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Growing Your Riches by Registering and/or Taking Liability

By Michael Nardy

When talking with potential ISO/merchant level salesperson (MLS) partners, the question of how to increase their share of the pie often comes up. (The business model of my company, Electronic Payments Inc. [EPI] is an ISO-driven MSP/acquirer that offers competitive revenue share programs.)

Inevitably, the conversation turns, and we end up discussing how to increase their share of the revenue beyond a traditional revenue split. In my opinion, three things speak volumes on the MLS level when it comes to pricing: Deal count, transaction count and processing volumes.

Although the negotiations I have with potential ISO/MLS partners mostly center on their then-current deal count or monthly processing volumes, they occasionally will say, "But I want to take everything" or "Why don't I just register, and then I'll get 100%, right?"

In other words, the only path to financial success in the bankcard industry appears to them in the form of taking full liability on a portfolio and/or registering with their chosen ISO and bank. These are two very large misconceptions, and can be expensive and jeopardize the residual income of unprepared ISOs/MLSs.

To illuminate some of these issues, I will not necessarily address the question of whether registration and risk ownership are wise moves for MLSs, but rather whether they should carry liability on a merchant portfolio as a registered ISO, and what this might mean.

On GS Online's MLS Forum, I posed the following questions:

Are you registered currently or have you thought about it? Do you see the increased brand identity and marketability as a way to earn more revenue from your ISO? Do [you] feel that taking liability is a good decision for [your] portfolios? Is this the path to an increased payout from your ISO or just a poor decision from any standpoint unless you have years of risk management and underwriting experience with the financial reserves to "take a hit"?

A Few Words on the Big "R"

There are so many programs available from which the MLS can choose, including:

  • Revenue share (50/50 splits with no markup)
  • Buy rate (100% over)
  • Pseudo revenue share (buffering Mids and Nons before splitting out to the MLS)

Many MLSs have thought that the easiest way to take that 50/50 and make it a 100% program comes from paying $10,000 and registering with the card Associations. This is not necessarily so.

"I think there is a common misperception in the bankcard industry as to the benefits your typical sales agent can obtain by registering," said Paul Rianda, a bankcard attorney. "In my mind, the only real benefit is that you can market under your own name versus the name of the ISO that you are aligned with. Unless your organization is large or you have a very catchy name, the [benefits] of registering often [do] not make financial sense as compared to the price of registering."

Rianda elucidates an often missed point about registering: It is not necessarily a path to greater profits; rather, it is an official recognition from the card Associations that your ISO can market the Visa U.S.A. and MasterCard International brands under your own name.

Indeed, as GS Online MLS Forum member "Desdinova" wrote, "There may be programs that involve registering and a guarantee of extra profits from your ISO, but there isn't a direct correlation between registration and an extra share from your ISO."

Registering in a Free Equipment Marketplace

At a recent local chamber of commerce meeting regarding credit card fraud and trends in the merchant services industry, one common point emerged: Merchants will find themselves no longer leasing or buying terminals in exchange for a "free use" type of program.

The "free" equipment programs recently offered by several ISOs, and the success of EPI's own program, are evidence of what will become a growing dissuading factor against registering. Quite simply, the more you take from an ISO or bank through which you decide to register, the less you will receive in return.

More companies, which had previously offered revenue programs with higher residual payouts and aggressive revenue share splits, are now beginning to offer free equipment to their ISOs.

As a result, I see a greater focus on building a constant and robust residual stream on behalf of one or two ISOs with which you have chosen to work, but at a more acceptable residual split with those ISOs.

The more bonuses and free promotions your ISO provides, the greater the propensity for that ISO to offer a 50/50 split and forgo offering these same programs to its registered ISOs.

In a cost benefit analysis, the costs of paying out 70%+ in revenue share as well as bonuses, free equipment and marketing assistance, while still holding the liability as the ISO/bank, simply won't exist in this market any longer.

