Selling Merchants On Pin Debit

  Could this be the year of the PIN?
  Shoppers have been shifting to personal identification number-based debit cards over the last five years, opting to use them for everyday purchases. But consumers seem to be ahead of many merchants in this regard. Despite gains in the PIN-accepting merchant base, as few as 25% of U.S. merchants accept so-called online debit compared with over five million locations that accept Visa/MasterCard credit and signature-based (offline) debit cards.
  PIN debit's strongholds remain grocery stores, gas stations, certain big-box discount retailers such as Wal-Mart Stores Inc., and other sectors where a card can most easily replace cash and checks, including the U.S. Postal
  Service.
  The holdouts remain hundreds of thousands of mom-and-pop shops and various higher-ticket merchants where credit cards penetrated long ago, such as traditional department stores.
  And PIN-based debit cards still have practically no presence in the booming Internet marketplace, though entrepreneurs and electronic funds transfer networks continue to search for breakthrough technology ("PIN Debit's Race to the Internet," February).
  The reasons holding back PIN-debit acceptance vary. Some consumers don't remember their PINs, giving merchants a reason not to invest in PIN-reading hardware. A white-tablecloth restaurant may not want to buy portable PIN-
  enabled terminals that the waiter can bring to the diner. And personal computers need extra software or hardware to accommodate PINs.
  Not only that, national and regional EFT networks have been raising interchange, the amount of the sale that the merchant acquirer must forward to the issuer of the card the buyer used. Acquirers, of course, simply pass on the expense to their merchant clients. Over the past year, EFT network point-of-sale rates have gone up anywhere from 13% to more than 70%, depending on the network and type of transaction.
  Nevertheless, PIN-based debit still remains the least-expensive form of card payment for merchants to accept. Merchants got some relief last August when Visa USA and MasterCard International lowered signature-based debit rates
  by about 30% as a result of their settlements in the class-action retailer lawsuit. But the associations recently adjusted offline debit interchange again, which will result in lower costs for the high-volume merchants but higher
  costs for the small guys.
  If that wasn't enough, Visa and MasterCard are raising credit card interchange rates this month. Interchange expenses for cardholder-present, electronically authorized sales will rise 7%-more than three times the current rate of inflation of about 1.8% (page 32).
  The most common credit card transaction small merchants will pay for both Visa and MasterCard will carry an interchange rate of 1.54% plus 10 cents. For an $80 sale, that translates to $1.33.
  The same transaction using a Visa- or MasterCard-branded signature debit card costs 99 cents. But the interchange on an online debit transaction using Visa's Interlink network is 0.65% of the sale plus 12 cents, with a cap of 45 cents. (High-volume merchants earn discounts.)
  Now, more than ever, acquirers have a chance to sell lower-cost PIN debit, especially since PIN-based transactions are much more secure than signature-based ones.
  "Promoting PIN is a tangible thing to do to address the increases," says Mark D. Pyke, chief operating officer of National Processing Inc., parent company of National Processing Co. (NPC), a leading merchant acquirer based in
  Louisville, Ky. "MasterCard and Visa are helping to promote the business case for PIN debit."
  Adds John Hamby, senior vice president with Savings Bank of Manchester in Connecticut, an acquirer with about 5,000 mid-size merchants in New England: "If (the card associations) keep increasing pricing, everyone will look at
  alternatives."
  Wal-Mart, the world's largest retailer, echoed that view in February when MasterCard started the latest round of credit interchange increases. "We are disappointed with MasterCard's decision," the retailer said in a statement to
  CardLine, a CCM sister publication. "This increase is unwarranted and will trigger a further escalation in fees that are borne by merchants and ultimately, the consumer."
  If higher interchange on competing payment forms isn't enough, acquirers looking to bolster their debit sales pitches to reluctant merchants can cite data from two recent studies showing the PIN's popularity with consumers. A Dove
  Consulting Inc./American Bankers Association survey found that 45% of consumers prefer using their PIN, compared with 38% that favor a signature, and 17% that had no preference. The survey of 2,008 consumers was released late last year.
