Payments Business Magazine Jan/Feb 2016

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❱ “Adopt new technology to modernize payments”

❱ “Make my travel transactions safer”

❱ “Ensure my data is used responsibly”

❱ “Gain my trust as your customer”

The Merchant’s Guide to Transactions, Cards & eCommerce

Challenges from the Sophisticated Consumer

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3 January/February 2016 PaYMenTSBUSINESS

Key theme

table of Contents

4 Starting Points6 Patterns8 Security

10 Stewardship30 resolutions

COLUMNS & DEPARTMENTS

FEATURES

January/February 2016 Volume 7 Number 1

Editor-in-Chief Steve Lloyd [email protected]

Managing Editor Sarah O’Connor [email protected]

Publisher Mark Henry [email protected]

Contributors John Chant; Max Chion;

Michael Cyr; Salim Dhanani; Richard A. Hall; Anthony Hynes; David Parker; Michael J. Vaselenak

Creative Direction Jennifer O’Neill [email protected]

Photographer Gary Tannyan

President Steve Lloyd [email protected]

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Made possible with the support of the Ontario Media Development Corporation

Next issue…Mar/aPr – Merchant Services report. This issue features a report on merchant services with

respect to analytics. We also visit what’s trending in the travel industry, with prepaid cards, and with digital money.

12Data & mobility: Changes are ComingCommercial payment innovations trailed the consumer sector because of complexity and lengthy adoption periods.

22the new (and old) Kids on the block

16advancing PaymentsHow technology updates and infrastructure changes will modernize systems and keep customers satisfied.

24Why mobile Payments are your big Data Game Changer

26five Questions banks should ask before moving to host Card emulation (hCe)


Canadians are among the world’s most prolific international travelers, on both an aggregate and per capita

basis, according to the Tourism Industry Association of Canada (TIAC). In 2013, Canadians spent over $30 billion CAD overseas, while in 2014 Canadians made an estimated 23 million visits to the U.S. alone.

To get a better understanding of how these visits are being paid for and what challenges the travel industry faces around payment, eNett International commissioned leading research agency Euromonitor to conduct in-depth interviews with agents in Canada. By some distance their biggest concern was payment fraud. This paper examines the reasons behind this and considers the solutions available to tackle this problem.

New research commissioned by eNett International shows that card fraud is the biggest payment concern for the Canadian travel industry. This paper explores the research in more depth—and introduces the Canadian travel industry to an alternative payment method that offers the simplicity and flexibility of cards while minimizing the risk.

To get a better understanding of how these visits are being paid for and what challenges the travel industry faces around payment, eNett International commissioned research agency Euromonitor to conduct in-depth interviews with agents in Canada. By some distance their biggest concern was payment fraud. This paper examines the reasons behind this and considers the solutions available to tackle this problem.

Cards are in chargeAt home and abroad, travellers’ share of trips paid for on personal credit cards, corporate cards and lodge cards is huge. A 2013 study found that globally, credit cards are the predominant means of booking accommodation through direct channels, accounting for 68 per cent of direct online sales and 87 per cent of direct offline sales.

Euromonitor’s research reiterated this, but found that Canadian agents have a strong preference for passing through customers’ cards. According to the findings, 90 per cent of all hotel bookings through travel agencies in Canada, and a similar proportion of airline bookings, were made using customers’ credit cards.

The risk of fraudWith such a reliance on payment by card—and in most cases taking responsibility for

payments with customers’ cards—it is no surprise that protection from fraud is high on the priority list for agencies. In fact, the research found that protection from card fraud is the single most important consideration in a payment solution, and with good reason. It is estimated that nearly a third of all credit card fraud is attempted in the hotel industry.

Such is the risk that the Association of Canadian Travel Agencies has launched a campaign to educate its members about the risk of payment fraud. But even though protection from fraud is identified as the overriding priority in payment selection, the research also revealed that few respondents were aware of alternative payment models for cards. This is especially significant as some of the emerging alternatives are well-equipped to solve the payment fraud issue.

startinG Points

By Anthony Hynes Managing Director and CEO of eNett. The Vancouver-based company is a travel industry specialist with payments expertise.

We travel, but we worry about fraud when we do

Few Canadians are aware of travel payment alternatives that mitigate risks


startinG Points

Creating Confidence. Giesecke & Devrient offers a comprehensive range of secure payment products and solutions based on the latest EMV, Mobile and Cloud technologies. The G&D solutions portfolio includes state-of-the-art operating systems for secure elements and payment applications for m-commerce and transit. G&D provides personalization services, system integration, project management and technical consulting from a single trusted source. www.gi-de.ca

Securing Mobile Life.

Why is fraud the top concern in the industry?Concerns about fraudulent transactions are often based on first-hand experience. The Association for Financial Professionals reported that 62 per cent of organizations were targets of payment fraud in 2014; in a third of these, company credit or debit cards were targeted.

Recent industry trends have contributed to fraud remaining top of the list:

The cost of fraud:1. The biggest issue of all is the cost to the industry. The result of fraud is simple: suppliers do not get paid for the services rendered—a direct and immediate loss. For B2B payment fraud there is the additional time and administration costs of facilitating chargebacks, and loss of reputation and goodwill. Travel Payments Insider reported in 2014 that “the current estimate is that card fraud is costing the airline industry over a billion dollars a year.” Perseuss, the

airline community’s anti-fraud database provider, estimates airlines around the world lose one per cent of revenues to online fraud.Greater online transactions:2. Credit card fraud is of course not a new issue. In fact, in 2008 over $400 million CAD was lost to fraud. Around 40 per cent of this was through the use of counterfeit cards. In 2012 a survey found 25 per cent of Canadians were victims of card fraud. But the pattern of fraud has changed. In 2014, over $360 million CAD was lost to transactions made without the card present, such as online or over the phone. This involved over half a million different cards. By way of contrast, the number of stolen cards used in fraudulent transactions was just under 30,000. Added to this, hacking and data theft continues to grow as an issue, with several high profile cases being featured in the media. As online payments will

continue to grow and eventually replace checks, protecting payment data and minimizing the risk of data theft has become the top priority.Anti-fraud legislation:3. A wealth of legislation exists to tackle card fraud, but agencies told Euromonitor that this legislation itself can be problematic. For example, once the initial payment is made, some agencies aren’t permitted to store travelers’ credit card details on their systems. This means card details must be taken again to pay for any extras—often locally—opening up the risk of cards being skimmed overseas. It also causes customer service issues, with customers seeing two charges on their bills.More international payments:4. Changing travel patterns are also increasing the risk of fraud. More and more Canadians are visiting exotic or remote destinations.

Continued on page 28


Patterns

10 e-commerce trends rattling retail in 2016Absolunet shares the 10 trends that will have

the greatest impact on Canadian retailers in 2016. Although all 10 trends are e-commerce-

based, their impact will also be felt in stores.“E-commerce has become a must for retailers,

but it is increasingly challenging to choose the right strategy and the tools that are compatible with existing operations and ways of doing things,” explains Charles Desjardins, vice-president of marketing at Absolunet. “By compiling these 10 trends we expect to see defining 2016, we aim to help Canadian retailers gain valuable insight to choose the best strategies and the best partners for their growth.”

Absolunet is one of Canada’s most specialized agencies in matters of e-commerce. They analyzed 31 digital and e-commerce projects from major Canadian retailers, including Birks & Mayors, Stokes, Linen Chest, Souris Mini, SAIL, Structube and La Vie en Rose. The research was additionally enhanced with their analysis based on expertise and understanding of the Canadian market.

The 10 trends that will shape Canadian e-commerce in 2016:

1Click & Collect becoming standard. A MUST for online retailers who operate brick-and-mortar stores: in-store pick-up will be offered by an increasing number of retailers.

2Rise of in-store digital. In 2016, more and more stores will see the introduction of innovative digital technologies on the sales floor.

3Social media profitability. Social media ROI is constantly improving and smart retailers will continue to (or begin) investing in their social presence.

4Brands creating more content. Brands will create more original content than ever before.

5B2B overtaking B2C. As the tools continue to evolve, B2B e-commerce is expected to see a phenomenal growth in the next few years.

6Globalization / More Canadian retailers expanding worldwide. Several prominent Canadian retailers will leverage their digital infrastructure to expand into foreign markets, most notably the U.S.

7Product information management. As customer behaviour shifts towards “pre-purchase research,” retailers will invest in product information management solutions (PIM).

8Simplification of order processing. More transactions mean more processing. To achieve sustainable profitability, retailers will invest in Order Management Systems (OMS) to cope with the increased demand in processing and logistics.

9Client data for all. Merchants who invest in solutions that make it possible to profile clients and to personalize the shopping experience will gain market share.

10Fraud (and the tools to fight it) on the rise. Fraud is a growing problem for Canadian retailers. As fraudulent methods evolve, the tools to fight it are also becoming more accessible.

To learn more about these 10 trends, their potential impacts on Canadian retail and to find out which Canadian retailers have successfully implemented which digital solutions, visit www.10EcommerceTrends.com

five other trends to watchTara Sporrer at retail e-commerce specialist Moxie sees

these five trends as key.

Contextual shopping will replace personalization.1.

Brands can map the customer journey and anticipate

their needs, providing shoppers with the information

they need when they need it.

Brands will proactively engage shoppers instead of 2.

waiting to be contacted. We’re already seeing brands,

like Shinola, improve their online conversion rates and

engage more customers by offering live chat and relevant

information right on product pages.

