Cover Story
A YEAR LATER...
HOW ARE WE DOING?

by Phil Britt

   It's likely to be a cliché, especially a little more than a year after the incident, but there's probably no better way to put it. Sept. 11, 2001 is (another) day that will live in infamy.
   Beyond the horror that most experienced while watching the events of that day unfold, the disruptions of all businesses and failures of some and the quick sell-off in the financial markets, there have also been profound lingering effects. There's tighter screening at the airports, a heightened awareness of security (and potential security breaches), fraud, as well as various effects on the payment industry, including the ISO business.
   Fraud and money laundering are under additional scrutiny in the payments industry. Fraud is suspected to be one of the funding sources for terrorist groups, as well as for some other criminal activities, said Stan E. Belitz, Vice President of Security and Risk Management for MasterCard International.
   The attacks also deepened the recession that started six months earlier. The economy started picking up the first part of this year and has slowly been gaining steam, with a couple of starts and stops, over the last few months.However, some small businesses have yet to recover, and many ISOs are continuing to feel the negative trickle down effect, according to Harold Montgomery, President of Calpian, Dallas, Tex.
   "The economy was already slowing down before Sept. 11," Montgomery said. "As a result of what happened then, everyone became more hesitant, particularly in retail, where there was a great slowdown. The economy quickly went from bad to worse. Small businesses, which are the bread and butter for many ISOs, were hit worse than the rest of the economy. Some of these trends make it very difficult for ISOs."
   Mony Zenou, President and CEO of Lipman USA, agreed.
   "We lost the ETA show last year, because it had been originally scheduled to take place in September, which was right after the attacks," Zenou said. "Last year was a very difficult one for the industry. We were already experiencing a slowdown in the economy before September 11."
   Some of that slowdown was due to the recession that started in the spring, while technology-related firms contributed to the falloff because they suffered from the sharp downturn in telecommunications and related companies, and there were other contributing factors as well.

Rebound for Equipment Vendors

   This year, on the other hand, has resulted in a strong rebound for many equipment vendors including Lipman USA, according to Zenou. He said that part of the reason for the poor showing in 2001 was a very strong "bubble" year in 2000 that was very profitable for many ISOs and vendors. So 2000 was bound to show a drop-off even without the events of Sept. 11.
   The attacks and continuing trouble in the Middle East may even have served as a rallying point for the Israel-based company, Zenou added. "It gave others some sense of what the people in Israel are going through. It led to more of a family feeling in the industry. We had a lot of support."

Contingency Plans Reviewed

   There were some concerns as well, Zenou admitted. Some customers wanted to know the company's contingency plans. Those plans were in place before Sept. 11, so any customer fears have been quickly eased, Zenou said.
   Many companies, merchants and ISOs have contingency and disaster recovery plans in place, but others don't. Either way, undoubtedly, many have reviewed those plans since the terrorist attacks, which led to quick concern about the continuity and protection of credit card and other financial information.
   Though Visa and MasterCard didn't have any data centers at the buildings that were destroyed, the entire American Express headquarters was demolished. Even so, holders could still use their American Express cards across the country. After operating out of New Jersey for several months, American Express has since opened new corporate headquarters near Ground Zero.
   More likely than a terrorist attack is a power outage that disrupts a terminal's operation. There are few credit card terminals that offer much in terms of backup potential, according to Matthew Hanis, Executive Vice President for Centrics Technology, a St. Louis, Mo-based merchant and credit card processing consulting firm. Many of the point-of-sale cash registers, on the other hand, offer internal battery backups that provide about one hour of power.
   Merchants, particularly those with multiple POS terminals and multiple locations, rely more on dependable equipment than ever before. That's why many equipment buyers insist on service level agreements that promise certain levels of "up time" for devices. A verbal promise is no longer good enough.
   Additionally, as the POS equipment becomes more complex, there are more potential causes of failure, including power outages and network crashes.
   ISOs may be able to deepen their relationships with merchants by advising them on backup systems and contingency plans, even if those plans are as simple as maintaining "knuckle-buster" terminals and supplies for power outages and other emergencies.

Some Face An Uphill Climb

   Enhancing relationships with merchants is particularly important now because many ISOs are still facing stiff business challenges. Even though Zenou pointed to Sept. 11 as the bottom of an economic cycle, Montgomery said that many ISOs are still fighting a slow small business market, consolidation in their own businesses and more durable than expected older terminals.
   Though there are some signs the economy is on the rebound, that strength has yet to reach the smaller businesses, Montgomery added. Much of the current strength in the economy comes from giants such as Wal-Mart and BestBuy, which present little business opportunity for ISOs, and the still strong housing market, which doesn't benefit ISOs at all.
   "I'm not convinced the economy has rebounded in many areas," Montgomery said. "There's little new business creation and ISOs are still suffering from pricing pressure from warehouse stores, which are selling (low-priced) equipment."
   Other parts of the economy have also lagged. National Processing Center, Inc., Louisville, Ky., pulled out of the airline business immediately following the attacks. Though the attacks affected all ISOs, those with a heavy concentration in the airline and travel business saw precipitous declines in those industries.

