43
A Tale of Two Cards: Rewards v. Non-Rewards 2:00PM Eastern| August 5, 2010
A Tale of Two Cards: Rewards v. Non-Rewards
2:00PM Eastern| August 5, 2010
Share growth has outpaced loan growth since early 2009
Source: Callahan’s Peer to Peer Software
2
Loan growth is critical in 2010 and into 2011 as low rate environment is expected to continue
2.48% 2.10%
6.23% 6.10%
0%
1%
2%
3%
4%
5%
6%
7%
2Q 2004 2Q 2005 2Q 2006 2Q 2007 2Q 2008 2Q 2009 2Q 2010FL
Yield on Investments
Yield on Loans1
.99
%
4.0
0%
3
Credit cards are the only category to increase vs 2009
12-mo. Growth as of March 31, 2010 for all U.S. credit unions
Source: Callahan’s Peer to Peer Software
4
Credit card balances reach $34 billion
Source: Callahan’s Peer to Peer Software
5
Delinquency declined in 1Q
Source: Callahan’s Peer to Peer Software
6
Credit union delinquency remains well below that of FDIC-insured institutions
Data as of Mar 31, 2010
Source: Callahan’s Peer to Peer Software, FDIC
7
Credit union charge off rates are less than half that of banks
Data as of March 31, 2010
Source: Callahan’s Peer to Peer Software, FDIC
8
AUGUST 2010
Timothy [email protected] • (603) 924 - 4438
TRK ADVISORS
10
CREDIT CARD REWARD PROGRAMS
DESIGN, IMPLEMENTATION & MANAGEMENT
What Does TRK Advisors Do?
• Credit card program advisory services
• Credit card program redesign
• Portfolio management consulting
• Quick hit expert guidance (Sounding Board Service)
• New (or reentering) issuer programs
• Agent program development
• Credit card portfolio valuation and sales
• Expert testimony
• Affinity & cobrand program development
TRK ADVISORS
11
Deep Expertise & Great Value
Covered in Prior Sessions
• Credit Union Card Program Performance Trends
• CARD Act Impacts: Operational and financial
• Function-by-Function Issues Review
• How to Design and Use a Card Program P&L
• Card Program P&L: With & without rewards
• Portfolio Management Techniques & Scorecards
• Best-in-Class Reporting Structures
TRK ADVISORS
12
Contents for Today
• Card Program Profitability: No room to spare
• CARD Act Impacts
• Consumer Card Behavior and Rewards
• Card Program P&L: With & without rewards
• Reward Program Design: New or Existing
• Looking ahead
TRK ADVISORS
13
Quick Recap {
PART 1 Industry Profitability Trends
TRK ADVISORS
14
Credit Union Card Portfolio Growth
TRK ADVISORS
15Strong growth in a shrinking industry.
0
2
4
6
8
10
12
14
16
$0
$5
$10
$15
$20
$25
$30
$35
$40
'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10
Car
d A
cco
un
ts (
Mill
ion
s)
Car
d A
sse
ts (
Bill
ion
s)
Card Balances & Account Trends
Card Balances Card AccountsTRK Advisors
Still Growing Credit Quality Issues
TRK ADVISORS
16
Few are forecasting improvement before 2011
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10
Card Credit Quality Trends (% of $)
$ 2+ Months DQ (% of Bal) Net Credit Losses (% of Bal)TRK Advisors
A Significant # Are Losing $
TRK ADVISORS
17
If rates increase then nearly every single fixed rate issuer will become unprofitable.
0.0%
3.0%
6.0%
9.0%
12.0%
15.0%
18.0%
-
1,000
2,000
3,000
4,000
5,000
6,000
'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10
Cre
dit
Un
ion
Issu
ers
> $
1MM
% of Credit Union Issuers Losing $
Total Issuers (Left) % of Total (Right)
Typical Program Profitability
TRK ADVISORS
18Card was long a high profit product.
Item Past
Yield 10.0%
- Cost of funds (2.0%)
= Margin 8.0%
- Credit Losses (2.0%)
+ Fees 1.0%
+ Interchange 4.0%
-Rewards (1.0%)
-Expenses (5.0%)
= ROA 5.0%
Typical Program Profitability
TRK ADVISORS
192009 saw difficulties arise.
Item Past 2009
Yield 10.0% 9.5%
- Cost of funds (2.0%) (1.0%)
= Margin 8.0% 8.5%
- Credit Losses (2.0%) (4.2%)
+ Fees 1.0% 0.7%
+ Interchange 4.0% 3.6%
-Rewards (1.0%) (0.8%)
-Expenses (5.0%) (5.0%)
= ROA 5.0% 2.8%
Typical Program Profitability
TRK ADVISORS
20CARD Act + Recession = The New Normal
Item Past 2009 Tomorrow?