It is cost prohibitive for any ISO to offer all the perks advertised recently in The Green Sheet, especially if they add free equipment, signing bonuses, and holding liability while paying out higher splits for registered ISOs/MLSs.

Registering as a Marketing Expense

I spoke to a gentleman new to the industry who wanted to build his brand through registering. He had no residual income and only a few merchant accounts under his belt. I suggested that he not register and take some (or all) of the money he would have paid to register and instead use it to grow his business.

I have always considered registering as an investment in the future of our company's brand as well as a marketing expense. When companies decide what portion of their revenue to allot to advertising budgets, they think carefully about ROI, market visibility and market penetration. If you view registering as a marketing expense paid to the card Associations, then consider this example:

If you had a residual of $10,000 per month, you would be paying 1/12th of your gross income toward only one marketing scheme.

I explained to an MLS that with $120,000 in yearly income, it doesn't seem like a wise investment, but with absolutely no income it really doesn't make sense for him right now, especially considering that he could market under the name of his ISO for free, and use that $10,000 to grow his business.

MLS Forum member "bankcardrep1" echoes these same concerns: "I am not registered. I don't think as an MLS it would benefit me at this stage to register for the opportunity to use my name. I don't think it would make any more money for me."

The true money to be made from registering comes after years of building a brand identity in a particular segment of this business. For example, Cardservice International has built a direct-to-merchant sales presence. Paymentech LP has built a direct marketing/MOTO presence with its brand and strong Salem platform, which Yahoo Stores and VeriSign Inc.'s Payflow Pro use.

Companies such as EPI, United Bank Card Inc., Total Merchant Services, and others are strong in the ISO market. Names like Business Payment Systems and AlphaCard Services also have developed a niche market to attract MLSs.

Unless you focus your business model on attracting a sales force as a mechanism to bring on new business, then I don't think that registering is a wise use of MLS capital.

This is a very cash-intensive business, and spending money wisely and in every facet, from risk to advertising to special promotions and bonuses, is crucial for the success of an MLS or growing ISO.

At the registered ISO level, marketing a successful brand in any industry is part of what ISOs and acquirers are valued for, in addition to new account futures, current processing and transaction volumes, current portfolio size, and risk ownership and portfolio control.

MLSs should focus their attention and resources on growing a reliable stream of new accounts each month and building a profitable and risk-free portfolio.

Taking Liability 101

A common misconception on the MLS level is that merchants don't lose money for their ISOs. EPI's losses, while low, still occur on a monthly basis in dollar amounts ranging from small automated clearing house (ACH) rejects on end-of-month fees to chargebacks where merchants are out of business or unable to cover the loss themselves.

I have regular conversations with MLSs who manage a local portfolio and tell me, "My merchants have never had losses." This statement might be true on the local level, but managing a full-liability portfolio isn't only about risk losses.

There are also underwriting considerations, funding schedules, risk holds and transaction verifications that should be conducted on an ongoing basis. And that's only for starters.

Liability and risk ownership aren't things that you should callously undertake simply because you have a perception that your losses are low or you "know your merchants."

I would recommend that liability be for those ISOs that are backed by hefty reserves and a solid residual stream and are interested in maintaining underwriting control in today's market.

Being able to approve and board accounts without immediate bank approval (of course, all deals would be faxed over to the bank's acquiring department) is a large benefit and gives those certain ISOs a competitive edge.

However, there will be losses under this model, and you will receive calls from angry merchants who ask "Where is my money?" or "Why can't I process more and more? Don't you want my business to grow?"

Owning the risk on the portfolio is fraught with headaches and sleepless nights for any risk manager or ISO owner.

I like MLS Forum member "diamonte's" response: "Some of you have mentioned you sleep well at night knowing you carry 0% risk while commanding 60% to 70% split on revenue share. I agree. I sleep well knowing I carry [no] risk . . ."

