CAPITAL One, a US consumer lender backed by Warren Buffett, said on Monday that it will acquire credit card issuer Discover Financial Services in an all-stock transaction valued at US$35.3 billion.

The tie-up, which will combine two of the largest US credit card companies, aims at building “a payments network that can compete with the largest payments networks and payments companies,” Richard Fairbank, chairman and CEO of Capital One, said in a statement.

Visa, Mastercard and American Express are among other US-based payments networks.

Discover shareholders will receive 1.0192 Capital One share for each Discover share. It represents a 26.6 per cent premium over Discover’s closing price on Friday.

When concluded, Capital One shareholders will own 60 per cent of the combined company, while Discover shareholders will own approximately 40 per cent, according to the statement.

Capital One, valued at US$52.2 billion, is the fourth largest player in the US credit card market by volume as of 2022, according to Nilson, while Discover is the sixth.

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Higher scrutiny

The deal is expected to be approved by regulators late 2024 or early 2025, Capital One said.

The transaction is likely to experience intense scrutiny as Democratic President Joe Biden’s administration continues to focus on boosting competition in all areas of the economy, including a 2021 executive order aimed at bank deals.

“I predict that this deal, if it materialises, will provoke a significant push-back and receive heightened regulatory scrutiny,” Jeremy Kress, a University of Michigan professor of business law who previously worked on bank merger oversight at the Federal Reserve, wrote in an email to Reuters.

“It will be the first big test of bank merger regulation since the Biden administration’s executive order on promoting competition in 2021.”

Democratic progressives have long fought bank consolidation, arguing it increases systemic risk and hurts consumers by reducing lending, and have stepped up pressure on regulators to take a tougher stance on deals.

The pressure intensified following deals aimed at rescuing failed lenders last year, including JPMorgan’s purchase of First Republic Bank.

The Biden administrations’ executive order required bank regulators and the Justice Department to review their bank merger policies. The DOJ subsequently said it would consider a broader range of factors when assessing bank mergers for antitrust issues, while the Office of the Comptroller of the Currency last month proposed scrapping its fast-track review process.

By assets, Discover was the 27th largest US bank with nearly US$150 billion in assets, according to December Federal Reserve data ranking insured US banks, while Capital One was the ninth-largest with US$476 billion in assets. The combined entity would be the sixth-largest US bank, the Fed data shows.

While the pair overlap in some areas of the credit card business, Discover is one of the four major US credit card processors, along with Visa, Mastercard and American Express, which facilitate credit card payments, a potentially valuable source of fees for Capital One.

The deal also would come at time of increased regulatory focus on credit card fees, which are the subject of strict new rules proposed by the Consumer Financial Protection Bureau.

That agency, led by merger skeptic Rohit Chopra, who has a say in bank deals, last week flagged competition concerns in the US credit card market. In a report, it noted that during the first half of 2023 small banks and credit unions tended to offer cheaper interest rates than the largest 25 credit card companies across all credit score tiers.

A previous CFPB report also found that the top 10 issuers by average credit card outstandings represented 83 per cent of credit card loans in 2022, continuing a decline from 87 per cent in 2016.

Supervisory issues

In late 2023, Discover said it was exploring the sale of its student loan business and would stop accepting new student loan applications in February.

The company, led by TD Bank Group veteran Michael Rhodes, has faced some regulatory challenges. It disclosed in July a regulatory review over some incorrectly classified credit card accounts from mid-2007.

In October, Discover said it agreed to improve its consumer compliance and related corporate governance as part of a consent order with the Federal Deposit Insurance Corp.

While supervisory issues are generally an obstacle for deals between financial firms, regulators are more amenable when the problems are with the target company and the acquirer is considered a good actor, according to legal experts.

Discover and Capital One reported 62 per cent and 43 per cent falls, respectively, in fourth-quarter profit, as banks increased provisions for losses from bad loans as rising interest rates raised the risk of consumer defaults on credit card debt and mortgages. REUTERS