MarketView is Edgar, Dunn & Company's e-letter providing you with timely views on the critical issues at play in today's global payments economy. MarketView taps the opinions and knowledge of EDC's payments experts across global markets, translating developments with immediacy and relevance to the challenges you face today and in the future.

IN THIS ISSUE:

The Strategic Importance of Collections in Turbulent Times

Faced with the prospect of difficult credit markets and sea-changes that will impact portfolio performance, financial services companies may soon face their toughest challenge yet in managing product profitability. Delinquency and charge-off rates are growing in virtually every segment of financial services. Risk management, including underwriting, account management, and collection practices have never been more important as financial services companies navigate this storm.

The most nimble, innovative, and flexible companies will succeed in mitigating financial losses by understanding consumer behavior, consumer communication preferences, and the effectiveness of various channels in increasing response and maximizing recovery. Superior collections are a competitive advantage, and having proactive customer communications through a variety of channels is the most important strategy employed by companies ranging from hospitals to banks and mobile telecom providers.

We believe that the companies that make the best choices regarding collections resource-allocation, policies, scripts, channels, and techniques will recover the largest share of collectable receivables. Further, those who handle customer communications the best will achieve the highest rates in customer satisfaction and retention. These seven intuitive but important practices and tactics can help provide the best results:

1. Analyze Your Portfolio:
   Best-in-class collections organizations continually improve their effectiveness by mining their experiences to better refine segmentation schemes, predictive models, collector classifications, and messaging. The need to continually refine segments based on customer behavior is particularly important in this environment where behavior is changing so rapidly. For example, use of traditional behaviors that indicate a “sloppy payer” now need to be segmented further to separate those that are still just late on payments from those that are showing deterioration in “sloppy paying” that indicate more serious delinquency risk.
2. Save Money with First Impressions:
   Good collections practices begin long before a customer ever misses a payment. Being proactive in communicating with customers via welcome calls and multiple channels allows lenders to gather or verify contact information that may be critical if the account is ever put into collections. Such early communications can also build customer loyalty and decrease early attrition while also lowering the costs of skip tracing and collections on first payment defaults.
3. Don’t Wait Until the Payment Is Late:
   To help customers remember to make their payments, many billers are increasing their use of payment reminders via regularly scheduled automated phone message, email or even text message. This last method could be the most innovative and under-used communication channel for payment reminders, but it is gaining momentum and offers significant opportunity for impactful communication, particularly among younger segments. It is also important to arrange for any text message to be free to the recipient. Furthermore, companies can reduce costs of collections by proactively communicating with customers regarding policy changes that might result in consumer confusion and late, missed, or incomplete payments.
4. Use Multiple Channels to Maximize Contact:
   Proactive customer communications delivered in multiple ways over a period of time will maximize response. Further, early stage collections require a different set of tools and techniques than late stage collections. A good collections program should use a variety of tools so that the company does not incur high costs for accounts that will self-cure. At the same time, collections tools must allow seamless escalation of the account to a more aggressive strategy if the account is proving unresponsive or does not pay as committed.
5. Keep the Message Simple:
   Companies should make paying a bill simple and convenient for consumers. A simple, straightforward, and dignified way for consumers to pay their bills as funds become available can move the lender to the top of the priority list for payment.
6. Invest in Late Stage Collections:
   Late stage collections accounts require more robust tools and techniques than do early stage accounts. These tools include experienced collectors, dedicated specialty teams, and a higher ratio of live agents to automated messaging. Indeed, the most effective collection organizations are the ones that have a view on all the products used by customers and can anticipate actions they should take across product relationships.
7. Be Nimble and Flexible:
   The current economic environment has changed much about the way companies are communicating with their customers. Both collections agencies and banks are finding that consumers respond better to organizations that acknowledge the difficult environment and are willing to work out arrangements with customers to help them cope with their financial difficulties. Finally, potential regulatory changes and the continued financial uncertainty mean that collectors must be flexible and careful in their communications with consumers.

In this turbulent time, continuous learning and the flexibility to adapt collections techniques to current circumstances will yield the best results. No one is immune from the unprecedented period before us. However, the most nimble, innovative, and flexible will succeed in mitigating financial losses by understanding consumer behavior, consumer communication preferences, and the effectiveness of various channels in increasing response and maximizing recovery. Although these lessons come at one of the most challenging times in history for financial services companies, they will set the stage for stronger performance long after the current economic storm has subsided.

“Mobile-izing” International Remittances - The Need for a Central Hub Model

Entities throughout the mobile payments value chain - financial institutions, mobile network operators, technology providers, handset and chip manufacturers - recognize the vast opportunity that is created by the delivery of mobile financial services through ubiquitous mobile phones and personal digital assistants (PDAs). Industry insiders and payments consultants (including EDC) divide mobile financial services into mobile banking, mobile payments (including proximity and remote person-to-person), and other value-added content delivery (loyalty programs, coupons, rewards, etc.).

