The McKinsey Global Payments Map: A global eye on local opportunities

The McKinsey Global Payments Map: A global eye on local opportunities

Worldwide payments revenue eclipsed $1 trillion in 2008, capping a long period of impressive growth. The prospects for continued growth vary greatly from one area of the globe to another, however, and payments trends and preferences in one country can be very different from those in neighboring markets. Consequently, the best insights often come not from the market next door but from one on the other side of the globe.
Vijay Agicha Olivier Denecker Yran Dias Glen Sarvady

Global perspective on payments: The McKinsey Global Payments Map, McKinsey on Payments, April 2009, and Opportunity in diversity: Insights from McKinseys Latin American Payments Map, McKinsey on Payments, September 2009. On a constant dollar basis; over 13 percent in nominal U.S. dollar terms.

The McKinsey Global Payments Map is a unique analytic tool for generating insights into emerging opportunities in diverse markets worldwide. It draws on data and expert knowledge from 43 countries comprising more than 90 percent of world gross domestic product (GDP) and roughly 95 percent of worldwide payment revenues. By applying consistent definitions and measurements across disparate geographies, the Global Payments Map provides a foundation for plotting payments strategy. This article builds on findings discussed in previous articles1 and leverages the Global Payments Maps significantly expanded scope, which now includes counterparty dynamics, among other additions. We take a broad sweep across the payments matrix and examine discrete opportunities for banks, nonbanks and processors to pursue compelling returns by more actively managing the transition from paper to electronics.

Four major regional payments markets Emerging market growth is changing the balance among the regional payments markets, as Asia-Pacifics rapid revenue growth is projected to place it on par with Europe and North America within three to five years (Exhibit 1, page 4). Revenue growth in the more mature European and North American regions was understandably more moderate in 2008, with Europe buoyed by rapid growth in Eastern Europe and strong interest margins across the continent. Latin America remains the smallest region in terms of revenue, but its 23 percent compound annual growth rate (CAGR) between 2006 and 2008 in total payments transaction value leads all regions, and the continent is particularly robust in card activity. Overall, worldwide payment revenues increased by roughly 6 percent annually from 2006 to 2008.2 The 2009 data are likely to

McKinsey on Payments

October 2010

Exhibit 1

Global payments revenue surpassed $1 trillion for the first time in 2008

Payments revenue U.S.$ billions

North America 302

Europe 309 Rest of World1 ~77

Asia-Pacific 248

Latin America 72
Rest of World includes the Middle East, Africa, Russia and other un-modeled countries Source: McKinsey Global Payments Map
1

show retrenchment and restructuring across all regions, although such upheaval can itself be the source of targeted opportunities. The electronification opportunity The heavy reliance on cash in most societies represents a huge opportunity for banks and non-banks. To help visualize this opportunity, it is useful to compare population and transaction volume. The populous Asia-Pacific region (62 percent of global population) is rich in payment activity, but this has translated to only 21 percent of global noncash transaction volume. By contrast the U.S., with 6 percent of world population, accounts for 10 percent of payments, 35 percent of non-cash payments and nearly 30 percent of payments revenue. The global perspective on cash usage clearly highlights an important opportunity for banks and non-banks. A closer examination of local market activity indicates that overall percapita transaction volumes are remarkably consistent and largely independent of country-level affluence. In addition, wider adoption of non-cash instruments is correlated to

economic prosperity. As economies become more prosperous, they tend to increase their use of electronic instruments, and the availability of non-cash instruments helps in turn to facilitate new commercial activity. While increased use of non-cash instruments does not by itself lead to economic growth, it is one of the attributes of more efficient, transparent and prosperous markets. The global payments map: Targeting five areas of strategic value The Global Payments Map uncovers strategic opportunities for banks, non-banks and processors seeking higher returns in fastchanging markets. This article covers five of these strategic options.

1. Understanding fee composition as both a reflection and driver of customer preferences

Global payments revenues are composed of approximately equal amounts of fees and interest income; Europe is the only region where balances play a significantly larger role than fees (Exhibit 2). Business-to-business (B2B) transactions in Asia-Pacific ac-

The McKinsey Global Payments Map: A global eye on local opportunities

Exhibit 2

Revenue drivers differ strongly by region

2008 payments revenue U.S.$ billions

U.S./Canada Current accounts consumer Current accounts commercial Credit card issuing 76.2 Europe 145.5 Asia 84.3

