Archives for July 2011

Life After Durbin: The Gloves Are Coming Off

This week Visa held its earnings call and one of the key announcements was a pricing restructuring. In what appears to be a direct response to Durbin regulations, Visa is lowering its variable per-transaction fees and introducing a “network participation fee” in the United States for all of its debit, credit and prepaid card services. The participation fee will apparently be based on a merchant’s size and the merchants’ number of locations. While not disclosing the specifics, Visa claims that the overall fees will be reduced. According to JP Morgan securities analysts, Visa has about 75% signature debit market share and 55% PIN debit share in the US, so clearly has the most to lose from the final Durbin ruling requiring all debit cards to carry two unaffiliated network badges. Many large issuers in the past carried both Signature and PIN networks from the same company (e.g. Visa/ Interlink or MasterCard/ Maestro); now, they will have to either change one of the networks or to add another network to their cards, which will give more routing choices to the merchants. Visa’s change to the pricing structure is designed to keep competition at bay and to encourage merchants to continue routing the transactions over Visa’s networks and benefit from lower transaction fees and economies of scale. The last thing that the networks need is a price war and Joe Saunders, Visa’s chairman and CEO was keen to make that point by saying “we have no intention, nor do we think we have to start, a race to the bottom” on pricing. Yet, it is clear that Visa does not intend to give up its leading market position without a fight. The gloves are coming off; it will be interesting to see how MasterCard responds. Their earnings call is next week – not long to wait.

Do Recent Announcements Bode Well for Same-Day ACH? Color me unconvinced.

Earlier this month Aptys Solutions announced the availability of same-day ACH support on its PayLogics platform primarily used by midsize banks. On about the same timing, Fiserv made known the availability later this year of a separately licensed module to its PEP+ product used by most large US banks. The enhancement is currently being pilot tested at Citigroup. So, it looks like in short order, the technical hurdles of same-day ACH adoption may be lowered for many US banks. Does that mean swift adoption of the service will follow? Color me unconvinced.

The Achilles heel of the new service is fundamental. A significant number of financial institutions must opt-in to the service before originating depository financial institutions (ODFIs) will have anything meaningful to offer to their customers. The service stands in sharp contrast to what has been one of the hallmarks of the ACH, namely “universal” accessibility among financial institutions. In Celent’s view, the opt-in nature of the new service combined with higher ODFI pricing has resulted in protracted adoption. Available payments platform upgrades won’t change this.

One might cite the rapid industry adoption of image exchange infrastructure over the past several years to argue that the opt-in approach is sound and should work again in the case of ACH. There are at least two reasons why this won’t be the case.

  1. Image exchange presented a compelling business case based on cost reduction from the start. Not so for the FedACH SameDay service, which carries a premium for ODFIs versus the next-day legacy service. Moreover, post Check 21, the Federal Reserve immediately began deconstruction of its physical check processing footprint. This created a significant and growing cost increase for financial institutions that persisted in paper check clearing, strengthening the business case for image exchange. There is no similar dynamic at work in the ACH.
  2. Image exchange–adopting banks didn’t have to sell the service to clients to benefit from adoption. Instead, image exchange began as a payment system innovation that later, once a critical mass of participation occurred, was offered to clients as image cash letter (ICL) deposits and accelerated funds availability. In the case of FedACH SameDay Service, without something to sell, there is little benefit to ODFIs beyond its use to settle on-us transactions (at a higher cost).

So, what can we expect? A number of large, early-adopter banks invested heavily in image exchange infrastructures, but significant industry adoption took several years. As more banks connected to the various image exchange networks, the business case for subsequent adoption improved. The same dynamic will be at work for same-day ACH. Early-adopting banks won’t have much to sell clients, because so few RDFIs will be available. Client adoption will fuel RDFI adoption, and vice versa.

What would be compelling, perhaps, is a broadly available same-day alternative accompanied by a NACHA rules change—particularly if both debits and credits were included. That would give banks something to sell, both for existing ACH customers, for expedited consumer payments (in return for a meaningful fee) and as part of the growing interest in mobile P2P payments.

Umpqua Bank understands retailing

This month I had the pleasure of riding the STP (Seattle to Portland) bicycle classic, a relatively flat 200 mile ride over a weekend. While the organizers provide food and rest stops, one can never have too much food and water on these events. There are ten thousand participants and we pass literally hundreds of retailers, shops, and financial institutions each day. Only one of them saw this as a marketing opportunity: Umpqua bank. umpqua They set up a tent with drinks, opened up their lobby with restrooms and coffee to passing cyclists, and dramatically increased their traffic to the branch. I actually heard one of my fellow cyclists saying to an Umpqua banker, “Yes you guys do have a branch near me.” It wouldn’t surprise me if he opens an account….

