The Card Networks Need to Let Everyone Become A Stripe

International legislating bodies have it out for the card networks, and the US is finally catching up.

And we can understand why.

Payments is an esoteric contraption yet seems to make a lot of money.

For (in)arguably nothing.

Or if you want to argue that payments does something, then at least you’d be hard pressed in arguing the fat margins associated with card use: the average cost of accepting digital payments in China via AliPay is 50 basis points, or about 15% of the cost of accepting payments in America.

Visa and Mastercard are often the scapegoats when eyeing the world of payments because they’re easy to single out.

For starters, they’re both public companies with very scrutable economics.

Moreover, there are only two of them, making legislature pursuits much neater, with logo’d boogeymen and shorter soundbites.

While the world of payments is fraught with greed and devoid of morals, the card networks get an unfair turn on the stand.

Let us explain.

There are three involved parties when a card is swiped:

1. The issuing bank. This is the bank whose name is on your credit card, and who gives you rewards for swiping (e.g. 1% cash back)
2. The card networks. These would be Visa, Mastercard, Discover. AMEX is an issuing bank, network, and acquiring bank all in one
3. The acquiring bank. This is the bank that represents the merchant. More often than not, these banks have contracted out their card acceptance to merchant acquirers (for example, Bank of America contracted First Data to be a large acquiring agent of theirs)

The fees charged by the entities in numbers 1 and 2 above are called interchange and are non-negotiable for the merchant.

The cost of accepting cards has only gone up over time, leaving some countries to cap the greed before the payments ecosystem takes everything.

Australia began capping interchange in 2003.

The EU capped interchange in 2015, and Canada also scored its first win that year as well.

All in, 37 countries have “recognized the uncompetitive level of interchange fees and have moved to reduce and cap them.”

But in many cases while issuing banks and networks take a bath, the merchants pay the same – or more – to accept cards.

HUH?!

Well, those merchant acquirers, listed as #3 above, just take capped interchange legislation in stride, refusing to pass any savings on to the merchants and instead pocket the increased margins.

#GodLevelPaymentBro

Because if you really want to stop interchange increases you need to go after the merchant acquirers.

The issuing banks make money from issuing cards in two ways:

1. Interest payments
2. Interchange

The numbers vary, but by and large issuing banks make substantially more money from interest payments than they do from interchange:

Quick math:

According to the table above, the average interchange revenue would be $26.

We’ve had a hard time finding these numbers, but we’ve heard that the average consumer pays 28% of their payments with cards. Averages peg US consumer expenses at $61,334, which would equate to ~$17,000 in annual card spend.

$26 would represent 0.15%, or 15 basis points.

Why so low?

Because issuing banks use a lot of interchange revenue to attract consumers with rewards programs: that 2% cash back has to come from somewhere.

Visa made $24.1B in 2021 revenues on volumes of $10.4T, which works out to be 0.23% or 23 bps.

But guess whattttt?

Those merchant acquirers make a lot more money.

Toast, for example, averages 55 bps of margin.

Jeff Sloan, the CEO of Global Payments and self-made king of fake fees has been known to express his belief that smaller merchants should be paying more than 100 bps of margin to accept payments.

#Genius.

The biggest risk to the networks finding themselves on the wrong end of legislation are the merchant acquirers, who are arguably eating much more of the pie, especially – and ironically – after interchange has been capped.

Since merchant acquirers don’t fit neatly into an evening news soundbite, and they’re so ubiquitous, it makes it hard to pin them down with any legislation.

So what should the card networks do?

The card networks must vigorously invest in their own APIs to expedite direct processing.

The card networks should be welcoming every software company and their brother into their programs, marketing the hell out of direct integration, and making it super easy to execute.

Nobody with a brain believes independent acquiring is a viable business anymore, and payments are undeniably accreting to software providers (Clover, Square, Toast, Shopify, Mindbody, Workwave, etc.)

Software companies are (usually) more ethical than payments companies, and must actually deliver value to get paid.

No R&D, no competitive product, and thus no winning the merchant processing.

This is polar opposite of pure-play payment companies like FIS, Global, and Shift4, who despite their best marketing efforts have not a product bone in their bodies.

Direct integration to the card networks will eliminate conventional acquirers, who are the ones shitting where the entire processing ecosystem eats, and drive processing margins down.

One thing to add here is that just because you write directly to the networks for direct authorization does NOT mean you are a processor.

This is a longer and more expensive process (1-3 years and $5-$15M of investment) BUT it could be made very, very simple if the networks got their shit together.

And the networks should be smart enough recognize the threat the conventional processing model has on their margins…

In reality there’s nothing preventing the networks from building the processing infrastructure, by the way. Because remember, the networks are beholden to the banks: both issuing and acquiring.

And the acquiring banks are surely growing tired of the terrible PR wrought by the hands of their acquiring partners today.

The networks could theoretically build the glue between the banks to make processing status much easier to achieve. In that word there’s no reason a software company wouldn’t just write directly to the networks and have full blown processing capability in a few months.

With US legislators finally taking up the issue in a substantial way, this is the best damn insurance the networks should be buying.