Risk Management



 ISO ABCs: Keys to Making Money

by Phil Britt

Though sales and recurring revenues are the lifeblood of an ISO's business, some sales are best unmade.

Sometimes it makes sense to take on more risk in order to earn more money, some types of businesses and some types of individuals are prone to fraud leaving the ISO liable for chargebacks.

The ISO market is littered with the carcasses of ISOs that took on too much risk.
The adult entertainment business is one that has a high percentage of chargebacks, as do some retail businesses (i.e. mail order) in which delivery follows the purchase by several days or even weeks. In the latter case, the buyer sometimes rejects the merchandise when it arrives, leading to chargebacks. Low-cost jewelry and apparel are two types of items that have a higher percentage of returns than other retail goods.

When assessing risk, it's also important to take a look at a company's business practices. For example, one Internet Service Provider was slow to process credit card transactions for monthly service - about $20 per customer per month. The ISP went under, leading to millions of dollars in chargebacks for which the ISO was legally responsible.

Another good tip is to stay away from any business that seems too anxious to leave another ISO. If they're complaining too much about their current provider and saying they can't wait to do business with you, you'd better run, not walk, away.

In one such instance, a merchant complained loud and long about his current provider, but further investigation showed that the merchant himself was under Securities and Exchange Commission investigation.

Also, carefully investigate businesses that have had recent changes of ownership. While a change of ownership doesn't necessarily mean a higher chance of fraud, the ISO needs to conduct due diligence on the new owner, not only on the history of the business under the previous owner.


Most ISO-merchant contracts are fairly straight-forward, but the ISO agent should be able to explain the contract in laymen's language (rather than legalese) to prospective merchants.
This knowledge also helps the agent understand the relationship between merchant fees and the ISO's compensation.

Most contracts run anywhere from four to six pages in length, the length largely dependent on whether the fine print is included in the initial agreement or is in a follow-up document.

A merchant processing agreement involves three parties - the ISO, the sponsoring bank and the merchant. Many contracts are fairly standard with little change from ISO-A's contract with merchant A to ISO-B's contract with merchant B.

Contracts include basic information like name, address and name of merchant, with similar information for the ISO and for the sponsoring bank.

Contract duration is usually infinite, though in most cases either side has the right to terminate with a 30-day notice. In some instances, the contract terminates upon the sale of the merchant's business. In other cases, the merchant has the right to assign the contract to the new owner, though the contract may stipulate that the ISO must first approve the new merchant. "This right of approval can be important in limiting the ISO's and sponsor's risk," said Scott Calliham, senior consultant at First Annapolis Consulting, Linthicum, MD.
The fee structure is another important contractual element. The merchant's fees will be based either totally on a percentage of the transaction amounts, or on a percentage of the transaction amounts, plus per-occurrence charges for chargebacks, questioned charges (where a copy is pulled from archives) and other items.

The ISO's compensation may or may not include amounts for these per-occurrence charges.
Flexibility is the key in structuring compensation plans for ISOs, their agents and for merchant acquirer contracts, according to industry experts. The compensation plans directly or indirectly tie together various players in the industry, including ISOs, merchants, processors and sponsoring banks.

Obviously, the better the compensation plan, the better chance the ISO has of recruiting and holding onto its best agents. However, the best compensation plan for one agent may not be the best for another. While some will look for long-term residuals, others will want more money up front and are less concerned about recurring income. Often the structuring of agent compensation closely reflects the types of fees the ISO generates from its merchant contracts.

The frequency of the compensation is another important issue, said Paul Hunter, president of Sterling Payment Technologies, a Tampa, FL-based ISO that opened its doors earlier this year.

"We pay agents more frequently and faster than most other ISOs," explained Hunter. "We pay twice a month, rather than once a month. We pay within 10 days at the end of a pay period, rather than within 20 to 25 days."

The higher frequency of pay is important because agents want a steady income stream, which a monthly check doesn't provide, according to Hunter. Sterling Payment Technologies' agents can also qualify for bonuses for achieving certain production figures and for the quality and profitability of the business they generate. This enables the company to better reward its most valuable agents.

