For years, financial institutions have been enjoying the fruits of an industry-wide growth rate related to the move to a cashless society. As this trend continues, competition is accelerating from non-bank players and never before has it been so important to understand what is going on in the rapidly evolving debit and credit market.
Non-interest income (NII) represents one-third of the total income at financial institutions. Payments revenue represents the largest single contributing factor to NII and is 36% of the total. Debit and credit card interchange generate significant returns in NII. Increasingly, payments professionals at banks – and in the boardroom as well – are focused on these five market-shifting trends:
Payments strategies are proliferating. Budgetary spreadsheets and project plan templates just aren’t cutting it in the payments world anymore. Progressive financial institutions are taking a deliberate approach to managing their payments revenue as a profitable line of business. Today, progressive institutions are generating payments-focused profit and loss statements, scorecards and functional roadmaps to measure the success and failures of activities. Banks that win find a way to differentiate their payments messaging and implement processes that allow for continuous, proactive improvements.
The credit card market is making a comeback. In 2009 and 2010, community and regional credit card issuers were selling their portfolios as fast and furiously as they could – and with good reason. Back then, the Credit CARD Act was coming through, charge-offs were high and a credit card manager was lucky to maintain a 0% return on assets (ROA). Fast forward to 2015 and the landscape has significantly changed. Since 2011, the credit card industry has seen year-over-year growth in the number of cards in circulation and now the number stands at upwards of 400 million. According to The Nilson Report, average industry ROA is holding steady at 4.3%, net credit losses are holding at all-time lows of 3.9%, and credit card purchase volume is expected to grow at 10.5% annually. This combination of key performance indicators within the credit card product is driving financial institutions in droves to re-evaluate their outsourced agency model credit card offerings, and look at bringing the credit card back in-house as a way to execute a payments diversification strategy.
The pace of debit growth is slowing. A recent Cornerstone Advisors Payments survey of banks and credit unions discovered that the average annual growth rate of debit transactions is 5.89%. Since 2013, debit transaction growth outweighed the slow decline in Exempt issuers’ (issuers with less than $10 billion in assets) interchange rates. In February of this year, a new use of PINless PIN transactions within retail stores started to be used that will further compress financial institutions’ interchange rates. PINless PIN transactions allow merchants to process a transaction as PIN with a reduced PIN interchange for transactions under $50, even if the cardholder selected credit at the point of sale and signed for the transaction. This is an example of how continued growth in debit card usage may not be enough to outweigh the continued compression of interchange.
EMV: deploy or get left behind. The deployment of EMV (Europay, MasterCard and Visa) in the United States is moving full-steam ahead. By the end of 2015, Visa estimates that 70% of credit cards will be EMV, 41% of debit cards will be EMV, and 47% of terminals will be EMV-activated. According to the Cornerstone survey, 84% of financial institutions intend to have the ability to issue EMV by October 2016. When going through this process as a card issuer, delays should be expected. Card production vendors and card processors in the industry have been inundated over the last year in getting the EMV cards set up and cranked out. As of October 2015, it is expected that issuers can count on a six-month process to enable EMV on their card portfolios. The shortage of EMV cards as well as the extreme demand for implementations is driving a “hurry up and wait” scenario and has overwhelmed the card producers. Banks that are planning on deploying EMV later than October 2016 are positioning themselves to be in a laggard position with EMV.
Apple Pay remains a novelty. The Cornerstone Advisors Payments survey found that as of August 2015, 62% of financial institutions have either signed up or are on the wait list for Apple Pay. Apple Pay was introduced a year ago and as of September 2015, Android and Samsung are also in the mobile payment space. While there remains a high hope for adoption within the mobile pay form factor, further innovation is needed to drive cardholder adoption. While 2015 has been the year of laying the infrastructure, Apple Pay transactions consist of 0.74% of all debit transactions at financial institutions that have deployed Apple Pay. Only consumer demand will drive mass adoption of merchant acceptance of mobile-based payments, and the current mobile pay apps are just not there yet.
The bottom line is that payments continue to mature as a product offering. Payments in 2016 will be as volatile as ever and tools are needed to manage the fast-paced activity. Ability to tactfully manage these market shifting trends will separate the winners from the losers.
Mr. Rackley is a director with Cornerstone Advisors, Inc., a Scottsdale, Ariz.-based consulting firm specializing in bank management, strategy and technology advisory services. He can be reached at [email protected].
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