A Victory for the People but a Giant Loss for Common Sense?

Reader, I had to bite my tongue yesterday. A lot. Indeed, I had to wait until today so my blog was a blog rather than a rant.

Yesterday, the UK Payments Council said it had cancelled any plans to retire cheques in the UK , after severe pressure from MPs and from consumer groups.

The industry, more than 2 years ago, announced plans to sunset cheques by 2018, but promised to ensure that adequate alternatives in place. Cheques peaked in the late 90’s and have fallen continually ever since. They are still used by certain groups today, but equally, the average number of cheques written every day has fallen by 70%, and many large retailers will no longer accept them as payments.

Consumer choice is obviously important. I don’t blame the consumer groups here at all. A promise of an alternative is difficult to sell. That said, I note the same arguments were used for the move to chip & pin, yet a compromise was reached and Henny Pennys’ vision failed to materialize. 6 years on and it feels very strange to sign a card receipt.

What I do object to though is the politicians stance. The Cruickshank into UK Payment Systems, and the subsequent work by the Office of Fair Trading highlighted a series of issues that it felt the industry needed to respond to. Amongst them was the performance compared to other comparable nations, and a lack of innovation. This is why Faster Payments was born and almost forced through by the government, and on unachievable timescales. Yet, they’re keeping cheques, a method of payments with its roots in the 17th century. Only France in Europe has any volume of cheques. Most other countries got rid of cheques years ago. Did we even notice? In the global top 10 cheque users, the UK, at no. 5, is sandwiched between India and Iran, places (no offense to those countries) that the average UK citizen would feel are less sophisticated than the UK.

Equally at a time where the banks are under pressure to manage costs, especially those owned by the UK government, the banks are being asked to maintain the most expensive of all the UK payment systems, where the average transaction cost will only increase as volumes continue to decline.

The danger is that there is no longer clarity. Whether you approved of the plans or not, at least there were agreed objectives, timetables etc. Now, there is nothing. Consumer Focus, the UK government body, expects the payments industry to continue to develop alternates. Why? For who’s benefit? There is little incentive to create a replacement whilst maintaining cheques. This is the argument with SEPA and why the regulators are having to mandate a move away from the legacy schemes to the new schemes. Why does Consumer Focus believe that this will be any different? Furthermore, banks are wary about collaboration. Discussions around pricing cheques to consumers (they’re currently free) have always been avoided because of a belief that if they did it as an industry, it would be seen as a cartel action; and equally no one bank wanted to be the first in case others didn’t follow, leaving a catch-22.

My suggestion? Nationalize the cheque system. Let the government carry the cost. I suspect there will be quite a few people in the cheque world who’d be glad to pass the responsibility on to someone else.

Run Over By Regulation

I’ve written many times about the fact that new regulation often has unintended consequences. To be fair, whilst you can model and theorize, it’s often hard to judge what Joe Public or market will actually do. Sometimes though, you feel like saying ….duhh – what did you expect?! I think one that may fall into this category is the Australian intervention into credit card interchange. What follows is a very simplistic view obviously but it does highlight the challenges.

One element of the reforms was to allow merchants to surcharge in order to cover the interchange fee, in the belief that it made the fee more “transparent”. Latest research show that those merchants who did surcharge found consumers switched to a payment type that wasn’t surcharged. Long term, that will raise the cost of a merchants credit card transactions. It’s made the business less economic and reduced consumer choice – surely not what the regulator had in mind?

There would seem to be a parallel effect in Durbin. As merchants pushed for lower and lower rates, there were always likely to be less obvious impacts that are negative. It would seem decoupled debit is one of them. Tempo Payments, one of the first and most successful players, has announced that it is closing up shop as a direct result of Durbin. Tempo estimate that 50% of its revenues will be cut, making it unsustainable going forward. The draft regulation makes it very clear, that whilst Tempo may fall below the $10bn asset size, the ruling applies to the account which is being debited. The irony of course is that the decoupled proposition was positioned as a way of merchants sharing the interchange.

There are wider implications. If revenues are capped and are likely only to come down, how do you encourage new entrants to make the space competitive, or how do you drive innovation? The regulator is in a tough position – almost whatever it does will be considered to be wrong, for some party. If what has happened in Europe is an indicator of what will happen in the US – and I believe it is – then there will be a wave of further regulation and intervention. The US payments market ought to be anticipating this, and trying to take control of their destiny by considering reforms that may head off some of these interventions. Better to be driving the bus than being driven somewhere no-one wants to go – or being thrown under it, as Tempo seem to have been.

