Transitioning of payments
Cash continues to be replaced by card and card is incrementally getting replaced bymobile or token and what is coming next is wearables. The combination of artificialintelligence machine learning virtual reality and voice activation is bringinglife-impacting changes in the areas of payments. Wide moats keep payment networks safebut competition rages at the outskirts of the ecosystem. In payments economic moatsremain the strongest at the centre of the ecosystem where major payment networks likeVisa and Mastercard maintain massive networks of banks working on their behalf to addconsumers and merchants. The role these companies play in setting standards is becomingmore important as payment options proliferate. Card Issuers are competing heavily forspending volume merchants are taking back control of loyalty and rewards and software isreplacing hardware at the point of sale. This leaves issuers like and hardware providersin a difficult position. This transition gives Application Development companies anopportunity to help economies transition to cashless.
Market scenario & opportunity
McKinsey estimates that sales volume at small U.S. merchants will grow much faster thanthe rest of the market doubling by 2020 to $2 trillion. A similar trend is expected inmarkets like India where some estimates indicate presence of almost 50 mn small merchantswith only about 2% digitally enabled today. The growing bargaining power of merchants is akey factor driving change in the payment sector.
The top 15 U.S. merchants now account for more than 20% of retail sales and are usingtheir weight to gain price concessions from suppliers payment companies included. Thistrend will continue with negative implications for the companies providinginterchangeable products to merchant customers. Simple payment processing services andpoint-of-sale hardware do not confer an economic moat and companies not contributing muchadditional value lack competitive advantages. Point-of-sale and increasingly commodifiedpayment processing combine to increase the already intense competition. The only answerlies in providing value-add to merchants and consumers using the knowledge of payments.
Sellers of all sizes continue to exert pricing pressure on payment providers.Large-merchant margins are already low; McKinsey estimates that medium-size and smallmerchants generate much higher processing margins than large merchants. However theconsulting firm also expects pricing pressure to continue over the next several yearsacross all segments--a fair assumption given the changes occurring in the business.
In addition to being more profitable small-merchant sales volume is set to growquickly in part due to the benefits of cheaper technology. The long-tail theory positsthat advances in production and distribution methods are making it profitable to servesmall niches allowing small merchants unprecedented growth potential. The opportunity toprofitably serve this growing segment is driving an increase in competitive pressures.
Payments increasingly integrated with Customer Engagement Business Management Software
Somewhat related is the growing importance of integrated payments. In a digitalenvironment payment functions often do not stand alone. Instead they are integrated intoother aspects of business management systems. Payment software is increasingly required towork with accounting inventory and customer relationship management systems. Morefunctionality is also required at the point of sale itself including loyalty rewards andother forms of marketing. All of this is driving a transition from hardware-centeredpoint-of-sale products to software products. Payment processing is therefore becoming anenterprise software industry.
Increasingly merchants are demanding more from their payment providers seeingprocessing alone as a commodity service. Beginning with large merchants which typicallyhave long integrated payment functionality with other services think gas pumps andgrocery checkout lines--the move toward greater integration now spans the paymentprocessing industry. Today competitive pricing adequate customer service and high levelsof data security are merely table stakes in the payment processing industry. The abilityto work with various enterprise software applications and quickly adapt software offeringsto merchant needs are a key distinguishing feature among firms most of which offer acombination of proprietary software and tools for use by outside developers. Firms thatcan integrate payments into larger business management systems and customise theirofferings for different use cases are most likely to increase customer switching coststhough such adaptation is a constant battle. As an example Vantiv a major acquirer in UShas increased switching costs in comparison to peers via its emphasis on developer andsoftware dealer relationships. Possibly more than 10% of its revenue now comes through itsintegrated payments business. Its network of developers has resulted in the companysprocessing technology being embedded in over 1000 point-of-sale applications and itsrelationships with independent software vendors lower its cost of distribution and thusits operating expenses--compared with peers. There will be a huge opportunity to connectmerchants with individual customers based on individual preferences and spending patterns.
Technology at the base of disruption in payments - Fintech
Changes in consumer behaviour continue to be rapid disruptive and largely driven bytechnology influences such as mobile devices big data the cloud IoT and machinelearning. Simultaneously security breaches are growing and continue to place bothconsumers and businesses at risk.
The most popular application of AI in financial services and perhaps the mostlimited is the chatbot a program that converses with customers through text orspeech. In financial services chatbots are usually used to make the first interactionwith a customer answering questions or directing customers to an area of the website. Formore complex interactions the bot hands the conversation over to a human representative.
"There are a lot of chatbots in the industry right now dealing with the easytasks reducing complexity by dealing with multiple people at once" said SumeetVermani a global marketing leader working for fintech providers such as Red BoxRecorders. Chatbots are about "having a digital one-stop shop for customercommunication and interaction. Customers are increasingly wanting a single point in whichto communicate with their payments providers whether its to transact in a messengerapp learn more about a product or lodge a complaint." And in the future chatbotscould be even better at up-selling customers than humans able to parse through largeamounts of data to determine the timing a specific product is needed.