Incentive Program Considerations

Bonuses, contests and incentive programs can comprise a large percentage of an agents' income, but in order for the programs to work for all parties involved, it's important to follow a few simple rules:
Weekly contests tend to work better than monthly contests because salespeople tend to plan their days, then their weeks. They usually don't look at monthly planning cycles. Managers must monitor leads, meetings, etc. to make sure an agent who knows he won't hit the weekly goal doesn't delay closings a week just to try to win the following week.

Monthly contests can help boost production and agent compensation, if the contest is promoted throughout the month, not just at the beginning of the period. Create contests that require the ISO and its agents to hit certain goals (e.g., 30 total sales for the week and at least five sales per agent).

Make the contest goal easy to grasp and payable to the agent. For example, pay the agent an extra $50 for meeting goals, not a higher percentage rate. Don't just pay the ISO. Make sure the agent gets his piece. It has to be personal.

Another way to boost agent compensation and ISO profitability is through good training programs. Invest money and effort in training agents to be better salespeople.

Acquirer-ISO Agreements

Whereas the sponsoring banks often assume the risks, agreements between sponsoring banks, acquirers and ISOs are different from sponsoring institution to sponsoring institution.
The revenues from these contracts provide the monies from which to pay agents. In many cases, ISOs are paid upon the sales of these contracts.

Merchant-acquirer contracts tend to offer the ISO some percentage of the revenues, cash compensation for the account(s) or some combination of both. Each sponsoring bank has its own way of paying ISOs, added Scott Calliham.

Though offering the ISO a percentage of the revenues might seem to be the best long-term way to maintain an ISO relationship, and could provide more total revenues for the ISO, some ISOs prefer cash up front in lieu of a percentage of the revenues because they might need cash to build their businesses, Calliham said. Individual agents also have different preferences in how they like to be paid.

If the contract pays a percentage of the revenues, the acquirer might pay the ISO a percentage above a certain floor. So the acquirer might provide the ISO with all revenues above 1.5 percent. So if the ISO signs a merchant at 1.9 percent, for example, the ISO will keep .4 percent of the revenue.

The current trend is to offer ISOs equity in merchant accounts. "It's a very competitive market, there's a lot of demand for ISOs who send a lot of quality volume to an acquirer," Calliham said.

Building and maintaining that volume depends on an ISO's ability to provide differentiated services, according to Hunter.

"I think that to make it in the next 10 years, an ISO is going to have to offer more value-added services because processing itself is becoming a commodity," added Hunter. He pointed to web-based services and advanced technology terminals as a couple of value-added services.

Beyond the straight compensation for the ISO, the ISO-acquirer contract might also contain items like non-compete clauses, exclusivity rights and other details.

Non-compete clauses can prevent an ISO from trying to jumpstart his own acquisition business by recruiting merchants he's supplied to the acquirer during the course of the contract. Similarly, exclusivity rights enable an acquirer to secure all of the business from a specific ISO. However, such rights are restrictive to ISOs because they limit the ISO's sales outlets. So such a clause isn't common.

If the ISO has no ownership of merchant contracts, it usually has no liability in cases of [merchant] fraud, said Linda Ford, senior vice president and general counsel for CardSystems Solutions, a third-party processor based in Fairfax, VA.

Processors like CardSystems Solutions charge ISOs for their services, including invoicing, customer service calls, etc. Charges for these services are expenses that directly impact an ISO's bottomline, therefore affecting the amount that an ISO can pay its agents - the more that's spent on these administrative expenses, the less that's available for agent compensation. However, using processor services enables the ISO to concentrate on the business of selling to and servicing merchants - which generates revenue, rather than on the processing, which doesn't bring in any money.

Phil Britt is president of S&P; Enterprises, Inc. Mr. Britt is a regular contributor to Transaction World Magazine and has been published in various banking and financial publications.

back to articles