Episode Transcript
[00:00:04] Speaker A: This is payments ground game where we go under the operational hood of payments isos. Let's take a deep dive into the tactics you can use to strategically scale performance and your bottom line.
[00:00:20] Speaker B: All right. As we talked in the last podcast, we talked about what is an authorization, what is clearing, what are the nuts and bolts behind that. Today, Alaina and I are going to kind of open the discussion up a little bit as into how do you get your own acquiring bank relationship? How do you what is required to get that? What's required to get an authorization agreement or a processing agreement to where you are providing the authorization and settlement services with your conjoined new sponsorship agreement?
[00:00:54] Speaker A: And I think the best place to start with this, Kevin, is when do you even want to start thinking about this? How do you know that you're at the level or at the time and place that this is something that should be on your radar? Why don't you give me your answer to that and I'll kind of give my answer to that.
[00:01:13] Speaker B: You know that question's going to vary. You know, we started off very early on going directly with our own acquiring bank relationship, directly with our own processing relationship. So it's kind of up to the, it's kind of up to you.
But we went down a whole different road. We, you know, we knew coming out of the gate we were going to be a wholesale service organization. We weren't going to truly have much of an in house sales force and everything that we did was going to be in a wholesale environment.
But I think that's truly when you want to start looking at this.
If you are moving from a retail shop where you are out with your salesforce as the main driving force bringing in new applications and you're transitioning into, you're more of a wholesale provider. And by that I mean you are providing the processing solutions, you're providing the authorization and capture services.
You're not truly being the direct sales arm anymore. You're becoming more of the wholesale arm behind that direct sales. That's when you want to start looking at these solutions.
[00:02:22] Speaker A: And I think my answer would be that you want to do it when you think you can. If you're writing through someone else, you want to do it. When you think that you can do it better than who you're writing through, you're not going to do it because maybe you're giving up a small percentage of, you know, your revenue share to them and you want to make 100% of it. I think that's never a legitimate reason for why you do this?
Because operationally you're going to take on so much that it's going to end up costing you quite a bit. And there's a lot of scale that has to happen to cover up that small little. I mean, usually we're talking like 10 or 20% or something that you're trying to make up the gap for in revenue share just depends on what kind of arrangement you have. But it's going to be very hard to make up for that difference when you're going out and you're trying to secure your own processing agreement.
And you have to cover all of the operational responsibilities that come with it. You have to cover all the technology, the technology needs that come with it. So we're going to get into all that and what's required to secure your own processing relationship. But I don't ever think it should be because I want to make that much more money. You can tell me whether you disagree or agree with that, Kevin.
[00:03:36] Speaker B: Oh, no, I completely agree. The, you know, the, the first thing that I, or the first, you know, thing that people believe is, oh, I'm going to make so much more money by doing this directly. I'm going to go ahead and tell you the first year and a half or so that you go out and get your direct deal, you're going to make less of money. I know that sounds counterintuitive, but that's actually true. You're going to be taking on more operations, you're going to be taking on risk, you're going to be taking on, in some cases, losses that you've never taken before.
And some of this stuff you are going to be able to do well. But trust me, you're going to have bumps in that road. You know, you're transitioning into a different environment, and you are not going to make as much money that first year or so that you transitioned into this new, let's call it, phase of your business relationship.
[00:04:28] Speaker A: Okay, so let's talk about the first thing that you need in order to have a processing, a direct processing deal.
And that is you have to have a sponsor relationship, a sponsor bank relationship. So let's talk about what that looks like, what's required for them to even have a conversation with you and how you might go about getting such a thing and why it's necessary. Why do we even need it in the first place? Let's just start there. Why do we even need this? Why can't we just go get a processing deal with TSIS or Fiserv or someone else. And why can't we just skip the bank step?
[00:05:05] Speaker B: Well, and you can do that, Elena. You can, you can go out and get those deals. Those deals are out there where they're going to bring their processing, they're going to bring the processing and they're going to bring the bank relationship to the table.
But that's not a direct relationship with an acquiring bank.
