Deconstructed Check Processing?

I just got back from an excellent Remote Deposit Capture Summit organized by RDC.com. It is fast shaping up to be the place to gain knowledge and network with key players in the check processing industry. Not so long ago, there were several events a year devoted to, or with a major emphasis on check processing. Most have fallen by the wayside- perhaps driven by the assumption that check processing is mature and uninteresting. That this was from true was attested to by many at the Summit who presented business and consumer adoption figures showing a vast, yet untapped market.

Whether adoption has been glacial or spectacular depends on perspective. Celent’s Bob Meara had done a study a while back showing that check imaging has had a faster uptake than most other technology introductions in the banking space. Yet, the impatience to drive distributed capture into every office, shop and home is understandable. There was continued debate at the Summit between risk perception and the need to drive customer convenience. It is my take that while the risk folks ruled the roost in the early years, the convenience advocates are beginning to scale the ramparts. 

Yes, mobile RDC is cool and growing, check scanners are growing smaller and more accurate, but what caught my eye at the Summit is a possible shift in industry tectonics. Remember the early days of distributed capture? The focus was on branch back counter and teller capture back then. The technology players in the marketplace were those that had a pedigree in traditional check processing- the people who could make documents fly down the track on a 3890 high speed sorter. You had to earn spurs in centralized, sorter-based processing to get a seat at the distributed capture table. 

The push to capture checks from outside a financial institution’s infrastructure through merchant capture, and the slow evolution of the X9 and image quality standards began the tear away from the “sorter-on-a-rope” paradigm, as an industry wag uncharitably put it. New players entered the field, and some leading names disappeared from the industry. Fast forward (yes, an obsolete term in the MP3 era) to 2012, and we have technology suppliers specializing in particular channels of capture. Clearing and settlement? Oh well, that’s something that someone does with the X9 file we give them. Now, toss in the down-loadable app, and we are perhaps set for more deconstruction of the check processing chain.

I am tempted to draw a parallel with the evolution of card processing. During the paper draft days, there were “paper factories” processing card transactions. Electronic Draft Capture (EDC), and the introduction of specialized terminals by Verifone , Hypercom and others changed the nature of the industry. Today, there are those that specialize in the acquiring front end and others who drive scale through the switch. Substitute the words “capture” for “acquire” and “clear” for “switch” and you may have a template for where check processing may go.

I know past is not always prologue, and checks are very different from cards. Draw the picture out nevertheless and contemplate the shape of the check processing industry in five years. Fascinating, right?

Image Payments- Commoditization Redux?

The payments industry has seen the uncanny repetition of a pattern. It starts with innovation driven by software companies, followed by ambitious "hockey stick" adoption predictions, fits and starts a la Geoffrey Moore's "chasm" model, an initial trickle followed by a torrent towards outsourced processing and a brutal race to scale and commoditization.

Not all that long ago, there were around thirty U.S. providers of in-house credit card processing software, addressing both the issuing and acquiring ends of the spectrum. Today, there are none that I can think of. A few providers remain, serving niche international markets which are yet to be served by giant multi-national transaction processors. The card processing market is otherwise dominated by transaction processors(or should we call them Software as a Service(SaaS) providers in keeping with contemporary monikers?).

The early years of both credit and debit card payments were characterized by battles for recognition by relatively unknown players, using innovation as a weapon of differentiation. The now distant introductions of electronic draft capture (EDC) and even the automated teller machine (ATM) were ground breaking and transformational. With the move to outsourced processing, however, the overarching imperative shifted from innovation to operational efficiency. Efficiency allowed scale, which in turn drove ever lower costs, resulting in tremendous operating leverage.

A few factors accompanied the shift to outsourced processing. There was massive consolidation in the rush to scale- independent software vendors were elbowed out in the melee. Banks exited the business, and allowed third parties to soon dominate the landscape, despite dire warnings from some that disintermediation could result in banks surrendering access to strategically important customer franchises. The rules of governance and the interchange system created by Mastercard and Visa provided the ideal platform for global acceleration. The availability of inexpensive telecommunications bandwidth and distributed terminal technologies has given us a world in which a card issued in Minneapolis can be swiped in Manila, and then processed by a switch in Melbourne, Australia.

Great, you say, but what does this have to do with imaged check payments? It is true that check images originate at more varied points, including branch back offices, teller stations, image-enabled ATMs, corporate offices, retail points of sale, and even people's homes. In contrast, card transactions are limited to points of sale and ATMs (not counting card-not-present transactions). The need to capture images of a certain quality, recognize amounts, correct errors, and balance transactions involving multiple checks makes this a more complex cat to skin.

Nevertheless, there are early indicators that check image payments are following a path similar to their plastic cousins. There has been significant consolidation in the industry with independent software vendors having been acquired by transaction processors- witness Metavante (AFS, Vectorsgi), Fiserv (Carreker), Fidelity (Bankware), to name a few. There is an acceleration of images being exchanged between banks through networks like Endpoint Exchange, The Federal Reserve, SvpCo, and Viewpointe. Independent Sales Organizations (ISOs) are adding check capture to their kit bag of offerings to the merchant community. While the so-called X9.37 standard for image exchange still exhibits Babel like inconsistency, it is markedly less opaque than it was a few years ago. The check scanner vendors are gingerly feeling their way towards including more check processing workflow capability in their devices, lest they fall afoul of their software provider partners.

So then, is the past necessarily prologue? Are we on a one way track to a First Data type transaction processing behemoth covering the span from capture to settlement?

Based on observation of industry evolution, StratEx, LLC predicts the following:

In the next five years,

• There will be no independent check imaging software vendors in the U.S.
• Core processors will convert acquired software companies into captive suppliers to assist outsourced item processing
• Severe price pressure on transaction fees will be the norm as core processors bundle (and perhaps give way) item processing with core deals
• The outsourced processing market will have several players serving niche markets dictated by institution size, and geography (dictated by sales coverage not technology)
• The commoditization will be most pronounced in consumer and merchant capture
• Branch capture (particularly teller capture) will not see as drastic an erosion in value
• Teller capture will increasingly be combined with teller systems as teller platform providers either make or buy their own capture applications
• ATM capture will continue on its very slow adoption curve

In ten years,

• There will be a significant consolidation of transaction processors for item processing as scale becomes all important
• This will include a few "bank agnostic" processors representing a replay of the disintermediation seen in card acquiring
• Merchant and consumer capture applications will become part of scanner firmware, resulting in a "terminal-to-switch" path typical of card processing today
• Merchant and consumer capture will also be widely available as embedded applications in home banking and accounting software packages (the latter facilitating the "bank agnostic" processing referred to earlier)
• ISOs will dominate the sale of merchant capture to businesses, with capture application enabled scanners being their flagship "plug and play" products
• There will be no interchange fee system for check transactions; rather there will be risk adjusted transaction fees depending on transaction type and source
  
  Whether or not these predictions are borne out exactly, providers and buyers of item processing software and services will be well advised to factor these possibilities into their strategic scenario planning.
  
  After all, it is always better to ask "what if" as opposed to "now what?"