Systemic Impacts to Payments Value Chain
1. Destabilization of Payment Network
Acquirers today process over 25% of the entire U.S. GDP with a total exposure (as calculated using today’s risk models) of $21.5 billion. Should the FTC actions continue, there will be systemic changes along the entire payments value chain starting with the destabilization of the payments network. The ultimate responsibility of exposure resides with the Card Networks. Today, Card Networks, primarily Visa and MasterCard, are the final backstop to ensure the payments system does not collapse. If the non-bank acquirer is unable to absorb the chargeback and return losses due to bankruptcy, the liability moves to
the sponsor bank. If the sponsor bank is unable to absorb the loss, the liability shifts to Visa or MasterCard (i.e., the Card Network). Using today’s risk exposure models, the total industry exposure is currently 3.5 times Visa and MasterCard’s combined 2012 operating income. If overall industry exposure increased to $258.2 billion (if exposure were recalculated for all Visa/MasterCard card-not-present transactions), then the exposure to operating income ratio would increase to 42.5x, causing a severe destabilization of the entire payments value chain and risking 25% of the U.S. GDP.
2. Removal of Certain Industries from Payment Network
Acquiring industry leaders could adjust to the new risk environment by eliminating certain industries in which they do business today. This would include outbound telemarketing specifically, but may also include other telemarketing industries as well as any industry that sells a product that could naturally lead to higher disputes such as health and wellness, vitamins and supplements, pharmacy, and credit repair. Acquirers may even be less inclined to provide services to merchants that operate in an environment where the card is not present during the transaction, since the chargeback rules are more in favor of the
cardholder, or industries in which payment takes place prior to delivery of goods and services. This would encompass a significant segment of the acquiring industry to include all e-commerce, MO/TO, airlines, and furniture stores, for example.
E-commerce makes up almost 5% of total U.S. GDP, with roughly $118 billion in bankcard volume, and is expected to grow by 10% a year through 2016. The expected U.S. GDP growth according to the World Bank is 2.76% over the next five years. The expected growth rate drops to 2.37% if there is no growth in the e-commerce sector (based on First Annapolis analysis), which is possible if e-commerce merchants were prohibited or restricted from accepting cards either by acquirers’ unwillingness to process for cardnot-present merchants or the inability of some e-commerce merchants to absorb the price increase. Removing certain merchants from the current payments value chain would create a void that would either
not be filled (impacting the economy) or would be filled by less experienced, smaller, and under capitalized acquirers unable to manage the risks (impacting the viability of the payments network) or by off-shore bank acquirers that are not subject to U.S. jurisdiction.
3. Change in the Fundamental Role of Acquirers
The role of acquirers and processors would change based on the precedent of holding acquirers responsible of all transactions processed by a merchant client despite the processors’ role being limited to that of a credit card factoring service provider. The acquirers’ new role would now include the requirements to opine on the potential deceptive nature of a merchant’s business practice and its compliance with all federal, state, and local laws on an ongoing basis, well outside of its responsibility today. Effectively, acquirers are being mandated by the FTC to police merchants.
4. Change in the Competitive Environment
Smaller acquirers may opt to not serve one or many merchant verticals due to fear of government penalties or the increased cost of doing business, thereby granting large acquirers an oligopoly. New risk management costs and requirements may present barriers to entry for new players in a market that has experienced a large number of new and innovative players in the recent past (e.g., Square, Braintree,Groupon). Any of these changes would have a severe impact on the highly competitive merchant acquiring market.
5. Exit of Sponsor Banks
Today, sponsor bank fees average only about $0.01 per transaction. It is our belief that this pricing does not completely account for the risk sponsor banks absorb even today, and with a change in exposure, it is likely that the small number of sponsor banks that are in the market would be further reduced. As current Visa and MasterCard regulations require a sponsor bank for non-bank acquirers, the exit of sponsor banks will cripple the acquiring industry.
The FTC’s Potential Impact on the Merchant Acquiring Industry Prepared for the Electronic Transactions Association
First Annapolis Consulting, Inc.
July 15, 2014