risk-based capital requirements.
Since 2014, we have reported our capital adequacy ratios on a parallel basis to federal banking regulators using both risk-weighted assets calculated under the Basel III standardized approach, as adjusted for certain items, and the requirements for an advanced approaches institution. During this parallel period, federal banking regulators assess our compliance with the advanced approaches requirements. The parallel period will continue until we receive regulatory notification to exit parallel reporting, at which point we will begin publicly reporting regulatory risk-based capital ratios calculated under both the advanced approaches and the standardized approach under the Capital Rules, and will be required to use the lower of these ratios in order to determine whether we are in compliance with minimum capital requirements. Depending on how the advanced approaches are ultimately implemented for our asset types, our capital ratios calculated under the advanced approaches may be lower than under the standardized approach. The Federal Reserve has indefinitely delayed use of the advanced approaches in CCAR and, therefore, the standardized approach will remain the applicable measurement for such purposes.
The Company, Centurion Bank and American Express Bank must each maintain CET1, Tier 1 capital (that is, CET1 plus additional Tier 1 capital) and Total capital (that is, Tier 1 capital plus Tier 2 capital) ratios of at least 4.5 percent, 6.0 percent and 8.0 percent, respectively. The Capital Rules also implement a 2.5 percent capital conservation buffer composed entirely of CET1, on top of these minimum risk-weighted asset ratios. As a result, the minimum ratios are effectively 7.0 percent, 8.5 percent and 10.5 percent for the CET1, Tier 1 capital and Total capital ratios, respectively, on a fully phased-in basis. Implementation of the capital conservation buffer began on January 1, 2016 at the 0.625 percent level and will increase in equal increments at the beginning of each year (i.e., 1.25 percent as of January 1, 2017) until it is fully implemented on January 1, 2019. The required minimum capital ratios for the Company may be further increased by a countercyclical capital buffer composed entirely of CET1 up to 2.5 percent, which may be assessed when federal banking regulators determine that such a buffer is necessary to protect the banking system from disorderly downturns associated with excessively expansionary periods. As of October 2016, the Federal Reserve set the countercyclical capital buffer to zero percent. Assuming full phase in of the capital conservation buffer and the maximum countercyclical capital buffer were in place, the Company’s effective minimum CET1, Tier 1 capital and Total capital ratios could be 9.5 percent, 11.0 percent and 13.0 percent, respectively.
Banking institutions whose ratio of CET1, Tier 1 Capital or Total capital to risk-weighted assets is above the minimum but below the capital conservation buffer (or below the combined capital conservation buffer and countercyclical capital buffer, when the latter is applied) will face constraints on discretionary distributions such as dividends, repurchases and redemptions of capital securities, and executive compensation based on the amount of the shortfall.
In December 2015 and March 2016, the Basel Committee proposed a series of revisions to the standardized approach to calculating regulatory capital requirements, including new rules that would create additional capital requirements for certain “unconditionally cancellable commitments” such as unused credit card lines of credit. If adopted in the United States as proposed by the Basel Committee, this change would increase the capital requirements for card issuers like us. In addition, the Basel Committee has proposed adjustments to the standardized calculation of operational risk capital requirements. If adopted in the United States as proposed by the Basel Committee, the changes could create additional capital requirements for banking organizations like us that are highly specialized in fee-based businesses and conduct significant fee-based activities.
We are also required to comply with minimum leverage ratio requirements. The leverage ratio is the ratio of a banking organization’s Tier 1 capital to its average total consolidated assets (as defined for regulatory purposes). All banking organizations are required to maintain a leverage ratio of at least 4.0 percent.
The Capital Rules also establish a supplementary leverage ratio requirement for advanced approaches banking organizations such as the Company. The supplementary leverage ratio is the ratio of Tier 1 capital to an expanded concept of leverage exposure that includes both on-balance sheet and certain off-balance sheet exposures. The Capital Rules require a minimum supplementary leverage ratio of 3.0 percent beginning January 1, 2018. The supplemental leverage ratio will be factored into our 2017 CCAR submission and evaluation of our capital plan by the Federal Reserve.
The Federal Reserve’s enhanced prudential standards rule includes heightened liquidity and overall risk management requirements. The rule requires the maintenance of a liquidity buffer, consisting of highly liquid assets, that is sufficient to meet projected net outflows for 30 days over a range of liquidity stress scenarios.
In addition, the Company, Centurion Bank and American Express Bank are subject to a liquidity coverage ratio (LCR) requirement, which is designed to ensure that a banking entity maintains an adequate level of unencumbered high-quality liquid assets that can be converted into cash to meet its liquidity needs for a 30-day time horizon under an acute liquidity stress scenario specified by supervisors. The LCR measures the ratio of a firm’s high-quality liquid assets to its projected net outflows. Starting July 1, 2016, the Company, Centurion Bank and American Express Bank were required to calculate the LCR each business day and maintain a minimum ratio of 90 percent, increasing to 100 percent on January 1, 2017. As of December 31, 2016, the Company, Centurion Bank and American Express Bank were in compliance with the requirements of the LCR rule. Beginning in April 2018, we will be required to disclose certain LCR calculation data and other information on a quarterly basis.
A second standard provided for in the Basel III liquidity framework, referred to as the net stable funding ratio (NSFR), requires a minimum amount of longer-term funding based on the assets and activities of banking entities. The LCR and NSFR requirements may cause banking entities generally to increase their holdings of cash, U.S. Treasury securities and other sovereign debt as a proportion of total assets and/or increase the proportion of longer-term debt. Federal banking regulators issued a proposed rule in May 2016 that is scheduled to become effective on January 1, 2018 to implement the NSFR for advanced approaches banking organizations, such as the Company. The NSFR would also apply to Centurion Bank and American Express Bank. The proposed rule requires that “available stable funding” be no less than “required stable funding” for the Company, Centurion Bank, and American Express Bank, as each such measure is calculated under the proposed rule. We would be required to regularly monitor the NSFR and correct any shortfalls, as well as publicly report certain information related to the NSFR.
Prompt Corrective Action
The Federal Deposit Insurance Act (FDIA) requires, among other things, that federal banking regulators take prompt corrective action in respect of FDIC-insured depository institutions (such as Centurion Bank and American Express Bank) that do not meet minimum capital requirements. The FDIA establishes five capital categories for FDIC-insured banks: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. The FDIA imposes progressively more restrictive constraints on operations, management and capital distributions, depending on the capital category in which an institution is classified. In order to be considered “well capitalized,” Centurion Bank and American Express Bank must maintain CET1, Tier 1 capital, Total capital and Tier 1 leverage ratios of 6.5 percent, 8.0 percent, 10.0 percent and 5.0 percent, respectively.
Under the FDIA, each of Centurion Bank and American Express Bank could be prohibited from accepting brokered deposits (i.e., deposits raised through third-party brokerage networks) or offering interest rates on any deposits significantly higher than the prevailing rate in its normal market area or nationally (depending upon where the deposits are solicited), unless (1) it is well capitalized or (2) it is adequately capitalized and receives a waiver from the FDIC. A significant amount of our outstanding U.S. retail deposits have been raised through third-party brokerage networks, and such deposits are considered brokered deposits for bank regulatory purposes. If a federal regulator determines that we are in an unsafe or unsound condition or that we are engaging in unsafe or unsound banking practices, the regulator may reclassify our capital category or otherwise place restrictions on our ability to accept or solicit brokered deposits.
We are required to prepare and provide to regulators a plan for the rapid and orderly resolution of the Company under the U.S. Bankruptcy Code in the event of material distress or failure. This resolution planning requirement may, as a practical matter, present additional constraints on our structure, operations and business strategy, and on transactions and business arrangements between our bank and non-bank subsidiaries, because we must consider the impact of these matters on our ability to prepare and submit a resolution plan that demonstrates that we may be resolved under the Bankruptcy Code in a rapid and orderly manner. If the Federal Reserve and the FDIC determine that our plan is not credible and we fail to cure the deficiencies, we may be subject to more stringent capital, leverage or liquidity requirements; or restrictions on our growth, activities or operations; or may ultimately be required to divest certain assets or operations to facilitate an orderly resolution.
Orderly Liquidation Authority
The Company could become subject to the Orderly Liquidation Authority (OLA), a resolution regime under which the Treasury Secretary may appoint the FDIC as receiver to liquidate a systemically important financial company, if the Company is in danger of default and is determined to present a systemic risk to U.S. financial stability. As under the FDIC resolution model, under the OLA, the FDIC has broad power as receiver. Substantial differences exist, however, between the OLA and the FDIC resolution model for depository institutions, including the right of the FDIC under the OLA to disregard the strict priority of creditor claims in limited circumstances, the use of an administrative claims procedure to determine creditor claims (as opposed to the judicial procedure used in bankruptcy proceedings), and the right of the FDIC to transfer claims to a “bridge” entity. The OLA is separate from the Company’s resolution plan discussed in “Resolution Planning.”
The FDIC has developed a strategy under OLA, referred to as the “single point of entry” or “SPOE” strategy, under which the FDIC would resolve a failed financial holding company by transferring its assets (including shares of its operating subsidiaries) and, potentially, very limited liabilities to a “bridge” holding company; utilize the resources of the failed financial holding company to recapitalize the operating subsidiaries; and satisfy the claims of unsecured creditors of the failed financial holding company and other claimants in the receivership by delivering securities of one or more new financial companies that would emerge from the bridge holding company. Under this strategy, management of the failed financial holding company would be replaced and its shareholders and creditors would bear the losses resulting from the failure.
FDIC Powers upon Insolvency of Insured Depository Institutions
If the FDIC is appointed the conservator or receiver of Centurion Bank or American Express Bank, the FDIC has the power: (1) to transfer any of the depository institution’s assets and liabilities to a new obligor without the approval of the depository institution’s creditors; (2) to enforce the terms of the depository institution’s contracts pursuant to their terms; or (3) to repudiate or disaffirm any contract or lease to which the depository institution is a party, the performance of which is determined by the FDIC to be burdensome and the disaffirmation or repudiation of which is determined by the FDIC to promote the orderly administration of the depository institution. In addition, the claims of holders of U.S. deposit liabilities and certain claims for administrative expenses of the FDIC against an insured depository institution would be afforded priority over other general unsecured claims against the institution, including claims of debt holders of the institution and depositors in non-U.S. offices, in the liquidation or other resolution of the institution by a receiver. As a result, whether or not the FDIC ever sought to repudiate any debt obligations of Centurion Bank or American Express Bank, the debt holders and depositors in non-U.S. offices would be treated differently from, and could receive substantially less, if anything, than the depositors in U.S. offices of the depository institution.
Other Banking Regulations
Source of Strength
The Company is required to act as a source of financial and managerial strength to its subsidiary banks and may be required to commit capital and financial resources to support Centurion Bank and/or American Express Bank. Such support may be required at times when, absent this requirement, the Company otherwise might determine not to provide it. Capital loans by the Company to any of its subsidiary banks are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary banks. In the event of the Company’s bankruptcy, any commitment by the Company to a federal banking regulator to maintain the capital of a subsidiary bank will be assumed by the bankruptcy trustee and entitled to a priority of payment.
Under the “cross-guarantee” provision of the Financial Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA), Centurion Bank and American Express Bank may be liable to the FDIC with respect to any loss incurred or reasonably anticipated to be incurred by the FDIC in connection with the default of, or FDIC assistance to, any commonly controlled insured depository institution. Centurion Bank and American Express Bank are commonly controlled within the meaning of the FIRREA cross-guarantee provision. A depository institution’s liability for a cross-guarantee claim of the FDIC generally has priority in right of payment to any obligation of the depository institution to its holding company or other affiliates.
Transactions Between Centurion Bank or American Express Bank and Their Respective Affiliates
Certain transactions (including loans and credit extensions from Centurion Bank and American Express Bank) between Centurion Bank and American Express Bank, on the one hand, and their affiliates (including the Company, TRS and their non-bank subsidiaries), on the other hand, are subject to quantitative and qualitative limitations, collateral requirements, and other restrictions imposed by statute and regulation. Transactions subject to these restrictions are generally required to be made on an arm’s-length basis.
FDIC Deposit Insurance and Insurance Assessments
Centurion Bank and American Express Bank accept deposits that are insured by the FDIC up to the applicable limits. Under the FDIA, the FDIC may terminate the insurance of an institution’s deposits upon a finding that the institution has engaged in unsafe or unsound practices; is in an unsafe or unsound condition to continue operations; or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC. We do not know of any practice, condition or violation that might lead to termination of deposit insurance at either of our insured depository institution subsidiaries. The FDIC’s deposit insurance fund is funded by assessments on insured depository institutions, which are subject to adjustment by the FDIC.
Community Reinvestment Act
Centurion Bank and American Express Bank are subject to the CRA, which imposes affirmative, ongoing obligations on depository institutions to meet the credit needs of their local communities, including low- and moderate-income neighborhoods, consistent with the safe and sound operation of the institution.
Other Enhanced Prudential Standards
The Federal Reserve has not yet finalized prudential requirements, mandated by Dodd-Frank, regarding early remediation requirements for large bank holding companies experiencing financial distress and single counterparty credit limits (similar to bank-level lending limits but, as proposed, applicable to bank holding companies and controlled subsidiaries on a combined basis) for large bank holding companies.
Consumer Financial Products Regulation
In the United States, our marketing and sale of consumer financial products and our compliance with certain federal consumer financial laws are supervised and examined by the CFPB, which has broad rulemaking and enforcement authority over providers of credit, savings and payment services and products and authority to prevent “unfair, deceptive or abusive” acts or practices. In addition, a number of U.S. states have significant consumer credit protection and disclosure laws (in certain cases more stringent than U.S. federal laws). U.S. federal law also regulates abusive debt collection practices. Bankruptcy and debtor relief laws can affect our ability to collect amounts owed to us.
The review of products and practices to assess compliance and prevent unfair, deceptive or abusive conduct will be a continuing focus of the CFPB and regulators more broadly, as well as our own internal reviews. For example, federal banking regulators have recently announced they are conducting horizontal reviews of banking sales practices and we are cooperating with regulators in those reviews. In October 2012, the Company, TRS, Centurion Bank and American Express Bank reached settlements with several bank regulators relating to certain aspects of our U.S. consumer card practices. In December 2013, TRS, Centurion Bank and American Express Bank reached settlements with the FDIC, OCC and CFPB to resolve regulatory reviews of marketing and billing practices related to several credit card add-on products.
Internal and regulatory reviews have resulted in, and are likely to continue to result in, changes to our practices, products and procedures, substantial restitution to our Card Members and increased costs related to regulatory oversight, supervision and examination. Such reviews may also result in additional regulatory actions, including civil money penalties.
On May 5, 2016, the CFPB issued a proposed rule that, if enacted, would, among other changes, require that our consumer arbitration clause not apply to cases filed in court as class actions, unless and until class certification is denied or the class claims are dismissed. The CFPB set a 90-day period for comment, and the rule would become effective 211 days after publication in the Federal Register and apply to all agreements entered into after that date.
On July 28, 2016, the CFPB outlined proposals that would set forth additional requirements for third-party debt collection agencies, which we use in the ordinary course of business. This proposal is part of a rulemaking process that is not expected to result in a final rule, if any, becoming effective before 2018.
In 2003, the Federal Financial Institutions Examination Council issued guidance on credit card account management and loss allowance practices. Centurion Bank and American Express Bank regularly evaluate and discuss the guidance with their respective regulators and, as a result, may refine their practices from time to time based on regulatory input. The guidance has not had, nor do we expect it to have, any material impact on our businesses or practices.
