An obscure but key player in point-of-sale payments, TNS Inc. is on its own again after surviving the Internet bust. What's TNS' strategy in an increasingly global and competitive market?
While the U.S. payments-processing industry is dominated by a handful of big-name providers, one of the behind-the-scenes support players is building an ever-larger and lucrative, if still obscure, business of its own.
TNS Inc., better recognized as Transaction Network Services, transmits payment transactions from merchant locations to processors' host systems. Liken that to controlling the entrance ramps to an Interstate highway.
TNS supports virtually all of the major processors, including Greenwood Village, Colo.-based First Data Corp., Tempe, Ariz.-based Vital Processing Services LLC and Atlanta-based Global Payments Inc., and controls about 70% of the U.S. market.
Because its large volumes and widespread infrastructure enable the Reston, Va.-based company to deliver services to its processor customers for as little as 1 cent per transaction, observers say it is virtually impossible for competitors to match TNS' pricing, or for clients to operate as efficiently by keeping the function in-house.
"No one is even close to TNS in their scale of transactions," says Wayne Johnson, a director and transaction-processing analyst for SunTrust Robinson Humphrey, an Atlanta-based mid-market investment bank. "They're doing all the right things in the markets they address."
No company, however, can have a profitable business and overwhelming market share without others trying to get a piece of it. An emerging rival is POS terminal maker Hypercom Corp., which is expanding its HBNet data transmission service in the U.S. after finding success with it in Canada.
TNS' Point-of-Sale/Point-of-Service division, which provides data communications services to payment processors in the U.S. and Canada, generated about 45% of the company's $64.6 million in third-quarter revenues. TNS also operates its Telecommunications Services unit that accounts for 13% of revenue and provides call signaling and database access services to the telco industry.
A Financial Services division that delivers data networking services to support the transaction-oriented trading applications of financial organizations generated 10% of the company's third-quarter revenues. And the International Services unit that markets TNS' POS and financial services to countries outside of the U.S. and Canada accounted for 32% of revenues.
Franco Turrinelli, a senior analyst with Chicago-based investment banking firm William Blair & Co., describes TNS' financial position as "very strong." For the first nine months of 2004, the company had net revenues of $185.7 million, up 15% from $162 million for the year-earlier period, and net income of $2.56 million versus a net loss of $1.98 million in 2003.
"Transaction Network Services is clearly the major player in the POS communications field," he says. "The primary alternative is for processors to create in-house solutions by sourcing bandwidth and wrapping it around network management tools. But having the expertise and equipment to insure network uptime is very important, and TNS has been doing things very well for a long time."
Chairman and Chief Executive John J. "Jack" McDonnell Jr. formed TNS in 1990, and in 1999 sold the company to PSINet Inc., a high-flying Internet service provider based in Herndon, Va. McDonnell and other former TNS executives, through an investment group led by GTCR Golder Rauner LLC, bought back the company in early 2001, shortly before PSINet, another victim of the Internet bust, filed for Chapter 11 bankruptcy protection from creditors. TNS bolstered its presence over the years by acquiring POS transmission services units that were operated by such telco competitors AT&T and Sprint.
"We may be the best-kept secret in the merchant-acquiring industry," says Brian Bates, TNS president and chief operating officer. "Because our service is bundled into the products that processors provide to their customers, there isn't a lot of visibility of TNS-yet."
TNS did gain a little visibility on Wall Street last March with an initial public offering that raised $71.5 million, which the company used to pay down debt. In September, TNS did a secondary stock offering that raised another $19.5 million, also used to repay debt. Still, TNS remains largely unknown outside the merchant-acquiring community and a small circle of financial analysts.
During a typical TNS-supported POS transaction, a payment card is swiped at a merchant terminal and the device dials out to the TNS network. Card and sales data are then routed through the network to the appropriate merchant processor. Authorizations and other transaction information subsequently are sent back via the TNS system to the merchant.
TNS purchases telecommunication time from local carriers for its operations and supports a variety of access methods, including dial-up, Internet protocol and wireless transmission systems.
