Bank-to-bank payments will steal market share from cards in a Cashless Society

Open Banking in the UK heralds a new generation of bank-to-bank payments, which could take market-share from cards as we move towards a Cashless Society. By Duncan Barrigan, Director of Product, GoCardless.

Bank-to-bank payments have always been the quiet, dependable sibling of cards. While reliable, with low failure rates and fees, they have historically lacked the global reach of cards, or the mainstream popularity, finding their niche in certain sectors, industries and countries.

But the conditions are right for the rapid rise of bank-to-bank payments. Bolstered by market conditions and Open Banking advances, they are poised to steal market share from cards.

Reliability is a virtue in a Cashless Society

Reliability of payment has always been important to businesses, but as we move towards a Cashless Society, it’s increasingly vital.

As last month’s Visa outage demonstrated: when payments go wrong, businesses suffer: in lost time and lost revenue, while customers are left questioning the system, which hurts the economy as a whole.

While large-scale network outages are uncommon, failure rates for card payments tend to be higher than other payment methods owing to expiry dates, lost and stolen cards, spending limits and over-zealous risk checks. Overall, the complex nature of global card network infrastructure creates greater potential for problems – small and large scale.

Payment reliability is particularly important for subscription businesses, who typically store card details on file for the processing of regular monthly payments. For these businesses, card payments fail 5-20% of the time, depending on sector and business.

At best, these everyday failures are an inconvenience, causing service disruption, hassle and unnecessary admin. At worst, they may lead to involuntary customer churn.

Among software as a service (SaaS) businesses for example, 30% of customer churn is involuntary (according to data specialists ProfitWell) – the result of unintended payment issues. For a business doing 100,000 transactions a month, with an average value of £10, that could mean a loss of c. £15m over 5 years.

For subscription businesses and those who take recurring payments then, the value of bank-to-bank bank payments is clear: with fewer intermediaries and no expiry dates, payment success rate is increased. Average payment failure rates for Direct Debit for example are typically 5 to 20 times lower than for cards, at less than 1%.

A payment method for the subscription economy

Bank-to-bank payments have been steadily rising in popularity over the last two decades.

Direct Debit remains the most common bank-to-bank bank payment method across Europe – making up 20% of 122 billion cashless payments (source: European Central Bank, Payment Statistic for 2016).

In the UK, Direct Debit volumes reached 4.2 billion in 2017, more than double what they were at the turn of the millennium (source: Bacs Payment Schemes Ltd, 2017), and 74% of recurring payments are made this way (Source: UK Finance). In Germany meanwhile, more than 50% of non-cash transactions are made by SEPA Direct Debit.

This growth has in part been driven by macroeconomic trends like the rise of the Subscription Economy. According to YouGov, 89% of Brits are now subscribing to at least one service – that’s up 11% since 2016.
As businesses increasingly adopt recurring revenue models, they have looked to bank-to-bank bank payment methods like Direct Debit, as a cost-effective way to collect fixed or variable regular payments, cheaply and reliably.

Floor care products business Vax for example, started to allow customers to pay for its products in instalments by Direct Debit and in doing so, managed to cut payment failure rates by 74%.

EU-wide regulatory changes have also played their part: the credit card surcharge ban for example has led low-margin businesses (e.g. in retail and travel) to look for cheaper alternatives to cards.

Better access, better coverage

The growth in bank-to-bank bank payments has also come about through the actions of commercial providers like GoCardless who have opened up Direct Debit to UK small businesses, for who it was previously unavailable. Through integrations with major accounting software platforms like Sage and Xero for example, it’s now much easier for SMBs to access Direct Debit.

The coverage of bank-to-bank bank payments has also traditionally been an issue for global businesses, who need to collect payments in multiple markets. Bank-to-bank has a complex global footprint which has meant that businesses who want to implement it in multiple markets, must deal with a multitude of regional and national players.

But things are changing. GoCardless is on a mission to build the world’s first global bank-to-bank bank payments network, making it easier for global subscription businesses, like Receipt Bank, TripAdvisor and Box, to benefit from the low transaction fees and reliability of bank-to-bank bank payments.

New opportunities with Open Banking

Next generation bank-to-bank bank payments are already taking – and Open Banking is set to make things smarter and faster.

Under the pan-European PSD2 regulation and Open Banking standards in the UK, payment providers may apply for Account Information Service Provider status, meaning they can access and aggregate financial data from banking APIs, with their customers’ permission.

If regulated payment providers use this data wisely, bank-to-bank bank payments will get smarter, more secure and more reliable. For example, an AISP may ensure that a payment is only triggered when money is in a customer’s bank account, as well as securely authenticating new Direct Debit mandates through the customer’s online banking account.

While customer-initiated bank-to-bank bank payments, including one-off bank transfers and standing orders have benefited from ‘Faster Payments’ mechanism in the UK, it has always been slower for a business to initiate a payment collection using Direct Debit.

Under PSD2, businesses may now trigger instant ‘push’ payments with customer authorisation, using the new ‘Payment Initiation Service’ (PIS). These payments are immediate and they carry much lower transaction fees than credit and debit cards.

PIS may also be more appropriate to use for high-value transactions or within industries with a high risk of fraud: the customer is ‘pushing’ the payment to a merchant, so the same chargebacks rights associated with Direct Debit don’t apply.
We are already seeing these kind of business-initiated ‘push’ bank-to-bank bank payments in the Netherlands with iDEAL. We will start to see much greater usage of these types of payments in the next few years, particularly as consumers get used to open banking technology.

Pick and mix your bank-to-bank payments

Open Banking is creating an interesting suite of bank-to-bank bank payment options for businesses, each with their own merits and limitations.

For businesses who take recurring payments, we believe the real value lies in the combination. As a payment provider, we envisage a world where we can intelligently mix different types of bank-to-bank bank payment to suit a business’ needs, on a global scale.

For example, if a subscription business needs to collect its first payment from a new subscriber instantly, we can make this payment with PIS. At the moment, it looks like PIS payments will need to be authorised by the payer every time – not practical for subscription businesses – but if we take Direct Debit and PIS authorisation at the same time, we can collect all subsequent payments from that customer through Direct Debit, no further authorisation needed.

Could bank-to-bank rival credit and debit cards?

The opportunities for bank-to-bank payments are significant, leading some analysts to predict that they will become an everyday reality for consumers, capturing 20% of customer spend away from existing card schemes

For businesses that take recurring payments in particular, the new-world proposition for bank payments is a powerful one: a global network, offering low transactions fees, high security, low payment failure rates and the ability to mix in instant payments when needed

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