Why Private-Label Credit Cards Have Defied the Doomsayers

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Private Label Is Dead. The headlines proclaimed this just a few years ago. In one specific case, an activist investor sought to protect Target from the danger of their failing portfolio by forcing them to exit the business. It seemed like every retailer was leaving the space, or at least considering it.

Yet today we see new headlines announcing private label deals by the dozen. Clearly, the doomsayers were missing something. Understanding the reasons why they were so wrong can be instructive for understanding other hype cycles that affect this business.

First, it's worth noting that people will sometimes say whatever furthers their mission, regardless of its accuracy. As mentioned previously, William Ackman pushed hard on Target to exit the private label business. Perhaps he thought Target should be focused on their core competency, instead of owning card operations. Perhaps he felt it was a big money drag on the stock. Maybe it was just an excuse to get his people on the board. Regardless, he ignored that retailers have carried their own credit since retail was invented. He also missed how important controlling in-store credit can be to the bottom line.

Private label credit card is the least expensive method of payment stores can accept. For that reason alone, it makes fundamental sense for every retailer to carry a program if feasible. Nearly 8% of Target's store sales were made with its credit card in the third quarter of 2012. That percentage will continue to grow as consumers regain their financial footing. Reducing the cost of payments has a huge value for retailers, especially when the open card networks continue to promote more expensive card platforms.

The second value of private label cards is the impact on loyalty. When consumers carry a card featuring a favored brand it strengthens their relationship with the brand. A card from Tiffany & Co., Nordstrom, or Cabela's in your wallet has an emotional impact. Once a consumer associates with a brand they are far more likely to shop at that store. Target ran a test last October, offering some of its guests a private-label credit card instead of an open-network Visa. Private-label consumers (of equivalent credit) visited the store more frequently and spent more than the guests who received the Target Visa. In spite of higher interest rates and lower credit limits, the exclusivity of the card makes a difference in building loyalty and increasing sales.

Third, consumers are actually likely to pay store-branded cards back first in a financial pinch. Throughout the downturn, many retailers suffered lower losses than issuers of open-network cards. News coverage of Target makes the opposite seem true, but Target carried consumers who were far riskier than other retailers. They approved approximately 60% of applicants while most issuers are reticent to approve more than 40%. This was a calculated risk, since more consumers carrying Target cards means greater loyalty and fewer difficult conversations for those who are denied credit. When the bank is owned by the retailer, there can be a balance between credit risk and business decisions. The higher risk was balanced by higher sales.

Unfortunately, many of Target's consumers were on an open network card, so the risk exposure included purchases at other stores. A true private label card would have lowered their risk and further improved sales.

Assisting sales is the fourth critical component of the private label business. After all, card loyalty goes well beyond rewards programs. Leslie McNamara, the executive vice president of partner management at Citigroup's retail services business, recently stated that "it is critical to never turn away a consumer at checkout." Private label cards provide the opportunity to offer one more way to let consumers complete a sale. After everything invested in getting the consumer to the store, the worst case scenario is to decline payment at checkout. Unlike open network cards, the private label card can allow real-time credit line increases or the option to briefly exceed the set limit to ensure a successful close.

Private label programs may not be right for every retailer, depending on their brand, existing brand loyalty, and the credit profile of their customers. But, there is no doubt that private label is alive again. Citi plans to keep its $40 billion private-label cards portfolio after attempting to sell the business. Capital One acquired the HSBC portfolio, much of it private-label cards, and the $3.7 billion portfolio of Kohl's credit cards from J.P. Morgan Chase. Even Wells Fargo is considering entering the business. Will the lenders who tried unsuccessfully to unload their portfolios (like Target and GE Capital) realize how much value they hold? Or will we see those portfolios transition to a new generation of lenders? While much of the story remains to be written, the 2008 death of private label is clearly behind us. Long Live Private Label.

Eric Lindeen is marketing director for Zoot Enterprises Inc., a provider of credit decisioning and loan origination solutions for large financial institutions. 

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