Commerce Network Puzzle

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This is brief.. just something top of mind. This is an extension of my previous blog this month on Remaking of Commerce and Retail. I wrote today on linked in

POS and Payment Terminal mfgs have 30+ groups trying to add coupon and payment functionality. Their message.. FIRST get a retailer that wants it. Verifone’s Verix architecture provides retailers with capability to run 100s of POS apps… but retailers are skeptical.. will “apps” drive revenue? will it confuse customers? What will drive loyalty to MY BRAND vs. some start up? who is going to manage the mess when something doesn’t work?

All of the Card Linked Offer companies (see my blog), PayPal, ISIS, Google, Groupon, Living Social, Fishbowl, Inxent …are trying to integrate into the physical POS.  There are 2 primary options to integrate marketing into the checkout process: the Electronic Cash Register and the Payment Terminal.

I speak quite a bit with Verifone’s investors about their POS vision.. Will NFC drive reterminalization? Will payment terminals morph into a rich customer interaction environment? Big retailers like Safeway and WalMart have teams of 500-2000 developers around their core IBM 4690 ECR (ACE, GSA, SurePOS,…) and heavily customize it.  Take a guess how many people retailers have in managing their payment terminal? The answer is usually zero..  The reason the payment terminal (where you swipe your card) came into being was that retailers did not want to deal with PCI compliance, so their processors (like FirstData) came in with the terminals. The Cards get encrypted at the swipe and no one but the processor has the key to unlock the numbers. The ECR sends total amount and the payment terminal tells them it is paid with an auth number.  I thus find Verifone’s Verix architecture somewhat amusing…  I certainly see how retailers would benefit by taking electronic coupons from this terminal (and sending to ECR), but the terminal does not give receipts and certainly doesn’t allow for matching of UPC information.  Even if it did… the retailers don’t want to create a new IT team to manage this mess on a piece of hardware they don’t own.

Will Verifone sell new terminals because of NFC? YES. Perhaps even as much as a 20% reterminalization (over baseline) in next year… BUT my bet is that the POS  manufactures will win the battle long term both due to retailer IT competency and the tremendous capability for POS manufactures to deliver complex business solutions (IBM is 80% of top 20 global retailers).. Things like coupons are not some abstraction… they relate to pricing and loyalty and must be integrated into a retailers price promotion strategy. Currently we are in experimentation mode… with leaders like Google, Catalina and Coupons.com.

What are the puzzle pieces that will make “rewiring commerce” work? Small companies are very challenged in delivering value within networked business. They certainly do not have the heft to create their own, so they must choose sides. Within the card linked offers space, they align to the big card networks. This alignment has implications for attracting retailers and the targeting which can be done from bank data (store preference) vs the targeting which retailers can deliver (brand and price).

In general, the Marketing and Shopping phase of a NEW commerce process requires the following

1) know the customer,

2) deliver an incentive that is relevant and prompts action,

3) in a way that is integrated to the retailers brand and price promotion strategy,

4) with a great redemption experience

5) and prove to the advertiser that the campaign was effective

The Business platform necessary to deliver on this?

1) Campaign Management

2) Customer Data

3) Advertising distribution (virtual, physical, … how do you get eye balls)

4) POS Redemption/Retailer Integration

5) Massive Customer value to change behavior (relevancy, value, usability, convenience, entertainment, social, …)

6) Global sales force that can sell to retailers

Notice that Payment is not listed.. Payment is not a problem in physical commerce. Now that Durbin allows for STEERING.. you can imagine what Retailers want to incent…

Cross Border Cards

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Cross Border Card Transactions

17 January 2012

International transaction revenues are now 17% of Visa’s earnings (similar to MA). I try to have a cursory knowledge of payments.. but have to admit the dark world of cross border and network rates were a significant blind spot. Thanks to those folks who walked me through it. The information generally available is very poor. Don’t get your hopes up.. I’m sure this blog is equally as poor..  with perhaps a few new pieces of data.

My guess is that cross border remains a mystery because neither banks nor retailers want you to know who you are paying and how much you are being taken for. Cross border represents a tremendous area for growth and profitability… it is low hanging fruit.. Let me see if I can describe the fee dynamics. Note there are many, many variations here. I some geographies the government mandates exchange rates.. in others DCC… Not to worry.. the banks make a very nice margin in all scenarios.

Let’s take a look at 2 scenarios for a 100 EU hotel room bill, one using DCC and another without (My conversion rate of 1USD= 1.5 EU is a little off).

DCC is a mechanism developed by acquirers to earn FX… giving merchants an incentive to change POS by splitting revenue with them, thereby decreasing their cost (net interchange). With DCC adoption, issuers and Visa were faced by the loss of FX revenue, sometime around 2005 Visa instituted a new cross border fee of 1% (paid by Issuers). Issuers subsequently mark up this 1% fee with their own (see this WSJ article).

Network rules mandate that all cross border transactions go through V/MA. This drives the big banks like Citi crazy as they have banking licenses and consumer BINs in almost every country.. but still must pay Visa freight for settling cross border transactions AND let Visa manage the FX (in most countries). Given the margins here.. there is much room for global prepaid travel cards.  This was a driver behind Mastercard’s $459M purchase of Travelex Pre-paid business in Dec 2010.