While cash and credit cards may never disappear entirely this convergence of forces isdriving one of the most profound shifts to how we pay for goods and services challengingboth financial institutions and retail providers to adjust their strategy for the futureof payments. Here are the three leading technologies paving the way.
Debit and credit cards may never go away but swiping them just might.
Example: Contactless payments rose 164 percent in the U.K. last year they doubled inCanada in 2015 and 53 percent of Australians have made a contactless payment. We expectthe U.S. to follow suit as more merchants upgrade their point-of-service terminals toaccept chip cards and along with them contactless payments.
Put a finger on authentication
Recognising that security is critical in digital payments regulators like RBI keepraising the bar for authentication. India took a lead in the enforcement of 2 factorauthentication. However all this leads to interferes with making payments frictionless.RBI is fast moving towards making Aadhaar identity as the key authentication factor.
Example: Rather than forcing customers to tap in their usernames and passwords everytime they want to make an online transaction NCRs Digital Insight developedTouchID which allows customers of financial institutions to log in to their bank accountswith nothing more than their fingertips. In addition to being a uniquely accurateidentifier fingerprints are infinitely more difficult to lose than a passwordandmuch harder to hack too.
In emerging markets like India in particular voice-activated transactions can be asignificant boost to adopting digital payments and accelerating financial inclusion.
Example: Customers who use Amazon gadgets can simply ask the virtual assistant Alexa totake care of financial transactions for them. As with fingerprint technology thisinnovation saves consumers the hassle of remembering yet another password and goingthrough a tedious login procedure every time they want to make or receive a payment. Inthe future especially as voice recognition technology improves we expect this method ofsending and receiving money to gain more traction.
Far from being mutually exclusive goals efficiency and security are tied tightlytogether in the world of payments. As we develop the technology to move away frompasswords that can be guessed or stolen to more unique identifiers such as voicesfingerprints and sensors that eliminate point-of-service terminals we also move toward amore secure future. The very things that will make consumers lives easier will alsoprotect thema win-win if ever there was one.
Cash is king?
RS Software is focused on enhancing cashlessness strengthening financial inclusion andincreasing consumer convenience. The CEOs of the two largest payment networks in the worldsay that their largest competitor is cash and not another company. Inspite of theelectronic payments industry being in place for over forty years cash valued in trillionsof US dollars and other currencies still represent significant global spend on personalconsumer expenditure today.
This clearly indicates the opportunity to move cash transactions to electronic anddigital and this is where the opportunity is. There is undoubtedly a secular trend in thegrowth of digital payments which will continue for several years to come. Global cardpurchase volume for goods and services alone amounted to ~ $20 trillion in 2016. The sixmajor global payment network; Visa UnionPay MasterCard JCB Diners Club/
Discover and American Express generated 257 billion purchase transactions at merchantsin 2016.
RS Software is well positioned to leverage the growth from 257 billion electronicpayment transactions to potentially 1 trillion transactions per year! RS Software hastaken the worlds largest payment network from a capability of authorising 500transactions/ second to 56000 transactions/second which now executes about 50% of thetotal transactions globally ~ 120 billion transactions per year. This core competencebuilt over 25 years is the MOAT for the company which not only provides a greatcompetitive advantage but something that will make it very dificult for competition topenetrate the companys MOAT. The market for digital payments is growing globally andin India.
Globally India lags in terms of transaction volumes and value of cashlesstransactions. A recent Kotak Economics Research study reveals that while the grosstransaction throughput in India ($1.8 trillion) is comparable to that in other majorcountries and that the value per transaction ($146) is among its peers India fares poorlyin per capita transaction value ($1000). Nevertheless the report states thatIndias transition is "likely to be faster than the current less-casheconomies" (such as the UK and Sweden)if the existing technologicaladvancements are proactively supported. In this context the role of regulators infostering quick adoption assumes great importance. The learning for policymakers istwofold: One too much regulation on the supply side can be detrimental to the emergenceof a level-playing ecosystem and innovation in the payments domaina case in pointbeing mobile wallets being excluded from the Unified Payments Interface (UPI) so as toallow banks to catch-up to them in terms of services. Two there has to be an armslength distance between the regulator and any entity operating on commercial groundsproviding retail payment solutionsbe it prepaid payment instrument (PPI) issuersBharat Bill Payment System operating units white label automated teller machines orAadhaar Enabled Payment System (AEPS) providers. For this two consumer principles shouldform the bedrock of a fresh consumer-centric architecture. The first principle is toensure zero friction in the use of various electronic payment methods. Zero implies nohoops and jumps to make even a Re1 transaction including authentication. The secondprinciple concerns incentives/ disincentives and proper awareness of multiple modes ofpayments to get the desired consumer behavioursubstitution of cash. Incentiveschemes such as referral bonus for consumers or cashback schemes for merchants acceptingdigital payments should be devised so as to align different marketparticipantsmerchants payments companies banks etc. Growing awareness of uniqueselling propositions of each mode among consumers will be the key here.
