Publications & Resources
September/October 2008
Focus: Technology
Debit Decoupling: Part of Larger Merchant Funding Trend
By Bob Giltner
Capital One Financial Corp., the credit card master, sent tremors through the banking industry last year when it introduced a debit card that hooked into other banks’ checking accounts. The decoupled card, as it was quickly dubbed, threatened at minimum to siphon interchange revenue from banks large and small. With relentless pressure on net interest income, a blow to non-interest revenue would cut right into profitability.
Bank executives are breathing easier now, as Capital One has put the initiative on the shelf. But they shouldn’t be.
Although work remains to make a success of the decoupled card, traditional depository institutions should be paying close attention. Forces driving decoupling, if not the decoupled card itself, still could wreak havoc for many, many banks. Most of all, the kind of consolidation that occurred in the credit card business – to the point where about 10 issuers control 90% of the business – over the last 20 years could occur in the debit card as well, leaving the vast majority of today’s providers out in the cold.
Thus, it is critical for banks that have come to enjoy the fruits of their debit card portfolio to understand the driver of decoupling and prepare responses.
Quite simply, merchants are driving product thinking at Capital One and other companies that are working on decoupled debit cards. Merchants, always in search of better information about their customers’ shopping habits and always in need of vehicles for offering incentives to shop with them, are willing to fund rewards that banks might use to attract consumers to the debit cards or many other products for that matter. The result will be pairing up of merchants and financial institutions around a host of products, including debit cards with interesting rewards programs.
HSBC and CVS pharmacy, for example, are working together, even as Capital One considers its next move. National merchants like CVS are quite willing to spend money where they think it will bring in business.
Though it may be too soon to predict winners and losers in debit card competition, it is likely that the extent of consolidation in the debit arena will depend on whether a small number of strong and aggressive marketers gain serious momentum with merchant-funded programs before others even get started. With perhaps 50 big retailers accounting for the lion’s share of potential debit transactions, late-comers won’t find very attractive deals.
The best protection against the decoupling threat will be merchant-funded promotions that steal some of the decouplers’ thunder. Few but perhaps the very largest banks are in any position to develop partnerships with merchants on their own. Intermediaries therefore are knocking on banks’ doors, offering to arrange such merchant partnerships for them. Banks should be careful, however, in selecting third-party players to work with.
To begin with, banks should expect revenue from such deals. Merchants are putting money on the table, even as they continue to sue over credit card interchange fees, where they believe they can structure pay-for-performance deals. Banks should be wary of intermediaries that focus on the efficiency of their operations to the exclusion of revenue opportunities.
Banks should also look for intermediaries that match their customers’ needs with merchants’ needs. It’s critical that third-party players in merchant-funded partnerships can help design and implement an effective rewards program.
Lastly, banks should be wary of vendors that are not well-versed in banking industry regulations. Rewards programs leverage banking relationships. But program designs must reflect a complete understanding of privacy and confidentiality requirements that constrain banks.
Decoupling, to be sure, faces significant challenges. It is unlikely, for example, that consumers will carry too many credit cards around in their wallet, limiting growth to cards associated with the relatively large merchants. In addition, NACHA, the Electronics Payments Association, implemented rules in May requiring card issuers to report each transaction to the checking account providers, creating a bigger burden than they had to deal with previously. Many consumers, too, are wary about taking a card from an entity other than the provider of their checking account.
Sufficient merchant funding, however, can probably overcome these obstacles in time. And when it does, the threat to traditional banks could be much greater than just the interchange revenue that now softens the blows of tighter and tighter margins.
Consumers generally choose banks based on their perceived convenience, often the proximity of a branch to their home or place of work. Debit cards are typically no more than part of the package at account opening. Banks that fail to get in on compelling merchant deals could really lose out if consumers start factoring attractive rewards programs into their basic bank selection decisions, as they clearly have in picking credit card providers.
Bob Giltner is a consulting partner for My Rewards® (www.myrewards.net) in Austin, Texas, providing debit rewards programs for banks with 20 to 250 branches. He can be reached at 910-254-9383 ext. 227 or at bobgiltner@myrewards.net .
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