  A survey of 6,500 consumers in 2003's fourth quarter by Edgar, Dunn & Co. found overwhelming PIN preference from those respondents who prefer using their debit cards. According to the PaymentDynamics 2004 Preferred Card study, 69% of such consumers prefer using a PIN, compared with 31% who prefer signing for a purchase. Edgar, Dunn is a San Francisco-based consultant to major card issuers.
  The PaymentDynamics study found that debit cards are preferred by 38% of consumers, followed by standard credit cards with 22%, cobranded credit cards liked by 20%, and loyalty credit cards with 15%. Consumers estimated to Edgar,
  Dunn that they used their debit card as a replacement for cash and check in 80% of their transactions, and in place of their credit card in the remaining 20%.
  Reduced Fraud
  "Consumers understand the products," says Pyke. "Grocery and gas is (paid for with) debit. A color television is (paid for with) credit. PIN is not cannibalistic of credit cards or even signature debit. It's cannibalistic of cash and checks."
  Merchant acquirers are increasingly marketing the benefits of PIN as the best fit for current consumer demands. Entering a PIN makes it very easy to get cash back at the point of sale, and many consumers don't want to put
  more charges on their credit cards, says Robert Wechsler, executive vice president, Chase Merchant Services. Melville, N.Y.-based Chase Merchant Services is the largest U.S. merchant acquirer, recording 4.3 billion card transactions
  worth over $295 billion in 2003. It is a joint venture of J.P. Morgan Chase & Co. and First Data Corp.
  Acquirers can dovetail this consumer popularity with merchants' desire to reduce fraud and disputed sales. "Merchants like PIN because there is reduced fraud," says John C. Gould, director of consumer lending and cards for
  TowerGroup Inc., a Needham, Mass.-based research firm that was bought by MasterCard in February. "Issuers like it because there are fewer chargeoffs and less credit loss."
  The major hurdle for increased PIN debit use has been convincing merchants, especially smaller operations, to buy and install PIN pads. Prices for comparable equipment have fallen or remained relatively flat in recent years, though added features make comparisons tricky, according to manufacturers. The vendors declined to share specific prices, claiming non-disclosure agreements.
  The arguments for such an investment are beginning to resonate in some sectors, including major department stores, where the PIN's penetration traditionally has been low. Sears, Roebuck and Co. is rolling out PIN pads in its 870 U.S. stores this year ("Offline Debit Gets Scorched," February).
  The fact that most PIN terminals are located at large, multilane retailers makes it difficult to determine the size of the potential market for the equipment. Visa estimates about 25% of merchants accept PIN debit, while consultant Speer & Associates estimates about half of merchant locations have a PIN pad. The U.S. credit terminal base numbers about eight million, Speer says. This year, PIN-pad buyers include mid-tier retailers and some single-store
  shops of national merchants, says Les Riedl, Speer's executive vice president.
  Chase Merchant Services offers a return on investment (ROI) calculation for clients considering buying pads. It totes up the cost of the technology and the back-office system changes needed to get it up and running. Then it
  figures in savings from the decrease in interchange from converting existing credit and/or offline debit card transactions to PIN-based debit.
  Merchants can also count on more sales because a PIN debit transaction is faster than a signature-authorized sale, according to Chase. Finally, fraud losses drop with PIN debit.
  Put it all together, and a mid-size retailer can save between 18% to 32% in the first year, depending on sales volume, says Wechsler. A large merchant can save 20% to 25%, he says.
  Processors can do other things to steer consumers to use a PIN instead of a signature, says NPC's Pyke. That includes requiring checkout staff to prompt the consumers for a PIN after ringing up the purchase. The ever cost-conscious Wal-
  Mart is well known for using PIN prompts.
  Once a card is swiped, the processor will read the magnetic stripe and determine the card issuer's bank identification number (BIN). That will tell the processor if the issuer is PIN-enabled, says Pyke. If so, the processor
  will send a message to the terminal, and the terminal's liquid crystal display (LCD) read-out will prompt for a PIN, he says.
  Growth Spot
  At gas pumps, the LCD may be programmed to emphasize the lower PIN card fraud rate and "the display may read, 'For your protection, please enter your PIN,'" says Pyke.