As an issuer of stored value/prepaid products, we are regulated in the United States under the “money transmitter” or “sale of check” laws in effect in most states. We are also required by the laws of many states to comply with unclaimed and abandoned property laws, under which we must pay to states the face amount of any Travelers Cheque or prepaid card that is uncashed or unredeemed after a period of time depending on the type of product. In October 2016, the CFPB finalized regulatory standards for prepaid cards, including uniform disclosures, certain protections for consumers and other requirements.
In countries outside the United States, we have seen an increase in regulatory focus in relation to a number of key areas impacting our card-issuing businesses, particularly consumer protection (such as the EU, the United Kingdom and Canada), responsible lending (such as Australia, Mexico, New Zealand and Singapore) and privacy and data protection (such as Europe, Australia, Canada, Mexico and Singapore). Regulators in a number of countries are shifting their focus from just ensuring compliance with local rules and regulations toward paying greater attention to the product design and operation with a focus on customers and outcomes. Regulators’ expectations of firms in relation to their compliance, risk and control frameworks continue to increase and regulators are placing significant emphasis on a firm’s systems and controls relating to the identification and resolution of issues.
The operation of card networks is subject to increasing focus in various countries in which we operate. Legislators and regulators have focused on the fees merchants pay to accept cards, including the way bankcard network members collectively set the “interchange” (that is, the fee paid by the bankcard merchant acquirer to the card issuer in payment networks like Visa and MasterCard), as well as the rules, contract terms and practices governing merchant card acceptance. Although, unlike the Visa and MasterCard networks, the American Express network does not have interchange fees or collectively set fees or rules, antitrust actions and government regulation relating to merchant pricing or terms of merchant rules and contracts could affect all networks directly or indirectly, as well as adversely impact consumers and merchants. Among other things, lower interchange and/or merchant discount revenue can be expected to lead card issuers either to look to reduce costs by scaling back or eliminating rewards, services or benefits to cardholders and other customers or to look for other sources of revenue from consumers such as higher annual card fees or interest charges.
In certain countries, such as certain Member States in the EU and Australia, merchants are permitted by law to surcharge card purchases. While surcharging continues to be actively considered in certain jurisdictions, the benefits to customers have not been apparent in countries that have allowed it, and in some cases regulators are addressing concerns about excessive surcharging by merchants. Surcharging, particularly where it disproportionately impacts American Express Card Members, which is known as differential surcharging, as well as other steering practices that are permitted by regulation in some countries, could have a material adverse effect on us if it becomes widespread.
In addition to the EU payments legislation and the Australia payments regulation discussed below, we see regulation of the payments industry in other countries. For example, in Mexico, the central bank adopted rules for the regulation of payment instruments and the authorization of payment clearinghouses, including requirements on non-discrimination and access; however, “closed-loop” networks such as American Express are exempt as are our licensing arrangements, provided that volumes under these arrangements fall below a certain sector share (as do currently our GNS volumes in Mexico). In Canada, regulators have prompted the major international card networks to make voluntary commitments on pricing, specifically interchange fee levels; in the case of American Express, our commitment extends to maintaining current pricing practices whereby issuer rates received by GNS partners are agreed to bilaterally with each partner, rather than multilaterally, and merchant pricing is simple, transparent and value-based with the same rate for the acquiring of credit and charge card transactions for a particular merchant regardless of the type of card that is presented. In Malaysia, the central bank introduced rules that impose caps on interchange fees, permit steering by merchants and co-badging of debit cards with other card networks, and require issuers to offer cardholders the option of taking up a basic card product with minimal or no cardholder incentives or rewards and at zero or nominal cost to the cardholder.
In some countries governments have established regulatory regimes that require international card networks to be locally licensed and/or to localize aspects of their operations. For example, card network operators in India must obtain authorization from the Reserve Bank of India, which has broad power under the Payment and Settlement Systems Act 2007 to regulate the membership and operations of card networks. In Hong Kong, the local monetary authority is implementing a new regulatory framework under which it is considering which card payment systems to designate for supervision. In Russia, card network operators must be authorized by the central bank, and newly enacted regulation requires networks to place security deposits with the central bank, process all local transactions using government-owned infrastructure and ensure that local transaction data remains within the country. Governments in some countries also provide resources or protection to select domestic payment card networks. For example, China recently adopted new regulation that will permit foreign card networks to operate domestically in the country for the first time, subject to licensing, capital and other requirements. The development and enforcement of these and other similar laws, regulations and policies in international markets may adversely affect our ability to compete effectively in such countries and maintain and extend our global network.
European Union Payments Legislation
In the EU, the Payment Services Directive (PSD), adopted in 2007 and subsequently implemented by EU Member States, prescribes common rules across the EU for licensing and supervision of payment services providers, including card issuers and merchant acquirers, and for their conduct of business with customers. The objective of the PSD is to facilitate the operation of a single internal payments market in the EU through harmonization of EU Member State laws governing payment services. One provision of the PSD permits merchants to surcharge, subject to disclosure requirements, but also allows individual Member States to override this rule by prohibiting or limiting surcharging. To date, the Member States are split on whether they prohibit or permit surcharging, with countries such as the United Kingdom (which for a number of years has permitted it for credit card purchases), the Netherlands and Spain permitting it and other countries such as France, Italy and Sweden prohibiting it. All Member States permit merchants to offer discounts for particular forms of payment.
The Consumer Rights Directive (CRD) prohibits merchants from surcharging card purchases more than the merchants’ cost of acceptance in those Member States that permit surcharging pursuant to the PSD. The CRD provides no guidance to merchants on how to assess the cost of acceptance or take into account the relative value of different payment methods. A cost-based limit on surcharging could result in merchants imposing higher surcharges on American Express transactions if, in the absence of clear guidance, a surcharging merchant took the position that the cost of American Express acceptance is higher than other payment cards.
In 2015, the EU adopted legislation in two parts, covering a wide range of topics across the payments industry. The first part was an EU-wide regulation on interchange fees (the Interchange Fee Regulation); the second consisted of revisions to the PSD (the PSD2).
The Interchange Fee Regulation was formally adopted in April 2015. The substantive terms as adopted include the following:
The PSD2 was adopted on November 25, 2015, and was published in the Official Journal of the European Union on December 23, 2015. Each Member State has until January 2018 to transpose the PSD2 into national law.
Among other terms, the published text of PSD2 includes provisions that will (i) further regulate surcharging so that transactions falling in scope of the interchange caps could not be surcharged, but transactions falling outside the scope of the caps could be surcharged up to cost, subject potentially to the decision of an individual Member State to prohibit surcharging altogether; and (ii) require all networks, including “three party” payment networks that operate with licensing arrangements, such as our GNS business, to establish objective, proportionate and non-discriminatory criteria under which a financial institution may access the network, for example, as a licensed issuer or acquirer. The revised surcharging regulation may increase instances of differential surcharging of our cards, prompt customer and merchant confusion as to which transactions may be surcharged and lead to Card Member dissatisfaction. The access requirements will undermine the flexibility and discretion we have had to date in deciding with whom to partner and, together with requirements in the Interchange Fee Regulation, significantly impact the value and sustainability of our GNS business in Europe. We have brought a legal challenge and seek a ruling from the EU Court of Justice to clarify the interpretation and validity of the application of access requirements in circumstances where three party networks rely on a cobrand partner or through an agent.
Australia Payments Regulation
Following a formal review of the regulatory framework for card payments in Australia, the Reserve Bank of Australia adopted new regulations on May 26, 2016, including the following:
The inclusion of our GNS business under interchange regulation may undermine our ability to attract and retain GNS partners. While the discount rates we agree to with merchants are not capped, the interchange caps, once effective, will likely exert downward pressure on merchant fees across the industry, including our discount rates.
Privacy and Data Protection
Regulatory and legislative activity in the areas of privacy, data protection and information security continues to increase worldwide. We have established and continue to maintain policies that provide a framework for compliance with applicable privacy, data protection and information security laws, meet evolving customer privacy expectations and support and enable business innovation and growth.
Our regulators, including regulatory examiners, are increasingly focused on ensuring that our privacy, data protection and information security-related policies and practices are adequate to inform customers of our data collection, use, sharing and/or security practices, to provide them with choices, if required, about how we use and share their information, and to appropriately safeguard their personal information.
In the United States, certain of our businesses are subject to the privacy, disclosure and information security provisions of the Gramm-Leach-Bliley Act (GLBA) and its implementing regulations and guidance. Among other things, the GLBA imposes certain limitations on our ability to share consumers’ nonpublic personal information with nonaffiliated third parties; requires us to provide certain disclosures to consumers about our data collection, sharing and security practices and affords customers the right to “opt out” of disclosure of their personal financial information to nonaffiliated third parties (with limited exceptions), and requires us to develop, implement and maintain a written comprehensive information security program containing safeguards that are appropriate to the size and complexity of our business, the nature and scope of our activities and the sensitivity of customer information that we process. The GLBA does not preempt state laws that afford greater privacy protections to consumers. Various states also have adopted laws, rules and/or regulations pertaining to privacy and/or information security, including certain potentially applicable financial privacy laws (such as a law in effect in California); data security and/or data disposal requirements (including potentially applicable requirements adopted in states such as Massachusetts and Nevada); online privacy laws (such as a law in effect in California); and laws relating to the confidentiality of certain types of data (such as laws governing certain health-related information and/or Social Security numbers, for which there are also potentially applicable federal laws, rules, regulations and/or guidance as well). Certain of these requirements may apply to the personal information of our employees and/or contractors as well as our customers.
Various U.S. federal banking regulators and 47 U.S. states, the District of Columbia, Guam, Puerto Rico and the Virgin Islands have enacted data security breach notification requirements with varying levels of individual, consumer, regulator and/or law enforcement notification in certain circumstances in the event of a data security breach. Data breach notification laws are also becoming more prevalent in other parts of the world where we operate, including Germany, Japan, Mexico, South Korea and Taiwan. In many countries that have yet to impose data breach notification requirements, regulators have increasingly used the threat of significant sanctions and penalties by data protection authorities to encourage voluntary breach notification.
We are also subject to certain privacy, data protection and information security laws in other countries in which we operate (including countries in the EU, Australia, Canada, Japan, Hong Kong, Mexico and Singapore), some of which are more stringent than those in the United States. We have also seen some countries institute laws requiring in-country data processing and/or in-country storage of the personal data of its citizens. Compliance with such laws could result in higher technology, administrative and other costs for us and could limit our ability to optimize the use of our closed-loop data.
In Europe, the European Directive 95/46/EC (the Data Protection Directive), providing for the protection of individuals with regard to the processing of personal data and on the free movement of such data, will be replaced by the EU General Data Protection Regulation (EU GDPR) as of May 2018. The EU GDPR includes, among other things, a requirement for prompt notice of data breaches, in certain circumstances, to data subjects and supervisory authorities, applying uniformly across sectors and the EU, with significant fines for non-compliance. The EU GDPR also requires companies processing personal data of individuals residing in the EU, regardless of the location of the company, to comply with EU privacy and data protection rules. We generally rely on our binding corporate rules as the primary method for lawfully transferring data from our European affiliates to our affiliates in the United States and elsewhere globally.
In addition, the European Directive 2002/58/EC (the e-Privacy Directive) will continue to set out requirements for the processing of personal data and the protection of privacy in the electronic communications sector. The ePrivacy Directive places restrictions on, among other things, the sending of unsolicited marketing communications, as well as on the collection and use of data about internet users.
In 2015, the European Central Bank and the European Banking Authority enacted secondary legislation focused on security breaches, strong customer authentication and information security-related policies. Likewise, the Commission adopted a network information security directive, to be implemented into national laws by the Member States. PSD2 also contains regulatory requirements on strong customer authentication and measures to prevent security incidents.
Anti-Money Laundering, Sanctions and Anti-Corruption Compliance
We are subject to significant supervision and regulation, and an increasingly stringent enforcement environment, with respect to compliance with anti-money laundering (AML), sanctions and anti-corruption laws and regulations in the United States and in other jurisdictions in which we operate. Failure to maintain and implement adequate programs and policies and procedures for AML, sanctions and anti-corruption compliance could have serious financial, legal and reputational consequences.
American Express is subject to a significant number of AML laws and regulations as a result of being a financial company headquartered in the United States, as well as having a global presence. In the United States, the majority of AML requirements are derived from the Currency and Foreign Transactions Reporting Act and the accompanying regulations issued by the U.S. Department of the Treasury (collectively referred to as the Bank Secrecy Act), as amended by the USA PATRIOT Act of 2001 (the Patriot Act). In Europe, AML requirements are largely the result of countries transposing the 3rd EU Anti-Money Laundering Directive (and preceding EU Anti-Money Laundering Directives) into local laws and regulations. The 4th EU Anti-Money Laundering Directive was published in June 2015 and required each Member State to transpose the new Directive into national law within two years. Numerous other countries, such as Argentina, Australia, Canada and Mexico, have also enacted or proposed new or enhanced AML legislation and regulations applicable to American Express.
Among other things, these laws and regulations require us to establish AML programs that meet certain standards, including, in some instances, expanded reporting, particularly in the area of suspicious transactions, and enhanced information gathering and recordkeeping requirements. Any errors, failures or delays in complying with federal, state or foreign AML and counter-terrorist financing laws could result in significant criminal and civil lawsuits, penalties and forfeiture of significant assets or other enforcement actions.
Office of Foreign Assets Control Regulation
The United States has imposed economic sanctions that affect transactions with designated foreign countries, nationals and others. The United States prohibits U.S. persons from engaging with individuals and entities identified as “Specially Designated Nationals,” such as terrorists and narcotics traffickers. These prohibitions are administered by the U.S. Department of the Treasury’s Office of Foreign Assets Control (OFAC) and are typically known as the OFAC rules. The OFAC rules prohibit U.S. persons from engaging in financial transactions with or relating to the prohibited individual, entity or country, require the blocking of assets in which the individual, entity or country has an interest, and prohibit transfers of property subject to U.S. jurisdiction (including property in the possession or control of U.S. persons) to such individual, entity or country. Blocked assets (e.g., property or bank deposits) cannot be paid out, withdrawn, set off or transferred in any manner without a license from OFAC. We maintain a global sanctions program designed to ensure compliance with OFAC requirements. Failure to comply with such requirements could subject us to serious legal and reputational consequences, including criminal penalties.
Pursuant to Section 219 of the Iran Threat Reduction and Syria Human Rights Act of 2012, which added Section 13(r) to the Securities Exchange Act of 1934, as amended (the Exchange Act), an issuer is required to disclose in its annual or quarterly reports, as applicable, whether it or any of its affiliates knowingly engaged in certain activities, transactions or dealings relating to Iran or with individuals or entities designated pursuant to certain Executive Orders. Disclosure is generally required even where the activities, transactions or dealings were conducted outside the United States by non-U.S. affiliates in compliance with applicable law, and whether or not the activities are sanctionable under U.S. law.
During the year ended December 31, 2016, American Express Travel & Lifestyle Services obtained two visas from Iranian embassies in connection with certain travel arrangements on behalf of clients. In addition, American Express Global Business Travel (GBT) and certain entities that may be considered affiliates of GBT have informed us that during the year ended December 31, 2016 they obtained approximately 300 visas from Iranian embassies and consulates around the world in connection with certain travel arrangements on behalf of clients and booked 10 reservations at hotels that may be owned, directly or indirectly, or may otherwise affiliated with, the Government of Iran. We had negligible gross revenues and net profits attributable to these transactions and intend to continue to engage in these activities on a limited basis so long as such activities are permitted under U.S. law.