If Bankers are from Mars, Are Corporates from Venus?

As you may gather from some of my recent posts, it’s the speaking season. This post is the third in a row about insights and observations from recent speaking engagements. Whilst the core of being an analyst is about writing, getting out and talking to people is equally important, and equally as satisfying.

This time the occasion was to celebrate the opening of the new Dutch office for Clear2Pay. They had invited me to speak on the topic of SEPA, and whether banks and corporates were divided or united on its future. Generally my speaking engagements are either mainly bankers or mainly corporates, but this time there was an almost 50:50 split. I won’t replay the presentation here, but it is worth just highlighting a few key points.

I jokingly made reference to the headline of this blog, and got a few wry smiles. To make the point though more clearly, I used the opportunity to do some more informal polls of the audience and the results were startling. But perhaps the most surprising was when asked who would benefit from SEPA. Whilst I expected the corporates to say bankers, the 2 groups were actually united – they both almost universally believed that no-one would benefit from SEPA.

My presentation was making the case for SEPA. It drew parallels to the role that canals and railways played as the infrastructure required to accelerate the Industrial Revolution. SEPA is the equivalent infrastructure required to accelerate a digital and data based future for banking and payments, and ultimately, business in Europe. Once upon a time payments were really defined by the networks they ran over. Then the industry moved to a point the commonality between payment types were more prominent (the move to “a payment is a payment is a payment”). We’re now at a stage where a payment is increasingly defined by the data it carries, and focusing on enhancing how that data can utilized.

Payments is now as much about what it enables and supports, and that’s what SEPA has built with in mind. The example I used was e-invoicing, and the potential savings that could be gained. Almost everyone in the audience underestimated these savings by a factor of at least 10. The best estimates put the figure at around €240bn, of which the banks and corporates were the key beneficiaries. Yet for many in the room, this was news and eyeopening.

Its probably not surprising then that I won the day, with the final vote of the evening showing almost everyone now believed that banks and corporates would be the key beneficiaries from SEPA.

This event serves to highlight some alarming deficiencies in understanding what SEPA enables, even at this late stage. It’s easy to point the finger at the banks at not educating their clients better. In part, this is probably because banks want to have the whole answer first, and that’s still not possible. But equally, I suspect that it also means that corporates are less engaged with their banks than they ought to be. It is telling in that the latest SEPA corporate survey, only 1/3rd of the respondents were getting information on SEPA from their bank. Banks may not be the largest supplier to a corporate, but they are probably one of the most critical. Engaging their bank in dialogue is the minimum that a corporate should be doing. However the best way to ensure that the banks are delivering the services that they require is to tell them.

Corporates may not have been involved in the inception of SEPA, but they can be part of it’s future, especially as in reality they are paying for it. SEPA is a once in a lifetime opportunity to create the right foundations for the future. How successful they are is entirely down to ALL the participants.

PayPal opens up the market for the unbanked

EBay / PayPal has acquired Zong, one of the leading companies in mobile payments. What did they buy? First they bought relationships with hundreds of mobile network operators (MNOs) who trust Zong enough to allow them to bill the MNO’s customer accounts. PayPal knows how to bill a bank account or a credit card, but doesn’t have these relationships. This is huge. It suddenly makes the PayPal addressable market not just those people with bank accounts, but those people with mobile phones. Secondly, they bought relationships with lots of merchants, merchants who are willing to pay far more for payments than PayPal merchants. Merchants take up to 30% haircuts on Zong payments. These tend to be digital goods with very high margins. If PayPal can move any of these accounts to bank funding it is a big win. Finally they are buying lots of customers, but I don’t believe that these customers were the reason PayPal bought the firm. PayPal has 100 million active accounts. What should happen with this new combined entity? PayPal will offer existing Zong customers a new funding mechanism right off the bat. I also expect PayPal will use their muscle to reduce the discount Zong/PayPal must accept from MNOs. Finally they will also work on creating a new mobile payment platform for the unbanked. It will have a higher interchange rate than the existing PayPal platform, but will open up a entirely new category of customers to mobile commerce. What do you think will happen?

