MAY 1, 2003

FINANCE


Big Plastic's Costly Losing Hand
Now that MasterCard and Visa have settled a retailers' class action, the duo's regional rivals are the biggest winners


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As the owner of a small art gallery in Louisville, Ky., Robert Higgins has long balked at the hefty fees Visa USA and MasterCard International charge to process credit-card transactions -- such as the $215 he once paid Visa for a customer's $4,850 charge.


Even when, a few years ago, MasterCard and Visa required that he also accept their debit cards -- with processing fees far higher than those charged by the regional ATM networks -- Higgins acknowledges he had no choice, lest he lose the right to accept their credit cards. "I would not be able to refuse MasterCard," he sighs. His frustration, and those of retailers across the country, were the prime impetus behind a massive class action against the credit-card giants that was launched in 1996.

Now that the suit has been settled, small retailers like Higgins may be seeing the tables turn. MasterCard's surprise decision on Apr. 28 to settle the seven-year-old case by Wal-Mart (WMT ) and other retailers over fees and terms -- and Visa's decision to do likewise two days later -- could have dramatic consequences for the retailing and credit-card businesses alike.

"PROLIFERATION OF COMPETITORS."  By agreeing to pay the retailers a combined $3 billion, plus offer a sharp reduction in the fees they charge for the debit transactions that are increasingly popular with consumers, MasterCard and Visa are providing a windfall to merchants who have bristled at debit fees that, at an average $1.49 per $100 transaction, were as much as 16 times greater than those charged by regional ATM networks.

Just as important, MasterCard and Visa have agreed to loosen requirements that retailers honor not just their credit cards, but all their other products as well. According to the Nilson Report, an industry newsletter that covers consumer-payment systems, the credit-card outfits earned $4.8 billion in fees on debit-card transactions last year. Concessions by MasterCard and Visa could allow smaller rivals like the regional ATM networks to claim a bigger share of a $916 billion business in payment-processing and services.

For the credit-card industry, "this could have the same potential as the AT&T breakup had for telecommunications," predicts Dallas banking attorney Steve Camp, formerly Bank One's (ONE ) in-house counsel. "We're going to see a proliferation of competitors that will be able to undercut Visa and MasterCard with lower costs."

MasterCard officials have declined to comment on the settlement, citing a temporary gag order imposed by the court. But legal experts believe that the pretrial signals from the presiding judge -- who granted most of the retailers' pretrail motions, while denying most of MasterCard's -- prompted the credit-card outfit to cut a deal rather than risk paying additional billions of dollars in punitive damages. Says Camp: "I think MasterCard saw the handwriting on the wall -- that they were fighting a losing battle."

CHANGE OF HEART.  Visa executives initially insisted they had no interest in settling, saying they were "focused on demonstrating at trial that our practices are legal, appropriate, and in the best interest of consumers." Plus, Visa has fought such suits in the past and won on appeal (see BW Online, 4/29/03, "Visa's High-Stakes Fight to the Finish").

Yet some analysts weren't surprised that Visa was quick to reconsider. Even if it had prevailed at trial, the best it could have hoped for would be to avoid paying its share of the $39 billion in damages that merchants have been demanding from the two card giants. Now, both MasterCard and Visa will offer retailers lower fees and fewer restrictions.

That could spell opportunity for regional ATM networks -- such as NYCE, MAC, and Star -- controlled by smaller regional banks, which have struggled to loosen Visa and MasterCard's iron grip on the card-processing business. But the biggest beneficiary may be First Data (FDC ), a Denver-based credit-card processor for retailers whose pending acquisition of Memphis-based Concord EFS (CE ) will give it a 20% share of all debit transactions -- roughly equal to that held by MasterCard.

By marrying its 3 million retail clients with the thousands of banks that Concord services, First Data has already begun mapping plans to offer both parties an alternative processing service that completely bypasses Visa and MasterCard -- and the hefty "interchange" fees that each charges. "First Data is the biggest winner here," says Robert G. Markey Jr., a director with management consultants Bain & Co. (see BW Online, 4/16/03, "First Data and Concord: A Power Marriage").

DEBIT TECHNOLOGY'S PROFITS.  Already, some retailers are showing a desire to bypass the giants and create their own loyalty and payment programs. In less than two years, Starbucks (SBUX ) has issued 11 million stored-value cards through a program administered by First Data. And McDonald's (MCD ) has begun testing PIN-secured debit transactions at some of its restaurants -- which Concord is handling for a mere 12.5 cents apiece. "The major retailers are eager to create the kind of rewards and loyalty programs you see in the travel industry, and this could make it easier for them to do so," says Chris X. Moloney, director of market development and strategy at Maritz Loyalty Marketing in St. Louis, Mo.

Retailers like what they see happening. Steve Knopik, president of Beall's, a 479-store chain of department and outlet stores based in Bradenton, Fla., believes the settlements will "alter the marketplace." Indeed, Beall's is now poised to install the PIN-pad debit systems used by the cheaper ATM networks in its 74 department stores. "It gives us confidence to go with our plan to install debit technology," says Knopik. "The savings really hum when you trade a credit transaction for a debit." This credit-card game may no longer be the kind where the dealer always wins.


By Dean Foust in Atlanta, with Brian Grow in Orlando

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