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UBS held its fourth annual Electronic Payments Summit in New York on June 14, hosted by its senior Computer Services & IT Consulting analyst, Adam Frisch. The conference featured a surprising focus on privately-held companies of various stripes, from early stage innovators like Pay by Touch, to well-established merchant acquirers to Visa USA. I was able to listen in via a podcast.
Merchants in ISO-lation
I'm always gratified to see a panel on the acquiring business, particularly one focused on growing in the small business market. A panel consisting of several ISOs, including John Morris, the President of Pay By Touch, and Pam Joseph, CEO of Nova, covered a variety of issues in the merchant processing space.
A good deal of the discussion centered on the 800-pound gorilla that was not in the room, First Data, and how it might be increasing its focus on smaller merchants under the new leadership of Ed Labry. It was thoughtfully pointed out by Ms. Joseph that FDC has always been relatively active in that end of the market through its bank alliances. It will be interesting to see how these bank partners respond if they perceive increased competition from FDC’s owned portfolio at the lower end of the market.
Given the maturity of the market, it’s clear that acquirers and ISOs are increasingly specializing in specific verticals in order to maintain defensible positions and are also looking to ancillary services (check processing, gift cards, etc.) to help maintain revenue growth in a highly competitive environment.
On the processing side, Steve Erickson of EVO Merchant Services observed that ISO relationships with back-end processors will tend to be less sticky than those with front-end processors noting that “any time you touch the front-end, you need to plan for 20% merchant attrition.”
Prepaid Pay-Off
A short panel on prepaid cards spoke initially to a level of disappointment with the growth of card-to-card remittance solutions. It is clear that while the rewards in the money transfer business can be great, that business poses the largest number of regulatory and logistical challenges in the prepaid space. Panelists believed more immediate opportunity was available in healthcare and unbanked applications.
We continue to observe that the winners in this space tend to be processors rather than the issuers or distributors of prepaid cards. Perhaps more time is needed to fully develop value-added applications like money transfer, but in the meantime we’ll continue to bet on the guys selling the shovels rather than the miners.
MoboPay
(Even) Newer Payment Systems
Since the industry has been talking about mobile payments for several weeks already, the next panel focused on truly new payment systems and two panelists presented contrasting approaches to the market.
Net Spend focuses on a specific consumer segment with the lofty objective of “delivering economic citizenship to the unbanked”. They appear to be enjoying success in penetrating this market and are beginning to introduce a suite of products that expands beyond a basic prepaid payment card (savings, overdraft lines, mobile phones). Still, a look at their fee levels serves as a reminder that economic citizenship comes at a cost.
Gratis Card is a stealthy company approaching the space mainly from a merchant perspective, somewhat in the mode of Debitman. They represent a relatively radical and potentially disruptive player seeking to capitalize on the movement against interchange and working to create new accounts and funding mechanisms with a set of non-traditional banks/funding sources. As with Debitman, we’ll be looking closely for the development of a consumer value proposition sufficiently compelling to drive the desired behavior change.
We Didn’t Start the Fire
The lunch session featured a ‘fireside chat’ between Mr. Frisch and Elizabeth Buse, EVP of Product Management at Visa USA. Within the constraints imposed by her attorneys, I felt Ms. Buse made a solid case for the continued success of Visa in the US:
With respect to the MasterCard IPO, she reminded the audience that Visa competes with MasterCard’s product set not its capital structure and has done so with great success for the past several years. She suggested that the audience look to instances of issuers switching their card brand loyalty for evidence of which network is winning.
She explained how the recent change in Visa USA’s governance would have minimal impact on the process of setting interchange rates. Management will continue to suggest interchange revisions twice each year, but the recommendation will now need to be ratified by a Board committee comprised only of outside directors.
Asked about Bank of America’s threat to create its own payment network, Ms. Buse questioned whether such a significant investment could provide an adequate return to the company, especially in view of the “huge execution risk” it would entail.
She said that Visa would continue to selectively enter processing businesses (as it did with Visa Debit Processing), but only when needed to support the growth of branded payment volume. While she does not expect member support payments to increase in the future due to the MasterCard IPO, she did acknowledge that Visa’s profit margin in 1Q06 was restrained by the resigning of business agreements with some large issuers (along with higher legal costs).
