Capital One’s $35.3bn proposed takeover of Discover Financial Services would fuse two leading credit card lenders and give it control of a network that connects consumers, merchants and banks. The deal’s ability to win over competition regulators may depend on which business they focus on. 

The merger would reduce the ranks of the top 10 US credit card companies, leaving fewer options for consumers. Yet the addition of Discover’s card network, the fourth largest in the US, could strengthen a competitor to industry leaders Visa and Mastercard, Capital One has said. 

The tie-up, announced earlier this week, will encounter scrutiny in Washington, where regulators appointed by President Joe Biden have unleashed a crackdown on anti-competitive conduct across the US economy. An executive order in 2021 called for a “revitalisation of merger oversight” to “ensure Americans have choices among financial institutions and to guard against excessive market power”. 

Legal experts said that political backdrop means Capital One and Discover will have to walk a fine line. 

“The credit card industry is not very competitive, and consumers would be better off if Discover became a more attractive alternative,” said Rebecca Allensworth, professor of law at Vanderbilt University. “Still, I would predict that especially with this administration, it will be hard to argue that the way to solve flagging competition is to further combine firms and their economic power.”

Bar chart of $tn showing Discover is one of four major US card networks

Capital One has said it expects to complete the deal by early 2025. On a call with analysts on Tuesday, Capital One founder and chief executive Richard Fairbank said the bank would submit an application in the next couple of months to the Federal Reserve and the Office of the Comptroller of the Currency, contending the merger was “well-positioned for approval”.

While the Fed, the OCC and Federal Deposit Insurance Corporation have the authority to block deals under banking laws, the US Department of Justice may challenge bank mergers citing antitrust statutes.

Under antitrust head Jonathan Kanter, the DoJ is broadening the parameters used for bank merger assessments to include factors such as interest rates, fees and branch locations. The DoJ also advises federal banking agencies on what impact deals will have on competition.

“You have an industry that has definitely attracted more stringent review than others and you have an administration that has staked its reputation on being a different kind of sheriff, a much more aggressive sheriff,” said Jeff Oliver, partner at law firm Baker Botts and a former staff attorney at the Federal Trade Commission’s bureau of competition.

The FDIC, Fed and DoJ declined to comment. An OCC spokesperson said the agency had “not received a filing from Capital One regarding Discover Financial Services”.

Even before this deal, the Biden administration had signalled the view that bigger credit card companies had led to worse outcomes for consumers. Research by the Consumer Financial Protection Bureau showed that more than 80 per cent of the market for credit cards is controlled by 10 of the 4,000 banks that offer them, including Capital One and Discover.

The bureau also said that smaller credit card issuers offered cheaper interest rates compared to larger rivals, including Capital One. 

The market’s doubts about the probability of closing the deal are reflected in Discover’s share price, which on Wednesday closed well below the almost 27 per cent premium that Capital One has agreed to pay. 

Bar chart of $tn showing Capital One and Discover are two of the largest credit card companies in US

The transaction has reignited pushback from US lawmakers averse to banks amassing market share via mergers. Maxine Waters, the top Democrat on the House financial services committee, on Wednesday urged the DoJ and banking regulators to swiftly block the deal.

“Over the last few decades, we’ve seen the harm that market consolidation like this poses, and we know that consumers and entrepreneurs can be harmed when the biggest financial institutions get even bigger,” she said.

Lael Brainard, director of the White House National Economic Council, told CNBC on Tuesday that while she could not speak specifically about Capital One’s acquisition, she stressed that Biden remained very committed to restoring competition across all sectors. 

“For too long, we saw a lot of consolidation, which did not have benefits, but rather came at some costs. And so we’ve really seen a reinvigoration of the commitment to competition, which levels the playing field for small businesses,” Brainard said. 

Despite the resistance, TD Cowen analyst Jaret Seiberg wrote in a note to clients that the initial political response had so far been “less negative than expected”.

“We could hear more when Congress returns [from recess], though we believe many lawmakers may sit this out as they neither want to support Visa/Mastercard nor bank consolidation,” Seiberg wrote.

A person involved in the acquisition said that the combination between Capital One and Discover would establish a stronger challenger to Mastercard and Visa by bringing more consumers into Discover’s network. 

“The receptivity to bank M&A of size has not been high in this administration,” said Brian Graham, partner at financial services advisory firm Klaros Group. “The flipside of the antitrust or regulatory lens, from a payments network point of view with Visa and Mastercard, this is probably positive for competition.”

In September, Discover agreed to improve its consumer compliance management system under a consent order from the FDIC. Separately, it paid a $25mn penalty to the CFPB related to private student loan servicing practices. 

“Capital One is a healthy, well-managed, well-capitalised bank. Discover less so,” said one bank M&A lawyer. “Part of this is regulators having Capital One solve a problem for them.”

The ability to complete the takeover will also be a crucial barometer of other banks’ prospects for getting deals done, with industry executives widely believing that more consolidation is coming to a fragmented US financial industry. 

“If the deal is approved,” said Graham, “I think floodgates will open.”

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