Good day and thank you for standing by. Welcome to the Capital One Investor presentation call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you will need to press star 11 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 11 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Jeff Norris, Senior Vice President of Finance. Please go ahead.
Thanks very much, Amy, and good morning, everybody, and welcome. We're webcasting live over the Internet. To access the call on the Internet, please log on to Capital One's website at capitalone.com and follow the links from there. With me this morning are Mr. Richard Fairbank, Capital One's Chairman and Chief Executive Officer, Mr. Andrew Young, Capital One's Chief Financial Officer, and Mr. Michael Rhodes, CEO and President of Discover Financial Services. We've included a copy of the presentation on our Investor Relations website for this morning's call. To access a copy of the presentation and the press release, please go to Capital One's website, click on Investors, and follow the links from there. Please note that this presentation may contain forward-looking statements.
These statements include but are not limited to statements about the benefits of the proposed transaction between Capital One and Discover, including future financial and operating results, statements related to the expected timing of the completion of the transaction, and combined company plans, and other statements that are not historical facts. Any forward-looking statements contained in today's discussion in the materials speak only as of the particular date or dates indicated in the materials. Capital One does not undertake any obligation to update or revise any of this information, whether as a result of new information, future events, or otherwise. Numerous factors could cause actual results to differ materially from those described in forward-looking statements.
For more information on those factors, please see the section titled Forward-Looking Statements in the presentation and the Risk Factors section of the proxy statement that we will file in due course with the SEC. Please note also that Capital One and Discover will file a Form S-4 registration statement with the SEC that includes a joint proxy statement and prospectus regarding the acquisition. Investors are urged to read that joint proxy statement and prospectus when it becomes available because it will contain important information about the acquisition. In addition, Capital One and Discover and their directors and officers may be deemed to be participating in a solicitation of proxies in favor of the acquisition. You can find information about Capital One and Discover directors and executive officers in each company's most recent proxy statement.
You may obtain a copy of the proxy statement and prospectus when it becomes available through the SEC website, the Capital One and Discover websites, or by requesting a copy from either company's Investor Relations department. More information on how to request these documents is available in the investor presentation. With all that, I'll turn the call over to Rich.
Good morning and thanks for joining us today. I'm delighted to have Michael Rhodes with us today, and I join all of Capital One's management team, board members, and associates in welcoming Michael and the entire Discover team to the Capital One family. I'll begin on slide four. Today, we're thrilled to announce that we've entered into a definitive agreement to acquire Discover in an all-stock transaction valued at $35.3 billion, a premium of 26.6% based on Discover's closing price of $110.49 on February 16, 2024. The combination of Capital One and Discover creates game-changing strategic opportunities. The Discover payment network positions Capital One as a more diversified, vertically integrated global payments platform.
Adding Capital One's debit spending and a growing portion of our credit card purchase volume to the Discover network will add significant scale, increasing the network's value to merchants, small businesses, and consumers, and driving enhanced network growth. In the credit card business, we're bringing together two proven franchises with complementary strategies and a shared focus on the customer. Both companies have delivered attractive and resilient returns through cycles, and the combined company will be well-positioned to grow resiliently. This deal also enables us to accelerate the growth of our national digital-first consumer banking business by adding another consumer deposit franchise and the vertical integration benefits of the debit network. We will also be able to leverage and scale the benefits of our 11-year technology transformation across every business of Discover and the network.
It will serve as a catalyst for innovation and enhanced capabilities in underwriting, marketing, servicing, operations, risk management, and compliance. The enhanced scale and reach of our combined franchise will position us to compete more effectively against some of the largest banks and payments companies in the United States. Slide five shows key financial metrics. The expected financial impacts of this deal are compelling. We expect to generate significant run-rate synergies by 2027, including operating expense synergies of $1.3 billion and network synergies of $1.2 billion. We expect the deal will be more than 15% accretive to Adjusted EPS in 2027. We expect the transaction to deliver return on invested capital of 16% in 2027, growing over time, and the internal rate of return is in excess of 20%. The transaction will further strengthen our balance sheet.
On a pro forma basis, the combined company would have a CET1 ratio of approximately 14% at closing, and 84%-85% of company deposits would be insured as of year-end 2023. Andrew will share additional financial details in a few moments. Let's turn to slide 6. Discover, founded in 1985 by financial services visionary Phil Purcell, is a rare and remarkable success story that in many ways parallels the story of Capital One. Over the years, Discover has developed compelling products with a focus on customer value. They have driven resilient credit performance and attractive and profitable growth. They have built a loyal customer franchise and a winning brand, and they have created one of the rarest assets in the payments space, a global payment network at scale. We have studied their story carefully, and we've always respected and admired their business capabilities and sustained success.
Our acquisition of Discover is a singular opportunity to bring together 2 very successful companies with complementary strengths and franchises and a shared history of sustained value creation. Through this combination, we're creating a company that is exceptionally well-positioned to win as technology continues to transform the payments and banking marketplace. I'll discuss the Discover network beginning on slide 7. From our founding days, Capital One has been on a quest to build a global payments technology company. With the acquisition of the Discover Global Network, Capital One takes another big step in that journey. Discover's global payments network is an incredibly rare and valuable asset.
There are only 2 vertically integrated U.S.-based payments networks, American Express and Discover, and they compete with Visa and Mastercard, who are, of course, much larger. Over a 40-year journey, Discover has steadfastly worked to build their global network.
