Where is the Money

in Payments?

EPCA conference presentation

March 25th 2013

Brussels

CONFIDENTIAL AND PROPRIETARY

Any use of this material without specific permission of McKinsey & Company is strictly prohibited

McKinsey & Company | 1

Contents

Real challenges to profitability

Levers for improvement

The importance of being

payments!

McKinsey & Company | 2

Globally, payments represent close to 1 trillion EUR in revenues,

out of which 25% are generated in Europe Global banking revenues, %, 2011

100% = EUR 3,100 billion

70

Other banking

revenues

Payments

& accounts

30

Retail accounts

Corporate accounts

Credit card issuing

Card acquiring

E-purse/prepaid

34

35

25

5 1

North

America

Europe

APAC

LatAm

Other

25

25

33

15

2

100% = EUR 930 billion

Pre-tax profits margin 20-25% (equivalent to

EUR 180-230 billion operating result)

McKinsey & Company | 3

Despite a drop during the crisis, European payments revenues have

proven resilient and importance for banks should increase

128

11495

106 99 101 106112

120

14

237

13

227

126

12

131 124

11

234

+5%

223

-5%

2016

267

146

15

250

137 129

10

217

122

09

237

123

2008

270

142

35%

Share of

banking

revenue

30%

Retail payments Corporate payments

33%

European1 payments revenues, EUR billions

McKinsey & Company | 4

79.6

234.4

26.0

25.715.2

Profits Cash/

Check

-40.6

CT/DD

-9.7

Debit

-6.8

Credit

cards

-23.8

Maint.

-64.7

Risk

-9.2

Reve-

nue

Inter-

est

119.8

Fees Credit

cards

35.4

Debit

12.2

CT/DD Cash/

Check

Key contributors

Europe generates 80 bn EUR in payment profits,

mostly through interest revenues on accounts Europe, EUR billions, 2011

Revenues Costs

Transactions Accounts Credit

cards

Accounts Credit

cards

Transactions

McKinsey & Company | 5

UK

TU

CH SE

ES

PT

PL

NO

NL

IT

IE

HU

EL

DE

FR

FI

ET

DK CZ

BU BE

AT

Ch

eq

ue

Ele

ctr

on

ic

Card transaction per capita 39 Finland Norway 42 Sweden 50 France 50 Denmark 51 Netherlands 52 Belgium 54 UK 57 Austria 64 Estonia 65 Switzerland 66 Germany 69 Ireland 75 Portugal 78 Spain 80 Hungary 88 Czech Rep. 88 Italy 89 Poland 90 Turkey 94 Greece 97 Bulgaria 98

Cash’s share of total transactions

Percent

Electronic share of non-cash transactions

Percent, transactions per capita

Users display very different payment behavior…

Card & cheque

Full

electronic

Cash & paper

Cash & electronic

McKinsey & Company | 6

France United Kingdom

Total

revenues 27.6

Cash &

Cheque 0.9

Electronic

payments 2.9

Overdraft 3.9

Card 3.7

Current account

Retail 9.1

Current account

Corporate 7.2

3.0

7.8

10.1

5.7

30.8

1.3

2.8

30.0

1.2

2.2

4.5

13.3

3.3

5.4

… resulting in country differences in source of payments revenue

Key contributor

Germany

Payment revenues 2011, € Billions

McKinsey & Company | 7

Users are also being charged in different ways

8

2

10

8

12

13

13

11

14

12

28

64

4

4

12

3

2

1

2

1

1

1

1

1

0

0

0

74 12

27

Poland 58 16 ~22

Italy 68 20

UK 68 7

Switzerland 70 21 ~8

Sweden 71 15

Austria 71 16

Belgium 72 20

France 75 12

Netherlands 75 23

Russia

Denmark

6

Spain 31 39

Norway 55

30

~25

Portugal 56 31

Germany 58

18

Net interest income

Maintenance fees

Transactional fees

Incident fees

Retail payments revenue, percent, 2011

McKinsey & Company | 8

Level of profitability is also highly differentiated

100 150 200 250 300 350 400 450 500 550 600 650 700

Price per transaction EUR

1,4

1,2

1,0

0,8

0,6

0,4

0,2

0

Total payments revenue per capita EUR

UK

Switzerland

Sweden

Spain

Portugal

Norway

Netherlands

Italy

Ireland

Germany

France

Finland Denmark Belgium

Austria Slovakia

Poland

Hungary

Czech Rep.

McKinsey & Company | 9

Contents

The importance of being payments

Levers for improvement

Real challenges to

profitability

McKinsey & Company | 10

Payment market is exposed to five strong global trends

Battle for liquidity increases

Increasing and fragmenting

customer requirements driven

by technology development

Entry of new players and

emergence of new business

models

Heightened regulations is the

new normal

Revenue rapidly moving East

Payment

margins under

pressure due to

A Interest rate

evolution

B Innovation &

compliance

costs

C Competitive

pressures

McKinsey & Company | 11

Impact of a 1% decrease in reference rates

on payments revenues

Percentage of

total payments

revenues EUR billions

5

North

America 10

EMEA 40

APAC 90

World 145

LatAm

28

13

5

3

… while payments revenues remain hea-

vily exposed to interest rate fluctuations

14

A

Excess Deposits

“Battle for Deposits”

Liquidity imbalances remain….

