Card Spend and Technology Will Favor Retailers in 2006

  Buffeted by pressures on both the macroeconomic and industry-specific microeconomic fronts, most mid-size and large merchants have outsourced their card programs to giant financial institutions. And more are expected to do so next year, say industry experts.
  The causes for the mounting stress on retailers' card programs are numerous. Consumers have been generous spenders, but they have turned to home-equity loans instead of cards to pay for home remodelings or to accommodate the occasional splurge. Next year, though, high gas prices and rising interest rates look to spoil that party, say economists.
  More merchants also could look to turn their card-program responsibilities over to someone else in 2006 because of several major customer-database breaches that occurred this year ("Failure to Communicate," August). Congress this fall was considering several measures that would require companies that hold consumer data to beef up their security and inform consumers of any data breach, however minor.
  For the retail card industry, payment technology looks to be a big issue next year. The explosion of contactless, or tap-and-go, cards in 2005 made it the "year of the wand," according to Deborah Baxley, partner and global credit card practice leader at IBM Corp.'s Business Consulting Services group.
  Biometric payments also are gaining ground, or they are at least getting a fair amount of merchants to roll out pilots.
  The emerging technologies sound exciting, but it costs money to retool at the point of sale, get systems up to date, train employees and convince customers to use the new gadgets.
  The answer for a growing number of retailers has been to sign deals with the big three providers of private-label and cobranded programs-the Citi Commerce Solutions division of Citigroup Inc., GE Consumer Finance of General Electric and HSBC Retail Services of HSBC USA Inc. They would prefer to let these organizations worry about the unknowns, which include how the emerging technologies will affect private-label programs, whether they will shift more cash and check payments to plastic, and what kind of return on investment to expect.
  Issuers certainly smiled on some of new ideas this year.
  J.P. Morgan Chase & Co. reported in October that it would distribute as many as 5 million of its "blink" contactless cards, and MasterCard is expanding its PayPass tap-and-go product with Citi, HSBC, Chase, KeyBank and MBNA Corp., soon to be part of Bank of America. Merchants accepting the cards include McDonald's, 7-Eleven, and the CVS drug-store chain.
  Other topics, though, brought issuers some concern. Legal worries rose this year with interchange remaining a core topic. Many merchants are part of, or are watching closely, the suits challenging the interchange policies of Visa USA and MasterCard International.
  The suits claim Visa and MasterCard collude to set the rates and that the fees are too high. In October, 14 of the cases were combined and put before U.S. District Judge John Gleeson in New York. Gleeson oversaw the merchant class-action suit that ended in 2003 with Visa and MasterCard agreeing to pay the merchants slightly more than $3 billion and to drop their honor-all-cards rules.
  Issuers' credit card divisions were given a big edge over their debit colleagues in a new study on retail-payment revenues from Baxley's division at IBM. Credit cards accounted for nearly 82% of the $86 billion in the revenues generated by banks' retail card programs in 2002, according to IBM's Financial Payments Innovation report. The October study found that revenues from debit, including both signature and PIN transactions, accounted for 3.4% of the total, checks for nearly 14% and electronic payments for less than 1%.
  Credit cards mean big dollars because of the interest, fees and interchange they generate. In contrast, debit earns interchange revenue only, and the average debit transaction is about half that of credit.
  Baxley found that in 2012 credit cards would generate more than 86% and debit cards 4.2% of the $135 billion in revenues that banks will see from retail card programs. That projection does not take into account changes that may result from the interchange suits now wending their way through the courts. In the U.S. IBM works with eight of the top 10 issuers and many of the major merchants.
  Cardholder spending should see clouds next year but not a downpour, according to economists. The major factor is the continuing rise in interest rates. The Federal Reserve ratcheted up its federal-funds rate to 4% in November. The Prime Rate, which banks charge their best customers and is the base for most credit card rates, was at 7% before Thanksgiving.
  Consumer spending will grow next year by 5.8%, down from a solid 6.3% growth in 2005, says Scott Hoyt, director of consumer economics at the economy.com Web site.
  "Interest-rate increases will slow the growth rate, and big ticket items will suffer," says Hoyt. "It will be tougher to offer cut-rate financing for furniture and appliances."
