hen credit cards made their debut, some people were quick to predict a cashless society. And at a snail's pace - with occasional energetic leaps - we've been inching toward that goal.

Reaching the cashless milestone would improve opportunities for all sectors of the payments industry, from issuers, to acquirers to ISOs and merchant level salespeople (MLSs). But although its use has been greatly eroded, cash refuses to die ... just like the penny. Perhaps this is because of small transactions.

It will take ubiquitous micropayment systems to put the final nail in the cash coffin. Widespread adoption of contactless payment systems just might be the means to this end.

Contactless payments are ideal for small transactions. The card companies report that they can increase POS transaction speed, enhance security and stimulate retail sales. Offering these benefits to merchants can help ISOs and MLSs differentiate themselves from competitors, expand into new markets and improve customer retention. But are merchants "buying"?

Taking the lead

Cash micropayments comprise a significant portion of consumer spending ... and a lost revenue opportunity for card issuers. If consumers were to replace cash with bankcards for everyday, small purchases, issuers could capture a piece of this market through interchange fees.

The major card companies are aggressively pushing no-swipe strategies: Visa U.S.A. has Visa Contactless, MasterCard International has PayPass and American Express Co. (AmEx) has ExpressPay. Through a number of issuing bank partners (including JPMorgan Chase & Co., Citigroup Inc., GE Consumer Finance, and MBNA Corp.) they are promoting their contactless payment programs with major merchants and professional sporting stadiums across the United States.

Many early adopters have been merchants who face long lines for small-ticket purchases: Major League Baseball and National Football League stadiums or events like the PGA Tour, quick service restaurants (QSRs) such as McDonald's or Arby's, movie theatres and video stores, and even bus and subway systems. Most of the early trials have been successful, and the card companies are now rolling out contactless systems nationwide.

According to a recent Celent LLC research report, "Contactless Payments: Replacing Cash with Convenience," radio frequency identification (RFID) contactless payment systems represent a significant revenue opportunity, particularly for QSRs, movie theaters, and movie and video game rental stores.

In 2002, U.S. sales for these three merchant categories were over $160 billion. In 2007, Celent expects RFID payments to capture at least 8% of the revenue generated in these three categories.

Ariana-Michele Moore, the Celent report's author, said that the pace of contactless payment adoption is astonishing. "These past few years have been an exciting time for the payments industry," she said.

Art Kranzley, Executive Vice President of Advanced Payments, MasterCard, has observed contactless payments' transition from regional trials to broader, nationwide and increasingly global adoption as a fast and convenient alternative for making everyday small purchases. "The real power behind contactless payments is that it benefits everyone in the value chain: consumers, financial institutions and merchants alike," he said.

What's in it for consumers?

Cathleen Conforti, Senior Vice President and Global PayPass Product Manager, MasterCard, said, "According to our research, U.S. consumers are using less cash these days. In fact, nearly half of respondents said they carry less cash today than they did five years ago, and 60% of respondents had only $20 or less in cash on-hand."

Contactless payments give consumers the flexibility to make purchases quickly and without the hassle of carrying cash. They find this appealing.

Contactless payments are purchases under $25 that are also "tap and go" or "wave and go" transactions: The consumer simply waves an RFID card (which may be a key fob that can be hung on a keychain) at an RFID reader. A light and tone indicate when a transaction is approved. No swiping or signature is necessary.

In a recent Visa survey, 45% of respondents said that they use payment cards for small-ticket purchases more frequently than they did three years ago. They also indicated that they use payment cards for their convenience (73%), efficiency (44%) and speed (39%).

In addition, 50% noticed that small-ticket purchases involving signature-free cards took less time than cash transactions and those requiring signed receipts. Thirty-eight percent said that they use their payment cards at least four times per week for small-ticket purchases. The types of small-ticket purchases they made most often were: gas and service stations (71%), meals and fast food restaurants (60%), drug stores (51%) and convenience stores (50%).

What's in it for merchants?

Contactless payment systems give merchants the ability to accept electronic payments without compromising transaction time.

"For merchants, card payments that replace cash provide faster service, accounting efficiencies and can bring higher average tickets," said Elizabeth Buse, Visa's Executive Vice President, Product Development and Management.

In most trials, signature-free contactless payments not only took less time than credit card purchases requiring signatures (no surprise), but they also took less time than cash transactions. AmEx's initial pilots showed that, on average, ExpressPay transactions are 63% faster than their cash counterparts.

But, according to Moore, although these systems reduce time in pulling out a wallet and fishing for a card or counting out change, in many situations consumers may not even notice a reduction in transaction time.

"At best, RFID payments reduce transaction times by 20 seconds," Moore said. "Then the effect is neutralized. After all, consumers will judge not the transaction time alone, but the transaction time plus the time it takes to get their food. However, a movie theater that must quickly seat over 100 customers can benefit greatly."

Prom Management Group Inc., a Minnesota-based events catering concern, used a contactless payment system at several PGA Tour events. Bill Given, Prom's Vice President said, "When we unveiled the terminals at the Tour Championship last season, not only did our credit card sales go up about 20%, but the line sped up as well, allowing us to serve more customers."

Moore found that in addition to reduced transaction time, merchants enjoy significant benefits: Employees handle less cash (reducing errors and opportunities for theft), sales rise (studies have shown that consumers are inclined to buy more when using a card than when using cash), and loyalty programs are enhanced (some RFID programs incorporate customer relationship management functionality that could boost a merchant's loyalty programs).

What's in it for ISOs and MLSs?

Although merchants haven't adopted contactless readers as quickly as consumers have been issued contactless cards, many ISOs and processors are betting that merchant demand will increase.