I’m starting to see quite a bit of interest in this space as the big banks ramp up their presence in pre-paid. For global businesses.. there is a solid case to be made for issuing pre-paid cards to employees that regularly travel. See my consumer value proposition below. In full disclosure I’m a board member of hyperWALLET.. and I like them quite a bit (always a good thing for a BOD member).

http://en.wikipedia.org/wiki/Dynamic_currency_conversion

Green Dot Bank: Finally Wal-Mart gets to Play

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16 Jan 2012

http://www.reuters.com/finance/stocks/GDOT.N/key-developments/article/2447460

GDOT Bank – Federal Reserve Authorization

GDOT bought Bonneville Bancorp for $15.7M + $14M Capital Infusion on 8 Dec 2011. Bonneville was a Utah licensed state bank and a  Fed member (regulated by Fed). This is a very significant deal for several reasons:

  • Sets a new regulatory guidepost in the creation of “national” bank with a pre-paid focus. See Bank Talk article on how GDOT was able to get Fed Approval, specifically around CRA responsibilities.
  • Is essentially WMT’s retail bank for consumer services (WMT owns ~15% of GDOT)
  • Model for future deals in State Chartered banks (particularly for retailers)
  • Highlights need for reassessment of “pure play” banks in pre-paid space (ex. Meta)
  • NEW PRODUCT potential in interest bearing pre-paid accounts targeted to the lower mass market

This is a brilliant move by the Fed, and by GDOT. The Fed is rightly concerned about the fact that the bottom 4 deciles of customers are no longer profitable for the big banks.. and there is an exodus. How does the US financial system retain customers in the lower mass? GDOT and WMT believe it is not through the typical branch model. Just as with Tesco in the UK, Retailers are proving to be excellent distributors of banking services. Retailers do not need to make their margins on bank services alone, in fact banking services improves the overall retail value proposition, brand and loyalty. The same holds for mobile operators internationally.  Why should I pay for all of those branches and sales people if all I need are basic payment services?

I joined Citi in 2006 with the mandate to grow the retail business without growing the number of branches. Creating the ING direct competitors.. the HOOK was high yield savings. GDOT bank could be catalyst for a new retail banking model, with a HOOK associated with “payment”, retail convenience, loyalty and data use.

What are the core product innovations? Here is my list:

  1. Combining a GPR card with retailer brand and distribution (WMT). Banks normally have to seek charters that enable them to operate nationally (ex. Fed, the now defunct Thrift, …) when doing business in multiple states. Virtual GPR cards don’t have this problem as consumers are buying a banking product in another state.
  2. Stand alone consumer value proposition. GPR card that can earn interest on funds held on balance. GDOT/WMT also have a established a rate structure that is one of the best in the business.
  3. WMT’s integrated value proposition. International transfers ( WalMart owns part of MGI they are 30% of MGI’s TPV), International Banking (Mexico, Canada, GDOT, …), StraightTalk prepaid mobile, … they have all the components to deliver value. Can they bring it all together?

Banking is a network business.. the GDOT opportunity is to build the network quickly through key retailers (as physical distribution). What other innovations can they bring to market? At the top of my list would be instant credit (Paypal BillMeLater does this through a WebBank a Utah ILC). Or real time transfers to any bank (using  $0.58 Fed wire…).

Today, MSBs are restricted in both offering interest on accounts and the length of time they can hold a balance (escheatment). There will be some regulatory scrutiny by the State Regulators on how cash in/out is performed at the physical retail outlet, and what constitutes a “bank”. From the Retailer’s perspective, the GDOT card is a product which can be bought (buy $100 GDOT reload), with cash out from ATM or through a Mastercard purchase. GDOT is a licensed MSB in 39 States (according to their 10-k) with a network of 50,000 cash in/out locations. Previously GE Money was the US bank for the WMT MoneyCard. A single state licensed bank owned by an MSB network may face some state regulatory scrutiny. GDOT can probably address by keeping as separate legal entity with its own BOD and capital.

If I were thinking of starting the next PayPal… I would skip getting MSB licenses in 47 states and start looking for a Utah bank I could buy.

What to look for:

  • Retailers following this model (including ISIS, Amazon, …). Particularly retailers serving lower mass market
  • Salary d0miciliation (direct deposit) onto a card
  • Future of GE Money. GE has been looking to sell Mark Begor’s business for some time. It is subscale, and WalMart is its largest US customer. My guess is that WMT had to develop fall back plans in case GE did sell the business. I would not be surprised to see GDOT bank be the primary bank behind the MoneyCard.. but it hasn’t happened yet.
  • Pre-paid processors and platforms looking to create their own brands.. or change their relationships to retail branded banks
  • MSBs moving toward a state bank license. Issue is cash in/out. MSBs that require their own branded physical distribution will keep MSB license… those that are virtual will move to GDOT model.
  • Consumers making switch to a “new” banking model centered around payments.
  • Semi closed payment networks with integrated loyalty and incentives.
  • New Payment Banks which make money on marketing and data (not interchange). See Googlization

For those interested in a Utah Bank.. please call my favorite Utah Banker.. Crawford Cragun..

Your thoughts are appreciated. As always sorry for the typos and the brevity.

PayPal and Home Depot

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10 Jan 2012

Historically I’ve been a big PayPal fan, and still am. I have a PayPal Debit card that I used this morning… and use PP every chance I get online. The online checkout process is just fantastic. In the good old days I earned more money from my PayPal money market then I did from my bank (savings and DDA), so my preference was always to keep a balance with them. Sadly this is no longer the case.

