8 minutes
In the world of mobile payments, it is easy to get focused on the technology and the disruption in the marketplace at the expense of the value-add to members. But a core tenet of the credit union/member relationship is the offering of reliable products at reasonable fees.
Historically, CUs have funded low-cost checking accounts through non-sufficient funds/overdraft fees and debit interchange income. However, data from The Cornerstone Report: Benchmarks and Best Practices for Credit Unions shows a reduction in NSF fee income, and the shift over time to a reliance on debit card interchange. The bottom line: As NSF fee income continues to drop, CUs will increasingly rely on debit interchange.
While NSFs and debit interchange may not be as exotic as Apple Pay, PayPal and Square, they are payment income streams to the core. Nowadays, mobile banking innovations are affecting these reliable income workhorses, and CUs need to understand how.
Background
Card networks Visa and MasterCard were originally funded by banks to clear payments made with plastic cards issued by banks. It was decided initially that roughly 3 percent was a good number to fund the entire payment process, with the 3 percent to be deducted from the merchants’ sale price. At the outset, card issuers agreed to receive approximately half of the 3 percent of purchases to cover the maintenance of the funding account, with the other half going to the processor and networks to fund the gathering and transmission of the payment.
Merchants initially accepted the networks’ value proposition, as they offered greater efficiency and security than offering cards themselves. As fees increased and schedules became more complicated, the merchants began to question the fairness of the system.
Over time the relationship among the merchants, issuers and networks has gone back and forth with billions of dollars in litigation and settlement. One thing has remained constant: The networks still set all the standards and remain the gatekeepers for any innovation that runs over their rails.
Clearly, the confluence of smartphones, online purchases and mobile banking will bring significant developments to the payments landscape. The new mobile payments method that aims to replace the current method will need some level of cooperation from the original three parties. If and when a new agreement is formed, it will likely be done at a considerable discount to the original 3 percent. I see this evolving in several stages.
Generation 1—Early Entrants
This era, which could also be known as the “war of the wallets,” started with the likes of Google Wallet and similar standalone applications that combined multiple traditional payments cards. These apps offered little or no advantage to members other than capturing and maintaining all the card info in one place.
These technologies were mostly distinguished by what they did not provide. They did not integrate with merchants’ equipment or issuers’ systems. The wallets did not store points or rewards or otherwise change the value proposition among a member, the financial institutions and the merchant(s). The vendors quoted their adoption rates in the tens of millions. In reality, these early entrants had many enrollees, but fostered few payments. We found early on that members using wallets did not increase debit transactions or decrease the need to write checks. It was just a different way to store the plastic.
The real progress in these early entrants came from the outliers, including PayPal, Amazon and Apple iTunes. These single-purpose solutions satisfied a unique niche that truly changed the payments landscape. By offering significant ease of use, these purchasing techniques encouraged a substantial increase in online transactions. However, the percentage of online transactions to point-of-sale transactions is still immaterial, albeit growing.
What is important to understand is that none of these technologies to date has measurably altered the trends for NSF fees and debit card interchange income. While vendors were working on payments apps, the CU industry was working on giving members a better view into their accounts through better mobile apps. A worthwhile endeavor, to be sure, but not necessarily anything that was expected to change the payments landscape in the short term.
Generation 2–Apple Pay and CurrentC
Apple Pay could be considered the first payments mechanism that moved the dial on debit card interchange. There is reason to believe that if ease of use at the POS can improve, debit payments will increase. Apple Pay is a generation up on prior entrants because Apple has attempted to replicate the original network/issuer agreement by bringing networks and issuers in from the start and going to market with what it sees as a holistic solution.
To this point, however, Apple has made little progress in recruiting merchants to its new solution. To really take off, merchant acceptance will have to be ubiquitous. This is not likely to happen until merchants take a stab at their own solutions via their MCX-CurrentC offering.
When released, CurrentC will already be second generation because it plans to bring issuers into its scheme via the back door (automated clearing house) using Jacksonville, Fla.-based FIS. Thus, CurrentC will have attempted to replicate the network-issuer-merchant triad via its own relationships.
CurrentC’s idea is to be a vehicle for purchases across all mobile devices, use a merchant’s own app for the sale, and reap the benefits of special promotions, rewards and related use of member data. One could not have conceived of two more different directions than Apple Pay and CurrentC.
What are the odds for success? Both solutions being in the marketplace will prevent the ubiquity needed for either to succeed. While it is hard at this point to see either one materially slowing or increasing the natural growth rate of payments, we do expect them to sound the death knell on the majority of the wallets, including the CU industry-sponsored CU Wallet.
Generation 3–A Single Purchasing App
At some point, merchants’ experience with MCX will likely run its course and the merchant community will see that CurrentC does not have the legs to change the industry on its own merits. Similarly, the issuer community may get to a point where it is ready to trade the preservation of the current network paradigm for a reduced share of the interchange pool. A precedent has already been set for a new, lower rate of interchange. Some of the rates set by the newer, standalone operators, such as PayPal and Square, are in the range of 1.5 percent to 2 percent of the purchase price.
When all parties recognize they cannot get the ubiquity they need on their own, we could see the birth of a new agreement among networks, issuers and merchants. This will be when technology vendors like Apple start to work with merchants. The result will be a universal purchasing app that uses the existing signature and PIN network rails. Consumers will be able to “opt in” for rewards in exchange for sharing their information with retailers.
When members have a uniform purchasing app ubiquitous across merchants and the credit union is fairly compensated for the maintenance of the depository account, we will start to see payments volumes increase at a pace that is significantly above our current trajectory.
We feel growth can keep increasing until checks and cash are out of the system to the extent possible. In this environment we see debit transactions increasing at a higher trajectory, but the interchange for each transaction will be at a lower rate. As a result, NSF/courtesy fees and debit interchange will likely continue to go up, but at an incrementally smaller rate per transaction.
Generation 4–A Single App With Embedded Info
This application will be the Holy Grail for members. It is what Millennials expect today: a touch-of-a-button purchase app that uses a secure platform and provides immediate access to their depository account information before and after a purchase.
This would require mobile banking apps to be an “in app” experience at the time of purchase. It would work at any merchant whether online or physical. Merchants would provide rewards and offers to members, and information sharing between the two would be part of the merchant/member relationship.
Why is that so difficult to provide? Certainly we have all the technology in place. We continue to under-deliver because none of the parties will work together. With each generation we see a bit more cooperation and a bit more progress between the parties. Still, mobile payments technology today is working in “dog years,” i.e., what should take a year is taking seven.
PayPal and others are trying to speed the evolution of mobile payments by bypassing the traditional card networks. Their solutions rely on the ACH process and lack most of the nuances of a unified purchasing app. Once there is a material amount of volume coming through these channels, issuers are eventually going to need to “block” or charge for such access. Where there is a back-door approach, there is usually a way to block that approach.
Cooperation among the mobile banking players is essential if we are going to see the ubiquity and convenience that Millennials and subsequent generations will insist on having. Development of a universal purchasing app tied into a credit union’s financial app should be the ultimate member service goal for credit unions. In the meantime, credit unions need to put the very best standalone mobile banking apps in the hands of those who want them while we await the ultimate solution.
Bob Roth is a managing director with Cornerstone Advisors, a CUES Supplier member and strategic provider based in Scottsdale, Ariz.