Starting from scratch, they set out to build a credit card network in the late 1980s. They made a brilliant acquisition of the Pulse network in 2005, thereby adding a rare national PIN debit network to their signature card network and bringing 4,000 member banks into the Discover network. Later, they acquired the Diners Club network to enhance international reach. Along the way, they have painstakingly worked to build nearly universal merchant acceptance in the United States, one merchant and one acquirer at a time. Slide eight summarizes the benefits from owning a payment network. Owning a network allows us to enjoy the benefits of vertical integration. Owning a network allows us to deal more directly with merchants rather than a network intermediary, create more value for merchants, small businesses, and consumers, and capture the additional economics from vertical integration.
Let me take a moment to double-click on the impact of working more directly with merchants as we think it's a critical part of the strategic rationale and how we provide them more value. Our broader strategy over time has been to get closer to merchants. This includes our investment in Capital One Shopping, which is another direct merchant relationship. What we're trying to do over time is build merchant relationships and show merchants how we can help generate more sales, which is exactly how Capital One Shopping works. By going direct through the network, we can build even deeper merchant relationships and provide customized value. In addition, we can provide better fraud management, higher authorization rates, and rich transaction data, basically doing whatever we can to help drive more sales for our merchant customers.
We will also benefit from the additional scale and volume that come from being a network for banks. The Discover payments network generates significant revenue that doesn't come with assets or credit risk, driving both growth and diversification of our revenue. Turning to slide 9, we see the volumes of the four major networks. This is U.S. volume only. Despite great efforts over 40 years, the Discover network is still the smallest of the four networks by far and less than half the size of the third largest network, American Express. With PULSE, their national PIN debit network, and their Discover Signature Debit network, they are very well-positioned in the debit business. We will move our entire debit card business over to their network. Discover has come a remarkably long way with its credit card network. They have nearly universal acceptance in the United States.
Our research confirms that customers are very satisfied with acceptance. But the perception of acceptance among non-customers lags the reality, and internationally, Discover still has room to grow. So here's what we're going to do on the credit card side. We will move some of our credit card volume over to the network to enhance its scale. And we will lean hard into further building the brand and the perceived acceptance of the credit card network here in the United States. We will also work to build greater international acceptance. Over time, we will move a growing portion of our credit card business to the Discover network. In total, across debit and credit, we expect to add over 25 million Capital One cardholders and over $175 billion in Capital One purchase volume by 2027.
This will be a step change in the scale of the network, and we will grow it from there. This injection of volume and investment in the network will help Discover be competitive with the leading networks. Scaling the network increases its value to merchants, small businesses, and consumers, starting a virtuous cycle of growing acceptance in the United States and abroad. This expands the network's reach and resonance with consumers, driving more spending and increasing value for merchants and cardholders alike. I'll discuss the credit card business beginning on slide 10. The combination of two proven and complementary credit card franchises will enhance our capabilities, scope, and scale. Together, we'll be in an even stronger position to win in the credit card marketplace. The Discover credit card business is a valuable franchise. Their flagship cashback products provide great customer value.
They have posted attractive and resilient growth over the years, and like Capital One, Discover was resilient through the global financial crisis. Along the way, they've invested to build a universally recognized brand. Here is a remarkable feat. Discover has been ranked number one or number two in J.D. Power's overall credit card customer satisfaction rankings for 17 years running. Let's now turn to slide 11. Capital One has built a premier franchise of consumer, small business, and co-brand customers that spans the credit card marketplace. We've focused on providing simple and transparent products with compelling customer value. We've developed and honed unique and proprietary underwriting and marketing capabilities, leveraging big data and machine learning. Everything we do stands on the shoulders of our modern technology. We've delivered industry-leading growth and resilient financial results through cycles.
We have steadfastly built the capabilities and experiences to win with heavy spenders at the top of the market, and along the way, we have built an iconic brand. Let's move to slide 12. Bringing together the Capital One and Discover credit card businesses will unlock tremendous value as we take advantage of the benefits of scale in a business in which scale is critical. Scale really matters in consumer financial services. In addition to the classic operating scale, the business requires high levels of investment which are independent of volume, underscoring the importance of technology scale, information scale, and brand scale. Discover adds $218 billion in annual spend and $102 billion in loans to Capital One's credit card franchise, increasing our scale where it matters.
As we bring Discover customers into the Capital One ecosystem, we anticipate that they will engage in other key offerings that we provide, such as Capital One Travel, Capital One Shopping, Auto Navigator, and, of course, our national bank. These additional revenue synergies have not been included in our deal model. Together, our complementary customer franchises position the combined card business to win across the credit card marketplace, and our shared commitment to customers, award-winning experiences, and powerful brands enhance our positioning. I'll discuss opportunities in our consumer banking business starting on slide 13. Discover has built a fast-growing national direct savings bank.
Adding Discover, it brings $84 billion in stable, largely insured consumer deposits, the most sought-after funding source in banking. Let's move now to slide 14. Capital One has built a digital-first, full-service national consumer banking business.
On the shoulders of our tech transformation, our customers can enjoy an entirely digital full-service banking experience or visit one of our 250 branches, 80,000 fee-free ATMs, or 16,000 cash deposit locations. In 21 of the 25 largest metro areas, customers can visit one of our iconic Capital One Cafés to learn about and test drive our digital banking services. Please turn now to slide 15. Our national bank is propelled by an iconic customer experience and a strikingly simple value proposition. We are the only major bank with no fees, no minimums, and no overdraft fees. On the back of national TV advertising and digital marketing, our story is gaining traction rapidly. According to J.D. Power, customers have rated Capital One number 1 in overall satisfaction for national banks 4 years running.
