SBI tots up cost of digitisation: Banks suffering loss of Rs3,800 crore per year!

In order to encourage card payments, the Indian government has been pushing the banks to install more number of point of sales (PoS) and banks are installing on an average 5,000 PoS per day. However, the transaction at PoS is increasing at a slower pace. If the transactions does not gain the momentum, this would raise the questions of viability of the business, says a research report.

In the note, State Bank of India (SBI), says, "The overall loss of around Rs3,800 crore per year is quite substantial and hence the sustainability of the card business depends on a number of factors like, merchant discount rate (MDR), low card usage, poor telecom infrastructure, lack of incentives to merchants to accept cards, and insufficient awareness about the costs associated with use of cash. We in fact believe the current humongous PoS infrastructure that the banks have developed have to be supported wholeheartedly."

The exorbitant increase in number of PoS terminals post demonetisation from merely 13.8 lakh in March 2016 to 28.4 lakh as of July 2017, has resulted an increase in debit and credit cards transactions at PoS.

The payment card industry in India is based on a four party model, including issuing bank, acquiring bank, merchant and customer. The acquiring bank bears the entire cost to create the infrastructure for PoS terminals, clearing and settlement, merchant training, terminal maintenance, and supply of consumables while the issuing bank involves the cost of issuing the cards and also manages other risks relate to card holders like failed transactions, and frauds. The two other stakeholders are card network like Visa, MasterCard, and RuPay and technology service provider (TSP) like Hitachi or Worldline, who provides SWITCH, merchant management system, risk engine, accounting and recon, and interface with card schemes.

If the issuing bank and acquiring bank are the same bank, then the transactions at PoS are termed as ON-US transactions. While, if the issuing bank and Acquiring bank are different entities, then it is known as OFF-US transactions.

Acquiring bank in turn receives revenues only in the form of MDR and monthly rental. The MDR on debit cards has been at 1%, while there is no fixed MDR on credit card transactions.

Post demonetisation, the Reserve Bank of India (RBI) lowered MDR to 0.25% till end March 2017, for transactions up to Rs1,000. SBI says, "This incentivised merchants to accept cards for the payment and also a huge of number of merchants has been installed PoS. But, this has impacted the revenues of banks, as most of the transactions are in small amounts."

Indirect benefits for the acquiring bank include low cost CASA deposits, cost saving in ON-US transactions by migrating the customers from ATMs and branches, leveraging merchant relationship (for cross-selling), increased visibility, de-congestion of branches, and capturing cash-flow in case of borrower merchants etc.

Cost of a cash transaction at a branch and ATM is assumed Rs35 and Rs15 per transaction respectively. "Due to demonetisation, we believe 10% of the ATM transactions might have reduced, and have shifted to PoS or other digital mode of transactions. If this trend continues, then it will reduce the burden of banks in managing cash at ATM," SBI says.

"We estimate that for OFF-US transactions, the aggregate annual loss for card transactions at PoS terminals around is Rs4,700 crore. However, the net revenue gain per annum from ON-US transaction at PoS would be around Rs900 crore. Hence the total annual loss to the banking industry is around Rs3,800 crore," SBI says.

Despite the rationalisation of MDR charges, most of the small merchants are either not accepting cards or charging extra of up to 2% over and above the cost of the product. As per the agreement with Bank, the merchant should bear the cost of MDR but they are transferring the cost to the customer.

In addition, SBI says, a better telecom infrastructure is needed to drive the digital payments agenda of the Government successfully. "This can be achieved by ensuring dedicated spectrum for financial transactions alone, as there is insufficient quantum of spectrum for the infrastructure to take the additional load," it added.

With the launch of Bharat QR code, the retail electronic payments will become more seamless to enable digital payments without using the physical card swiping machines and cards. Bharat QR is interoperable among major card schemes. The merchants will be identified by one QR code whether the payment is through MasterCard, Visa, AMEX or RuPay and this will result in deepening of acceptance infrastructure.

However, SBI says, whether it is a better alternative to physical PoS infrastructure is still not clear at this point of time. "The problem with Bharat QR code that we expect everybody to have a smart phone, but we must also strive to terminalise 30 million merchants. At the end of the day, there is little difference in cost between a smart phone and a PoS machine. PoS machines could also be given a push by Government and others and made a part of Make in India campaign," it added.

"Though Government has proposed various measures to incentivise PoS infrastructure and banks are installing PoS terminals. But, in the long-run, the business would be viable, only if the transactions at PoS surpass the ATM transactions, an enviable task indeed!" the report concludes.

Here is the hypothetical Example used by SBI to understand cost/revenue...

To understand the income and expenditure of PoS, we have constructed a hypothetical scenario of a hypothetical bank. To estimate the cost/revenue, we have simplified the example that Rs100 has been transacted by credit card over PoS terminals. Since there were 28.4 lakh PoS machines in the country as on July 2017, which handled credit card and debit card transactions of 390 million (average of November 2016 to July 2017 average, it translates roughly into 150 transactions through each PoS machine per month. We use this number as the starting point for calculating per transaction cost of consumables, and monthly rental.

Scenario 1: OFF-US Transactions: Acquiring Bank is not same as Issuing Bank (about 70% Share)

When both acquiring bank and issuing bank are different entities (OFF-US transactions), we estimate that acquiring bank has a net loss of Rs1.09 per Rs100 credit card transaction. There were transactions worth Rs30,000 crore monthly average that happened on PoS terminals during November 2016-July 2017 period using credit cards (70% of transactions acquiring bank is not the same as issuing Bank). This translate into monthly loss of about Rs225 crore for credit card transactions at PoS. The annual loss turn around to be around Rs2,700 crore.

In the case of debit cards, interchange cost and MDR varies with transaction amount. Since per transaction value of debit cards at PoS terminal was Rs1,400 (May 2017), we have calculated cost/revenue for per Rs100 transaction from debit card on PoS terminals. Our estimate suggests that there is a loss of Rs0.64 per Rs100 debit card transaction. Since there were transaction worth Rs37,500 crore on PoS, the cumulative monthly loss is around Rs168 crore or annually it would be Rs2,000 crore.

Hence the aggregate loss for debit and credit transaction at PoS terminals accounted for loss of Rs400 crore per month. This translate into an annual loss of around Rs4,700 crore.

Scenario 2: ON-US Transactions; Acquiring Bank is same as Issuing Bank (around 30% Share)

If both acquiring bank and issuing bank are same the same entities then there is no interchange fee and hence the whole arithmetic will change as the interchange cost is the largest part of the total cost. In this scenario the total cost for credit card (per Rs100 transaction will be Rs4.79 compared to the revenue of Rs5.50, hence a net gain of Rs0.71 per Rs100 credit card transaction. In the case of debit cards also there will be a gain of Rs0.11 per Rs100 debit card transaction. The net revenue gain per annum from ON-US transaction of credit and debit cards at PoS would be around Rs900 crore.

Hence total net loss for ON-US plus OFF-US transactions to the banks is around Rs3,800 crore.