While TNS might not be recognizable to many payments industry participants, it is becoming increasingly active and widespread. More than three million credit and debit card terminals dial into the network daily, and TNS transmits more than eight billion U.S. transactions-including credit, debit, checks, electronic benefits transfer and automated teller machine messages-annually, up from 6.5 billion in 2001.
The company announced in September that Global Payments had re-signed TNS to be its primary dial carrier for POS transactions in the U.S., and to provide transaction transport services in Canada and Europe.
Indeed, one of TNS' strongest growth areas is its support of international transmissions. The company operates networks in 15 countries, including Canada, the United Kingdom, France, Germany, Japan, Australia and New Zealand, and is able to route transactions initiated at terminals in those countries to any processor's host computer, regardless of the location.
As noted, international sales account for more than 30% of the company's business, and SunTrust Robinson Humphrey's Johnson says TNS is strongly positioned to leverage what is projected to be an increasingly active overseas market.
"The biggest growth opportunities primarily are in Europe and Asia because countries in both continents are undergoing financial and telecommunications deregulation that will open the door to greater competition for financially related transaction services," Johnson says. "TNS saw this coming and built their international network, and it is reaping the benefits."
Bates says TNS' chief competition is from processors that handle their communications functions in-house, though some phone carriers also provide services. TNS' main selling point is its expertise and experience.
Several big processors contacted by CCM, including First Data, Vital, Global Payments and Buffalo Grove, Ill.-based Moneris U.S., would not comment for this story.
"We've been doing this for 14 years and can enable processors to outsource their networking requirements at a lower price than if they operated the communications system themselves," Bates says.
Expanding Merchant Base
Indeed, companies would need to spend several hundred million dollars to deploy the global communications system to support the activity of TNS, Johnson notes. Processors, for instance, would have to purchase call-routing and other telco technologies and hire staff to oversee the network and ensure the system has enough capacity and ports.
Because few processors could match TNS' economies of scale and its typical pricing fees of 1 to 2 cents per transaction, Bates projects the firm's POS activity will steadily increase, particularly as more quick-service restaurants and other retailers begin accepting new payment instruments and also roll out card-based loyalty and gift programs.
In a recently formed partnership with Portland, Ore.-based Chockstone Inc., a processor of gift, loyalty and promotional card programs, TNS is supporting the transmission of transactions initiated at such restaurants as Subway, Quiznos, Papa Murphy's and Panda Express.
Chockstone processes about 200,000 daily transactions initiated from more than 3,000 locations, and TNS carries about one-third of the volume, says Jeffrey Lipp, Chockstone president and CEO.
In addition to moving payment data, TNS also transmits the targeted messages that Chockstone prepares for specific customers based on purchasing history. The bottom of a patron's receipt, for instance, may say that the consumer will receive a free cookie during the next visit, or double the loyalty points if he or she uses a MasterCard for payment.
Lipp says his firm selected TNS for communication services after he and other Chockstone executives became acquainted with the company while working at First Data.
"We knew TNS supported the world's largest processors and could provide high-quality service while handling heavy traffic," he says.
TNS in June also better positioned itself to support what executives say will be an eventual surge in wireless transactions by acquiring U.S. Wireless Data, a provider of wireless access services. Bates says such transactions will be fueled partially by an expanding number of card-based purchases at vending machines.
"There will be an evolution of merchants moving to wireless technology for traditional payments," he predicts.
The company's strategy is to expand through both acquisitions and organic growth, and Bates says TNS expects to offer new products and services to customers in each of its vertical markets. Recent rollouts include TransXpress Secure, a line of Internet protocol offerings that are intended to enable merchants that already have broadband access to send data through the higher-speed system. A typical IP transaction takes about 3 seconds, compared to approximately 10 seconds for a dial-up transmission.
