Wal-Mart Seeking Approval to Acquire Bank

F or the third time in as many years, Wal-Mart has made a run at getting into banking and financial services. This article will summarize the nature of this latest attempt and suggest reasons why the world's largest retailer appears to be committed to bringing branded financial services to its loyal customer base - and why the banking industry is just as committed to seeing that Wal-Mart doesn't accomplish this objective.

Wal-Mart's Role in the Evolving History of Retailing The history of retailing can be characterized as moving through three stages:

Stage One: Main Street, where rural America came to town to buy supplies, socialize and learn the news of what was happening in their community and around the country. Stage Two: Shopping Centers in suburbia became the focus of retailing following World War II. This was in full swing during the 1960s, '70s and '80s, when freeways were built around major cities linked by interstate highways, providing access to housing tracts that supported local strip malls and regional shopping centers. The prototype was the grocery-anchored neighborhood center surrounded by a dry cleaner, drug store, bank branch and video store.

Stage Three: The Big Box retailers, following in the Wal-Mart model, have created a shopping model that incorporates all of these services (both hard and soft goods) under a single roof - with the exception of banking services. More and more consumers find these "super centers" compelling, not only for "the everyday low prices" but also the convenience and time savings of not having to get in and out their car to make five or six stops at different retailers.

The 800-pound Gorilla You have heard the answer to the question: Where does the 800-pound gorilla go? Anywhere he wants to. For the past decade this has been especially true of the big box retailers like Wal-Mart, Costco, Target, Home Depot and Kmart, with disastrous effects for smaller, narrowly focused retailers such as the local hardware, meat market, pharmacist, department store, jeweler and grocer.

Wal-Mart announced recently that it is experimenting with selling used cars in various markets across the country. It is estimated that Wal-Mart's food sales last year exceeded those of Kroger - the country's largest supermarket chain. When you consider that between 25-30% of a household's budget is allocated to food purchases, it isn't surprising that as we drive around town there are fewer and fewer local retailers able to compete with these 800-pound gorillas.

The process has evolved to a stage where last month's lead article in Shopping Center World was "Reviving Dark Space." The banner introduction was: "Retail is struggling to cope with yet another wave of store closings. Large chains, including Kmart, Charming Shoppes, The Museum Co. and Frank's Nursery & Crafts, are shuttering units because of lackluster sales." The article goes on to explain that the passing of these retailers is not something unique to 2002. To understand how this trend impacts directly on the ISO community, one quote from the article tells it all:

"Cities from Charlotte to San Francisco have felt the pinch of store closings. An estimated 2,142 store closings were announced during the first 2 1/2 months of 2002 compared to 2,430 during the same period in 2001, according to the International Council of Shopping Centers (ICSC)." The article goes on to explain that the surplus of space is growing dangerously large with the reduction in deals and more excess space coming on the market, giving leverage to retailers like Starbucks, fast food retailers and major big box retailers. Independent retailers can't expect to negotiate these kinds of deals.

This size handicap doesn't stop at the property-lease component of the small retailer's cost structure. Staples recently announced that it asked its top 300 vendors for a 1% price reduction and another 30 days in payment terms - following the lead of Bed Bath & Beyond and The Home Depot.

Is Banking Wal-Mart's Next Growth Objective? According to the New York Times, Wal-Mart doesn't have ambitions to get into consumer banking with its acquisition of Franklin Bank of California. Wal-Mart's spokesperson is quoted as saying that company officials are trying to reduce their bank service fees through this acquisition. Owning a bank will enable Wal-Mart to wholesale many of its check and debit card processing costs.

To understand why Wal-Mart would purchase a bank with $2.4 billion in assets to save banking fees, you need to also understand the order of magnitude Wal-Mart represents in terms of POS transactions.

At the Payments 2002 convention in April, Michael Cook, assistant treasurer and director of financial operations for Wal-Mart, spoke for the first time about the company's experience with check conversion. During this presentation, Cook revealed that Wal-Mart accepts more than a billion checks each year from its customers.

Assuming that it is accepting this many card transactions - both debit and credit - one can begin to appreciate why Wal-Mart is focusing on the cost of POS settlement, especially when Visa last year proposed a new debit card pricing schedule that would have doubled transaction fees for all retailers.

Wal-Mart, Nordstrom and a handful of other large retailers threatened to not accept Visa debit cards if this pricing increase was imposed. Visa backed down and put off the price increase until early in 2002, another price-increase deadline that has quietly passed. Most experts would suggest that these debit price increases were shelved because of the opposition of these major retailers.

Wal-Mart is contemplating the prospect that for each dime in transaction settlement fee savings owning a bank could generate, its stockholders are looking at another $200 million going to the bottom line. All big box retailers employ the strategy of leveraging their massive buying power to negotiate deep discounts from suppliers.

Expanding into the banking business would suggest that Wal-Mart has negotiated as far as it can working directly with its bankers. The next logical step is to move closer to the wholesale cost of financial settlement, and that means owning a bank.

Why Franklin Bank of California? Answering this question brings us to one of the major loopholes in banking - the Industrial Loan Company bank charter. Franklin Bank is one of the few banks in the country that operates under such a charter. According to a recent American Banker article, this acquisition attempt by Wal-Mart threatens legislation that Congress is close to passing.

The larger issue is the longstanding separation of commercial and banking functions that this legislation would reduce while also allowing banks to pay interest on commercial bank deposits. Bank law specialists say that an industrial bank charter is one of the few ways a retailer, under federal law, can own a bank. There are only three states that allow such charters: California, Utah and Colorado.

The American Banker article makes clear that the independent bank association is strongly opposed to any legislation that would allow Wal-Mart to enter banking. Yet quotes from state banking authorities make clear their opposition to any changes to current regulations - including their states' rights to issue and supervise these industrial bank charters.

While the outcome of this battle is unclear, the banking opportunity for Wal-Mart far exceeds the savings it might realize from a few hundred million dollars in banking fees.

Anyone who has visited a Wal-Mart has to be impressed with the hours, low prices, convenience and, more important, the friendly service. Imagine these product features being brought to banking. Imagine the receptivity Wal-Mart customers would have toward cashing their checks, opening home loans, financing their used cars and saving for retirement. Now you understand why bankers are going to fight this effort by Wal-Mart with all of the resources at their disposal.