We are subject to complex international and U.S. anti-corruption laws and regulations, including the U.S. Foreign Corrupt Practices Act (the FCPA), the UK Bribery Act and other laws that prohibit the making or offering of improper payments. The FCPA makes it illegal to corruptly offer or provide anything of value to foreign government officials, political parties or political party officials for the purpose of obtaining or retaining business or an improper advantage. The FCPA also requires us to strictly comply with certain accounting and internal controls standards. In recent years, enforcement of the FCPA has become more intense. The UK Bribery Act also prohibits commercial bribery, and the receipt of a bribe, and makes it a corporate offense to fail to prevent bribery by an associated person, in addition to prohibiting improper payments to foreign government officials. Failure of the Company, our subsidiaries, employees, contractors or agents to comply with the FCPA, the UK Bribery Act and other laws can expose us and/or individual employees to investigation, prosecution and to potentially severe criminal and civil penalties.
Our compensation practices are subject to oversight by the Federal Reserve. The federal banking regulators’ guidance on sound incentive compensation practices sets forth three key principles for incentive compensation arrangements that are designed to help ensure that incentive compensation plans do not encourage imprudent risk-taking and are consistent with the safety and soundness of banking organizations. The three principles provide that a banking organization’s incentive compensation arrangements should (1) provide incentives that appropriately balance risk and financial results in a manner that does not encourage employees to expose their organizations to imprudent risks, (2) be compatible with effective internal controls and risk management, and (3) be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors. Any deficiencies in our compensation practices that are identified by the Federal Reserve or other banking regulators in connection with its review of our compensation practices may be incorporated into our supervisory ratings, which can affect our ability to make acquisitions or perform other actions. Enforcement actions may be taken against us if our incentive compensation arrangements or related risk-management control or governance processes are determined to pose a risk to our safety and soundness and we have not taken prompt and effective measures to correct the deficiencies.
In May 2016, the federal banking regulators, the SEC, the Federal Housing Finance Agency and the National Credit Union Administration re-proposed a rule, originally proposed in 2011, pursuant to Dodd-Frank on incentive-based compensation practices. The re-proposed rule would apply deferral, downward adjustment and forfeiture, and clawback requirements to incentive-based compensation arrangements granted to senior executive officers and significant risk-takers of covered institutions, with specific requirements varying based on the asset size of the covered institution and the category of employee. Under the re-proposed rule, we would be required to defer at least 50 percent of a senior executive’s qualifying incentive-based compensation and 40 percent of a significant risk-taker’s qualifying incentive-based compensation for at least three years. Further, we would be required to make subject to forfeiture all unvested deferred incentive-based compensation of any senior executive officer or significant risk-taker, including unvested deferred amounts awarded under long-term incentive plans. The re-proposed rule would also require clawback provisions that, at a minimum, allow the covered institution to recover incentive-based compensation from a current or former senior executive officer or significant risk-taker for seven years following the date on which compensation vests, if the covered institution determines the senior executive officer or significant risk-taker engaged in misconduct that resulted in significant financial or reputational harm, fraud, or intentional misrepresentation of information used to determine incentive compensation. If these or other regulations are adopted in a form similar to what has been proposed, they will impose limitations on the manner in which we may structure compensation for our employees, which is likely to adversely affect our ability to hire, retain and motivate key employees.
EXECUTIVE OFFICERS OF THE COMPANY
Set forth below, in alphabetical order, is a list of all our executive officers as of February 17, 2017, including each executive officer’s principal occupation and employment during the past five years. None of our executive officers has any family relationship with any other executive officer, and none of our executive officers became an officer pursuant to any arrangement or understanding with any other person. Each executive officer has been elected to serve until the next annual election of officers or until his or her successor is elected and qualified. Each officer’s age is indicated by the number in parentheses next to his or her name.
Mr. O’Neill (63) has been Executive Vice President, Corporate Affairs and Communications since September 2014. Prior thereto, he had been Senior Vice President, Corporate Affairs and Communications since March 1991.
We had approximately 56,400 employees on December 31, 2016.
We maintain an Investor Relations website on the internet at http://ir.americanexpress.com. We make available free of charge, on or through this website, our annual, quarterly and current reports and any amendments to those reports as soon as reasonably practicable following the time they are electronically filed with or furnished to the Securities and Exchange Commission (SEC). To access these materials, click on the “SEC Filings” link under the caption “Financial Information” on our Investor Relations homepage.
You can also access our Investor Relations website through our main website at www.americanexpress.com by clicking on the “Investor Relations” link, which is located at the bottom of our homepage. Information contained on our Investor Relations website, our main website and other websites referred to in this report is not incorporated by reference into this report or any other report filed with or furnished to the SEC. We have included such website addresses only as inactive textual references and do not intend them to be active links.
You can find certain statistical disclosures required of bank holding companies starting on page A-1, which are incorporated herein by reference.
This section highlights specific risks that could affect us and our businesses. You should carefully consider each of the following risks and all of the other information set forth in this Annual Report on Form 10-K. Based on the information currently known to us, we believe the following information identifies the most significant risk factors affecting us. However, the risks and uncertainties we face are not limited to those described below. Additional risks and uncertainties not presently known to us or that we currently believe to be immaterial may also adversely affect our business.
If any of the following risks and uncertainties develop into actual events or if the circumstances described in the risks and uncertainties occur or continue to occur, these events or circumstances could have a material adverse effect on our business, financial condition or results of operations. These events could also have a negative effect on the trading price of our securities.
Strategic, Business and Competitive Risks
Difficult conditions in the business and economic environment, as well as political conditions in the United States and elsewhere, may materially adversely affect our business and results of operations.
Our results of operations are materially affected by economic, market, political and social conditions in the United States and abroad. Uneven global economic growth has had, and may continue to have, an adverse effect on us, in part because we are very dependent upon the level of consumer and business activity and the demand for payment and financing products. A prolonged period of slow economic growth or deterioration in economic conditions could change customer behaviors, including spending on our cards and the ability and willingness of Card Members to pay amounts owed to us. Travel and entertainment expenditures, which comprised approximately 25 percent of our U.S. billed business during 2016, for example, are sensitive to business and personal discretionary spending levels and also tend to decline during general economic downturns.
Geopolitical trends toward nationalism and protectionism and the weakening or dissolution of international trade pacts may increase the cost of, or otherwise interfere with, conducting business. Further, economic or political instability in certain regions or countries could negatively affect consumer and business spending, including in other parts of the world.
Factors such as consumer spending, business investment, government spending, interest rates, tax rates, fuel and other energy costs, the volatility and strength of the capital markets, inflation and deflation all affect the economic environment and, ultimately, our profitability. An economic downturn characterized by higher unemployment, lower family income, lower consumer spending, lower demand for credit, lower corporate earnings or lower business investment is likely to materially and adversely affect our business, results of operations and financial condition. Furthermore, such factors may cause our earnings, credit metrics and margins to fluctuate and diverge from expectations of analysts and investors, who may have differing assumptions regarding their impact on our business, adversely affecting, and/or increasing the volatility of, the trading price of our common shares.
Our operating results may suffer because of substantial and increasingly intense competition worldwide in the payments industry.
The payments industry is highly competitive, and we compete with charge, credit and debit card networks, issuers and acquirers, paper-based transactions (e.g., cash and checks), bank transfer models (e.g., wire transfers and ACH), as well as evolving and growing alternative payment and financing providers.
We believe Visa and MasterCard are larger than we are in most countries. As a result, card issuers and acquirers on the Visa and MasterCard networks may be able to benefit from the dominant position, scale, resources, marketing and pricing of those networks.
Some of our competitors have developed, or may develop, substantially greater financial and other resources than we have, including larger cash reserves, may offer richer value propositions or a wider range of programs and services than we offer or may use more effective advertising, marketing or cross-selling strategies to acquire and retain more customers, capture a greater share of spending and borrowings, attain and develop more attractive cobrand card programs and maintain greater merchant acceptance than we have. We may not be able to compete effectively against these threats or respond or adapt to changes in consumer spending habits as effectively as our competitors. We expect expenses such as Card Member rewards and Card Member services expenses to continue to increase as we improve our value propositions for Card Members, including in response to increased competition.
Spending on our cards could continue to be impacted by increasing consumer usage of charge, credit and debit cards issued on other networks, as well as adoption of payment systems based on ACH or other payment mechanisms. To the extent other payment mechanisms, systems and products continue to successfully expand, our discount revenues and our ability to access transaction data through our closed-loop network could be negatively impacted. If we are not able to differentiate ourselves from our competitors, drive value for our customers and/or effectively grow in areas such as mobile and online payments and emerging technologies, we may not be able to compete effectively against these threats.
To the extent we expand into new business areas and new geographic regions, we may face competitors with more experience and more established relationships with relevant customers, regulators and industry participants, which could adversely affect our ability to compete. We may face additional compliance and regulatory risk to the extent that we expand into new business areas and we may need to dedicate more expense, time and resources to comply with regulatory requirements than our competitors, particularly those that are not regulated financial institutions. In addition, companies that control access to consumer and merchant payment method choices through digital wallets, mobile applications or at the point of sale could choose not to accept or could suppress use of our products or could restrict our access to our customers and transaction data. Such companies could also require payments from us to participate in such digital wallets and applications, impacting our profitability on transactions. Laws and business practices that favor local competitors, require card transactions to be routed over domestic networks or prohibit or limit foreign ownership of certain businesses could slow our growth in international regions. Further, expanding our service offerings, adding customer acquisition channels and forming new partnerships could have higher cost structures than our current arrangements, and could adversely impact our average discount rate or dilute our brand.
Many of our competitors are subject to different, and in some cases, less stringent, legislative and regulatory regimes. More restrictive laws and regulations that do not apply to all of our competitors can put us at a competitive disadvantage, including prohibiting us from engaging in certain transactions, regulating our contract terms and practices governing merchant card acceptance or adversely affecting our cost structure. See “Ongoing legal proceedings regarding provisions in our merchant contracts could have a material adverse effect on our business, result in additional litigation and/or arbitrations, subject us to substantial monetary damages and damage our reputation and brand” for a discussion of the potential impact on our ability to compete effectively if ongoing legal proceedings limit our ability to prevent merchants from engaging in various actions to discriminate against our card products.
We face substantial and increasingly intense competition for partner relationships, which could result in a loss or renegotiation of these arrangements that could have a material adverse impact on our business and results of operations.
In the ordinary course of our business we enter into different types of contractual arrangements with business partners in a variety of industries. For example, we have partnered with Delta Air Lines, as well as many others globally, to offer cobranded cards for consumers and small businesses, and through our Membership Rewards program we have partnered with businesses in many industries, including the airline industry, to offer benefits to Card Member participants. Competition for relationships with key business partners is very intense and there can be no assurance we will be able to grow or maintain these partner relationships. Establishing and retaining attractive cobrand card partnerships is particularly competitive among card issuers and networks as these partnerships typically have high-spending loyal customers. Our entire cobrand portfolio accounted for approximately 18 percent of our worldwide billed business for the year ended December 31, 2016. Card Member loans related to our cobrand portfolio accounted for approximately 34 percent of our worldwide Card Member loans as of December 31, 2016.
Cobrand arrangements are entered into for a fixed period, generally ranging from five to eight years, and will terminate in accordance with their terms, including at the end of the fixed period unless extended or renewed at the option of the parties, or upon early termination as a result of an event of default or otherwise. We face the risk that we could lose partner relationships, even after we have invested significant resources, time and expense in acquiring and developing the relationships. The volume of billed business could decline and Card Member attrition could increase, in each case, significantly as a result of the termination of one or more cobrand partnership relationships. In addition, some of our cobrand arrangements provide that, upon expiration or termination, the cobrand partner may purchase or designate a third party to purchase the loans generated with respect to its program, which could result in a significant decline in our Card Member loans outstanding. For example, our U.S. cobrand relationship with Costco ended in 2016, and we sold the outstanding Card Member loans associated with the Costco portfolio. In 2016, Starwood Hotels & Resorts Worldwide, with which we have a cobrand partnership, was acquired by Marriott International, which has a cobrand partnership with a competing card issuer.
We also face the risk that existing relationships will be renegotiated with less favorable terms for us as competition for such relationships continues to increase. We make payments to our cobrand partners, which can be significant, based primarily on the amount of Card Member spending and corresponding rewards earned on such spending and, under certain arrangements, on the number of accounts acquired and retained. The amount we pay to our cobrand partners has increased, particularly in the United States, and may continue to increase as arrangements are renegotiated due to increasingly intense competition for cobrand partners among card issuers and networks. We may also choose to not continue certain cobrand relationships.
The loss of business partners (whether by non-renewal at the end of the contract period, such as the end of our relationship with Costco in the United States in 2016, or early termination as the result of a merger or otherwise, such as the withdrawal of American Airlines in 2014 from our Airport Club Access program for Centurion® and Platinum Card® Members) or the renegotiation of existing partnerships with terms that are significantly worse for us could have a material adverse impact on our business and results of operations. In addition, any publicity associated with the loss of any of our key business partners could harm our reputation, making it more difficult to attract and retain Card Members and merchants, and could weaken our negotiating position with our remaining and prospective business partners.
We face continued intense competitive pressure that may impact the prices we charge merchants that accept our cards for payment for goods and services.
Unlike our competitors in the payments industry that rely on revolving credit balances to drive profits, our business model is focused on Card Member spending. Discount revenue, which represents fees generally charged to merchants when Card Members use their cards to purchase goods and services on our network, is primarily driven by billed business volumes and is our largest single revenue source. In recent years, we experienced some reduction in our global weighted average merchant discount rate and have been under increasing pressure, including as a result of regulatory-mandated reductions to competitors’ pricing, to reduce merchant discount rates and undertake other repricing initiatives. We also face pressure from competitors that have other sources of income or lower expense bases that can make their pricing more attractive to key business partners and merchants. Merchants are also able to negotiate incentives and pricing concessions from us as a condition to accepting our cards. As merchants consolidate and become even larger, we may have to increase the amount of incentives and/or concessions we provide to certain merchants, which could materially and adversely affect our results of operations. Competitive and regulatory pressures on pricing could make it difficult to offset the costs of these incentives. We further expect some erosion of our average merchant discount rate as we seek to increase merchant acceptance. We may not be successful in significantly expanding merchant acceptance or offsetting rate erosion with volumes at new merchants.
In addition, differentiated payment models and technologies from non-traditional players in the alternative payments space and the regulatory and litigation environment could pose challenges to our traditional payment model and adversely impact our average discount rate. Some merchants also continue to invest in their own payment solutions, such as proprietary-branded mobile wallets, using both traditional and new technology platforms. If merchants are able to drive broad consumer adoption and usage, it could adversely impact our merchant discount rate and billed business volumes.
A continuing priority of ours is to drive greater and differentiated value to our merchants which, if not successful, could negatively impact our discount revenue and financial results. If the average merchant discount rate declines more than expected, we will need to find ways to offset the financial impact by increasing billed business volumes, increasing other sources of revenue, such as fee-based revenue or interest income, or both. We may not succeed in maintaining merchant discount rates or offsetting the impact of declining merchant discount rates, particularly in the current regulatory environment, which could materially and adversely affect our revenues and profitability, and therefore our ability to invest in innovation and in value-added services for merchants and Card Members.
Surcharging or steering by merchants could materially adversely affect our business and results of operations.
In certain countries, such as Australia and certain Member States in the EU, merchants are expressly permitted by law to surcharge card purchases. The number of countries in the EU that permit surcharging and the potential for selective surcharging of American Express cards could increase following adoption of new EU-wide regulation, as discussed in “Supervision and Regulation — Payments Regulation.” In Australia, we have seen merchant surcharging on American Express cards in certain merchant categories, and in some cases, the surcharge is greater than that applied to Visa and MasterCard cards, a practice that is known as differential surcharging.
