Nearly four-fifths of the financial institutions that responded to a survey at First Data’s Leadership Summit in May said that they did not have a clear understanding of the criteria they should consider when choosing a new or additional PIN debit network partner.
This poses quite a challenge because the Durbin amendment of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 prohibits exclusive arrangements between a card issuer and a single debit network provider, or two affiliated providers.
The Federal Reserve Board recently issued its final regulations implementing that law (certain regulations were mandated in the statute), cementing the need for many financial institutions to diversify their network relationships by joining an additional, unaffiliated network. We now know that networks cannot enforce exclusive arrangements with banks beginning this October and issuers must participate in two unaffiliated debit networks beginning April 1, 2012. So what do banks need to bear in mind as they decide which debit network solutions to pick?
Until now, the focus of many financial institutions was on revenue generation. Card issuers often partnered with debit networks and promoted authentication methods that allowed them to generate the most interchange income. The Dodd-Frank law and the Federal Reserve Board’s implementing regulations, however, set limits on debit interchange for financial institutions with $10 billion and above in assets, making pricing less of a differentiator.
Today, financial institutions need to look for long-term network value that goes beyond mere revenue. The decision will be based on the best overall value that can be realized throughout the duration of the partnership.
“Evaluating an EFT network is no longer as simple as defining geographic coverage and comparing pricing,” said Patti Hewitt, director, debit advisory service, Mercator Advisory Group. “Even without the motivation of regulation, a debit issuer’s EFT network relationships can be important sources of value-added services. That makes these decisions more important and, one could argue, even imperative in today’s expansive, competitive market.”
Now that the final regulations have been approved by the Federal Reserve Board, it is time for financial institutions to make decisions to keep ahead of both the compliance deadline and their competition. The benefits of acting now include:
Here is a look at the five new value propositions for selecting a PIN debit network:
Now more than ever, financial institutions need to consider a network’s value to merchants. Due to the new payment landscape created by Durbin, merchants will be a driving force in payments processing. So a financial institution should partner with a PIN debit network that can demonstrate broader merchant acceptance throughout the United States.
Merchant influence aside, the ability to use a debit card safely and securely is important to the consumer. According to Mercator Advisory Group’s The Economics of Debit Acquiring, growth in debit card transaction numbers and dollar volume has outpaced credit, and this trend is expected to continue as cash and check payments at the point-of-sale are increasingly replaced by card transactions.
This further reinforces the importance of debit to issuers and the payments industry, and the need to choose a network that is positioned to grow acceptance broadly.
2) Operational Capabilities
With predicted growth of PIN debit payments, it is important that financial institutions consider the system integrity — including network uptime and approval rates — of any new debit network partner. Also, once the prohibition against exclusive debit network arrangements is in effect (beginning Oct. 1, 2011, for networks, and April 1, 2012, for issuers), there will be considerable movement of payments to alternative PIN debit networks. The new network partner must have the capacity to handle an influx of transaction volume from a processing and settlement perspective, as well as from a customer support perspective.
The new partner also must be able to handle other operational requirements that result from the regulation, such as a pricing structure that supports two rate tiers — one for banks subject to the regulated rate and one for those that are not.
3) Fraud Mitigation and Risk Reduction
Financial institutions should look for a network partner that has innovative yet cost-effective fraud mitigation, risk reduction and data security solutions. Such solutions can help drive fraud and risk out of the payments value chain within the card, the merchant process, the issuing process, and the transaction, reducing a financial institution’s costs and liabilities and providing a boost to the bottom line.
4) Future Positioning
Regardless of the Durbin amendment, the payments landscape is changing fast. The acceptance of mobile payments is increasing, the industry is beginning the migration from magnetic stripe to contactless and potentially to chip and PIN, and person-to-person payment services are emerging.
Given the innovation taking place in the financial services industry, banks need to plan and develop strategies for how to integrate these emerging technologies and solutions into their current offerings. A component of any “future positioning” strategy should include choosing a debit network partner that is positioned to successfully build and deploy solutions that can deliver value and position issuers for competitive advantage — and has a track record of doing so.
One notable outcome of the Durbin amendment is that, for the first time, merchants will now be able to route debit card transactions (to the networks enabled on the debit card). This may make it advantageous to consider selecting a network partner that already has deep relationships on the issuing and acquiring sides of the payments value chain.
The Bottom Line
In the midst of the changing payments landscape, one thing is certain: Some financial institutions may need to choose a new or additional debit network partner to comply with the new regulations. Financial institutions must choose their network partners based on long-term value, opportunities for growth and a strategic business advantage.
Not only should financial institutions carefully consider all of the strategic implications of selecting additional debit network partners — they should act quickly to mitigate risks and capitalize on potential first-mover advantages in the altered payments landscape.
Kevin Barry is general manager, STAR Network.
How will the Fed’s final rule on interchange fees affect your payments network offering?
PULSE: The majority of our network volume is from issuers with less than $10 billion in consolidated assets. These non-regulated issuers represent a core customer segment for us. Our plan for our PIN and signature debit products is to support an interchange fee structure that takes advantage of the exemption for small issuers and offers superior value.
SHAZAM: SHAZAM will continue to aggressively pursue new capabilities and growth opportunities for financial institutions in payments. For example, we have recently enabled PIN-based point-of-sale for Internet merchants using two different technologies. We are also developing a mobile infrastructure that will allow us to enhance card management and fraud alerting. We will add payment applications to this platform over time, including person-to-person transfers and near field communications for contactless payments.
First Data: We are already making the necessary investments and upgrades and preparing for conversions so that we can meet all regulatory deadlines and STAR can support the anticipated volumes. In fact, we are investing to scale STAR’s capacity by 300 percent.
How will the payments landscape change in the next two to five years?
First Data: We will continue to see dramatic changes in the financial services industry as a result of changing consumer behavior, including the growth of debit, especially PIN; the uptake of mobile banking and mobile payments; and even the use of social media to exchange money and gifts. Millennial and Gen Y consumers are used to having technology integrated into most aspects of their work and personal lives, and payments are no exception. Financial institutions will have to cater to these consumers’ needs as their influence continues to grow during the next several years. Offering secure banking and payments technology will be critical in keeping the younger consumer loyal.
PULSE: Despite the challenges posed by the FRB rules, we believe debit will continue to grow. In fact, the 2011 Debit Issuer Study, commissioned by PULSE, found that issuers expect 7 percent growth in transactions in 2011.
SHAZAM: SHAZAM is hopeful that over the next five years the payments industry will be driven by technology rather than regulation. These technological changes will come in the form of advances to a variety of payment transactions.
What is the most important criterion a bank should consider when choosing a debit network partner?
SHAZAM: In choosing a debit network partner, we believe financial institutions should consider low costs; high-touch customer service; financial stability; growth strategy; and payment programs. Additionally, Regulation II is likely a huge factor for financial institutions looking to choose a debit network partner. Using a PIN-based network as a payment brand will ultimately assist financial institutions in maintaining an appropriate return for their debit card portfolios post implementation of Regulation II.
PULSE: The most important criterion is value, which takes into account a number of factors, including interchange revenue, network fees, “reach” or acceptance, electronic payments services, customer service and services that add value for participants.
First Data: The first thing financial institutions should consider is acceptance. In this post-Durbin world, merchants are a newly empowered driving force in payments processing. Not only should financial institutions consider a network’s value to merchants, but they should also partner with a PIN debit network that has merchant acceptance throughout the country.
Copyright © August 2011 BankNews Media