By moving to support additional POS transactions, TNS is compensating for the slowdown in ATM growth. While Bates estimates that TNS routes about 90% of transactions initiated at off-premise ATMs, a glut of terminals has ended the double-digit volume increases that were common from the late 1990s to 2002 ("Lots of Cash, Little Profit," August).
Still, TNS continues to expand its ATM business. In August the company announced a multi-year agreement with Columbus, Ohio-based Huntington National Bank to provide always-on, managed ATM network connectivity between the machines and the host processor via the Internet.
TNS will use TransXpress Secure to support transmissions and provide ongoing network management. Huntington National operates a network of nearly 700 ATMs.
With multiple layers of redundancy built into the TNS network to prevent equipment or component failures from causing outages, Bates says the system operates at more than 99.9% uptime. TNS maintains at least three alternate routes through which a transaction can be routed to a processor in the event of a fire, power failure, software glitch or other catastrophe, he notes.
While he won't divulge how much TNS has invested in its technology, Bates says the company primarily uses proprietary equipment and is continually earmarking more funds for routers and other components.
"We view ourselves as a network pioneer and technology leader, and want to make it easier for our customers to do their business, which is processing," Bates says.
TNS' solid infrastructure and market position, however, is not preventing competitors from rolling out their own networks. One of the more recent sector entrants is Phoenix-based Hypercom, which last year launched its HBNet service in Canada and began marketing the system in the U.S. this spring.
Better known as a leading vendor of POS devices, Hypercom executives expect HBNet to account for a substantial portion of company revenues, and to eventually offer transport services at a rate that is 20% lower than competitors' pricing, says Sharon Cline, HBNet senior vice president and general manager.
Hypercom's entry into the data-transmission business is driven in large part by a motivation to get recurring revenues that would offset the cyclical and often unpredictable nature of POS hardware sales. In the third quarter, for instance, Hypercom earned $584,000, down 81% from a year earlier, and while revenues increased 6% to $63.2 million, they still fell short of analysts' expectations. Part of the shortfall came from a component shortage that Hypercom said would soon be remedied, and the firm still expects to meet its full-year revenue projections.
Cline says the company plans to minimize its maintenance costs by using latest-generation high-speed networking equipment. The technologies enable HBNet to provide connect times of as low as 6 seconds for a dial-up transaction, which is about 50% quicker than traditional connection activity and will result in lower transmission costs for processors, she notes.
She calls the move into network transmission services "a natural evolution" for Hypercom, whose business in the sector previously just consisted of manufacturing and marketing telco equipment to service providers.
"We saw there wasn't enough competition, which is not good for this market," Cline says. "It drives prices up when they should be coming down. And there also was no incentive for companies to support higher-speed processing."
While she will not name customers, Cline says HBNet has signed contracts with a dozen U.S. processors. Half the contracts already are in operation, and Cline expects to have about 20 "live" clients by year-end.
The company already is supporting activity from four of the five major Canadian processors. In 2005, about 90% of all Canadian bank card activity will travel on HBNet architecture, Cline claims.
"By aggregating the transactions of many processors, we will be able to leverage our size for greater buying power when purchasing telecommunications services from carriers," Cline says. Such services include calling minutes and the connection between HBNet and processors' data centers.
Though analysts say it will be difficult for HBNet and other rivals to seriously challenge TNS' market dominance, they agree that added competition will spur the continued development of more sophisticated and efficient transport systems.
"Using the traditional telephone lines is not the fastest or cheapest way of moving data, so it seems natural that more companies will develop systems that leverage the Internet and other access methods," says John Hamby, senior vice president and manager of the Merchant Services Center for New Haven, Conn.-based NewAlliance Bank. "A lot of the high-tech units require specialization and high capital (investment), so it's important for the companies that focus on transmission activity to serve as the conduit for the merchant processor to move the transactions quicker."
TNS is leading the way in enabling retailers and processors to leverage networks that provide faster, price-competitive transmission services. And with the company continuing to bolster its volume and footprint by supporting additional card products and expanding into new markets, its even greater economies of scale-along with challenges from new vendors-are likely to trigger further pricing and technology improvements.
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