In my last post on PayPal (PayPal at the POS – Nov 18, 2011) I described PayPal’s challenges at the physical POS:

PayPal has no tools in its shed to deliver incremental value within a PHYSICAL commerce orchestration role.

There are few “payment problems” at the POS. For example, how often do you go to Home Depot and forget your wallet? Or go home empty handed because Home Depot wouldn’t accept your form of payment? Payment in and of itself is only the last phase of a long: product, marketing, retailing, pricing, selection, distribution and delivery buying process. Most retailers strongly believe that the cost of this last “payment” process has been disproportionately high relative to the value it brings. This is the key strategic battle being fought today in “mobile payments”. Banks and the card networks are trying their best to make “mobile payment” a premium service tied to 300bps+ cards… while retailers and manufactures are looking for solutions that will enable them to create new buying experiences. PayPal’s solution may bridge this transaction cost gap (blended rate), but does very little  to address the physical buying process.

In the virtual world eBay is the lead orchestrator in this process (on its marketplace), as is Amazon. Key to Amazon’s and eBay’s ability to serve, as virtual world orchestrators, are their ability to control the buying process (end-end) AND the data.

However in the physical world, the buying process  is highly fragmented. The value that PayPal brings to Home Depot today is based upon their current product capabilities (payment + ?) and customer base (100M+ globally). If you were running store operations at Home Depot, what are you trying to accomplish with PayPal?

  • Decrease transaction cost? Perhaps Home Depot has a high credit transaction mix and PayPal’s 200bps (my guess) cost is a net savings
  • Increase basket size? Can Paypal incent customers to buy more
  • Increase total annual sales? Get existing customers to buy more over the year
  • Increase gross margin? Example set prices higher on shelf, as PayPal customers will get unique custom pricing
  • Increase marketing effectiveness? Drive sales of targeted merchandise?
  • Increase Loyalty? Decrease trips to competitors, increase share of wallet, …etc

I’m fortunate to have led teams at Oracle and 41st Parameter (a KP start up) that worked with some of the World’s largest Retailers (online and physical)….. It is based on this perspective that I see the following business issues with PayPal-Home Depot approach:

1. Incentive to use payment instrument. As a consumer why would I want to pay with my phone number? I know if I use my Amex card I get points.. what do I get here?

2. Home Depot value. What are the metrics around the pilot and what is success? I can’t imagine how this will drive sales or margin. eBay does not market, and if they did will consumers see the price for item on eBay? eBay is a competitor to most physical retailers.. a hyper efficient marketplace. eBay has few tools to market and influence a customer during the buying process..  I’m sure PayPal has develop some very cool instore tools.. but hey Home Depot could do that themselves.

3. Consumer protections. The reason I use a credit card at Home Depot are my Reg Z consumer protections. What happens if I have a dispute? Or want to return merchandise?

4. No need for PayPal. This is actually my number one reason.. Home Depot will eventually wake up and realize that they can keep the phone number based checkout.. but use it to ask the customer if they would like to pay with the same payment instrument they used last time. There is no need for PayPal anywhere in this process. This is what happens for me at my local grocery store today (Food Lion).

Make no mistake, I do like the idea of customers giving their phone number at the POS…  but it is the retailers that should use this data to make an informed decision on payment instrument choice AND loyalty incentive (example Target’s decoupled debit 5% back, or Payfone/Verizon with VZ incentives).

As a side note, Patrick’s comments on my Galaxy Nexus blog led me to update my disclosure, and restate the obvious: my views are biased (no secret to my Obopay and Square friends). Today’s blog is consistent with what I have been telling eBay’s institutional investors.. there is plenty of runway for PayPal globally.. but physical POS is a distraction and they don’t have the physical retail team to tackle it. There are no payment problems at the POS.. per yesterday’s blog, the REAL opportunity is in rewiring commerce in ways which enable manufactures, consumers and retailers to interact.   eBay’s virtual marketplace is a negative to most physical retailers.. as is Amazon’s.  Retailers are looking for solutions which will increase sales and decrease transaction cost. A platform which begins with a new marketing  paradigm (ex. Google) is much more likely to draw participation, particularly in a pay for performance model.  If this hypothesis holds, what companies are best positioned to influence a customer before they buy?

Also see Googlization of Financial Services.. 

2012: Remaking of Commerce and Retail

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8 January 2012

I’m recovering from a nice Holiday.. successfully marrying of my only daughter.. keeping a smile on my wife’s face (most important) as well on those of my children. I never thought all of that family time could make me look forward to work..  Many of my bank friends seem to be making new year’s resolutions to do something different and I’m fortunate to have them share their opportunities. What are the really big opportunities?

For those that read my blog.. I’ve been very locked-in to the concept of value proposition, and the challenges of creating a new “network” for exchange of value… with my often repeated “every successful network begins with exchange of value between at least 2 parties”. In addition to sharing ideas on new opportunities with former colleagues, I’m also about to take a trip to the Far East to meet with institutional investors.  In Asia, I’m preparing for discussions which will be focused on: What are the REALLY BIG opportunities out there?  Where are the sustainable bets? Where are the risks? My bias in this new year is Commerce.. and the influence that mobile will have in reshaping it.

My Investment Hypothesis:

Unlocking the “commerce” capabilities of mobile will reshape the $2 Trillion advertising market and $14 Trillion retail landscape, as new customer shopping experiences are created which leverage consumer data.  2012 will be a key year where retailers, mobile operators, handset ecosystems, banks and consumers make choices which will affect outcomes in future years.

