The complex and competitive US
merchant acquiring sector is looking ahead to a disruptive year as
the retail sector begins to embrace alternative payments
technologies, and major regulatory changes force issuers to
reassess their own business models. Charles Davis
reports
Go deeper with GlobalData
Access deeper industry intelligence
Experience unmatched clarity with a single platform that combines unique data, AI, and human expertise.
Thriving on economies of scale, the US
merchant acquiring business is dominated by a handful of powerhouse
processors. This seemingly stable market faces two major disruptive
forces that could challenge the dominance of the larger players and
allow new upstarts to wedge their way in: mobile payments and the
economics of debit signature and PIN debit transactions following
the implementation of interchange fee regulations implemented in
October 2011.
The hottest trend in merchant acquiring at the
moment is undoubtedly the focus on developing and selling mobile
card acceptance to the tens of thousands of small, “mom-and-pop”
merchants scattered across the country.
No one knows just how vast this so-called
micro-merchant category really is, but David Fish, a senior analyst
at Mercator Advisory Group, estimated the market at about 16.5
million in a recent report, The US merchant acquiring industry
in 2011: Going Mobile.
Fish highlights the vast array of different
solutions available to merchants, identifying 63 available
applications that enable smartphones to accept card payments. This
is a great opportunity for acquirers to act as trusted agents in a
dizzying transition from cash and checks to electronic payments.
Smaller merchants will need help in wading through all the
potential solutions and coming up with the right approach.
US Tariffs are shifting - will you react or anticipate?
Don’t let policy changes catch you off guard. Stay proactive with real-time data and expert analysis.
By GlobalDataThe truly revolutionary part of mobile payment
acceptance, Fish says, is that mobile applications cost but a
fraction of countertop POS terminals, driving down costs to both
merchants and acquirers, who will save purchase and inventory costs
if they provide free applications to merchants. And training and
implementation costs will plummet, because most merchants who
already have smartphones likely know how to download
applications.
Kurt Strawhecker, managing partner at the
Strawhecker Group, a merchant acquiring consultancy, says that the
changes underway in mobile payments could change forever the
dynamics of the merchant acquiring business.
“You have to move toward mobile or be left
behind,” he says. “The alternative players like Square, Intuit and
Google all can just route right around the existing merchant
acquiring market. There could be a seismic shift here in the
traditional acquirer market.”
Squaring up
The most disruptive player of all might very
well be Square, the payments-accepting cube co-founded by Twitter
executive and celebrity entrepreneur Jack Dorsey. Square’s card
reader attaches to a mobile phone and enables any merchant to
collect payment for services.
Its latest product –
Card Case – allows a cardholder to initiate a transaction by
speaking their name into the mobile phone, and to make purchases
without removing their mobile device from their pocket or purse at
all. Card Case leverages the location-based service enhancements in
Apple’s IOS 5 platform update to identify when a user’s smartphone
is within 100 meters of a participating merchant. Consumers who’ve
opted into the Card Case service and attached a credit or debit
card to their Square account can automatically open a tab with the
retailer and pay for the transaction simply by giving their
name.
Square, which recently changed its pricing
model from a 15-cent per-transaction fee to 2.75 percent of the
sale, is already valued at more than $1 billion. It company is now
processing $11 million in transactions a day, almost three times
the $4 million a day the company quoted in late July.
If Square decides to service large merchants
directly, it could prove a huge threat to the established merchant
acquiring business. Its latest move signals its aggressiveness, as
it teamed with Wal-Mart to bring the Square card reader to the
shelves of the world’s largest retailer.
Dodd Frank dynamics
In addition to the changes being ushered in by
mobile, the regulations in the Durbin Amendment to the Dodd-Frank
Act, which cap fees card-issuing banks can collect when their
customers use a debit card to make a purchase, have the potential
to drastically alter the overall debit market place, according to
TSG Metrics, a division of The Strawhecker Group.
TSG Metrics predicts that consumer influence
in payment method preference is likely to be substantially
diminished as consumers are steered towards spending habits that do
not benefit them, but that benefit banks and merchants instead.
Because most merchants who sell predominantly
small-ticket items will likely see increases in their interchange
fees compared to pre-Durbin costs, these merchants will deter
consumers from using debit for small-ticket items. Regulated banks,
meanwhile, are encouraged by the caps to push consumers towards
debit usage for these smaller purchases and are no longer incented
to drive towards higher-ticket usage since no additional revenue is
produced from a larger ticket. Banks are now more inclined to drive
consumers towards credit card usage instead, which may be achieved
by increasing fees for debit services or by placing greater
restrictions on average account balances for free debit card
use.
This puts banks in a difficult position when
it comes to debit. Consumers prefer using debit cards now more than
ever, with volumes surpassing those of credit cards for the first
time in late 2008. Despite this, consumers are now disenfranchised
as merchants and banks will fight to push merchants towards
utilising payment methods that favor their new positions due to
Durbin.
The Durbin Amendment regulates only
card-issuing banks’ interchange fees, not the various additional
fees that go to other companies that make debit card transactions
possible.
The interchange environment is likely to
continue to cloud the merchant acquiring picture in the coming
months and years as acquirers re-price to reflect new market
realities, but clearly the investment community’s belief in the
sector is unshaken.
Investors continue to flock to the acquiring business it fared much
better than the issuance side of the business during the recession
and is well positioned to capitalise on a recovering consumer
payments market that is rapidly moving away from cash and cheques
and toward electronic payments.