RS Software and India market
During the fiscal year 16-17 RS Software delivered two major payment platforms. Thethen governor Raguram Rajan of RBI officially launched the Unified Payment Interface(UPI)in April 2016; and in August 2016 Bharat Bill Payment System (BBPS) had a soft launch.The BHIM app that runs on the core UPI engine was launched in December 2016 and hasalready had about 20 mn downloads generating in the month of May2017 ~9 mn transactions.The company has integrated several banks in India to the core UPI and BBPS platforms toenable consumer related transactions for merchants bill payments and P2P. Having builtthe core digital payment infrastructure in India gives RS Software a significant advantageto leverage the 10X growth in the next 5 years as being forecasted by BCG and Googlereport on India.
Nevertheless in India a one-size-fits-all strategy will not work. It is critical torecognise the diverse perceptions that influence decisions to adopt digital payments andthere is a need for customised strategy. What has worked in other parts of the globe willnot necessarily work here but core payment principles are the same in all parts of theworld. This is where the unique strength of RS Software comes into play. Keen segmentationof customers needs to be done based on addressing the universe of Internet andnon-Internet users cardholders and non-card consumers and smartphone as well as featurephone users. Given the countrys vast population any combination can easilyconstitute hundreds of millions of consumers. A conical three-tiered customer-facingarchitecture can be devised: traditional cards-based networks (POS online) at the topend; instant real-time 24x7 systems (bank-to-bank account via Internet and non-Internetchannels) at the middle; and hybrid systems (wallets non-app Internet protocols andnon-Internet for person-to-person and person-to-merchant payments) at the base of thecone. Demonetisation an almost revolutionary action has become a big bonanza for thedigital payments companies in India. All of the digital payments players have benefited inthe 3 months since its introduction. PPI wallets the most available digital paymentproduct for the masses have gained most handsomely while the new kid on theblock the UPI payment product - is consistently showing gains in adoption interms of the value of transactions. Visa reported a gain of 75% growth in volumes oftransactions on its payment products in India. But the challenge for the major cardpayment networks like Visa is that India has the lowest per capita Point of Saleinfrastructure limiting any cardholders ability to make purchases at physicallocations. On the other hand India has over a billion mobile phones each of which are apotential payment device. The Ola Money app had a1500% growth in downloads in about 8hours after the governments announcement about demonetisation while Paytm reportedusers increased its mobile apps usage by nearly 600% in the first few days followingthe change. The BHIM app launched only in December 2016 has seen downloads in excess of20 mn.
The government has set a target for growth to 25 billion digital payment transactionsduring fiscal 2017-18. MEITY Govt. of India has been assigned the charter to meet thisgoal.
The future of payment is undergoing a transformation as new entrants are enabling themarket with new technologies such as QR code Aadhaar enabled payment system contactlesspayment NFC enabled smartphones cloud-based PoS and digital wallets. With the emergenceof new payments and small finance banks in India the road is set ahead for surge inadoption of Bank in a Box solution. UPI and Blockchain are two big technology revolutionsthat are projected to have a favourable impact on the expansion of P2P lending business inIndia.
Strategy implementation and next steps that will reward the companys stakeholders
RS Softwares strategy during the fiscal 2016-17 has progressed to providein-country payment infrastructure expand from services revenue model to includeplatforms products and grow in new markets like India. We continue to make significantinvestments in building digital assets that are at the core of our competencies to win adisproportionate share of success as we transition. We continue to look at growthacceleration through alliances and partnerships to complement our growth strategy. Duringthe fiscal year 2016-17 RS Software delivered two major payment platforms in India.
These developments will continue to be strengthened during the fiscal 2017-18 and thecompany will launch its own payment platforms in emerging markets.
The global industry needs continual enhancement new build and maintenance of the coreinfrastructure with a focus on retail electronic payments. Digital commerce needs a newrevolutionary payment reach to the dual constituency of the merchant and the consumer.
Ecommerce/M commerce now on the cusp of explosion is being made possible bytechnology and the ease of adoption of technology by the millennial generation RS whichhas been working with global leaders for the last 20+ years has a macro strategy to offercapabilities both in infrastructure building and digital payments.
Our past track record for taking bold decisions
RS will take bold rather than timid investment decisions in areas where there is asufficient probability of gaining market leadership advantages. The emphasis on the longterm may result in RS making decisions and weighing tradeoffs differently than somecompanies. We have embarked on this journey and we see light at the end of the tunnel. Astrategic transformation journey is full of Blood & Sweat
with the commitment ofearning Respect in the end. The world and India in particular is today looking at asecular growth trend in the platform economy where digital payments are at its core andcommerce and payments come together to change the everyday life of humanity. RS Softwareis committed to achieve this vision and execute effectively its strategy and reward itsstakeholders. We believe that a fundamental measure of our success will be the shareholdervalue we create over the long term. This value will be a direct result of our ability toextend and solidify our leadership in being a niche company that has its MOAT in itsexclusive focus in the domain area of electronic payments industry.