About two years ago, Birmingham, Ala.-based MLS Direct Network Inc. decided to become a full-fledged wholesale ISO instead of merely a retail ISO.


The result? Andy Pitts, the company’s president, said he wasn’t prepared for all the unexpected costs—and headaches—that came along with the move.


Retail ISOs focus just on selling and servicing merchant card transaction accounts, while wholesale ISOs become officially registered with the card brands, take on back-office tasks, and assume responsibility for credit approval, risk mitigation and charge-back reporting.


While he’s happy about the company’s decision, he cautions other ISOs to look carefully before they leap to the wholesale ISO model. Everyone focuses on the underwriting risk and that’s not necessarily the biggest issue ISOs face when going wholesale, according to Pitts. “You have to really be unhappy with the retail system to want to do this because it’s a lot more work.”


Sometimes ISOs see the wholesale world as a kind of Holy Grail, and it certainly does have its advantages in terms of control, brand identity and higher valuations. But significant drawbacks come into play for those that make the shift too soon or without adequate planning. The upfront costs for proper systems, staffing and technology can become hefty. And of course, without enough financial cushions a significant risk-event or two can cripple a business. For those reasons, ISOs should not take lightly the decision to switch from retail to wholesale.


“You have to have a team in place, you have to have the equipment, you have to have years of experience. You have to know what you are doing to make that step,” said Mark Dunn, president of Field Guide Enterprises LLC, a consulting firm based in Hartland, Wis., that advises ISOs, including those interested in making the transition.


There is no hard and fast rule about when’s a good time to go wholesale. But ISOs can administer some basic self-diagnostic tests—including size, experience, financial wherewithal and ability to withstand risk—that can help with the decision on whether it might be worth investigating further.


Size is of paramount importance, according to Dunn, who tells ISOs not to bother going wholesale unless they have more than 3,000 merchant accounts on board. For certain types of merchants, that number could be closer to 5,000, he said.


Also consider how much new business comes in monthly. Make sure to have enough volume to afford the additional costs. Again, there’s no magic number, but Kevin Jones, president and chief executive of Anovia Payments, an ISO with headquarters in Irving, Texas, that chose the wholesale option, believes an ISO should be adding around 150 to 200 new merchants per month for it to make sense.


It’s important to think about cash flow when weighing the decision. ISOs need money to pay for new technology, to beef up compliance and risk management staff, and to maintain an adequate reserve cushion. Unexpected costs arise, too. “We’ve spent well over $100,000 on the front-end integration. That’s something we had no idea was going to be there,” said Pitts of MLS Direct.


According to Pitts, ISOs going wholesale should also budget about five thousand dollars a month for risk losses, about five thousand dollars for reporting fees and another five thousand dollars or so for fees they can’t pass on to agents or merchants. “If you’re a small ISO…I don’t know how well you’re going to come out being a wholesale ISO,” he says.


Sometimes ISOs want to make the move because they think they’ll earn more money, but there’s no guarantee. Years ago, there were more pricing advantages for wholesale ISOs, but margins today have compressed. “It’s a misnomer to think you’ll make more money,” said Pitts. That hasn’t been true for MLS Direct.


There’s also a certain level of experience Dunn the consultant believes ISOs should have before taking the plunge into wholesale. He’s seen a number of players in the industry who have four to five years of experience and are attracted by the lure of owning their own bin, having portability and controlling as much of their destiny as possible. But he does his best to talk them down from the ledge.


“Maybe you want to walk before you drive and maybe you want to drive 50 miles an hour before you get out in a Formula One racecar and try to do 160 miles an hour, which carries significant risk of crashing, flipping over and dying. There is an equivalent to that type of risk in owning a wholesale ISO,” he said.


His caution is based on a situation he ran into several years back with a young, inexperienced entrepreneur whose wholesale ISO ended up running out of cash within three years. “He didn’t have a good sales engine in place before he got started,” Dunn said. “He did all of the technical work, but he ran out of money before he could ramp up his sales force and his selling ability.”


ISOs also should carefully consider their ability to stomach risk before making the leap to wholesale. The question to ask is this: If you can get 80% of the overall revenue with no risk, is it worth it to get 90% of the overall revenue with full risk? “You’re basically betting the farm on that 10%,” said Jones of Anovia Payments.

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