In response to a question about how Visa had taken share from MasterCard in the US in recent years, Elizabeth responded that if she had to pick one thing, it would the execution of the Visa Signature card program, a product targeted to affluent consumers and conceived mainly to compete with American Express. She pointed out that Signature cards must carry a common set of benefits while leaving room beyond that for issuers to customize rewards. By contrast, bank-issued American Express cards do not currently offer the benefit package that American Express advertises for its proprietary cards (principally the very popular Membership Rewards program).
While Visa Signature carries a premium level of interchange (which is what was needed to keep issuers from defecting to American Express), she pointed out that they have balanced the value proposition for merchants by creating the Visa Incentive Network, a facility that helps Visa merchants target offers to these affluent consumers. According to Ms. Buse, payment volume on Signature cards rose 20% last year, versus 10% for consumer credit cards overall.
Finally, Elizabeth noted the biggest worry for the growth of Visa is not MasterCard, American Express, the ACH, or any other payment system; it is the continued confidence of consumers and merchants in the security of the system, which has obviously been shaken by recent breaches. She noted that this is a high priority at Visa and is being working mainly in conjunction with the acquiring community. Well said!Fine China
A panel on growth opportunities for processors in Asia reached the unremarkable conclusion that there are some, most especially in China. It appears that the main constraint on card growth in China is a limited acceptance network and the hope remains that preparations for the 2008 Summer Olympics in Beijing will address that issue.
While the nearly one billion bankcards in circulation in China make it a processor’s paradise, the issuing business may be a more restrained opportunity, given the dominance of debit cards and different cultural attitudes toward spending and borrowing. In a later panel, Jack Stephenson of McKinsey noted that annual credit card profits should reach $1.5 billion by the end of the decade, versus the roughly $30 billion in US credit card profits last year. Oh well, on to India.
Keep This Private
A panel of distinguished private equity investors shared their perspectives on investing in payments. In general, they appreciate the relative predictability of companies in this sector, though they find fewer opportunities to “overhaul” payment companies. Colin Roche of GTCR noted that many payment companies are characterized by high fixed costs and network effects, which means they must achieve scale in order to become cash-flow positive, an important requirement for his investments.
Panelists expressed their interest in areas such as emerging payment types, merchant acquiring, payday lending, and fraud detection/prevention. They were almost uniformly negative on the recent trend of “clubbing” wherein several private equity firms join together to accomplish a large deal (e.g., the recent Sungard buyout), citing among other things the potential loss of concentrated, quick decision-making and a dilution of the ability to add value in non-monetary ways.
Let’s Network
The day’s final panel covered issues surrounding the changes in payments networks in recent years. It’s amazing to me to think that only one major payment network (Visa) is controlled by a consortium of banks anymore!
The panel reached no strong consensus on whether MasterCard’s new ownership structure actually provides better liability protection to banks than does Visa’s governance structure. According to Wachovia’s Lorraine Fischer, it depends on who your lawyer is.
Panelists agreed that in the short-term, competition among card brands would continue to be focused on product innovation and facilitating the secular shift to electronic payments. Over time, MasterCard’s new structure could drive changes in management incentives and corporate risk appetite that might take the company in new direction according to Dr. David Evans, though it’s hard to predict the direction of such changes right now. Dr. Evans offered that new kinds of combinations would likely emerge, musing that a combination between MasterCard and Citigroup is probably less likely than a combination between MasterCard and Google.
In the near-term, it is possible that the most important trend is not governance changes but the massive consolidation of members/customers. As we’ve seen with Bank of America, large issuers can now make ever more credible threats to the status quo operation of the card networks, probably altering network behavior in the process. Clearly, large issuers find the networks’ traditional services less relevant at their current scale and will likely press the networks toward being more commodity providers of connectivity.
In discussing the emergence of new payment systems, McKinsey’s Jack Stephenson noted that most new payment schemes do not succeed, and those that do are typically extensions of existing systems with a new value proposition attached (think PayPal). The panel agreed that the current controversy around interchange probably creates additional impetus for innovative payment systems, but Dr. Evans wisely cautioned that successful innovations must provide real value-added and not simply capitalize on current imperfections in the interchange system.
The panel talked openly about whether interchange would even exist in a few years (naturally, no firm conclusions).