And what that's going to do is that's going to lump you in. It is a better relationship than being just a salesforce.
You're gonna possibly take on some responsibilities, but it's not going to give you the direct relationship that you need with your sponsor to hone in on what it is that you want to do. And when I say hone in on what it is you want to do, I'm talking about you have a sales strategy or you have a market strategy that you want to go after and you need to hone that and you need to get that understanding with your sponsor bank that that's the group way you're going or how you're doing it, or this is how you're going to approach the business. And you want your sponsor bank to be on, on the same page with you on that. And in those relationships where you kind of get the spun in sponsorship with the acquiring relationship, you just don't get that refinement out of your business model and you don't get the relationship directly with the acquiring bank.
With that being said, let's go pretend like we're going to go get our own sponsorship relationship. What's the first thing we need to do?
First thing we need to do is we need to find out who are the sponsoring banks that are out there that are providing bins. Who are the sponsoring banks that are out there that we should talk to. What are the underwriting tolerances for the bank that we want to find? We're going to, you know, kind of, hey, bank A is more liberal in underwriting. Bank B may not be more liberal in underwriting, but has a little bit less cost because there's lower risk with their sponsorship, et cetera. So we want to find out what is out and available in the market.
And there's lots of ways to do that. There's, you know, talk to other people that have done it, go out, ask around.
You know, the best way to probably do it though is probably to ask around and find out from people who are doing it today what is their relationship like with bank A. What is their relationship like with bank? Bank be. But I will Tell you the other thing that you're going to need to have is you're going to need to have a little bit of industry cred to go in there. Banks are leery of anyone that walks in the door and says, hey, I'm ready to go.
Give me a bin. If they don't know who you are, they're going to be very leery of doing, having any kind of relationship with you.
[00:07:36] Speaker A: And they're also going to expect a financial outlay. They're not going to just start doing business with you just because you say you're able to do business. They're going to expect, expect you to produce a set of personal financial statements, know more about your background. Usually they'll require reserve.
It's not a you want to do it so you go sign up and do it kind of thing. There's more to it than that.
[00:08:05] Speaker B: Well, and I can tell you the first thing everybody's going to say is, oh, reserve, yes. You are going to be required to put up a reserve. You are going to take on financial responsibility and stand in front of that bank for the financial responsibility for the merchants that you board. That bank is going to look for you to put up a reserve.
You may have never left anyone standing in the wet, cold weather looking for help and you ran off.
That may not be who you are, but the bank doesn't know that's who you are. And they're not going to care that you say that you're that good person. You're going to have to back it up then that I'm going to tell you that reserve is going to start somewhere probably in the neighborhood of 40, $50,000 in cash up front, then probably some additional basis points on the side until it reaches a certain point that the bank is going to be comfortable with that reserve.
[00:09:00] Speaker A: And that is for the exact reason that you said, Kevin, if something goes bad, and now, so now we have liability. And if you have not had, you know, your own, your own processing relationship before, you may not be familiar with having and holding liability. When a merchant goes sour and they are unable to meet their commitments, maybe you didn't have to meet them because you weren't liable for that merchant. But now when you have this direct processing relationship, you are going to be liable for it. So the bank is going to look for you to set something aside in case something terrible happens and the merchant can't pay it.
You're going to be expected to pay it. Because if you can't pay it, then the bank has to Cover it. So they're going to put their themselves in a position where they have enough people in line that are covering this loss before they have to cover the loss, because ultimately they are responsible for it. You have to remember that when banks are asking for these kinds of things, they're looking to cover themselves. Banks do not like risk in general in the payments world.
I don't think that they love situations where they feel like there's a lot of exposure. I think that's a good general way to say it. So they're going to put as many safeguards in place so that they don't face that situation where they're covering someone else's loss. Because it has happened, it will happen again.
[00:10:25] Speaker B: And it's not just losses from unpaid chargebacks. It's also, hey, you've got the big, huge merchant that you've made a lot of money on for a while, and the big, huge merchant you haven't kept really in on what's going on with him financially. And on the 20th of the month, he goes and disappears.