  Pump prices appear to have topped out, but the volatility in that market makes Hoyt wary of predicting where those costs may go next year.
  David Wyss, chief economist at Standard & Poor's, says the jump in pump prices offers a mixed blessing for issuers. Consumers will pull back from some spending, but they will use their cards more often to fill up their tanks.
  The rise in interest rates means fewer consumers will refinance their mortgages to obtain a low-interest loan, says Wyss. "As interest rates go up, that game is over," says Wyss. "We'll see an increase in credit card spending and a slowdown in mortgage refinancing." S&P looks only at credit cards carrying balances, not debit spend or transactors.
  Rising oil prices and the bankruptcy-reform law that took effect in October will lead to a sharp rise in chargeoffs in the fourth quarter of this year, says Wyss. Those troubling predictions should bring out the best in marketers seeking ways to convince cardholders to continue spending.
  Gail Sneed, director of market development at Maritz Loyalty Marketing, says retailers are putting into practice some of the theories on data analysis they have been talking about for some time. Consumers buying select items are getting follow-up letters announcing the date of the next big sale in the same merchandise department, she says.
  Merchants that have kept their card programs in-house, such as the upscale Nordstrom, can be more nimble in using the purchase behavior of their customers, says Sneed. But most big chains have outsourced their card programs or have gone to cobranded deals.
  "Nordstrom can quickly analyze its own data. It's not clear if that happens with retailers that work with" GE, HSBC or Citi, says Sneed. Nordstrom introduced in October a debit card that the cardholder can link to their personal checking account.
  Interestingly, GE is testing a similar program, though Margaret Keane, president and CEO of GE's Retail Consumer Finance, declines to share details.
  Keane touts the cobranded card it launched in February with client Wal-Mart Stores Inc., saying that card sees higher spend and 50% more transactions than does a private-label card. GE also launched a cobranded card with Wal-Mart's Sam's Club. Other clients in GE's nearly $30 billion retail card portfolio include J.C. Penney and Linens 'n Things.
  GE got into contactless cards this year with new client Meijer Inc., the Midwestern grocery and general merchandise chain based in Grand Rapids, Mich. "Meijer is seeing a real uptick in pay-with-a-wave cards," says Keane, who declined to share details. "This could be the turning point on contactless. We're seeing ads from McDonald's (promoting its program). All the big guns are looking at it."
  GE also is ready to offer a slew of reward programs, depending on its client's requests, she says. The trend is to put a discount deal on the customer's receipt. "That encourages the customer to come back," says Keane. "It also increases the size of the next sale."
  Indeed, the programs have been so successful that some merchants are concerned that customers will assume they get a discount coupon every time they make a purchase, she says.
  Merchants may want to keep an eye on Pay By Touch, the fingerprint biometric provider that gathered in $130 million in capital investment in October. Part of that went to buy CardSystems Solutions Inc., the troubled processor that fell victim to the biggest data breach of the year.
  John Rogers, Pay By Touch Solutions founder, chairman and CEO, predicts that 2,000 stores in 30 states will have its programs in place in 2006. The San Francisco-based firm primarily hooked up with grocers this year in deals with Piggly Wiggly, Cub Foods, Pick n' Save, Albertson's and Farm Fresh stores.
  Pay By Touch is in negotiations with the 10 largest issuers to develop a cobranded relationship, says Rogers.
  Opportunities are out there for merchants willing to experiment with new technology and creative ways to motivate cardholders. Most have chosen to align with a deep-pocketed partner. But a few still choose to walk alone.
  News Flash
  A data-security measure approved by a U.S. House subcommittee Nov. 13 is raising concerns that it could subject banks and other financial-services firms to a new set of data-security regulations. The measure, passed 13-8 by the Subcommittee on Commerce, Trade and Consumer Protection, mandates new data-security and consumer-notice requirements for "persons" or businesses that hold personal data. The Financial Services Coordinating Council, which represents a cross-section of financial-services firms, wrote committee Chairman Rep. Cliff Stearns (R-Fla.) asking that the subcommittee add language to the bill to exclude companies already covered by Gramm-Leach-Bliley Act data-security requirements that apply to financial-services firms. The subcommittee did not add the language. With Congress now considering 13 different bills dealing with data security, some industry experts are skeptical any measure can pass before the end of the session later this year.
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