We also encounter merchants that accept our cards, but tell their customers that they prefer to accept another type of payment or otherwise seek to suppress use of our cards. Our Card Members value the ability to use their cards where and when they want to, and we, therefore, take steps to meet our Card Members’ expectations and to protect the American Express brand by prohibiting this form of discrimination, subject to local legal requirements.
If surcharging, steering or other forms of discrimination become widespread, American Express cards and credit and charge cards generally could become less desirable to consumers, which could result in a decrease in cards-in-force and transaction volumes. The impact could vary depending on such factors as the manner in which a surcharge is levied, how Card Members are steered to other card products or payment forms at the point of sale and whether and to what extent these actions are applied to other payment cards, including whether it varies depending on the type of card, network, acquirer or issuer. Discrimination against American Express cards could have a material adverse effect on our business, financial condition and results of operations, particularly to the extent it disproportionately impacts our Card Members.
If we are not able to invest successfully in, and compete at the leading edge of, technological developments across all our businesses, our revenue and profitability could be negatively affected.
Our industry is subject to rapid and significant technological changes. In order to compete in our industry, we need to continue to invest across all areas of our business, including in transaction processing, data management and analytics, customer interactions and communications, alternative payment mechanisms and risk management and compliance systems. Incorporating new technologies into our products and services may require substantial expenditures and take considerable time, and ultimately may not be successful. We expect that new technologies in the payments industry will continue to emerge, and these new technologies may be superior to, or render obsolete, the technologies we currently use in our products and services.
The process of developing new products and services, enhancing existing products and services and adapting to technological changes and evolving industry standards is complex, costly and uncertain, and any failure by us to anticipate customers’ changing needs and emerging technological trends accurately could significantly impede our ability to compete effectively. Consumer and merchant adoption is a key competitive factor and our competitors may develop products, platforms or technologies that become more widely adopted than ours. In addition, we may underestimate the time and expense we must invest in new products and services before they generate material revenues, if at all.
Our ability to develop, acquire or access competitive technologies or business processes on acceptable terms may also be limited by intellectual property rights that third parties, including competitors and potential competitors, may assert. In addition, our ability to adopt new technologies may be inhibited by a need for industry-wide standards, a changing legislative and regulatory environment, the need for internal product and engineering expertise, resistance to change from Card Members or merchants, or the complexity of our systems.
We may not be successful in our efforts to promote card usage through marketing and promotion, merchant acceptance and Card Member rewards and services, or to effectively control the costs of such investments, both of which may impact our profitability.
Revenue growth is dependent on increasing consumer and business spending on our cards and growing card lending balances. We have been spending at elevated levels on a number of growth initiatives over the past several years, including to attract new Card Members, reduce Card Member attrition and capture a greater share of customers’ total spending and borrowings. There can be no assurance that our investments to acquire Card Members and increase usage of our cards will be effective. For example, we may not be successful in developing and issuing new and enhanced cards or customers may not accept our new products and services, which would negatively impact our results of operations. Increasing spending on our cards also depends on our continued expansion of merchant acceptance of our cards. If the rate of merchant acceptance growth slows or reverses itself, our business could suffer.
Another way we invest in customer value is through our Membership Rewards program, as well as other Card Member benefits. Any significant change in, or failure by management to reasonably estimate, actual redemptions of Membership Rewards points and associated redemption costs could adversely affect our profitability. In addition, many credit card issuers have instituted rewards and cobrand programs and may introduce programs and services that are similar to or more attractive than ours.
We may not be able to cost-effectively manage and expand Card Member benefits, including containing the growth of marketing, promotion, rewards and Card Member services expenses in the future. If such expenses continue to increase beyond our expectations, we will need to find ways to offset the financial impact by increasing payments volume, increasing other areas of revenues such as fee-based revenues, or both. We may not succeed in doing so, particularly in the current regulatory environment.
Our brand and reputation are key assets of our Company, and our business may be affected by how we are perceived in the marketplace.
Our brand and its attributes are key assets of ours, and we believe our continued success depends on our ability to preserve, grow and leverage the value of our brand. Our ability to attract and retain consumer and small business Card Members and corporate clients is highly dependent upon the external perceptions of our level of service, trustworthiness, business practices, merchant acceptance, financial condition and other subjective qualities. Negative perceptions or publicity regarding these matters — even if related to seemingly isolated incidents and whether or not factually correct — could erode trust and confidence and damage our reputation among existing and potential Card Members and corporate clients, which could make it difficult for us to attract new Card Members and customers and maintain existing ones. Negative public opinion could result from actual or alleged conduct in any number of activities or circumstances, including card practices, regulatory compliance and the use and protection of customer information, and from actions taken by regulators or others in response to such conduct. Social media channels can also cause rapid, widespread reputational harm to our brand.
Our brand and reputation may also be harmed by actions taken by third parties that are outside our control. For example, any shortcoming of a third-party vendor, merchant acquirer or GNS partner may be attributed by Card Members and merchants to us, thus damaging our reputation and brand value. The lack of acceptance or suppression of card usage by merchants can also negatively impact perceptions of our brand and our products, lower overall transaction volume and increase the attractiveness of other payment products or systems. Adverse developments with respect to our industry may also, by association, negatively impact our reputation, or result in greater regulatory or legislative scrutiny or litigation against us. Furthermore, as a corporation with headquarters and operations located in the United States, a negative perception of the United States arising from its political or other positions could harm the perception of our company and our brand. Although we monitor developments for areas of potential risk to our reputation and brand, negative perceptions or publicity could materially and adversely affect our revenues and profitability.
A significant operating disruption, a major information security incident or an increase in fraudulent activity using our cards could lead to reputational damage to our brand and significant legal, regulatory and financial exposure, and could reduce the use and acceptance of our charge and credit cards.
We and other third parties process, transmit and store account information in connection with our charge and credit cards and prepaid products, and in the normal course of our business, we collect, analyze and retain significant volumes of certain types of personally identifiable and other information pertaining to our customers and employees.
Global financial institutions like us have experienced a significant increase in information security risk in recent years and will likely continue to be the target of increasingly sophisticated cyberattacks, including computer viruses, malicious or destructive code, social engineering attacks (including phishing and impersonation), denial of service and security attacks. For example, we and other U.S. financial services providers have been the targets of distributed denial-of-service attacks from sophisticated third parties.
Our networks and systems are subject to constant attempts to identify and exploit potential vulnerabilities in our operating environment with intent to disrupt our business operations and capture, destroy or manipulate various types of information relating to corporate trade secrets, customer information, including Card Member and loyalty program account information, employee information and other sensitive business information, including acquisition activity, financial results and intellectual property. There are a number of motivations for cyber threat actors, including criminal activities such as fraud, identity theft and ransom, corporate or nation-state espionage, political agendas, public embarrassment with the intent to cause financial or reputational harm, intent to disrupt information technology systems, and to expose and exploit potential security and privacy vulnerabilities in corporate systems and websites.
As outsourcing, specialization of functions and technology innovation within the payments industry increase, more third parties are involved in processing transactions using our cards and there is a risk the confidentiality, integrity, privacy and/or security of data held by third parties or to which they have access, including merchants that accept our cards and our business partners, may be compromised, which could lead to unauthorized transactions on our cards and costs associated with responding to such an incident.
We develop and maintain systems and processes aimed at detecting and preventing information security incidents and fraudulent activity, which require significant investment, maintenance and ongoing monitoring and updating as technologies and regulatory requirements change and as efforts to overcome security measures become more sophisticated. Despite our efforts, the possibility of information security incidents, malicious social engineering, fraudulent or other malicious activities and human error or malfeasance cannot be eliminated entirely. Risks associated with each of these remain, including the unauthorized disclosure, release, gathering, monitoring, misuse, modification, loss or destruction of confidential, proprietary and other information (including account data information) or negative impact to online accounts and systems. These risks will likely evolve as new technology is deployed. For example, with the increased use of EMV technology, we may see a decrease in traditional fraud risk, but sophisticated fraudsters may develop new ways to commit fraud and we may see an increase in online fraud and impersonation and identity takeover attempts.
Our information technology systems, including our transaction authorization, clearing and settlement systems, and data centers may experience service disruptions or degradation because of technology malfunction, sudden increases in customer transaction volume, natural disasters, accidents, power outages, internet outages, telecommunications failures, fraud, denial-of-service and other cyberattacks, terrorism, computer viruses, physical or electronic break-ins, or similar events. Service disruptions could prevent access to our online services and account information, compromise Company or customer data, and impede transaction processing and financial reporting. Inadequate infrastructure in lesser-developed countries could also result in service disruptions, which could impact our ability to do business in those countries.
If our information technology systems experience a significant disruption or breach, or if actual or perceived fraud levels or other illegal activities involving our cards or customer online accounts were to rise due to an information security incident at a business partner, merchant or other market participant, employee error, malfeasance or otherwise, it could lead to the loss of data or data integrity, regulatory investigations and intervention (such as mandatory card reissuance), increased litigation (including class action litigation), remediation and response costs, greater concerns of customers and/or business partners relating to the privacy and security of their data, and reputational and financial damage to our brand, which could reduce the use and acceptance of our cards, and have a material adverse impact on our business.
If such disruptions or breaches are not detected quickly, their effect could be compounded. Information security incidents and other actual or perceived failures to maintain confidentiality, integrity, privacy and/or data protection, including leaked business data, may also disrupt our operations, undermine our competitive advantage through the disclosure of sensitive company information, divert management attention and resources, and negatively impact the assessment of us and our subsidiaries by banking regulators and rating agencies.
Successful cyberattacks or data breaches at other large financial institutions, large retailers or other market participants, whether or not we are impacted, could lead to a general loss of customer confidence that could negatively affect us, including harming the market perception of the effectiveness of our security measures or harming the reputation of the financial system in general, which could result in reduced use of our products and services. Although we have insurance for losses related to cyber risks and attacks and information security and privacy liability, it may not be sufficient to offset the impact of a material loss event.
We have agreements with business partners in a variety of industries, including the airline industry, that represent a significant portion of our business. We are exposed to risks associated with these industries, including bankruptcies, liquidations, restructurings, consolidations and alliances of our partners, and the possible obligation to make payments to our partners.
We may be obligated to make or accelerate payments to certain business partners such as cobrand partners and merchants upon the occurrence of certain triggering events such as: (i) our economic condition deteriorating such that our senior unsecured debt rating is downgraded significantly below investment grade by S&P and Moody’s, (ii) our ceasing to have a public debt rating, or (iii) a shortfall in certain performance levels. If we are not able to effectively manage these triggering events, we could unexpectedly have to make payments to these partners, which could have a negative effect on our financial condition and results of operations.
We are also exposed to risk from bankruptcies, liquidations, insolvencies, financial distress, restructurings, consolidations and other similar events that may occur in any industry representing a significant portion of our billed business, which could negatively impact particular card products and services (and billed business generally) and our financial condition and results of operations. For example, we could be materially impacted if we were obligated to or elected to reimburse Card Members for products and services purchased from merchants that have ceased operations or stopped accepting our cards.
The airline industry, which represents a significant portion of our billed business, has undergone bankruptcies, restructurings, consolidations and other similar events in the past. The airline industry accounted for approximately 8 percent of our worldwide billed business for the year ended December 31, 2016. Our largest airline cobrand portfolio, American Express’ Delta SkyMiles, accounted for approximately 7 percent of our worldwide billed business for the year ended December 31, 2016 and approximately 20 percent of worldwide Card Member loans as of December 31, 2016. We have credit risk to the airline industry to the extent we protect Card Members against non-delivery of goods and services, such as where we have remitted payment to an airline for a Card Member purchase of tickets that have not yet been used or “flown.” If we are unable to collect the amount from the airline, we may bear the loss for the amount credited to the Card Member.
For additional information relating to the general risks related to the airline industry, see “Risk Management — Institutional Credit Risk — Exposure to the Airline Industry” under “MD&A.”
We may not be successful in realizing the benefits associated with our acquisitions, strategic alliances, joint ventures and investment activity, and our business and reputation could be negatively impacted.
We have acquired a number of businesses and have made a number of strategic investments, and continue to evaluate potential transactions. These transactions could be material to our financial condition and results of operations. There is no assurance that we will be able to successfully identify and secure future acquisition candidates on terms and conditions that are acceptable to us, or complete proposed acquisitions and investments, which could impair our growth. Our failure to successfully integrate acquired companies, businesses or technologies into our existing operations could cause us to fail to realize the anticipated benefits of the acquisition or investment, incur unanticipated liabilities and harm our business generally.
Joint ventures, including our GBT JV, and minority investments inherently involve a lesser degree of control over business operations, thereby potentially increasing the financial, legal, operational and/or compliance risks associated with the joint venture or minority investment. In addition, we may be dependent on joint venture partners, controlling shareholders or management who may have business interests, strategies or goals that are inconsistent with ours. Business decisions or other actions or omissions of the joint venture partner, controlling shareholders or management may adversely affect the value of our investment, result in litigation or regulatory action against us and otherwise damage our reputation and brand.
We rely on third-party providers of various computer systems, platforms and other services integral to the operations of our businesses. These third parties may act in ways that could harm our business.
We rely on third-party service providers, merchants, processors, aggregators, GNS partners and other third parties for services that are integral to our operations, including the timely transmission of accurate information across our global network. If a service provider or other third party fails to provide the data quality, communications capacity or services we require, as a result of natural disaster, operational disruptions, terrorism, hacking or other cybersecurity incidents, or any other reason, the failure could interrupt or compromise the quality of our services to customers.
We are subject to the risk that activities of our third-party service providers may adversely affect our business. A failure to exercise adequate oversight over third-party service providers, including compliance with service level agreements or regulatory or legal requirements, could result in regulatory actions, fines, sanctions or economic and reputational harm to us. There is also a risk the confidentiality, integrity, privacy and/or security of data held by third parties or communicated over third-party networks or platforms could become compromised, which could significantly harm our business even if the attack or breach does not impact our systems. In addition, the management of multiple third-party vendors increases our operational complexity and decreases our control.
Our business is subject to the effects of geopolitical events, weather, natural disasters and other conditions.
Geopolitical events, terrorist attacks, natural disasters, severe weather conditions, floods, health pandemics, intrusion into or degradation of our infrastructure by hackers and other catastrophic events can have a negative effect on our business. Because of our proximity to the World Trade Center, our headquarters were damaged as a result of the terrorist attacks of September 11, 2001. Similar events or other disasters or catastrophic events in the future, and events impacting other sectors of the economy, including the telecommunications and energy sectors, could have a negative effect on our businesses and infrastructure, including our information technology systems.
Because we derive a portion of our revenues from travel-related spending, our business is sensitive to safety concerns related to travel and tourism, limitations on travel and mobility, and health-related risks. In addition, disruptions in air travel and other forms of travel can result in the payment of claims under travel interruption insurance policies that we offer and, if such disruptions to travel are prolonged, they can materially adversely affect overall travel-related spending.
If the conditions described above (or similar ones) result in widespread or lengthy disruptions to travel, they could have a material adverse effect on our results of operations. Card Member spending may also be negatively impacted in areas affected by natural disasters or other catastrophic events. The impact of such events on the overall economy may also adversely affect our financial condition or results of operations.
The exit of the United Kingdom from the European Union could adversely impact our business, results of operations and financial condition.