And he's processed $400,000 this month. He's processed, you know, I don't know, 2,000 transactions.
Hey, your processor doesn't care whether that merchant went out of business or not. And they don't care that he didn't pay for his bill. You still have to pay their bill.
[00:11:01] Speaker A: Yes. That whole concept of liability is not fun when you get on the receiving end of it like that. All right, let's talk about the processing agreement itself and what we want to look for when we are looking for a new processing agreement. I think the first thing we covered this a little bit when we're talking about authorization and clearing, but we want to work with someone who supports the products that we want to sell.
So if we want to sell Clover, we can't go to TSYS and try to get a processing agreement with tsys because they don't support Clover.
I mean, you can get it in addition to. But you want to be sure that whatever the processor you're signing up with actually has coverage for the products that you want to go sell in the marketplace.
[00:11:48] Speaker B: Very true. And a lot of the integrated products and services are, you know, you've got the Clover, as you said, on one side generally, on the other side, everybody says, well, why are we not going over there so we can all sell Clover?
Well, a lot of the integrated products and services that are out there today are certified with the other platform. And we're not going to name any names, but we all know who the two platforms are that are out there.
The predominance of the third party products that are certified out there today are certified on, you know, the TISA side. The, you know, the side that has the sweet hot little number, which is clover today may not be tomorrow, but it's clover today is, you know, on the first data side.
So you have to decide, well, why don't we go get both?
Well, that's probably one of the reasons that most people don't think about.
You're going to have minimums. You're going to have a minimum from your acquiring bank.
You're going to have a minimum from each of your processing relationships.
And if you're not careful, what you end up having is your business is going well, but it's not going well enough to support two platforms. But you've got minimums associated with two platforms. So you end up into kind of a financial buy. Because instead of just two minimums to worry about, maybe you're worrying about three, maybe you're worrying about four different minimums.
[00:13:12] Speaker A: And let's talk about how they calculate those minimums because we've seen some crazy things as far as, you know, someone's looking at a proposal from a processor and thinks it's just a, you know, terrific deal.
And then you start doing the math of what's required to meet that minimum and it becomes, they immediately see the type of volume they have to board and the time period allowed. It's almost impossible to do if you don't, you know, come right out of the gate with a ton of sales. So let's just talk about what some things that you've seen in the way that they calculate these minimums and what we should watch out for.
[00:13:49] Speaker B: Well, the first thing you got to understand is let's talk about things that are not included in a minimum interchange.
I don't care if you bill out $1 billion in interchange, not a penny of that goes towards your minimum gross billing to your merchants.
That does not go towards your minimum.
Okay, what goes towards my minimum? The things that go towards my minimum are, hey, I'm paying 2 cents, 3 cents an item for an authorization. I'm paying a penny for clearing. I'm paying a dollar or two dollars for a statement fee.
Those are the pieces that go towards your minimum. And you think, well, geez, I've only got $100,000 minimum. Or I've got a $200,000 minimum. That's, you know, surely I'll hit that. I bill out, you know, grow to bill out a million dollars a month.
Well, you're going to find out real quick that billing out to your merchants and billing from your processor are two different things. And the minimum is going to go towards your processor and from an acquiring bank standpoint is generally going to be either a combination of a gross number of basis, number of basis points on your gross volume, or so much per item for the transactions, or some small sliver of both in combination.
But generally, I can tell you, you know, we've had some moments even early on for us where we were very concerned about where we're going to make our minimums. And you know, hey, if you get upside down on your minimums, it doesn't take too long for that to really start ending up eating into your bottom line.
[00:15:31] Speaker A: Yeah. Especially in that first year or two, you know, when all you're trying to do is get to this break even place and you feel like you're finally making traction toward that and then you're stuck in looking at, you know, hey, are we even close to our minimums? Because that's going to be an increase in operating expense whether we like it or not. It's not something we could really control.
That's when that whole minimum usually comes into play. So it can be a make or break situation early on in a company.
[00:16:02] Speaker B: Absolutely.
