Payments Plus Q3 2021

Q3 2021

PAYMENTS PLUS

PAYMENTS GROWTH IS ACCELERATING

As the world begins to navigate out of the global pandemic, we expect the payments market to return to robust growth. The underlying factors that have driven expansion still hold — and the pandemic has amplified some trends, such as the shift to omni-channel and contactless payments. With secular tailwinds and asset-light business models in place, the payments sector will continue to support attractive valuation multiples in the quarters to come.

In our client work, we are witnessing significant disruption across the payments value chain, as formidable new competitors scale up and new business models emerge.

Buy Now Pay Later (BNPL) programs are addressing pain points in the way customers shop and pay online, and are becoming well established in many markets. Crypto is entering the mainstream, with activity spanning from consumers to central banks. Open banking is very much a market-by-market phenomenon, with rapid adoption of payment initiation services in some markets, such as Europe and Brazil.

In a sector as dynamic and rapidly changing as payments, every provider in the value chain needs a strategy that contemplates both organic and inorganic growth, including acquisitions, strategic alliances, and active participation in collaborative initiatives.

Oliver Wyman is helping companies navigate through this complexity. In this issue of Payments Plus, we outline a selection of recent client work from around the world.

As always, we welcome your thoughts and feedback.

Best regards,

Pablo Tramazaygues Partner, Madrid Payments Plus / Market Developments

MERCHANT SERVICES BUSINESS MODELS Q3 2021

+Strategic partnership +Value proposition differentiation

The European merchant acquiring space has Oliver Wyman was recently engaged by a evolved significantly in recent years. Traditional leading bank to review its merchant acquiring providers, notably banks, have experienced a business. The goal was to assess strategic options gradual loss of share in several mature markets, to reshape the bank’s value proposition and ceding ground to specialist acquirers with more improve its financial performance. We reviewed defined propositions targeting certain segments. the bank’s competitive positioning and the After a wave of consolidation, third-party investments required to achieve parity, along processors have the scale to further commoditize with the direct and indirect value of business core acquiring and focus on value-added services. customers that use merchant services. Companies with niche targets, such as micro-businesses, are also gaining share. The bank decided to adopt a different business model: It will retain its customer relationships In this context, banks have been forced to but will partner with a specialist for access to reinvent their acceptance businesses to its more cost-effective processing platform and stay relevant and competitive. Some of the innovative capabilities. We supported the bank largest European banks have partnered with in the process to find the optimal partner for international specialists or have acquired this new venture. key capabilities. Payments Plus / Market Developments

CHALLENGER BANKS Q3 2021

+Payments innovation +Debit card

Challenger banks have exploded onto the Oliver Wyman worked with a US challenger global scene. Startups such as N26, Revolut, bank to refine its new debit card go-to-market and Starling Bank have gained strong traction in strategy. We developed a set of scenario-based Europe, while Chime leads in the United States financial projections to illustrate the trade-offs with a nearly $15 billion valuation — greater than between different product, pricing, marketing, that of several US regional banks. Unconstrained and operational approaches. This analysis, by legacy technology, these startups have together with working sessions focused on outmaneuvered traditional banks with a laser operating model decisions, helped the company focus on a compelling user experience, and coalesce around a product strategy for launch. often tailor their proposition to underserved market segments. With more companies securing bank charters, and various brands looking to “bank their In the United States, many digital banks have customers,” we expect this area to become leveraged their exemption from Regulation II’s even more competitive in the future. interchange rate cap to fund expansive marketing and strong value propositions. Despite the rise of early leaders, the market remains unsettled and new entrants continue to emerge. Payments Plus / Market Developments

BANK PAYMENT PROCESSING Q3 2021

+Cost benchmarking +Business model design

Ever since the European Union capped A leading bank tapped Oliver Wyman to assess interchange rates on intra-region credit and the cost efficiency of its payment systems. debit card transactions, the revenue European We benchmarked the bank’s processing costs banks receive on most of their digital payments against peers, evaluated the system’s current volume has been curtailed. The rise of BNPL functionality, and assessed whether or not and card-not-present transactions, as well as the platform will remain fit-for-purpose as the newer developments such as the announcement industry evolves. of the European Payments Initiative (EPI), has put even more financial pressure on banks’ Working with the bank’s payments, technology, payment back-offices. and strategy leads, we evaluated the merits of different operating models. Recognizing In this environment, some banks have decided strength in payments processing as a competitive to outsource all or part of their payment advantage, the board approved a plan to invest processing activities in order to benefit from and expand the bank’s payments footprint. their partner’s greater scale. Conversely, in light of the recent bankruptcy of a large European payments outsourcer, other banks are committed to retaining control over this critical infrastructure. Payments Plus / Market Developments

