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NextCard finding e-niche

Biggest credit-card business on the Internet is thriving

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SAN FRANCISCO — With 1 million accountholders, NextCard Inc. has built the biggest credit-card business on the Internet.

Now comes the hard part: proving that it is sitting on one of e-commerce's few gold mines, rather than just another dot-com time bomb.

Using sophisticated marketing and data-mining tools, the San Francisco-based company believes it has found a way to rope in creditworthy borrowers while fencing out the deadbeats who leave lenders in a morass of losses.

"The Internet doesn't work for every business model, but it definitely works for credit cards," said John Hashman, NextCard's chief executive. "When the (dot-com) shakeout is over, we are going to be looked at as one of the companies that survived, thrived and won."

The company is built on this premise: The direct-mail marketing methods that worked so well for credit-card giants like Capital One, MBNA and Providian Financial will work even better on the Internet.

Applicants still get plastic; they'll just apply online.

NextCard is already different from most dot-coms. Its payroll swelled while many other Internet companies shriveled up and died. NextCard's work force has almost tripled in the past year, to 925 employees as of March 31.

As a measure of the company's confidence, NextCard predicts it will earn $150 million in 2003 — a major leap for a company that has lost $194 million since it began issuing its Visa card in December 1997.

Although NextCard is expected to disclose another substantial loss during its second-quarter earnings report Wednesday, Hashman predicts the company will break even by the end of this year.

With $1.6 billion in outstanding loans to its 1 million customers, NextCard's growth has been impressive — and a bit unnerving to industry analysts who worry that the company has issued too much credit to too many reckless spenders.

"They have proven they are very adept at getting new accounts," said industry analyst Michael Vinciquerra of Raymond James & Associates. "But what is going to really matter is whether their underwriting system works in this online channel, and that is still very much in the air."

Intoxicated by the Internet's promise, investors were initially enamored with NextCard. After completing its initial public offering at $20 per share in May 1999, NextCard's stock soared as high as $53.12 in late 1999. It's now trading around $10.

"Wall Street has been burned too many times by companies that say they are going to revolutionize an industry, and all they do is blow up," said analyst Richard Zandi of Deutsche Banc Alex Brown.

Analysts worry that NextCard's rapid growth is occurring in the midst of an economic downturn that has been especially rough on technology workers who spend above-average time online.

If anxious tech workers are applying for credit cards from NextCard before they get fired and then run into cash-flow problems, the company could be stuck with painful losses.

Like other credit-card lenders, NextCard's problem customers are on the rise. The company's delinquent accounts totaled $75.7 million, or 4.75 percent of loans, as of March 31, up significantly from $11.7 million, or 1.82 percent of loans, in the prior year.

"They are just making a ton of mistakes," Zandi said. "It's not a criticism of management. They are just staking out new territory in the industry, and mistakes are bound to happen."

NextCard says it tightened its credit controls late last year to reduce exposure to potentially troublesome new customers.

The company says it now rejects 80 percent to 85 percent of applications it receives. The review process typically takes just a few seconds.

"It's more important to find the right customers than the most customers," Hashman said. "We understand that you have to be very careful about which customers you accept on the Internet."

Despite the stricter controls, NextCard expects its delinquencies to rise again this year to somewhere between 6 percent and 7 percent of its loan portfolio — about the same as the rest of the industry.

Still, by building computer models that track the demographics of the traffic at specific Web sites, NextCard believes it can lure profitable business much more cheaply than other credit-card lenders.

By several important measures, it is succeeding. NextCard is attracting a quarter of all credit-card applications submitted through the Internet, far more than any other issuer, according to a survey this spring by Brittain Associates, a financial services consultant in Atlanta. Capital One was second with 18 percent.

And winning new customers isn't costing as much now because management is getting a better grasp on what offers work best at which Web sites.

NextCard spent an average of $49 on each new customer in first-quarter 2001, down from $95 a year ago and dramatically lower than the industrywide average of nearly $150.

The Internet's financial slump also helps NextCard — consistently among the Web's biggest advertisers — by giving it leverage to negotiate lower ad rates. NextCard's first-quarter marketing expenses fell 59 percent to $4.6 million from $11.2 million in the prior year.

"They are a well-oiled machine that is steaming right along," said Robert McKinley, chief executive of CardWeb.com, a credit-card research firm. "They seem to be one of the few issuers that has a handle on how the Internet works."