Merchants that accept credit cards the old-fashioned way are still a lucrative source of business for transaction processors.

Known as paper-based merchants because they adhere to the old practice of running paper sales drafts through imprinters, they may seem akin to neglected stepchildren.

Their transactions are widely estimated to comprise only 5% of total MasterCard and Visa volume, down from 50% a decade ago. But they are valuable to processing companies because they pay higher fees.

"There is a good profit" in paper-based transactions, said David Robertson, president of The Nilson Report, an Oxnard, Calif., industry newsletter. He said there is "a lot of money on the table there."

Paper-based transactions, which require more manual labor to process than electronic transactions, are typically associated with discount rates higher than the 1% to 3% that merchants pay banks for electronic transaction processing.

In addition, electronic transactions generate less than 1% profit for processors, said Paul Martaus, president of Martaus and Associates, Clearwater, Fla. "The paper side of the business is incredibly profitable. They can charge more for the folks who won't jump on the electronic bandwagon."

Jeffrey A. Rankin, senior vice president and chief operating officer at Boatmen's Bancshares' merchant processing company in St. Louis, estimated that 10% or fewer of the bank's merchants are paper-based today, and 90% or more of those do less than $50,000 worth of credit card transactions a year.

Paper-based merchants, he said, pay discount rates at least 50% higher than on electronic transactions. In other words, a transaction that costs a merchant 2%, or $2 on a $100 sale, might cost $3 in a nonelectronic mode.

Mr. Martaus estimated that First Data Merchant Services, which processes 100 million MasterCard and Visa paper drafts a year, makes 50 cents to 75 cents each time a merchant calls to authorize a transaction.

First Data has one of the most efficient voice authorization centers in the industry, he said. "They've got it down to a science, and they can charge the merchant what the market will bear."

James R. Gudmens, group executive of First Data Merchant Services, a unit of First Data Corp.'s Omaha-based card services group, said many in the industry have forgotten about the market of paper-based merchants.

"We serve all clients and all segments of the market," he said. "For us to be full-service, this is part of our technological offering."

First Data said it encourages these merchants to migrate to electronic terminals but will continue to support them.

First USA Paymentech, Dallas, the No. 3 merchant processor, said it has roughly 10,000 paper merchants, accounting for less than 3% of total sales volume.

"We do not sign up and do not market directly to merchants who are paper-based," a company spokesman said, adding that Paymentech's paper- based merchants come from agent banks with which the company works.

Paymentech said it is heavily focused on emerging technologies, direct- response sales, petroleum and convenience stores, and the hospitality industry.

Experts enumerated three types of paper-based merchants: professionals, low-volume "mom and pop" merchants doing as little as two or three transactions a month, and small-town or rural merchants.

Of professionals, Mr. Martaus said, "Very few people will stiff their lawyer with a bad credit card." Doctors and dentists are also in this category.

Transactions in the "rural" category occur "in the middle of the country," said Mr. Robertson of The Nilson Report, "in places where the merchant maybe knows everyone who is living in the town and is not worried about getting stiffed."

The risk is regarded as even smaller, he said, because these card- accepting merchants are doing small-ticket transactions.

They are throwbacks to the way the industry was before Visa and MasterCard began their aggressive push toward "100% electronic authorization" in the early 1980s, with a new breed of low-cost, magnetic- stripe-reading, automatic-dial terminal.

Before those terminals were widely used, the bank card associations published paper "hot card" bulletins every two to three weeks, which merchants had to check to protect against lost, stolen, or fraudulent cards.

"If they followed this procedure, they were protected against chargebacks; if not, they were liable," said Susan Forman, spokeswoman for Visa U.S.A.

She added that the paper bulletin was more costly and less efficient than the electronic system automatically tapped each time a card is swiped through an authorization terminal.

Eventually, the associations cut interchange rates to offer incentives for electronic processing, and they worked with Verifone Inc. and other vendors to give merchants discounts on equipment.

"Implementation of terminals tended to erode the protection of the merchant by shifting responsibility for authorization to the merchant," Mr. Martaus said. "Electronic draft capture (obviating the need to transport imprinted sales drafts) took it a step further."

Today, Visa and MasterCard estimate their interchange fees for face-to- face paper transactions - the main influence on a merchant-acquirer's discount rate - are roughly 70% higher than those for equivalent electronic transactions.

Mr. Rankin of Boatmen's said although the need for paper-based processing will diminish a small group of merchants remains that must be served off-line.

"We do not actively sell that product, but we have opted, for those clients who insist on paper, not to pull that product," he said. "We will continue to support it for the foreseeable future."

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