Mobile commerce will continue to grow, thanks to 3.

improved mobile engagement. Gartner predicts that

by 2017, customers’ mobile engagement behaviour will

drive mobile commerce revenue in the U.S. to 50% of

U.S. digital commerce revenue.

Retailers will staff their online stores the same way 4.

they staff their physical stores. In 2016, we will see

more brands creating virtual sales forces.

Traditional analytics will be replaced by real-time, 5.

actionable analytics. You will see in real time what your

customers are doing.


seCurity

Would you know if you were under cyber attack right now?

Cybersecurity is a growing threat for Canadian businesses—yet according to EY’s Global Information Security

Survey, more than one-third (36%) of organizations still don’t believe they can detect sophisticated cyber attacks. That number is lower than last year (56%), but still a concern as the level of sophistication in attacks continues to increase. Because of this, Canadian organizations in both public and private sectors are collaborating to respond to this threat more effectively and in a timely fashion.

“With the recent increase in adoption of threat intelligence services, we are seeing businesses start to take a very different and more proactive approach to information security,” says Abhay Raman, EY’s Canadian cyber security leader. “The future will see more persistent, multi-vector targeted attacks on operational technology environments versus mass attacks.”

As organizations strive to understand cybersecurity, these are six trends to watch in 2016:

Cyber threats from the interconnected 1. world. Approaches to cybersecurity will need to encompass the Internet.Growth in digital identities. Organizations 2. must rethink how they recognize and treat identities by establishing robust data ownership and date protection policies.Hyper-regulation leading to a more 3. complicated landscape. Organizations risk becoming so focused on complying with different requirements they won’t

be able to develop an overall strategic and balanced approach to cybersecurity. Criminal marketplace will become 4. increasingly professional. Organizations should conduct a tailored threat assessment aligned to protect their most valuable data, and establish mitigation measures around vulnerabilities for access to it.Traditional models for defence are no 5. longer adequate. Leading organizations need to look for ways to proactively engage their highest risk adversaries and protect critical data assets. Advanced “active defence” to detect 6. and respond to advanced cyber-attacks. By applying “active defence” techniques and leveraging security analytics, organizations will be able to shift the paradigm from reactive to proactive.

According to EY’s report, “Creating Trust in the Digital World,” likely sources of cyber-attacks depend on industry.

“The key to effective use of threat intelligence lies in relating it to business context quickly, or face the inevitable drowning in a sea of irrelevance,” says Raman. “Companies need to consider how to filter the useful information from the useless. In other words, they need to plan for this onslaught of data before they are buried in it.”

According to EY’s survey, the two top information security threats are phishing (44%), and malware (43%). EY has five recommendations for businesses to protect their employees and information:

Identify the real risks (employees, hackers, 1. etc.);Prioritize what matters most;2. Govern and monitor performance;3. Optimize investments; and4. Enable business performance. 5.

EY is a global leader in assurance, tax, transaction and advisory services.

Industry Likely sources of cyber-attacks

Top priorities for information security

Consumer products

Employees: 61%Criminal syndicates: 52%External contractors: 43%

Business continuity/disaster recovery resilience: 59%Data leakage/data loss prevention: 50%Incident response capabilities: 40%

banking and capital markets

Cyber attacks to steal financial information: 21%Malware: 20%Fraud: 19%

Data leakage/data loss prevention: 67%Business continuity/disaster recovery: 56%Identify and access management: 56%

Power and utilities

Outdated security information, careless or unaware employees, malware: 20% each

Business continuity/disaster protection: 52%Data leakage/data loss prevention: 44%Security operations, such as anti-virus, patching, encryption: 43%

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steWarDshiP

Six global trends smart retailers are migrating toward

This past decade brought us the iPhone, the maturation of the Internet of Things and the ability to pay with a dip,

a tap, a text and a blink. These innovations and many others have transformed how we live, how we interact and how we shop.

Below we note six important trends that retailers should embrace to find new customers, drive more sales and win the hearts of their most loyal customers.

Customizing for the consumer People are hungry for a personalized shopping experience; roughly half of shoppers we recently surveyed say their top frustration is retailers not knowing what they want. Retailers who can articulate to their customers that they have the right product at the right time for their needs will win. Enriched customer data provides retailers with the insights to enter a new era—the personalization of retail. Retailers who focus on the “micro-moments” of the buying decision-making process, leveraging insights from loyalty programs, marketing engagement and enhanced analytics, will

stay relevant and ultimately drive sales.

Digitizing the in-store experience With 62% of shoppers saying they do more research online than in the past and the average grocery store carrying upwards of 42,000 products, it’s likely that customers know more than sales people about any one item. Enter the new technology-enabled retail environment that frees sales personnel to be concierges instead of hard-push spend drivers. Think of it as The Apple Store approach at scale. The growth of beacon technology, for example, lets retailers engage with consumers in a real time, relevant way that enhances their overall experience. Equally important is focusing on fewer key efforts and creating a top-notch omnichannel shopping experience.

Max Chion is Executive Vice President, Global Acceptance Products for MasterCard.

Michael Cyr is Executive Vice President, U.S. Market Development for MasterCard.


steWarDshiP

The socialization of shoppingNearly 80% of consumer purchases are now informed by a device, giving the shopper near ubiquitous access to information, reviews, prices and offers. While friend and family recommendations are the most important to consumers, two-thirds of consumers say they also trust third-party reviews posted online. We anticipate savvy retailers will expand their digital presence via direct sales with buy buttons, savvy P2P product education and “real life” product descriptions, driving genuine reviews and incenting sharing.

The Internet of Things continues to rev upAppliances, wearables, cars, light bulbs and gadgets of all types are becoming connected. In a world where connectivity is a given, convenience will be table stakes. The connected consumer, challenged with

shrinking personal time and increasing demands on it, is looking for technologies that are convenient, accessible and secure. We anticipate more launches like Groceries by MasterCard, a shopping app that lets consumers order groceries from the refrigerator with a few simple taps. For the smart retailer, the true differentiators will be interconnectivity and seamlessness in the shopping experience as consumers seek out a family of products and services that work together to simplify and improve their lifestyle.

Digging deeper with the chip Look for more features and greater functionality out of chip cards. While the U.S. is migrating to the technology, Canadians, Europeans and others around the world already enjoy smart, interactive cards offering a variety of services, from multi-account access to multiple payment

options to multi-currency cards.

Checking in with the travel economy According to MasterCard SpendingPulse, 2015 saw record spending on airlines and accommodations. Consumers are taking advantage of their vacation time to shop, looking to find their trusted and preferred brands and discovering new ones. This is happening within countries but also amplified across borders, particularly for categories like luxury. The threaded development of cities, travel and commerce can be a guiding force for new partnerships—and open new opportunities for retailers.

For discerning customers with nearly endless choice, the experience is a deciding factor. Retailers who understand that and take advantage of the latest trends will be poised to deliver the best possible experience—and gain the sale.


DATA & MOBILITY: Changes are ComingCommercial payment innovations trailed the consumer sector because of complexity and lengthy adoption periods. now, new innovations focused on the pain points unique to commercial payments may be the spark that’s needed.

by riChard a. hall Stakeholders in the commercial and enterprise payments sector have long awaited realization of promised changes in the way payments

are initiated, invoices managed, and reconciliation and reporting automated. For example, the roll-out of procure-to-pay solutions was a key topic in our outlook on the commercial payment sector last year, but 12 months later we are still awaiting proof points that will reveal whether these solutions are ready for prime time or just another step along the road to more efficient solutions.

The reason many solutions initiatives have failed to realize their promise is that providers underestimated the challenge presented by the complex systems and organizational structures in middle-market

and large corporate payments. The myriad inefficiencies existent in the corporate systems cause providers of new solutions to overreach and cause implementation to become long and expensive. And since commercial payment processes are human capital intensive, changes can be actuated only if they include ways to better leverage that human capital within the company.

We expect improvements in the landscape for commercial payments in 2016 because innovators are providing value propositions that will resonate with middle-market and large corporations. As an accounts payable head of a Fortune 500 company said, “It isn’t as though we have changed what we are asking for—our problems are the same or

CommerCial Payments


worse—it just seems as though our bankers and technology vendors have now decided to listen.”

We anticipate developments that will improve the landscape of commercial payments in four key areas:

Technology;1. Big Data;2. Commercial payments and relationship management; and3. Digitizing corporate connectivity, as discussed in the following 4. pages.

Technology: Procure-to-payAs we observed in our Outlook for 2015, the announcements of joint ventures in the procure-to-pay space held much promise. Solutions such as AribaPay and Basware provided a solid foundation for the transformation of an integrated offering with payments at the hub. These solutions are still evolving and finding a way to define value in the market, but it is safe to say that their focus on the upper end of the large corporate sector addresses only a small portion of the opportunity. A large challenge for companies of all sizes is managing supplier relationships, but Mercator Advisory Group continues to observe frustration among corporations because there are too many proprietary marketplaces for supplier information. Collaboration would simplify sourcing, given the thousands of supply relationships across multiple supplier networks. It could ensure more equitable treatment across the pantheon of supplier segments, from largest to smallest. Possibly the Business Roundtable efforts regarding faster payments will help banks develop other ways to profitably help corporations with payments beyond serving as the gatekeeper between buyers and suppliers.

