How Does Discover Make Money? Business Model of Discover


How Does Discover Make Money

Discover is a popular banking company and payment processor. The company differentiates itself from competitors by charging zero annual fees on all of its cards.

Discover primarily makes money via interest fees. It also makes money from interchange and transaction revenue, protection products, and loan fees.

Introduced in 1985 by Sears, Discover stood out from the competition with higher-than-average credit limits and no annual fees. The idea for this card was conceived by Sears’ credit manager, Ray Kennedy Sr.

The first ever purchase on a Discover card was made by a Sears employee in an Atlanta store, with an order value of $26.77. In 1986, the card was launched nationwide and promoted through a Super Bowl commercial. By 1989, the company had acquired one million merchants in its network.[1]

What is Discover & How Does It Work?

Discover is a banking and financial services provider that also issues its own credit cards. The company offers savings accounts with interest rates that are significantly higher than the national average. Users can open an online savings account with Discover with no minimum deposit value, and an annual percentage yield (APY) of 2.15%.

For reference, the average savings account earns an interest of just 0.08% each year.[2] Discover also has Certificates of Deposit (CD) accounts with extremely flexible terms that range from three months to ten years. The interest rates are as high as 3% on a 12-month CD account, which is significantly above most other American banks.

Users who have a Discover bank account or credit card get 24/7 US-based customer service. The company has consistently ranked at the top for customer satisfaction. In J.D. Power’s 2022 U.S. Direct Banking Satisfaction Study, Discover’s checking account ranked number one.[3]

The number two spot was taken by Discover’s online savings account.[4] Discover’s credit cards are also loved by middle-class customers all over America because these cards don’t carry any annual fees. In 2021, the company ranked second after American Express in J.D. Power’s credit card satisfaction study.[5]

For customers who draw money frequently but also require good interest rates, Discover offers a money market account. Owners of this account earn 2.05% APY if their balance is under $100,000 and 2.1% APY if it is over $100,000. As the account is targeted at frequent spenders who belong to the middle-income bracket, there is no minimum balance fee.

Money market account holders also won’t be charged an excessive withdrawal fee, account closure fee, or insufficient funds fee. With their Discover debit card, account holders can access over 60,000 ATMs across the country. They can also make bill payments online.

In addition to bank accounts, Discover also offers loans. Currently, the company offers student loans, personal loans, and home loans. Discover student loans have no application, origination, or late fees.

Discover even offers cash rewards to students who score good grades and it covers 100% of school-certified costs. Like student loans, personal loans also don’t carry any origination fees.

For homeowners, Discover provides debt refinancing and equity loans. Loan amounts range from $35,000 to $300,000. Discover doesn’t ask for closing charges on home loans.

Finally, Discover offers credit cards with no annual fee. This applies to every single one of its cards. This is why 59.8 million Americans were using Discover credit cards in 2020.[6]

Discover’s website allows users to check their eligibility for a credit card within minutes. This is a soft check which doesn’t impact their credit score. Discover has credit cards for students, diners, travelers, and entrepreneurs.

Many of these cards have a 0% introductory annual percentage rate (APR). The introductory offer usually lasts 15 months from the account opening date. Discover offers cards to prime borrowers, who generally have a FICO score of 670 or more.[7]

Students applying for a “Chrome” or “Discover it” credit card don’t need to have a credit history. Since Discover manages both the issuing and payment processing, it can provide a very consistent user experience across its entire product range. Discover offers unique cashback offers on each of its cards.

For example, the Student Chrome card earns 2% cashback at gas stations and restaurants. Meanwhile, their Travel card earns 1.5 miles for every dollar spent. Users can easily manage their bank accounts, loans, and credit cards from the Discover app.

 

Business Model of Discover

Discover splits its operations into two separate segments – Banking services and Payment services. The banking side of operations deals with deposits, issuing of cards, and loans. Payment services deal with transaction processing and settlement.

This includes the Discover Global Network, which is the payment processing system used by merchants around the world to service Discover account holders. Discover earns money from interest on its deposit and loan accounts. It also provides credit cards, which can be used at over 60 million locations.

Every time a merchant processes an order through one of Discover’s cards, they pay an interchange fee. This is the fee Discover charges for allowing the merchant to access their network. Discover handles the clearing and settlement of funds between the buyer’s bank account and the merchant’s bank account.

Transactions are completed within seconds, while also being safeguarded by a multilayer security system. Customers get the convenience of making payments digitally with a swipe of their card, while merchants get increased store traffic and order volume. Discover operates what is known as a closed-loop payment system, meaning it acts as both the issuer and acquirer.

The company has its own financial division, which deals with banking and securities. Hence, Discover cards don’t need an issuing bank. Discover saves on the revenue split that it would otherwise have to share with a bank.

Customers also get a more tightly integrated service system with faster response times and satisfactory resolutions. Discover can process refund requests, payment disputes, and lost card reports much faster than its competition. This helps generate more loyal customers who use Discover cards for most of their purchases and recommend the company to their contacts.

The company is also famous for not charging any annual fees on its cards. Despite that, it offers very attractive cashback and rewards options. This entices customers to use Discover cards for their high-value purchases, so they get more cashback.

By diversifying its business into multiple segments, Discover generates very stable sources of revenue. It is one of the four biggest credit card companies in the US. The other three are Visa, MasterCard, and American Express. This is why most merchants accept Discover cards, otherwise, they would lose out on a large segment of the market.

