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Retailers? Role in the Demise of the Check
BY KAREN EPPER HOFFMAN
Concerned with the potential for fraud and check-out delays and emboldened by consumer preference for debit and credit, some retailers begin to limit their acceptance of what has been a universally welcome payment form. What effect will these stances have on accelerating the ultimate demise of the check?
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SYNOPSIS | With checks in steady decline, some retailers are taking the next step and limiting their acceptance of paper check payments. IKEA, Olive Garden and Domino?s are among those that cite check fraud and diminished popularity with shoppers. But experts agree that most merchants will not be quick to turn away check payments for fear of losing business to more payment-neutral competitors.
Bankers have long been aware that the use of paper checks is on its way out. Now some merchants are beginning to give the check even more of a nudge toward the door.
Retail businesses as varied as home furnishings stores, gas stations, fast food and sit-down restaurants — including global and national brands — have begun in recent months to limit their acceptance of checks. In virtually all cases, however, these merchants are not rejecting all check payments at all locations. Instead, they’re assuming a “Checks Are No Longer Accepted” stance at stores or in regions where checks are less used. In some cases, they’ll accept checks only on a case-by-case basis.
The reason for the policy: A desire to avoid the potential for check fraud both for the merchant and for its customers. While the number of checks written is beginning to fall, the percentage of bad checks is not, analysts note. Merchants also say they’re simply responding to the payment preferences of consumers, who are increasingly using their debit cards or credit cards to pay for a meal or a tank of gas.
A widespread rejection of checks by merchants is not expected soon, however. Businesses facing steep competition or those that appeal to consumers who are accustomed to paying by checks — grocery stores, for example — would be loath to deny the payment choice for fear of losing customers. There are some market segments where the merchant prefers the check over payment by credit card on which they must pay interchange fees.
“Retailers want to sell something,” says Mitch Christensen, executive vice president for enterprise payment industry relations with San Francisco-based Wells Fargo & Co. “If a customer wants to pay with credit or debit or check, they’re not going to want to turn down a sale.”
Checked Off the List
The 2004 Federal Reserve Payments Study confirmed what bankers had seen coming — the number of U.S. checks being written is falling more than 4% per year and is already outpaced by electronic payments. More consumers are opting to pull out their plastic — debit or credit cards — rather than their checkbooks, says Gwenn Bezard, research director with Aite Group of Boston.
About 80% of checking accounts are linked to a debit card, according to Aite’s research. Retailers realize that “consumers are moving away from checks and using debit cards for more of their everyday purchases,” Bezard says.
Now some retailers are beginning to move away from the check, as well. Home furnishings store IKEA Group has gradually stopped accepting checks at 20 of its 26 U.S. stores over the past two years, says spokesman Clive Cashman at IKEA’s U.S. headquarters in Plymouth Meeting, Pa. Checks were first refused at the Philadelphia store in August 2004. “Before we started changing our practices, we were seeing a significant decline in the use of checks, with consumers using debit and credit,” he adds.
Cashman declines to quantify what percentage of payments to IKEA are now made by check. While eliminating check payments involves a “cost consideration,” Cashman says it also reduced check-out times and “simplified our practices.”
Olive Garden restaurants are no longer taking check payments at “most areas of the country,” according to Mara Frazier, spokesperson for the Orlando, Fla.-based chain, which owns 568 restaurants in the United States and Canada. Olive Garden’s decision came down to “the safety and convenience of our guests,” Frazier says. When paying by check, customers had to offer identification to their server, or often left their check sitting unattended after they paid for a meal. In such cases, those customers could be leaving their bank routing number, personal account number and other sensitive information exposed, she says.
Franchisees who own 90% of Domino’s Pizza’s 5,000 U.S.-based pizza delivery businesses are choosing not to accept checks from customers, while others will take checks only from a frequent customer, says spokesman Tim McIntyre in Ann Arbor, Mich. The 578 company-owned U.S. stores do not accept checks at all, he adds.
McIntyre says that Domino’s has been seeing a steady decrease in its customers’ use of checks. According to data from the pizza chain’s company stores — McIntyre says Domino’s doesn’t collect payment data from its franchisees — almost three-quarters (74%) of its transactions are made with cash, while 20% are made by debit or credit card and just 6% by check. Echoing IKEA and Olive Garden representatives, McIntyre says the card-based payments are growing, while the check transactions are shrinking.
The decline in U.S. check usage is not being matched by a proportionate decline in check fraud. Predicting a 5% annual decline in total check volume for the rest of the decade, a December 2005 report from Raymond James Financial, Inc. of St. Petersburg, Fla. looks for the percentage of bad checks written at the merchants’ point of sale to grow from 2.5% of total volume to more than 6% by 2010. Check fraud and uncollected funds already cost merchants more than $5.9 billion a year, the report says.
Bezard suspects that some of this increased check fraud could be the result of fraudsters gravitating to checks after heightened fraud protections are shutting them down on the credit and debit side.