Technology: MobilityOne of biggest differences between consumer and commercial payments is the role of mobility. While ApplePay and Samsung Pay have provided a year of continuous headlines for consumers, the question remained when these solutions would gain wide distribution in commercial payments as well. Mercator’s response to that question was “most likely never”—not because the technology wasn’t innovative or employees of enterprises (who are also consumers) expecting to migrate to mobility, but because the corporate payment programs for cards are not designed or ready for it.

To date, the concept of mobility in commercial payments has

rightly focused on facilitation of the process rather than the actual payment. Innovative institutions such as Wells Fargo and US Bank have envisioned corporate mobile as an extension of their online capabilities. The fact is that authorization and alerts can be routed to a smartphone as easily as to a desktop. This doesn’t mean that further innovation will be limited (the recent announcement between Bottomline Technologies and Visa point to the contrary). It does mean though that commercial mobile should no longer be considered as simply a modified consumer application but should instead be applied differently for commercial payments, taking into consideration the unique business cases and uses. Mercator sees the possibility of commercial “wallets” to incorporate purchase controls, preapproved travel discounts, and easy expense filing.

Technology: Virtual cardsAs we noted in our recent research report State of the Commercial Card Market, 2015, Mercator continues to see the role of virtual cards increasing in the United States. Virtual card represents a major opportunity to address one of the key inefficiencies of the traditional commercial cards—namely that it is more complicated than it needs to be. We have moved beyond a market differentiated by card products. That was a value proposition for the world of plastic cards, not virtual. As virtual cards penetrate the antiquated marketplace of travel and entertainment (T&E) cards in the U.S. and move beyond procurement activities, the market will find new ways to take advantage of the inherent flexibility in virtual cards—still to be delivered—and begin to transform commercial card programs into simplified 21st century tech programs.

Big DataOne asset of commercial payments is the amount of data that corporations have available to them covering key aspects of their business. The data ranges from supplier lists to invoice and contract data to payment methods and discounts. The challenge lies in extracting relevant and meaningful information from this “big data” in a manner that allows a company to maximize its position more efficiently and profitably. As we enter 2016, there are still too many corporations without the time or skills to do this. Lack of execution is the key problem.

Commercial card issuers and technology providers can help. Banks and technology providers have undersold the value of their knowledge, which can be transferred to highlight the strategic value of their programs to corporations, and have continued to position themselves instead on their solutions’ features and functions. As Mercator Advisory Group has noted in other reports on the subject, most commercial payments require some degree of customization at the company level. Alignment of the underlying payment operations data to a company’s strategy can be an important differentiator for both banks and their corporate clients’ suppliers, who benefit by easier selection and faster payment. This information has an un-quantified but inherent corporate value, so finding the meaningful data in the mix is key to a winning commercial card program. Mercator sees 2016 as a year in which transactional data (including

CommerCial Payments

“Virtual card represents a major opportunity to address one of the key inefficiencies of the traditional commercial card.”


payments) will start to impact ROI calculations for a host of projects, including payment hubs.

Commercial payments and relationship managementThe third key development we anticipate in commercial payments for 2016 is not driven by technology but does require true innovative thinking. It is banks’ or technology providers’ view of corporate client relationship management. Throughout 2015, Mercator has observed many instances in which the traditional issuer relationship management model no longer works. The causes of this failure are the issuers’ emphasis on sales goals and scorecards, lack of visibility into the corporation, subpar training of relationship managers, to name a few. In reality, a provider’s relationship management structure and emphasis speaks volumes about the value the provider places on the relationship manager’s role. Evaluation of a relationship approach requires honesty, and this can be one of the most challenging exercises for leadership to embrace.

In researching commercial card optimization, Mercator had the opportunity to observe a few innovative issuers that have developed methods for creating more valuable relationships. While their reports are anecdotal, these organizations are reporting significant increases in commercial payable volumes (particularly in commercial card). This should send a broad message as to the opportunity cost of continuing business as usual. Like big data, relationship management is one of the true differentiators in this payments market. The concept does not permit a “one size fits all” approach, but good relationship management should not require massive levels of program customization. Success for commercial card relationship management in the future will in many ways look like it did many years ago when providers and corporations talked and providers provided insights and solutions from a position of knowledge of the corporation rather than knowledge of the provider’s products.

Digitizing corporate connectivityMoving beyond card-related challenges into the broader topic of corporate payments, Mercator Advisory Group sees strong momentum for banks to gain loyalty, leverage and revenue opportunities through continued facilitation of faster end-to-end corporate connectivity with the financial institutions. This process dynamic has three fundamental blocks of business activity:

The corporate financial infrastructure, including enterprise •resource planning (ERP), treasury systems, payments capabilities;The primary bank interface for accessing their multiplicity of •

services, such as online banking, portal gateways, or multiple access points; andThe method for communicating financial transactions and •information, such as SWIFT messaging.

Each of these blocks represents opportunities. For corporations, continued adoption of digital services can be a catalyst (i.e. e-invoicing digitizes transactions, allowing for broader payment options and creating windows into alternative financing capabilities). Banks gain through provision of digital services, allowing for greater levels of information and more access to new business, but they must also tighten inward integration of these services across lines of business in near real time. Messaging services such as SWIFT gain benefits by providing easier and faster secure transmission of financial interactions between corporations and their network of banks. This increases the volume of all financial transactions, including payments. Cloud-based alternatives, such as the SAP Financial Services Network, show promise but remain more theoretical until mass adoption becomes apparent.

The key is an end-to-end digital vision for connecting and best delivering these three major blocks of activity which, through collaboration, helps provide institutions with a view of the world behind the corporate firewall. Examples include a more detailed understanding of the corporate maze of payment infrastructure and processes. Intelligence about corporate pain points allows banks to deliver faster access to financial information, thereby bringing corporate treasury operations closer to the institution. Mercator sees 2016 as a year when banks begin to fully embrace integration and deliver more seamless response to corporate treasurers.

ConclusionsIt is not unreasonable to remain sceptical of the amount of change likely to be undertaken in commercial payments in 2016. Proof points are few in the mixed bag of past results. However, Mercator Advisory Group believes that there are meaningful opportunities for the coming year where payback will take place in the near term, sooner than 24–36 months. The foundation is in place with increasing levels of investment and innovation entering the sector, and those entities that are investing and innovating in new solutions understand the challenges unique to commercial payments. While Mercator estimates that 2016 and beyond show very promising opportunities for commercial cards and other payments, these are merely products. The real points of differentiation that will determine the winners in the years ahead are the other aspects of the ecosystem—both emerging such as mobility and big data and optimizing digital navigation, or old school, such as relationship management.

Richard A. Hall was Director, Commercial and Enterprise Payments Advisory Service. For more information, contact Steve Murphy, Mercator's new commercial practice director. Mercator Advisory Group is the leading independent research and advisory services firm exclusively focused on the payments and banking industries. We deliver a unique blend of services designed to help clients uncover the most lucrative opportunities to maximize revenue growth and contain costs.

CommerCial Payments

“Cloud-based alternatives... show promise but remain more theoretical until mass adoption becomes more apparent.”

2016ISSUES & EDITORIAL THEMES

Issue January-February The DisruptorsOur first issue of the year will delve into the current trends in technology that are bringing about

disruption, as well as looking at the credit union space. Other topics include ePayments and credit cards. EDITORIAL DEADLINE: January 22nd

Issue March-April Merchant Services ReportThis issue features a report on merchant services with respect to analytics. We also visit what’s trending

in the travel industry, with prepaid cards, and with digital money. EDITORIAL DEADLINE: March 24th

Issue May-June Cards, Cards, CardsIn our Cards, Cards, Cards issue we once again take a look at what is new in cards. We also explore the

payments industry as it relates to events and entertainment, and look at the evolution of biometrics. EDITORIAL DEADLINE: May 6th

Issue July-August Security, Fraud, and PrivacySecurity, fraud, and privacy are key issues that continue to evolve. This issue takes a look at the new face of fraud. We also take a look at the eCommerce space, physical equipment, and ID technology.

EDITORIAL DEADLINE: July 15th

Issue September-October The Mobile ReportEverything mobile – from apps to wallets to wearables – this issue provides insight into what is

happening in the mobile space. We also look at the world of gaming payments and provide a technology roundup. EDITORIAL DEADLINE: August 19th

Issue November-December Industry ForecastOur end of year industry forecast provides an outlook at what 2017 holds. Along with the forecast,

we also look at the technology of healthcare ePayments, and loyalty and points programs. EDITORIAL DEADLINE: November 18th

Plus…Each issue includes regular editorial columns which look at business management...

vertical market insights...technological developments...major news stories...association updates...events... and more..

Payments Business is your partner in leveraging editorial opportunities. We can facilitate your advertising needs, as well

as developing online campaigns, editorial roundtables, and more.

Phone: 905-201-6600 • Toll Free: 1-800-668-1838 • www.paymentsbusiness.com


the soPhistiCateD Consumer

Advancing Paymentshow technology updates and infrastructure changes will modernize systems and keep customers satisfied


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Consumer

by John Chant

Payment systems, like plumbing, do not attract much attention when they are working well. A failure, on the other

hand, is cause for alarm: as a broken pipe can flood a basement, broken payments can disrupt

the financial system. Subpar performance short of a crisis, though less apparent, can also be damaging. Backed-up plumbing causes much inconvenience in familiar ways. A strained payment system also can be very costly. In that regard, Canada’s payment systems need some timely maintenance.