Our business in the United Kingdom and elsewhere may be negatively impacted by the uncertainty regarding the exit of the United Kingdom from the European Union (commonly referred to as Brexit), including from a deterioration of consumer and business activity in the United Kingdom and other countries and general uncertainty in the overall business environment in which we operate. We may experience increased volatility in the value of the pound sterling and the euro, further strengthening the U.S. dollar, which could continue to adversely impact our results of operations from our international activities. The exit itself could also have a negative impact on the United Kingdom and other European economies, which could adversely affect spending on our cards and the ability and willingness of Card Members to pay amounts owed to us. As of December 31, 2016, the EMEA region constituted approximately 10 percent of our worldwide billed business. It is unclear at this stage the financial, trade and legal implications of Brexit. For example, we may no longer be able to provide payment services from the United Kingdom to EU Member States, which may require changes to the structure of our business operations in Europe.
Our success is dependent, in part, upon our executive officers and other key personnel, and the loss of key personnel could materially adversely affect our business.
Our success depends, in part, on our executive officers and other key personnel. Our senior management team has significant industry experience and would be difficult to replace. The market for qualified individuals is highly competitive, and we may not be able to attract and retain qualified personnel or candidates to replace or succeed members of our senior management team or other key personnel. Changes in immigration and work permit laws and regulations or the administration or enforcement of such laws or regulations can also impair our ability to attract and retain qualified personnel. As further described in “Supervision and Regulation — Compensation Practices,” our compensation practices are subject to review and oversight by the Federal Reserve and the compensation practices of our U.S. bank subsidiaries are subject to review and oversight by the FDIC and the OCC. This regulatory review and oversight could further affect our ability to attract and retain our executive officers and other key personnel. The loss of key personnel could materially adversely affect our business.
Legal, Regulatory and Compliance Risks
Ongoing legal proceedings regarding provisions in our merchant contracts could have a material adverse effect on our business, result in additional litigation and/or arbitrations, subject us to substantial monetary damages and damage our reputation and brand.
The U.S. Department of Justice (DOJ) and certain states’ attorneys general brought an action against us alleging that the provisions in our card acceptance agreements with merchants that prohibit merchants from discriminating against our card products at the point of sale violate the U.S. antitrust laws. Visa and MasterCard, which were also defendants in the DOJ and state action, entered into a settlement agreement and have been dismissed as parties pursuant to that agreement, which was approved by the court. The settlement enjoins Visa and MasterCard from entering into contracts that prohibit merchants from engaging in various actions to steer cardholders to other card products or payment forms at the point of sale. Following a non-jury trial in the DOJ case, the trial court found that the challenged provisions were anticompetitive and on April 30, 2015, the court issued a final judgment entering a permanent injunction. Following our appeal of this judgment, on September 26, 2016, the Court of Appeals for the Second Circuit reversed the trial court decision and directed the trial court to enter a judgment for American Express, which occurred on January 25, 2017. The DOJ and states may seek further review of this ruling. We are also a defendant in a number of actions and arbitration proceedings, including proposed class actions, filed by merchants that challenge the non-discrimination and honor-all-cards provisions in our card acceptance agreements and seek damages. A description of these legal proceedings is contained in “Legal Proceedings.”
An adverse outcome in these proceedings against us could have a material adverse effect on our business and results of operations, require us to change our merchant agreements in a way that could expose our cards to increased merchant steering and other forms of discrimination that could impair the Card Member experience, result in additional litigation and/or arbitrations, impose substantial monetary damages and damage our reputation and brand. Even if we were not required to change our merchant agreements, changes in Visa’s and MasterCard’s policies or practices as a result of legal proceedings, lawsuit settlements or regulatory actions could result in changes to our business practices and materially and adversely impact our profitability.
Our business is subject to comprehensive government regulation and supervision, which could adversely affect our results of operations and financial condition.
We are subject to comprehensive government regulation and supervision in jurisdictions around the world, which significantly affects our business, and has the potential to restrict the scope of our existing businesses, increase our costs of doing business, limit our ability to pursue certain business opportunities or make our products and services more expensive for customers. Regulatory oversight and supervision of our businesses are generally designed to protect consumers and enhance financial stability and are not designed to protect our security holders.
The current environment of additional regulation, enhanced supervision efforts and increased and unpredictable regulatory investigations and enforcement is likely to continue to result in changes to our business practices, products and procedures, and potentially additional penalties and/or restitution payments to Card Members. In addition, new laws or regulations, or changes in the enforcement of existing laws or regulations applicable to our businesses, could impact the profitability of our business activities, limit our ability to pursue business opportunities or adopt new technologies, require us to change certain of our business practices or alter our relationships with partners, merchants and Card Members, or affect retention of our key personnel. Such changes also may require us to invest significant management attention and resources to make any necessary changes and could adversely affect our results of operations and financial condition. To the extent that different regulatory systems impose overlapping or inconsistent requirements on the conduct of our business, we face complexity and additional costs in our compliance efforts.
If we fail to satisfy regulatory requirements or maintain our financial holding company status, our financial condition and results of operations could be adversely affected, and we may be restricted in our ability to take certain capital actions (such as declaring dividends or repurchasing outstanding shares) or engage in certain activities or acquisitions. Additionally, our banking regulators have wide discretion in the examination and the enforcement of applicable banking statutes and regulations and may restrict our ability to engage in certain activities or acquisitions or require us to maintain more capital.
In recent years, legislators and regulators have focused on the operation of card networks, including interchange fees paid to card issuers in payment networks such as Visa and MasterCard and the fees merchants are charged to accept cards. Even where we are not directly regulated, regulation of bankcard fees can significantly negatively impact the discount revenue derived from our business, including as a result of downward pressure on our discount rate from decreases in competitor pricing in connection with caps on interchange fees. In some cases, such regulation extends to certain aspects of our business, for example, GNS arrangements or terms of card acceptance for merchants, including terms relating to non-discrimination and honor-all-cards. We have brought a legal challenge and seek a ruling from the EU Court of Justice to clarify the interpretation and validity of the application of price caps as well as other regulatory measures in circumstances where three-party networks issue cards with a cobrand partner or through an agent. There can be no assurance that our legal challenge will be successful. For a description of certain regulations and their impact on us, see “Supervision and Regulation — Payments Regulation.” Legislators and regulators around the world are aware of each other’s approaches to the regulation of the payments industry. Consequently, a development in one country, state or region may influence regulatory approaches in another.
We are subject to certain provisions of the Bank Secrecy Act, as amended by the Patriot Act, with regard to maintaining effective AML programs. Similar AML requirements apply under the laws of most jurisdictions where we operate. Increased regulatory focus in this area could result in additional obligations or restrictions with respect to the types of products and services we may offer to consumers, the countries in which our cards may be used, and the types of customers and merchants who can obtain or accept our cards. Activity such as money laundering or terrorist financing involving our cards could result in enforcement action, and our reputation may suffer due to our customers’ association with certain countries, persons or entities or the existence of any such transactions.
Various regulatory agencies and legislatures are also considering regulations and legislation covering identity theft, account management guidelines, credit bureau reporting, disclosure rules, security and marketing that would impact us directly, in part due to increased scrutiny of our underwriting and account management standards. These new requirements may restrict our ability to issue charge and credit cards or partner with other financial institutions, which could adversely affect our revenue growth.
See “Supervision and Regulation” for more information about certain laws and regulations to which we are subject.
Litigation and regulatory actions could subject us to significant fines, penalties, judgments and/or requirements resulting in significantly increased expenses, damage to our reputation and/or a material adverse effect on our business.
Businesses in the financial services and payments industries have historically been subject to significant legal actions, including class action lawsuits. Many of these actions have included claims for substantial compensatory or punitive damages. While we have historically relied on our arbitration clause in agreements with customers to limit our exposure to class action litigation, there can be no assurance that we will continue to be successful in enforcing our arbitration clause in the future. The CFPB issued a proposed rule that, if enacted, would, among other changes, require that our consumer arbitration clause not apply to cases filed in court as class actions, unless and until class certification is denied or the class claims are dismissed. As a result, claims of the type we previously arbitrated could be subject to the complexities and costs associated with class action cases. The continued focus of merchants on issues relating to the acceptance of various forms of payment may lead to additional litigation and other legal actions. Given the inherent uncertainties involved in litigation, and the very large or indeterminate damages sought in some matters asserted against us, there is significant uncertainty as to the ultimate liability we may incur from litigation matters.
We have been subject to regulatory actions by the CFPB and other regulators and may continue to be subject to such actions, including governmental inquiries, investigations and enforcement proceedings, in the event of noncompliance or alleged noncompliance with laws or regulations. Regulatory action could subject us to significant fines, penalties or other requirements resulting in increased expenses, limitations or conditions on our business activities, and damage to our reputation and our brand, which could adversely affect our results of operations and financial condition. We expect that regulators will continue taking formal enforcement actions against financial institutions in addition to addressing supervisory concerns through non-public supervisory actions or findings, which could involve restrictions on our activities, among other limitations that could adversely affect our business.
We are subject to capital adequacy and liquidity rules, and if we fail to meet these rules, our business would be adversely affected.
Failure to meet current or future capital or liquidity requirements, including those imposed by the Capital Rules, the LCR, the NSFR or by regulators in implementing other portions of the Basel III framework and the enhanced supervision requirements of Dodd-Frank, could compromise our competitive position and could result in restrictions imposed by the Federal Reserve, including limiting our ability to pay dividends, repurchase our capital stock, invest in our business, expand our business or engage in acquisitions.
There continues to be substantial uncertainty regarding significant portions of the capital and liquidity regime that will apply to us and our U.S. bank subsidiaries. As a result, the ultimate impact on our long-term capital and liquidity planning and our results of operations is not certain, although an increase in our capital and liquid asset levels could lower our return on equity.
The capital requirements applicable to the Company as a bank holding company and our U.S. bank subsidiaries have been substantially revised to implement the international Basel III framework and are in the process of being phased in. These requirements, particularly once they are fully phased in, require the Company and our U.S. bank subsidiaries to satisfy more stringent capital adequacy standards than in the past. As part of our required stress testing, both internally and by the Federal Reserve, we must continue to comply with applicable capital standards in the adverse and severely adverse economic scenarios published by the Federal Reserve each year. To satisfy these requirements, it may be necessary for us to hold additional capital in excess of that required by the Capital Rules as they are phased in.
Compliance with capital adequacy and liquidity rules, including the Capital Rules and the LCR, requires a material investment of resources. An inability to meet regulatory expectations regarding our compliance with applicable capital adequacy and liquidity rules may also negatively impact the assessment of the Company and our U.S. bank subsidiaries by federal banking regulators.
We continue to progress through the parallel run phase of Basel III advanced approaches implementation. Depending on how the advanced approaches are ultimately implemented for our asset types, our capital ratios calculated under the advanced approaches may be lower than under the standardized approach. In such a case, we may need to hold significantly more regulatory capital in order to maintain a given capital ratio.
There are several recent proposals or potential proposals that could significantly impact the regulatory capital standards and requirements applicable to financial institutions such as the Company and our U.S. bank subsidiaries, as well as our ability to meet these requirements. The Basel Committee has adopted a framework that would impose a capital buffer on certain banks that may have an important impact on their domestic economies (so-called “domestic systemically important banks,” or “D-SIBs”). The U.S. banking regulators have not designated any D-SIBs in the United States. Additionally, the Basel Committee has proposed a series of revisions to the standardized approach for credit and operational risk capital requirements. If these or other proposals are adopted in the United States and applied to advanced approaches institutions or if we are designated as a D-SIB, we could be required to hold significantly more capital.
For more information on capital adequacy requirements, see “Capital, Leverage and Liquidity Regulation” under “Supervision and Regulation.”
We are subject to restrictions that limit our ability to pay dividends and repurchase our capital stock. Our subsidiaries are also subject to restrictions that limit their ability to pay dividends to us, which may adversely affect our liquidity.
We are limited in our ability to pay dividends and repurchase capital stock by our regulators, who have broad authority to prohibit any action that would be considered an unsafe or unsound banking practice. For example, we are subject to a requirement to submit capital plans that include, among other things, projected dividend payments and repurchases of capital stock to the Federal Reserve for review. As part of the capital planning and stress testing process, our proposed capital actions are assessed against our ability to satisfy applicable capital requirements in the event of a stressed market environment. If the Federal Reserve objects to our capital plan or if we fail to satisfy applicable capital requirements, our ability to undertake capital actions may be restricted.
In addition, the Capital Rules include a capital conservation buffer which is being phased in from January 1, 2016 through January 1, 2019. The Capital Rules also include a countercyclical capital buffer, which is currently set at zero but which could be increased by the Federal Reserve in the future. These buffers can be satisfied only with CET1 capital. If our risk-based capital ratios were to fall below the applicable buffer levels, we would face graduated constraints on dividends, stock repurchases and other capital distributions based on the amount of the shortfall.
A failure to increase dividends along with our competitors, or any reduction of, or elimination of, our common stock dividend or share repurchase program would likely adversely affect the market price of our common stock and market perceptions of American Express.
Our ability to declare or pay dividends on, or to purchase, redeem or otherwise acquire, shares of our common stock will be prohibited, subject to certain exceptions, in the event that we do not declare and pay in full dividends for the last preceding dividend period of our Series B and Series C preferred stock.
American Express Company relies on dividends from its subsidiaries for liquidity, and federal and state laws limit the amount of dividends that our subsidiaries may pay to the parent company. In particular, our U.S. bank subsidiaries are subject to various statutory and regulatory limitations on their declaration and payment of dividends. These limitations may hinder our ability to access funds we may need to make payments on our obligations, make dividend payments on outstanding American Express Company capital stock or otherwise achieve strategic objectives.
For more information on bank holding company and depository institution dividend restrictions, see “Dividends and Other Capital Distributions” under “Supervision and Regulation,” as well as “Consolidated Capital Resources and Liquidity — Share Repurchases and Dividends” under “MD&A” and Note 23 to our “Consolidated Financial Statements.”
Regulation in the areas of privacy, data protection and information security could increase our costs and affect or limit our business opportunities and how we collect and/or use personal information.
As privacy, data protection and information security laws, including data localization laws, are interpreted and applied, compliance costs may increase, particularly in the context of ensuring that adequate data protection and data transfer mechanisms are in place. In recent years, there has been increasing regulatory enforcement and litigation activity in the areas of privacy, data protection and information security in the United States and in various countries in which we operate.
In addition, state and federal legislators and/or regulators in the United States and other countries in which we operate are increasingly adopting or revising privacy, data protection and information security laws that potentially could have significant impact on our current and planned privacy, data protection and information security-related practices, our collection, use, sharing, retention and safeguarding of consumer and/or employee information, and some of our current or planned business activities. New legislation or regulation could increase our costs of compliance and business operations and could reduce revenues from certain business initiatives. Moreover, the application of existing or new laws to existing technology and practices can be uncertain and may lead to additional compliance risk and cost.
Compliance with current or future privacy, data protection and information security laws relating to consumer and/or employee data could result in higher compliance and technology costs and could restrict our ability to fully maximize our closed-loop capability or provide certain products and services, which could materially and adversely affect our profitability. Our failure to comply with privacy, data protection and information security laws could result in potentially significant regulatory and/or governmental investigations and/or actions, litigation, fines, sanctions, ongoing regulatory monitoring, customer attrition, decreases in the use or acceptance of our cards and damage to our reputation and our brand.
We may not be able to effectively manage the operational and compliance risks to which we are exposed.
