There is a considerable difference in the value of a merchant to the
typical sales agent versus the value the very same merchant has to an
ISO, bank or credit card processor (collectively referred to herein as
“ISO”). Market forces have created a situation where although it
originates the merchant, the sales agent receives little value for its
interest in the merchant as compared to the value the ISO derives from
the merchant. Below I will discuss the respective roles of the ISO and
the sales agent along with the value that each derives from merchants.
Defining the Sales Agent.
The sales agent is responsible for originating the merchant
application. In order to do so, the sales agent must, either through
face-to-face sales or through advertising, get the merchant’s attention
to solicit it for credit card processing. If the sales agent is
successful in its efforts, it will complete a merchant application,
submit it to the ISO and when the application is approved, place the
credit card processing equipment or software with the merchant.
The sales agent is also the party responsible for initial training of
the merchant on the use of the credit card processing equipment or
software. After the merchant has been trained, the sales agent is not
usually required to provide continuing customer service to the merchant
under its agent agreement with the ISO. Although the sales agent may
be the person the merchant contacts if it has a problem, the sales
agent still has no real contractual obligation to service the merchant.
In addition, the sales agent is almost never a party to the merchant
agreement. As a result, the sales agent has little, if any,
contractual rights to ownership of the merchant.
The main right that a sales agent has is the right to continuing
payment of its residuals under the agent agreement. This is the only
real tangible asset the sales agent is entitled to for placing the
merchant with the ISO. The sales agent does not generally obtain the
right to move the merchant to another credit card processor. Even if
it does, logistical issues related to incompatibility of platforms and
the need to actually rewrite merchant applications makes it extremely
difficult for a sales agent to move merchants to a different credit
card processor.
As a result, the sales agent has little, if any, “ownership” in the
merchant and therefore the market place does not value the sales
agent’s relationship with the merchant very highly. The only asset
that the sales agent is able to sell is its right to a continuing
residual stream, assuming it even has that right under its agent
agreement. It cannot sell any contractual ownership right to the
merchant nor any ability to move the merchant’s current ISO.
The value of this residual stream is also reduced by the fact that any
buyer who takes the right to the residual stream is subject to the
terms of the agent agreement. A major concern for any entity
purchasing residual streams is that the sales agent, after receiving an
up front payment for the purchase of its residuals, will move the
merchants to another processor. If this happens, the ISO will
terminate the residual payments. This will result in the purchaser of
the residual payments having paid for a residual stream and then losing
all the money it has just invested.
Given the potential for losing the residual stream and the nature of
the asset that the purchaser can obtain, most purchasers are not
willing to pay the sales agent a very high price for the right to
receive residual payments. The purchase takes the form of the sales
agent receiving a multiple of the average monthly residual payment
multiplied times a factor to derive the payment price to the sales
agent. Once the sales agent has been paid the purchase price for the
residual stream, all further residual stream payments are made not to
the sales agent, but to the purchaser.
ISO Valuation of Merchants.
In contrast to valuing a sales agent’s interest in the merchants, the
market determines the valuation of an ISO portfolio much differently.
The merchants associated with an ISO are valued for the revenue stream
that is derived from them as a first measure. But, an ISO can obtain
additional value in the market because of the value of the ISO as a
complete entity. This “entity” value is the distinction that leads to
ISO being valued at a much higher multiple than the residual stream of
a sales agent.
The reason for this higher valuation is that the ISO has a much more
tangible and valuable relationship with the merchant. The ISO is an
actual party to the merchant agreement and hence, has a contractual
relationship with the merchant. In addition, the ISO is the one
providing customer service, risk and all other ongoing support to the
merchant. As such, the ISO is able to maintain a much closer
relationship with the merchant that is much more valuable than the
sales agent’s single right to continuing a residual stream.
In addition, if properly set up, an ISO has the added benefit of
allowing a potential purchaser to move the merchants to its own
platform. What this means is that an ISO can look to acquire other
ISOs and add value to its company. This method of growth through
acquisition allows for an ISO to grow quickly. As an added benefit,
oftentimes an acquired ISO will have its own agent base that can be
used by the acquiring ISO to increase the number of merchant
applications it adds to its portfolio each month.
With a public company, the stock market values its merchants through
the stock price. One can take the market capitalization of a publicly
held company in the bankcard industry and divide it by the number of
merchants that the company has to determine a market value per
merchant. In a previous article, based on then current information,
the public market valued merchants at anywhere from $2,300 per merchant
to $6,350 per merchant for the selected companies. See “Transaction
World Portfolio Valuation Techniques,” Transaction World Magazine,
March, 2005.
The goal of these public companies in making acquisitions is to pay
less per merchant than the public market is valuing the acquiring ISOs
merchants. As a general rule, the smaller the ISO the less value its
merchants have in the marketplace. The larger ISO can buy the smaller
ISO and make the value of the larger ISO increase more than the price
it has to pay per merchant. Consequently, a large ISO under most
circumstances can increase the value of its company by buying a smaller
ISO.
Conclusion.
The reason for the large disparity in the value that the market places
on an agent’s interest in merchants versus the ISO’s interest in
merchants is fairly simple. The ISO is the one with the real
relationship with the merchant that is portable and that will most
likely last the longest time. In addition, the ISO has additional
value it adds through its operations and its ability to continue to
service the merchants. The markets value these items much more than
the typical sales agent’s right to a continuing residual stream. As
such, unless sales agents are able to either move up the ladder and
become ISOs themselves or enter into some type of consortium where they
obtain equity in the merchants, it appears that ISOs will continue to
enjoy greater value from merchants than the originating sales agents.
** The information contained herein is for informational purposes only
and should not be relied upon in reaching a conclusion in a particular
area. The legal principles discussed herein were accurate at the time
this article was authored but are subject to change. Please consult an
attorney before making a decision using only the information provided
in this article.
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