US: banks cannot

profitably invest

their excess

liquidity

APAC: Central

banks controlling

liquidity with high

reserve

requirements

LatAm: increasing

demand for credit

creating greater

need for deposits

Europe: Still

looking for sources

of much-needed

deposit funding

Payments industry remains extremely vulnerable to interest

rate fluctuations

McKinsey & Company | 12

Banks

Advanced industries

Pharma/ Healthcare

Telecom

Transport/ Logistics

Energy

Resources

Regulation is limiting earnings potential and increasing

compliance investments

45–55

35–45

30–40

50–60

25–30

40–50

Estimated share of EBITDA at stake

Percent

B

Level playing field

Customer protec-

tion and antitrust

Efficiency

promotion

Financial stability

Crime protection

5 major areas

50–60

McKinsey & Company | 13

B Customers increased service and convenience expectation drives

need for new product investment

6 themes gaining traction

Better money management

More social, more fun

Immediate & secure access

Ultra convenient

Personalized and customizable

Consumer-centric pricing

McKinsey & Company | 14

15

11 53

100

Net Interest

income

Non card

maintenance

fee

Non card

transactional

income

Card

Issuing

17

Merchant

services

4

Total

revenues

New entrants first target

merchant services

Traditional card issuing

revenue desinter-

mediated by new

merchant services

solutions

Other fee-related income

targeted by new entrants

(e-invoicing solutions, P2P,

B2B payments)

Payments revenue, Indexed

C Attackers are targeting sweet spots

Net interest income remains

relatively safe for now, but

pressured by interest levels

McKinsey & Company | 15

Contents

The importance of being payments

Levers for improvement

Real challenges to profitability

McKinsey & Company | 16

What to do to recapture the payment margin

Formulate

innovation

around value

creation

A

Review cost

and service

models

B

▪ Innovation beyond technology

▪ Alternative business models create new

types of revenues

▪ Define innovation objectives and focus

on value creation

▪ Match cost base and focus on efficiency

of attackers

▪ Reduce differences in efficiency between

providers

▪ Explore learning from other industries

McKinsey & Company | 17

Objectives

▪ Increase wallet

share and

stickiness

▪ Increase scope

of customer

mandates

▪ Access new

markets and

customer

segments

▪ Increase

profitability

Innovation should focus on increasing profitability and provide access

to new markets, using more than technology as a driver!

Primary areas of innovation

A

E

B

C

D

Products and features

Technology

Channels/platforms

Coverage and pricing

Processes and organization

A

McKinsey & Company | 18

Mobile POS

payments &

acceptance

Information-

based busi-

ness models

B2B

payments &

e-invoicing

Remote pay-

ments & new

currencies

Examples Description

▪ Pay or be paid … anywhere, anytime

▪ Phone or tablet as the merchant terminal

▪ Privileged information to improve decision journey

▪ Targeted marketing based on history and location

▪ Integration of loyalty, shopping service, and

payment

▪ Electronify the “round trip” of B2B invoices

▪ Improves efficiency of AR/AP operations

▪ Opens up new services to offer corporates (e.g.,

transaction level financing, receivables mgmt.)

▪ Social media becoming social payments

▪ Alternative currencies for specific commerce

▪ Cloud-based apps enabling new remote

payments

A New payment players apply new revenue models to enter

the market

McKinsey & Company | 19

Location

based

marketing

Transactional

based

marketing

Digital

Marketing

NFC

E-wallet

Digital

Payments

Transfer

based

+

Coupons /

Rewards

Budgeting

applications

Digital

Banking

+

New

Application

New

combined

application

=

A New payment solutions will need to combine banking, payments and

commerce functionalities

McKinsey & Company | 20

Payment operations have already done

substantial efforts … Still…

… over 50 % of all expenses are still

people related and important differences in

performance exist

Payments is a largely automated

business line with straight-through

processing (STP)

1

… payment platforms are most often not

optimally harmonized Payments is a scale game 2

… no systematic purchasing

management in place and incomplete

outsourcing strategies

Payment operations are grouped

at European levels 3

… cost of IT applications differs by factor

2-3 between best and worse in class Large, standardized IT systems

form major fixed cost component 4

… payments are not designed around

customer needs but around system

capabilities

Payment products are already

highly ‘commoditized’ 5

B Efficiency of payment operations is often overestimated by banks

and processors

McKinsey & Company | 21

Accounts/FTE

20.922.223.4

GM Worst

(Nissan)

-11%

Best

(Honda)

-67% 2,340

779

Worst Best

12,5

Average Worst

17,8 -47%

9,4

Best

Issuer processing

Cost per transaction, Eurocent

Variability in banking and payments

is very high…

Labor hours/vehicle

… while sectors as automotive

show low variability

If worst performing banks increase productivity to equal automotive

difference, banking industry productivity would grow by 50% and sector

ROE by 2-3%

B Comparison with other industries shows that banks overall have

a significant productivity variability in payments

McKinsey & Company | 22

Critical enablers

New levels of

cross-functional

collaboration

1

Bold industry

moves 2

Standard

industry metrics 3

New capabilities

and culture 5

Addressing HR

barriers 4

Examples from other industries

▪ Automotive uses cross-functional and supplier

collaboration to design products to target cost

structure

▪ Telecom has aggressively outsourced network

operations to reduce costs

▪ Automotive uses standard hours per vehicle

benchmark to compare productivity

▪ IKEA practices cost consciousness at all levels

▪ Postal players renegotiated delivery staff wage

agreements after liberalization of market

B What will it take to make things different this time?

Lessons from other industries

McKinsey & Company | 23

Where will be the money in payments?

Payments are a major part of

financial services revenues

Economics remain complex due to

major differences in revenue

models

Future earnings negatively

impacted by external pressures

Need to investigate new models of

revenue and review operating

models for cost