product manager
		The   ECONOMICS   OF DEBIT

I have to admit I’ve made the point-of-sale process a pet peeve of mine lately. I spend an enormous amount of time speaking about the virtues of PIN debit as a method of payment, and constantly find myself in the middle of the merchant vs. association battles over interchange and how to cut those ever-increasing costs. So, I turned to my local retailers to see exactly how their card acceptance processes work; in fact, I’ve even done impromptu interviews of the consumers ahead of me in the checkout lines to inquire as to why they selected credit vs. debit at the checkout. What I found was interesting and disturbing – I’ll further explain below.     It’s no secret that PIN-debit transactions have experienced double digit growth year over year for many years now. In fact, in the last four years, PIN debit at the point-of-sale has grown on average at a rate of 19.3% each year. PIN debit acceptance brings with it several benefits to the merchant – lowered interchange costs, faster checkout processes, more secure transactions and fewer chargebacks. Table A below shows the increase in monthly transaction volume (in millions) through the PIN-debit networks.     At this point in time, there are an estimated 200 million debit cards in the marketplace that contain capabilities of both signature debit (branded with either MasterCard or Visa logo) and PIN debit (‘bugged’ on the back with one or more debit network logos). There are an additional 90 to 100 million cards that are PIN-only, which drives POS transactions to the debit networks. In total, there are 300 million cards out there whose sole function is to tap the funds in a consumer or business checking or savings account. Countless surveys have shown that consumers prefer PIN debit for the cash-back option, the security, and the faster checkout process. In the world of identity theft, this is a payment mechanism that is here to stay and well-adopted.

Key Benefit #1: Interchange Savings     By far, the compelling reason to accept PIN-debit at the point-of-sale is to capitalize on the substantial savings in interchange over signature debit products. The table below shows the interchange costs a retailer might incur with $100 and $300 average tickets using both PIN debit and signature debit.

    The savings depicted above are pretty profound, yet easily attainable. At a $100 transaction level, the merchant would save almost 60 cents in interchange; extrapolate that to 500 transactions a day, and that’s a $300 savings each day, $9000 savings each month and $108,000 savings a year.
    At a $300 transaction level, the merchant saves about $2.60 per transaction; using the above numbers, that equates to an annual interchange savings of $468,000).

Key Benefit #2: Fewer Chargebacks

    Another factor in debit acceptance is Regulation E, to which merchants must comply when accepting debit cards. Reg E governs any access device that is tied to a checking or savings account, and debit cards are considered one of those access devices. Regulation E states that the consumer must be authenticated by either a signature or ‘similarly authenticated’ through the use of PIN, shared secrets, etc.
    With a signature debit transaction, the authentication routine is to have the consumer sign the receipt and compare that signature to the card; technically, that’s still not fully authenticating the consumer – a good forger could match the signature on the back of a stolen debit card and be on his way with all sorts of goodies from the local electronics store. The signature should really be cross referenced to a driver’s license or other form of picture identification to really ensure that the merchant is complying with Regulation E and properly authenticating the consumer.
    How many merchants actually go to this level of consumer authentication? From my personal experience, I’m amazed if the checkout clerk actually compares signatures before I walk out with my goods. Placing the responsibility onto a 16-year-old high school student is a risky proposition.
    Now, following the concept of Regulation E’s ‘similarly authenticated’ guideline, the PIN is in fact an excellent way to authenticate the consumer, because theoretically, only the holder of that debit card should know the PIN associated with it, so a proper PIN entry at the point-of-sale terminal generally ensures that the consumer is duly authenticated. Please do not write your PIN down on the back of your debit card – that’s just a really bad thing.
    What does that all mean to the merchant? PIN debit transactions are less frequently charged back to the merchant because of the inclusion of that PIN data during transaction authorization; with a signature debit transaction, it’s much more difficult to fight a chargeback based on signature verification (or lack thereof) when the consumer claims fraud.