We believe that there is significant and immediate opportunity to generate revenues from offering mobile remittances. Estimates of the size of the international remittance market range from $283 billion* to $456 billion**. The size of this opportunity makes it very attractive, and many companies are actively pursuing this space with varying degrees of success. Successfully navigating this space amidst complicated international and local money transfer laws and regulations, not to mention the difficulty inherent in driving customer awareness and adoption, is no easy feat. We believe that while limited point-to-point solutions are possible, large scale proliferation of mobile person-to-person remittances will require a robust hub model to coordinate interoperability between mobile operators on the one hand, and financial institutions and/or alternative payment providers (e.g., PayPal) on the other hand.

Mobile remittances require coordination between many different entities that are accustomed to addressing isolated pieces of the value-chain. Financial institutions and alternative payment providers handle deposit accounts and payments. Mobile network operators make sure Caller A connects with Caller B, whether through voice or text messaging. Handset manufacturers build the devices to the networks’ specifications. Who is in a position to tie the financial side to the phone network side? The hard part here is associating the underlying payment account to the user’s mobile phone number, and keeping that association up-to-date and secure for both the sender and the recipient. Consumers do not like to maintain separate single-use accounts simply for transferring money (witness the slow uptake of services like Obopay, Revolution Money, and PayPal Mobile). Consumers want to be able to transfer money from their existing deposit account to their friend/family/neighbor, knowing only the mobile phone number. They need confirmation that the funds are being sent to the right account, preferably before the transfer takes place. If the recipient’s payment account or mobile number has changed, the information must be updated near real-time. In the complex world of cross-border remittances, the coordination of these actions is not easy.

The goal of mobile international remittance should be “Pay Anyone, Anywhere, Anytime.” Getting there, of course, will take years and hundreds of millions of dollars. In the meantime, we are seeing some limited success from point-to-point solutions around the world. Single payment corridor solutions are appearing, such as Obopay’s mobile remittance service for the US-India corridor. Domestic person-to-person transfer solutions (within a single country) are being established as a precursor to cross-border transactions. Offerings such as M-PESA in Kenya and Celpay in Zambia have adopted this walk-before-you-run approach and have avoided the need to untangle complex laws and regulations stemming from international transfers. Finally, some companies have taken it upon themselves to horizontally integrate the banking and mobile operator sides, fusing the functionality into one entity. Japan’s NTT DoCoMo leverages its partial ownership of Sumitomo Mitsui bank to issue its own mobile credit accounts. Such acquisitions are also likely to occur in developing countries, as evidenced by Telenor Pakistan’s recent acquisition of a major stake in Tameer Microfinance Bank Limited. We see these point-to-point solutions as a necessary step in the evolution toward a global remittance system.

However, truly interoperable mobile remittances (Pay Anyone, Anywhere, Anytime) will require a vast hub system, which will take the form of a few different models. Fundamentally, these hubs would coordinate communications between the mobile operators and financial institutions / alternative payment providers, and would manage the messages that move funds between users’ mobile wallets. Large developed nations with several dominant financial institutions or alternative payment providers, and mobile operators will likely require multiple hubs for a single country. Countries with less-developed banking and/or telco infrastructure will likely only require a single hub that manages all customer information. Finally, some regions (groups of countries) could well be served by a single hub that manages transfers between the member countries, as well as to customers of other hubs.

Given the large opportunity that awaits, many companies will compete vigorously to establish themselves as leaders in this space. Several different types of players could emerge to fill this role. Companies that hope to be successful in this central hub role will need strong ties to networks as well as to financial institutions, and must be experienced in complex data management and high-volume messaging. Early movers who make investments have the best chance of success, as this is largely a scale-driven business. Additionally, those with strong ties to the mobile operator side of the business will have a better chance of success than those whose relationships are primarily with financial institutions. Whether the financial institutions like it or not, the mobile carriers control access to their shared customers. Without access to the customer, there will be no mobile wallets, no mobile remittances, and no mobile financial services revenue.

This short article cannot possibly hope to answer all the questions that will invariably arise surrounding this model. One thing is for certain, however, someone has to sit in the middle and fulfill this coordination role if mobile remittances are going to succeed. The complexity of this coordination, coupled with the classic chicken-and-egg problem inherent in so many payment applications, dictates that the roll-out of mobile international remittances will certainly be an evolution rather than a revolution.

*World Bank Remittances Data (2008)
**The Aite Group, “Competing in Money Transfers: Market Overview, March 2007. Projected estimate by 2010 in USD

Direct vs Indirect Earn Loyalty on Credit Cards

The majority of airline frequent flyer loyalty programs around the world have one or more linkages to payment cards, usually credit or charge cards. These programs are generally linked to credit card spend in one of two ways: ‘indirect earn’ and ‘direct earn’.

