Hooray for the ISIS team for making the point that if Durbin is implemented as proposed, or close to it, innovation as we know it in payments will be decimated. John Stankey, AT&T’s head of business solutions, said that Durbin’s impact was the reason for ISIS’ business model about-face and created the chain of events that lead to their strategy course correction. (Related article: CrISIS at ISIS?)
Since ISIS brought the debate front and center again last week, I thought I’d offer a riff on a few other things related to the point that Stankey made.
Unless you have a rich grandfather, there are only three ways to fund innovation in payments: from the merchants, from the consumer or from a totally separate revenue stream like advertising. Let’s take them each in turn.
Well kiss that goodbye. Congress basically passed a law that says almost anything that’s tied to a checking account can’t charge merchants (much), and the merchants may be able to route transactions around it. OK, so there are lots of nuances and exceptions here, but merchants basically won’t have to pay much for taking debit card transactions. Why then would they pay much for anything else? They will be flocking to this new, very cheap and powerful form of payment. Of course, there are still credit card interchange fees, but given what’s happened to debit, what VC would pour money into a business model based on that? (Related article: ISIS: Dialed Bank or No Dial Tone?)
If issuers could make a lot of money by charging consumers for debit cards or transactors for credit cards, they would have done it by now. If interchange fees get whacked, they are going to have to raise fees somewhere else. But there’s a limit on how much they can make off of consumers who can turn to several other ways of paying that at least appear to be free or very cheap: cash, checks and ACH. Just think about online: if banks started imposing transaction fees for debit cards, consumers would probably be a lot more enthusiastic about giving PayPal their checking account for a direct debit. So, it is going to be hard for banks to recover all the money they are losing from the merchant side by raising prices for consumers. More likely, they will raise price to consumers on the checking account and slash services to make up for the lost revenue.
From other revenue sources
This one is easier said than done and depends a lot on who you are. I think ISIS envisioned that it would make money in part from advertising and offers. That, though, takes having critical mass to spin off enough revenue to crank the cash register and a heck of a long time to get to that critical mass. Now, if you’re a big and diversified player like a Google or Facebook with lots of cash from other businesses to offset the costs of operating a payments business, I guess you are all set. (It helps to actually be an expert in advertising, too.) There just aren’t that many players like Google or Facebook in this space. Innovators could get money from VCs and PE firms, but absent any sort of interchange revenue to contribute to revenue, that is not likely to work out either. Payments is a scale business that takes time to ignite. VCs and PE firms typically don’t like those investment time horizons. And merchant-funded programs, like Groupon? Well, sure, they will continue to flourish, but that market will probably shake out and adjust downward over time, since merchants will have many other options to choose from, and 50 percent commissions will be the exception and not the rule.
So, what’s an innovator to do?
My own view is that Durbin will change the face and the shape of innovation. It’s not that we won’t have innovation, but it might be more like what I am calling “lemonade” innovation. You know, the old adage, when life gives you lemons, make lemonade? Well, when Durbin gives you lemons for a business model, you gotta make lemonade or die of thirst. So, there will probably be a lot of lemonade being made throughout the payments ecosystem.
For example, more lemonade might be made by “infrastructure” players who have the capability to route transactions along multiple rails that might not drive innovation as much as it will improve margins. There might also be lemonade made by trying to monetize schemes to bypass debit interchange fee caps, for example. But these are things that are on the margin and will take time to develop and scale.
Of course, much innovation is going to be killed beyond the sort ISIS is doing. A lot of ongoing innovation has been by players who have tried to use ACH or other business models to offer merchants the choice of an alternative with lower fees. There won’t be much of a business case for them if debit card interchange fees get whacked. ACH-based businesses and business models will likely go the way of the Edsel over time, since it will now be far cheaper for alternative payments players to move away from those platforms to debit rails, with the added advantage of having more features available to them at a lower cost.
What’s great about what the ISIS team did last week in raising this issue was to put a face on the Durbin issue from the perspective of an innovator looking to enable a new way to transact at the merchant point of sale.
So, it remains to be seen how Durbin plays out. We should hear soon if the Tester bill passes and gives the Fed the time to really study this matter. In the meantime, its potential impact on innovation, and consumer wellbeing makes for interesting and important discussion.
What is your view on all of this?
Karen Webster is the President of Market Platform Dynamics (MPD), a consulting firm that helps companies find, implement and monetize innovation. She serves as an advisor and member of the board for a number of companies operating in the payment, technology and digital media industries. More info here.