Discover relies on a loan-focused operating model, since it doesn’t have the affluent userbase of American Express or the volume of Visa. The company earns a lot of its revenue from interest on loans. Hence, it incentivizes customers to keep spending through cashback and rewards programs.

By focusing on its key business segments and efficiently managing portfolios, Discover has managed to stay profitable in a highly competitive market. It also places a lot of importance on the quality of its customer service. This is one of the reasons why Discover has a very satisfied and loyal userbase.

Unlike traditional payment processors, Discover is the risk-bearer for its own cards. This means it is more susceptible to market volatility during periods of economic recession. Discover maintains a low delinquency rate by catering to prime customers who have a FICO score of 660 or more.[8]

Discover’s main rival is American Express, as they offer similar services. Both Discover and American Express provide closed-loop payment services. They act as both the issuer and payment network.

American Express has better membership rewards and purchase protection. Discover has no over-limit fees and doesn’t charge an annual fee. American Express has better premium cards with its Platinum and Centurion tiers, but they have very high fees and credit requirements.

Generally, Discover cards focus more on cashback. In comparison, American Express has exclusive membership rewards that can’t be found on other cards. Discover is a more affordable choice for middle-class individuals and students.

Discover has significant operating costs. These include marketing costs, networking infrastructure costs, service costs, and salaries. In 2021, the company spent $4.8 billion on operating expenses.[9]

Most of the operating expenses came from employee compensation and benefits, which amounted to $1.9 billion. Marketing and business development took up $810 million. Information processing and communications cost $500 million.[10]

 

How Does Discover Make Money?

Discover makes money from two different revenue streams. These include interest income, interchange and transaction revenue, protection products, and loan fees, transaction processing.

In 2021, Discover earned $12 billion in total revenue. Interest income accounted for $9.5 billion or 79.1% of the total revenue.[11]

Discover aggregates the money it makes from things like interchange revenue, protection products, loan fees, and transaction processing into one category. This is called ‘Other Income.’ In 2021, it accounted for $2.5 billion in revenue or 20.8% of the total revenue.[12]

Interest Income

Discover makes the majority of its money from interest income. In 2021, the company earned $8.7 billion from interest on credit card loans.[13] This is the interest paid by customers on their credit card balance when it rolls over into the next month.

Discover also made $1.7 billion from other loans, which refer to the various loan services provided by the company. These include student loans, personal loans, and home loans. Investment securities contributed another $182 million to interest income.[14]

 

Interchange and Transaction Revenue

Discover makes money in interchange fees when customers use their Discover credit cards to pay for purchases.

However, unlike Visa or MasterCard, Discover doesn’t make most of its money from interchange fees. In 2021, interchange fees brought in $1.2 billion for the company. is just 10% of its total revenue for the year.[15]

 

Protection Products

Discover sells products like payment protection and ID protection services to its customers. Payment protection protects customers if they are unable to pay for their credit card or loan payments due to unemployment, disability, or medical issues. Discover pays their loan or credit card until they are able to begin paying it again. This costs a monthly percentage of their loan or credit card balance.

ID protection services carry a monthly fee to have Discover monitor a customer’s credit and support the customer if they have their identity stolen. Protection products earned Discover $165 million in 2021.[16]

 

Loan Fees

In addition to charging interest on loans, Discover charges fees on many of its loan products such as its student loans or personal loans. These include things like late fees, origination fees, and other fees. Discover made $464 million from loan fees in 2021.

 

Discover Funding, Valuation & Revenue

Discover Financial Services (DFS) is currently a public company trading on the New York Stock Exchange (NYSE). Discover made its debut on the NYSE in July of 2007, with an introductory stock price of $26.[17] As of October 2022, the company’s stock traded for just under $94 at a valuation of $25.65 billion.

Discover hasn’t gone through any public funding rounds. This indicates that the company is making more than enough money to sustain its growth and development for the foreseeable future.

Between 2008 and 2011, Discover acquired four organizations. Notable acquisitions include Student Loan Corporation and First National Bank Alaska.[18]

Discover has been profitable for a long time. In 2021, the company made $12 billion in revenue. It also had a net income of $5.4 billion, which is a 377% increase over the $1.1 billion it earned in 2020.[19]

YearTotal RevenueNet Income
2019$11.4 billion$2.9 billion
2020$11 billion$1.1 billion
2021$12 billion$5.4 billion

 

Is Discover Profitable?

Discover is very profitable, with profit margins approaching 45% for the fiscal year of 2021. The company made $12 billion in total revenue in 2021 with a net income of $5.4 billion.[20]

The company is likely to stay profitable in the future as credit card usage keeps growing worldwide. With it, the number of people using Discover for its generous cashback and rewards programs will also grow.

In addition, more people are switching to online banks. Given that Discover has some of the most well-reviewed accounts, it is well-positioned to take advantage of that trend.

 

Conclusion

Discover is a company that has been around for decades, and they are still going strong. They are always changing and adapting to fit with the times, but they have always stayed true to their mission of helping people take control of their finances.

We believe that Discover is well-positioned for long-term growth. The company offers a wide range of products and services that make life easier for its customers—and as long as it continues to provide these things, it will continue to thrive.

We hope you now have a deeper understanding of how Discover makes money and what they do to stay ahead of the competition. If you have any questions about Discover’s business model, please reach out to us, and we’ll be happy to help.

Thanks for reading!

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Sources

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