In the US alone, we spend over $750M in marketing. Any guess how much of that is “targeted” to a specific consumer? Less than 10%.. !!

It’s not that top advertisers don’t WANT to target, but that they have no Platform to do so in the Physical World. In the virtual eCommerce world, there are many facilities for engaging influencing, incenting and paying (for performance). Data is shared from the first click… to the point of purchase across many intermediaries. In the physical world, life is much different. For those interested in this space, let me strongly recommend reading the Booz Shopper Marketing paper (just fantastic).

$14T of retail represents over 22% of the $61T global GDP.. How often do we get to talk about rewiring 25% of the global economy? This is why I’m so high on Google right now. Google currently gets only $14B of the US $750B in marketing spend, and is making strong inroads to the physical POS.  (please see my legal disclosure above).

As I’ve stated before, Retailers are frequently assumed to be a bunch of back water idiots.. as a former banker I admit my mistakes…  this simplified view of retail could not be further from the truth..  Retailers are on the cutting edge of competition. Competition drives data based decisions, customer centricity, daily focus on margins (as they are razor thin) and a toughness matched only in professional sports.

Retailers had to be tough and innovative… after all how do you sell a commodity on more than just price? This week’s WSJ story on Best Buy perfectly illustrates the challenges ahead for many retailers.

“I will buy it in your store…use it while I order another one for 75% less on Amazon and then return the new in the box one at your store,”

The mobile handset is uniquely capable of serving as a bridge between the virtual and physical world.. giving individual consumers access to unlimited information while they shop, not JUST price transparency, but information on quality, fashion, community reviews, availability, AND the opportunity for merchants and manufactures to reach the customer in the buying process BEFORE AND DURING their shopping experience.

What companies have the platform today? Amazon, Apple, Google, eBay, Visa.. all have elements, but the value propositions of each are widely disparate. If Commerce is to be remade, there must be a new value proposition to manufacturer, retailer and consumer. Notice I left out banks..  The problem with virtually every platform on the list below is that they have started life as bank friendly.. which destroys their merchant value proposition. Groups like ISIS are focusing on payments.. and not on a larger mobile value proposition (focusing on advertising for example, also see ISIS: ecosystem or desert).

How will commerce (and retail) be remade? I have no idea… but this will be the year which we see platforms start to gain momentum. You can guess what I’m telling my bank friends…..

Building Networks and “Openness”

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8 Dec 2011

I’ve been reading some off beat stuff lately. One book “Weak Links: Stabilizers of Complex Systems from Proteins to Social Networks” was very thought provoking. As Mark Stefik (PARC Fellow) said ‘Something magical happens when you bring together a group of people from different disciplines with a common purpose.’ The combination of people, experience and approaches often leads to unexpected consequences.

As an engineer I like to solve problems.. I usually learn more from mistakes than I do from successes… but it is the learning that is fun. As an investor and entrepreneur I don’t like making mistakes… my preference in the start up environment is to have the learning cycle counted in minutes and days (vs customers and capital). I was speaking with a US Central Banker last month and the concept of “openness” was discussed. A hypothesis was laid out by the Fed “Mobile payments are not taking off because of a lack of common standards”.  The Fed team is very good, the best way to encourage a good dialog is to lay out something radical; as for this hypothesis I disagreed completely. As stated in my numerous blogs: history has clearly showed that closed systems must form before open ones.  I also told the Fed that the problem in US mobile payment IS NOT lack of standards but lack of a value proposition to consumers and retailers. In other words existing payment instruments solve all of my problems.. mobile payment simply does not add additional value (in isolation) compared with existing products (See Mobile Advertising Battle). In order to stimulate a change in behavior (merchant and consumer) there must be a strong value proposition. Two years ago I discussed the implications for broad payment standards in SEPA: Chicken or the Egg and in March of this year I outlined how SEPA has depressed payment innovation in the EU.

Given all of the chaos in NFC at the moment, I woke up this morning asking myself what is the “right amount” of openness and standards? How do successful networks form and mature? What are successful “open” networks? What is the first “open” standard you think of ? TCP/IP? Linux? Java? RosettaNet? EDI? Open Network? Internet? GSM? US Interstate system? SEPA? The Weak Links book opened my eyes to many new concepts, one was on how affinity influences network creation, and another on how few open networks exist in Nature. Networks form around a function and open networks are not necessarily the most efficient.

Scale-free distribution (completely open networks) is not always the optimal solution to the requirement of cost efficiency. .. in small world networks, building and maintaining links between network elements requires energy…. [in a world with limited resources] a transition will occur toward a star network [pg 75] where one of a very few mega hubs will dominate the whole system. The star network resembles dictatorships in social networks.

The network forms around a function and other entities are attracted to this network (affinity) because of the function of both the central orchestrator and the other participants. Of course we all know this as the definition of Network Effects. Obviously every network must deliver value to at least 2 participants. Networks resist change because of this value exchange within the current network structure, in proportion to their size and activity. Within the EU, SEPA undertook a rewrite of network rules and hoped that existing networks would go away or that a new (stronger) SEPA network would form around its core focus areas (SCT, SDD, SCF, ..). It was a “hope” because the ECB has no enforcement arm. In other words there was a political challenge associated with ECB’s (and EPC specifically) ability to force an EU level change on domestically regulated banking industry.. given that SEPA rules destroyed much value in existing bank networks, the political task was no small effort. We have seen similar attempts (and results) when governments attempt to institute major change in networks (Internet NetNeutrality v. Priority Routing, US Debit Card Interchange, …)

Mobile Payments Standard?

