In taking on contingent acquiring liability, merchant acquirers risk substantial exposure to financial losses in the event of client insolvency.
This risk is measured by the length of chargeback periods, whether delivery of goods and services is immediate or delayed, and the industries in which their clients operate.
Sectors and payment scenarios once regarded as "safe," such as immediate delivery, card-present retailers, are now seen as higher risk thanks to the popularity of e-commerce and mobile sales channels. A rise in popularity of the gift card market also leaves merchant acquirers open to increased danger through delayed delivery of goods.
There are several things merchants can do to mitigate risk. These include performing regular credit checks on clients; monitoring client transactions for signs of business failure; building up cash collateral via delayed payment to retailers; and developing defined risk management strategies
Of these mitigation tactics, the most likely to bring long-term results is the development of risk management strategies. The other options all have limitations.
For example, performing regulation credit checks on clients involves annual exams, often by a merchant acquirers parent bank. But if business failure happens quickly this measure would not be sufficient to highlight exposure unless the timing of the credit check was right.
Monitoring client transactions also has challenges. As stated earlier, the attempt to keep an eye on exposure to risk involves monitoring a retailers account for signs of business failure, but how can this process be solidified to achieve better, more reliable results, especially when a merchant acquirer will not be aware of specific indicators of business distress, including heavily discounting products, services or warranties; prolonging delivery times; the emergence of strong local competition; increased creditor days and lack of efficient credit control systems.
These factors mean an acquirer's ability to minimize risk is very limited if the only action it can take is to check on the volume and nature of transactions going through their clients account.
Building up cash collateral via delayed payments to retailers has additional limits. A prolonged settlement period, during which time cash is held by the merchant acquirer, wont be helpful in the long-term should a client business fail.
As a retailer approaches insolvency, sales fluctuate with a smaller amount of cash arriving in the merchant acquirers reserves. Additionally, total reserves available may bear little resemblance to the final contingent liability, as consumer claims often include compensation for breach of contract as well as the full cost of goods or services.
Developing a risk management strategy is the strongest approach. Accurately gauging contingent liability and subsequently managing it via defined strategies offers the most control over credit risk.
Exposure modelling techniques using historic merchant transactional data, plus industry benchmarks and information, are the first line of defense and provide an indication of the risk levels being faced.
Followed up with investment in risk and chargeback management, financial damage can be limited if exposure to financial loss materializes.
Keith Tully is a partner at