Fee income Interest income Latin America 27.8

43.5

110.5

105.7

10.2

147.2

41.3

49.4

27.4

Card acquiring

18.5

9.7

6.6

5.4

Other1

16.1

2.4

1.9

0.8

Includes prepaid cards, electronic money transfer, book entry transfers, e-wallet, etc. Source: McKinsey Global Payments Map

Total

301.6

309.4

248.0

71.5

count for 86 percent of the regions payments flows3 and commercial balances remain the single largest source of revenue, but the importance of consumer balances is increasing. Credit card fees and balances will likely remain the leading drivers of North American revenue in the near-term, despite recent downward pressure on credit card revenue exerted by reduced consumer spending and regulatory changes. Latin America combines characteristics of other regions: credit cards generated the most significant share of its revenue in 2008, as in North America; however, the sizable contribution of consumer current account balances also suggests an affinity with the European model. The types of fees by which banks are compensated by customers vary dramatically as well, not only by region but by country (Exhibit 3, page 6). In markets with more varied fee composition customers tend to be heavier users of non-cash instruments, underscoring the point that increased reliance on non-cash instruments generates new, diversified fee revenues. By contrast, fees in

cash-intensive Brazil and Japan are concentrated more heavily on account maintenance and transactions, respectively. One-time fees are less common globally, but markets with higher use of revolving balances (e.g., the U.S. and U.K.) also tend to generate more revenue from such exception-based fees. Pricing structures clearly affect customer payment behaviors, and banks need to think strategically and comprehensively about how to optimize cost and revenue across the portfolio of liquidity and transaction services. Extremely fee-intensive strategies in some cases may actually generate excessive costs by encouraging the use of less efficient instruments (e.g., cash and checks). When launching new technologies and product innovations (such as prepaid, credit transfers and ATMs) banks must consider where they incur costs and how to grow revenue across the full product portfolio. To optimize value over the course of the transition from paper to electronics requires carefully thought out strategies in discrete areas of payments activity, both B2B and consumer-to-business (C2B).

By comparison, B2B transactions account for 83 percent of value flows in Europe but only 72 percent in North America.

McKinsey on Payments

October 2010

Exhibit 3

The composition of fee-based revenue varies dramatically by country

Share of 2008 fee revenues1 Percent

Total U.S.$ billion 14 1% 133 11 8 15% 33% 37% 18 3% Penalty/Incident Maintenance (annual, monthly fees) Transaction-based

18%

7% 49% 18%

65%

81% 60% 45% 36% 32%

Includes account and card fees for both consumer and business/government Source: McKinsey Global Payments Map

Japan

United States

United Kingdom

France

Brazil

2. Leveraging checks where they remain an important source of value

Checks still matter in some markets. While global check transaction volumes declined by more than 7 percent CAGR from 2006 to 2008, the aggregate value of check payments rose in dollar terms in several countries, most prominently India, South Korea and China.4 In China and South Korea, checks are used primarily by large corporates, as reflected in the average value of check transactions. In China, average check value is $41,000 (25 times greater than in the U.S.). In South Korea, a highly evolved credit card market, consumers prefer credit cards for day-to-day purchases but use checks for large purchases such as automobiles. Banks and processors in these markets have ample incentive to optimize the value of check services in anticipation of the inevitable transition to electronics (being driven by developments in cross-border and domestic trade). In China, for example, which accounts for roughly a quarter of global check revenues, a pay-

ments processor may step in to centralize check operations and provide enhanced reporting capabilities. Such a move would help banks shed costs while at the same time protect (largely float-driven) check revenues. While some markets shift gradually from checks to electronics, others leap-frog directly to more efficient platforms. Following Indias recent launch of a modern electronic platform, small and medium enterprises (SMEs) traditionally the countrys heaviest check users are abandoning checks in favor of electronics. In Vietnam, checks have all but disappeared following improvements in the electronic clearing system. Credit transfers now clear in one or two days, as compared to three or four for local checks and four to seven for inter-city checks. Consequently, businesses have rapidly abandoned checks, taking advantage of electronic transfers to improve cash management. In addition to providing an alternative to checks, the design of electronic platforms should include cash displacement as a core objective.

Contrary to the trend in volumes, worldwide check value flow increased in the same period. Some of this increase in value can be attributed to exchange rates (all values are reported in U.S. dollars) but there is still an anomaly at work.