If we take a look at today’s payment networks what are the biggest problems to be solved? I have a perspective, but its certainly biased. How about payment routing and speed? These seem to be common merchant and consumer concerns. Keeping with an internet analogy, can you imagine if there were no DNS servers to route IP traffic? Every router would have to keep the directory for the entire internet not only of the final destination, but also the most effective route to forward traffic. What if the internet were not indexed? No ability to find information (thanks Google for fixing this).  In the payments environment, the central assets of Visa and MA is 1) A Directory and 2) the rule that EVERY participant must route traffic through them (with a new PIN debit exception in US).

Outside of card transaction’s banks maintain their own directory for routing retail and commercial payments; this is called “least cost routing”.  A key bank service I would propose (note: I’m not the originator of this idea) is a universal directory service mapping e-mail, phone and account numbers.  In Australia, the banks have this today run by my friends at Cardlink and completed under project Mambo. In the US, The Clearing House (TCH) has had the UPick service completed for a number of years.. without much interest.

My thought here, is that rather than facilitate a EU mistake in mandating a change in all rules.. decrease the switching costs between networks so that market forces can take hold. I’m not proposing to take the directory public.. but at least give regulated entities equal access. In Australia the driver was to decrease bank switching costs, also note that Australia has no Signature debit.. just as in Canada.  A common directory could also follow rule that non-regulated institutions could not hold account data (or card number).. Just as I don’t have to know my Bank’s IP address.. I could use another identifier (email, mobile, …) for online transactions. The danger for banks is that this would certainly open up the world of least cost routing to non-banks. Payments would become “dumb pipes”.. which is perhaps what it should be.

Mobile payments is certainly not critical government infrastructure. So what is Government’s proper role? Consumer data protection, transparency, regulatory requirements, equal participation/access..  ? I don’t know the answer. I like the idea of the Government creating a model service for R&D purposes.. perhaps based on Fedwire and letting non-banks have access to it… I also like the idea of a common directory.

ISIS

For 2.5 years I’ve been writing about ISIS.. I’ve always have been a huge advocate.. until lately. What has changed? My position, and that of retailers, is that today’s payment networks are heavily tilted in favor of the banks. The opportunity I originally saw for ISIS was constructing a new merchant friendly network that was an “extension” of the current mobile network which the carriers run (The original business case for ISIS is outlined in ISIS: Moving Payments from Rail to Air).

Keeping with my theme of openness and standards how is ISIS creating a platform for other to invest in? What value is an ISIS mobile payment to a retailer? Yesterday’s blog talked about the complex supply chain necessary to deliver on NFC. Don’t get me wrong, there is nothing wrong about NFC technology.. it is a very well defined specification. But it is complex.. if it was a NEW WAY of doing payments (or better yet commerce) perhaps it should have started a little less ambitiously. The team seems as if it prudently sought to reduce risk, but it also gave up on a central element to its value proposition. My analogy for today is that ISIS project is like Vanderbilt’s skipping steam and going straight for high speed mag lev in 1880…. While the entire country was growing at a 10x pace and he had no right of way..

Big projects are tough in normal times.. but mobile is changing at an unbelievably fast pace. Small focused projects are certainly lower risk when innovating at the cutting edge. Everything is changing.. how could anyone architect an open system in such a fast changing environment? It would seem that technical standards like TCP/IP or GSM were successful because of their ubiquity and distributed control. They could be used by all to create different networks with different value propositions.. which incented millions of companies and consumers to invest.  I just don’t see how MNOs can create a business platform based on NFC. Their best shot may be to work with someone like Sequent Software to create an architecture for 1000s of applications to access secure element data.. instead of the one single CSAM wallet coming out in Pilot Dec 2012.

Your thoughts are appreciated

Previous Blogs (Nokia NFC Ecosystem, ISIS Ecosystem or Desert, Banks will win in Payments.. but WHICH ones?)

Nexus S – Verizon’s Plan B

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6 December 2011

Today’s WSJ article that Verizon plans to block Google’s wallet on its new Samsung Galaxy Nexus .  While the mainstream press sees this as a slam on Google… I see this as Verizon constructing a fallback strategy. Why on Earth would Verizon want to allow the Nexus S on its network at all? It is a 2 year old Google designed phone which embeds a “non-standard” NFC architecture (embedded SE) which is controlled by Google (and cannot be controlled in a UICC based architecture).

As I stated yesterday, the ISIS is experiencing delays in its “go to” architecture. The rumor is that the current ISIS timeline is pilot in December of 2012 and production in mid 2013. I see this move by Verizon as accomplishing 3 things..

1)      The Google Nexus S is the only production NFC phone in the market (actively using NFC.. 50M blackberry’s have it.. but element is cold and lonely). It could allow Verizon and the ISIS team to reconfigure their CSAM wallet platform to this “non standard” architecture to accelerate time to market for a test.  The desired ISIS architecture is SWP/UICC based…  Note that if this is indeed Verizon’s plan, they will need Google participation as Google owns the SE keys in the Nexus S AND they have not published the APIs for the NXP element access

2)      Gives Verizon a phone in the market to pilot with Google. In other words they can play in the Google camp without a formal commitment. Verizon can play ISIS and Google off of one another to see which horse will win. This is very smart.