[00:16:04] Speaker A: The other thing we've seen too, and I think this is fairly common, correct me if I'm wrong, but the other thing that we've seen is what do they call these, like elevator clauses or something when you know, hey, let's say my processing bill this month is $200,000 and I lose 50% of my portfolio and the next month it's half of that because I've just lost all these merchants.
What is that called? Kevin? Maybe I didn't call it the right thing, but you're supposed to.
[00:16:34] Speaker B: No, you can call it an elevator clause. You can call it, you know, generally the way that works is the minimum section of your agreement is going to read, your minimum is X. Let's say that's $10,000 a month or 75% of the average of your last three months billing, whichever is greater.
So you may think that, hey, I'm doing fantastic because, you know, My minimum is $10,000 a month and I'm crud, I'm going to town, I've got, you know, my bill is 25, $30,000 a month.
Well, your minimum is not really $10,000 a month anymore.
It's 75% of $30,000, which is going to be in that $20,000 a month range. So as Elena said, you're going along, you're cooking along. You, oh, I lost this big client or so he picked up all of his merchants and moved them away.
That may be more devastating than you thought. It may be more devastating than just the loss of that volume. It may be devastating because that loss may drop you below whatever your gradual, you know, elevated minimum is. That's in your contract. So that's something you really need to look at.
And there are. Most of them have that in there today. Most of the agreements have that in there today or some form of that in them today.
[00:18:02] Speaker A: And that can get very tricky because that's something that you not always can control.
So as you're entering into agreements with other parties, you want to be sure that you have some kind of control over people can't just pick up overnight and leave. And that's why I think you see a lot of that is some of these agreements seem super one sided. Well, because on the other side of that they're processing. Processing agreements are also a little one sided. So they also have to protect themselves to make sure that, you know, they don't get themselves in this terrible position where, you know, they have a bill that is not going to cover the cost of doing business.
All right, let's talk about also some other things that you might find in agreements as far as service offerings that are included or bundled in processing agreements. I'm talking about things like a fee for their merchant management platform if you don't have your own.
A fee for merchant statements, ach fees for merchant funding, a risk management platform if you don't have your own balance management for reserves, bin reconciliation tools, tax compliance reporting. So per 1099k form that gets filed, they're going to bill you for every one or some kind of government compliance fee, residual and profitability reporting and then any other kind of reporting. So there's a whole host of offerings that can be rolled into these processing agreements.
And it's going to be up to you to decide are you going to just rely on all of the tools provided?
And I would advise heavily against that because they're not always the best. They built these things 20 or 30 years ago at least, and they haven't done much to do to innovate on them.
So that's a whole exercise that you need to go through. What are you going to get from your processor and what are you going to do on your own?
[00:19:58] Speaker B: Well, and don't forget the dreaded kilobyte fee. What is the dreaded kilobyte fee? The dreaded kilobyte fee is you have billed me for using your reconciliation tool, you billed me for using your ACH tools, your risk tools, et cetera. And you provide these to me. You provide these reports to me on a daily basis by sending them over an SFFTP link.
And then on top of that, what do they do? They bill you per kilobyte for every item that they send over to you in those reports. So you're paying for the report, and then you're paying the dreaded kilobyte fee on top of it.
[00:20:36] Speaker A: Which, if I could have a little moment of venting here, Kevin, if anyone has seen these reports and understands the amount of garbage is in these reports of repeated information, of nonsense information of things we're absolutely never going to use, but you can't say, no, I don't want this section. I only want this little section that pertains to me. You can't pick and choose what they're going to send to you. You pick the reports, and often it's a report full of a bunch of pork that you just have to sift out and set to the side, but you're going to pay for it anyways. That's my vent. I'm done. I'm moving on.
[00:21:15] Speaker B: Well, let's go ahead and pour a little salt on that wound and let everybody know that that's not just the processors that do that, that's also the card associations that do that. MasterCard, Visa, et cetera, bill you at the bin level for the reports that you receive based off of either, A, the size of that report and billing you some sort of kilobyte feed for the transmission of that report, or B, they bill you per page.
