BY JAN SMITH
(InfoAmericas) - As the process of consolidation and acquisition among Latin American banks has matured, key players have shifted their attention to new technologies, seeking to boost card penetration and to reinforce their competitive positions. The new EMV smart cards are on the leading edge of this trend.
Card penetration grew substantially during the consolidation of the banking sector, rising from 17 percent in 2000 to nearly 27 percent in 2005 across the region, and reaching over 30 percent in Brazil and Mexico. Surprisingly, this growth was achieved without major upgrades to the underlying infrastructure and technology. This situation has now shifted, with an investment of more than $200 million in card
technologies expected in 2006, marking a rise of 70 percent over 2004 and 2005. This spending will follow the same route as other recent investments and will be targeted at software solutions for credit-rating and new terminals. Further investments are expected in CRM and retail-reward solutions linked to EMV technology technologies.
In retrospect, the fact that the banks and credit card companies delayed infrastructure upgrades during the period of consolidation has actually helped them. They avoided the cost of adopting intermediate solutions and are now in a position to leapfrog to the latest technologies. In some cases this has helped to reposition brands after acquisitions. For example, when HSBC acquired Bital in Mexico in 2004, it launched a new smart card bearing both Bital and HSBC branding.
The most important new technology is the EMV card. This is a smart card that enables the global standard for payment systems developed by Europay, MasterCard and Visa (EMV). The standard defines protocols for interactions between the terminal and the card’s computer chip, as well as the software installed on the card. Fraud prevention was the most important impetus for its development but it is also enabling personalized loyalty programs as well as new back-office solutions for credit risk assessment.
Although the EMV standard was published in 1994, the initial excitement quickly wore off and the cards were very slow to gain traction, especially in Latin America. The migration to EMV cards began in Mexico in 2002, when Santander Serfin launched the Uni Santander-K and Citigroup Banamex introduced B-Smart cards. Rollout has been aggressive in Brazil, Mexico and Argentina, and the near totality of card portfolios is expected to have migrated to EMV by 2008. This is slower than originally expected (and desired) but promises total transition.
RISING FRAUD KEY MOTIVATOR
One reason that banks and acquirers were slow to adopt EMV technology was that card fraud rates in Latin America have traditionally been among the lowest in the world. While fraud remains low by global standards, the rapid growth of card penetration has pushed up the number of fraudulent incidents by some 15 percent annually. This has motivated key players to act, and most banks in the region initially indicated that reducing fraud was the most important benefit of the EMV standard. The highest rate of migration from magnetic-strip cards to EMV cards is seen in Brazil, where almost 90 percent of terminals are EMV-compatible and where the fraud rate is reported to have fallen by more than 80 percent . Mexico is also migrating quickly and is projected to have 370,000 EMV-compliant terminals in service by the end of next year. In smaller markets like Chile and Peru, the rate of adoption will be slower as EMV-compliant cards are issued to new accounts, but existing cardholders continue to use magnetic-strip cards until they expire.
The delayed migration to EMV in Latin America means that the global standard comes with the latest generation of card chips, which allows them to run state-of-the art software. Memory has increased too, with the latest cards sporting 32KB and even 64KB of memory, compared with 8KB seen on earlier versions. Among other benefits, this increase enables the storage of more complex customer profiles on the card. This greatly improves opportunities for cross-selling by banks and merchants, and helps them to develop targeted marketing. For example, they can offer special discounts if a particular card is used in a designated store. It also enables instant processing of loyalty rewards at point of sale, and can identify new customers the first time they use their card in a store. The result is higher transaction volumes per card and increased retail sales.
Improved customer profiling, rather than fraud reduction, was the principal motivation behind the decision of Mexico’s BBVA-Bancomer to launch Mexico’s first enhanced loyalty program that leverages smart card technology. The Vida Bancomer card, introduced in March 2005, uses custom-designed software developed by the bank. More than 2,000 merchants have already enrolled in the program, and the bank’s objective is to reach at least 10,000 merchants. Consumer feedback in 2006 is positive, and includes high satisfaction scores for merchants.
INCREASING LOW-INCOME PENETRATION
The Latin American card market is at a critical juncture in its history. The higher-income market segments are saturated, while increasing penetration of lower-income segments is hampered by the absence of adequate credit rating systems. Smart cards are an important part of the solution in both segments. In the higher-income segments, card issuers will rely more and more on information collected through the new cards to build customer profiles, to target marketing initiatives, to develop niche markets and to refine customer services. If these efforts are successful, the result will be an increase in the value of transactions per card.
In the low-income segment, card issuers have learned the hard way about the risks of offering cards to customers that have little or no credit history. In Colombia, Mexico and Brazil bad-debt write-offs grew rapidly between 2002 and 2005, and only now are beginning to be reigned in. And while most consumers with no credit cards are willing to pay premium interest rates to get their first card, in practice the activation rate is very low. In Brazil, for example, Santander-Banespa reports that nearly 40 percent of new cards issued to the low-income segment are not activated at the end of the first six months.
Assuming that low-income cardholders do eventually use their cards, smart card technology provides a valuable tool for evaluating credit risk. Details of their transactions are stored on the card, making it easier to create customer profiles. By comparing their activity with behavior models, banks can develop systems for establishing and increasing credit limits, while at the same time developing tailored marketing tactics for this segment, with the goal of attracting debit card users to switch to credit cards.
Mexico’s Banco Azteca, a bank that grew out of Grupo Elektra’s consumer credit unit, provides a good example of this strategy. The bank is focused on the unbanked population that has been generally ignored by the mainstream banks. Smart cards make it much easier for low-income individuals to use payment cards. These customers are generally poorly educated, may be illiterate, and often lack official ID, so the ability to store their photographs and biometric data in the card’s memory is a major advantage. While this might be seen as a negative factor to privacy-conscious affluent customers, the opposite is true for the unbanked. Personalization bolsters their confidence in a card and helps to overcome their inherent distrust of traditional banks. If Banco Azteca can translate this increased confidence into sustained card usage, it will gain additional data that can further improve customer profiling and carry out highly-targeted marketing.
The benefits of smart cards described here, including fraud reduction, enhanced loyalty schemes, better customer profiling and targeting, utility for low-income customers, and improved risk assessment are each substantial. Taken together, they are a major market driver. As the power of smart cards is increasingly exploited they will play a key role in the continued strong growth of the payment card market in Latin America.
Jan Smith is director for the financial services practice of US-based consultancy InfoAmericas. This article is republished with permission from Tendencias, the magazine of the InfoAmericas.