By Brandes Elitch
CrossCheck Inc.
It's hard to remember that back when electronic ticket capture came along, some of the largest banks exited the acquiring business to concentrate on the issuing side. The banks that remained demonstrated that bankers do not know how to sell and cannot be taught how to sell either. This gave impetus to the community of bankcard salespeople variously called independent sales offices (ISOs), merchant service providers, merchant level salespeople (MLSs), agents, and more.
These people were independent, changing sponsoring banks and processors with regularity, but times have changed. The sales process, technology and accompanying certifications and increasingly demanding requirements from the card brands have made for a complicated sale today, which is why you see salespeople working with independent software vendors and value-added resellers that provide business management software applications.
As a result, more and more salespeople are employees, as opposed to 1099 contractors or resellers. While the "good old days" were about focusing on selling or leasing equipment at high margins, packing the rate and dealing with high merchant attrition (for example, 20 percent), sales have become more technical today and generally call for more specialized, highly trained MLSs. This is a good thing for merchants.
The number of companies that want to be part of the payments business today is impressive. But only a handful of processors dominate the industry. A recent study by The Strawhecker Group found that the 10 biggest acquirers processed four-fifths of all bankcard volume in 2016. Chase processed $1 trillion in payments. Of the 10 largest, six are banks or bank spin-offs, three are pure play processors, and one does back-end processing for five of the largest banks.
Consolidation is occurring rapidly. Recently, GTCR purchased Sage N.A., First Data Corp. purchased CardConnect, TSYS purchased TransFirst, PayPal purchased Braintree, and last year Vantiv purchased Moneris. What has changed is that the buyers wanted more than a bigger portfolio of merchant accounts. They wanted the means to become integrated technology providers. For the last two years, MLSs have focused on EMV (Europay, Mastercard and Visa) and the Payment Card Industry (PCI) Data Security Standard (DSS). PCI was formulated to prevent card data theft and data breaches. EMV focuses on preventing thieves from producing and using counterfeit cards. PCI is mandatory; EMV is not.
Despite all the work done by ISOs, Verizon recently estimated that only 20 percent of all businesses are PCI-compliant. (The card brands report more optimistic figures). Not only do merchants have to be PCI compliant, but they also must check all their vendors and service providers to ensure they are also compliant – including their POS system provider, processor, and providers of other portals or applications.
I was shocked when I heard someone say at the ETA's Transact 17 show that the EMV implementation date of October 2015 was really "just the start of a five-year business plan"; merchants were told there would be an absolute liability shift if they were not fully compliant at that time. There is a serious credibility gap here.
This is a thrilling time to be in the merchant bankcard business. Aside from the opportunity to replace all deployed terminals with new EMV-compatible ones, excitement is growing about fundamental changes in the merchant community. One aspect of this is the Retail Apocalypse. While this blight pertains primarily to large shopping malls, no brick-and-mortar merchant is immune. And this is related to another big factor: the emergence of the GAAFA – Google, Apple, Amazon, Facebook, and Alibaba. These five companies are going to rock the world of payment processing. Consumers buying directly from Amazon are not visiting local merchants. If you are an ISO, these are the same merchants you signed and supplied terminals to. What will happen to your monthly residuals when consumers stop visiting their stores?
Against this backdrop, financial technology (fintech) providers see opportunities to replace legacy core systems, legacy technology, clunky applications and everything related to the customer experience. You might think the fintech sector is primarily focused on displacing commercial banks, but you would be mistaken. In a recent article in Let's Talk Payments, staff writer Aditya Khurjekar wrote, "[T]he scope of this effort is positively overwhelming, because it covers the following behaviors: pay, invest, save, lend, borrow, gift, donate, transfer, hedge, insure, securitize, trade, identify, and secure." Something is going on here; a lot of money is being bet on it. Fintech will not displace commercial banking, nor will banks relinquish their hold on payment processing. Fintech has targeted commercial banks, but no bank has ever failed by betting on the wrong technology, or by not being agile enough to implement new technology faster than its peers. A commercial bank would never make a mistake as huge and embarrassing as the EMV mandate issued by the card brands. Banks are not technology companies, but their daily workflows and systems and procedures are based on technology. They have the power of loans and deposits on their side; fintech doesn't. However, fintech can reduce friction and create a better customer experience.
As Larry Summers, former U.S. Treasury Secretary and Chief Economist for the World Bank, wrote in The Washington Post, "Some examples of frictions that are kind of shocking are the huge premiums people pay for title insurance when they refinance, the inability of major banks to enable clients to automatically pay down their credit line, and the $40 billion plus in credit and debit card interchange each year." A revolution is occurring in payments, with innovations occurring independently in several areas, including data warehousing, omnichannel commerce, the cloud, big data, artificial intelligence, machine learning, data analytics and open sourcing. Banks will ultimately offer aspects of these to your merchants, but the banks are not going to develop these areas themselves.
As payments expert Chris Skinner put it, "It's just not in a bank's DNA to do this." But banks are outsourcing development in these areas to fintech providers. This frees up the banks to address regulatory and compliance issues and other best practices, such as managing return on assets, return on expense, and how much in expense it costs to create a new dollar of income (the efficiency ratio). Fintechs are not great at profitability because, up to now, they haven't had to be, which is why 90 percent of them will not be around in five years.
Summers believes fintech is likely to contribute substantially by removing friction in the banking system. For example, we know the work involved in lending money, underwriting, pricing loans, hedging and so forth is tricky. A bank cannot have more than 1 percent of outstanding loans on non-accrual or it will incur regulatory scrutiny. Fintech companies don't have to worry about all that, but they can provide a solution with big data and artificial intelligence.
On the other hand, Amazon can loan money to clients because it has a comprehensive record of its clients' sales. Amazon is their landlord and also has a large deposit from their daily settlements. The bank is no longer the only depository account for a merchant. There are other intermediaries who can hold "deposits," such as Square, Intuit, and PayPal. Now Wal-Mart is developing a mobile prepaid card that would act as an electronic checking account. There are numerous exaggerations about the fintechs. For instance, just today I read a comment by someone at Trinity Ventures that "80% of the cars on the road in San Francisco are used for rideshare by drivers for Uber and Lyft." Since CrossCheck is located in Sonoma County, just north of the Golden Gate Bridge, I can say with confidence that this comment is absolute nonsense, along the lines of another absurd comment, "Cash and checks are going away, and pretty quickly too," stated last year by a senior executive at the ETA.
In addition to the 10 or 20 largest banks in the country, there are hundreds of new players with almost unlimited capital in the payments space, with dozens and dozens of new product ideas. The trick is to align with one that will succeed. Listen for the bright, clear voice with a compelling message, rising above the din, rumors, muddled and wishful thinking, and innuendo that is inevitable in a period of rapId change. That is not an easy task. 
Brandes Elitch, Director of Partner Acquisition for CrossCheck Inc., has been a cash management practitioner for several Fortune 500 companies, sold cash management services for major banks and served as a consultant to bankcard acquirers. A Certified Cash Manager and Accredited ACH Professional, Brandes has a Master's in Business Administration from New York University and a Juris Doctor from Santa Clara University. He can be reached at brandese@cross-check.com.
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