Slide 16 shows that the addition of Discover will increase our scale to compete with the nation's largest banks. In addition to scale, the Discover network brings a significant opportunity to accelerate the growth of our full-service national bank as vertical integration enhances the scale and economics of our debit business. Turning to slide 17. A unique benefit of the Discover acquisition is the opportunity to scale and leverage the benefits of our technology transformation across our combined business. For 11 years, we have worked to rebuild our technology from the bottom of the tech stack up. We transformed our talent, transformed how we build software, migrated entirely to the cloud, modernized our data ecosystem, and modernized the 1,600 applications that drive the company. Our technology transformation is changing the trajectory of Capital One on every dimension.
It is powering innovation, much faster speed to market, breakthrough products and experiences, real-time customized marketing, faster growth, better underwriting, better risk management, and enhanced efficiency. We have become a leading destination for the most sought-after technology talent. Discover and its shareholders will be able to share in these benefits as we bring Discover's businesses and operations onto our modern technology and data infrastructure. Slide 18 shows our marketing investments to drive growth, deepen the customer franchise, and build our brand. As a brand, Discover has immense scale. They show up at nearly every physical point of sale across the United States and on nearly every online checkout page.
We intend to preserve the Discover brand. The Discover issuer brand would join the Capital One brand family. On the network side, we would lean in to build and strengthen the network brand of Discover.
The combined company enhances our ability to leverage our marketing capabilities across a significantly larger customer franchise. Slide 19 highlights our shared commitment to our associates. From our founding days, our strategy has been all about people. Our quest at Capital One is to search the world for great talent and create an environment where they can be great. This quest will continue in the combined company as Discover brings an organization focused on associates and inspiring them to do great things for customers. Both Capital One and Discover have been recognized as great places to work in Fortune's 100 Best Companies to Work For list.
This year was Capital One's 12th consecutive year on this prestigious list. Slide 20 summarizes a few highlights of the deal. At close, Capital One shareholders will own approximately 60% of the combined company, and the current Discover shareholders will own approximately 40%.
We expect that three Discover directors will join Capital One's board. Our headquarters will remain in McLean, Virginia. We expect to maintain a significant presence in the Chicago area. We expect to complete the transaction at the end of 2024 or early 2025, subject to Capital One and Discover shareholder votes and customary regulatory approvals. Now, Andrew will discuss the financial aspects of the deal.
Thanks, Rich, and good morning, everybody. Michael, let me just add my personal word of welcome to you and everyone from Discover. I will begin this morning on slide 21, where I will review several key financial assumptions. To create the deal forecasts, we used consensus estimates for Capital One in 2024 and 2025 and extrapolated future years from there. For Discover, we used a similar approach, but with two primary adjustments. First, we assumed the exit of student lending in 2024.
Second, we assumed that in 2024, charge-offs are consistent with consensus. For 2025, we assume that charge-offs are similar to 2024 before improving over time. With respect to capital, Discover will suspend share repurchases through closing. The collection of these assumptions results in a pro forma combined CET1 ratio at close of 13.9%, and we have modeled a longer-term CET1 ratio of 12.5%. The transaction is expected to create marks, intangibles, and goodwill. Let me take a moment to walk through the moving pieces. We will initially eliminate the allowance on the balance sheet at close, which is estimated to be $8.6 billion. We will record a $2.9 billion PCD credit mark that will run through purchase accounting. The remaining $5.7 billion of non-PCD credit mark will be recorded as a day two allowance. A $1.5 billion net loan mark will be recorded to adjust loans to fair value.
This $1.5 billion reflects the difference between the $7.3 billion fair value mark and the $5.7 billion I mentioned a moment ago. This $1.5 billion will be amortized over 2-3 years as an adjustment of loan yield. An additional $200 million of expected debt rate marks are also expected to be recorded at close and will be amortized over 2-3 years as an adjustment of debt interest yield. We currently assume $10.4 billion of intangibles. PCCR is estimated to be $10.1 billion or 10% of receivables. The remaining $300 million of intangibles is a result of CDI. In addition to the identified intangibles, we also expect to book $3.5 billion in goodwill. Of course, all of these estimates will be reevaluated at close, and the final balance sheet impacts may differ.
Finally, we estimate that we will incur $2.8 billion of acquisition and integration expenses, substantially all of which will be incurred between now and two years after close. Turning to slide 22, I will discuss the pro forma metrics of the combined company. Using 2023 actual results for both Capital One and Discover, a combined company would have generated a revenue margin over 9%, operating efficiency under 40%, total efficiency under 50%, and a return on tangible common equity of approximately 16%. These strong results do not include the synergies we expect to generate from the transaction. Turning to slide 23, I will describe our approach to due diligence. Let me start by thanking the many associates who contributed thousands of hours of due diligence. In addition to the vast amount of publicly available information for both companies, we shared documents spanning all key aspects of our respective enterprises.
We deeply evaluated each other's operations, including credit, compliance, financial results, risk management, and more, through both document reviews and management meetings. Informed by this extensive due diligence, we identified meaningful synergies, which I will describe on page 24. We expect to reduce Discover's operating expenses by 26%, largely driven by savings in our common businesses of card and banking. These savings will be partially offset by targeted investments across the enterprise. We expect to exit 2026 with the operating expense synergies close to full run rate and have substantially all of the operating expense synergies fully phased in by 2027. We also expect to reduce Discover's marketing spend by 10%, with those savings fully phased in by 2026. On the network, we intend to begin migration of credit and debit spend to the Discover networks in the second quarter of 2025.