We consider operational risk to be the risk of not achieving business objectives due to inadequate or failed processes or information systems, poor data quality, human error or the external environment (e.g., natural disasters). Operational risk includes, among others, the risk that employee error or intentional misconduct could result in a material financial misstatement, a failure to monitor a third party’s compliance with a service level agreement or regulatory or legal requirements, or a failure to adequately monitor and control access to data in our systems we grant to third-party service providers. As processes are changed, or new products and services are introduced, we may not fully appreciate or identify new operational risks that may arise from such changes. Compliance risk arises from the failure to adhere to applicable laws, rules, regulations and internal policies and procedures. Operational and compliance risks can expose us to reputational risks as well as fines, civil money penalties or payment of damages and can lead to diminished business opportunities and diminished ability to expand key operations.
If we are not able to protect our intellectual property, our revenue and profitability could be negatively affected.
We rely on a variety of measures to protect our intellectual property and proprietary information, including copyrights, trademarks, patents and controls on access and distribution. These measures may not prevent misappropriation of our proprietary information or infringement of our intellectual property rights and a resulting loss of competitive advantage. In addition, competitors or other third parties may allege that our systems, processes or technologies infringe on their intellectual property rights. Given the complex, rapidly changing and competitive technological and business environments in which we operate, and the potential risks and uncertainties of intellectual property-related litigation, a future assertion of an infringement claim against us could cause us to lose significant revenues, incur significant license, royalty or technology development expenses, or pay significant monetary damages.
Tax legislative initiatives or assessments by governmental authorities could adversely affect our results of operations and financial condition.
We are subject to income and other taxes in the United States and in various foreign jurisdictions. The laws and regulations related to tax matters are extremely complex and subject to varying interpretations. Although management believes our positions are reasonable, we are subject to audit by the Internal Revenue Service in the United States and by tax authorities in all the jurisdictions in which we conduct business operations. We are being challenged in a number of countries regarding our application of value-added taxes (VAT) to certain transactions. While we believe we comply with all applicable VAT and other tax laws, rules and regulations in the relevant jurisdictions, the tax authorities may determine that we owe additional taxes or apply existing laws and regulations more broadly, which could result in a significant increase in liabilities for taxes and interest in excess of accrued liabilities.
New tax legislative initiatives may be proposed from time to time, such as proposals for comprehensive tax reform in the United States, which may impact our effective tax rate and could adversely affect our tax positions or tax liabilities. In addition, unilateral or multi-jurisdictional actions by various tax authorities, including an increase in tax audit activity, to address “base erosion and profit shifting” by multinational companies could also have an adverse impact on our tax liabilities.
Changes in accounting principles or standards could adversely affect our reported financial results in a particular period, even if there are no underlying changes in the economics of the business.
We are subject to changes in and interpretations of financial accounting matters that govern the measurement of our performance, which could change the way we account for certain of our transactions even if we do not change the way in which we transact. A change in accounting guidance can have a significant effect on our reported results, may retroactively affect previously reported results and could cause fluctuations in our reported results. For more information on recently issued accounting standards, see Note 1 to our “Consolidated Financial Statements.”
Credit, Liquidity and Market Risks
Our risk management policies and procedures may not be effective.
Our risk management framework seeks to identify and mitigate risk and appropriately balance risk and return. We have established policies and procedures intended to identify, monitor and manage the types of risk to which we are subject, including credit risk, market risk, asset liability risk, liquidity risk, operational risk, compliance risk, model risk, strategic and business risk and reputational risk. See “Risk Management” under “MD&A” for a discussion of the policies and procedures we use to identify, monitor and manage the risks we assume in conducting our businesses. Although we have devoted significant resources to develop our risk management policies and procedures and expect to continue to do so in the future, these policies and procedures, as well as our risk management techniques, such as our hedging strategies, may not be fully effective. There may also be risks that exist, or develop in the future, that we have not appropriately anticipated, identified or mitigated. As regulations and markets in which we operate continue to evolve, our risk management framework may not always keep sufficient pace with those changes. If our risk management framework does not effectively identify or mitigate our risks, we could suffer unexpected losses and could be materially adversely affected.
Management of our risks in some cases depends upon the use of analytical and/or forecasting models. Although we have a governance framework for model development and independent model validation, the modeling methodology could be erroneous or the models could be misused. If our decisions are based on incorrect or misused model outputs and reports, we may face adverse consequences, such as financial loss, poor business and strategic decision-making, or damage to our reputation. In addition, some decisions our regulators make, including those related to our capital distribution plans, may be adversely impacted if they perceive the quality of our models to be insufficient.
We may not be able to effectively manage individual or institutional credit risk, or credit trends that can affect spending on card products and the ability of customers and partners to pay us, which could have a material adverse effect on our results of operations and financial condition.
We are exposed to both individual credit risk, principally from consumer and small business Card Member receivables and loans, and institutional credit risk from merchants, GNS partners, GCS clients, loyalty coalition partners and treasury and investment counterparties. Third parties may default on their obligations to us due to bankruptcy, lack of liquidity, operational failure or other reasons. Country, regional and political risks can contribute to credit risk. Our ability to assess creditworthiness may be impaired if the criteria or models we use to manage our credit risk become less predictive of future losses, which could cause our losses to rise and have a negative impact on our results of operations. Rising delinquencies and rising rates of bankruptcy are often precursors of future write-offs and may require us to increase our reserve for loan losses. We expect that some modest, gradual upward pressure on our write-off rates will cause provisions to grow faster than loans in 2017. Higher write-off rates and the resulting increase in our reserve for loan losses adversely affect our profitability and the performance of our securitizations, and may increase our cost of funds.
Although we make estimates to provide for credit losses in our outstanding portfolio of loans and receivables, these estimates may not be accurate. In addition, the information we use in managing our credit risk may be inaccurate or incomplete. Although we regularly review our credit exposure to specific clients and counterparties and to specific industries, countries and regions that we believe may present credit concerns, default risk may arise from events or circumstances that are difficult to foresee or detect, such as fraud. In addition, our ability to manage credit risk may be adversely affected by legal or regulatory changes (such as bankruptcy laws and minimum payment regulations). Increased credit risk, whether resulting from underestimating the credit losses inherent in our portfolio of loans and receivables, deteriorating economic conditions (particularly in the United States where approximately 75 percent of our revenues are generated), changes in our mix of business or otherwise, could require us to increase our provisions for losses and could have a material adverse effect on our results of operations and financial condition.
Adverse financial market conditions may significantly affect our ability to meet liquidity needs, access to capital and cost of capital.
We need liquidity to pay merchants, operating and other expenses, interest on debt and dividends on capital stock and to repay maturing liabilities. The principal sources of our liquidity are payments from Card Members, cash flows from our investment portfolio, cash and cash equivalents, proceeds from the issuance of unsecured medium- and long-term notes and asset securitizations and direct and third-party sourced deposits, securitized borrowings through our secured financing facilities, a committed bank borrowing facility and the Federal Reserve discount window.
Our ability to obtain financing in the debt capital markets for unsecured term debt and asset securitizations is dependent on market conditions. Disruptions, uncertainty or volatility across the financial markets, as well as adverse developments affecting our competitors and the financial industry generally, could negatively impact market liquidity and limit our access to funding required to operate our business. Such market conditions may also limit our ability to replace, in a timely manner, maturing liabilities, satisfy regulatory capital requirements and access the funding necessary to grow our business. In some circumstances, we may incur an unattractive cost to raise capital, which could decrease profitability and significantly reduce financial flexibility.
For a further discussion of our liquidity and funding needs, see “Consolidated Capital Resources and Liquidity — Funding Programs and Activities” under “MD&A.”
Any reduction in our and our subsidiaries’ credit ratings could increase the cost of our funding from, and restrict our access to, the capital markets and have a material adverse effect on our results of operations and financial condition.
Rating agencies regularly evaluate us and our subsidiaries, and their ratings of our and our subsidiaries’ long-term and short-term debt are based on a number of factors, including financial strength as well as factors not within our control, including conditions affecting the financial services industry generally, and the wider state of the economy. Our and our subsidiaries’ ratings could be downgraded at any time and without any notice by any of the rating agencies, which could, among other things, adversely limit our access to the capital markets and adversely affect the cost and other terms upon which we and our subsidiaries are able to obtain funding.
Adverse currency fluctuations and foreign exchange controls could decrease earnings we receive from our international operations and impact our capital.
During 2016, approximately 25 percent of our total revenues net of interest expense were generated from activities outside the United States. We are exposed to foreign exchange risk from our international operations, and accordingly the revenue we generate outside the United States is subject to unpredictable fluctuations if the values of other currencies change relative to the U.S. dollar, which could have a material adverse effect on our results of operations. For the year ended December 31, 2016, foreign currency movements relative to the U.S. dollar negatively impacted our net revenues of $32.1 billion by approximately $0.4 billion as the U.S. dollar strengthened against many currencies.
Foreign exchange regulations or capital controls might restrict or prohibit the conversion of other currencies into U.S. dollars or our ability to transfer them. Political and economic conditions in other countries could also impact the availability of foreign exchange for the payment by the local card issuer of obligations arising out of local Card Members’ spending outside such country and for the payment of card bills by Card Members who are billed in a currency other than their local currency. Substantial and sudden devaluation of local Card Members’ currency can also affect their ability to make payments to the local issuer of the card in connection with spending outside the local country. The occurrence of any of these circumstances could further impact our results of operations.
Continuing concerns regarding the overall stability of the euro and the suitability of the euro as a single currency given the diverse economic and political circumstances in individual Eurozone countries may cause the value of the euro to fluctuate more widely than in the past and could lead to the reintroduction of individual currencies in one or more Eurozone countries, or, in more extreme circumstances, the possible dissolution of the euro currency entirely. If there is a significant devaluation of the euro and we are unable to hedge our foreign exchange exposure to the euro, the value of our euro-denominated assets and liabilities would be correspondingly reduced when translated into U.S. dollars for inclusion in our financial statements. Similarly, the reintroduction of certain individual country currencies or the complete dissolution of the euro could adversely affect the value of our euro-denominated assets and liabilities. The reintroduction of individual country currencies would require us to reconfigure our billing and other systems to reflect individual country currencies in place of the euro. Implementing such changes could be costly and failures in the currency reconfiguration could cause disruptions in our normal business operations. In addition, foreign currency derivative instruments to hedge our market exposure to re-introduced currencies may not be immediately available or may not be available on terms that are acceptable to us.
The potential developments regarding Europe and the euro, or market perceptions concerning these and related issues, could continue to have an adverse impact on consumer and business behavior in Europe and globally, which could have a material adverse effect on our business, financial condition and results of operations.
Interest rate increases could materially adversely affect our earnings.
If the rate of interest we pay on our borrowings increases more than the rate of interest we earn on our loans, our net interest yield, and consequently our net income, could fall. Our interest expense was approximately $1.7 billion for the year ended December 31, 2016. A hypothetical 100 basis point increase in market interest rates would have resulted in a decrease to our annual net interest income of approximately $193 million as of December 31, 2016. In addition, interest rate changes may affect customer behavior, such as impacting the loan balances Card Members carry on their credit cards or their ability to make payments as higher interest rates lead to higher payment requirements, further impacting our results of operations.
For a further discussion of our interest rate risk, see “Risk Management — Market Risk Management Process” under “MD&A.”
The value of our assets or liabilities may be adversely impacted by economic, political or market conditions.
Market risk includes the loss in value of portfolios and financial instruments due to adverse changes in market variables, which could negatively impact our financial condition. We held approximately $3.2 billion of investment securities as of December 31, 2016. In the event that actual default rates of these investment securities were to significantly change from historical patterns due to challenges in the economy or otherwise, it could have a material adverse impact on the value of our investment portfolio. Defaults or economic disruptions, even in countries or territories in which we do not have material investment exposure, conduct business or have operations, could adversely affect us.
An inability to accept or maintain deposits due to market demand or regulatory constraints could materially adversely affect our liquidity position and our ability to fund our business.
Our U.S. bank subsidiaries accept deposits from individuals through third-party brokerage networks as well as directly from consumers through American Express Personal Savings, and use the proceeds as a source of funding. As of December 31, 2016, we had approximately $52.3 billion in total U.S. retail deposits, of which a significant amount had been raised through third-party brokerage networks. We face strong competition with regard to deposits, and pricing and product changes may adversely affect our ability to attract and retain cost-effective deposit balances. If we are required to offer higher interest rates to attract or maintain deposits, our funding costs will be adversely impacted.
Our ability to obtain deposit funding and offer competitive interest rates on deposits is also dependent on capital levels of our U.S. bank subsidiaries. The FDIA’s brokered deposit provisions and related FDIC rules in certain circumstances prohibit banks from accepting or renewing brokered deposits and apply other restrictions, such as a cap on interest rates that can be paid. See “Prompt Corrective Action” under “Supervision and Regulation” for additional information.
While Centurion Bank and American Express Bank were considered “well capitalized” as of December 31, 2016 and had no restrictions regarding acceptance of brokered deposits or setting of interest rates, there can be no assurance they will continue to meet this definition. The Capital Rules, particularly when fully phased in, require bank holding companies and their bank subsidiaries to maintain substantially more capital, with a greater emphasis on common equity. Additionally, our regulators can adjust the requirements to be “well capitalized” at any time and have authority to place limitations on our deposit businesses, including the interest rates we pay on deposits. An inability to attract or maintain deposits in the future could materially adversely affect our liquidity position and our ability to fund our business.
Our principal executive offices are in a 2.2 million square foot building located in lower Manhattan on land leased from the Battery Park City Authority for a term expiring in 2069. We have an approximately 49 percent ownership interest in the building and an affiliate of Brookfield Financial Properties owns the remaining approximately 51 percent interest in the building. We also lease space in the building from Brookfield’s affiliate.
Other owned or leased principal locations include American Express offices in Sunrise and Fort Lauderdale, Florida, Phoenix, Arizona, Salt Lake City, Utah, Mexico City, Mexico, Sydney, Australia, Singapore, Gurgaon, India, Manila, Philippines, and Brighton, England; the American Express data centers in Phoenix, Arizona and Greensboro, North Carolina; the headquarters for American Express Services Europe Limited in London, England; and the Amex Bank of Canada and Amex Canada Inc. headquarters in Toronto, Ontario, Canada.
Generally, we lease the premises we occupy in other locations. We believe the facilities we own or occupy suit our needs and are well maintained.
In the ordinary course of business, we are subject to various pending and potential legal actions, arbitration proceedings, claims, investigations, examinations, information gathering requests, subpoenas, inquiries and matters relating to compliance with laws and regulations (collectively, legal proceedings).
We do not believe we are a party to, nor are any of our properties the subject of, any legal proceeding that would have a material adverse effect on our consolidated financial condition or liquidity. However, in light of the uncertainties involved in such matters, including the fact that some pending legal proceedings are at preliminary stages and seek an indeterminate amount of damages, it is possible that the outcome of legal proceedings could have a material impact on our results of operations. In addition, it is possible that significantly increased merchant steering or other actions impairing the Card Member experience as a result of the DOJ or merchant cases described later in this section could have a material adverse effect on our business. Certain legal proceedings involving us or our subsidiaries are described below. For additional information, see Note 13 to our “Consolidated Financial Statements.”
In 2010, the DOJ, along with Attorneys General from Arizona, Connecticut, Hawaii (Hawaii has since withdrawn its claim), Idaho, Illinois, Iowa, Maryland, Michigan, Missouri, Montana, Nebraska, New Hampshire, Ohio, Rhode Island, Tennessee, Texas, Utah and Vermont filed a complaint in the U.S. District Court for the Eastern District of New York against us, MasterCard International Incorporated and Visa, Inc., alleging a violation of Section 1 of the Sherman Antitrust Act (the DOJ case). The complaint included allegations that provisions in our merchant agreements prohibiting merchants from steering a customer to use another network’s card or another type of general-purpose card (“anti-steering” and “non-discrimination” contractual provisions) violate the antitrust laws. The complaint sought a judgment permanently enjoining us from enforcing our non-discrimination contractual provisions. The complaint did not seek monetary damages.