Truth in numbers? “Registered users” is a crock

This morning, TechCrunch published an article titled, With Top Banks In Tow, Financial Service Provider Yodlee Hits 30 Million Users. Here are the stats: – has 5 million registered users – Yodlee has 30 million registered users Both figures are impressive, so congrats to the vendors. However, as an analyst, I don’t care too much about registered users. I want to know of the total number of registered users, what percent are ACTIVE. The definition of active matters as well. It’s great that people are interested enough to register, the bigger question is whether or not they are engaged enough to return. I first blogged about this when was acquired.

Something In the Water? Western Union and Travelex Ensure The (Corporate) Marriage Season Continues

Is it something in the water? It’s been an incredible few weeks for corporate marriages. From Fundtech and S1 to Fiserv and CashEdge, from Visa and Fundamo to now Western Union and Travelex Global Business Payments. An estimated $24bn B2B cross-border payments market is growing rapidly, driven by both the demand side, such as growth in international trade, and also by the supply side. In the past, small-to-medium-sized businesses (SMEs) had to rely mostly on their local banks to execute international payments – often, a slow and costly proposition. However, over the last few years companies such as Western Union, Travelex, Earthport and others started offering a viable cheaper and quicker alternative. With this deal, Western Union significantly strengthens its position as a cross-border payments player. An acquisition of Custom House in 2009 added B2B payments capabilities to Western Union’s consumer remittances franchise. This acquisition scales up that capability, both in terms of market coverage and customer base. With GEO, Travelex’s “next generation” payments solution announced in Sibos last year, Western Union gets a payments platform that can be offered to Financial Institutions as well as SMEs. Travelex has recently been divesting some of its assets, presumably those that don’t quite fit with the future vision of its Private Equity owners. The company announced a sale of its prepaid Card Program Management (CPM) operations to MasterCard for £290 (US $458) million in cash in December 2010. This week’s deal is worth £606 (US $ 976) million in cash. In December 2010, GEO was crowned as “Innovation of the Year” by Financial-i, an industry publication, and had to beat the major global banks and top-tier software providers to receive that award. By acquiring it, Western Union confirms its intentions to be a formidable player in a fast growing segment of a payments market. So, who do you think is next in line to get married?

Hey FFIEC, Is This Really Guidance?

Last week the FFIEC issued the long awaited Supplement to Authentication in an Internet Banking Environment. I read through the 12 page report (it’s actually 8 pages with a 4 page appendix), and kept reminding myself that I should try to look at this in a cup half full manner. Yes, I can be a cup half empty kind of a guy, however I must say that this document doesn’t say much that most banks don’t already know. The wording is vague, open to interpretation, and unclear. It’s a great read for someone who is new to the space that wants to get a high level overview of some of the challenges banks are facing. I know that banks are going to be placing a lot of energy into analyzing this document, and making sure they can follow the so-called guidance. The first problem is the title – Supplement to AUTHENTICATION. Authentication is was definitely a big deal back in 2005 when the first iteration of this document was released. At this stage of the game, it really doesn’t mean much. Sure, all banks should have it, and yes they should pay attention to new solutions that can enhance authentication. Today, with current threats and attacks, authentication is about as useful as a security guard that is placed in front of a bank building. The guard can scare people off, and provide the appearance of security. If criminals or terrorists want in, we all know that the guard is nothing more than a useless sentry. So sure, let’s keep on forcing customers to use the familiar image/phrase/challenge question routine for online banking. But let’s accept the fact that multifactor authentication, even using hard tokens, is pretty useless. The document keeps referring to layered security – that’s a good thing. But how long have we been hearing that for? Great that its down on paper given that it’s so critical. It’s the most important step a financial institution can take but a lot more detail and guidance is required here. There was quite a buzz regarding the fact that the document doesn’t discuss mobile banking security. That ties back to the vagueness of the document. Personally, that doesn’t bother me as much. The info in this doc has to be consumed with the understanding that consumers and businesses are using a range of electronic devices – PCs, mobile phones, tablets, etc. Yes, there are going to be security issues that are device category specific. It would have been nice to see things laid out a little more clearly, or at least recognition of this trend. On page 3, the document goes over high risk transactions. The overly structured section misses a key point – as features migrate out of the branch for cheaper self service alternatives (think consumer wire transfers online) the risks increase. Financial institutions need to plan for these changes now and understand that the online channel is already handling higher risk consumer transactions. In my opinion, the most important section of this document should have been customer awareness and education. It takes up approximately half a page. Banks do a very poor job of educating customers, and there are tons of examples to prove it. Since the consumer is the weakest link in the equation, this clearly requires a lot more attention. Can I be a curmudgeon? Absolutely. Is it warranted in this case (objectively speaking of course)? Without a doubt.