How American Express Is Charging Up Its Competitive Edge

For investors interested in American Express , Visa , or MasterCard  -- or, frankly any business -- a key question to ask is how difficult it would be to replicate the company.

That's right, take all your fancy metrics and throw them out the window, because a company without competitive advantage is like a day without sunshine. Well, at least, as far as an investor is concerned.

American Express, in particular, has done a fantastic job strengthening its moat over the years. And today, I'm going to dive into three of the most important advantages for American Express -- its:

  1. Strong brand name
  2. "Closed loop" system
  3. Spend-centric platform

We've got a little jargon going on here, but fret not, these are easy to understand and key to figuring out American Express's advantages. So, pull out your charge card as we account for how American Express is swiping away the competition.

Don't leave home without it
"A brand for a company is like a reputation for a person. You earn reputation by trying to do hard things well." -- Jeff Bezos, CEO.

According to Forbes' list of the most powerful brand names, American Express ranks at 34, with rival Visa just a tad ahead at 29, and MasterCard a bit lower at 52. It's worth mentioning, though, that among financial services companies, Visa, American Express, and MasterCard rank one, two, and four, respectively.

Ultimately, good brands are hard to create and even harder to maintain -- just ask Citigroup and Bank of America. American Express has a truly great brand, and it's hard to imagine that changing.

The circle of life
For years, American Express has operated within a "closed loop," which means that the company both issues cards and acquires merchants. This is different than competitors Visa and MasterCard; the cards with those companies' logos are issued by independent bank networks, while merchants are acquired by independent merchant acquirers.

This provides a huge competitive advantage in three ways:

  1. Reduced risk of fraud
  2. Better insight into customer trends
  3. More control over fees, interest rates, and customer service

However, the closed-loop operations aren't the rule everywhere for American Express. As an article in Forbes put it, "Almost 80% of American Express branded cards issued outside the U.S. were issued through third party financial institutions."

But wait a second. If the closed-loop system is so advantageous, shouldn't American Express be doing that everywhere? Not so fast. American Express's platform works because of its strong brand awareness. That's an awareness that, frankly, isn't as strong internationally as it is at home. While leveraging international third-party distributors is essential for growing brand recognition, it'll be worth keeping an eye on American Express's long-term strategy surrounding its closed-loop platform in the U.S. and overseas. I like the closed-loop approach, but it's also important for the company to find ways to grow and expand.

Hey! Must be the money
When it comes to credit card companies, there are two main platforms to work from: spend-centric and lend-based. American Express uses a spend-centric approach, or as I like to refer to it, a people-centric approach. The theory is this: If a company charges lower fees, provides very lucrative offers, and generally provides a great customer experience, you'll have a card people  -- particularly higher-income groups -- want to use and it therefore provides leverage over merchants.

On the opposite end of the spectrum is MasterCard's and Visa's lend-based approach. By keeping merchant fees lower and flooding the system with cards, they've ended up with a card that is accepted by a vast number of merchants and is therefore a card people almost have to carry.

While both approaches work, I think there's something special about having a product that customers are actively seeking out.

Put it on my tab
American Express has built a strong brand name, a system for controlling customer risk, and gaining insight into customer preferences while creating a card that people genuinely want to use. That's no moat -- that's an ocean!

However, the temptation to accelerate growth has -- as it sometimes will -- tweaked American Express' business model. That's not necessarily something to panic about, especially if it means gaining some very powerful partners, namely, Wells Fargo and Bank of China.

Ultimately, I think that all three companies mentioned have built strong competitive edges, and are the type of companies that are worth buying and holding for decades to come. With that said, I'm betting on America's favorite card to become the world's favorite card, making American Express a company you can't leave your portfolio without.

The article How American Express Is Charging Up Its Competitive Edge originally appeared on

Dave Koppenheffer has no position in any stocks mentioned. The Motley Fool recommends American Express. It recommends and owns shares of Bank of America, Citigroup, MasterCard, Visa, and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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