* * *
All in, a very interesting and useful day. Kudos to UBS and Adam Frisch for assembling a stimulating set of speakers and topics.
From Payment News from Glenbrook Partners
Merchants in ISO-lation
I'm always gratified to see a panel on the acquiring business, particularly one focused on growing in the small business market. A panel consisting of several ISOs, including John Morris, the President of Pay By Touch, and Pam Joseph, CEO of Nova, covered a variety of issues in the merchant processing space.
A good deal of the discussion centered on the 800-pound gorilla that was not in the room, First Data, and how it might be increasing its focus on smaller merchants under the new leadership of Ed Labry. It was thoughtfully pointed out by Ms. Joseph that FDC has always been relatively active in that end of the market through its bank alliances. It will be interesting to see how these bank partners respond if they perceive increased competition from FDC’s owned portfolio at the lower end of the market.
Given the maturity of the market, it’s clear that acquirers and ISOs are increasingly specializing in specific verticals in order to maintain defensible positions and are also looking to ancillary services (check processing, gift cards, etc.) to help maintain revenue growth in a highly competitive environment.
On the processing side, Steve Erickson of EVO Merchant Services observed that ISO relationships with back-end processors will tend to be less sticky than those with front-end processors noting that “any time you touch the front-end, you need to plan for 20% merchant attrition.”
Prepaid Pay-Off
A short panel on prepaid cards spoke initially to a level of disappointment with the growth of card-to-card remittance solutions. It is clear that while the rewards in the money transfer business can be great, that business poses the largest number of regulatory and logistical challenges in the prepaid space. Panelists believed more immediate opportunity was available in healthcare and unbanked applications.
We continue to observe that the winners in this space tend to be processors rather than the issuers or distributors of prepaid cards. Perhaps more time is needed to fully develop value-added applications like money transfer, but in the meantime we’ll continue to bet on the guys selling the shovels rather than the miners.
MoboPay
(Even) Newer Payment Systems
Since the industry has been talking about mobile payments for several weeks already, the next panel focused on truly new payment systems and two panelists presented contrasting approaches to the market.
Net Spend focuses on a specific consumer segment with the lofty objective of “delivering economic citizenship to the unbanked”. They appear to be enjoying success in penetrating this market and are beginning to introduce a suite of products that expands beyond a basic prepaid payment card (savings, overdraft lines, mobile phones). Still, a look at their fee levels serves as a reminder that economic citizenship comes at a cost.
Gratis Card is a stealthy company approaching the space mainly from a merchant perspective, somewhat in the mode of Debitman. They represent a relatively radical and potentially disruptive player seeking to capitalize on the movement against interchange and working to create new accounts and funding mechanisms with a set of non-traditional banks/funding sources. As with Debitman, we’ll be looking closely for the development of a consumer value proposition sufficiently compelling to drive the desired behavior change.
We Didn’t Start the Fire
The lunch session featured a ‘fireside chat’ between Mr. Frisch and Elizabeth Buse, EVP of Product Management at Visa USA. Within the constraints imposed by her attorneys, I felt Ms. Buse made a solid case for the continued success of Visa in the US:
With respect to the MasterCard IPO, she reminded the audience that Visa competes with MasterCard’s product set not its capital structure and has done so with great success for the past several years. She suggested that the audience look to instances of issuers switching their card brand loyalty for evidence of which network is winning.
She explained how the recent change in Visa USA’s governance would have minimal impact on the process of setting interchange rates. Management will continue to suggest interchange revisions twice each year, but the recommendation will now need to be ratified by a Board committee comprised only of outside directors.
Asked about Bank of America’s threat to create its own payment network, Ms. Buse questioned whether such a significant investment could provide an adequate return to the company, especially in view of the “huge execution risk” it would entail.
She said that Visa would continue to selectively enter processing businesses (as it did with Visa Debit Processing), but only when needed to support the growth of branded payment volume. While she does not expect member support payments to increase in the future due to the MasterCard IPO, she did acknowledge that Visa’s profit margin in 1Q06 was restrained by the resigning of business agreements with some large issuers (along with higher legal costs).
