Cover Story

by Chris Bucolo

   This article deals with the basic elements needed to attack a longtime industry problem: the effective measurement and management of attrition. This article also deals with recent developments in the area of predictive modeling, as well as practical steps that have been successfully utilized to improve customer retention efforts, both proactively and reactively.

Background/Current Status

   There are players in the industry who have attrition measurement and management programs in place. However, the overall level of sophistication and effectiveness of these programs is highly inconsistent across the industry. Attrition is not only an unglamorous topic but a subject that few admit to or willingly discuss in terms of the amount of churn they see within their portfolios.
   The simple truth about attrition is that it is like having a bucket with a sizable hole in the bottom. You must work harder (i.e.-spend more) to get new business than you would to retain the business that you already have. Every dollar lost to attrition drops right to the bottom line.
   Let's look at a simplistic example just to make our point. An ISO maintains a portfolio of 1,000 merchant accounts. If the ISO stops booking new accounts at that point it has what is known in accounting as a wasting or attriting asset. This simply means that if you leave it alone, your entire stream of revenue will go away over time. The higher the rate of attrition, the quicker it goes away.
   We have also assumed the following for this example:

  • $100,000 annual volume per merchant
  • 35 basis points Net Revenue earned on volume
  • 5 year analysis period
  • Valuations vary within a range of multiples to monthly net revenues.

   It is my belief that very high or very low attrition can push out the valuation boundaries in either direction as is evidenced in the following valuation example.

Potential Valuation Example

 Annual Rate
 Of Attrition


 Monthly Net
 Revenue Multiples

   15%  $349,999  12X  
 20%  $175,002  8X

* The chart represents potential examples of portfolio valuation at a point in time. It does not necessarily reflect the overall potential value of an ISO based on distribution potential or the possession of a unique set of products and technology.

   The surprising reality about attrition is that there are many practical steps you can take to significantly reduce your lost revenue and improve the valuation of your business. Many people do not know how to get started or what steps to take.

Key Questions & Issues

   Have you looked at factors such as age of accounts, margins, types of accounts that you have concentrations of? For example: You may have a very high level of attrition of relatively new customers. This situation requires you to address a completely different set of factors than for accounts that run-off after 5 years. Did you acquire a portfolio from another source and inherit a group of accounts that have been on the books a long time, but have been given very little attention?
   I advocate that you do more than look for a "stop-gap" way to stem the tide of attrition. You want to build fences around your most profitable customers and either improve the profitability of non-profitable or marginally profitable accounts or encourage them to attrite.
   Many financial service companies have learned over time that simply cross-selling an additional service does not, in and of itself, create more profitability in a relationship. In some cases you are simply adding a service that costs you money but does not generate the margin you need. The way services are bundled can increase your attrition risk if dissatisfaction with some aspect of your service occurs. For instance, in the merchant acquiring business a great example of this has been bundling check guarantee services with credit card services. However, fee structures, training for sales and service people and overall user-friendliness also contribute to whether or not the customer thinks your program is a good one.
   One of the big dilemmas in the acquiring business has always been the inverse logic of service attention. The smaller accounts generate bigger margins but do not account for much revenue on an individual basis. The largest accounts have the smallest margins but create scale that offsets operating expenses as long as they are at break-even or above.
   How do we take better care of higher margin accounts and protect the bottom line while still coddling the largest clients, all without a huge increase in expenses? Surprisingly, that very thing can be accomplished at a relatively low cost. It requires a plan and follow-through based on things that are proven to work.
   What do I do to protect myself if I have a concentration of volume through just a few accounts? It is an imperative to work through this situation as soon as is possible through proper diversification of revenue sources. In today's market the clients have too much leverage to squeeze margins if they know their status in your portfolio. A plan must be developed to decrease reliance on those few customers.
   In relation to the above point, the question you need to address is: "Can we offer something truly unique or operate in a niche that others have avoided"?

Real Results

   Though it is true that a true predictive model for attrition has not existed in the marketplace in the past, I have participated in retention programs that have had a real impact on the bottom line.
   We simultaneously started to analyze attrition data from our existing portfolios and implemented a re-active retention program for customers who had even hinted that they might be dissatisfied with their arrangement in some way when they called in to customer service or elsewhere in the organization.
   By empowering a specially trained group dedicated to customer retention we were able to achieve a 16% improvement in customer retention in a relatively short time. The bottom line savings was substantial (seven figure revenue savings in a single year), especially when you consider the lifetime value of a customer. An additional benefit was that we locked the clients into new contracts with early termination fees. The proper use of early termination fees is one of the real keys to walking the line between using your merchant contract as leverage and getting accused of heavy-handed tactics. Even though we in the payments business do not have the same environment as a direct to consumer sale, recent high profile cases in which customers made accusations of abuse are worth noting.
   Reactive retention programs involve taking specific steps, in many cases simple ones, that stem the tide of attrition.
   A plan must be developed to empower employees in order to improve customer retention, while still maintaining management control over profit margins. A commitment to customer retention should be fostered by top management; and it should become part of your company's culture.
   The real controversy with attrition management is the creation and use of predictive attrition data. The debate seems pretty straightforward on the surface: "Unless I have confidence that the predictions will come true with an acceptable margin of error, why should I pro-actively give up margin on the hope of retaining an account?" On the other hand, if you cannot do something before a merchant's processing volume begins to decline it is usually too late to save the account.

Additional Information to Consider

   There has been clear evidence that mono-line companies in industries experiencing extreme price competition and commodity-like products have given pro-active givebacks to the customer. The consumer wireless and long-distance phone markets serve as good examples. Do those companies have evidence of which customers are more likely to switch services? We suspect only on a limited basis, if at all. Yet they feel compelled to give the customer some kind of offer from time to time that appears to lower the cost of using their service. Recently, there has been more evidence that any offer to reduce costs is tied to a new service contract commitment with at least the threat of early termination fees. Does it make sense to give up margin in our business without knowing how much we would lose if nothing was done? In general the answer is no, unless you have some obvious situations within your portfolio where pricing or service problems are causing high run-off and you know you have to do something. Otherwise, we advocate a much more surgical approach to margin giveback.
   Assuming the Acquirer takes advantage of a truly predictive attrition model, they are able to utilize a pro-activeclient retention system. This system will involve the following:

  • Target specific portions of the portfolio for proactive pricing givebacks designed to maximize retention and extend contract length,
  • Target other portions of the portfolio for no action or rate increases depending upon data analysis,
  • Implement customer retention initiatives designed to make the clients feel like they are getting the best possible service for the money they are paying. These programs need to be designed based on your business model and what has been successful in the industry, and
  • Provide ongoing reporting on the results of pro-active retention programs.

   There is no one solution to attrition problems in the Acquiring industry that will work for every customer type. A solution for any business starts with an analysis of what has been happening within your portfolio. What are the attributes of your portfolio that may lead you to believe you will have more or less attrition within the make-up of your portfolio? If you have very low attrition then it becomes a matter of determining the elements needed to keep your customer retention very high. An analysis of your customer handling process may show you some things you will want to tweak. Keep in mind that the acquisition of a new portfolio can greatly affect the dynamics of attrition within your overall business.
   It will be a different analysis for every business based on size and portfolio make-up. A really interesting question becomes "how do I manage risk and fraud in relation to my customer retention efforts?" You need to make sure that the proper system is in place to treat each situation properly in order to protect your bottom line.
   It is my belief that as this industry evolves we will see a much more advanced approach to attrition measurement and retention management programs. Only time will tell if this crucial issue is brought to the forefront of running a successful business in the Acquiring industry.