The Value of Encouraging Direct Debit Payments

A direct debit is an instruction that a bank account holder (usually a merchant) gives their bank to collect a variable amount directly from another account (usually a given customer). A direct debit is also often called a pre-authorised debit or pre-authorised payment. Direct debits are initiated by the recipient (merchant), as opposed to the Payer (customer), which means that the payer is not in control of the payment. This is quite different to a standing order, which tends to be set up by a customer as a fixed amount payment and can be cancelled by them at any time.

Direct debit payments have become very popular with large merchants in recent years (such as utilities, telecom companies and councils for example) because they allow the merchant to obtain an open mandate from a customer to transfer variable amounts of money out of a bank account on a regular basis.  This make direct debit apparently very good for the merchant (with high levels of control over customer payments). But is this really the case as in reality there are both pros and cons to consider?

 

ADVANTAGES:

DISADVANTAGES:

1. Having a direct debit mandate saves a merchant time as automatic payment is set up to occur regularly by a customer on a given date. The payment is also known and easily reconciled as thee are full records of the transaction.   2. Direct debits tend to avoid late payments by a customer (avoiding chase letters or phone calls or even worse, disconnection notices, and late fees and penalties.   3. Direct debit is cost effective for the merchant as a payment method (at least on the surface-see point 4 in disadvantages). A merchant typically gains the benefit of planned cash-flow at a very low cost (with direct debits costing between a fixed15-25 pence on average).   4. Direct debits provide more security for the merchant and the customer by being made electronically. This is both secure and proof of payment appears on the customer bank statement.

1. A customer needs to trust a given merchant to give bank account access to them or to want to sign a mandate.   2. A customer account has to have adequate funds to cover payments when they’re due. If this is not the case, apart from the loss of payment (and cash-flow) a reversal will occur (see point 4)   3. A bank account may be closed by the bank due to fraud or some other reason.  This will lead to reversal fees (see point 4 below.)   4. Reversals across UK direct debits run at about 4 in one hundred (4%) and cause considerable problems for the merchant. It may cost as much as £30 to set up a new direct debit with a customer. What this means in practice is that these 4 in 100 reversals have to be spread over all 100 (or £120 in total divided by 100 or £1.20 needs to be added to the 20 pence average cost). This means that the real cost of a direct debit is more like £1.40 on average.   5. If a Payer wants to change banks, a merchant will need to set up new direct debit mandates again which is time consuming. Also, merchants need to keep a record of any direct debit mandate from their customers for a 7 year period.

 There is an alternative to direct debit that is available at www.payswyft.com. This is called “dynamic debit” and is set up by the customer rather than the merchant. This payment method is most typically linked with a customer’s debit card (although a credit card can also be used). These recurrent payments can be made indefinitely on a variable basis like a direct debit, but has one major difference. A customer can set a maximum limit (say £50) and have the Payswyft system alert them (by SMS or email) so that they can approve the payment (or query it with the merchant before it is settled). As the cost of this debit-side payment is around 35 pence each time (and has almost no risk of cancellation, reversal or chargeback as transactions are run through the 3D secure system) they are a true win-win for both the merchant and the customer.

Who Will Win the Online Billing and Payment War?

In the last 2-3 years, large research companies who focus on Internet trends in billing and/or payments, such as Ascent, Aite Group, Billentis, Forrester, Javelin Research, and several others, have suggested that a “war” has broken out to try to win the race to control most of the online billing and payment transactions (at least it seems to have done so in much of the developed world). This war is apparently between 3 parties –The “consolidators”, the large billing merchants themselves (usually called “biller-direct”) and the “aggregators”. In this brief article we will look more closely at this on-line billing and payment “war” and try to assess who seems to be leading or lagging in their efforts to emerge triumphant.

Introduction
The capacity to send an invoice via online means, and to facilitate payment of it electronically, is a relatively recent phenomenon. In reality, this has only been possible for around 10 years or so, and has only become broadly available as fast Internet access has become widespread and Internet banking has been taken up in far greater numbers. However, we need to separate online bill presentment from online payment. Research suggests that true online bill presentment (a digital bill/invoice capable of showing full detail as needed) is used by less than 5% of the adult population in the US for example (and may be as little as 3% in the UK). And as the chart below on preferred payment channels suggests, only 13.2% of the US population (at least in 2008) actually pays bills online (around two-thirds of which is via a bank and the customer’s linked checking account). This may have increased a little in the last couple of years but not by very much.

©Ascent Group: 2008

So, despite the fact that over 80% of the adult population now has Internet access in the US and the UK, there is still huge potential to switch people from sending cheques in the mail, bank drafts, in-person payments and even phone-in payments in the future (a total of around ¾ of all payments). For this reason, there are a wide variety of companies trying to win control of this potentially large and lucrative sector but the strategies for doing so are quite different. Let’s look at each one of what we see to be four different categories with a unique approach.