INVESTING IN PAYMENTS Q3 2021

+Commercial diligence +Next-gen merchant acquiring

Investors continue to search for opportunities Oliver Wyman recently worked with an in the payments and fintech sectors, attracted by investment company to evaluate dynamics in strong macroeconomic tailwinds and continued the merchant acquiring market. As these trends outperformance relative to most other areas. play out, which companies are best positioned Within payments, one subsector — merchant to be the long-term winners? acquiring — is garnering special attention because multiple facets of the business are Drawing on our intellectual capital, we sized being disrupted simultaneously. the addressable market, evaluated market dynamics, and analyzed the competitive The provision of payment acceptance services to landscape. We concluded with a three to five small businesses is the most profitable segment year outlook, informed by extensive primary of the market, and the one that’s changing most research with more than 500 small business quickly. Businesses are moving away from banks merchants that detailed the path to purchase, and independent sales organizations (ISOs) to pain points, and evolving payments needs. tech firms and independent software vendors (ISVs). And the product is migrating from acceptance via “dumb” point-of-sale terminals to smart devices with software subscriptions, often customized to a particular vertical. Payments Plus / Market Developments

MERCHANT FINANCING Q3 2021

+Lending +Marketplaces

The pandemic led to a surge in ecommerce, Oliver Wyman supported a leading marketplace including transactions on marketplaces — online to explore a range of options to best meet this sites that match buyers and third-party sellers. need. The work began with proposition design, In order to meet this demand, a number of customer (merchant) journey mapping, and sellers required loans to finance an increase in business case development. This led to engaging their inventory. a number of potential financial services partners via an RFP process and, ultimately, selecting the Marketplaces are ideally positioned to serve preferred partner. this need, using their privileged access to seller data to underwrite loans. By introducing The merchant financing offer has now been merchant lending, marketplaces can deepen successfully launched, receiving very strong their engagement with sellers, drive inventory adoption and feedback. and incremental revenues on the platform, and develop a new revenue stream — lending commissions. Payments Plus / Perspectives OPPORTUNITIES IN CRYPTO FOR BANKS

Cryptocurrency is becoming increasingly mainstream, with market activity and consumer demand at record levels. Financial services providers and governments have legitimized crypto, and consumers increasingly view it as a means to earn, save, spend, and borrow. As a result, crypto user growth has accelerated.

Growth in crypto Consumers are adjusting users (Millions) their spending

Square saw 1 million users buy bitcoin for first time during January's upswing, CFO says — CNBC

Crypto traders on Robinhood jump six-fold to 9.5 million in Perspectives Q1 — Reuters

Crypto is tiptoeing into retail Bitcoin in your bank account? FIS, NYDIG partner to enable banking, driven primarily banks to offer their customers by fintechs such as Square, the ability to buy, sell, and hold Coinbase, and Robinhood. Bitcoin — BusinessWire Banks have an opportunity to compete by making Established platforms such as Coinbase and Robinhood retail banking applications have spurred retail consumers' interest in crypto. Now, a that include crypto more new wave of fintechs — such as BlockFi and Celsius — have mainstream, with the potential to generate additional revenue begun to offer new products, enabling consumers to in the meantime. Banks can do earn cryptocurrency through credit and debit cards, and this relatively easily through savings accounts. They also allow consumers to use their white label offerings, but need currency either to trade on margin or as collateral for to be aware of the risks. other lending purposes. Q3 2021

Explosion of participants in the crypto ecosystem

While fintechs have been first to market retail crypto offerings, there is an opportunity for banks to make these offerings mainstream. Research suggests that existing crypto holders lean toward buying crypto services from banks, and would be willing to switch their primary bank based on its crypto offering. If banks offered bitcoin products, it could open up a large market of customers who are not holding bitcoin today but would if they could do so through a trusted, existing financial relationship.1 2

Banks have experienced outflows to crypto-native startups but have the opportunity to flip the narrative and generate more engagement with their customers and a new way to boost revenue. Emerging white-label crypto solutions, such as the one announced by FIS and NYDIG, mean that banks can avoid long and costly internal builds and instead rely on their existing core or online banking providers. In this way, banks do not have to provide technology or hold crypto on their balance sheets, avoiding the potential 1,250 percent risk weighting of crypto assets.3 The crypto arena is not without risks; banks and other providers should carefully consider these before entering any market.