ISO Opportunities

   The post-Sept. 11 world offers some opportunities for some ISOs, but others are facing challenges in the current economy.
   Larger ISOs can continue to deal from a position of strength and can take advantage of a relatively weak business for mid-sized ISOs, some of which will be looking to sell their businesses. Small ISOs can use the combination of lower relative overhead and good customer relationships to continue to be profitable. However, many mid-sized ISOs are falling by the wayside.
   ISOs should focus on building their equity and residual income streams and on selling non-core parts of their businesses. Many experts suggest that ISOs look to expand their business relationships with current customers by offering prepaid cards, loyalty programs, etc., in addition to the POS terminals and processing.
   Zenou added that some ISOs could find additional opportunities by offering signature capture, check truncation, wireless capabilities and Web-based programs to current customers.
   The attacks were also the catalyst for the CheckTruncation Act. Checks couldn't be cleared for several days after the attacks because planes, including those transporting checks, were grounded. With the Check Truncation Act expected to pass sometime next year, truncation could very well provide additional opportunities. Hypercom and other vendors are developing systems to take advantage of Check Truncation Act-related changes.
   There may be another untapped revenue source in age and name verification, according to Zenou, who foresees the day that ISOs offer the ability to scan driver's license and other forms of identification with POS or related devices. This could provide additional business from establishments selling liquor, tobacco or anything else where age verification is necessary.
   A few different POS manufacturers are starting to add biometrics to devices for identification purposes. Biometrics are also being added to ATMs for security and legal reasons ­ speech recognition is being added due to the American with Disabilities Act.
   There could eventually be a market for POS-type devices to be used for identity verification at airports.
   Though fraud is a concern, the cost of fraud has yet to hit the level that it will drive merchants to smart card-enabled or other new, value-added equipment.
   Wireless POS devices are still in the "early adopter" stage and have yet to be accepted by the mass market. So wireless POS might provide some additional business opportunities for ISOs, but only in niche markets. Another potential opportunity for ISOs could be POS-enabled wireless phones, though these devices are just coming on the market and are largely untested.    Wildcard Wireless Solutions, Vancouver, British Columbia, is working with Motorola and several other mobile phone makers to develop POS terminals that attach to mobile phones. The devices will be marketed primarily in the U.S. beginning in the second half of 2003.
   Yankee Group, Boston, Mass., also predicted that POS-enabled wireless phones will be used for vending machine purchases and other non-conventional uses in the next few years.
   However, Yankee Group analyst, Adam Zawell, said that POS-enabled mobile phones would be more limited in their capabilities than more traditional POS terminals from companies like Hypercom, Lipman, Verifone and Ingenico.
   Therefore, in some instances, the merchant will be better off staying with a more traditional POS terminal. The POS-enabled phones will be of more use for someone who wants a phone that can occasionally be used as a POS device, rather than by someone needing a POS device that sometimes can be used as a phone.

Business Re-evaluation Recommended

   Barry Davis, Senior Consultant for First Annapolis Consulting, Linthicum, Md., recommended that ISOs should look to Sept. 11 as a reminder that they should have solid business plans, with diversification among types of businesses so they don't get hit like NPC did.
   While niche markets might provide good opportunities for some ISOs, there are potential pitfalls as well, according to Davis. If the ISO's niche is too narrowly defined, the ISO may not be able to survive when a particular economic sector ­ like airline and travel ­ suffers a downturn. Diversification among types of businesses helps an ISO smooth out the inevitable ups and downs within specific business sectors. Therefore, diversification should be part of an ISO's business plan.
   ISOs with marginal businesses can't weather a business downturn as well as those that have strong revenue and profit streams, Davis added. He agreed that ISOs should build their businesses around recurring revenue streams.
   Additionally, ISOs should keep an eye on changes in the economy so that they can pull out of underperforming industries and take advantage of growth of up and coming businesses, Davis advised.
   With those businesses that are growing in the economy, ISOs can take advantage of merchants' continuously growing payment needs, Zenou said. "Consumers continue to use less cash and more credit cards, so more businesses need more [POS equipment and services]."
   While the terrorist attacks certainly had a devastating effect on all businesses in the last quarter of 2001, many are well on their way back, showing the resiliency of the U.S. economy and American merchants, said O.B. Rawls, President of Hypercom North America. While many businesses did shut down during the recession ­ which the terrorist attacks helped deepen ­ many of those owners have since started new ventures, according to Rawls.
   Montgomery countered that the rate of new business creation is down, so ISOs need to look elsewhere for opportunities.
   Rawls also said that many of today's terminals are nearing the end of their useful lives. Therefore merchants will be looking to replace their current devices, providing re-sale and upsale opportunities for enterprising ISOs. Hypercom and other vendors are also working with check conversion, biometric and other technologies that could provide opportunities for ISOs.
   Many experts don't see much potential business from replacement alone, however. Today's terminals are very durable, so they don't fail for several years. Therefore, merchants need a compelling business case to replace their terminals because most of them will work for several more years under current conditions.
   So, while the devastation of Sept. 11 will hopefully never be seen again, there are challenges and opportunities for ISOs as they head into the last quarter of 2002.