• Indirect earn refers to programs where points are accumulated in the card issuer’s proprietary loyalty program, such as American Express’ Membership Rewards. These points can then be redeemed at the cardholder’s own discretion for goods or services from participating merchants. One alternative often available to cardholders is the ability to transfer points into a participating airline’s frequent flyer program. The card issuer pays the airline for these points at the time when the cardholder chooses to transfer their card loyalty points into the associated frequent flyer program, generally in connection with the purchase of a ticket.
• Direct earn is where every point earned on the credit card is automatically transferred (usually on a monthly basis) by the issuer into a single airline’s reward program, such as the Qantas Frequent Flyer Program. In this arrangement, the issuer pays Qantas for these points on a monthly basis as the points are transferred into the Qantas program. Direct earn tends to involve an exclusive relationship with one airline, and the associated payment cards are generally co-branded cards. However, as seen in the Australian market, the direct earn concept can be employed via a program linked to a standard card.

Historically in the Australian market, Qantas has allowed points to be ‘earned’ in its frequent flyer program through both direct and indirect relationships with a large number (over 10) of different credit card issuers. This has generated considerable income for Qantas, as the card issuers have had to purchase the points from the airline. Macquarie Bank estimated that payment card (both charge and credit) points transfers generated over A$500 million of income for Qantas in 2006.

Qantas recently decided to change its arrangements with issuers and to push the direct earn concept further, by terminating the ability for issuers to permit the transfer of points from their own indirect earn programs into the Qantas Frequent Flyer Program. As of 1 April 2009, the only way for the vast majority of consumers to earn Qantas points through card spend will be through using direct earn cards.

Issuers have responded in a variety of ways to the changes instituted by Qantas. However, all four major Australian banks have created or maintained some form of Qantas direct earn credit card product in order to minimize the risk of cardholder attrition. At one end of the spectrum, National Australia Bank has developed a new range of Qantas direct earn companion card programs and is no longer offering its proprietary indirect earn NAB Rewards program to new card accounts. At the other end of the spectrum, issuers such as the Commonwealth Bank of Australia are focusing on improving their indirect earn program, and are forcing customers to make a choice if they wish to opt into a Qantas direct earn version of their Commonwealth Awards program.

There are several key benefits to Qantas in taking this ‘direct earn’ approach. The financial benefits include the time value of money: that is, indirect earn cardholders generally accumulate their points for a long period of time (the average lifetime of a point in one indirect program analyzed by EDC was around 9 months) before transferring a number of points at once, and Qantas only receives payment for the points from the issuer at the time of transfer. For the direct earn program, the points are generally transferred to Qantas monthly and Qantas receives the payment from the issuer for these points on a regular basis. As a result, Qantas benefits from these payments until the cardholder chooses to redeem the points within the Qantas Frequent Flyer Program.

In addition, Qantas receives the benefit of any breakage on the points (i.e. the value of the points that are never redeemed), which on indirect earn programs is gained by the issuer. Finally, Qantas gains more ‘control’ of the customer’s loyalty relationship and can attempt to influence their behavior in relation to both earning and burning points.

Qantas’ strong position in the Australian market has helped them to implement this strategy – Qantas has the largest active frequent flyer member base in Australia, strong capabilities in loyalty program management, and a long history of offering points through credit card spend. In addition, Qantas has recently made improvements to its frequent flyer program that make it competitive with many issuers’ indirect earn programs. These improvements include the addition of ‘Any Seat’ flight awards and an increased range of redemption alternatives (including merchandise) to rival the variety offered in many issuers' indirect earn rewards programs.

While issuers globally are likely to be considering reducing the costs associated with their loyalty programs, the business model where airlines promote direct earn programs raises a number of questions for issuers, including -

• What proportion of our customers are already members of the frequent flyer program in question?
• What proportion of these customers already transfer the majority of their points to the airline?
• Will shifting to direct earn risk eroding any proportion of the current customer base?
• What is the perceived value of the direct earn program in comparison to the indirect earn program in the minds of consumers?
• What is the value of the trade off between reducing the cost of the indirect earn program versus the total cost of the direct earn program (i.e. loss of breakage, time value of money, opportunity cost of a lower-value reward being redeemed by the customer in preference to frequent flyer points)?
• What customer segments are most likely to prefer direct earn and which are most likely to prefer indirect earn? How do current cardholder segments map to these preferences? Should the card offerings be changed or repositioned? How and with what expected economic benefit?

Depending on the answers to the above, issuers may find that indirect earn or direct earn only, or a combination of the two, adds the most value to their business.

*Note that some business cards and the American Express Platinum Charge Card have retained the ability to transfer points to the Qantas program from indirect earn reward programs
**Companion card programs are credit card programs in which the issuer provides the cardholder with two separate credit cards (usually an American Express card and a MasterCard or Visa card), which are linked to the same account, having one credit limit and a single monthly statement.

About Edgar, Dunn & Company

Edgar, Dunn & Company (EDC) is an independent global financial services and payments consultancy. Founded in 1978, the firm is widely regarded as a trusted advisor to its clients, providing a full range of strategy consulting services, expertise and market insight. Global capabilities include in-depth industry and consumer benchmarking, strategy, risk management, marketing, profitability improvement, operations, and new products and technologies. With locations in Atlanta, Frankfurt, London, Paris, San Francisco, Singapore and Sydney, EDC serves clients in over 30 countries on six continents. More information can be found at www.edgardunn.com

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