Yield 10.0% 9.5% 9.5%
- Cost of funds (2.0%) (1.0%) (1.0%)
= Margin 8.0% 8.5% 8.5%
- Credit Losses (2.0%) (4.2%) (4.8%)
+ Fees 1.0% 0.7% 0.4%
+ Interchange 4.0% 3.6% 3.4%
-Rewards (1.0%) (0.8%) (0.7%)
-Expenses (5.0%) (5.0%) (5.5%)
= ROA 5.0% 2.8% 1.3%
PART 2 CARD Act Impacts
TRK ADVISORS
21
CARD Act: Critical Challenges
• Constant downward pressure on Yield & Fees– Payment allocation rules– New reporting tools are important– Regular monitoring and price review required
• Compliance requirements increase– One time events almost over, but…– Regular monitoring needed (e.g. repriced accounts)– Costs of noncompliance can threaten the institution
• If Fixed Rate: – New ALCO/Forecasting discipline required– FFIEC warnings and stress testing relevant– Remember: 3+ years to reprice portfolio
TRK ADVISORS
22
The CARD Act is expected to reduce long-term ROA by100-200bp for the average issuer.
Managing After CARD Act
• Need to track APR and Yield monthly– Watch for impact of payment allocation changes
• Fee income is being reduced– Make sure minimum pay calculation is „synched‟ to
your late fee
• Banks cut off credit and increased rates– Opportunity? Yes!– Possible landmines? Yes!
• If you merge in a card program it gets VERY complicated and can hold negative surprises
• Profitability need to be measured at a product level
TRK ADVISORS
23
Very few issuers can afford an underperforming card program: they now take years to fix.
PART 3 Reward Programs & Consumer Behavior
TRK ADVISORS
24
TRK ADVISORS
25
Consumers Are Behaving Differently
• Credit spending down, debit spending up
TRK ADVISORS
26
($ Billions) 2009 2008 Change
VisaCreditDebit
$764$883
$824$818
-7.3%+7.9%
MasterCardCreditDebit
$477$327
$547$309
-12.8%+5.8%
American Express $424 $471 -10.0%
Discover $88 $92 -4.9%
Net effect to issuers is to push revenues down: lower interchange, less interest income.
The Consumer Universe
TRK ADVISORS
27
Each segment has different needs: one size does not fit all.
All Consumers
High Risk Low Risk
Declines Credit Users(Revolvers)
Convenience Users(Transactors)
50% 30% 20%
Revolver vs. Transactor Behavior
TRK ADVISORS
28
Very different behaviors means different P&Ls and different portfolio management techniques.
Acceptable Risk Low Risk
RevolversTransactors
Typical
Avg Bal = $2,800
Annual Spend = $3,500
1-2 Late Fees/Yr
Higher Risk Segment
Typical
Avg Bal = $1,800
Annual Spend = $12,000
Very Few Fees
Lower Risk Segment
Revolver- Transactor Needs/Wants
Revolvers– Regular use of card for credit
function
– Not always 100% honest with themselves
– Sensitive to APR and Intro/BT Pricing
– Attracted by offers of (i) high credit lines and (ii) „special‟ offers
– You can have as many of these as you want right now
TRK ADVISORS
29
Though „credit card‟ is one name, they are two different products as far as your members are concerned.
Transactors– Card is convenience with
some extra benefits
– Rewards are the cost of entry
– Generally more savvy and able to „do the math‟
– Being romanced by all issuers
– APR insensitive
– Like to feel „high end‟
– Hard to displace, but now is a unique opportunity.
PART 4 Card Program P&L
Rewards vs. No Rewards
TRK ADVISORS
30
TRK ADVISORS
31
Budget Season Is Upon Us
P&L Line Items: Recap
TRK ADVISORS
32
• Need a reliable P&L to make card program decisions
• Monthly reporting and review critical
• Don‟t assume “highest yielding asset” = high ROA
Item %
Yield 9.0%
- Cost of funds (1.0%)
= Margin 8.0%
- Net Credit Losses (4.8%)
+ Interchange 5.7%
- Rewards Expense (2.6%)
= Net Interchange 3.1%
+ Fees 0.4%
- Expenses (4.3%)
= ROA 2.3%
APR x Revolve % = Yield12.4% x 74% = 9.0%
(Purchases x I/C %) / Balances = I’chnge($7,750 x 1.7%) / $2,300 = 5.7%
These are the basic elements of a credit card P&L statement.