[00:21:43] Speaker A: I was trying to limit my rage there, Kevin, but now you're getting me going all over again. Because MasterCard does this. Especially if you have transactions that reject and let's say your processor for some reason rejects a ton of transactions. They don't just fine you for the reject itself. They fine you for all those reports, which can be just as much as the fine for punishing you for the reject itself. So this is no joke. It's really a problem.
So you just. I think the gist here is you have to plan for the unexpected. You have to have a budget for things that you can't plan for because that's something that you're not going to be able to control.
It's really a lot of times out of your control. It's just going to be an additional cost and you just have to eat it there. You can't go to MasterCard and say, Please, please, please, please, can you refund that? To me, it doesn't seem fair. They're going to laugh at you and hang up on you and they're not going to do anything to help you because these are just the fees to use their network.
So that's just the way of the world. You just have to deal with it and move on.
[00:22:48] Speaker B: Let's talk about, in addition to that, when looking at an agreement, I think we all get focused on. And this is not just at the processor, Elena. I think this is. This is. Overall, I see this every day in our industry, you know, especially when we're negotiating with ISOs over agreements, you know, what's the first thing they go to? The first thing they go to is trying to Decide is the $0.03 that you're selling them, authorization costs, you know, the item they want to fight over. And it generally is they want to be at 2 cents instead of 3 cents.
And when looking at things in your agreement, you really need to focus on. You really need to take a piece of your portfolio and say, how many transactions am I really running? How many transactions am I really clearing? How many transactions do I have that are declines, how many settlements do I have? And apply that to the structure of the agreement you have.
I think once you do that, you're going to find out, you're going to go negotiate over things you weren't really interested in negotiating on before for.
And I think you're going to find one of the first things is, hey, guess what? The difference between being successful and not successful in our business is not the difference between 4 cents and 2 cents for an authorization. That's not it.
[00:24:10] Speaker A: All right, so we talked about, about the financial pieces. Let's now transition over to operationally what we're going to need. If we're going to have this direct processing deal and we're going to have our own bank sponsorship agreement and relationship, what are we going to need operationally to build this out?
[00:24:34] Speaker B: We're going to have all the things that we're going to spend money on that we can't believe we're spending money on. We're going to have one, possibly two risk people that all they're doing all day is looking over merchant activity, making calls to merchants, following up on transactions, making decisions whether or not they're going to hold or release transactions, et cetera.
We're going to have a couple of customer service folks that are answering calls either from ISOs or from merchants or from both.
We're going to have to have an accounting staff. Oh, the dreaded accounting staff. We have to hire people and pay them money to tell us how much money we're making.
They also are going to have to do reconciliation. They're going to have to do the whole accountability for the bin. You know, what's in our held balance, what's in our reserve balance. Are we accounting for that properly? Are we not accounting for that properly? Do we have enough money in our settlement account to cover the difference between what we are funded on a daily basis and what we fund out on a daily basis? And what do I mean by that?
We've talked about this before.
I run a we have $100 sale comes through the system today.
I'm going to pay the merchant $100 if they're on month end billing. But I am only going to get funded $99 in 19 cents because the card associations are only going to fund me. Sales minus interchange, minus chargebacks, plus reversals, basically.
So you know there's going to be a gap in your, in your settlement account. You got to figure out how you're going to cover that gap.
It's going to be be a small gap in the beginning of the month, but it's going to get bigger and bigger, bigger and bigger and bigger all the way to the end of the month until you do your billing.
So it's either that or piss all your isos off and tell them that you only board merchants that you know do daily discount.
[00:26:37] Speaker A: That's always a wedding strategy.
[00:26:40] Speaker B: Everybody loves it when I want to announce that all we do is daily discount.
[00:26:46] Speaker A: The other thing you didn't mention, which of course we've got to have, is an underwriting staff and software. Because if we ever want to board any business, we're going to have to underwrite it. We're going to have to follow the underwriting guidelines of whatever sponsor bank we're working with.