A variety of systems make up the Canadian payments landscape: cash, credit cards, debit cards and cheques among others. Most prominent in terms of volume and value are the clearing and settlement systems operated by the Canadian Payments Association (CPA). But the CPA’s systems are now long in the tooth, forcing users to deal with technologies from the 1980s and 1990s. The tremendous advances in information technology since then allow for systems that are faster, cheaper and better able to meet users’ needs. Some countries have already dispensed with paper payments transactions and replaced them with digital payments. An efficient payment system can contribute to the competitiveness of a country’s economy.

A first step toward modernizing the Canadian payment system would be replacement of current cheque processing with digital methods. This step alone should save Canadian businesses several billions of dollars per year. It will require reorganizing the CPA’s clearing and settlement systems as a hub-and-spoke and replacing payee-pull cheques (where the payee’s institution submits the transaction to the settlement system) by payer-push digital payments (where the payer’s financial institution submits the transaction). These steps can be facilitated by a commitment to financing the CPA’s major capital projects through borrowing and recouping the costs through future dues. The success of this modernization will depend on an extensive effort to educate consumers and businesses, especially small businesses, of the benefits of a payer-push electronic payment system.

Modernization of the CPA’s payment systems should not stop with eliminating cheques. There is also a need for enhanced information to accompany payments transactions so as to allow seamless end-to-end processing from payer to payee and for real-time processing to limit payment-system risk.

Businesses rely on it to pay workers and suppliers, and households use it to pay for what they buy. The value of non-cash payments made in Canada during 2013 was more than 20 times the gross domestic product. A safe, efficient payment system fosters and supports the transactions that make a modern economy work.

Minor disruptions in the payment system can have a major impact. A computer error at a single U.S. bank, for example, forced the Federal Reserve Bank of New York to advance the bank more than

$22 billion USD in emergency overnight credit to keep the entire payment system from freezing up.

A payment system consists of a notional recordkeeping arrangement that tracks the ownership of purchasing power. The payments industry, like other information industries, is ripe for makeover through advances in digital technology. While the essence of the industry has remained unchanged, many of its outward trappings have been transformed in recent decades. People can now issue payment instructions through mobile phones or through the Internet rather than by exchanging physical objects and transferring paper instructions. The continuing evolution of payments has attracted many new entrants into the industry who offer new ways for performing old tasks. The payment system’s importance to the Canadian economy, together with the rapid pace of change, raises two sets of questions:

How well are Canadians served by the current arrangements? 1. What improvements are necessary? What are the obstacles to such improvements and how are they overcome?What does the rapid development of information technology 2. mean for public policy toward payments?

Canadian payment systems: A snapshotThe Automated Clearing Settlement System (ACSS), the CPA’s retail payment system, processed almost seven billion transactions in 2014 with a total value of $6 trillion. The average value per transaction was $994. The ACSS consists of a number of payment streams dealing with different types of payment. Cheques and other paper payments, the largest in terms of value, account for 44 per cent of the total, followed by automated direct deposits with a 30 per cent share. In terms of volume, point-of-sale transactions dominate with more than 56 per cent of total transactions.

The ACSS payment streams differ from each other with respect to the processes used.

Transactions can be either payer-push where the payer’s financial institution submits the transaction to ACSS or payee-pull where it is the payee’s institution that submits the transaction.

The processes differ according to the transaction’s purpose. The automated bill-payment stream, where billers collect for recurring bills such as utilities, phones and health clubs, operates through payee-pull, whereas the automated direct-deposits stream, where employers, corporations and governments initiate payments for wages, dividends, interest and benefits, operates through payer-push. In these and other cases, the arrangements reflect the transactions’ nature, as it is the payment initiators who submit the transactions to the ACSS. Such an alignment is straightforward because the party who initiates the transaction also submits it into the payment system.

Otherwise, the initiator must send the transaction to the other party who then enters it into the payment system. Though a


favourable alignment between initiation and entry into the payment system occurs in other ACSS payment streams, it does not apply for cheque payments. For these, the cheque writer initiates the transaction but the payees are the ones who submit it into the payment system through their financial institution.

The CPA also operates the Large Value Transfer System (LVTS), which handles far fewer but much larger transactions. LVTS is an electronic wire service that transfers funds between financial institutions. It offers its users greater speed than ACSS together with finality of payment, assuring that payments will not be reversed. Its 7.9 million transactions in 2014 accounted for more than $38 trillion in value with an average transaction value of almost $5 million. LVTS is a payer-push system where payers both initiate transactions and enter them into the system.

Elements of a good payment systemClearly, an efficient payment system should meet the needs of its users. These include:

Speed:• Speed refers to the time between the initiation of a payment and its delivery to the recipient. Large businesses often have to meet large payment obligations on the same day as they expect incoming payments to cover them. Similarly, consumers expect timely processing of their bill payments so they won’t be overdue. Delays in both cases can be costly. Real time payment processing is the ideal.Certainty:• Payees need the predictably that any payments they receive will not be reversed. Without this assurance, they face potentially costly uncertainty about whether they can depend on these funds.Linked:• A linked electronic payment system allows users, especially businesses, to integrate payment transactions with their other recordkeeping systems.Low cost:• A payment system should have low costs, including usage fees and charges. Just as important are the user’s own expenses such as the costs of preparing, initiating and receiving payments.

A good payment system that meets these qualities contributes to the competitiveness of the Canadian economy by reducing the resources that consumers, businesses and government devote to managing their payments. How well do the CPA’s core payment systems meet these needs?

Only LVTS among CPA payment streams operates in real time. •Still, although more than 85 per cent of CPA transactions by value take place through LVTS, these payments account for less than one per cent of CPA transactions.CPA payment streams differ with respect to their transactions •being final and non-reversible.Transactions in CPA other than the cheque stream are transmitted •electronically.

Despite the favourable features of some CPA payments streams, cheque payments do not operate in real time, fail to offer finality

and still rely on the cumbersome exchange of paper items. The CPA recognizes that users are dealing largely with systems based on 1980s and 1990s technologies. In 2009, in a benchmarking exercise, the CPA warned that it was falling behind other countries in developing electronic payment systems. Four years later, it made initial steps toward modernization in a five-year strategic plan. Initial work on the next generation infrastructure, undertaken in the first two years of the plan, focuses on three streams: identifying desired attributes and a framework for assessing trade-offs; developing appropriate governance structures; and developing engagement processes to garner participant agreement and stakeholder support.

The burden of paper chequesCheque payments fall far short of meeting users’ needs. The absence of an electronic replacement for cheques imposes substantial costs on Canadian households, businesses and governments.

Still, without a replacement, Canadians write about 800 million paper cheques per year. Businesses issue 46 per cent of these cheques; consumers 42 per cent and governments 12 per cent.

At 25 cheques annually per capita, Canadians rank behind only the French (46 cheques) and the Americans (68 cheques) in their dependence on this method of payment. Meanwhile, some countries have eliminated all paper payments.

Cheque usage in Canada has been declining at about three-to-five per cent per year over the past decade. Meanwhile, the introduction of cheque imaging by some financial institutions has simplified the steps between cheque writing and the arrival of the funds in the recipient’s account. Most of the benefits of cheque imaging, however, accrue to financial institutions through simpler processing and do not directly reduce the costs to users.

Cheques are cumbersome and costly for both households and businesses as well as to their financial institutions (FIs). Cheques must follow a tortuous path: writers send them to payees, payees then convey them to FIs, FIs, in turn, present the cheques to payers’ FIs, payers’ FIs remit funds back to payees’ FI and these FIs finally deposit the funds into payees’ accounts. The costs to businesses from using cheques include:

The cost of the cheques themselves;•Employees’ time spent authorizing and writing them;•Distribution and mailing;•The expense to recipients in collecting them; and•

“Getting rid of cheques should be the first priority in modernizing the Canadian payments system.”



The effort to reconcile cheques with business accounts.•

The use of paper cheques denies Canadian businesses the full benefits of their electronic accounting systems. They must transfer information from their business accounts to write cheques and then transfer the information back to their accounts from the cheques they receive. Scotiabank, for one, estimates that it costs businesses between $9 and $25 to use a cheque. Businesses could save between $1.6 billion ($4.50 per cheque) and $4.4 billion ($12.50 per cheque) annually by writing 350 million fewer cheques every year and using alternatives that are less costly.

While very rough, these forecasts appear consistent with studies of the European experience that suggest that moving from a 100 per cent paper-based payment system to 100 per cent electronic payments would save one per cent of GDP per year. Despite these annual potential savings of billions of dollars, Canada has lagged behind countries such as Norway, Sweden and the Netherlands in replacing paper cheques with digital payments.

Eliminating chequesGetting rid of cheques should be the first priority in modernizing the Canadian payment system. The benefits it would bring are clear. But how do we get there? Issues to be addressed in moving forward include the governance of the CPA, restructuring the architecture of the core clearing and settlement system and developing a new financing payment system infrastructure.

Reforming CPA governanceThe reluctance of major financial institutions to move forward with electronic payments is understandable. Replacing cheques digitally would require them to invest in modernizing both the CPA’s infrastructure and their own systems. Moreover, the FIs may gain only few benefits from a more efficient payment system as most of the savings would go to consumers and businesses. Unlike individual innovators who benefit until their competitors catch up, members of a collective, such as banks, dissipate the benefits from their innovation by competing with each other to bring it to market. Innovation undertaken by a group can turn out to be an added expense that provides little value to them.