Underwriting as the First Step in Risk Management

If you are endeavoring down the road of a full-liability ISO/MLS in an attempt for greater income, realize that your first step in the day-to-day risk management procedures ISOs undertake is the entire account approval/decline process.

Underwriting for most ISOs is a full-time position with salary expectations in the $50k range, depending on your market and area of the country in which you work.

The underwriting process is the ISO's first crack at preventing merchant losses by approving solid accounts, deciding the funding level (and any funding delays, if appropriate), setting up risk or chargeback reserves or declining the account altogether.

Pulling credit on potential merchants is only part of a process that requires a keen eye for potential fraudulent accounts as well (not just real accounts that may pose a loss for your company). Inexperience on the part of an ISO/MLS that wants to take liability can eliminate any residuals you have coming in if you have a loss to cover.

Most underwriting that ISOs (registered or not) do nowadays amounts to "scrubbing" or cleaning up deals before sending them out to the risk-owning ISO that actually approves the deals and boards them onto the network.

As I have commented in earlier postings to GS Online, there is no such thing as sub-contracting your risk management and underwriting. You either do it or don't do it. Relying on an ISO to perform these tasks for you while you take on some or all of the risk of the portfolio can be equally disastrous.

Partial Risk Ownership

This brings me to a common thread brought up by many current ISOs/MLSs looking to grow their incomes. They see the current portfolio and have a proposal to take 25% or 50% of the liability in order to achieve additional income.

The mistake in this assumption is that risk ownership of even 25% will not have an impact on their residuals. It is also a mistake, in my opinion, to allow another ISO to control your risk management and underwriting decisions and still have a share in the risk.

Moving back to the in-house approach, there are many ways to earn an extra income (perhaps not 10% or 15% extra, but at least something) by taking on some additional responsibilities like customer service and support, for example.

Most ISOs expect their MLSs to provide support to their local merchants; however, EPI works with an ISO that provides nearly complete support, including statement questions, local, on-site service, and simple troubleshooting over the phone from its local office.

The extra income allows the ISO to grow and the cost of supporting those merchants is offset by the extra income it receives. In this case, the ISO still doesn't have any risk, nor is it exposed to an unpredictable bust-out scenario.

"... Credit card fraud is a billion dollar industry," Robert Heinrich posted on the MLS Forum. "The best merchant acquirers get burned for $200,000 at a time."

Indeed, it is a billion dollar industry and also one that lends criminals to prey on unsuspecting ISOs that are poorly equipped to handle risk management.

Ongoing Credit Analysis Procedures

Being ill-equipped to handle underwriting poses a problem to any risk-owning ISO, but ongoing risk and portfolio management are equally important.

After account approval and boarding, the ongoing transaction monitoring procedures take over, including the use of proprietary software developed in-house as well as commercially available risk management software such as the solution offered by Card Commerce International.

Having your risk management department continually review transactions, process trends, and chargeback and retrieval requests, as well as verify charges, and pull credit to keep up to date on lower-credit merchants, costs money and time.

Full-time risk managers can demand not only a high salary, but additional personnel to assist with their ongoing risk management activities. The larger a portfolio, the greater the overhead to keep an efficient risk management department going.

A Path to Greater Income

I've tried to provide examples of some common misconceptions about registering and risk ownership as they pertain to growing ISO/MLS residual streams.

No matter which route one takes in this industry, I believe it is appropriate to weigh all the pros and cons about taking liability on a merchant portfolio; in most cases, the cons outweigh the pros.

However, registering isn't the wisest move for many MLSs, many MLS Forum members responded. Depending on your goals, it is often better to sleep soundly than to negotiate the treacherous waters of being a full liability ISO in today's marketplace.

Michael Nardy is Chief Executive Officer of Electronic Payments Inc. (EPI), a private transaction and payment processing company. He is also founding sponsor of NAOPP. For more information, e-mail him at or visit .

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