While the cost of dealing with those bad checks is high, the cost of trying to avoid them can be expensive, too. Many merchants will pay a few pennies per transaction for check verification, where their payee is matched up against a negative database of accounts that have a history of bad checks. Other retailers, particularly those in businesses that traditionally absorb a lot of bad checks, are willing to pay as much as 2% of the cost of the transaction for check guaranty services, which will cover any losses from bad checks.
Meanwhile, the declining volume of checks is leaving both processors and retailers with higher incremental costs. William McCracken, CEO of Synergistics Research Corp. in Atlanta, says that the costs to the typical retailer of processing checks are increasing “to twice that of an electronic payment,” such as an ACH, credit or debit transaction. By adding the increasing proportion of bounced or fraudulent checks, he adds, handling checks could cost merchants three times as much.
“It’s a death spiral,” McCracken says of the check’s position in the market.
A Long Goodbye
Even so, check payments may enjoy a long goodbye. About 36.7 billion checks totaling about $39 trillion were written in 2003, according to the Federal Reserve’s landmark 2004 payments study. The report touches on the role merchants play in the decline of check, pointing out that it’s the merchants who are choosing more and more to convert consumer checks to electronic payments at the point of sale. Also, the report notes that consumer checks are more rapidly being displaced than business checks, as “use of the debit card by consumers, which exhibits a low average value, has grown dramatically in the past three years.”
And most merchants, concerned about losing business to more accommodating rivals, are not inclined to deny check payments from consumers, despite the increasing cost and potential inconvenience.
“You don’t want to turn away money with everyone in competition,” says Jeff Lenard, director of communications for the National Association of Convenience Stores (NACS), based in Alexandria, Va., which represents more than 140,000 stores.
“Merchants are generally not abandoning checks,” says Jim Van Dyke, founder and principal analyst for Javelin Strategy & Research of Pleasanton, Calif. “Both consumers and merchants don’t want to take them out of their tool kit yet.”
Bezard notes that, “Typically, the merchant does not have the power to drive the payment method.” Where competition is tough and where payment by check is favored by shoppers (grocery stores, for example), it would be difficult to deny check payments, he says.
In some instances, Bezard says, consumers are willing to trade off some payment flexibility to get a better price on filling up their gas tank, which is why gas stations can get away with accepting cash and cards only. IKEA, likewise, can remove checks from the mix at most of its stores because it has such a loyal consumer following and few direct rivals for its business, he says. “Not all retailers are equal in their ability to drive consumer payment behaviors.”
For some businesses, the drawbacks of checks don’t outweigh the cost of other payment alternatives. While convenience stores want to encourage faster tender times and simplify their own processes, Lenard points out that these businesses are among the most affected by high interchange rates on credit and signature debit cards because their margins are thinner. “There are challenges with every form of payment in our industry,” Lenard says. “The biggest pain point for our guys right now is with cards.”
And, indeed, while the number of checks overall is decreasing, there are some retail pockets where they remain reasonably popular. According to a recent NACS survey of 138 of the association’s members, 10.8% of payments at convenience stores were made by check in 2004, up from just 5.5% in 2003. The survey also found that more than 80% of convenience stores accepted checks in 2004, an increase from 72.5% in 2003. Much of this increase, Lenard surmises, could be due to rising gas and cigarette prices, which are causing customers to make payments by check that they would have made previously by cash. They may not have the cash available to cover the higher costs.
A large segment of older citizens that is comfortable with using checks, and represents an attractive consumer base, will also make merchants think twice about eliminating checks, says Hubert Vaz-Nayak, senior vice president for sales and marketing for Commerciant. Houston-based Commerciant introduced in March 2005 a wireless point-of-sale terminal that lets delivery people or other service providers process and verify check payments in the field.
“Not accepting checks is like saying ‘we think they’re not worth it,’” Vaz-Nayak adds. “There’s a huge population that’s going to keep writing checks for the next 30 years.”
For more on consumer payments preferences, see “Your Depositors Aren’t ‘Average” in the January/February 2005 issue of Banking Strategies.
For banks, the decline of checks will likely prove a double-edge sword. In the long-term, checks will be replaced by more efficient and more secure payment mechanisms like debit and credit cards, so banks may not only spend less on payments processing, but will also reap greater rewards from interest and annual fees on their cards. Also, as banks finally reach a point where they can process the remaining checks via lower-cost imaged clearing and settlement, they’ll cut costs as well.
But in the interim, over the next few years, banks are likely to be caught in a costly squeeze. Celent estimates that check volume could decline by as much as 9.5% each year between 2006 and 2010, which will boost costs for transportation and processing. “Check processing shows all the signs of a worst-case operational scenario: dropping volumes, which exacerbate excess capacity issues and relatively high fixed costs, which translate into rising unit costs,” comments Alenka Grealish, manager of the banking group at Celent, in a January report.
Grealish, like many analysts, believes that as the number of checks decreases — either because they’re not being used as much, or because they’re being converted or truncated — “costs will rise sharply” for banks over the next 12 to 18 months, driven primarily by the rising cost of air transportation to move those paper checks from bank to bank. For banks that are still processing their checks as paper (not fully transitioned to imaged clearing and settlement), the costs of check processing will “creep up” by at least 7% per year over the next two years, she estimates.
Questions or comments about this article? Post them at the Banking Strategies blog.
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