Well it happened. We knew it was coming. It may have even taken a bit longer than expected but it happened.
Never in the history of payments has there been such a media-frenzied, corporate disrupting and consumer-captivating moment as last week’s unveiling of Apple Pay as part of this week’s release of the iPhone 6. Make no mistake – this was a direct “pyrus malus” hit into an entrenched and profitable caste system of payment providers.
Changing the trajectory of an existing payment system is difficult because it’s basically a powerful, self-reinforcing feudal power system. Apple shrewdly coopted its greatest weakness as an inexperienced new entrant. It charmed the royalty, provided pressure about the villagers being restless and cut a deal with those who ruled the current kingdom. Cheerily waving flags for the new “knight of Apple” were the dukes of Visa, MasterCard, American Express and Discover, and the earls of Chase, Wells Fargo, Bank of America and Capital One. These cozy royal alliances today may not last forever, but for now a worthwhile truce has been established.
In the world of issuers and card brands, there is now an innovator asking to take “just one thin wafer” of interchange revenue. Where does it go from here? No one really knows. Cornerstone Founder Terence Roche concluded, “It seems to me like the big question is whether Apple plans to disrupt that at some point.”
The key takeaway from last week was not necessarily that Apple Pay is guaranteed to end up being a popular consumer product or that near-field communication (NFC) is guaranteed to be the ultimate mobile payment standard. The key takeaway is that one innovative company has pierced the feudal payment system with serious strategic intent and resources to make every existing member of the system scurry.
September 9, Apple Pay Day, will be remembered as the day the payments industry woke up to mobile.
Now, GonzoBankers are a bit nervously thinking about what their banks’ response should be to Apple Pay. For the past week, I have been consulting the Cornerstone brain trust for its initial impressions and recommendations. It will take a few months for the dust to settle on the strategic reactions, but any bank should be focused in the following areas:
1: Formally Monitor the Threat Assessment
The growth of Apple Pay will be tracked by the growth of iPhone 6s at the consumer level, NFC-ready terminals with merchants and Apple Pay certifications at the card issuer/processor level. Although Apple expects to sell an amazing 70 to 80 million iPhone 6s in its first release, The Wall Street Journal reports that only 220,000 of the 9 million merchant terminals in America currently support NFC (2.5%).
In this instance it would be wrong to just assume Apple Pay and NFC will start conquering the market. Usurping the payments kingdom will be perhaps the biggest challenge Apple has undertaken to date. As Cornerstone Managing Director and payments guru Bob Roth predicts, “Expect the merchants to now work on their MCX payment option all that much harder.” Let’s look at it through the merchants’ lens. They now have to upgrade millions of POS terminals to handle EMV [Europay, MasterCard and Visa] and NFC? And Apple’s going to start taking a cut out of their transaction fees? It may appear to merchants that they are essentially funding the ease of use for the customer.
Watching this interplay of devices, NFC and issuers will be critically important. Banks should now be checking in on a formal payments threat assessment at least every six months to their boards and executive team.
2: Closely Watch the Online and Self-Checkout Uptick
A sleeping giant in the growth of Apple Pay could have nothing to do with NFC. Online sales and the emerging world of self-checkout are also where Apple Pay will play. Apple will now work to squeeze out giant PayPal online and take its own innovative self-checkout processes to many national chains. Open Table is on board with Apple Pay because of its vision for consumers to not only make reservations online, but also to check out and pay their bill directly from the table – another fraud-reducer by never handing the card to some shady waiter. How fast until we are all purchasing a ton of goods in physical stores but acting like we bought them on line? This could happen much faster than expected because of the huge staff productivity benefit retailers gain. As Cornerstone’s Director of Contract and Payment Solutions Ryan Rackley noted, “Down the road this certainly opens an easy path for Apple to gain transaction volumes at card issuers’ expense.”
