Lawsuit Slams Discover Bank - Analyst Blog

Discover Bank, a unit of Discover Financial Services (DFS) has been accused by the Minnesota attorney general of keeping customers uninformed about their buying decisions pertaing to the company's services. The lawsuit was filed in the Hennepin County District Court.

According to the lawsuit, Discover makes deceptive telemarketing calls to consumers offering them its several optional products, including an identity-theft protection, a credit-score tracker and a payment protection plan, which would free customers from making further monthly credit-card payments in case of job loss or disability.

However, Discover initially informs consumers about its cash-back rewards program, but then they use misleading and confusing terms, read scripts quickly, and also omit disclosures related to the product, leaving consumers confused and misguided.

The lawsuit urges the court to order Discover to stop such fraud telemarketing practices and reimburse customers who bought services they don't want. However, the amount of civil penalties is not yet specified.

Discover has declined the allegations and stated that it believes in selling a product that enhances its relationship with the card members. Moreover, Discover has members who benefit from its protection products.

In addition, Discover and other credit-card companies like Visa, Inc. (V) and Mastercard Incorporated (MA) have been making profits by selling such credit-related products to customers. In 2009, such products generated profits of $295 million for Discover, an 18% increase over the previous year.

We believe that credit-card companies have been selling such products through telemarketing for years. But recently with the imposition of the CARD Act regulation, Discover and other companies are under even more pressure to generate revenue from such services, as the new law restricts certain practices that helped generate substantial profits in the past.

However, fundamentally Discover is poised to grow significantly with its well-diversified business model and a more favorable operating environment. Moreover, the company's extensive network, sound capital position and cost containment initiatives will help accentuate growth once the markets rebound to its historical highs.

Going forward, we expect healthy growth opportunities with limited downside for the stock, which also justifies the recent upgrade in the recommendation to Outperform from Neutral. Hence, we are maintaining a Zacks #2 Rank, which translates to a short-term Buy recommendation. Our long-term recommendation for the stock is upgraded to Outperform.

 
DISCOVER FIN SV (DFS): Free Stock Analysis Report
 
MASTERCARD INC (MA): Free Stock Analysis Report
 
VISA INC-A (V): Free Stock Analysis Report
 
Zacks Investment Research