Following a non-jury trial in the DOJ case, the trial court found that the challenged provisions were anticompetitive and on April 30, 2015, the court issued a final judgment entering a permanent injunction. Following our appeal of this judgment, on September 26, 2016, the Court of Appeals for the Second Circuit reversed the trial court decision and directed the trial court to enter a judgment for American Express. Following denial of rehearing en banc by the Court of Appeals for the Second Circuit, the trial court entered judgment for American Express on January 25, 2017. The DOJ and states may seek further review by the U.S. Supreme Court.
In addition to the DOJ case, individual merchant cases and a putative class action, collectively captioned In re: American Express Anti-Steering Rules Antitrust Litigation (II), are pending in the Eastern District of New York against us alleging that our anti-steering provisions in merchant card acceptance agreements violate U.S. antitrust laws. The individual merchant cases seek damages in unspecified amounts and injunctive relief. These matters, including a trial previously scheduled in the individual merchant cases, had been stayed pending resolution of the appeal in the DOJ case. Further proceedings are anticipated.
Individual merchants have initiated arbitration proceedings raising similar claims concerning the anti-steering provisions in our card acceptance agreements and seeking damages. We are vigorously defending against those claims.
In July 2004, we were named as a defendant in another putative class action filed in the Southern District of New York and subsequently transferred to the Eastern District of New York, captioned The Marcus Corporation v. American Express Company, et al., in which the plaintiffs allege an unlawful antitrust tying arrangement between certain of our charge cards and credit cards in violation of various state and federal laws. The plaintiffs in this action seek injunctive relief and an unspecified amount of damages. In December 2013, we announced a proposed settlement of the Marcus case and the putative class action challenging our anti-steering provisions. The settlement, which provides for certain injunctive relief for the proposed classes, received preliminary approval in the United States District Court for the Eastern District of New York. On August 4, 2015, the court denied final approval of the settlement; further proceedings are anticipated.
On March 8, 2016, plaintiffs B&R Supermarket, Inc. d/b/a Milam’s Market and Grove Liquors LLC, on behalf of themselves and others, filed a suit, captioned B&R Supermarket, Inc. d/b/a Milam’s Market, et al. v. Visa Inc., et al., for violations of the Sherman Antitrust Act, the Clayton Antitrust Act, California’s Cartwright Act and unjust enrichment in the United States District Court for the Northern District of California, against American Express Company, other credit and charge card networks, other issuing banks and EMVCo, LLC. Plaintiffs allege that the defendants, through EMVCo, conspired to shift liability for fraudulent, faulty and otherwise rejected consumer credit card transactions from themselves to merchants after the implementation of EMV chip payment terminals. Plaintiffs seek damages and injunctive relief. On June 24, 2016, the court granted our motion to transfer to the Southern District of New York the claims brought against us by merchants who accept American Express cards. The court also granted plaintiffs’ leave to file an amended complaint and, on September 30, 2016, denied our motion to dismiss as to claims brought by merchants who do not accept American Express cards.
On July 30, 2015, plaintiff Plumbers and Steamfitters Local 137 Pension Fund, on behalf of themselves and other purchasers of American Express stock, filed a suit, captioned Plumbers and Steamfitters Local 137 Pension Fund v. American Express Co., Kenneth I. Chenault and Jeffrey C. Campbell, for violation of federal securities law, alleging that the Company deliberately issued false and misleading statements to, and omitted important information from, the public relating to the financial importance of the Costco cobrand relationship to the Company, including, but not limited to, the decision to accelerate negotiations to renew the cobrand agreement. The plaintiff seeks damages and injunctive relief. The Company moved to dismiss the amended complaint on March 21, 2016.
On October 16, 2015, a putative class action, captioned Houssain v. American Express Company, et al., was filed in the United States District Court for the Southern District of New York under the Employee Retirement Income Security Act of 1974 (ERISA) relating to disclosures of the Costco cobrand relationship. On May 10, 2016, the plaintiff filed an amended complaint naming certain officers of the Company as defendants and alleging that the defendants violated certain ERISA fiduciary obligations by, among other things, allowing the investment of American Express Retirement Savings Plan (Plan) assets in American Express common stock when American Express common stock was not a prudent investment and misrepresenting and failing to disclose material facts to Plan participants in connection with the administration of the Plan. The amended complaint seeks, among other remedies, an unspecified amount of damages. The defendants moved to dismiss the amended complaint on May 31, 2016.
ITEM 4. MINE SAFETY DISCLOSURES
Stock Performance Graph
The information contained in this Stock Performance Graph section shall not be deemed to be “soliciting material” or “filed” or incorporated by reference in future filings with the SEC, or subject to the liabilities of Section 18 of the Exchange Act, except to the extent that we specifically incorporate it by reference into a document filed under the Securities Act or the Exchange Act.
The following graph compares the cumulative total shareholder return on our common shares with the total return on the S&P 500 Index and the S&P Financial Index for the last five years. It shows the growth of a $100 investment on December 31, 2011, including the reinvestment of all dividends.
(b) Not applicable.
(c) Issuer Purchases of Securities
The table below sets forth the information with respect to purchases of our common stock made by us or on our behalf during the quarter ended December 31, 2016.
ITEM 6. SELECTED FINANCIAL DATA
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (MD&A)
We are a global services company with four reportable operating segments: U.S. Consumer Services (USCS), International Consumer and Network Services (ICNS), Global Commercial Services (GCS) and Global Merchant Services (GMS).
The following types of revenue are generated from our various products and services:
For 2016, we reported net income of $5.4 billion and diluted earnings per share of $5.65. This compared to $5.2 billion of net income and $5.05 diluted earnings per share for 2015, and $5.9 billion of net income and $5.56 diluted earnings per share for 2014.
2016 results included:
2015 results included:
2014 results included:
We prepare our Consolidated Financial Statements in accordance with accounting principles generally accepted in the United States of America (GAAP). However, certain information included within this report constitutes non-GAAP financial measures. Our calculations of non-GAAP financial measures may differ from the calculations of similarly titled measures by other companies.
In a challenging economic, competitive and regulatory environment, we remain focused on our key priorities of accelerating revenue growth, optimizing investments and resetting our cost base. In 2016, revenue was lower year-over-year, though revenue performance sequentially improved in the fourth quarter. We made a record level of business-building investments during 2016 and continued to make progress on our plans to remove $1 billion from our overall cost base by the end of 2017. In addition, we continued to leverage our strong capital position to return capital to shareholders through share repurchases and dividends.
Our worldwide billings for 2016 adjusted for foreign currency exchange rates were up slightly year-over-year. Our U.S. consumer billings were down, resulting from the end of the Costco relationship in the United States in June 2016. We saw strong performance from middle market and small businesses in the United States, while spending by large corporations declined year-over-year. Internationally, our consumer and small business billings growth rates remained strong.
Revenues net of interest expense for the year declined versus the prior year, primarily reflecting higher Costco-related revenues in the prior year. After excluding Costco-related revenues and the effect of foreign currency exchange rates, adjusted revenues net of interest expense grew, driven by increases in adjusted billed business, adjusted net interest income and net card fees across our premium card portfolios.
Card Member loan growth was strong year-over-year and we continue to see opportunities to increase our share of our customers’ borrowings. Provisions for losses were up modestly versus the prior year, but grew more significantly after excluding from the prior year credit costs associated with the Costco and JetBlue Card Member loan portfolios. The growth in provisions for losses was driven by both higher Card Member loans and a slight increase in delinquency and net write-off rates due to the seasoning of loans related to newer Card Members. We expect that some modest, gradual upward pressure on our delinquency and write-off rates, due primarily to this seasoning of loans related to newer Card Members, will cause provisions to grow faster than loans in 2017.
Total expenses for the year declined versus the prior year, driven by the gains on the sales of the Costco and JetBlue portfolios, which were recognized as a reduction in Other expenses, as well as a decline in rewards expense, driven by higher Costco cobrand rewards expenses included in the prior year and the shift in volumes to cash rebate cards, for which the rewards costs are classified as contra-discount revenue. Marketing and promotion expenses grew significantly due to higher levels of spending on growth initiatives. Card Member services and other expenses also increased, driven by higher levels of engagement in many of our premium services such as airport lounge access and certain cobrand card benefits. We anticipate spending less on marketing and promotion in 2017. Rewards expense and Card Member services and other expenses, after excluding Costco cobrand-related costs, should continue to grow in 2017 due to higher billings and enhancements to our card product value propositions.
Competition remains intense across our businesses. While our businesses are global and diversified, to remain competitive we need to continue to demonstrate the differentiated value we deliver to merchants, customers and business partners in all aspects of our relationships. More intense competition has and will continue to impact our cost of renewing and ability to win or extend cobrand and other relationships. Throughout our business, we are focused on those products, services and relationships that offer the best value to our customers while also providing appropriate returns to our business and shareholders.
For discussion of certain legislative and regulatory changes that could have a material adverse effect on our results of operations and financial condition, see “Supervision and Regulation” in “Business.”
CONSOLIDATED RESULTS OF OPERATIONS
Refer to the “Glossary of Selected Terminology” for the definitions of certain key terms and related information appearing within this section.
Effective June 30, 2014, as a result of the GBT JV transaction, we deconsolidated the Global Business Travel net assets, and now offer business travel-related services through the non-consolidated joint venture, resulting in a lack of comparability between 2015 and 2014.
Effective December 1, 2015, we transferred the Card Member loans and receivables related to our HFS portfolios to Card Member loans and receivables HFS on the Consolidated Balance Sheets. On March 18, 2016 and June 17, 2016, we completed the sales of the JetBlue and Costco cobrand card portfolios, respectively. For the periods from December 1, 2015, through the sale completion dates, the primary impacts beyond the HFS classification on the Consolidated Balance Sheets were to provisions for losses and credit metrics, which do not reflect amounts related to these HFS loans and receivables, as credit costs were reported in Other expenses through a valuation allowance adjustment. Other, non-credit related metrics (i.e., billed business, cards-in-force, net interest yield) reflect amounts related to the HFS portfolios through the sale completion dates. Additionally, for periods after the sale completion dates, activities associated with these cobrand partnerships and the HFS portfolios are no longer included in our Consolidated Results of Operations. Specifically, these impacts include: Discount revenue from Costco in the United States for spend on all American Express cards and from other merchants for spend on the Costco cobrand card; Other fees and commissions and Interest income from Costco cobrand Card Members; and Card Member rewards expense related to the Costco cobrand card, resulting in a lack of comparability between 2016 and 2015.
The relationship of the U.S. dollar to various foreign currencies over the periods of comparison has had an impact on our results of operations. Where meaningful in describing our performance, foreign currency-adjusted amounts, which exclude the impact of changes in the foreign exchange (FX) rates, have been provided.
TABLE 1: SUMMARY OF FINANCIAL PERFORMANCE
TABLE 2: TOTAL REVENUES NET OF INTEREST EXPENSE SUMMARY
TOTAL REVENUES NET OF INTEREST EXPENSE
Discount revenue decreased $617 million or 3 percent in 2016 compared to 2015, and remained relatively flat in 2015 compared to 2014. The decrease in 2016 was primarily driven by lower Costco-related revenue. Both periods of comparison reflected increases in contra-discount revenues, including cash rebate rewards, which in 2015 as compared to 2014 was offset by growth in billed business.
Overall, billed business was flat in 2016 compared to 2015. U.S. billed business decreased 3 percent, primarily driven by lower Costco-related volumes and non-U.S. billed business increased 6 percent (10 percent on an FX-adjusted basis).1
The average discount rate was 2.45 percent, 2.46 percent and 2.48 percent for 2016, 2015 and 2014, respectively. The decrease in the average discount rate in 2016 compared to 2015 was driven primarily by growth of the OptBlue program, merchant negotiations, including those resulting from the recent regulatory changes affecting competitor pricing in the European Union and a prior-year benefit related to certain merchant rebate accruals, partially offset by the benefit to the discount rate from the decline in Costco merchant volumes in the current year. We expect the average discount rate will likely continue to decline over time due to further expansion of OptBlue, merchant negotiations and competition, volume related pricing discounts and certain pricing initiatives mainly driven by pricing regulation (including regulation of competitors’ interchange rates). See Tables 5 and 6 for more details on billed business performance and the average discount rate.
Net card fees increased $186 million or 7 percent in 2016 compared to 2015 and remained relatively flat in 2015 compared to 2014 (increasing 5 percent on an FX-adjusted basis).1 The increase in 2016 was driven primarily by growth in the Platinum, Gold and Delta portfolios.
Other fees and commissions decreased $113 million or 4 percent in 2016 compared to 2015, and $760 million or 21 percent in 2015 compared to 2014. The decrease in 2016 was primarily driven by lower Costco-related fees, partially offset by an increase in delinquency and loyalty coalition-related fees. The decrease in 2015 was primarily due to the GBT JV transaction, resulting in a lack of comparability between periods.
Other revenues were relatively flat in 2016 compared to 2015, and decreased $956 million or 32 percent in 2015 compared to 2014. The current year included a contractual payment from a GNS partner and higher revenues from our Prepaid Services business, offset by lower revenues related to Costco, Loyalty Edge (which was sold in the fourth quarter of 2016), and the GBT JV transition services agreement. The decrease in 2015 was primarily driven by gains related to the sales of investment securities in Concur and Industrial and Commercial Bank of China in 2014.
Interest income decreased $70 million or 1 percent in 2016 compared to 2015, and increased $366 million or 5 percent in 2015 compared to 2014. The decrease in 2016 was primarily driven by lower Costco cobrand loans and the associated interest income, partially offset by modestly higher yields and an increase in average Card Member loans across other lending products. The increase in 2015 primarily reflects higher average Card Member loans, partially offset by decreases in interest and dividends on investment securities driven by lower average investment securities.
Interest expense increased $81 million or 5 percent in 2016 compared to 2015, and decreased $84 million or 5 percent in 2015 compared to 2014. The increase in 2016 was primarily driven by higher average customer deposit balances, partially offset by lower average long-term debt. The decrease in 2015 was primarily driven by a lower cost of funds on debt and customer deposits, partially offset by an increase in average customer deposit balances.
TABLE 3: PROVISIONS FOR LOSSES SUMMARY
PROVISIONS FOR LOSSES
Charge card provision for losses decreased $41 million or 6 percent in 2016 compared to 2015, and $55 million or 7 percent in 2015 compared to 2014. The decrease in 2016 was driven by lower net write-offs and improved delinquencies. The decrease in 2015 reflects a reserve release versus a reserve build in 2014, partially offset by higher write-offs.
Card Member loans provision for losses increased $45 million or 4 percent in 2016 compared to 2015, and $52 million or 5 percent in 2015 compared to 2014. The increase in 2016 was primarily driven by strong momentum in our lending growth initiatives, resulting in higher loan balances, increased net write-offs in the current year and a slight increase in delinquencies, partially offset by the impact of the HFS portfolios, as the current year does not reflect the associated credit costs, as previously mentioned. The increase in 2015 primarily reflects a reserve build versus a reserve release in 2014. The reserve build in 2015 was due to a small increase in delinquency rates combined with an increase in loan balances, partially offset by lower write-offs and the impact related to transferring the HFS portfolios to Card Member loans and receivables HFS in December 2015.
Other provision for losses increased $34 million or 56 percent in 2016 compared to 2015, and decreased $53 million or 46 percent in 2015 compared to 2014. The increase in 2016 was primarily driven by growth in the commercial financing portfolio resulting in higher net write-offs. The decrease in 2015 was primarily due to a merchant-related charge in the fourth quarter of 2014.