We expect that migration to drive $175 billion of purchase volume to the Discover networks by 2027, resulting in $1.2 billion of synergies. While we see additional revenue opportunities across the combined enterprise, we have not modeled any revenue synergies beyond those I just covered. Turning to slide 25, I will conclude my remarks by highlighting some forward-looking performance metrics of the transaction. As Rich mentioned earlier in our presentation, the financial results of this transaction are very compelling. We anticipate double-digit EPS accretion in 2026 and greater than 15% Adjusted EPS accretion in 2027. The Return on Invested Capital is expected to be 16% in 2027 and growing from there. Our modeled IRR is over 20%. We are thrilled with this transaction and incredibly excited about the future. With that, let me turn the call over to Michael. Michael?
Well, Andrew, thank you and good morning, everyone.
Look, we believe this announcement represents a tremendous strategic opportunity for both organizations. We're extremely proud of the capabilities we've built at Discover as an industry-leading credit card issuer, a global payments network, and an innovative digital bank. Combining these capabilities with Capital One will allow us to create a uniquely well-positioned and vertically integrated company that will deliver meaningful long-term value creation. We believe this is the right opportunity for Discover at this time for three reasons. First, it enhances our competitive position through a merger with an organization that adds tremendous scale and shares our values, including our commitment to outstanding customer service.
Second, it provides the opportunity to fully leverage our payments network and propel significant volume growth. And third, we think this represents substantial value creation to our shareholders. Now, importantly, today's announcement will not change two key priorities for Discover.
First, we continue to make substantial progress on compliance and risk management. Second, we intend to remain committed to Chicagoland and to our national servicing presence. We are targeting a year-end close. After that point, I anticipate assuming an advisory capacity of reporting to Rich for one year to help support a seamless integration of our two organizations. I'd like to include my remarks by thanking Discover's employees for all their hard work. This transaction represents an advancement for both of our companies, and I am so excited to be part of this. With that, Rich, I will turn it back to you.
Thanks, Michael. I'll conclude this morning on slide 27. Pulling way up, the acquisition of Discover is a singular opportunity. It propels Capital One into the global payment network space, something that would be nearly impossible to achieve organically.
The combination will create a leading consumer banking and payments platform with unique capabilities, powerful brands, and a franchise of more than 100 million customers that spans the marketplace. It combines high-growth credit card and banking businesses with a global payments network at scale. It leverages Capital One's technology transformation and digital capabilities across a significantly larger customer franchise. It delivers compelling financial results, and it offers the potential for unparalleled strategic and economic upside over the longer term. Now we'll be happy to answer your questions.
Thanks, Rich. Amy, let's start the Q&A, please.
As a reminder, to ask a question, please press star 11 on your telephone and wait for your name to be announced. To withdraw your question, please press star 11 again. Please stand by while we compile the Q&A roster. Our first question comes from Sanjay Sakhrani with KBW. Your line is open.
Thank you. Good morning. Rich, obviously, it's a pretty intense regulatory backdrop for deals of this size, and obviously, Discover's also run into some problems as well. I'm just curious what got you comfortable to move forward and if you've had any preliminary conversations with regulators? And maybe you can just elaborate a little bit more on the timeline here?
So thank you, Sanjay. Our teams will be filing the appropriate approval applications with both the Fed and the OCC in the next couple of months, and we will then work through that process with both bank regulators. We believe that we are well-positioned for approval, but of course, we can't discuss our conversations with our regulators. We have, of course, kept them informed along the way in the process.
Got it. And just a quick follow-up. Obviously, this is a big deal for Capital One.
I think your card business has almost entirely been organically grown. Maybe you could just talk about what really attracted you to the Discover franchise. I know you said a lot. The network, obviously, has something to do with it. Maybe just talk about the card business, which focuses a little bit on a different segment than you guys do. Thank you and congratulations, by the way.
Thanks, Sanjay. So it's funny, as two companies that began and took on big banks really over three decades ago, as we had our fledgling little journey, I looked with such admiration at Phil Purcell's Quest and so rooted, of course, for their success, but along the way, just watched how remarkable a company that they had built. My admiration was along several dimensions. First of all, the network side of the business.
We all kind of revel in the fact that a network is a very, very rare asset. There are very few of them, and it's just, I don't think people are going to be building any of these anytime soon because it's such a chicken-and-egg problem to ever get one started. You show up at a merchant and say, "We'd like to sign you up for our new network," and they say, "How many customers do you have?" And we go, "Well, that's where you come in," and the customers are asking similar questions. So it's a remarkable thing to build a network. And over 40 years, patiently, they built a network with really just essentially universal acceptance here in the United States. So that was something that was remarkable.
We have always had a belief that the Holy Grail is to be able to be an issuer with one's own network so that one can deal directly with merchants. And from merchants to consumers, it's all part of one comprehensive relationship. So that is part of that's one part of the appeal. We sort of had awe about that aspect. Another big part of it was watching how the credit card business that they built. They were the pioneers in cashback. They created cashback before any of the rest of us thought of it. And in fact, not just were first. They built a big lead in that business and were the dominant brand in cashback. Probably for a good decade, we at some point said, "Gosh, we got to get in on some of that," and came out with our Quicksilver Card.
But that came from our admiration of what they had built there. So on the product side, I think what has always characterized them is very customer-focused products that are simple and just work backwards from what excites customers. So that has impressed us. Then the next thing related to that journey was what they have done with respect to their brand and their customer franchise. So we, of course, being the data junkies that we are and with our fanaticism about brand, we measure everything in the marketplace. And we measure satisfaction. We measure net promoter scores. We measure how aspirational are brands, how likely are you to take one of these brands as your own, etc. And over the many years as we have measured this, we are so struck by how well Discover does in the league tables along many kind of customer dimensions.