Function of:-Cost per redeemed point (e.g. 1.1 cents), and-Redemption rate (e.g. 50% redeemed over life of acct)
Reward vs Standard Card P&L
TRK ADVISORS
33
• Different card holder behavior = different P&Ls
P&L Standard Reward Total
Yield 11.4% 5.2% 9.0%
- Cost of funds (1.0%) (1.0%) (1.0%)
= Margin 10.4% 4.2% 8.0%
- Net Credit Losses (7.0%) (1.5%) (4.8%)
+ Interchange 2.1% 11.3% 5.7%
- Rewards Expense NA (6.7%) (2.6%)
= Net Interchange 2.1% 4.7% 3.1%
+ Fees 0.5% 0.2% 0.4%
- Expenses (3.6%) (5.6%) (4.3%)
= ROA 2.5% 2.0% 2.3%
Both can be profitable, but in different ways.
Account Behavior Standard Reward
Avg Balance $2,800 $1,800
Avg Spend $3,500 $12,000
Avg APR 12.0% 13.0%
Revolve Rate 95% 40%
Assuming equal #s of active accounts.
PART 5 Reward Program Design
TRK ADVISORS
34
Reward Program Design
• Recognize you are looking to penetrate two different types of members
• Need two different products
• Non-rewards product: best possible APR at all tiers
Example Tier Standard Card Reward Card
A P+3.9 P+5.9
B P+5.9 P+7.9… … …
• Rewards: generally 200-300bp higher APRs– Alternative: Same rate, but with fee
• Staff needs to be educated on different member needs and how products differ
TRK ADVISORS
35
Reward Program Rollout
• Need to carefully review account level behavior
• Target for Reward Card to existing– Transactors– Inactive accounts
• Need reason to displace existing reward card– “Double points” for first six months– 5,000 points after 10th purchase
• New Accounts– Branch promotions– Direct mail– Staff Incentives
TRK ADVISORS
36
The Big Mistake: Points for Everyone!
• Many credit unions put rewards on all cards
• Did not differentiate APRs or fees
• Gave something expensive to members who did not ask for it- Merry Christmas!
• Increases many expenses:– Processor monthly fees– Reward redemptions– Servicing costs
• Creates a muddle: – Can‟t give Revolvers best rate– Transactors viewed simply as an expense
TRK ADVISORS
37
Could kind of limp along this way before, but not any more
What if You Made the “Big Mistake”?
• Begin to migrate to the two product strategy immediately: can take several years.
• Need to see if current program is sufficiently profitable
– If so: You can lower rates for those who accept no rewards
– If not: Need to consider higher APRs or fee for rewards
• Need careful account level analysis of consumer behaviors: careful mapping avoids fallout
• Communication needs to stress best value in each product: member needs to see value
• Upside: can be one of the few ways to overcome a mispriced portfolio quickly after CARD Act
TRK ADVISORS
38
Reward Types & Value• Concede you will never get some of your Transactor
members: Delta, Amex, Starwood …
• Redemption Options
– Travel: Important „aspirational‟ reward
– Merchandise: Not that important to true Transactors
– Cash: Card holder needs to see 1% value
– Cash Equivalent: Critical, where some fall short
– Pick Your Own: Good sales point
– In Credit Union Redemptions: Can be nice
• Booking reward expense: Accrue!
• Expirations: Yes (no more than five years)
TRK ADVISORS
39
It‟s easiest to take the program „tied‟ to your processor, but that is not always the best for your purpose
PART 6 What’s Next?
TRK ADVISORS
40
Looking Ahead: Interchange
TRK ADVISORS
41
• Could see interchange rates reduced– Would change everything about card rewards
• More likely (in our opinion): Card spending down– Merchants can now discount for cash/debit.– Some card holders will use those discounts: card spending down– Proportionally higher in the Revolver segment– All the more reason to make sure products are separate
• Reward program fees are on the radar– Don‟t want to be a first mover unless you have to– We recommend higher APRs for rewards to make sure you still
have this option as things develop
• Could see interchange rates reduced– Would change everything about card rewards
Looking Ahead: Other Thoughts
TRK ADVISORS
42
• Big banks sending mixed signals on rewards– Some are increasing reward point values and selling it– Some are eroding value and keeping their mouths shut– Some don‟t know what they are doing
• Look toward reward card as member‟s „third‟ step – Step 1: Secured credit or (re)starter card– Step 2: Fair rate non-rewards card– Step 3: Reward card– More applicants than ever will be starting at Step 1
• Some processors have not thought about things from your perspective: you need better.– Bad advice and guidance (30% redemption rate? Embarrassing.)– Have confused causation with correlation– More accounts enrolled in rewards = higher invoices
You have to protect your own interests! Be active.