Market movements
The past two years have witnessed an active
capital flow towards the merchant acquiring market. In 2009,
private equity firm Advent International bought a 51 percent stake
in Fifth Third Bancorp’s processing business. The deal created a
rebranded company, Fifth Third Processing Solutions, valued at
$2.35 billion. Fifth Third Processing Solutions then purchased
TownNorth Bank’s TNB Card Services, which processes and acquires
for credit unions in 27 states, and followed that deal a few months
with the acquisition of National Processing Co. of Louisville,
Kentucky. Fifth Third Processing Solutions also bought Springbok
Services, a Colorado-based firm with a reloadable prepaid
card-processing platform.
Advent later in 2010 teamed with Bain Capital
to acquire a controlling stake in RBS WorldPay, the processing unit
of The Royal Bank of Scotland Group. RBS retained a 19.99 percent
stake in the company.
TSYS also has made major moves in processing
and merchant acquiring, forming a joint venture with First National
Bank of Omaha, First National Merchant Solutions LLC, after
acquiring a 51 percent stake in First National’s merchant-acquiring
unit. A year or so later, TSYS bought the remaining stake.
Earlier this year, TSYS acquired TermNet
Merchant Services, an Atlanta-based merchant acquirer with a
national base of more than 327,000 merchant locations. TSYS has
rebranded TermNet with the TSYS name and integrated it with TSYS
Merchant Solutions.
The merchant acquiring arm of TSYS, Total
Acquiring Solutions is now among the largest acquirers in the US –
making it hard to believe that TSYS really only entered the direct
merchant acquiring when it set up the First National Merchant
Services joint venture with First National Bank of Omaha (and
subsequently buying FNBO out). Today, TSYS processes for about 3
million merchants, and it owns the acquiring relationship with
about 100,000 of them, processing for about 380 million or so card
accounts around the world.
“The economy certainly is continuing to effect
us, but we good transactional growth in our space, and the
potential now exists for expanding the transactional market through
mobile,” says Mark Pyke, president of TSYS Merchant Services.
Eric Barth, senior director of Product
Management, adds that TSYS is focusing its efforts on deployment of
a proprietary mobile solution as well as a partnered mobile
application, both aimed at the smaller merchant looking to migrate
from cash and checks to electronic payments.
“What gets most of us really excited is
expanding the market to those merchants, like home services
companies, small operations that now can get up to speed in
seconds,” he says. “The displacement of checks really runs value
all the way down the chain.”
TSYS also is interested in moving mobile at
the point of sale through supporting wallets, although work remains
to be done on that front, Barth says.
“The question is: how merchant acquirers play
here,” he says. “There is no question that enabling merchant with
near-field communication will be a huge lift, but the benefits are
tremendous.”
The subsequent question then becomes whether
merchant service providers need to develop their own systems or
partner with an existing vendor.
Room for smaller players
Thanks at least in part to the abundance of
relatively inexpensive platforms hitting the market, Strawhecker
says that smaller and middle-sized acquirers continue to chip away
at the dominance of the bigger players.
“In 1988, 39 percent of all processing volume
dollars were controlled by the top 10 players,” he says. “By 1997,
the top 10 controlled 66 percent, and in 2005, 84.5 percent. Today
that number has dropped back to 79 percent, but the barriers to
entry in merchant acquiring are much lower than they used to be,
and there are so many ready-to-use platforms out there than new
entrants enter the market all the time.”
Strawhecker says that the emergence of mobile
solutions offer an opportunity for acquirers to enter into
innovative new partnerships and compete in a whole new set of
merchants.
“It’s not good, bad or indifferent, it just
is,” Strawhecker says. “The acquiring business changes all the
time, and it’s how acquirers deal with the change that determines
the winners and losers. Acquirers are looking for new
non-traditional partners, finding niches in the small merchant
market, and in vertical sectors, getting really close to the
merchant base.”
The shape of merchant acquiring in the
US
Amid the maturation of the US cards industry,
the growth of debit and prepaid and the rapidly-changing regulatory
environment, it’s easy to lose sight of the fact that the credit
card merchant acquiring function remains an essential piece of the
electronic payments marketplace.
In these tumultuous times, the relative
stability of the merchant acquiring market can act as a critical
buffer from the vagaries of card issuance, which generates income
by managing credit risk and interest spread. The merchant acquiring
function, by contrast, creates fee-based revenue by handling,
routing, and settling transactions.
The merchant acquiring and payments processing
market in the United States includes a variety of business
structures that co-exist in a rather complex ecosystem. At one end
are acquiring banks, such as Fifth Third, that provide most of the
relevant services directly to merchants. In other cases, banks and
large non-bank acquirers have formed joint ventures – such as
Paymentech, a joint venture between JPMorganChase and First Data
Corporation. Under this arrangement, JPMorganChase serves as the
banking sponsor into the payment network.
Yet another model, best illustrated by
Heartland Payment Systems, features merchant acquiring services
under contract with a sponsoring financial institution. Heartland,
a publicly-traded company, provides virtually all market services
for its merchants.
With each of these models are dozens of
specialised service and transaction processing companies that
provide everything from sales and merchant servicing to purchase
transaction processing, terminal support, encryption servicing, and
statement processing.
Finally, there are the independent sales
organizations (ISOs), which focus on signing up new merchants for
payment card acceptance and managing merchant relationships.
