Default spike may end retailers in-house credit

By Alexandria Sage - Analysis

SAN FRANCISCO (Reuters) - Retailers may run credit card operations to keep close ties with their shoppers, but a spike in late payments and defaults is threatening to ring the death knell for in-house credit.

While the economic crisis that has virtually frozen global credit markets has hurt all U.S. credit card issuers, retailers with their own credit card units, like Target (TGT.N), are most at risk. After all, their lending standards tend to be lower and they have fewer funding resources than banks, experts say.

Moreover, consumers are more likely to avoid repaying a store for smaller-ticket items when more pressing bills like rent, mortgages or electricity pile up.

"When your Visa card is maxed out and your MasterCard is maxed out, what are you going to do with your Target card? You're just not going to pay it," said Laura Nishikawa, an analyst with Innovest Strategic Value Advisors.

The issue also affects Charming Shoppes Inc (CHRS.O) and Cabela's (CAB.N), among a handful of retailers that still operate their credit cards in-house.

"Everyone's concerned we're in a spiraling downward slope where delinquencies will increase substantially and they'll get left holding a bag of horrible receivables that will lead to horrible write-offs and losses," C.L. King analyst Scott Krasik said of Charming Shoppes. "How bad does it have to get until they get there?"

"UNPRECEDENTED TERRITORY"

The historically resilient credit card industry is now in "unprecedented territory" with write-off rates expected to peak at 10 percent next quarter, Nishikawa noted.

So far, issuers from Citigroup (C.N) to American Express (AXP.N) have pushed up reserves for loan losses.

Target said this month it is cracking down on late accounts and warned that more credit card losses could lead to lower-than-expected third-quarter profit.

"In retail, with nontraditional players involved, people are surprised to see how much consumer finance exposure they have," Nishikawa said.

While high late fees have historically made retailers' in-house cards profitable, "the benefits from the late fees will pale in comparison to the losses (retailers) will incur," she said.

Retailers like to issue credit cards -- whether those used exclusively for purchases in their stores, or co-branded cards that can be used elsewhere -- for their marketing benefits.

Many stores give shoppers points later redeemable for free merchandise, and credit cards holders are a good audience for promotions that drive future traffic.

Most retailers outsource their credit operations to issuers like GE Money (GE.N) or Citigroup (C.N), which bear the brunt of bad loans. GE Money holds the largest portfolio of U.S. store cards, including those for Wal-Mart Stores Inc (WMT.N), Lowe's Companies Inc (LOW.N), and Gap Inc (GPS.N).