3) Gives Verizon access to NFC/Android much beyond payment. As Google has clearly articulated in Android Beam, NFC will be the tool for machine-machine communication. How you share pictures, videos, music and apps with another phone. VZ’s current NFC plans revolve all around ISIS and payment (and very closed), Google sees NFC as another radio to do many, many different things. As this week’s Comscore report shows.. Android’s 46%+  market share is a key driver of VZ’s success. VZ needs this handset not just for wallet.. but for access to all the other cool new Google toys that will come out supporting NFC. The question the analysts should be asking VZ is how their SWP/UICC architecture plays in the Google model. How will VZ allow many apps to access the NFC radio AND the secure data? There is only one software company that can help here and that is Sequent.. The other option is a multi SE architecture (see my previous blog, note blog was wrong on Apple), which RIM will likely support. In either of these scenarios, complexity reigns.. the only real option is to let Google drive the definition and the apps. Perhaps this is why VZ has thrown in the towl to Google’s Nexus architecture (hardware).. but not yet on software (wallet)

Don’t believe everything you read.  Verizon’s decision to commit to selling the Galaxy Nexus  is an indication of major strategic planning.

Related article on the ISIS Platform: Ecosystem or Desert?

ISIS Delay..

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ISIS Delay

My last blog on this subject was only 2 months ago.. Headline was “ISIS has 12 months”.  Rumor this week is that ISIS has 12 months to go TO PILOT (Dec 2012). The driver seems to be the UICC chip that supports the SWP SE (Gemalto’s fault??).  Note that my previous nine party chart did not even consider the UICC.. so here is a revision.. (added UICC, MNO, and POS register)…

How would you like to run an industry consortium that had to coordinate a release and a new technology across 12 different companies!?? Oh.. a few other minor considerations as well:  no compelling customer value proposition and against Google? My favorite question to ask anyone from ISIS is what will the application do for me that my Citi sticker won’t do now?

  • Provision over the air? (Who cares)
  • Turn on/off the card/element? (Who cares I don’t pay for fraudulent charges)
  • Offers? (Who cares.. Citi can tie merchant offers directly to card use.. Clovr Media/Linkable)

There are MANY future functions like eReciepts and Item level coupons.. but these are VERY far off because they require retailer participation.

ISIS is proving that the NFC supply chain is not workable… at least not without a very substantial customer value proposition. A December 2012 delay to a PILOT may well be the death knell for ISIS… how can carriers invest $200M in a team that won’t see production until mid-late 2013?   There is no shortage of parties complaining about Google’s approach.. but by taking control of the spec, the architecture, the handset and “TSM” they have eliminated the complexity and have been able to get something to market… and are improving from there based upon REAL customer feedback. So while ISIS will struggle to get a pilot running by late next year, Google is signing up new retailers every week, improving its applications and gaining market experience.

As I outlined previously, carriers started from a basis of control with the NFC Forum’s technical specification. Obviously, the handset has proven to be a platform of digital/physical convergence.   We all see enormous opportunities to re-wire physical commerce with the handset at the core. But today the handset’s “commerce” success is driven by its open nature (apps and connectivity). It is a platform where anyone can build anything within a given set of loose rules (tighter in Apple’s case). In order to attract retailers, advertisers, issuers.. the MNOs had to continue this “open” approach.. but instead have taken one of control. This control approach may have been unintentional as not many organizations have successfully built business platforms (favorite book on topic is Platform Leadership). MNO’s control approach could have also been driven by the desire to securely maintain customer information. Whatever the reason, companies will likely develop approaches (See Square Card Case) that keep information out of the secure element and place it in the cloud. As I related in the Square article.. the success of NFC is far from given.. All that is really needed at the POS is a “key” that key could be a single number/identifier delivered by NFC, your voice or your IRIS.  Keeping all customer information on the phone is rather stupid. One MNO told me this week.. its on the phone in case it doesn’t have connectivity. Well guess what.. stores have the connectivity.. that’s how Visa’s system works.. Stores are not dependent upon the Phone’s connectivity.. but rather their own.

It’s never easy for a Fortune 100 organization to admit that they made the wrong bet.  Globally, there is also a very strong inter-carrier commitment to “carrier controlled NFC” work. All it will take is one major carrier to change course and join Google’s camp to bring down a global house of cards that is NFC.  My guess is that carrier controlled NFC find long term traction in public transit and ticketing perhaps even in government identification. .. but this is 3+ years out before any substantial (>20%) adoption.

Customers.. you want ISIS mobile payments functionality? Go get a sticker.

MNOs.. do you want ANY part of mCommerce? You better move quickly to partner with someone that can get all of this done. Their dance card may fill up quickly. If you don’t move beyond the “control” approach.. you will be relegated to dump pipes.. as thousands of businesses work to get around your controls..   Given the Carrier IQ blow up this week, you have no ground for claiming you would manage privacy better than Facebook or Google.

Structuring a Bank Groupon – 101

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30 Nov 2011 (as always pardon the typos)

My post yesterday resulted in some good feedback. Theme was “are you bank friendly…? Stop telling me about what does not work.. how about recommending what does!”  My previous blogs covered a number of lessons learned.. so today I’ll give my view on What Does Work as Banks attempt to extend their existing business models. Your feedback is certainly appreciated..

As background.. here are my previous related blogs

What Works?

