The Credit Card Industry
Around 600,000 outlets accept card payments, including mail/telephone orders and online. 95% of transactions occur electronically via chip & pin, magnetic stripe, keyed input and online. The rest is on paper. Its estimated that 151.0m cards are in use consisting of 57.0, credit cards 7.0m charge cards and 87.0m debit cards
There were 40.8m debit card holders, up 16.4m over the previous 10 years. 84% of adults hold a debit card. There were 31.6m credit/charge card holders, up 14m over the previous 10 years. Over 67% of adults hold a credit/charge card. The average number of cards per person was 2.4 credit cards and 1.6 debit cards. UK plastic card spending was £292.1bn, quadrupling over the previous 10 years. Of this £122.2bn was on credit cards, representing 2.0bn transactions at 64 transactions a second. Online card payments increased five-fold over the previous five years to 310 million transactions. This represents £22.0bn sales and 5% of total card payments.
Fraud on credit and debit cards has a high cost to society. The proceeds are often used to fund serious organised crime such as drug trafficking and terrorism.
The financial cost is largely borne by the banking industry. But the personal cost in time, inconvenience and frustration is immeasurable being without cards, waiting for fraudulent expenditure to be reversed, the sense of violation.
Face to Face Transactions (F2F)
Also known as Card Present
Chip & PIN
Chip & PIN transactions provide a very high level of security against fraud. The use of a PIN number should prove that the customer is the bona fide cardholder. Therefore if a Chip & PIN transaction turns out to be fraudulent, the merchant will usually be protected from any liability i.e. they will not lose the funds from the transaction. The card issuer or cardholder will usually take the hit for a fraudulent Chip & PIN transaction. This is because the card issuer or cardholder must have deliberately or accidentally allowed someone else access to the PIN.
Mail Order / Telephone Order (MOTO) Transactions
Also known as Cardholder Not Present (CNP)
Card Security Code (CSC)
Also known as CV2, CVC etc. This is the last three digits on the signature strip on the back of the card. Merchants can verify this number via their terminal. This should prove the customer has the card with them.
Address Verification Service (AVS)
The merchant can ask the customer to provide the numerics from their address (the flat/house number and numbers from the postcode). Merchants can verify these details via their terminal to prove the customer knows the billing address for the card.
NB Even if the merchant uses these CNP security measures, they are not protected from fraud liability. This is because the details used for CSC and AVS could potentially have been stolen along with the card details. A new security measure for CNP transactions called Dynamic Passcode Authentication (DPA) will be launched soon, which will provide the same level of fraud protection as Chip & PIN.
E-commerce (Internet) Transactions
Verified by Visa (VbV) and MasterCard SecureCode
These services provide the same level of fraud protection as Chip & PIN. Cardholders can register a password with their card issuer, which they will be prompted to enter every time they use the card online (rather like entering a PIN number into a terminal).
The Card Market
There are hundreds of UK card issuers of Visa/MasterCard. Can you think of any examples?
New entrants continue to join the market tempted by a well developed acceptance market, good revenue potential from interchange and interest on balances and stable economic and political conditions. The market is becoming more sophisticated over time with improved pricing, risk management, promotions and loyalty. Debit card usage is growing faster than credit, as it has become an alternative to cash. This has been accelerated by the launch of Solo to students and the availability of purchase with cashback.
The Merchant Acquiring Market
Historically merchant acquiring has been about processing costs. But now value-added service is key to future success the bar is being raised for customer retention in terms of pricing sophistication, service quality and innovative add-on products.
Many new products have become available in the UK recently such as portable terminals, mobile terminals, Dynamic Currency Conversion (DCC), Mobile Phone top-ups (MTU) and online account management. Merchants will expect even more in the future. Acquirers must find extra services that can provide lock-in and value to merchants such as prepay gift cards. Other prepay services (ring tones, picture messaging), community loyalty (tying merchants together) and other financial products (e.g. insurance), link services to bank accounts and contactless payments.
The Role of the Card Schemes
Also known as Associations
The schemes are the governing bodies of the card industry. Their regulatory role is similar to that of the Financial Services Authority (FSA). Anyone operating in the card industry (merchants, merchant acquirers, card processors and card issuers) is subject to scheme regulations. The schemes can levy very large fines for non-compliance with their regulations.
The schemes are heavily involved in the development of new products, technology, initiatives and fraud prevention in partnership with merchants, merchant acquirers, card processors and card issuers.
The schemes spend a great deal of money promoting their brands through advertising, sponsorship, etc. This benefits the whole card industry.
The schemes arbitrate between merchant acquirers and card issuers, especially where there are disputes on what rates should be charged for card transactions.
The schemes play a key part in the interchange process (transactions authorisation, clearing and settlement).
Worldwide, Visa has 20,000 member financial institutions and 24m acceptance locations processing $4.6 trillion annual sales. This represents 57bn transactions at 6,800 transactions per second. There have been 1.5bn Visa cards issued and there is ATM access in 170 countries.
In Europe, Visa has 4,500 member financial institutions in 36 countries processing £1.19 trillion annual sales. There have been 315m cards issued.
Worldwide MasterCard has 25,000 member institutions and 24.6m acceptance locations in 210 countries processing $1.7 trillion sales. This represents 19.1bn transactions at 32m transactions per day. There have been 749.3m cards issued.
Has 71m cardholders worldwide.
Has 13m acceptance locations in 200 countries with 1m ATM locations.