Historically, CPA governance arrangements have been weighted toward FIs. Prior to 1981, the Canadian Bankers’ Association operated the clearing and settlement system. After that year’s transfer by federal legislation of these responsibilities to the CPA, the CPA’s directors were drawn entirely from financial institutions until 2002.

From to 2002 to 2015, the CPA 16-member board consisted of a chair appointed from and by the Bank of Canada, three members appointed by the Minister of Finance and 12 appointees by CPA members. Of these 12, six were appointed from banks, two from credit unions and four from other members. While each director had an equal vote at board meetings, an institution’s payments volume determined the weight of its vote at annual meetings on such crucial issues as budget approval.

In December 2014, Parliament approved changes to CPA governance legislation that

i) Replaces weighted voting by one vote per member institution;ii) Transfers budget approval from members at the annual meeting

to the board of directors;iii) Reduces the board from 16 to 13 directors;iv) Increases the number of independent directors from three to

seven, with these directors nominated by a committee with a majority of independents and elected by CPA members;

v) Gives the Minister of Finance the power to issue a directive to the CPA if its decisions are not in the public interest; and

vi) Requires the board to submit a five-year plan annually to the minister for approval.

These significant changes appear to give the CPA the independence it needs to move ahead with projects in the public interest.

Changing the coreAt the core of any payment system are its clearing and settlement arrangements. This is how financial institutions exchange the claims they have acquired and settle the resulting imbalances. The CPA’s current clearing and settlement system for cheques mimics the organization of old clearing houses, held probably in taverns, where bankers met to exchange claims. Like the tavern clearing houses, these systems operate through bilateral exchanges of claims where each member must exchange with every other member through a “spaghetti bowl” network of two-sided ties.

The difficulties of coordination in the spaghetti bowl may have contributed to the fate of the Canadian Payments Association’s Truncated Electronic Cheque Presentation project. This initiative was designed to simplify retail payments by replacing the physical transport and exchange of cheques with the transfer of cheque images. The project was scrapped after six years in 2002 in light of its complexity and the diminishing use of cheques. More recently, the CPA has revived its cheque-imagining initiative and FIs have begun to use cheque images to reduce the burden of dealing with paper cheques.

FIs have simplified the exchange of cheques somewhat by using agents to work on behalf of multiple institutions for their clearing activities. As a result, while the systems have moved beyond taverns and the exchange of claims at one central gathering place, they have not replaced the spaghetti bowl.

The CPA could avoid the shortcomings of the spaghetti bowl by replacing it with “hub-and-spoke” clearing where members

“The hub-and-spoke has a number of advantages over the spaghetti bowl.”

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transact only with the entity at the centre. They would notify the hub when making a payment and the hub would notify them about the payments they receive. Such an arrangement is common among payments systems in other countries.

The hub-and-spoke has a number of advantages over the spaghetti bowl. It reduces the costs for the harmonization of members’ systems by allowing them to coordinate with the hub rather than the other members. This simplification would also ease the entry of new members to clearing and settlement, allowing them to harmonize with just the core. Finally, the hub-and-spoke arrangement is more supportive of innovation because any system-wide change in technology requires members to adapt only to the core and not to all other members.

From cheques to giroACSS uses payee-push cheque arrangements based on the British model. This system relies on payees introducing payment instructions into the system by depositing cheques into their FI. Meanwhile, the payer-push or giro payments model, common in continental Europe, relies instead on the payer to submit the payment instructions into the payment system through its FI. Comparison of the two systems shows that the payer-push system avoids the need for the payer to send payment instructions to the payee. It also simplifies the communication between the financial institutions by condensing two steps: i) the payee’s FI asking the payer’s FI to make the payment; and ii) the payer’s FI transferring funds into the payee’s FI into just one operation.

The difference between the two approaches is more striking when the payer has insufficient funds. With payee-pull, the no-pay transaction requires the payee’s FI to send its payment request to the payer’s FI and that the payer’s FI to reply that the payment will not go through. With payer-push, the payer’s FI stops the transaction itself before communicating with the other FI. This difference means that a payer-push system can avoid the payee-pull’s elaborate and costly procedures to deal with no-pay transactions. A payer-push system already incorporated in LVTS and several ACSS payment streams would also ease the transition from paper to digital payments, thereby facilitating innovation. By having fewer steps between initiation and completion of payments, fewer processes need to be modified to keep the system up to date. Countries that have succeeded in eliminating cheques have had the advantage of starting from a payer-push giro system.

Financing modernizationIn the past, the CPA has relied on membership fees based on past volume of payments for financing capital projects. This approach fostered members’ resistance to undertaking new projects because it left annual dues unpredictable with sharp increases forced by such projects. Also some members opposed basing dues on past volumes because they might not be a good gauge of future activity.

The CPA should adopt other approaches to financing major projects such as establishing a fund for enhancements or through borrowing. Of the two, borrowing seems preferable. Use of an

enhancement fund would lead to delay by requiring accumulation before undertaking projects. Borrowing allows projects to proceed as they are needed and spreads the cost over the project’s life. Borrowing also allows fees to be determined by current transaction volumes once the project is in place.

Addressing stakeholders’ concernsUsers in other countries appear to have embraced the change from paper to digital payments. Meanwhile, Canadians have already shown willingness to adopt new modes of payment. They quickly embraced Interac for making payments by becoming among the heaviest debit card users in the world.

A nucleus of consumers still depends on cheques for making payments and needs to be persuaded of the benefits of replacing them. However, their attachment to paper can be accommodated without forcing them to abandon it fully. With payer-push, they could initiate payments by sending paper instructions to their FI rather than the payee. This change would actually simplify payments for them by allowing them to send multiple instructions together to their FI instead of sending them separately to each biller. Billers, too, can simplify the process by sending remittance forms with their bills that customers can forward to their FIs. Even if some users stick to using paper for initiating payments, there will still be benefits from simplifying the remaining steps in the process.

Similarly some consumers, especially those who receive social benefits, depend on cheques for receiving payments. Already progress has been made towards transferring them to direct deposit. The U.S. Treasury now makes over 98 per cent of its monthly benefit payments this way. The Canadian government has set a target date of April 2016 for consumers to enrol in direct deposit and, to facilitate this shift, has set up arrangements through which consumers can sign up for direct deposits from many programs at one time.

Recent estimates suggest that from one to four per cent of all Canadians, and a higher proportion of low-income groups, remain unbanked. While the unbanked cannot be paid through direct deposit, in some places they now can receive payments through prepaid debit cards. These cards have a number of advantages: holders can avoid holding large amounts of cash, they also can avoid the risk of lost or stolen cheques, and they can make payments as needed. The federal government and all state governments in the US now offer benefit payments through electronic debit cards.

Businesses, especially small businesses, are heavy users of cheques because of their endearing qualities. Cheques act as receipts, provide

“Recent estimates suggest that from one to four per cent of Canadians still remain unbanked.”



disbursements and the information needed to reconcile them with accounting systems. Most businesses have already embraced electronic bookkeeping, but the continued use of paper forces them to transfer information from their electronic accounts in order to write cheques and then back again when payment cheques are received. These steps are relics from another age when, now, the ordering of a pizza—choosing the size, crust, toppings and payment method—can be done digitally.

Electronic payments allow businesses to manage their payments together with the rest of their accounts. With them, businesses would be able to issue payment instructions and remittance data that can be transferred seamlessly though financial institutions to the recipient’s books. Although large businesses are likely to more readily see the benefits and eagerly adopt electronic payments, small businesses may be more hesitant.

As with consumers, those businesses that want to stick with paper or lack the ability to use electronic payments would still be able to submit paper payment instructions to their financial institution. From that point onward, the payment would be processed electronically.

To gain the full benefit of digital payments, the elimination of cheques needs to be complete. If not, financial institutions would be forced to maintain a cheque payment stream together with its replacement. Similarly, cheque users would impose costs on others by forcing them to continue with expensive processes to deal with cheques.

The British attempt to abolish cheques by decree provides a warning: any attempt to modernize payments can become a “third-rail” issue without user acceptance. Consumers and businesses must see the advantages of digital payments in order to switch away from cheques. It will likely take extensive public education to make all Canadians comfortable with such a change.

Regulation and innovationMoving toward a digital payment system should not be an end in itself. It is but one step to continually moving the payment system forward. As a massive ledger recording payments and receipts, any payment system will likely experience a continuing stream of innovations that have already reshaped the landscape by adding new features to existing services and displacing existing ways of doing things.

For example, payment cards are no longer the preserve of financial institutions and credit card networks. Prepaid cards are now offered by merchants and other issuers. PayPal has created a buffer between customers and merchants that allows customers to keep their payment details private. Square now allows small businesses that otherwise could not establish a relationship with an acquirer to accept credit cards at low cost. Major innovations in payment offerings are emerging not only from the major credit card firms, but also from Silicon Valley companies such as Google, Microsoft and Apple.

Traditional payment suppliers, like other parts of the financial system, face more extensive regulation than almost any other sector. In contrast, most innovators lie outside the scope of regulation and

lack the full powers of established suppliers. Both sides continually urge policymakers to level the playing field. Incumbents argue that it is tilted against them because new entrants do not face the same rules as they do. New entrants, in turn, argue the field is unbalanced because they lack the same powers as incumbents. Such arguments obscure the real issues—why and who. Why should an activity be regulated? Who, as a result, should be regulated?