Jared Isaacman, Chief Executive Officer of United Bank Card Inc., thinks that contactless makes eminent sense for businesses that need to beef up speed and security, and the technology will spread quickly in demanding markets such as fast food, amusement parks, multilane retailers and supermarkets.

"Merchants that require a greater degree of check-out efficiency than what is presently available are adopting contactless rapidly," he said. "However, it will take longer to filter down in tougher markets that don't have a need for this technology right away. United Bank Card's initial feedback from the launch of our free contactless readers has been stellar. We already have a big demand and have been moving hundreds of our new contactless reader solutions."

Oleg Firer, Chairman, CEO and President of Acies Corp., thinks that while the competition in this arena is still very small, contactless is the future. "The benefits for ISOs and MLSs selling contactless include placing state-of-the-art equipment with the merchant for no charge, improving merchant retention, expanding into new channels and differentiating themselves from the competition," he said.

The marketing push

According to Moore, contactless payments are "appearing at a time when spending is weak, and competition is tight among issuers who are trying desperately to distinguish their cards from the multitude on the market today."

Thus, card Associations have invested millions of dollars to establish and promote their contactless payment brands.

For example, MasterCard launched a national advertising campaign promoting PayPass. It included television, newspaper, magazine and Internet banner advertisements; giant billboards in Times Square in New York City; and posters on subways, buses and commuter trains.

"MasterCard's new advertisements are very prevalent in their target markets, and that hits consumers right in their pockets, so to speak," said Michael Nardy, CEO of Electronic Payments Inc. (EPI). "They have been issued the cards and key fobs to enable contactless payments, and the merchants will see, as more and more consumers try to purchase through a contactless reader, that it may be time for a change in the way they process their charges. Of course, the MLSs and ISOs who are soliciting these merchants will have their entire sales pitch made even stronger with the addition of any contactless payment offering, free or not."

Isaacman added that the card Associations are "putting a lot of marketing dollars behind this new form of technology, which makes sense considering the benefits in terms of reducing card skimming, decreasing transaction times, and increasing customer and merchant satisfaction."

Which comes first, the issuer or the acquirer?

This marketing push on the part of issuers has created millions of consumers carrying cards capable of contactless payments ... and not enough outlets for them.

Ken Boekhaus, Vice President, Marketing and Business Development for Electronic Exchange Systems, observed that this is very similar to the situation that AmEx was in when it marketed the Blue card extensively as the next generation payment card, and highlighted that it was a smart card.

"Although this card was an issuing success, it was an acquiring failure," Boekhaus said. "Few of these cards were ever used as a smart card because there were no readers at the acquiring end. The same could easily happen with contactless cards unless the issuers make it necessary, or at least attractive, for merchants to implement the contactless readers. Since the cards still have a mag stripe, the merchant can accept the cards without having the contactless readers.

"Issuing needs acquiring to generate and capture their transactions and generate their revenues. Without acquiring, issuing is a costly waste of resources. First the issuers needed the processors to be able to acquire contactless payments. That infrastructure change has occurred. The industry has found that ISOs and MLSs are the most efficient way to acquire smaller merchants. They are critical in getting contactless acceptance implemented in the smaller merchants."

The contactless conundrum

In an era of free terminals, contactless readers were costly - until recently: Several companies now include contactless equipment in their free terminal programs.

"We've just implemented a free terminal program," Boekhaus said. "We'll soon add a contactless reader to the package for smaller ticket merchants. If others adopt this policy, it will help drive the acquiring in smaller merchants."

Firer reported that Acies is subsidizing 100% of the devices' cost for merchants. "We're pretty much giving away a VeriFone Omni 3750 with a contactless reader for the merchant," he said.

EPI chose OTI's Saturn 5000 contactless readers for its free terminal program. "We worked very closely with MasterCard and OTI to come up with a promotion of both contactless payments and MasterCard PayPass for hundreds of our ISOs nationwide," Nardy said.

Isaacman added that United Bank Card has always intended to include contactless readers in its free equipment program. "It was the next logical evolution in our free equipment initiative," he said. The company announced its free contactless terminal program at the Electronic Transactions Association's 2006 Annual Meeting & Expo in Las Vegas.

The interchange issue

But even with free terminals, interchange is an issue for merchants accepting non-cash payments for small-ticket items. "Micropayments are often for goods that are purchased frequently and have low profit margins," Moore said. "For this reason, plastic and checks are frequently discouraged as merchants are unwilling to let interchange cut into their profits."

Boekhaus agreed. "MasterCard has now changed PayPass acceptance practices so that any payment less than $25 does not require signature regardless of the merchant SIC code," he said. "This is a good start, but still not enough to encourage smaller merchants to buy the contactless readers. I don't believe that competitive pressures will be enough to drive merchants toward contactless payments since they still can swipe these cards. I still think that some further incentive is needed, such as lower interchange rates, to drive contactless acceptance in the broader marketplace."

Isaacman asserted that even though there's been no formal incentive from the card Associations, such as reduced interchange rates, to promote contactless technology, it is still the bankcard industry's responsibility "to provide the latest technology and best service to our merchants. For many merchants that service is going to be contactless."

In an effort to appeal to some of these merchants, Visa has rolled out a Small Ticket Payment Service that offers acquirers decreased interchange rates on certain consumer card transactions (see "Visa launches programs for small-ticket items" in this issue of The Green Sheet). "We've tailored the program so that it applies to segments where the merchant value proposition is the strongest, and where it will be most popular with our cardholders," Buse said.

Nardy predicted a solid future for RFID use at the POS when he said, "I think contactless payments are the next large-scale change in the way payments are processed since the Internet gave consumers the ability to purchase items from any Web site in the world."

That definitely sounds big.