The McKinsey Global Payments Map: A global eye on local opportunities

3. Targeting B2B cash transactions as low-hanging fruit for banks

The role of cash as the vehicle for the solid majority of global transactions is well documented. The Global Payments Map reveals surprising pockets of cash activity in B2B transactions, fertile ground for electronification. Cash is the preferred instrument in a variety of B2B contexts, including transactions between small farmers and distributors, or small retailers and their suppliers. In Latin America, 72 percent of B2B payments (by volume) are made in cash. In some Asia-Pacific markets, B2B transactions alone account for as much as 27 percent of the total value of cash payments. In China, for example, many SMEs prefer cash, transacting only the most important payments through the electronic payment systems (as indicated by the high average value of credit transfers: $117,600).

menting new pricing on cards. However, as long as sellers consider tax implications to be part of the cost of accepting non-cash instruments, the desired migration from cash will remain challenging. In many cases B2B cash transactions occur in the context of well-established, long-term commercial relationships, for which credit transfers are well suited. However, delayed funds availability and high fees clearly dampen uptake in some markets. Reducing float on credit transfers in Italy, for example, would likely put a dent in a highly profitable payment system, but it might help promote greater use of credit transfers among Italian businesses, which are currently still quite cash-intensive. While credit transfers offer important advantages (e.g., security, improved accounting and reconciliation), the combination of prompt clearing and attractive pricing may not be sufficient to draw small businesses away from cash. Cash offers advantages that are difficult to quantify: cash transactions are simple, final and perceived to be low-cost; they reinforce business relationships through face-to-face interactions and can help businesses shield their tax liability. Competing successfully against cash usually requires a combination of branding and education in addition to attractive functionality and pricing. Credit cards are potentially a more promising way to reduce cash in B2B transactions, particularly among the vast population of small merchants and their SME suppliers. Suppliers can use wireless hand-held card readers in remote locations, as long as a cellphone signal or Internet connection is present, so card transactions can be either face-to-face or remote, depending on the level of trust among counterparties. While finality and settlement are delayed, evidence of transactions is immediately available. What is more, cards are tactile, carry a brand and bestow status, and help businesses control costs. An important factor in the success of corporate cards, which in the U.S. have displaced petty cash and lowvalue checks, has been the ability to monitor and control spending. By weighing

Should they succeed in coaxing small businesses away from cash, banks stand to earn new fee revenues from additional noncash payment volumes and potentially from value-added reporting services.
Should they succeed in coaxing small businesses away from cash, banks stand to earn new fee revenues from additional non-cash payment volumes and potentially from value-added reporting services, provided they can design pricing structures that optimize the benefits to all players businesses, consumers, banks and (in some cases) government. Excessive disputes over interchange fees, for example, can weaken the ultimate impact of cards on cash usage. In some markets, banks may be able to exercise more leverage through pricing. In Germany, where the total cost to merchants of card acceptance (including terminals, processing, collection and interchange) is relatively high and cash use is also unsurprisingly high, a significant step toward increased electronification could be taken by imple-

McKinsey on Payments

October 2010

lessons learned in diverse markets, banks (be they local, regional or global) can gain an advantage in adapting corporate card strategies for new markets.

4. Adjusting card strategy with the aim of displacing cash

Cash unsurprisingly dominates C2B payments as well in most parts of the world. In markets as diverse as the U.S. and Turkey, credit and debit cards have begun displacing cash in micro-payments, with the help of contactless technology. In Uruguay, credit cards have been linked with mobile phones to similar effect. In addition to upgrading card features, banks should revisit pricing as part of an overall strategy to boost card usage. The Global Payments Map can be used to compare pricing, volumes and revenues across products and markets, which can identify opportunities to adjust pricing and influence customer behavior.

ing model is not simple, as banks must implement monitoring tools and work out processes to avert the potential for a substantial rise in delinquency ratios. One critically important measure would be to differentiate pricing according to the risk profile of card holders. Customers (whether consumers or businesses) are often reluctant to change their payment behaviors, so another thing banks could do is educate customers on the benefits of cards and consider providing incentives side by side with attractive pricing.