The payment landscape consists of many participants doing different things. They act as messengers by relaying instructions between transacting parties; they shift funds from payers to payees; they hold the balances used for payments and they act as agents by assisting households, businesses (payroll processors and billing processors) and financial institutions (credit card acquirers and cheque processors). They can perform just one of these roles or several.

Different payment activities raise different issues. Some activities need regulation to protect users’ funds, some to preserve the stability of the payment system and others to maintain the security of transactions. Payment activities are also regulated because of their impact on third parties, to protect privacy, to foster competition and to influence “fair” pricing.

It is the nature of an activity that should determine whether and how its suppliers should be regulated. Granted, regulation based on activities can create an illusion of an uneven playing field. Incumbents may appear to be more heavily regulated than new entrants. But the greater regulation of incumbents can result from their broader range of activities. But, by the same token, they can perform more activities because they conform to the rules of these activities. New entrants should be able to perform additional activities if they accept the applicable rules for those activities. Regulating payment businesses on the basis of only the activities they perform would interfere least with the innovation needed to provide a payment system that best meets the future needs of Canadians.

At present, eligibility for CPA membership applies only to institutions subject to federal or provincial guarantees or to members of the Investment Dealers Association. The evolution of the payments landscape might lead to the emergence of new suppliers outside the CPA that could enhance payment efficiency. Their participation in CPA processes should be governed by their role and the risks they pose to the overall payment system.

ConclusionThe rapid change in the payment industry fuelled by advances in information technology will challenge regulators. Some emerging payment products will require regulation to protect users’ funds, to preserve the stability of the payment system and to maintain the security of transactions. Tailoring regulation to the nature of different payment activities provides the best way of assuring a dynamic system to serve Canadian needs.

John Chant is Professor Emeritus, Simon Fraser University. This article is based on his report for The C.D. Howe Institute, an independent not-for-profit research institute whose mission is to raise living standards by fostering economically sound public policies. It is considered by many to be Canada’s most influential think-tank.

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by MiChael J. VaSelenak

ChanGinG staKeholDer roles

The New (and Old) Kids on the Block

As can be seen from reading Payments Business, the world of payments is constantly evolving, with new players,

products and services appearing on a daily basis. The ‘old kids on the block’ including

banks, processors, card networks and merchants are changing their roles in the payments ecosystem as a result of these new threats and opportunities. In addition, ‘new kids on the block’ including telcos, social media, mobile app providers and even regulators are inserting themselves into payment processes.

This article provides a high level summary of trends in the retail payments ecosystem. An understanding of these trends provides a framework for the evaluation of new payments technologies and services. This discussion will be further pursued through presentations and roundtables with leading payments stakeholders, at the InPayCo conference in Toronto, April 27 and 28, 2016.

The good old daysThe ‘four party model’ for payments has been the enabling mechanism for the retail payments ecosystem for a very long time. This model consists of the following components:

The Merchant.1. The merchant must be qualified (‘adjudicated’) to accept credit transactions via POS or online. Once qualified, the merchant pays a discount rate (interchange plus other fees) on the transactions.

The acquirer.2. The merchant is adjudicated by the acquiring bank, who then provides the merchant with an account. The acquirer literally ‘purchases’ the transaction from the merchant. The network.3. The networks (Visa, MasterCard, and others) set the rules as to how the four party model participants interoperate, and the interchange rates charged by the issuers. The Issuer.4. The issuer provides the credit (or debit) credentials used by the consumer. The issuer assumes the ultimate liability for fraudulent transactions, thereby providing trust in the system.

Four party model and indicator fees (will vary)A. The Card Holder pays $100 for a credit card purchase.B. The Merchant pays fees totalling up to $2.30 or more, for

acceptance of that transaction.C. The Acquirer retains 50 cents of the merchant fee, and pays its

processors & ISOs for merchant servicesD. The Card Network retains 10 cents as service fees for that

transaction.E. The Issuer receives $1.70 as ‘interchange’ for issuing the credit

card and pays fraud and card program costs. F. The Card Holder may receive up to 25 cents back from the issuer

in cash back, loyalty points, etc.

Transition in the payments ecosystemThe four party model has operated for many decades. With new


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players inserting themselves into the core retail payment processes, will the four party model continue in some version into the future? Are these new players merely evolving the current model, or are the rules of the game fundamentally changing?

A survey of current trends in the roles of current retail payments stakeholders provides some clues:

Credential Holder.1. The consumer’s account credentials are no longer fixed to a plastic card. Alternatives for using the consumers’ credentials are being offered by new stakeholders. Telcos provide the Subscriber Identity Module (SIM) cards that can store credentials in a secure portable environment. Alternatives include storing the credentials in the ‘cloud’ on a third party administered database, or ‘embedding’ the credentials within a mobile device. ‘Tokenization’ or providing a proxy of the credentials for the purpose of processing a transaction, is a service that can be offered by new players, or legacy stakeholders such as acquirers. Gateway Merchant.2. The merchant essentially funds the retail payments infrastructure, through the merchant discount rate that the merchant pays in order to accept card payments. Regulation in Europe, the U.S., Australia, Canada, etc. are impacting interchange rates that can be charged. The ability to accept credit and debit transactions for payment has also been extended to essentially anyone, through ‘sub merchant’ accounts offered by ‘gateway merchants’ such as eBay, Amazon or Square. The merchant is also the custodian of invaluable data on their customers, with new players such as Google and possibly Apple as well as PayPal providing retail payment processes that could disintermediate the merchant from the customer credentials data. acquirer.3. The legacy acquiring stakeholders are facing significant changes in the payments ecosystem. Acquirers played a key role in the adjudication of merchants for the issuing of merchant accounts. Gateway merchants can play that role for their sub merchants. Secondly, the processing (authorization and settlement) of retail payment transactions is increasingly being offered by the Visa and MasterCard networks. Thirdly, acquirers have historically offered POS hardware provisioning to merchants, often through a complex hierarchy of ISOs and agents. Retail POS solutions are increasingly available through software (tablet) and mobile (‘MPOS’). Transaction network.4. As ‘for profit’ public corporations, Visa and MasterCard have moved into a number of areas that have been historically been provided by other stakeholders. This includes prepaid card management and payment processing (for example Visa DPS for prepaid and debit processing, and MasterCard Payment gateway for B2B payments). The networks also play a key role in the compliance standards for payments products and operations. Both EMVCo (payments smart cards) and PCI Security Standards Council (payments data security) organizations are largely extensions of the card networks. Credential Issuer.5. Bank issuers are also facing changes in their role in the payments ecosystem. The European Union ‘s recently updated Payment Standards Directive (PSD2) provides for non banks as issuers. PSD2 also provides for the easier availability of bank account holder transactional data to third parties subject to

the permission of the account holder. Interchange rates collected by issuers from merchants are under pressure via government regulation and Apple Pay (which takes a cut of the issuer’s interchange fee). Both merchant account management and financing are increasingly offered by alternative providers in the online and mobile payments space. app Provider.6. This refers to new players and services that enable next generation (mostly mobile) payments by credential holders. These new players form part of the ‘fintech’ sector. This includes mobile wallet providers (including Google, MasterCard MasterPass, Visa Checkout), social media (such as Facebook’s and Paypal / Venmo person to person payments), and merchant driven prepaid platforms for purchases such as Starbucks Mobile Order & Pay, and others. These next generation services can result in disintermediating the legacy issuer from the credential holder. Canada’s UGO (TD and President’s Choice bank), Suretap (CIBC and Bell, Rogers and Telus as SIM card issuers), RBC Wallet and Scotiabank My Mobile Wallet are attempts to maintain the legacy of issuers’ brands in front of the credential holder.regulator.7. Government regulation is playing a much larger role in the retail payments processes. Examples include regulatory attention to network interchange rates on behalf of merchants, attempts to bring the transaction networks under national settlement rules (such as Canadian Payments Association’s Vision 2020), anti money laundering / risk management / terrorist financing rules for issuers, and financial literacy / empowerment for credential holders.

The new four party model? In summary, all four of the legacy participants in the four party model are seeing changes in their roles. Merchants and Networks would appear to be increasing their influence, while Issuers and Acquirers are facing challenges. At the same time, App Providers and Regulators are increasingly inserting themselves into the model.

Opportunities and challenges in the payments world:A. Credential Holders have new options for payments, from

stakeholders competing for their attention & data.B. Gateway Merchants increasingly drive online payments through

volume and services such as merchant finance.C. Acquirers are under pressure to offer new and differentiating

services as others move into their turf.D. Transaction networks are expanding their roles with value added

services to merchants and consumers.E. Credential Issuers risk being commoditized and losing their direct

relationship with the Credential Holder.F. App Providers are positioning retail payments as part of larger

value propositions to consumers.

Michael J. Vaselenak ([email protected]) is a specialist in product management and business development for payments and transactional systems, with three decades of experience. He has defined payments product strategies, advised on product opportunities and risks, and specified or proposed software and services under those strategies for leading Canadian, U.S. and international corporations and government agencies.


Payment ProCessinG uPDate

Why Mobile Payments are Your Big Data Game Changer

A payment is more than a simple financial transaction. For the customers of banks, merchants and credit card companies

it’s also a story of a particular moment in time. A Tiffany’s purchase could signify a major life

change. A sudden influx of Toys “R” Us purchases might suggest an addition to a family or the next birthday of a growing brood. A daily Starbucks payment gives away a favourite addiction. A single morning payment at McDonald’s amidst a sea of Whole Foods purchases could tell you that there was big night the preceding day. Any way you look at it, the trail of customer payments can tell a tale which is defined in the data that spins off those moments.

