It is almost one year since First Data Corp. announced that it was going to acquire Concord EFS Inc., creating a powerhouse in the payments world with the scale to change the industry's pricing dynamics and the capital generation
  to accelerate additional product development and acquisitions. I believe that many of the issues leading up to the Feb. 26 merger and during the approval process remain central to what this merger means for the payments industry
  going forward, namely processing fees charged to retailers and relationships with the banking industry.
  This newly combined company could make scale an even bigger issue at a very crucial time for the payments industry, when fees are under attack by retailers (who have the wind at their back) and banks and networks that are
  trying to protect lucrative revenue streams. The processor that has the most scale will be the one that can most successfully find a way to bring merchants lower fees, while also making sure that banking partners are happy.
  This elevated hurdle of more scale may force many others to grapple with tough decisions centering on two primary areas. First, it will prompt consolidation as some look to build scale and others look to sell because they don't have scale or product differentiation. Within the next 18 months
  we will probably see the beginning of more consolidation in the processing space. Second, it will likely lead to some players focusing on a very well-defined niche where they can provide enough value so that pure pricing is not necessarily the major issue.
  Regarding retailers, we believe this combined entity places heat on both FDC and the retailing industry. Part of the logic for the merger is that a merged FDC/Concord will be able to utilize its scale and provide lower-cost
  processing. It is now time to prove it, and we don't think that retailers will forget that argument.
  I have already read one article, however, that points out that while retailers say higher processing costs ultimately hurt the consumer, the fact is that we have not seen broad-based price reductions in stores even though
  offline debit card fees have come down in the wake of last year's Visa/MasterCard settlements. We'll see who actually delivers on their argument in the coming year.
  We suspect that banks will be watching this merger closely, for a couple of reasons. First, banks also will want to benefit from the increased scale of the combined company; they will not allow it to accrue only to FDC and
  retailers. This could manifest itself in higher personal identification number-based revenue per transaction, or a more lucrative share of a merchant alliance.
  Network Effects
  The FDC/Concord combination should be able to accelerate product development, which banks would welcome. The ability to be successful here could provide enough value-add to the relationship with a bank or retailer to minimize the commoditization of the actual acquiring and settlement
  The last implication for the deal centers on the electronic funds transfer networks. Now that offline and online debit pricing are moving towards parity, the merger may make for a less acrimonious relationship between a
  network owner and its member banks. We believe, however, that banks still want to be involved with a network that they ultimately perceive as having their best interests at heart.
  Yet bankers want options, which is why First Data's pending sale of its 64% interest in the NYCE network, a rival of Concord's Star, is an important event. Star and Visa's Interlink are strong EFT competitors. The question
  is, will the banks be willing to get behind a third EFT network in an effort to keep their options open? The buyer of NYCE may very well be the ultimate determinant of its success, and thus its competitive impact on Star and
  Interlink. If it is a buyer that the banking industry really believes has its interest at heart, there is a good chance that NYCE can flourish. If the buyer is not able to get bank buy-in, we believe it will be a challenge to match the
  geographic breadth and marketing might of its two primary competitors.
  Many questions remain on the heels of this merger, but we are certain that the payment-processing industry remains a dynamic and growing industry with plenty of room for those that can take advantage of the many opportunities that
  present themselves.
  Disclosure: This article was provided by Tim Willi, financial-services analyst with A.G. Edwards & Sons Inc., Member SIPC. Opinions are subject to change without notice; additional information is available on request.
  Tim Willi is the senior information-technology services analyst at A.G. Edwards in St. Louis. He has been with the company for 10 years, currently covering IT-services companies focused on financial services, including many payments firms. He previously covered the banking industry for seven years. Before joining A.G. Edwards he worked for a Midwestern regional bank. He can be reached at willit

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