Well perhaps the first step is to frame the objective.. what does the Bank want to accomplish? For simplicity let’s reuse yesterday’s example: a Bank Groupon.  What is the Bank’s objective? Maximize revenue? Of the Groupon Unit? Of the Corporation?   Given the recruiters response..  it would seem that maximizing the revenue of the Corporation is the focus and their method is control. The Bank emphasizes control because it has significant uncertainty on entity and outcome.

Example BankGroupon Conversation “we have no idea how this thing will play out.. we have a number of the assets necessary to make BankGroupon a success and should be able to put something together.. so hey lets give it a try.. get some leader in here that has some experience in a big bank.. and some with start ups.. lets see what he proposes”.

Banks are the best institutions in the world at managing investment and risk.  When a bank contemplates an investment in another company, it is certainly appropriate for them to assess the business model, the team, the environment and price the risk.  This ability to make and manage investments is much different than an ability to run a NON CORE business and react to market forces (Elephants don’t dance).  While banks may have individuals in their company with these skills.. these employees did NOT develop the skills within the bank.

There is an obvious need to decouple the Bank Asset (customer data), Capital, and Entity that executes the plan. Commercial and Investment banks have tremendous experience in structuring entities that separate a bank asset and capital. Bonds, SPVs, CDSs, CDOs, … these vehicles not only allow banks to move assets off balance sheet, but they also allow investors to take different tranches of risk and even insure/hedge against loss.  The first stage of these commercial bank activities is defining the underlying asset (with appropriate continuity and underwriting in portfolio).

“Asset Definition” is the critical piece I believe is missing in structuring most bank owned NewCos. If the business is core.. keep the asset in house. If it is non-core.. define it and let someone else go maximize it within covenants.

CEO Prospect – Approach

In the BankGroupon example, if I were a prospect CEO here is how I would approach the task.

1) Define the bank asset (non monetary).

What is the bank contributing? BankGroupon is a separate company. What is the operating agreement between the 2 entities. Optimally this asset would be a 10 yr exclusive agreement to sell pre-paid offers leveraging bank data. Just as with Bonds, SPVs, the agreement would have covenants to protect the bank in certain events, as well as MUTUAL performance guarantees. This operating agreement would be the central asset around which the business would be formed. The focus of a NewCo CEO would be to ensure that this operating agreement is sustainable and fine tune the covenants.  Can I build a sustainable business off of this asset?

Operating agreements are NOT easy to create, they require much thought and planning. However, these agreements HAVE BEEN the core asset of many successful bank driven entities (Visa, MA, Early Warning, Clearing House, …). Quite simply, it defines the asset, how it can be used and also governs the roles of other entities in participation.  If you happen to meet one of the bankers/lawyers that were involved in the creation of any of the operating models above.. they would probably say it was like 2 years in North Korea.  By not creating these agreements, the Bank has shifted the burden of defining the asset AND building the business to NewCo.  Ask any recent bank spin off CEO and they will tell you their lives were like 2 years in a place much hotter than North Korea.  Spin offs have very little leverage to influence asset definition AFTER they have taken the capital.

This is my central point.. and should probably stop here.. but let me finish up a few other thoughts. I see the prospect bank CEO and the bank investment lead (future BOD member) working on this for a year or so. During this time.. the CEO comp is heavy on cash with an incentive if bank cancels or funding is successful.  Just as with Capital markets folks.. lining up investors for a $200M offering.

2) Capital to start the business.

My next job after obtaining the right operating agreement is to get Capital. What is the path toward revenue and what will it cost me to get there? Most Banks have taken approach of supplying all of the capital.. or perhaps partnering with one other big organization. Since the source of capital drives the direction of the business it is very important to have CEO drive source and mix. For example, BankGroupon needs to attract retailers.. Retailers don’t like banks.. and Banks don’t understand Retailers. Having an entity that is 100% controlled by a bank is not a great sales asset. I would want a clear path to reducing Banks control to under 50%…  and gaining investors who are retailer friendly. I would do this by either converting Bank stock to non-voting, non bank investors, or other commitments.

Wrap up for now

I could probably write a book on this.. but won’t bore you with the diatribe.  There is no shortage of talent interested in running a bank owned Groupon. But most of these CEO prospects haven’t had to survive in a bank owned company/consortium before.  The high failure rate of bank driven start ups is because banks have not taken the time to define the asset and separate it from the capital.  If a BankGroupon is core to the business.. it should remain in the business. If it is not core, and you have assets to leverage.. define the asset and let someone else grow it.

Your feedback is appreciated..  I’m sure there are several of you that think this viewpoint is insane.. but hey.. sometimes great ideas are generated from dissecting insane ones.