What's really striking, you can always look at customers and non-customers. And a brand, of course, spans both. But where Discover really, really rings highest is with their own customers. And by the way, that to me always tells you the most about a company because if you don't win with your own customers, then winning with all the ones who aren't customers is a bit of a journey that may not end so well. Their customers love them. They have strikingly low attrition rates. They have very high loyalty. And their service is amazing. And it's obvious that that's been a focus of their franchise. And you can't just suddenly get one of them. Their kind of cultures, it's something that runs deep in who they are. So we've always admired that. And then we've admired the brand that they have built along the way.
Then the next thing that we were struck by is, of course, all of us together went through the global financial crisis. Memo to self, "Don't launch an IPO," in the year 2007. But they didn't get the memo, so they went out in 2007. And really strikingly, fared darn well in the global financial crisis that came immediately thereafter. And so their credit performance has been strong. I know of late, there have been some expansions that have taken their losses higher than they had intended. But it's been a story of solid credit underwriting. And the final thing that we have always looked at with admiration is the National Savings Bank they have built with a strategy that's very compatible with where we're going. We've, of course, built out a full-service national bank, but we think that's a great combination as well.
So we turned our admiration ultimately into a bid when planets aligned, and here we are announcing this deal.
Next question, please.
Our next question comes from the line of Ryan Nash with Goldman Sachs. Your line is open.
Hey, good morning, everyone.
Good morning, Ryan.
Hey, Ryan.
Rich, you talked about $175 billion of network volume by 2027 and growing coming to the network. Can you maybe just, whether you or Andrew, help us what's included in that $1.2 billion? And then what prevents you from meaningfully moving a much greater extent of your card volume over to your network over time? And I have a follow-up.
Okay. So, Ryan, so we anticipate realizing network synergies in both our debit and credit card businesses. And within the first few years, we will move our entire debit business and a portion of our credit card business to Discover.
And from there, we will continue to strengthen and build out the Discover Global Network and hopefully keep growing the volume over there. That's our expectation. The significant majority of the modeled network synergies are on the debit side, but there are also meaningful synergies on the credit card side. So let's talk about it's sort of the question, "Well, why not just pick up all our business and move it over there?" So on the debit side, with the Discover Global Network, with the PULSE PIN debit network, along with the Discover Signature Debit network, it's really well-positioned and in a strong position to just basically take our debit volume at this place and at this point, and we feel comfortable moving our entire business over there. On the credit side, there is still work to be done to build the brand and the perceived acceptance of the network.
And I really want to pause and draw the distinction. The actual acceptance is really striking, and it's nearly universal. And the research that we ourselves conducted through this process, it's very striking how satisfied their own customers are with the acceptance. But there still is a gap between the perception and the reality. And so a thing that we very much need to do is lean in and invest in the network brand and the sort of, in a sense, the credibility of it here in the United States. And also, there's work to do to build more international acceptance. So we will continue to do business with our other network partners even as we build out our Discover network. And that's the plan.
Got it. And maybe a question for Andrew just to focus on some of the financials.
I know that this deal is supposed to be over 15% accretive by 2027. Can you maybe just help us think about the path along the way for 2025 and 2026? When does the transaction reach break-even? Would you expect it to be diluted in the near term? And help us understand the move down in capital from 14 down to 12.5 as you articulate in the slides. Thank you.
Ryan, why don't I start with the second question around capital? We expect the combination of the two companies, given the path of Discover over the course of 2024 with their underlying earnings and the anticipated sale of Student and the pause in repurchases to have them accrete quite a bit of capital. And so the combined company at close would be 13.9.
With respect to the longer-term plan, I want to make sure that I distinguish between the 12.5% as a target versus a modeling assumption. So just to take a step back, you're well aware that Capital One's stated target is 11% CET1, and Discover's is 10.5%, both of which are well above each company's respective SCB. But there is quite a bit of uncertainty with respect to the Basel III endgame rules. We don't know how those are going to shake out. We also will go through a much more rigorous bottoms-up assessment of how the combined company will perform through CCAR. So it's still too early to tell what the ultimate target will be.
But for the sake of the deal model, we used an estimated blend of consensus estimates for both companies in 2026, which happens to be roughly the same number as the weighted average actuals for both companies at the end of 2023. So on the capital side, that 12.5% assumption might prove to be too conservative when we have more certainty on the factors I just described. But that is the assumption that we chose to use for evaluating the financial impact of the deal. With respect to the path then over the next couple of years with the financials, I laid out a number of marks. Clearly, that will create some noise from a purchase accounting perspective. But I talked about it being double-digit accretive to EPS in 2026 and greater than 15% in 2027.
And so I think that gives you a sense for that side of the P&L. And then on a gap basis, I would say it's going to be kind of roughly break-even in 2027 as the synergies on both the cost and revenue side are more fully phased in.
Next question, please.
Our next question comes from the line of Moshe Orenbuch with TD Cowen. Your line is open.
Great. Thanks. And I'm wondering if Rich, both Rich and Michael, if you could kind of talk a little bit. I mean, you talked, Rich, a lot about the value of the Discover brand, the Discover network. And all of that's been true for a very, very long time. And it's got lots of value to you and would also have lots of value to someone who's even got a larger debit card business.