5. Leveraging prepaid cards to extend the footprint

Prepaid cards hold the potential to extend financial intermediation to the vast segment of the worlds population with limited or no access to the banking system. However, most prepaid initiatives have so far focused on displacing cash (and checks) in transit purchases, employee wages, and gift and travel vouchers. In Malaysia, Touch n Go cards, used for highway tolls and public transportation, have made prepaid the most frequently used non-cash instrument, with 51 percent of non-cash transaction volume (but only 1 percent of non-cash transaction value). Similarly, contactless public transit initiatives in Singapore (with its Symphony card) and Hong Kong (with its Octopus smart card, at 95 percent penetration) have made consumers in these markets the most intensive users of non-cash payments in the world (followed by New Zealand, Iceland and the U.S.). In India, where prepaid has recently been launched, prepaid issuers have taken a different approach, focusing on payroll and travel expense accounts. A number of companies have reduced payroll costs by 10 to 15 percent by replacing cash and checks with prepaid cards, and travel expenses account for 60 percent of prepaid transaction values. Throughout Asia-Pacific, prepaid initiatives have been particularly successful and transaction value is projected to grow 20 percent annually for the 2008-2012 period. Latin America and parts of Europe also hold good

Shifting to a more revolving model is not simple, as banks must implement monitoring tools and work out processes to avert the potential for a substantial rise in delinquency ratios.
One approach to increasing consumer card usage and overall card profitability is to rebalance consumers transaction and funding preferences. In Brazil, where credit cards are now used primarily for transactional or deferred debit purposes, fees account for slightly less than half of credit card revenues (46 percent). However, its 297 percent APR on revolving balances probably limits use of cards as a source of medium-term financing. In Peru, by contrast, the spread on revolving balances (38 percent) is more in line with that on current account overdrafts (31 percent), and not surprisingly, Peruvian card holders revolve more of their balances. By optimizing their pricing, issuers in Brazil may be able both to generate more revolving revenue and increase card transaction volume. However, shifting to a more revolv-

The McKinsey Global Payments Map: A global eye on local opportunities

growth prospects for prepaid, with transaction values expected to grow 12 percent CAGR in Latin America and 14 percent CAGR in Europe, 2008-2012. In Eastern Europe, where 25 to 35 percent of the population (mainly in rural locations) are unbanked, growth rates will likely be higher.

Prepaid has the potential to extend a banks footprint and lay the foundation for new relationships.
In order to realize these growth projections, issuers will need to increase prepaid usage in underserved segments. Prepaid has the potential to extend a banks footprint and lay the foundation for new relationships; however, non-bank service providers and processors now dominate the prepaid space and stand to win if banks do not compete more aggressively. Ultimately, a combined prepaid/ATM strategy for areas with high concentrations of unbanked consumers may prove the most effective way to reduce cash volumes in diverse geographies around the globe. As part of this strategy, banks should consider enhancing the functionality of ATMs to enable customers to reload prepaid cards as well as top up mobile phones and pay bills.5 Adding such functionality could be a wise competitive move for local banks (e.g., retail, agricultural or land banks), which often have higher penetration in rural locations. Pricing and revenue diverge with increased non-cash usage Consistent with the general rule of pricing for technology markets, wider adoption of electronic payments services is typically accompanied by lower unit pricing, but overall revenues tend to rise. Many Latin American and Asia-Pacific markets yield more revenue per non-cash transaction (e.g., $8.80 in Mexico, $8.10 in China) than those in North America ($2.70 in the U.S.) and Western Europe ($2.91 in France and the U.K.), where the use of cash is lower. Conversely, markets with higher use of non-

cash instruments generate less revenue per transaction but higher revenue per capita. In Hong Kong, where cash use is low, revenue per capita is $943.40, comparable to that of the U.S. ($896.50) and significantly more than South Korea ($542.90). In cash-intensive Japan, by comparison, revenue per capita is much lower ($291.50), closer to that of less-developed markets such as Brazil ($217.70). Payments electronification offers clear advantages, creating value for businesses, including banks and other service providers, and serving as one of several characteristics of economic prosperity. *** Banks, non-banks and processors operating in diverse markets around the globe can capture higher returns by more aggressively guiding the ongoing transition from paper to electronic instruments. The most effective approach will target specific cash-heavy behaviors with a combination of pricing, functionality and marketing around non-cash instruments. For the broad range of C2B transactions, credit cards provide an all-purpose alternative to cash, but prepaid cards are particularly well-suited for micro-payments and also serve as a means to extend basic financial services to the unbanked. Credit transfers and corporate cards can displace cash in B2B transactions if they add value to SME business processes. No single model can win in every market. Payments leaders should draw lessons from geographically distant locales where payments behaviors resemble those of the target market.
Vijay Agicha is a knowledge specialist in the Mumbai office; Olivier Denecker is a senior knowledge expert in the Brussels office; Yran Dias is an associate principal in the So Paulo office; and Glen Sarvady is a senior expert in the Atlanta office of the Global Concepts unit of McKinseys Payments Practice.

For more on ATM strategy see ATMs: Complex weapons in the war on cash, McKinsey on Payments, November 2008.