5 Reasons Why Your ‘Dynamic’ PIN Debit Routing Isn’t Optimal

17th October 2019
Contributor:
Alistair Matthewson
Alistair Matthewson

So, your processor tells you that you’re getting the maximum financial benefits from PIN debit routing. But how do you know they’re telling the truth?

Over the past eight years, we’ve seen increasingly sophisticated and dynamic solutions rolled out across the U.S. As a result, many merchants now believe that they are truly optimal – however, just because your routing is dynamic, that doesn’t mean it’s least-cost.

The most cost-effective route for each transaction depends on a number of complex factors, including network availability, merchant sector, transaction value, regulation status and incentives. However, due to poor information provided by processors, merchants fundamentally lack visibility into their arrangements.

Time and again, merchants are left to blindly trust that their PIN debit routing arrangements are optimized, costing them millions of dollars a year in bottom line savings.

Don’t just rely on trust. It’s time to independently audit your processor’s solution: here are the top five reasons why.

1. Your processor may have incentive agreements with the networks.

Relationships between different parties in your payments supply chain are opaque, and incentive agreements are common. Usually, these involve processors deriving financial benefits from routing more transactions down a certain network’s rails. As you might expect, this provides more incentive for processors to route in their own interests, rather than to benefit the merchants – making it very difficult for merchants to trust that their arrangements are as optimal as their processor claims.

In fact, we sometimes find that contracts between merchants and their suppliers contain no obligation for them to route optimally, giving processors free rein to make these deals. As a result, even the most sophisticated solutions can be far from optimal

Routing 101

PIN debit routing was made available to merchants by the Durbin amendment’s No Network Exclusivity (NNE) clause. Introduced back in 2011, the clause aimed to create competition between the networks by guaranteeing that at least two mutually exclusive debit networks were available on each card. Using a processor’s PIN debit routing solution, merchants are now able to route their transactions via a choice of networks with more competitive rates.

2. Your own incentive agreements may not be as effective as you think.

Larger merchants are often able to agree their own incentives with the networks, whereby they receive a significant upfront sum in return for prioritizing that network. This is often tempting, as merchants can see the financial benefits instantly, rather than amounting them over time.

Beware the big check. These large upfront incentives rarely deliver the same value as truly optimizing your PIN debit routing – what you gain in the short-term, you could more than lose in the long-term.

Alternatively, some merchant-network incentive deals provide lower fees via pass-through benefits or alternative rebate structures, achieved through routing a defined volume of transactions down the network’s rails. However, with regular rate changes, ancillary network fees, and many processors having their own incentives in place, it often proves a difficult task to manage these structures effectively and ensure your deals are honoured by your supplier.

3. Your processor has a conflict of interest.

The payments industry is continuing to consolidate, with a number of significant acquisitions having taken place in the last few months alone. As a result, there are now multiple examples of processors having their own network, and therefore benefitting from routing as many transactions as possible down their own rails.

In the near-future, these conflicts of interest could impede your efforts to achieve least-cost routing and implement your own effective incentive arrangements. With so many recent industry changes, it’s more important than ever that merchants conduct an in-depth, objective analysis of their routing arrangements to ensure that there are no conflicts of interest pushing their costs up, and that they are future-proofed for any changes ahead.

4. Your solution isn’t maximizing interchange savings for Durbin-exempt cards.

The nature of the payments supply chain encourages the networks to keep unregulated interchange fees high in order to attract issuers. Just 63% of debit card transactions in the U.S. are covered by the Durbin Amendment’s interchange regulation – leaving 37% subject to unregulated, higher interchange fees.

These ratios vary significantly by geographical location, so you may find that some stores are processing significantly higher volumes of unregulated cards, and therefore incurring higher fees, than others. Additionally, many tools rarely factor in the routing opportunities available from the detailed analysis of merchant by merchant variation in transaction values over time – a critical element of optimized routing. This adds an extra layer of complexity that must be accounted for. 

Processors can’t simply look at network fees to determine the least-cost route for a transaction: they must also factor in any variables in interchange and ensure the frequent pricing changes are reflected in their routing tables. So just because transactions are being sent down the route with the lowest network fees, that doesn’t necessarily mean it’s optimal.

Alistair Matthewson - Head of Technical Consultancy

5. Your ‘sophisticated’ solution isn’t actually sophisticated enough to support your business needs.

Following years of technological development, merchants now have a wider choice of more sophisticated tools than ever before – providing the opportunity to route more intelligently and efficiently. Dynamic Routing, Smart Routing and Volume-Based routing are all phrases we hear often in the PIN debit space. But how dynamic, intelligent, or cost-effective are your arrangements in reality?

The answer is: it’s completely subjective. Merchants are regularly left to trust their processor’s word that their arrangements are ‘dynamic’, but few will be given a firm understanding of exactly what that means.

Even merchants with highly sophisticated, dynamic PIN debit routing need to be wary. In addition to the issues listed above, some processors will charge premiums for ‘optimal’ routing solutions. These premiums can absorb a large portion of the savings obtained by the routing itself, negating the true net benefit of paying for a dynamic tool, rather than a more basic routing logic. This makes it essential for merchants to thoroughly audit their arrangements to ensure their costs really are minimized.

In fact, some merchants are still using outdated, static routing mechanisms – sometimes unknowingly. These solutions simply use a pre-set priority order to automatically select the highest-ranking network on each card. The odds are, you’ll rarely be using the most cost-effective route with this type of solution.

Ultimately, independently optimizing your PIN debit routing arrangements can be extremely complex. Due to the poor information provided by processors, merchants generally lack visibility into the routing options that were available for each transaction – making it extremely difficult to identify any of the problems above. With processors often claiming that arrangements are optimal, it’s no wonder that merchants across the U.S. are losing millions of dollars a year to sub-optimal routing.

However, the return on investment for optimization is high. At CMSPI, we’ve supported merchants to achieve savings of 7 and even 8 figures annually: without needing to change processor, disrupt relationships with suppliers, or implement new systems. In fact, once they have maximized visibility through an independent review of their arrangements, merchants can expect to see the benefits coming through immediately.

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