Could you talk, each of you, just talk a little bit about what prompted this deal at this point in time? What were the factors that brought this together now?
Well. Go ahead, Michael. Were you going to say something?
Oh, no. I was going to suggest you go first.
Okay. Great. So, well, as I chatted earlier, we've had admiration for Discover for a long time and have always felt that if circumstances ever happened, if planets aligned, that it would be kind of of all sort of potential partnerships out there. That one was about as good as it could get from our point of view. And so we always had this thought in mind and watched them carefully. And I think that just the planets happen to align at this particular time. And as you know, Moshe, it takes many things to make deals happen.
But I think the conversations ended up being promising. And sort of when we pulled up and looked at really what could be created together, I think that ended up being a compelling story to the other side. And here we are.
Rich, and thanks for that. And Moshe, I might just add on. At the end of the day, we don't really control the timing when opportunities present themselves. That being the case, and I think I'm relatively short-tenured in my role, what's so exciting about Discover is our opportunity to scale the capabilities that we have. I mean, that has fundamentally been the opportunity we've had for quite some time, as you pointed out. When you step back and look at this combination, this gives us the opportunity to scale at a very rapid pace and much more so than we could certainly do on an organic basis.
I'd also offer, if I look at the organizations that have the most synergistic impact with Discover, it is Capital One. So the timing presented itself now, you kind of step back and look at it. The commercial rationale behind this, the industrial logic, is highly compelling. When I look at what Discover has built over the past many, many years, decades, this provides us the opportunity to really reach the next chapter in a much more faster and an accelerated way. I'd also offer, Rich has said a number of nice things about Discover, which are very much appreciated and true. I also have admired Capital One myself. I've been in this industry for about 30-some years. If I look at the organizations that have really, really made an impact, a durable impact over a long time, it's Capital One and Discover.
And to bring these two together, I think this creates a really transformational opportunity.
Follow-up, Moshe. Next question, please.
Our next question comes from Don Fandetti with Wells Fargo. Your line is open.
Yes. Rich, how important was sort of scale in terms of your heavy spender plus for this deal? I mean, does it accelerate your ability to do things like build lounges and travel portal that are very expensive?
Don, I've always said, and I mentioned it earlier, the credit card business is, and I think this really applies to consumer financial services businesses in general, but certainly to credit cards, are very scale-driven. And I think in many ways, more scale-driven than a lot of other parts of banking. For example, small business banking, even commercial banking, tends to be a little bit more fragmented across many banks.
But what's happened on the consumer side, the reason there's been more consolidation is just the underlying, just incredible power and physics of scale. And when you think about it, there's obviously operating scale, but virtually every business has operating scale. But we're talking about tens of millions of customers. When you get into those kind of numbers, the scale economies become pretty big. But the operating scales, the less significant scale actually in the math to me compared to some of the things that have even a higher fixed cost component like tech scale, data scale, and brand scale. So all of those things are what essentially drive a successful consumer business, certainly a consumer credit card business.
When I think back to the founding idea way back 30-some years ago, I think my view was that everybody was looking at credit cards as just another banking business, but really, it was a technology and information business and all about data and analytics and ultimately things that drive scale. So that certainly, all of that is very beneficial with respect to this deal. I wouldn't highlight, to your question, this as being giving that much specific thrust to the very top of the market strategy directly, in the sense that that's not been. Discover has been more of a mid-market kind of broad national focus as opposed to going after the very top of the market. So in that sense, we don't get a lot of scale on that. But still, indirectly, we get a lift on things like brand scale.
Because here's the thing that we have found. When we are out advertising and pushing our heavy spender products, it provides lift for the whole company because building an aspirational brand lifts all aspects of a company. So while it's not a direct lift on our upper-end strategy, it actually indirectly will provide quite a bit of scale benefit to that quest. And that quest will absolutely continue.
Got it. And my follow-up, I mean, essentially, if I'm understanding this correctly, Rich, your grand plan is sort of a true open loop, a closed loop, I should say. It's just that Discover doesn't necessarily have the international acceptance to do that today where you can move debit over, but credit will take some time. But that's kind of the master plan, if you will.
Yeah. Let me make a comment on that.
I mean, we were very drawn to this deal. And kind of way at the top of the list was the benefit of having a network. And we are very excited about that. And we look at that rare, unique asset that Discover has, and we're struck by the fundamental challenge it faces is a scale problem. They've done everything else the best they can. They just don't have enough scale to, even in the U.S., to get what they want done. And then, of course, internationally as well. So in looking at that rare and valuable asset, for us to be able to take whatever volume we can and add it to that really helps in a way that's even more than adding scale to almost anything is helpful. But the network business, there's a reason it's called a network because it has network effects associated with it.
And so that, or to use another metaphor, there's a flywheel that gets turning when you add more scale to that. I do want to also pull up, though, and say that we have been partners with Visa and Mastercard for a long time. They have built a breathtaking, amazing international, global network that stands alone in a lot of the reach, acceptance, brand, and capabilities that it has. And we're very reverential about that. And so we're talking about taking a network that is way, way smaller than those and giving it a chance to get more threshold scale, pick up momentum. And as we've said over time, we're going to lean in and build the strength, the acceptance, the brand, and the perceived acceptance and the credibility of this network, and then keep moving volume over as we get more traction along the lines.
But I do believe, as far out as we can see, I think that partnering with Visa and Mastercard would be very important. They'll be very important partners with us because there's a lot of value that they still can add to our customers. And at the end of the day, we're going to always work backwards from what works best for our customers and how can we win on their behalf.
