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This story appears in the January 2009 issue of Cards&Payments.
When Discover Financial Services and American Express Co. separately decided to open their once-proprietary networks to third-party acquirers within the last couple of years, it set the stage for a new era of competitiveness with card-network giants Visa Inc. and MasterCard Worldwide.
Discover and AmEx each signed agreements with a variety of merchant processors to enable their card brands to be accepted for the first time alongside Visa- and MasterCard-branded cards as part of an integrated acceptance service. At their option, merchants now can accept all four major card-network brands, receive one consolidated monthly statement and use a single point of contact for customer service.
The networks' goals were to simplify how merchants can accept their cards, paving the way for them to expand their respective card-acceptance reach, especially among small and mid-sized businesses that previously accepted only Visa and MasterCard.
But as the majority of the two companies' new agreements went live late this year–following months of back-office work to integrate the systems–stark differences in Discover's and AmEx's acceptance-expansion strategies are emerging. Analysts say the distinctly different paths the two companies are taking underscores their diverging business models and long-term goals.
Discover has moved to use the new arrangements to maximize its acceptance points, attempting to close the acceptance gap with Visa and MasterCard that analysts say has hurt Discover's revenue growth. As a result, broader card acceptance has become central to Discover's survival and its plans to become a global brand. AmEx, by contrast, seems to be placing a lower priority on getting card acceptance in every retail nook and cranny.
"Discover's success so far in expanding merchant locations is worth noting, while AmEx's progress is less clear," says Scott Strumello, an associate with Auriemma Consulting Group. "It appears that Discover wants to be accepted everywhere, and AmEx is still choosing its merchant locations more carefully."
Key Difference
The key difference between the two companies' approaches is Discover's decision to cede to third-party acquirers control of the merchant relationships, including owning the contract and setting Discover's transaction-processing price. AmEx opted to retain control over its merchant contracts and card-transaction pricing in its third-party acquirer agreements. While merchants may accept AmEx in an integrated arrangement alongside Visa, MasterCard and Discover, they must negotiate separately with AmEx on contracts and transaction pricing.
Since signing its first integrated card-acceptance deal with First Data Corp. in mid-2006, Discover touts huge gains in merchant-acceptance points over the last two years.
The No. 4 card network in terms of volume has signed 88 agreements with third-party acquirers, including the nation's 10 largest, Discover says. With most of those agreements kicking in during the second half of 2008, Discover says it now shares 98% of the potential acceptance points of both Visa and MasterCard, up from 77% in 2005. Discover says that through the final months of last year it was signing up an average of 6,000 merchants per day.
Giving acquirers control over Discover's transaction pricing is a powerful incentive for third-party operators to promote Discover acceptance, Matt Johanson, Discover vice president of acquirer relations, tells Cards&Payments. "Acquirers can earn the same type of margins selling Discover card acceptance as they do selling Visa and MasterCard acceptance," he says, noting Discover retained direct relationships with a core of large, national merchants.
Merchant acquirers applaud Discover's approach.
"Customers love it," says Debra Rossi, executive vice president and general manager for Wells Fargo's Merchant Payment Solutions division. "The former approach was very awkward because we couldn't provide merchants with a discount rate for Discover or help with customer-service problems. Under the agreement we signed last year with Discover, merchants don't need to make any special effort to accept Discover. Not only has it been extremely easy to enable existing customers to add Discover card acceptance, but it's even easier to sell it to new customers."
AmEx has talked with Wells Fargo about forming an integrated-services acceptance agreement, but the two companies have not yet come to terms, Rossi says. "When customers want to offer AmEx, we tell them to get in touch with AmEx about their fee and their contract," she says. "It's a very fragmented arrangement."
So far, AmEx has inked integrated card-acceptance deals with three top processing companies: First Data, whose agreement went live last June, and Heartland Payments Systems and Elavon, whose deals went live late last year.
AmEx declines to reveal its progress in gaining integrated card acceptance through the new arrangements, but analysts say it is sluggish. While independent sales organizations claim to be adding Discover acceptance in droves, there is little uptake of AmEx (
Bryan O'Malley, AmEx vice president for small-merchant acquisition, tells Cards&Payments it is too early to report results from its new third-party agreements but notes the overall response is positive. "Smaller merchants say it is a terrific value to have AmEx folded into their bankcard-servicing agreements," he says, declining to comment on specific pricing for AmEx transactions. "Typically we set the transaction rate for a particular merchant, and that rate is built into a single, integrated fee paid to the processor."
A First Data spokesperson declined to provide details of its efforts to push Discover or AmEx integrated-service acceptance.
Data Problems
Despite Discover's claim of rapid expansion of its card-acceptance base, it is difficult to measure card-network merchant penetration accurately because data are inconsistent, Auriemma's Strumello warns. "A merchant may be classified as an outlet, a terminal or a single merchant identification number, and many of the numbers, including from Visa and MasterCard merchants, are dubious," he says.
But many observers believe Discover is on track to reach near-parity with Visa and MasterCard next year as all of its agreements go live and more sales agents push the integrated-service approach.
Moreover, Discover's acceptance-expansion efforts also could pave the way for the company to persuade more banks to issue Discover-branded debit cards, says Bryan Derman, a partner with Glenbrook Partners LLC. "As the debit arena becomes more competitive, Discover is likely to push for more growth there, and widespread acceptance is essential for debit cards," he says.
AmEx likely will not release its grip on controlling its own contracts and transaction-pricing anytime soon, analysts say.
The card brand maintains it is not interested in entering the debit card arena. Moreover, the company continues to walk a tricky line in touting broad acceptance while supporting the perception that AmEx's more-upscale cardholders drive higher average ticket sales, justifying its higher merchant discount rate.
"It appears that AmEx wants to maintain control over the relationship and transaction pricing in order to retain the ability to negotiate merchant fees," Derman says. "There are some higher-end locations where it's more worthwhile for AmEx to discount its rates and others where it is not so fruitful."
Within the last two years, Discover has worked to boost worldwide acceptance of its brand. Through a reciprocal agreement Discover inked in 2006 with JCB International Credit Card Co. Ltd., Discover cards now are accepted at many JCB merchant locations in Japan, and JCB cards are accepted at Discover's estimated 4 million merchant locations in North America and the Caribbean. JCB no longer discloses its merchant-acceptance totals in Japan. The total was about 8.5 million in September 2007.
Discover last April acquired Diners Club International, laying the groundwork for acceptance of Discover cards at Diners Club's 8 million acceptance points in 186 countries and Diners Club card acceptance at all Discover merchant locations. Discover gradually will migrate Diners Club transactions to the Discover network from MasterCard's network over next two years, a Discover spokesperson says.
But broad acceptance alone is not a guarantee of success, analysts note.
"Discover may have widespread acceptance now, but its biggest challenge remains getting people to use its cards," says Adil Moussa, an analyst with Aite Group. "Solid acceptance through the third-party channel is a positive step. The next step–getting widespread Discover card usage–is tough, and it's going to be a slow process."
After decades of lagging behind its larger rivals, Discover is showing that third-party channels can succeed in boosting card acceptance. For AmEx, the channels have not yielded obvious gains yet, though its slower acceptance growth may be deliberate. CP
