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Are Payments A Commodity or Force Multiplier?

Say ‘Mississippi’. In the time it took you to say it, $199,771 USD was spent online – the $6.3 trillion eCommerce market divided by the 31,536,000 seconds in a year. If every sale made in that single second was routed to the average global citizen’s bank account instead of hundreds of companies then, since they earn $9,733 per year, they would make twenty years of wages in a single second. Widen the scope to all retail sales, online and off, and the figure expands dramatically to $30.5 trillion, and the per-second figure becomes a dizzying $967,148.

While cash accounts for 16% of POS payments globally, the remaining 84% (and 100% of eCommerce sales) takes place over a variety of digital networks, often proceeding through a number of intermediary companies that are invisible to the payer and payee – none of the $6.3 trillion is going to be paid by somebody with particularly strong opinions on which acquirer acts as an intermediary between the merchant and card payment network when they pay for a coffee.

If the coffee shop in question is independent then a savvy owner may have taken a look at their payments system to optimise it, hoping to shave a few percentage points off each transaction, which may save them hundreds or possibly thousands each year. A major chain may have whole teams of people whose role it is to optimise the payment flow of each latte sale to ensure maximum profitability.

Payments as a commodity

Their focus will almost always be on price – the small percentage each part of the payment process takes from each transaction. These are hugely variable, but ever-present, so it is important to get this aspect of the payment process right. Some of the biggest industries have profit margins that are razor-thin: online retail operates with a net margin of 0.64%, so the loss of a few percentage points on each transaction could be devastating. They become particularly hard to control when companies are doing business internationally: selling to one country may have a negative economic impact on a company when interchange fees are factored in.

Given how vital to a business it is to keep costs low there seems to be a compelling argument for treating payments as a commodity. In economics, a commodity is defined as a good that is almost entirely fungible: one tonne of iron or a barrel of Brent Crude is identical to every other tonne of iron or barrel of Brent Crude, so there is no ‘premium’ barrel of Brent Crude that you would be willing to pay more for. If it were different then it would be classed as an entirely different commodity – there are other types of oil that have different densities and sulphur contents such as WTI that trade at different prices. Compare that to a restaurant meal, which could be anything from a Big Mac to the tasting menu at the French Laundry.

So, can payments be a commodity? Returning to the metaphor of barrels of oil, somewhere in the world there is someone selling a barrel of Brent Crude at the lowest price, and this is objectively who you should buy that commodity from – again, there is no benefit to paying more for an identical product. Is this the case in payments? Is there an objective best company to work with for each step of the payments process? Clearly not: there are a lot of payments companies out there, a huge range of technology, and the one that has the lowest cost per transaction is not necessarily the best.

Payments as a force multiplier

Why is this? Firstly, because unlike commodity prices, payment service costs are rarely simple. The current price of a barrel of Brent Crude is the price you’ll pay no matter who you are, whereas payments companies frequently discriminate between companies and individual payments based on the nature of the business (‘high risk’ companies or those who are affected by fraud and chargebacks will pay more than lower risk businesses) and the nature of the payment (international payments cost more, and some countries cost more than others). This complicates the process of finding the objectively lowest priced payments provider – even if they offer the best price for a domestic payment today, if your company is subject to high levels of fraud or excessive chargebacks (which payments companies are free to define) then your low price is going to go up.

Therefore, we may need to put aside the idea of payments as commodities and start looking at them as tools that may be better or worse suited to a particular job – force multipliers in other words. Just as a hammer is built to be a force multiplier when compared to trying to push nails into wood by hand, a payments company might have the right combination of features to be a force multiplier to your company.

How can a payments company enhance their business through their payments partners instead of just opting for whatever’s cheapest? A major differentiator is decline rates – 15% of recurring credit card transactions are declined, sometimes as many as 30% in some industries. There are plenty of legitimate reasons for declines, but no system is perfect so there are likely to be plenty of false declines among that 15%. It is estimated that the total cost of false declines comes to $443 billion every year. Some customers who receive a false decline will retry the transaction, but some will go elsewhere, and the money your company will lose from them doing so is worth far more than a few percentage points on each transaction.

Then there is fraud. Just about every part of the payments process contains some kind of anti-fraud element, such as implementing 3DS checks, and if they are too lax or too stringent then your company stands to lose money and customer goodwill. As stated above, if enough fraud happens to your company then you face being classed as high risk and paying higher fees, so opting for a less expensive payment partner who lets through too much fraud could have long-running consequences.

Lastly, and perhaps most importantly, payment companies are often unable to share the full amount of data that each transaction generates because of outdated systems made for twenty- or thirty-year-old networks that had limited bandwidth, meaning the amount of data that could be transmitted in each transaction had to be small. Data is, as they say, the new oil, and innovative companies need that data to optimise their processes, discover where things are going wrong and ultimately make more money.

Modernising payments

That last point is where companies have a real opportunity to turn their payments systems into a force multiplier.

The potential for innovation when working with a fully modernised payment provider is much higher than when you work with a no-frills, low-cost company. As with any product, not all companies who charge higher prices deliver a premium service, and not all the less expensive companies are offering a budget service.

It’s down to merchants to understand that payments companies aren’t interchangeable commodities, and that they offer radically different services, some with transformative potential for merchants.

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Robert Kraal

Robert Kraal

Co-founder and CBDO

Silverflow

Member since

25 Apr 2023

Location

Amsterdam

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This post is from a series of posts in the group:

The Payments Business

Share opinion and experience on how the payments landscape is changing and learn about the challenges and opportunities facing payments stakeholders in the future.


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