Next question, please.
Our next question comes from Bill Carcache with Wolfe Research. Your line is open.
Thank you. Good morning. And thanks for taking my question. I wanted to follow up on the network opportunity. You've given a lot of helpful color already. But I wanted to ask about sort of the view that Discover's ability to command unregulated debit interchange over the years is an advantage that many think has been underutilized.
Can you discuss the opportunities that you see there, Rich, to potentially gain debit share, for example, by offering rewards on the debit side? And then on the credit side, following up on the comments that you just made, since there are elements of the payments business where you'll be competing with Visa and Mastercard, given some of those partner versus competitor dynamics, is it fair to conclude that they've sort of been receptive to that sort of coexistence of that partner versus competitor relationship?
Yes. Thank you, Bill. So we are very excited to add scale to the network. The real driving motivation here is to be able to get as much business as we can to their network in a path that also really works for our customers. So we don't want to do anything that would be jarring for our customers.
That's why we continue to see a very important role for other networks in this as well. The debit network is the most developed for them of all because they have this amazing PULSE network that has 4,500 banks on this network already. PULSE is also international as well. The debit side is in a particularly strong place. Based on our research and our planning about this, we believe that that is the place to make the first significant well, a significant move with all of our debit business. Then we will be also moving some of our credit card business as well. Along the way, we get the benefits of vertical integration.
And just to comment on that for a second, one of the nice things about vertical integration is that one can also add the network margin, which otherwise was something the networks collect. We get a chance to add the network margin. And that enhances the vertical integration. I mean, that just enhances the economics of the move. With respect to partnering and competing with Visa and Mastercard at the same time, we have strong relationships with both Visa and Mastercard that go back to our founding days. And it's not unusual for companies to be both competitors and customers of one another. In the credit card market alone, U.S. Bank and Amex are, for example, a clear example. Amex is a network for U.S. Bank and other card issuers. But Amex also competes against those same companies as the card issuers.
So, PayPal and Mastercard. PayPal issues their credit card on Mastercard. So, it is in the marketplace. It's not unusual for companies to be both competitors and customers of one another in different aspects of what these companies do. And we don't see this as an issue. In fact, we look forward to continuing to partner with Visa. And with respect to your question about how we would go out and market our national banking strategy, I think it's going to feel exactly like it does now, Capital One, with a very salient story talking about the full-service digital-first bank that we have with Capital One. And we've got the same story. And along the way, we're going to partner with Visa and Mastercard in this journey.
Next question, please.
And our next question comes from the line of Erica Najarian with UBS. Your line is open.
Yes.
Just a follow-up on the network synergy questions. And this is really what I'm getting a lot in my inbox. But first, on Bill's question, given that you're going to be such a large pro forma company, are you going to be able to use that exemption in the Durbin Amendment confidently in terms of not being capped at $0.21 + 5 basis points? As I think about that advantage to the Discover Network, and secondly, the purchase volume that you mentioned that you would move by 2027, that's a percentage of your purchase volume last year. Is that just a function of the agreements that you currently have with Visa and Mastercard in terms of that number that you expect to transfer over by 2027?
Okay, Erica. Let me take your second question first.
No, that number works backwards, not from what we would be able to do contractually because this number works backwards from what we believe is the right business decision. Our contractual situation gives us the opportunity to do a larger number were we to want to go there because also, at the rate we're growing, we have a very large front book. So one shouldn't picture this as big just picking up backbooks and moving them over. There can be elements of that. But also, it's very much front book as important parts of what we're talking about here as well. Let me just comment for a second on your question about Durbin. The Durbin debit rules intentionally and by design only apply to networks like Visa and Mastercard who negotiate with merchants on behalf of thousands of banks, including negotiating terms and pricing.
Discover, like American Express, deals directly with merchants without an intermediary. They are both the issuer and the network. So there is nobody in between. The Durbin debit rules were written to explicitly exclude networks like Discover and American Express.
Next question, please.
Our next question comes from the line of Jeff Adelson with Morgan Stanley. Your line is open.
Yes. Hi. Thanks for taking my question. Rich, I guess I just wanted to maybe ask what your view on the long-term normalized potential ROTCE of the businesses for this deal. If I take your comment on 16% return on invested capital and we think about how you're pro forma getting this mid-teens ROTCE without the benefit of synergies, it seems like you're maybe indicating at least a 20% or so ROTCE at a minimum over the long term.
Just wondering if you think that's the right number, if you think this is more like a potentially 30% ROTCE business over time.
Jeff, why don't I take that one? As you just enumerated, we provided the component parts of the deal, the numbers that I shared in terms of looking at last year's ROTCE without the synergies of 16%. We have also spelled out what are meaningful synergies by the time that they're fully phased in in 2027. So we're not here to shill a particular number, but the math, our commitment to achieve those synergies on the base of earnings that we've described. And we've also shared the at least modeled capital levels that I've already went through in Ryan's question earlier. So that should give you some indication of where we see the combined businesses to go.
Next question, please.
And our next question comes from John Pancari with Evercore ISI. Your line is open.
Good morning. I appreciate your color around the EPS accretion expectations. I guess, could you also give us a little bit of color on how you're thinking about tangible book value dilution in the coming years and the timing of earnback? And then related to that, maybe if you can help us on the cadence of the operating expense cost savings. I know you indicated over three years, but is there any other clarity you can give in terms of how that could play out? Could it be front-loaded or spread evenly over the three-year period? Thanks.
Yeah. On the cost savings, we did footnote it on the slide there.