In response to a question about how Visa had taken share from MasterCard in the US in recent years, Elizabeth responded that if she had to pick one thing, it would the execution of the Visa Signature card program, a product targeted to affluent consumers and conceived mainly to compete with American Express. She pointed out that Signature cards must carry a common set of benefits while leaving room beyond that for issuers to customize rewards. By contrast, bank-issued American Express cards do not currently offer the benefit package that American Express advertises for its proprietary cards (principally the very popular Membership Rewards program).
While Visa Signature carries a premium level of interchange (which is what was needed to keep issuers from defecting to American Express), she pointed out that they have balanced the value proposition for merchants by creating the Visa Incentive Network, a facility that helps Visa merchants target offers to these affluent consumers. According to Ms. Buse, payment volume on Signature cards rose 20% last year, versus 10% for consumer credit cards overall.
Finally, Elizabeth noted the biggest worry for the growth of Visa is not MasterCard, American Express, the ACH, or any other payment system; it is the continued confidence of consumers and merchants in the security of the system, which has obviously been shaken by recent breaches. She noted that this is a high priority at Visa and is being working mainly in conjunction with the acquiring community. Well said!Fine China
A panel on growth opportunities for processors in Asia reached the unremarkable conclusion that there are some, most especially in China. It appears that the main constraint on card growth in China is a limited acceptance network and the hope remains that preparations for the 2008 Summer Olympics in Beijing will address that issue.
While the nearly one billion bankcards in circulation in China make it a processor’s paradise, the issuing business may be a more restrained opportunity, given the dominance of debit cards and different cultural attitudes toward spending and borrowing. In a later panel, Jack Stephenson of McKinsey noted that annual credit card profits should reach $1.5 billion by the end of the decade, versus the roughly $30 billion in US credit card profits last year. Oh well, on to India.
Keep This Private
A panel of distinguished private equity investors shared their perspectives on investing in payments. In general, they appreciate the relative predictability of companies in this sector, though they find fewer opportunities to “overhaul” payment companies. Colin Roche of GTCR noted that many payment companies are characterized by high fixed costs and network effects, which means they must achieve scale in order to become cash-flow positive, an important requirement for his investments.
Panelists expressed their interest in areas such as emerging payment types, merchant acquiring, payday lending, and fraud detection/prevention. They were almost uniformly negative on the recent trend of “clubbing” wherein several private equity firms join together to accomplish a large deal (e.g., the recent Sungard buyout), citing among other things the potential loss of concentrated, quick decision-making and a dilution of the ability to add value in non-monetary ways.
Let’s Network
The day’s final panel covered issues surrounding the changes in payments networks in recent years. It’s amazing to me to think that only one major payment network (Visa) is controlled by a consortium of banks anymore!
The panel reached no strong consensus on whether MasterCard’s new ownership structure actually provides better liability protection to banks than does Visa’s governance structure. According to Wachovia’s Lorraine Fischer, it depends on who your lawyer is.
Panelists agreed that in the short-term, competition among card brands would continue to be focused on product innovation and facilitating the secular shift to electronic payments. Over time, MasterCard’s new structure could drive changes in management incentives and corporate risk appetite that might take the company in new direction according to Dr. David Evans, though it’s hard to predict the direction of such changes right now. Dr. Evans offered that new kinds of combinations would likely emerge, musing that a combination between MasterCard and Citigroup is probably less likely than a combination between MasterCard and Google.
In the near-term, it is possible that the most important trend is not governance changes but the massive consolidation of members/customers. As we’ve seen with Bank of America, large issuers can now make ever more credible threats to the status quo operation of the card networks, probably altering network behavior in the process. Clearly, large issuers find the networks’ traditional services less relevant at their current scale and will likely press the networks toward being more commodity providers of connectivity.
In discussing the emergence of new payment systems, McKinsey’s Jack Stephenson noted that most new payment schemes do not succeed, and those that do are typically extensions of existing systems with a new value proposition attached (think PayPal). The panel agreed that the current controversy around interchange probably creates additional impetus for innovative payment systems, but Dr. Evans wisely cautioned that successful innovations must provide real value-added and not simply capitalize on current imperfections in the interchange system.
The panel talked openly about whether interchange would even exist in a few years (naturally, no firm conclusions).
* * *
All in, a very interesting and useful day. Kudos to UBS and Adam Frisch for assembling a stimulating set of speakers and topics.
From Payment News from Glenbrook Partners