Key Benefit #3: Faster Processing

    Using PIN debit at the point-of-sale lends itself to a faster checkout process. Since there is no requirement for the consumer to sign a receipt, a good authorization leads to the generation of a receipt, and subsequently sends a consumer on his way. The signature acquisition process at the point-of-sale could in fact add an additional 30 to 60 seconds in the checkout process; again, the idea is to keep the consumer happy by ensuring the checkout experience is both efficient and expeditious.

Watching the Merchant’s Money Fly out the Door

    I’m sure I didn’t really provide any new and ‘earth-shattering’ reasons for PIN debit acceptance, and in this world of merchant awareness of interchange, we’re all very aware of the economics as well. However, what I find in the marketplace is a very lackadaisical approach to card acceptance at the point-of-sale.
    All too often, I see POS terminals whose initial prompt is ‘Debit or Credit’ – the process of selecting a best route for the transaction has now been transferred to the consumer. Most consumers don’t know the difference between a PIN debit and a signature debit transaction, and certainly have no idea of the cost differences to the merchant. In fact, since most consumers focus on the front of that debit card, they see a credit card association logo and assume that the proper selection at that POS terminal is the ‘Credit’ button. This has now increased the cost of card acceptance for the merchant.
    The concept for moving more transactions from signature debit to PIN debit revolves around the idea of ‘steering’ consumers to your preferred method of payment by using a prompt to enter a PIN. It’s perfectly within regulations to guide a consumer to a preferred method of payment (in this case, PIN debit vs. signature debit), however you cannot prevent them from selecting signature debit, should that be the manner in which they wish the transaction be processed. Honoring consumer choice is paramount in this process.

Best Practices and Associated Economics

    In order to achieve the best results in the process of guiding a consumer to your preferred method of payment, the process revolves around the BIN file. The BIN (Bank Identification Number) file lists all those debit card BINs that are PIN debit eligible. The acquirer should easily be able to provide their merchant with that file, as well as provide regular updates as banks are added and deleted.
    I constantly refer to the model at the world’s largest retailer – at the checkout, the POS terminal prompts to simply swipe the card – the consumer is not making any selection at that point. The processing logic lies at the controller system which determines what kind of card it is – If it begins with 37, it’s an AMEX; 6011 Discover, etc. It also queries this BIN file to see if that card is PIN eligible. If so, the terminal then immediately prompts for the consumer to enter their PIN. The logic is pretty sophisticated as well. When I use my American Express card, the terminal software knows that the process of authorizing my card requires my ZIP code for AVS processing, so it prompts me for that data.
    Most likely, a stand alone OMNI 3200 terminal isn’t going to have the capabilities to store a BIN file and run this level of sophisticated processing at the point- of-sale; but for a large multi-lane retailer, the kind of logic that I described should be standard operating procedure.
    Who drives the change? Treasury? Operations? Technology? The answer is that it is an enterprise-wide initiative, but most commonly the business case is spearheaded by treasury, since they are the ones that deal with the dollars and understand most intimately how cash flows within the enterprise.
    Making the business case is not complex, but it may require some assistance from the acquirer as well. The enterprise should map out the following steps as part of the project plan:

• Determine the overall number of debit cards that the merchant processes, both PIN and signature debit (the acquirer can provide those numbers)
• Determine what percentage of signature debit cards could also be processed as PIN debit (the acquirer should be able to provide those metrics)
• Map out the projected conversion rate from signature debit to PIN debit based on the re-engineered point-of-sale process (should be easily determined by speaking with industry colleagues who have executed the process)
• Determine costs to implement the re-engineered processes (probably the most time-consuming part of the project)
• Determine payback at specific conversion rates

    The economics can be easily calculated using the above model, and would be similar to the Table B, below.

    Obviously, this is just a basic model; the merchant would have to plug in their own numbers in order to determine the ROI.
    As enterprises look to the expense of upgrading hardware at the point-of-sale, they should also prepare to write very specific requirements of the application that will be driving card acceptance and determining best routing for optimal interchange savings. Performing the determination of up front requirements will lead to a successful and financially rewarding project downstream. Perhaps the best requirement gathering effort may be that all stakeholders simply go shopping at their local retailers.