Best

Card Linked Offers

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28 November 2011

pdf version here (sorry for previous Typos.. I need an editor.. so pardon the mess)

I’m fat and happy from all the Turkey.. and was thinking of what to blog about.  I’ve decided to link a funny story… with a complex market. Earlier this month I was called by a recruiter to lead a new company. Here is the abbreviated dialog

  • What is it? “a bank Groupon”..
  • How is it structured? A separate company? A Bank Division? “Both, it is a separate company 100% owned by bank”
  • Are they looking to spin it out? Will there be other investors? “no”
  • So CEO (with no equity upside) building a business from Scratch within a complex bank? “yes”
  • Where will it be based? “right here in NYC next to the Bank”
  • Did you know the COO of Groupon was given about $xxM in options… how are you going to compete with that? “we are not looking to compete on compensation.. but we do want to compete with Groupon”
  • Good luck with that!  (See my previous blog for lessons learned on bank spin offs)

Message here is that top banks and payment networks are getting into the “offers” space. I haven’t seen an industry analysis of CARD LINKED OFFERS…. So I thought I would create one. Today I was reading 2 month old post in All Things Digital: Will the next Groupon Killer be your Bank.. ? One of my first Blog posts (2.5 yrs ago) covered this subject as I saw in back in 2008/09 “Googlization of Financial Services”.  Here are a list of current leaders in Card Linked offers

Not all of the companies above are the same. Here are a few basic strategies behind these start ups

Strategy #1 – Improve Existing Loyalty Effectiveness. Colloquy.com is the industry leader in research on loyalty programs. Two recently published white papers by Colloquy.com display a macroeconomic view of the size and value of loyalty programs for U.S. consumers. Colloquy estimates the total value of loyalty currency issued to U.S. consumers in 2010 is a $48 billion dollar industry across financial, travel and hospitality, and retail sectors of U.S.

economy in 2 billion U.S. household loyalty program memberships. Edgar Dunn provide a great graphical view on the purpose of loyalty programs

Why do banks want to improve Loyalty?

A) Credit cards carry a much improved interchange (250-350bps vs $0.21 flat of Debit)

B) Loyalty Programs are highly effective card use AND retention tool. From Edgar Dunn

Strategy #2 – Redemption Network. Improve the way redemption works. Enable redemption of specific items. Catera and Cardlytics are leaders here. Great Article on Clovr (now Linkable Networks).

Banks used to see card offers as part of a large revenue stream.  Now banks need to find unique technologies in order to capture the customers’ attention again.  Some of that technology comes from mergers such as Cartera and Vesidia to form a new more innovative merchant network platform.  Other pieces of the card-linked offer space is coming from companies that are focused on card-linked offers, such as Boston-based Clovr Media.

… The card-linked offer company wants to make sure that promotions they are powering are meaningful.  They do that by getting down to the SKU level (the long number on products that identifies a unique product within a store. Tom said, “we can go right down into a particular product within a store, get right down into the SKU level.  Instead of 10 dollars off at Staples, it’s 10 dollars off a cannon printer at Staples.  We see that as a very powerful concept.

CONCEPT is the key word here as “networks” are minimal beyond eCommerce store fronts capable of redeeming offers for specific products. In the physical world, none of the participants above have cracked the code on the scenario above. POS integration is too hard AND retailers will not give up their data.  Entities like Catera are using other parties (ex SavingStar in Grocery) to give item level credit hours, days or weeks  after the sale.

Strategy #3 –  Advertising.  The first 2 strategies above are about leveraging the $48B in loyalty “value” to incent merchant participation. A third strategy is geared to attract retailer participation in an advertising network. The primary value proposition: target card customers with specific offers.  This strategy usually driven by card NETWORKS and Issuers looking to expand “value delivery” on existing networks (the  googlization article above provides an example). Although Banks certainly have the data to make this work, this is NOT a merchant friendly platform. Can you imagine using your Amex card at Macy’s then getting an incentive at Neimen Marcus? This is one reason why retailers are loathe to share any item detail information.. it would only help banks/networks more accurately target their customers.

Apparel, QSR, Furniture and a few other niches could be served in this model (few other retail categories have significant ad budget), but the price is credit card interchange.

Summary

Retailers will respond to Banks’ loyalty spend initiatives ($48B), but “redemption” will largely be online (restricted merchandise lists) because retailers do not share data at the point of sale.  Banks and the Networks are attempting to expand Card Linked Offers into the advertising space, but this means someone will have to sell retailers and construct campaigns.  Given that neither Banks nor Networks are adept at selling retailers anything, there will be a need for 3rd party ad exchange (ex freemonee) where advertisers can bid to place across multiple issuers (ie each issuer controls their respective cards).  These Ad Exchanges will be slow to mature because there is no proven CPA for card linked offers (and associated merchant sales lift/profitability). In other words the Merchant cost of accepting a credit card, paying for an offer, and tracking profitability is not a home run today. We need only to look at Visa Offers to see the confusing and bleak future. Consumers are overloaded with e-mail and messages.. behavior will not change until there is compelling value. Value cannot be delivered until there is a critical mass of ads which can be targeted. Targeting can not be done effectively because issuers only have merchant level preferences (not item level/brand). … Only certain categories of retailers have substantial marketing budgets… the majority of marketing is spent by manufactures.  Manufactures don’t know their customers.. (hence is why Shopper Marketing is red hot). … and so on

A logical extension of card linked offers is card linked pre-paid offers. This goes back to “Bank Groupon” listed above. Banks want to run a pre-paid program for retailers.. a “pay before” you eat… at a discount. Keeping it on the card so consumers don’t loose the offer and redemption is a seamless process within the existing card settlement flow. Hey this is a great idea for consumers and merchants. Problem is business model for banks. If this pre-paid was sold by a regulated bank entity I doubt if they would be able to take advantage of the breakage which drives Groupon’s profitability. Banks will also be responsible for things like escheatment..  this is where state regulators come looking for unclaimed funds.

Your thoughts and feedback are appreciated.

A related blog on Visa’s activities is listed below.

http://tomnoyes.wordpress.com/2011/05/20/visas-mobile-strategy-portfolio-manager/