1 NYDIG Bitcoin & Banking Survey (2021). 2 Cornerstone Advisors Survey (2020). 3 Basel committee announcement on capital treatment of crypto assets (https://www.bis.org/press/p210610.html). Payments Plus / Insights THE DEBIT CARD TRANSFORMATION

2020 was the year of many firsts as the pandemic radically changed the debit payments market. Debit transaction volumes contracted for the first time as cardholders made fewer but larger purchases. Card-not-present purchases exceeded card-present activity for front-of-card networks for the first time, highlighting a secular shift to digital.

Contactless Payments The number of tap-and-go contactless debit card transactions increased by more than six times in 2020, driven by both higher penetration of contactless cards and more tap-and-go transactions performed on these cards. However, total near-field communication (NFC) use remains low overall. Insights

Oliver Wyman conducts an annual study of US debit issuers, collecting data from a representative set of financial institutions on the most critical developments in debit payments. The 2021 data set includes 48 financial institutions, from large national banks to regional and community banks and credit unions. Collectively, these organizations represent about 40 percent of the entire banking market in terms of debit card transactions. Q3 2021

The interplay between contactless cards and mobile wallets is a hotly debated topic among card issuers. While some issuers believe greater penetration of contactless cards will have a positive impact on mobile wallets due to consumer familiarity and adoption, others think contactless cards are likely to cannibalize mobile wallet transactions.

Mobile Payments About 20 percent of consumers have enrolled their debit cards in mobile wallets. Approximately two billion mobile wallet transactions were made using the three Pays (Apple Pay, Samsung Pay, and Google Pay) in 2020 in the United States, 57 percent of which were made in-app, with the rest being in-store contactless transactions.

Across every metric — enrollment, active rate, and usage — Apple Pay leads Samsung Pay and Google Pay. Payments Plus / Oliver Wyman Reports OLIVER WYMAN REPORTS

Oliver Wyman publishes a broad range of points- of-view across industries. A sample of our recently released intellectual capital is shown here.

The report images are hyperlinked. Please click to view or download the document.

Competing For Growth Central Bank Digital Currencies

Caught In The Reset4Value: Four Prisoner's Dilemma Unconventional Actions For Insurers To Improve Growth Q3 2021

Have We Come Far Enough? Managing Change Risk A New Dawn For Digital Currency

Oliver Wyman Forum Climate Transition Is E-Commerce Good Global Cyber Risk Literacy And The Fed For Europe? And Education Index Payments Plus / Celent Reports CELENT REPORTS

Celent, a division of Oliver Wyman, is the leading subscription research and advisory firm focused on financial services technology.

Demystifying Embedded Expectation Versus Finance: Promise And Peril Reality For Payments For Banks Data Monetisation

AI Driving Game-Changing Experian Verify Competitive Differentiation Q3 2021

P27: A Nordic Magiccube I-Accept: State Of Digital Customer Payments Revolution Reinventing Payments Acquisition: Much Acceptance With Software Work Remains Defined Trust

Oaknorth Credit Intelligence: Becoming An Agile Bank Ensuring Payment Systems Reinventing Credit Analysis Resilience: Mission Critical, And Monitoring With Not Mission Impossible Machine Learning Payments Plus / Events EVENTS

The Merchant Advisory Group (MAG) is the leading payments-focused association for merchants in the United States.

In August, Beth Costa and Neeko Gardner will host a webinar on how younger consumers (Gen Z) prefer to pay and shop, and the implications for merchants. They will preview proprietary data and insights during the webinar.

Oliver Wyman will also present at the MAG Annual Conference in September. Rob Mau will lead a session on managing payments partnerships, while Beth Costa will moderate a merchant-only Special Interest Group (SIG) on customer experience.

Money 20/20 is the largest industry event focused on the payments, banking, and fintech sectors. Oliver Wyman will share perspectives at the conferences in Europe and the United States.

September 21-23 | Amsterdam Tony Hayes will moderate a panel discussion on the Future of Payments Infrastructure in Europe. His panelists will include Martina Weimert, CEO of The European Payments Initiative (EPI), together with leading European banks and payment processors. PAYMENTS + Brand

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