Compile the details of all those stories and you have a fairly comprehensive picture of your customer. Collectively, they are invaluable data points for credit card companies, banks or merchants. But it’s hard to get that complete story. Rarely does one party have sufficient data to paint a truly rich, three-dimensional picture of their consumer. Those data points might be spread between cards from various banks, issuers, department stores or prepaid program managers. To create a holistic picture, a single entity historically has had to buy data from others to flesh out the details.

In the world of payment data, mobile is the game-changer. For the first time multiple payment products can all live under a single application. The owner of that application is the one who can see the consumer story from beginning to end. Real value begins to take shape when you can connect the dots.

But for many digital wallets, the data available starts and ends at transactions. In fact, so much more can be learned about consumers by looking at how they engage with value-adds like prepaid, loyalty cards, remote transactions and in-app purchases. This is where digital wallets and the data they glean become truly interesting and valuable.

‘Traditionally, banks have done nothing to drive a transaction’Let’s say I’m in the market for a new winter coat. Historically my bank only plays two roles in the process—it allows me to save money and then to spend it. In between, they’ve done nothing to drive a transaction, nor to gain any additional value from me as a customer.

Perhaps I’m browsing the Selfridges website and search for a Moncler jacket. It’s more than I want to spend, and I want to try it on in person before I commit to such a substantial purchase. Selfridges may retarget me later with a relevant banner ad while I’m reading

the Financial Times online, but my bank is completely disconnected from the decision-making process.

Now imagine I was browsing on my digital payment enabled mobile phone. What would stop my bank from partnering with Selfridges so that the next time I’m walking along Oxford Street my bank pushes me an offer for a 2.9 per cent APR loan to make the purchase. Suddenly my bank has the opportunity to make incremental revenue through a simple targeted promotion, made possible by the data gleaned from my mobile behaviour.

It’s all about loyaltyLoyalty presents huge opportunities as well. If you know I buy my coffee from you every day, you don’t need to give me a discount—I already willingly give you money each morning. You’d be much wiser to give a discount or promotion to the guy who buys his coffee across the street every day. Suppose I’m the guy who buys his daily Americano at Starbucks—but Second Cup teams up with my bank and pushes me a notification saying, “If you buy your coffee right here, right now, we’ll give you additional reward points on your credit card.” I trust my bank—I’ve been putting my money there for years. They have a lot of clout when it comes to my purchase habits. Suddenly I’m inclined to change my behaviour. My bank wins, Second Cup wins, and if the coffee truly is better, then I win too.

Mobile payments will change how consumer data is collectedThere is no doubt mobile payments will change the way consumer data is collected which will, in turn change the way consumers digitally interact with merchants and banks. But now the question remains: who will own that data?

At the moment, the mobile payment solutions being touted by global digital giants, such as Apple Pay, Android Pay and Samsung Pay, distance banks from the software, and thus, from the data therein. The most popular mobile wallets charge issuers and banks nothing or next to nothing to make their products available to users. So where does the revenue come from? It’s safe to say data is a primary source.

The more central these leading wallets become, the further banks move from that data. If banks want to stay connected to consumer data they need to maintain full ownership of the digital wallet. What’s possible when they do?


by SaliM dhanani


2016 Payment ProCessor

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Five Questions Banks Should Ask Before Moving to Host Card Emulation (HCE)

The decision to implement mobile payments at your bank is a big one—any time you integrate new software it

has the potential to be complex and costly. Fortunately, by now, a lot of the risk has been

removed: there’s no longer uncertainty as to the best tool for mobile payments. In the last year, Host Card Emulation (HCE) has emerged as the clear industry leader. But making the move to HCE still comes with its own set of decisions.

Here are the five essential questions you need to ask yourself before (and while) you make the move to HCE:

Question 1: What will drive your customers to use your mobile payment product?Most of the questions we’ll address below are only relevant up until the moment you create a road map for your product, but this is a question you should never stop asking.

Like your customers and their needs, the answer will continually evolve and your product should evolve along with those answers. Your HCE program is meaningless unless people are using it, so what are the particular drivers in your specific market? Keeping a continual pulse on what is important to your client is key. Whatever it is, you need to be on the forefront and grow your product accordingly.

Question 2: How can you drive value so that your wallet becomes indispensable?Any of these banks can digitize their payment offering, but your customer typically only has one phone, with limited homescreen space. Assuming your customer has cards with two or maybe more banks or credit unions, what value will you add that ensures yours is the one that gets used? Ultimately you need to ensure your card is the most important one in their wallet.

That might mean loyalty rewards, dynamic offers, or capturing data to create a delightfully customized experience. These metrics not only drive use, but also pull in the right partners to make your HCE product a success. Will you partner with a national supermarket to integrate loyalty rewards? Will you offer bonus air miles for mobile use? Will you create alliances that give cardholders special discounts when they tap? You know your customer best—determine what will

make your product indispensable.

Question 3: Will you create an independent wallet or integrate payments with your e-banking tools? By now, most banks have an existing mobile platform. As you determine your next step for HCE, decide if your payment tool will live within or independently of that platform. There are merits to both approaches, and it’s essential to know the parameters from day one because it’s difficult and costly to go back once you’ve stepped forward with a decision.

Banks want to create an experience and have invested heavily in a fantastic mobile banking experience. Sometimes that app experience is even better than the web experience and they know their users will favour it every time. In those cases, it might make sense to simply add an SDK to an existing environment to enable payments.

Also, space is limited on a homescreen—and you want yours front and centre. Rather than convincing customers to make space for two branded apps—your banking tool and your payment tool—many banks would rather consolidate if it means hanging on to valuable real estate.

On the flip side, some favour the simplicity and utility of a wallet that serves as just that. Customers may not need or want to see their balance each time they load a payment product. This route gives you the freedom to incorporate additional features (chances are you don’t want to integrate an API for a loyalty program into your banking app).

Danske Bank chose this route. They created a separate mobile wallet designed to appeal to a broader market beyond just their existing clientele—you don’t need to be a member of the bank to use the app.

Question 4: Do you deploy it in-house or choose a vendor hosted model?Once you’ve chosen an approach for your user experience, there’s yet another big decision to make about the infrastructure behind it. How will you deploy it?

Banks have historically liked to keep things in-house—and it’s true that nothing offers more control or security. But while it ensures maximum control, it’s often less efficient and less cost effective. In


by SaliM dhanani


Continued from page 24

Why mobile Payments are your big Data Game Changer

From a consumer perspective there is the potential for one, streamlined user experience. Their home-screen real estate isn’t clogged by numerous financial apps—potentially they can manage their banking and payments all from one central application. But payments should only be one facet of a bank’s wallet. We already know the real data comes when a single wallet contains a breadth of products. Owning the digital wallet means owning the value-adds as well: loyalty, rewards, prepaid, promotions—every aspect of the transaction process.

Banks retain control of the user experience and they deeply engage their customers. Their tools have the potential to be more than just the plumbing of payments but a hub of tools and information, integrated in the customer’s daily life. In the process, banks drive incremental revenue through a breadth of relevant products and,

the race to market, a custom solution is always the slowest.As someone with an eye on the history of mobile payments, you

know the industry has followed more turns and twists than the windiest of roads. Technologies change. Offerings change. Nothing is the same as it was a year ago. A vendor-hosted model can mitigate the risk of investing in an approach that may be obsolete in a year or two.

For those committed to hands-on management, starting with a vendor-hosted model might be the way to test an approach before investing in bringing it in-house.

Question 5: What are you willing to sacrifice for security? Every bank has a different system and approach to security, and your payment network has a baseline you must adhere to. From there, the question is “What is secure enough?”

This is actually a question of user experience. How many barriers do you add to your user’s transaction experience for the sake of security? For example will you require a PIN for all transactions? Or is there a threshold for small purchases at which users can simply tap and pay without the extra steps of authentication? There are layers of convenience that can increase user uptake which may mean reduced security. You need to determine your appetite for risk versus adoption.

When choosing a path for your HCE roll-out, your answers will be shaped by four variables: security, time to market, cost and flexibility for the future. Knowing your bank’s non-negotiables on these priorities will inform your answers and ultimately shape your finished product.

Salim Dhanani the director of Business Development at Carta Worldwide. He is responsible for the Carta’s commercial growth in EMEA with new and existing clients, covering the digital enablement and core processing verticals.


is equal to one prepaid card; is that any harder to carry around?Reuters recently reported that French customs seized a Panamanian

prepaid card with €250,000 stored on it, issued, we assume, by a Panamanian bank. How is reducing or eliminating SDD in Europe going to help, if high-value prepaid cards can come in from markets where there may be less efficient KYC procedures and policies?

To really hit terrorists hard, maybe we should ban all SDD prepaid cards and at the same time create a law that every time anyone goes to obtain cash from a bank or receives it from any source, they must complete full KYC and attach this to the bank note. That way it can be traced the same as a prepaid card and we can check that anyone receiving it is a proper person and legitimate.

I think the real issue is ensuring that e-money-licensed companies are better trained on anti-money laundering (AML) and better regulated. This is not about having a name or having documentation on a cardholder; it’s about answering the question: “Should this person have that money or does it make sense for this individual to have this money?” The really difficult issue is whether the companies handling these products and issuing them truly understand what it means to be regulated and if they are living up to the standards they claimed when regulated.

