By Ken Musante and Jon Shipley
Eureka Payments LLC, Select Bankcard LLC
When Visa Inc. and MasterCard Worldwide were card associations, they would contract with issuing banks and acquiring banks. All other entities had to be sponsored to service cardholders or merchants.
The reasons for sponsorship have been detailed many times before. In short (aside from the fact that the associations were owned by their member banks) by engaging only with financial institutions, Visa and MasterCard could ensure their counterparties were appropriately funded, regulated and required to provide consistently formatted, quarterly financial statements. After all, if one of their issuing or acquiring members failed, Visa and MasterCard would have to stand in and ensure settlement continued uninterrupted.
When Discover Financial Services moved from a closed system to allow full acquiring, it stretched the boundaries of its contractual partners. Discover contracted with acquiring banks, but it also recognized the changing infrastructure and allowed contracts with some full-service acquiring ISOs. This enabled Discover to roll out its acquiring program more quickly and ensure fast adoption and merchant acceptance on par with Visa and MasterCard. This was a more aggressive position than undertaken by either Visa or MasterCard. Consequently, when American Express Co. rolled out its full acquiring solution, we were surprised it didn't adopt Discover's model and, instead, put its service at a disadvantage compared with other brands.
Full acquiring allows the acquirer to price merchants directly and earn the spread over the interchange and brand or network fees. In exchange, the acquirer is at risk for loss but will have a greater incentive to push the brand. Merchants benefit, as card activity is centralized on the same statement as their other card activity.
Discover didn't allow every acquiring entity to be a full acquirer. Many full-service ISOs had to work with their sponsor banks and be sponsored into Discover just like they did for Visa and MasterCard. These ISOs didn't pass Discover's "member" underwriting criteria. All member banks, however, were able to be full acquiring members for Discover, and the relationships with those acquirers closely followed the model established by Visa, MasterCard and the debit networks.
One exception was that Discover held back large national merchant relationships and didn't allow their acquiring partners to earn the spread on those relationships. For most acquiring ISOs, the relationship with Discover became similar to their relationships with Visa and MasterCard. They held risk on their merchant processing and paid a sponsorship or BIN fee to the settlement bank. BIN fees range but are typically less than 2 basis points.
AmEx took a different tack for its full-service acquiring program. It didn't reach out to all acquiring banks and, in some situations, used processors to aggregate the program. Although this may be a more efficient way to distribute the program, it creates complications for acquiring banks and ISOs.
Of primary concern: processors do not provide the same services to all their clients. For some clients, the ISOs are the risk-holding entity; for others, they just get paid per click. When a processor is just selling clicks, it's odd for it to hold risk on AmEx transactions when no such risk relationship exists for the other card brands.
Thus, the ISOs/acquirers must maintain two risk relationships for each merchant. This duplicates everything core to merchant acquiring including underwriting, merchant approvals, risk monitoring, reserve management, etc. ISOs and acquirers in these relationships are being forced to modify long-standing arm's length relationships with contracts through which customer information is shared and risk mitigated.
In addition, a financial consequence exists to AmEx's rollout. Because access to AmEx is exclusive to the processors and the risk relationship is unnatural, processors are charging 10 to 20 times more for AmEx sponsorship than the normal sponsorships for other card brands. Further, many processors are doing what AmEx didn't want to do by contracting with the acquiring banks themselves, requiring banks to be liable for their ISOs' AmEx transactions.
Being liable for the transactions, acquiring banks may also charge their normal sponsorship fee, rendering the processor sponsorship fee in excess of any other card brand. This increased sponsorship fee artificially inflates the cost of AmEx transactions, which is inevitably passed to the merchant customers. Higher costs result in lower acceptance.
We have no idea why AmEx delivered its program in this fashion, especially since we were told AmEx paid processors significant sums to integrate its card brand. Perhaps the processors agreed to certain programming demands required by AmEx? Whatever the reason, this places these processors in a great position.
Acquiring ISOs need to offer AmEx. They'll make more doing so through full acquiring than they would by not offering it at all, and in some cases, they will lose business if they don't offer it. Consequently, they will agree to the awkward relationship and the artificially high sponsorship fee. We hope AmEx anticipated this – and at least received a big thank you from the processors that benefited.
Ken Musante is President of Eureka Payments LLC. Contact him by phone at 707-476-0573 or by email at email@example.com. For more information, visit www.eurekapayments.com. Jon Shipley is President and Chief Operating Officer of Select Bankcard LLC. He can be reached at firstname.lastname@example.org. For further details, visit www.selectbankcard.com.
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