s we migrate from using more traditional payments such as checks and cash to electronic payments, adoption of newer payment methods continues. One of these is the prepaid/ stored value card, which has proven to be quite popular with consumers. Prepaid cards make up a rapidly growing segment of payment options. So what is it about them that is so appealing?

Many of the reasons are psychological. For one, it's free money! What's on the card has already been paid for. Funds on a prepaid card are "preloaded" by a friend or family member for a gift card; by an employer for a payroll card; or even by oneself (for oneself) for a convenience card, and can then be used for making purchases and other types of payment transactions.

Who can argue with the wonder of paying for something using plastic with no strings attached and no payments to make later?

But merchants and other entities and ISOs and merchant level salespeople (MLSs) who sell to them are finding benefits in this relatively new payment product as well. If you're an MLS, this is an opportunity you don't want to miss.

Many types of products fall under the umbrella of prepaid cards, including gift, payroll/benefit, phone or wireless, "teen" and travel cards. It's a broad and burgeoning market, and it's not only attracting consumers and merchants but also the attention of regulators, analysts and the government. Aaron McPherson, an analyst for research firm Financial Insights, predicted that the prepaid/stored value card market overall will grow to $298.8 billion by 2008, up from $93.9 billion in 2003.

Gift Cards

One of the most popular prepaid cards is the merchant-issued or "private" gift card. These are also called "closed-loop" cards because merchants sell them directly to their customers, who usually can only redeem them through that merchant.

This type of prepaid card transaction tends to be made in high volumes, but with low dollar value.

Last year, almost half of all U.S. adults purchased a gift card ($45 billion worth) and the average person used 5.6 gift cards, according to First Data Corp.'s gift card processor ValueLink. And this is a rapidly growing segment within the prepaid cards market. In 2002, ValueLink reported that about 23% of Americans used a gift card.

The National Retail Federation (NRF) predicts that U.S. gift card sales could top $17.34 billion in the 2004 holiday shopping season, a $100 million increase from last year equaling about 10% of total retail sales of nearly $220 billion. At least 75% of consumers will give at least one card, news wire service Reuters reported.

ISOs/MLSs have added gift card programs to their sales toolbox as a way to open doors and approach merchants on credit card processing. The cards also create add-on opportunities for new equipment sales; many have found that this product ultimately aids in merchant retention.

Steve Eazell, Director of National Sales and Marketing for Secure Payment Systems Inc., a gift card processor, said that gift cards create merchant retention that is unmatched by selling other value-added services. They also provide long-term monthly residual income.

"There's no better merchant retention tool on the planet than gift cards," Eazell said. "The only one who truly knows the balances on these cards is the gift card processor. If I'm a merchant, I cannot switch processors (without a lot of trouble) until every single solitary gift card has come back to my store.

"If merchant retention is important to you as an MLS because of the residuals, then there really is no greater product than this."

Merchants love gift cards for many reasons, including improved customer loyalty, faster check out, and capabilities offered in tracking customers' preferences, but the two most important: When redeeming gift cards, most consumers tend to spend more than the dollar amount on the card, or just the opposite: They never redeem it at all. The latter is called "breakage."

As a response to accounting issues with gift cards, many retailers instituted expiration dates and/or the practice of deducting fees from the balance of the gift card for non-use, and this has received scrutiny from consumer advocates and regulators. In fact, many U.S. states, including the state of California, have now made this practice illegal.

In "Stored Value Cards: A Tale of Two Markets," a report published in July 2004 by Financial Insights' McPherson said that growth opportunities in the gift card market will be with:

1. Smaller merchants who have not yet implemented this type of program
2. Prospects such as corporations that want to provide incentives and gifts to employees and
3. Retailers that want to use new applications with their gift card programs such as for consumer refunds, rebates and rewards.

"The opportunities are still huge for selling gift cards because it's now trickling down to smaller retailers, which are always last to jump on board with a product that is a little bit different than the status quo," Eazell said.

Gift cards aren't only popular during the holidays, either. Consumers buy them for birthdays, anniversaries and other occasions (see "Merchants Missing Gift Cards? Plenty of Opportunities Exist Beyond the Holiday Season," by Patty Colby, on page 52 of this issue).

Branded Cards

"Open loop" or "open system" cards are branded with a card Association logo such as Visa, MasterCard or American Express. Banks or their partners sell these cards and they can be used at any merchant location around the world that accepts Visa, MasterCard or American Express.

Consumers use open loop cards as if they were linked to a bank account; they can use them for signature- or PIN-based transactions. However, rather than linking to an individual account for each prepaid cardholder, the cards are tied to one general account at a bank, and the card number enables tracking of the balance.