And then we'll need some tools to be able to properly underwrite these merchants. Follow, you know, know your customer protocol, aml, Patriot act, all of those things that the bank is going to be looking for. Make sure they're not on the, on the MasterCard match list.
The bank is going to have certain requirements for their underwriting and what things that you can write business with the bank and we've got to follow all those guidelines. We have to make sure that we've got a process in place and a staff that is qualified to be able to make decisions on what we're going to board and not board. And then finally, I think we also need some kind of residual management platform.
If we are going to have agents out there selling for us or isos out there selling for us and we're going to be paying commissions, we have to be able to easily calculate those commissions and then also report on them so that we can show them.
This is all of the processing activity for your merchants. This is how we applied it to the Schedule A that you have with us. And here is what we're sharing with you in commissions for these merchants.
[00:28:09] Speaker B: By the way, one thing that I cannot stress enough, and I don't think we talk about it enough.
In any relationship in which you receive a residual report from somebody outlining what you are getting paid for in commissions, look at that report before you sign anything.
What is in that report? What is the detail available in that report? How can they back up the numbers that they're coming to? Can they show you statements that correspond and correlate back into that residual report?
I cannot stress enough how many times there are lots of people out there that put together residual reports and there's lots of good residual reports that are out there. But there are also some that we have seen that are God awful. I mean, God awful. And quite honestly, I think they're just people throwing shit onto a spreadsheet.
They can't correlate it. They can't back. They can't get down to the details on it. And anybody that is paying you a commission and they can't get down to the details on how it is that they got you. That commission is not somebody you want to be doing business with.
[00:29:15] Speaker A: The other thing that I would add there too is that don't be afraid to ask, you know, if there is something that doesn't look quite right and you go ask a question about it and you are met with defensiveness or an unwillingness to dig into it, that's usually not a good sign. That shouldn't be the way business is done.
I will ask about any kind of bill that we get. And with some great results. I mean, if it's not right, it needs to be asked about. So I've gone back and asked, like I said, like, I've asked MasterCard about things. Sometimes they laugh in my face. Other times we've received a credit, I've asked our sponsor bank about things. I've asked our processor about things.
Everyone makes Mistakes and sometimes it's intentional. Unfortunately, most of the time it's not. And they should be willing to dig into it with you and walk through it and see what's going on and answer your questions. If not, I think that's a huge red flag.
[00:30:16] Speaker B: Agreed.
150%.
[00:30:19] Speaker A: All right. I think we have covered everything there is to cover on this.
Do you have anything else you want to add, Kevin, in terms of you're going direct, you want to go get your own direct processing deal?
What is your, what would be your, you know, biggest piece of advice for someone wanting to go this path?
[00:30:38] Speaker B: So, you know, the one thing I would say, Ellen, is most of these organizations are going to be transitioning from a majority sales environment to at least a 50, 50 sales and operational environment.
And I would say understanding not just the operations environment, but really understanding the reasoning behind underwriting and risk.
Look, I know that sometimes it feels like everybody's out there and they're making you hunt down this transaction receipt and risk, or they're telling you, no, don't want to do this business for some reason or the other. And it seems like everybody's just shitting on you because they just, this is good business and they just don't see it. Listen, the reason everybody comes in with this stuff is there are rules that are put in place. And the way these rules happen, somebody gets their ass handed to them. That's what happens. Somebody gets their ass handed to them, and because they got their ass handed to them, they try to protect themselves from that ever happening again.
And that's why they build the underwriting requirements, and that's why they build the risk requirements the way they do just the most. And I mean, go to, you know, some of the there's risk things that are done out there today. It used to be called the Mac Committee. What's it called now, Elena? It's not the Mac Committee anymore.
[00:32:01] Speaker A: It's the app.
[00:32:03] Speaker B: The app. Get involved with the app.
It's going to be eye opening for you. If you haven't been involved before, ask those guys, ask risk guys that, you know, hey, why do we do this? Why do we do that? I think that's the area that if I had to focus the most on before I made this transition, that's the area I would try to get to understand the most.
[00:32:24] Speaker A: Great advice, Kevin. Thank you. Until next time, Sam.
