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Risks and Solutions in the Gift Card Business
R
etailers are continually looking for ways to attract new customers to their stores and get them to buy more product once they are there. One approach is the gift card. Of course, the more cynical among you might say that there are other incentives: The issuer gets the money up front, much like the traveler's check, and many consumers will either not redeem the card at all or will fail to use the full value of the card by the time it expires. Also, there's the possibility that lost or stolen cards will not be reported.
There are more revenue opportunities: Banks are even issuing MasterCard gift cards with a fee of, say, $4 in addition to the value on the card, plus a $1 fee for each use of an ATM or cash advance, plus a 25-cent fee for either an ATM balance inquiry or a POS transaction using a PIN, plus a $1 expired card fee and a $2.50 processing fee to restore a card that was lost or stolen or to redeem unused balances. Banks love these kinds of opportunities!
We are seeing a profusion of gift cards. Visible Results (www.visibleresults.com) runs a loyalty program for some McDonald's outlets with a thermal graphic card that can be swiped through a terminal to be updated and updates reward points, alerts instant winners, makes special offers and even delivers ads.
Another company, Ernex Marketing Technologies (www.ernexinc.com), offers a system that multiplies loyalty points depending on when and where you shop. It also includes a coupon system. It communicates with the customer on a real-time basis via the receipt.
However, gift cards have been a problematic product for retailers. Typically, in-store employees steal them, photocopy them or find other ways to compromise the integrity of the system. Issuing and keeping track of gift cards is manually intensive and error-prone.
One way to solve these problems is to replace paper-based cards and certificates with a card-based system, which requires the card to be activated and loaded, and it then can be decremented with each use after a real-time authorization. If you are issuing the cards, you want the consumer to have to come back in your store to reload it. Also, you want to avoid the scenario where the consumer has a $100 card and uses it for a $5 purchase and gets $95 in cash. A properly designed system would decrement the card by $5 in this instance and require the consumer to spend the funds remaining at the store that issued the card.
Payment-system veterans will remember the massive fraud that accompanied the introduction of rechargeable telephone cards about eight years ago. Fraudsters recharged cards with stolen credit card numbers, and because the updates were processed in a batch environment, the issuers could not control their exposure. Individual card issuers lost hundreds of millions of dollars.
If the card is issued at a store and the identity is properly verified at that time, then the main issue is to design an electronic solution to maintain a centralized gift card inventory database and provide user online inquiry/update information, redemption and sales authorization, interactive update information and audit reporting.
I spoke to Patrick Gaines, CEO of one of the unique gift card processors, LML Payment Systems (www.lmlpayment.com), and he explained to me how his company's system works: User Online Inventory Access Authorized personnel access inventory summary and detail information through online processes. Depending on their level of security, they have the ability to view, add, delete or change information.
Filters also are provided to limit the list to: documents not sold, sold but not redeemed, redeemed with zero balance, and balance value range. These filters also provide the ability to limit the number of documents available for viewing. Processing Steps Loading - Merchant must capture the Certificate Serial Number. This can be done in a variety of ways: The POS system sends an authorization request to the processor. Processor verifies the serial number (that it has not been previously sold if this is the initial loading). The inventory file is updated. When the card is approved, the balance information is printed on the consumer's receipt via the POS system.
Redemption - Consumer presents card and Serial Number is captured. POS system sends authorization request to processor, who verifies serial number and open to buy. Processor records the redemption and decrements the outstanding balance. The POS printer receives the authorization request and prints the card-balance information on the consumer's receipt.
Reload of Value - Same as the above steps, plus the processor verifies that the serial number is eligible for reload (card has previously been sold). Processor records the additional value and increases the outstanding balance. As above, the balance information is always passed to the POS in the response information.
The LML system generates the following requests: purchase, reversal/void, initial purchase, reload of active card, accepted with manager approval, balance inquiry, and time-out reversal. It takes massive computing horsepower to manage one of these systems; don't try this at home. Concerns There is another side to the gift card equation: What if the issuer goes bankrupt? What if the retailer won't honor a previously issued certificate?
Martin J. Uhle, President/COO of Heartland Payment Systems, Inc., made these points about risk:
"My main concern with gift cards is that they introduce risk into previously low risk acquiring industries like restaurants. There has always been gift certificate risk in restaurants, but those paper gift certificates were hard to buy and generally not well promoted by the business.
"Gift cards are easy to display and are heavily marketed at the point-of-purchase. They are hanging on display racks at thousands of retailers and restaurants, and consumers love them. Sales are up 400%, according to some recent reports I have read. I am not against gift cards.
"However, the merchant charges a consumer's credit card to fund the gift card. That charge is the acquirer's responsibility, but we have no way of knowing that a gift card was issued.
"Stand-alone gift card companies are selling gift card processing into a merchant without regard for the acquirer's risk associated with the transaction. I think that those companies have an obligation to work with the acquiring community to report the transaction activity so that together we can monitor the risk.
"What is the risk I keep referring to? The gift card represents a service that will be delivered in the future, and if the business is no longer operating, the card-holder can charge back the purchase of the gift card. Businesses are being encouraged to sell gift cards in order to generate cash flow in tough times, and tough times often lead to business closings or bankruptcy."
Another concern: If you are outsourcing your gift card processing, how secure is the customer information?
What about cost? In-house programs can cost as much as 8-10% of sales to manage. Outsourcing to a vendor such as LML or Givex (www.givex.com) can reduce this expense by half. Smart Cards What about smart cards? Aren't they going to render gift cards obsolete? Not anytime soon.
Credit card processors are usually limited to handling authorization and payment. Their hurdle is a chicken-and-the-egg situation:
Issuers haven't issued any significant volume of smart cards yet.
Merchants aren't willing to spend the money to buy new processing equipment.
And processors are reluctant to spend money to upgrade their networks to handle loyalty applications. This would entail the ability to identify that the transaction message is coming from a smart card and then routing the loyalty portion to the application vendor.
Applications such as frequent-flyer miles or a multiple-merchant loyalty program require too much memory to be read by a POS terminal and need to be read at the back end. But the marketplace is not going to make use of all the data fields on the smart card for some time. Conclusion Consumers like the convenience of gift cards, and merchants like their ability to drive sales and customer loyalty. Widespread utilization of smart card-based systems is still years away. Recent advances in technology and computing power have enabled vendors such as LML Payment Systems to solve the traditional problems with fraud with a complex solution that is beyond the capability of an individual merchant to manage in-house.
For more information, you can e-mail an LML representative, Pete Stenhjem, at pstenhjem@lmlpayment.com. If you have a question you want to explore with me, e-mail me at brandese@cross-check.com.
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Copyright 2002 The Green Sheet, Inc. |