Japanese Credit Bureau (JCB)
Has 350 partner financial institutions in 19 countries and 14m acceptance locations in 190 countries processing $62.7bn sales. There have been 59m cards issued, 4.6m outside Japan.
The Card Types
With standard Credit Cards, cardholders can make purchases or withdraw cash. A credit limit is made available by the card issuer (a bank or other financial institution). The cardholder is required to pay back the amount that has been borrowed. They can usually either settle the amount owing in full without interest (on purchases) within a given period of time, or pay off a portion of the outstanding amount and carry the remaining balance forward with interest.
With Premium Credit Cards (Gold, Platinum and Black Cards), the cardholder is usually offered a higher credit limit and lower interest rate. Many also have extra benefits (e.g. travel insurance, product guarantees, preferential loan rates). They are usually only offered to customers considered to be a better credit risk. There is often a minimum (high) income level specified. The more exclusive cards tend to have annual fees.
Charity/Affinity Cards are Credit Cards issued on behalf of charities or other organisations (e.g. football clubs). Often the credit card company will make a donation to the charity or affinity group when the card is issued and/or used.
Co Branded Cards are Credit Cards that are branded with Visa or MasterCard and a private label (e.g. Marks & Spencer, John Lewis, Debenhams etc). They usually offer a loyalty scheme to encourage the cardholder to use the card at the retailer. The retailers can use the card statements for marketing purposes.
Debit Cards are issued by Banks in conjunction with the Debit Schemes, usually Visa Debit or Maestro (MasterCard). Debit Cards are now the most popular card payment. Launched in 1987, they were initially developed as an alternative to cheques, but are now increasingly being used as a cash substitute.
Debit cards operate like cash or a personal cheque. The money is immediately deducted directly from the cardholders current account. The cardholder can get up to £50 Cashback from merchants offering that service and withdraw money from ATMs. Debit Cards often have cheque guarantee function.
Charge Cards are also known as Travel & Entertainment Cards (T&E) because employers often provide them to business people for expenses. For individuals, most Charge Cards require a certain salary level to qualify and a very good credit rating. There is usually no credit limit, but usually the balance must be settled in full each month or additional fees are incurred. In this way goods and services can be bought interest-free until the end of the month.
Most Charge Cards offer rewards schemes such as Cashback, discounts, free services and points systems. Because Charge Card companies don't make revenue from interest bearing balances they charge annual fees. They also make money from the interchange system like all card issuers.
The main Charge Card companies in the UK are American Express and Diners Club International. Charge cards are also offered by some high street banks (Visa/MasterCard Charge Cards).
Types of Charge Card:
- Charge Card for individuals
- Business Card for small businesses to issue to their employees
- Corporate Card as above but for large businesses
- Purchase Card as above but for purchasing departments i.e. not a T&E card
- Store Cards
Store Cards are issued by large retailers in conjunction with specialist financial institutions (e.g. GE Capital). Store Card accounts are usually very easy to open. Shoppers can usually get a small credit limit instantly when applying for the card at the retailer. Retailers usually offer loyalty schemes with the cards to drive repeat business and market direct to customers via the card statements.
Store Cards are not Credit Cards. They are accepted only in the specific retailer or a group of retailers (e.g. Edge card, Seven Card). Store Cards are gradually being superseded by co-branded Credit Cards, which are true credit cards.
Prepay & Gift Cards
Retailers originally launched Gift Cards as a replacement for gift vouchers. However, there is huge potential for scheme-issued prepay cards as a general replacement for cash, particularly with the development of contactless payments. The London Transport Oyster card has been a successful example of this, with around 5m cardholders already.
Credit can be added to prepay cards within a store or over the phone and they can be reloaded when this value is depleted. Prepay cards are not in general circulation yet, but they are likely to be the next big thing in card payments. With the development of contactless payments, they could offer the convenience of cash for small transactions while offering the same security features as credit & debit cards, without the need for a bank or credit card account.
Cards recently overtook cash as the preferred method of payment in the UK. Prepay cards may take this a step further, reducing the use of cash to a minimum.
The Interchange Process
The Cardholder is the person who owns the card. Most of us are cardholders.
The Merchant signs a written agreement with the merchant acquirer processor to accept cards and make card transactions.
The Merchant Acquirer Processor (e.g. BOSMS/First Data) handles and processes card transactions from the merchant.
The Schemes (e.g. Visa and MasterCard) conduct clearing and settlement processing, and supervise processing activity.
The Credit Card Issuer Processor (e.g. First Data) works on behalf of the Credit Card Issuer, providing clearing and settlement services.
The Credit Card Issuer is a Financial Institution or Bank that issues cards to customers.
The Three Steps of the Interchange Process
When a cardholder makes a credit card purchase, the interchange process is triggered. Each step of the process involves an exchange of transaction data or money that must be settled and balanced.
The cardholder makes a card purchase. The merchant must obtain authorisation for the purchase from the Credit Card Issuer via the chain. The transaction is not guaranteed at this point.
The Merchant Acquirer Processor obtains basic transaction data from the Merchant such as the amount, date and location of the purchase. This data is sent to the Credit Card Issuer via the chain for posting to the cardholder's monthly credit card statement. The transaction is also posted to the Merchant's statement.
The money from the transaction needs to be settled as no actual money has been transferred or moved until this point. The funds are collected from the Credit Card Issuer and transmitted to the Merchant via the chain. The Cardholder receives a monthly statement and settles with the Credit Card Issuer for the purchase.
Net Settlement = the purchase amount less fees i.e. each element's cut of the transaction.
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