1. Consolidators
As the overall chart on the next page illustrates, consolidators are those organizations that seek to show a number of usually large merchant bills, as line items on an Internet web site. As most consolidators are banks, or at least large financial services firms, this is usually an extension of the bank’s internet payment web-site, and allows customers to immediately debit funds from a current/checking account to pay a bill (such as an electricity or telephone bill). It is actually rare for a consolidator to offer other alternative payment options, and it is even rarer for a customer to be able to see a full bill. This means that they can usually only remit a payment for a bill that he or she has received in the mail or by email (so that they can enter the payment information needed).

In recent years, the larger consolidators have penetrated the market well for this relatively basic service. However, they only have limited growth potential with a full presentment facility, which in any case is typically restricted to their own customer base or bank account holders.

2. Biller-Direct
Larger merchants (utilities, mobile phone operators and cable companies, for example) will often allow customers to both see their bill online in a part of the merchant’s web site and pay it (possibly by several means on the debit and credit side). However, to create this functionality for their customers, these merchants have to either build the handling software themselves, or buy it in as a package from a software vendor. This entails up-front capital, time to design and integrate the solution, as well as the effort to train internal staff to use the new system, once built.

From a customer perspective, this approach does afford the benefit of non-standard business hours access and some extra payment flexibility in some cases. However, there are also several drawbacks. These include some very unfriendly sites (buried/hard-to-find information, pop ups, missing detail, etc) and general customer irritation at having to remember each merchant’s site login and password process each time. For this reason, most large merchant biller-direct sites have relatively low levels of customer conversion (5% or less). In addition, the high cost of set-up makes this an unattractive approach for small to medium sized merchants to consider.

3. Consumer Aggregators
Aggregators are typically specialist organizations that have been set up to both present a bill and allow it to be paid online on behalf of a group of usually large merchants. If well-run and focused, consumer aggregators typically have considerable scope for future growth because they can theoretically provide a service for all consumers in the market. However, when consumers are asked to come to a web-site to find all or even most of their bills, only to find that one or two at most are available to them, they may not return. This makes consumer penetration a very long-term affair and assumes that the consumer aggregator finds it possible and even economic to approach all merchants in the market, however small and/or local they may be. In addition to this problem, although there are several consumer aggregator companies, they offer a slightly different range of features and in many cases may not even offer a full or detailed presentment option. This may act to simply confuse the consumer who may not then be prepared to use any of these sites, especially without their merchant encouraging them to use this as the primary channel.

4. Merchant Aggregators
Like consumer aggregators, merchant aggregators are also typically specialist online companies, but they have a different business model. The goal is to provide a service to one particular merchant at a time, and then work with that merchant to encourage consumers to view and pay their bill electronically (and particularly switch away from cash and cheques). To date, this service has been mainly aimed at small to medium sized merchants (rather than the “super-billers”). This means that both the penetration and growth rate has been slow so far. However, there is much scope for considerably greater growth and therefore higher market penetration in the future.

From a consumer perspective, the expectation here is limited to being able to see one given merchant’s full bill online and to be able to pay it by multiple methods. However, over time, more merchants are progressively added, meaning that consumers get to see several bills, from several merchants (some of which may be quite small and/or local) at the same site (with a familiar login and password).

The main challenge for merchant aggregators is acquiring merchants in the first place (which requires marketing and sales effort). Although merchant aggregators can do this in particular market verticals to manage these costs, one strong possibility is that consolidators (who already have many merchants already for payment purposes) may find it worthwhile to partner with the merchant aggregators, who get transactional volume in return for making available a full online presentment option.

Conclusion
As our chart on the previous page indicates, the biller-direct model has already proved to be a slow and expensive path for many large merchants and looks to be the worst current position to be in, if they were to try to win the online billing wars. Consolidators often have a large bill payments consumer population but do not have a cross-market platform to get their beyond their own customer base. Consumer aggregators have the potential to offer a multi-merchant solution, across the entire market, but having recruited many of the “super-billers” are finding it expensive to add the smaller merchants that consumers would want to see on their site in order to return again. Finally, merchant aggregators, although small in market penetration to date, probably have the most potential to offer a truly cross-market solution, which benefits all merchant and their consumers.

In the final analysis, it is, of course, extremely difficult to predict who is likely to emerge victorious in such a competitive space, especially where the financial stakes of wining or losing are so high. However, if the merchant aggregators can gain enough momentum, perhaps by partnering with the consolidator banks, they seem to be in the best position to win the online billing war at this particular time-we will watch the next couple few years with interest.