After all, just because someone has passed KYC and demonstrated a monthly wage of $5,000 USD, should they be able to load $15,000 USD as a first load? Of course not. This would mean they have loaded, in effect, three-month’s salary with nothing taken out to live on. It would be behavior that, despite passing a tick-box process of KYC and AML, could not be considered reasonable. Ultimately, being regulated is more than ticking boxes. It’s about looking for behaviors and seeing, from an AML point of view, if these behaviors are normal and, if not, are there reasonable explanations that on further investigation can justify those behaviors? (For example, using a prepaid card as a savings tool for a large amount of money is not normal behavior, but it could be in the case where a client saved for six months prior to going on a holiday.) What is needed is not more regulation but more in-depth policing of those who already are regulated to ensure they truly understand an e-money license isn’t a piece of paper, it’s an environment that requires constant vigilance, control and oversight.

the real story of terrorist financing and prepaid cards

perhaps most importantly, hold all the data points in a consumer’s path to purchase.

Connecting all those dots suddenly opens up endless opportunities for engagement and loyalty. As a bank there’s no end to the value in holding all the pages of your customer’s story.

Salim Dhanani the director of Business Development at Carta Worldwide. He is responsible for the Carta’s commercial growth in EMEA with new and existing clients, covering the digital enablement and core processing verticals.

the soPhistiCateD

Consumer


This means agencies must work with a large number of unfamiliar suppliers in new markets—which inevitably brings with it a heightened risk of fraud. This also brings the additional requirement of adapting to preferred payment practices in the new market. For example, the research highlighted how suppliers in Latin America required full payment upfront—with the default solution being wire transfers. These incur transaction fees, which can be as much as $35 USD a time, pushing up the cost of payments. The alternative, of using a company credit card for the full payment upfront in unfamiliar markets and relatively unknown suppliers, brings its own risks. Agencies need a solution that enables them to work with distributors anywhere in the world, while protecting them from fraudulent transactions.Agencies are held responsible5. : As highlighted earlier, Euromonitor’s research found that some 90 per cent of all hotel bookings through travel agencies in Canada are made by passing through the customer credit card. This approach immediately makes the agent responsible for protecting the customer’s details. Unless they have (and can prove they had) adequate fraud protection at the time of booking, the agency can be left in an uncomfortable position if the customer’s details are used fraudulently by a member of the hotel staff. It can also damage trust in the agency if the supplier defaults.

With Canadians increasingly alert to the possibility of card fraud, agencies reported a burgeoning reluctance amongst travel buyers—businesses and individuals—to share card details. In particular, travel management companies have noticed that business travel buyers are increasingly keen to avoid pre-authorizations for concierge bills.

What’s the alternative?One payment method which has been growing in Asia and Europe is payment by Virtual Card or Virtual Account Numbers (VANs). VANs are automatically generated 16-digit MasterCard numbers that can be used to make secure supplier payments. As a unique number is generated for each transaction, it provides an inherently secure alternative to traditional cards.

VAN awarenessAn increasing number of leading global players are using VANs. Some of the world’s largest online travel agencies (OTAs) have now mandated VANs as their preferred method of paying suppliers. This is helping drive supplier acceptance and understanding, with 62 per cent of the suppliers interviewed by Euromonitor stating they were familiar with virtual card technologies such as VANs. Six of the seven independent hotels surveyed in Canada are aware of them, as were all chain hotels. There have even been some moves by suppliers in the industry to promote virtual cards as a welcome alternative to traditional payment methods. Choice Hotels International recently announced that it has


implemented a system that eliminates the need for travel management companies to fax authorization forms to Choice hotels for reservations made with single-use virtual cards. The fact that a major hotel player is supporting virtual cards and actively removing barriers to its adoption shows the value it brings to suppliers.

However, only one Canadian SME respondent had heard of VANs, and the intermediary market remains split. While 66 per cent of Canadian travel management companies (TMCs) interviewed said they were aware of VANs, no tour operators were. Those agencies which do use them are acutely aware of the advantages

The case for VANsAlthough the Canadian travel market is heavily reliant on personal credit, corporate and lodge cards, the qualitative research revealed that agencies, suppliers and even buyers share substantial practical concerns about this payment method—primarily around fraud. Set against this, however, are two vital advantages that credit cards offer: they are accepted by the overwhelming majority of suppliers and have a truly global reach. For an alternative approach to gain traction, it makes sense to build on the traditional card model. It is exactly that principle that eNett adopted in the development of Virtual Account Numbers (VANs). VANs are processed like a traditional card, and accepted wherever a MasterCard is, online and face-to-face. Crucially for Canadian agents, VANs directly and effectively address the key issues the research highlighted around fraud.

The single most important way VANs combat fraud is that they replace a single card number used for every transaction, with unique card numbers for each specific transaction. This eliminates the need for a traditional plastic card altogether. Furthermore, users can set payment parameters to ensure it can only be used upon meeting pre-set criteria. This includes value (fixed or with tolerance), date range validity and merchant category code. In short, VANs cannot be stolen, reused or misused. There is no need to pass through customer card details, protecting the customer and the agency’s reputation. And VANs are also protected under the MasterCard guarantee, meaning chargeback capabilities can be deployed in the event of supplier default—providing added peace of mind.

Rewards and rebatesAs well as more secure payments, VANs offer a number of additional benefits for agents. The most immediate is rebates on payments made via VANs—a clear incentive to use them instead of passing through customer card details, which offers no reward and adds risk.

Automated reconciliation and more efficient paymentsSince each VAN can be linked directly with a specific transaction and data is captured at the point of sale, VANs automate reconciliation. With manual reconciliation estimated to cost the industry $1.5 billion USD annually, automating the process delivers significant cost and efficiency gains. In addition, seamless integration with agency booking tools enables payments from directly within existing agency workflows, saving agents’ time which could be spent with customers.

We travel, but we worry about fraud when we do



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According to French authorities, the terrorists that authored the Paris attacks on Nov. 13, which killed at

least 130 people, used prepaid cards to transfer money from France to Belgium.

The hysteria started almost immediately. The terrorists in France used prepaid cards, so all prepaid cards should be banned or, at the very minimum, know your customer (KYC) done on people who buy them. Of course, we still haven’t been told if the cards used were even issued in the EU, or if they were full KYC or simplified due diligence (SDD) cards.

Shortly after the attacks, France said it would target prepaid cards. “We will regulate more strictly the use of prepaid cards which were used in the November 13 attacks, in order to make it harder to remain anonymous,” Finance Minister Michel Sapin told a news conference.

What is SDD? In Europe, there are varying levels of KYC requirements depending on the product and its level of risk/load limits. The two main types of e-money products available are those that require Simplified Due Diligence (SDD) and Standard Due Diligence. A third requires Enhanced Due Diligence for high-risk products and people. SDD is simply capturing at purchase the name and address of the individual; they are checked against sanctions lists, but the details are not verified against official documents or databases. The cards typically are only sent to a cardholder’s home address, thus, ensuring multiple cards cannot be applied

for by the same person. There are also gift card products where no details are taken at purchase. However, if they are later registered by the users, e.g., for online use or reloads, the users would be checked against sanctions lists.

There seems to be a lack of understanding that anonymous cards—as in those without a person’s name on the front—do not have KYC or a known source of funds. We need to be careful and deal with these issues separately. You can have anonymous (that is, no name on the front of the card) full KYC products. In addition, just because you have not done full KYC also does not mean you don’t know or can’t trace the source of funds.

Bruno Dalles, head of Tracfin, the French financial intelligence unit, has added: “There are new means of payment which have been created which should be on our radar, I am thinking particularly of prepaid cards, especially if they are delivered in nearby foreign countries and used in France, for example, to book hotel rooms.”

One has to ask what is meant by “nearby foreign countries.” Are they talking about nearby EU countries that would fall under any new regulations or nearby countries that, no matter what EU regulations enacted, will not be affected? Finally, which may be

a small point, is that anyone who issues prepaid cards always advises against using them to book hotel rooms due to the nature of most hotels doing pre-authorizations and locking cardholder funds.

French newspapers, according to Reuters, have been equally vocal in their support: “E-money and, particularly, prepaid cards…could be very widely used by organized crime, migrant traffickers and terrorists. Criminal investigation department officers have already found prepaid cards during searches of the homes of individuals belonging to such networks.”

So, the facts: Yes, you can get an anonymous prepaid card, with Simplified Due Diligence (i.e., name and address only captured not checked) with a limit of €2,500. Funds can be loaded on and then spent as if it’s cash.

The spend and source of funds also is often traceable.So, what are the alternatives? Well, the obvious one would be cash. When a terrorist spends cash, there is no trace, no history of where it came from, where or how it was spent.

I am slightly confused, therefore, as to why prepaid cards are so bad, given the relatively low limits on SDD products in Europe. There is an argument to say these limits could be lowered to further inhibit the attractiveness of them to terrorists, but let’s remember, we’re talking about the same European governments that agreed to produce a €500 cash note, worth seven times more than any British sterling note and more than five times the value of the favorite currency of the international black market—the U.S. $100 note. Currently, just five of these lovely €500 notes in my wallet

resolutions

The real story of terrorist financing and prepaid cards

David Parker is the founder and CEO of U.K.-based Polymath Consulting, which works on projects and advises organizations across the cards and payments industry.


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