"Teen cards" are examples of open loop cards. Parents buy and load the cards with preset amounts and give them to their teenage children in order to track and control their spending.

Another is the increasingly popular travel card. The Visa TravelMoney card, for instance, is a preloaded card that enables cardholders to make purchases at retailer locations and withdrawals from ATMs around the world that accept Visa-branded cards. American Express offers a TravelFunds card as well.

Payroll Cards

Payroll cards, another type of prepaid/stored value card, function in a similar manner to an "open system" card. These cards tend to have higher values than merchant-issued gift cards, but typically produce a smaller number of transactions.

Payroll cards are also reloadable and function similarly to a debit card. Employers load employees' wages onto the cards, and cardholders use them at merchant locations such as grocery stores or wherever there is a Visa or MasterCard logo.

They can also use them at ATMs, which is a significant benefit to the "unbanked," or people with no access to a traditional bank checking account or credit cards.

Payroll cards can be an attractive payroll option for not only the unbanked but also non-direct deposit employees, independent contractors and short term or temporary hires.

When cashing paychecks, employees are vulnerable to robbery, and check cashing establishments deduct high fees from the transaction. Like debit cards, payroll cards can be replaced if lost or stolen.

At the Federal Reserve Bank of Philadelphia's recent prepaid card conference, "Prepaid Cards: How Do They Function? How Are They Regulated?" held June 2 - 3, 2004, Peter Davidson of Genpass Card Solutions said he sees prepaid offerings moving beyond payroll to enabling people to provide funds to family members in other countries.

Davidson addressed representatives from banks, payment networks and processors, providers of prepaid card services, major retailers, state and federal regulators and legal experts who attended the Fed's event to discuss the growing demand for prepaid cards and the legal and regulatory issues surrounding them.

He called payroll cards a "bridge product," and since the cards can be reloaded at the point of sale, the unbanked will use them as a standard product.

Heartland Payment Systems is one company offering this type of product, which it calls the Heartland PayDay Visa card. It's branded with the Visa logo and marketed to small and medium sized businesses (see "Wage Earners and Employers Find Benefits in Payroll Cards," The Green Sheet, April 14, 2003, issue 03:04:01).

Secure Payment Systems recently introduced its enCASH Access card, a PIN-based ATM and POS debit card that can also be used for domestic and international card-to-card electronic funds transfers to replace more traditional funds transfer methods such as with Western Union wire transfers (see "Secure Payment Systems Unveils New enCASH Access Card," The Green Sheet, Nov. 8, 2004, issue 04:11:01).

With payroll cards, ISOs/MLSs earn revenue from the fees charged to the employer, merchant and payroll cardholder.

"Every time the card is used, a small fee is charged; there are fees charged when the card is loaded, when it is redeemed or when cardholders withdraw funds," Eazell said. "Set up fees for each employee or retailer can be marked up or passed through, too."

Even with all the fees, many employers find payroll cards, where funds are delivered electronically, a less expensive option than issuing paper paychecks, which are expensive to print, mail or replace.

Financial Insight's McPherson said, "payroll and benefit cards represent the largest market opportunity in the United States, an estimated $175.1 billion in payroll and benefit card volume in 2008."

For ISOs/MLSs, these cards create tremendous opportunities, and there are many processors and providers of prepaid cards and services looking to work with sales reps. Just a few of these include:

Blackstone; Business Payment Systems; EWI Holdings; First Data's ValueLink; Genpass; PRE Solutions; Prodigi Prepaid Solutions; Q Comm International; Radiant Telecom; Secure Cash Network; Secure Payment Systems; Tendercard; Touch n Buy; TSYS Inc.; United Merchant Services' Flex Gift; Valuetec; and WildCard Systems.

Look for a future article in The Green Sheet about regulatory issues surrounding prepaid/stored-value cards.

Other research to consider:

• Conference Summary, "Prepaid Cards: How Do They Function? How Are They Regulated?" Mark Furletti, Federal Reserve Bank of Philadelphia (www.phil.frb.org/pcc/papers/Prepaid_Cards.pdf)
• "Prepaid Card Markets & Regulations," Mark Furletti, Federal Reserve Bank of Philadelphia (www.phil.frb.org/pcc/discussion/feb_04_prepaid.pdf)
• "Stored Value Cards: A Scan of Current Trends and Future Opportunities," Kathy Jacob, The Center for Financial Services Innovation (www.cfsinnovation.com/managed_documents/storedvaluecard_report.pdf)
• "Payroll Cards and Benefit Cards: The Opportunity for Banks," Aaron McPherson, Financial Insights, September 2003 (www.financial-insights.com)
• "Stored Value Cards: A Tale of Two Markets," Aaron McPherson, Financial Insights, July 2004(www.financial-insights.com)