I don't have the exact numbers, but roughly, it was in the low 20% range in 2025 and in the high 60% in 2026 and then at 98% by the time we get to 2027. So that is spelled out for you there. With respect to tangible book value, I'll start by saying that this deal creates significant value for shareholders on both sides and provides long-term strategic and financial benefits. There is dilution of tangible book value per share from a few sources, the relative price-to-book gap between the companies, the premium we're paying for this incredibly valuable asset, and the intangible marks that I described earlier. And so there is that dilution on the tangible book value side. But very, very importantly, there's an offset in the meaningful increase to ROTCE that I just discussed.
And as you well know, John, one of the strongest relationships in valuation is the correlation between price to tangible book and ROTCE. And so while we will have lower tangible book for the foreseeable future, our post-synergy ROTCE will be meaningfully higher proportionately than that decline. And so that cross-multiplication is earnings. And I will also note that the two companies have traded at similar PE multiples historically. So as you kind of do that algebra, that's why we were really focused on the EPS accretion, the ROI, and the greater than 20% IRR. And so this transaction is not only incredibly attractive financially, but as Rich has talked about quite a bit, the strategic value on the card and bank and network side of this is also incredibly compelling.
Next question, please.
Our next question comes from Arren Cyganovich with Citi. Your line is open. Thank you.
Rich, you talked about the vertical integration benefits from the card issuing kind of à la Amex. I was wondering if you would expect to change your card strategy with this network, or would you kind of go even further after that high-end segment and maybe how that mix might change over time as you have better economics with your own network?
Thanks, Aaron. I think the best way to think about this is our strategy really will be pretty much the same because we are already leaning in to growth in Capital One really across the board and across the marketplace, across the credit spectrum, across the consumer and small business marketplace, and a very concerted effort, as you all know and can see, to go after the very top of the market. So I think that strategy will remain the same.
I think it will feel on the other side of this very similar just in terms of where we're investing. We're going to add one more area where we're notably investing, and that is in the network itself, particularly the brand of the network and things like international acceptance and certain capabilities. But with respect to the credit card strategy and the consumer-facing side of this thing and our quest to keep going right at the top of the market, I think it's going to continue with the very same momentum that it has now.
Next question, please.
Quick follow-up.
Oh, sorry, Aaron.
Yeah. No, I just wanted to ask Andrew if he could provide any kind of range of tangible book value dilution. Kind of our quick math was kind of in the mid-single digits, but I just wanted to check to see if you had any specifics there.
Arren, no, your math is a little bit off there. And so I would just point you to, as we spelled out in the slides, the combination of the PCCR and Goodwill and the net day two allowance build. And coupled with the shares that we're going to issue, should give you the math to get there.
Next question, please.
And our final question comes from the line of Rick Shane with J.P. Morgan. Your line is open.
Good morning, guys, and thanks for taking my question. Look, I'd like to talk a little bit about sort of the brands going forward. Obviously, there's significant potential synergy in terms of marketing. You also have customers who are loyal to both brands. Is the expectation you will really continue to run these as two separate brands and continue to grow each of them organically, individually?
Yeah, Rick.
The brand question is a fascinating one. We sort of have the luxury of the coach with great players at similar positions in the infield kind of thing so that we have a great luxury here. What we're working backwards from is what really wins in the end with the customers and, of course, with an eye toward how to be an integrated company. In a lot of cases, very branded companies like Capital One in acquiring another company would, over time, just bring that company into its own brand. I think there are a few things to consider here. The Discover brand is a great brand that is widely recognized. I also want to stress it has high customer loyalty. The network has nearly universal acceptance in the U.S. and growing penetration abroad. Here's our thinking about the brand.
On the credit card issuer side, we will keep the branding and continue to market it standing on the shoulders of all the great work that has been done by Discover over many years. Picture how this evolves over time is it will be part of the brand family of products that we have at Capital One. And so as far out as we can see, we would be leaning into the Discover brand. But it would feel, I think, over time, customers would understand this is part of Capital One. It would have the Discover brand. It would be part of the Capital One family. On the network side, this is a branded treasure. We would absolutely keep the brand to invest to build the scale, the salience of the network.
When we talked about how it's nearly impossible for anyone to build a network, part of that is think about all those stickers that are out there at every point of sale and all the real estate that's now on every online checkout page and so on. It would be a really big lift to convert that to the Capital One brand. And then also, we should keep in mind that part of their business also is to be a network for other banks. And I think in that case, Capital One as the network might not be as ideal a thing for other banks to choose as the Discover brand, which would, over time, more and more just be this really, really well-recognized universal network brand. So that is the feeling there.
Now, on the marketing side, and you'll notice that we have, as a result of that, modest marketing synergies in our calculation, 10% of the $1 billion that Discover spends on marketing. Now, so and that comes from we do believe there are synergies with respect to the whole information-based, incredibly sophisticated methodologies to go out and do mass-customized marketing, direct marketing across many, many channels in marketing the Discover product. And we would look forward to combining some of the best of the capabilities there. But I think there's synergies on sort of the scale direct marketing machine there that is offset by enhanced investment in the network and the brand of the network. So that's how we got to the pretty modest marketing synergies from this deal.
Terrific. Hey, I'm not big on saying this on calls, but congratulations.
Well, thank you very much, Rick. Thanks, Rick.
Thanks, Rich and Andrew and Michael. That concludes our investor call for today. I'd just like to thank everybody for joining, for your continuing interest in Discover and Capital One, and have a great day, everybody.
This concludes today's conference call. Thank you all for participating. You may now disconnect.