  The next merchant growth spot for PIN debit could be quick-service restaurants. Plastic use is already on the rise at fast-food eateries with consumers using their Visa cards for $6.5 billion in purchases at QSRs in 2003, up 103% from $3.2 billion in 2002, according to a Visa spokesperson.
  In 2002, the average card purchase was valued at $9.60 compared with an average of $7 for a cash transaction, Visa found.
  About two-thirds of the Visa fast-food purchases are done with its signature-based Visa check card. But the low-ticket, in and out sales style of the fast-food industry lends itself to PIN systems. The QSR market is worth an
  estimated $125 billion annually.
  Burger King Corp. teamed with Chase to launch in February the "Pay It Your Way" promotion of card use at its restaurants. About 2,100 of Burger King's 8,000 U.S. restaurants accept credit cards but plans call for debit,
  gift and loyalty card acceptance. Consumers have said they would spend more at a quick-service restaurant if it accepted credit or debit cards, according to a First Data survey.
  But the business case for the PIN may be less cut and dried for some merchants. Those with an integrated electronic cash register system may find it too expensive to add PIN pads, says Tom Griffith, senior marketing product
  manager at Omaha, Neb.-based merchant acquirer First National Merchant Solutions.
  Consider also that debit cards, whether PIN or signature, generally are used for lower-ticker items, he says. Installing this new system probably won't bring in new, high-spending consumers.
  But both signature and PIN debit transaction volume continue to grow. During the first nine months of 2003, the number of transactions with Visa check cards and debit MasterCards increased 20% to 7.12 billion, according to CCM
  sister publication ATM&Debit News. The value of the transactions for January through September in 2003 was $279.6 billion, up 22% from the same period in 2002.
  Drawbacks
  Online debit surged during the recent holiday season. The top five PIN-based point-of-sale networks saw 592.2 million transactions in December 2003, up about 27% from December 2002. The five networks-Star, Interlink, Pulse, NYCE Corp., and Accel-reported a 29% increase in transaction volume from December 2002 compared to December 2001.
  Signature debit's growth rate has slowed slightly from previous years but it remains dominant. That's because it came first, is widely available, and is adaptable to most merchants, says Jeff Trachtman, vice president and director
  of bank card operations at Cincinnati-based Fifth Third Bancorp's merchant-acquiring unit, Fifth Third Processing Solutions.
  Trachtman sees PIN debit growing because the pads are becoming cheaper. Still, "signature will stay dominant for the foreseeable future. PIN doesn't fit well in certain categories like restaurants and on the Web," he says.
  PIN debit has several other drawbacks. Many consumers simply don't remember their PIN or don't want to remember another number, says TowerGroup's Gould. And while PIN debit offers better customer authentication than signature credit
  or debit cards, the cards are not free from fraud.
  Crooked store employees at the point of sale have skimmed a card's magnetic stripe, "shoulder surfed" the PIN, and used the information to create a so-called white card, says Gould. That card is then used to withdraw money from
  the cardholder's account at an automated teller machine.
  Still, PIN-based fraud is a fraction of fraud on signature-based cards, especially credit cards, where losses are estimated to exceed $1 billion annually.
  Meanwhile, signature-based and online interchange rates have come somewhat closer together, close enough for some merchants to remain on the fence regarding PIN-pad purchases. Gould argues that merchants without PIN pads,
  especially smaller merchants, won't see the need to invest in the technology.
  But others believe the ever-changing rate structure is compelling merchants to offer both debit styles. "Merchants have to make both available and let the customer choose," says Trachtman.
  Wal-Mart added more fuel to the fire in February when it began declining transactions on the signature-based debit MasterCard brand. Wal-Mart said debit MasterCard's interchange rates were too expensive. (Wal-Mart's decision
  came before MasterCard's latest rate revision, which lowered offline interchange for big merchants and matched Visa's rates.) Instead, shoppers who present a debit MasterCard are being prompted to enter a PIN. Debit MasterCard accounted
  for only about 1% of Wal-Mart's sales.
  All in all, the case for merchant acceptance of PIN debit remains strong. The PIN is a proven technology that is inexpensive and popular with customers. It's up to acquirers to hone their sales strategies to convince
  retailers that maybe now's the time to open the wallet and buy a pad.