TABLE 4: EXPENSES SUMMARY
Marketing and promotion expenses increased $541 million or 17 percent in 2016 compared to 2015, and decreased $107 million or 3 percent in 2015 compared to 2014 (increasing 1 percent on an FX-adjusted basis), with higher levels of spending on growth initiatives in both periods.2
Card Member rewards expenses decreased $203 million or 3 percent in 2016 compared to 2015 and increased $65 million or 1 percent in 2015 compared to 2014. The decrease in 2016 was primarily driven by lower cobrand rewards expense of $518 million, primarily reflecting lower Costco-related expenses and a shift in volumes to cash rebate cards for which the rewards costs are classified as contra-discount revenue, partially offset by increased spending volumes across other cobrand card products. The lower cobrand rewards expense was partially offset by higher Membership Rewards expense of $315 million, primarily driven by an increase in new points earned as a result of higher spending volumes, recent enhancements to U.S. Consumer and Small Business Platinum rewards and less of a decline in the weighted average cost (WAC) per point. The increase in 2015 was primarily driven by higher cobrand rewards expense of $199 million, driven by rate impacts as a result of cobrand partnership renewal costs, partially offset by a decrease in Membership Rewards expense of $134 million. The latter was primarily driven by slower growth in the Ultimate Redemption Rate (URR) and a decline in the WAC per point assumption, including the impact of the $109 million charge in the fourth quarter of 2014 related to the Delta partnership renewal, partially offset by increased expenses related to new points earned, driven by higher spending volumes.
The Membership Rewards URR for current program participants was 95 percent (rounded down) at December 31, 2016, compared to 95 percent (rounded down) at December 31, 2015, and 95 percent (rounded up) at December 31, 2014.
Card Member services and other expenses increased $115 million or 11 percent in 2016 compared to 2015, and $196 million or 24 percent in 2015 compared to 2014. The increase in 2016 was primarily driven by increased usage of travel-related benefits. The increase in 2015 was primarily due to higher costs related to certain previously renewed cobrand partnership agreements.
Salaries and employee benefits expenses increased $283 million or 6 percent in 2016 compared to 2015, and decreased $1.1 billion or 18 percent in 2015 compared to 2014. The increase in 2016 was primarily driven by higher restructuring charges in the current year. The decrease in 2015 was primarily due to the business travel joint venture transaction (resulting in a lack of comparability between periods).
Other expenses decreased $1.6 billion or 24 percent in 2016 compared to 2015, and increased $704 million or 12 percent in 2015 compared to 2014. The decrease in 2016 was primarily driven by the gains on the sales of the HFS portfolios in the current year, as well as goodwill and technology impairment charges in the prior year. The increase in 2015 reflects the net gain from the GBT JV transaction in 2014 and the goodwill and technology impairment charges in 2015, partially offset by the reassessment of the functional currency of certain UK legal entities, other FX-related activity and a litigation reserve release in 2015.
The effective tax rate was 33.2 percent in 2016 compared to 35.0 percent in 2015 and 34.5 percent in 2014. The tax rates for 2016, 2015, and 2014 include benefits of $60 million, $33 million, and expenses of $40 million, respectively, related to the resolution of certain prior years’ items. The tax rate for 2015 also includes the impact of the nondeductible portion of the goodwill impairment charge mentioned previously. The changes in tax rates primarily reflected the level of pretax income in relation to recurring permanent tax benefits and the geographic mix of business.
TABLE 5: SELECTED STATISTICAL INFORMATION
TABLE 6: SELECTED STATISTICAL INFORMATION
TABLE 7: SELECTED STATISTICAL INFORMATION
# Denotes a variance greater than 100 percent
TABLE 8: NET INTEREST YIELD ON CARD MEMBER LOANS
BUSINESS SEGMENT RESULTS
We consider a combination of factors when evaluating the composition of our reportable operating segments, including the results reviewed by the chief operating decision maker, economic characteristics, products and services offered, classes of customers, product distribution channels, geographic considerations (primarily United States versus outside the United States) and regulatory considerations. Refer to Note 25 to the “Consolidated Financial Statements” for additional discussion of the products and services by segment.
Effective for the first quarter of 2016, we realigned our segment presentation to reflect the organizational changes announced during the fourth quarter of 2015. Prior periods have been restated to conform to the new reportable operating segments, which are as follows:
Corporate functions and certain other businesses and operations, including our Prepaid Services business and the American Express Global Business Travel (GBT) operations up to June 30, 2014, and subsequent activities related to the GBT JV, are included in Corporate & Other.
Results of the business segments generally treat each segment as a stand-alone business. The management reporting process that derives these results allocates revenue and expense using various methodologies as described below.
TOTAL REVENUES NET OF INTEREST EXPENSE
We allocate discount revenue and certain other revenues among segments using a transfer pricing methodology. Within the USCS, ICNS and GCS segments, discount revenue generally reflects the issuer component of the overall discount revenue generated by each segment’s Card Members; within the GMS segment, discount revenue generally reflects the network and acquirer component of the overall discount revenue.
Net card fees and other fees and commissions are directly attributable to the segment in which they are reported.
Interest and fees on loans and certain investment income is directly attributable to the segment in which it is reported. Interest expense represents an allocated funding cost based on a combination of segment funding requirements and internal funding rates.
PROVISIONS FOR LOSSES
The provisions for losses are directly attributable to the segment in which they are reported.
Marketing and promotion expenses are included in each segment based on the actual expenses incurred. Global brand advertising is primarily reflected in Corporate & Other and may be allocated to the segments based on the actual expense incurred. Rewards and Card Member services expenses are included in each segment based on the actual expenses incurred within the segment.
Salaries and employee benefits and other operating expenses reflect expenses such as professional services, occupancy and equipment and communications incurred directly within each segment. In addition, expenses related to support services, such as technology costs, are allocated to each segment primarily based on support service activities directly attributable to the segment. Other overhead expenses, such as staff group support functions, are allocated from Corporate & Other to the other segments based on a mix of each segment’s direct consumption of services and relative level of pretax income.
Each business segment is allocated capital based on established business model operating requirements, risk measures and regulatory capital requirements. The business model operating requirements reflect the capital needed to support operations and specific balance sheet items. The risk measures reflect considerations for credit, market and operational risk.
An income tax provision (benefit) is allocated to each business segment based on the effective tax rates applicable to the various businesses that comprise the segment.
U.S. CONSUMER SERVICES
TABLE 9: USCS SELECTED INCOME STATEMENT DATA
USCS issues a wide range of proprietary consumer cards and provides services to consumers in the United States, including consumer travel services.
TOTAL REVENUES NET OF INTEREST EXPENSE
Non-interest revenues decreased $605 million or 7 percent in 2016 compared to 2015, primarily due to lower discount revenue, which decreased $632 million or 10 percent, reflecting lower Costco-related revenues and increases in contra-discount revenue, such as cash rebate rewards. The decrease in discount revenue was partially offset by an increase in net card fees, resulting from growth in the Platinum, Gold and Delta portfolios. Billed business decreased 7 percent in 2016 compared to 2015, primarily driven by lower Costco-related volumes.
Net interest income decreased $164 million or 3 percent in 2016 compared to 2015, primarily driven by lower Costco cobrand loans and the associated interest income and higher interest expense primarily driven by higher cost of funds, all partially offset by modestly higher yields and an increase in average Card Member loans across other lending products.
Total revenues net of interest expense increased $623 million or 5 percent in 2015 compared to 2014, primarily driven by higher discount revenue, as a result of 5 percent growth in billed business, partially offset by a decline in the average discount rate and increases in contra-discount revenues, such as cash rebate rewards. The increase also reflected higher net interest income, primarily driven by higher average Card Member loans, partially offset by higher interest expense.
PROVISIONS FOR LOSSES
Overall, Provisions for losses was relatively flat. Card Member loans provision for losses increased $16 million or 2 percent, primarily driven by strong momentum in our lending growth initiatives resulting in higher loan balances, increased net write-offs in the current year and a slight increase in delinquencies, partially offset by the impact of the HFS portfolios as the current year does not reflect the associated credit costs. Other provision for losses increased $15 million in 2016 as compared to 2015, due to growth in the non-card lending portfolio.
Provisions for losses increased $34 million or 3 percent in 2015 compared to 2014, primarily due to a small increase in Card Member loan delinquency rates combined with an increase in loan balances, partially offset by a Charge card provision reserve release in 2015 versus a reserve build in 2014 and the impact related to transferring the HFS portfolios to Card Member loans and receivables HFS in December 2015.
Refer to Table 10 for the charge card and lending write-off rates for 2016, 2015 and 2014.
Marketing, promotion, rewards, Card Member services and other expenses was relatively flat in 2016 compared to 2015, reflecting lower Card Member rewards expenses, offset by increases in Marketing and promotion and Card Member services expenses. Card Member rewards expense decreased $311 million or 8 percent in 2016 compared to 2015, primarily driven by lower cobrand reward expense of $435 million, partially offset by an increase in Membership Rewards expense of $124 million. The decrease in cobrand reward expense was primarily driven by lower Costco-related expenses, partially offset by increased spending volumes across other
cobrand card products. The increase in Membership Rewards expense was primarily driven by an increase in new points earned as a result of higher spending volumes, recent enhancements to Platinum Card rewards and less of a decline in the WAC per point. Marketing and promotion expenses increased $279 million or 25 percent in 2016 compared to 2015, reflecting elevated levels of spending on growth initiatives. Card Member services and other expenses increased $66 million or 12 percent in 2016 compared to 2015, primarily driven by increased usage of new benefits.
Salaries and employee benefits and other operating expenses decreased $1 billion or 33 percent in 2016 compared to 2015. The decrease primarily reflects the gains on the sales of the HFS portfolios in the current year, which were recognized as an expense reduction in Other expenses, partially offset by restructuring charges in the current year.
Total expenses increased $414 million in 2015 compared to 2014, primarily driven by higher Marketing, promotion, rewards, Card Member services and other expenses, which reflected higher cobrand rewards expense due to higher spending volumes and rate increases (due in part to previously renewed cobrand partnership agreements). The increase also reflected higher Other expenses, primarily driven by higher spending on growth initiatives and the December 2015 valuation allowance adjustment related to the HFS portfolios mentioned previously, partially offset by lower card-related fraud losses in 2015 and a change in the estimated value of certain investments in our Community Reinvestment Act of 1977 (the CRA) portfolio in 2014.
TABLE 10: USCS SELECTED STATISTICAL INFORMATION
INTERNATIONAL CONSUMER AND NETWORK SERVICES
TABLE 11: ICNS SELECTED INCOME STATEMENT DATA
ICNS issues a wide range of proprietary consumer cards outside the United States and enters into partnership agreements with third-party card issuers and acquirers, licensing the American Express brand and extending the reach of the global network. It also provides travel services to consumers outside the United States.
TOTAL REVENUES NET OF INTEREST EXPENSE
Non-interest revenues increased $158 million or 3 percent in 2016 compared to 2015, primarily driven by higher discount revenue due to an increase in both proprietary and non-proprietary (i.e., GNS) billed business, as well as higher net card fees. The increase also reflected a contractual payment from a GNS partner in the second quarter of 2016. Total billed business increased 5 percent in 2016 compared to 2015, primarily due to increases in both proprietary and GNS cards-in-force and average spend per card. Refer to Tables 6 and 12 for additional information on billed business by region.
Net interest income decreased $7 million or 1 percent in 2016 compared to 2015. Interest income decreased $23 million or 2 percent, while FX-adjusted interest income increased 8 percent, primarily driven by higher average FX-adjusted loan balances.3 Interest expense decreased $16 million or 7 percent, while FX-adjusted interest expense increased 4 percent driven by higher FX-adjusted funding costs.3
Total revenues net of interest expense decreased $517 million or 9 percent in 2015 compared to 2014, and FX-adjusted total revenues net of interest expense increased 4 percent.3 The increase was primarily driven by foreign exchange conversion fees and net revenues earned on cross-border Card Member spending, as well as higher net interest income and net card fees. The increase also reflected higher GNS revenues.
PROVISIONS FOR LOSSES
Provisions for losses increased $25 million or 8 percent in 2016 compared to 2015, driven primarily by higher net write-offs.
Provisions for losses decreased $54 million or 15 percent (and decreased 1 percent on an FX-adjusted basis) in 2015 compared to 2014.3 Refer to Table 12 for Card Member loans and receivables write-off rates for 2016, 2015 and 2014.
Marketing, promotion, rewards, Card Member services and other expenses increased $197 million or 10 percent in 2016 compared to 2015, primarily driven by higher levels of spending on growth initiatives.
Total expenses decreased $480 million or 10 percent in 2015 compared to 2014, primarily driven by higher restructuring charges in 2014.
Income tax provision decreased $57 million or 26 percent in 2016 compared to 2015 and increased $26 million or 13 percent in 2015 compared to 2014. The effective tax rate in all periods reflects the recurring permanent tax benefit related to the segment’s ongoing funding activities outside the United States, which is allocated to ICNS under our internal tax allocation process. The effective tax rates for all periods also reflect the allocated share of tax benefits related to the resolution of certain prior-years’ items. In addition, the
effective tax rate in each of the periods reflects the impact of recurring permanent tax benefits on varying levels of pretax income.
TABLE 12: ICNS SELECTED STATISTICAL INFORMATION
GLOBAL COMMERCIAL SERVICES
TABLE 13: GCS SELECTED INCOME STATEMENT DATA
GCS issues a wide range of proprietary corporate and small business cards and provides payment and expense management services globally. In addition, GCS provides commercial financing products.
TOTAL REVENUES NET OF INTEREST EXPENSE
Non-interest revenues were relatively flat in 2016 compared to 2015, reflecting lower Costco-related revenues. Billed business increased by 2 percent in 2016 compared to 2015.
Net interest income remained flat in 2016 compared to 2015, reflecting lower Costco cobrand loans and the associated interest income and higher interest expense primarily due to increased cost of funds, offset by an increase in average Card Member loans across other lending products.
Total revenues net of interest expense decreased $448 million or 4 percent in 2015 compared to 2014, primarily due to the gain on the sale of our investment in Concur in 2014, partially offset by higher net interest income as a result of an increase in average Card Member loans (including Card Member loans HFS), and higher discount revenue primarily from higher U.S. small business billed business.
PROVISIONS FOR LOSSES
Provisions for losses increased $16 million or 3 percent in 2016 compared to 2015, and $19 million or 3 percent in 2015 compared to 2014, primarily driven in both periods by growth in the commercial financing portfolio resulting in higher net write-offs.
Marketing, promotion, rewards, Card Member services and other expenses increased $256 million or 8 percent in 2016 compared to 2015, primarily driven by both increased Marketing and promotion expenses as a result of higher levels of spending on growth initiatives, and higher Card Member rewards expenses resulting from higher spending volumes, partially offset by lower Costco-related rewards expenses.
Salaries and employee benefits and other operating expenses remained relatively flat in 2016 compared to 2015, reflecting restructuring charges and higher operating expenses, including technology development and professional fees, offset by the gains recognized in the segment on the sales of the HFS portfolios.
Total expenses increased $92 million or 2 percent in 2015 compared to 2014, primarily due to higher spending on growth initiatives, including marketing and promotion expenses, technology development and higher professional services costs, partially offset by a restructuring charge taken in 2014.
TABLE 14: GCS SELECTED STATISTICAL INFORMATION
GLOBAL MERCHANT SERVICES
TABLE 15: GMS SELECTED INCOME STATEMENT DATA