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November 27, 2022 • Issue 22:11:02

A retail-wholesale ISO comparison

By Ken Musante
Napa Payments and Consulting

There are many reasons to become a wholesale ISO, and while having an accomplished sales team is a necessary precondition, it is, by itself, insufficient to justify the move. So, when considering a move, it's important to know the distinctions between the two business models.

A retail ISO is to a wholesale ISO as fuel is to a jet

Retail ISOs are akin to mortgage brokers. They typically manage relationships with multiple wholesale ISOs to provision merchants to the back office that can best serve them based on factors such as pricing, service, risk, integration with the merchant's MIS and payments solution. Retail ISOs are not party to merchant agreements. They do not adjudicate applications or manage back-office servicing. Done right, retail ISOs are sales and service machines incrementally growing their portfolios through various marketing channels using direct employees and/or contractors. Retail ISOs are a lucrative, attractive business line: low start-up costs, low capital investment, low risk, and recurring and steady income.

Why do I need a rearview mirror if I'm only going forward?

Wholesale ISOs own the merchant risk. Start-up costs are significant. Wholesale ISOs must maintain PCI certification and manage the people, technology, compliance and operational infrastructure to properly sell, service, adjudicate and monitor merchants. Wholesale ISOs require continual technology investments for processor integration or certifications.

Before allowing a single merchant to process, the entire solution needs to be built out, processor reserves funded, and the people, policies and process to onboard, pay and offboard a merchant must be established.

Wholesale ISOs are the jets; retail ISOs are the fuel. And sometimes, retail ISOs envy wholesale ISOs.

Price to earnings

More specifically, wholesale ISOs have a price to earnings (PE) valuation many times greater than the PE valuation of retail ISOs. Plainly stated, every dollar a wholesale ISO makes equates to a valuation of approximately 10 times that of its retail ISO brethren. And for good reason. Wholesale ISOs have significant initial investment before they see their first dollar in profit.

The wholesale ISO could transport a company to another level. It has a BIN/ICA sponsor, process and technology that could support a much larger base than it is serving at a point in time. The right buyer could harness and leverage the wholesale ISO and compensate the buyer for the larger multiple.

A retail ISO does not (usually) allow for the same sales leverage. Unless there is a technology solution, scalable marketing or defendable vertical, the retail ISO is typically a function of the company's ownership and executive team. The asset is the portfolio residuals and the sales engine. Both of those are less certain to survive the transition to a new entity. Both are less able to be leveraged and consequently have a lower PE ratio. I am not arguing against retail ISOs; I fully support them.

I have had the privilege of starting and running both a wholesale ISO and a retail ISO. Both are dynamic; both are great businesses. A retail ISO, however, does not have a good resale value. Though there may be some tax advantages to selling a retail ISO, for the most part, it makes more sense to keep it and earn the residuals over the portfolio's lifetime.

Moreover, while wholesale ISOs have a greater valuation, I have seen many fail. There is no guarantee of success. Before embarking on such an endeavor a business should fully assess its strengths, weaknesses, opportunities and threats.

Specific to strengths or weaknesses, an entity contemplating becoming a wholesale ISO should fully assess its assets including cash position, technology, skill set, knowledge and industry connections. Regardless, unless it also has management depth, it will be sacrificing directives.

Become the best version of me

Retail ISOs can take many steps to present the image of a wholesale ISO without assuming the liabilities. With regard to adjudicating merchant files, they could have multiple acquirer relationships to be able to provision a merchant to the wholesale ISO most likely to support that specific merchant.

They should have their own service team to assist and improve the service offered through their wholesale ISO. When possible, they should brand the services they control. Most importantly, they should have a solution set and knowledge base that allows them to integrate around proprietary solutions. This is critical and is the single greatest thing a retail ISO can do to ensure long term success.

A retail ISO is to a wholesale ISO as love is to marriage

Again, a sales channel is a necessary but insufficient component for a wholesale ISO. Entities considering the transition should recognize the pros and cons of each and fully assess their assets. Exploration should involve developing a business plan and budget toward the end state before action is taken to visualize both the expense and the steps to get there. Only after fully understanding this path can a business deliberate and arrive at the ultimate, optimal conclusion. end of article

As founder of Humboldt Merchant Services, co-founder of Eureka Payments, and a former executive for such payments innovators as WePay, a division of JPMorgan Chase, Ken Musante has experience in all aspects of successful ISO building. He currently provides consulting services and expert witness testimony as founder of Napa Payments and Consulting, www.napapaymentsandconsulting.com. Contact him at kenm@napapaymentsandconsulting.com, 707-601-7656 or www.linkedin.com/in/ken-musante-us/.

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