Discover: PayPal Winner

NEW YORK (TheStreet) -- Discover Financial Services (DFS) was the winner on Wednesday among large financial services companies, with shares rising 4% to close at $38.43.

The Riverwoods, Ill., credit card lender announced a deal with eBay (EBAY) unit PayPal, for PayPal's customers to be able to use the service to make purchases at the 7 million retail locations that currently accept Discover, beginning in the second quarter of 2013.

Discover went on to say that PayPal would also be brought "potentially to millions of international merchant locations in the future." Discover Payment Services president Diane Offereins said that "the establishment of this relationship is a major industry milestone, which will help shape the emerging payments landscape by bringing together an established direct banking and payments company with a leading commerce enabler to create an alternative payments option for consumers at the point of sale."

KBW analyst Sanjay Sakhrani rates Discover "Outperform," with a $40 price target, and said on Wednesday that the PayPal deal was "clearly a big win for the network side of the business as it exemplifies the value-added services it can provide and the optionality of the company's business model." The analyst added that "while there are likely to be some costs associated with the roll-out, we think it should be manageable for the company," and estimated that "Discover could earn 10-20 bps of the transaction, which would be consistent with [Visa (V) and Mastercard (MA)] economics."

The analyst also sees the deal as a big win for eBay, since "it extends PayPal's reach to almost parity with Visa and MasterCard at the physical point of sale across the US and potentially international in the future."

Sakhrani also said that Discover's PayPal deal would be "mildly negative" for American Express (AXP), Mastercard and Visa, "as PayPal has been notorious in trying to steer customers towards ACH," through which payments are made directly from customers' checking accounts.

Earlier on Wednesday, Sterne Agee analyst Todd Hagerman -- who doesn't cover Discover - published a showing credit card master trust data for six of the largest U.S. card lenders, and said that only Discover and American Express reported month-over-month declines in net charge-offs among managed card balances during July, while "the rest of the group saw higher loss on a sequential basis, but lower delinquencies," and that "card balances declined across the board with every company, except DFS."

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