3: Determine Your Bank’s Tokenization Road Map
In the past week, bank technologists and payments managers have been digging into the technical specs of tokenization. At Cornerstone, our very own rain man Michael Croal was drawing flow charts and war gaming what tokenization will mean. As Croal concluded: “It appears the agreement between Apple and a bank is for Apple to be allowed to convert the card number into a routable token before the merchant sees it. The merchant and merchant processor only need the first six digits, the BIN [bank identification number], to know how to handle it. Since the real 16-digit card number is only exposed from Visa back to the issuer, and the Big Apple ‘doesn’t save it,’ Apple Pay should be more secure and bring more tokenization strategies from Apple competitors.”
The faster banks that understand their position with this technology, the better. Roth notes that Visa and MC came up with this concept almost a year ago. This process would eventually eliminate the need for merchants to analyze and read magnetic stripe info. Adoption up to this point has been minimal. Roth concluded, “Apple Pay will be the first major payments method to take advantage of this. This is a big win for MC and Visa and a major step forward in eliminating the simpler forms of card fraud.” Roth sees industry players quickly jumping into the world of tokenization, as demonstrated by industry giant Fiserv rushing to communicate its tokenization strategy last week.
Tokenization has just also moved to a priority requirement for payments vendors in the community banking and credit union space. Cornerstone Senior Director Sam Kilmer noted: “Right now, everyone is saying banks are winners. No one is telling the segmentation story. Bigger banks are winners with early adopters because they are ahead on the app process.” Like many new innovations, community banks and credit unions will need to determine how quickly they can become fast followers. As Kilmer noted, “I could see a segment of loyal Apple users switching banks over this purely on timing and perception of their bank being backward.”
4: Redouble Efforts to Create a Slick Mobile Banking Experience
Banks today are seeing a rapid merging of Web and mobile channels, and new companies are seeking to disrupt a staid Internet banking vendor market. Integrating payments is one of the hot new areas of functionality in which vendors are competing for the business of community banks. The release of Apple Pay underscores the fact that a killer mobile banking experience will be table stakes going forward. Banks today are woefully under-resourced in the E-channel area, and the Redirect of delivery resources has just moved to Defcon 1.
5: Blow Your Customers Away with Payments-Related Customer Service and Fraud Monitoring
Who does a consumer call when Apple Pay has an issue? Naturally, Apple is a technology company that has no interest in becoming the “back office” of payments. Banks have traditionally done the gritty work that innovators get bored with fast. If bank CIOs are drawing flow charts to review NFC, tokenization, mobile and BINs, think what the CIOs’ parents are thinking about emerging payments. The truth is, banks have a decade of education and migration opportunities with their customers. Front line knowledge of a bank’s payments offerings and delivery channels should be off the charts if banks are going to fend off the continued encroaching threats of payments innovators.
6: Recognize That EMV Marches On
Apple Pay’s sexiness aside, there is ramp-up time and future competition. Apple’s move is not an EMV killer at this time. As Cornerstone’s Roth observed: “I don’t see momentum ebbing on EMV. The industry finally drank the Kool-Aid on this, and I am seeing a wholesale movement to EMV. For one of our clients to ‘leapfrog’ the need to do EMV would be to assume that they can cut a deal with Apple and then get close to 100 percent of their transactions over to NFC and tokenization before the October 2015 deadline. That would never happen.
“For community financial institutions, an EMV roll-out needs to be branded with customers as a continued focus on security and privacy. It’s a great ice-breaker to begin a long-term discussion of being THE trusted payments providers with customers.”
More to Come
In the next few months, GonzoBanker will dig deeper into the strategic scurrying that has been set off. Competition is always good and fun in an industry – so let the competition begin. The early scores are in. As Roth concluded: “Overall, this is a huge win for the evolution of the payments industry, but it’s not a great deal for merchants and issuers. This seems like a loss for small and mid-size financials. Nothing good can come out of it all. Banks can ride the apps, and if they have to pay to ride the apps then it would seem like another loss of revenue.”
For now, it’s a mad rush for players of all shapes and sizes to figuratively sit under the Apple tree. Maybe Cornerstone CEO Scott Sommer said it in the most sophisticated and profound way last week: “I just think it’s so totally cool ;-).”
-sw