Visa, Returning to Old Ways, Squelches Competition in Debit

Imagine that a gas station was so large in its local area that virtually all motorists had little or no choice but to purchase some of their gas from it. 

Now imagine that this dominant gas station instituted a monthly access fee for the right to purchase gas at its stations that drivers must pay no matter how much gas they buy from that station. And then imagine that the gas station gave motorists the ability to offset the access fee, but only if they buy as much gas as possible from that station. 

Would customers pay the monthly fee? They'd have to. Would anyone ever fill up at a competing gas station? Almost never. And would those competing gas stations stay in business? Not for long. 

These are the issues raised by Visa's Fixed Acquirer Network Fee. The FANF is much more than simply a "fee." Rather, it is a pricing mechanism that leverages Visa's market power in credit and signature debit to effectively penalize merchants that route debit transactions to any other network.  It is the latest Visa tactic aimed at subverting the debit network competition that the Durbin Amendment to the Dodd–Frank Wall Street Reform and Consumer Protection Act was designed to foster.

The FANF demonstrates that Visa's playbook remains the same. When faced with emerging threats, Visa employs anticompetitive tactics, rather than superior offerings, in order to disadvantage its competitors. As the saying goes, the more things change, the more they stay the same.

The backdrop to the FANF is as follows: With issuers being required by the Durbin Amendment to add unaffiliated networks to all Visa-branded debit cards, Visa has lost the exclusive real estate on an estimated 150-200 million debit cards.  Faced with this threat to its dominance and in order to stem the anticipated migration of as much as 80% of its debit transactions to other networks, Visa reconfigured its network pricing to charge merchants a fixed network access fee. 

Visa originally labeled the fee the Network Participation Fee, and then renamed it the Fixed Acquirer Network Fee to create the fiction that the fee is actually imposed on acquirers, rather than on the merchants that ultimately bear it.

The fee is fixed and, for most brick-and-mortar merchants, it is based on the number of merchant locations and the merchant's past Visa transaction volume. Put simply, the merchant pays the same FANF whether it accepts one Visa transaction per month or one million. 

Since merchants are required to pay the fixed FANF regardless of the number of Visa transactions they accept, it becomes economically irrational for merchants to send debit transactions to other networks.  After all, if the merchant already is paying Visa – a network it must accept to remain competitive – why pay a second time to send the transaction to a non-Visa network? 

Worse, Visa is also using the FANF as a billy club, extracting Visa transaction volume commitments from merchants in exchange for a "discount" on the FANF.  By forcing merchants to reach these target volumes in order to avoid the full economic brunt of the FANF, Visa reinforces and exacerbates the economic incentive (instilled by the FANF) for merchants to route debit transactions away from competing networks to Visa.  At a May 27 investor conference, Visa asserted that "a substantial number of merchants" have entered into these volume-based agreements. 

This is Visa's idea of competing for merchants.  It imposes an estimated $1 billion to $2 billion increase on the prices for all merchants and then says to some of them, "we will give you some of your money back" if you favor our network over all others.  Only entities with market power behave this way. 

Tellingly, Visa has admitted that this strategy was put together as a response to the Durbin Amendment. Indeed, at that same investor conference while it announced market share declines for Interlink (its PIN debit network) in April and May, Visa also told investors that it expects debit volumes to stabilize and increase after June 30 when the strategy will begin to more fully take hold. 

If this gambit works, Visa will maintain a dominant position in debit over the next couple of years at a time when, resuscitated by the Durbin Amendment, competition should be coming back to life in debit. 

Instead of healthy network competition for merchants' transactions resulting in even lower (below the cap) interchange and reduced network fees, merchants will continue to face Visa's dominant position in debit and the usual litany of higher fees, including the prospect that the FANF can be ratcheted up at any time Visa chooses to use it to subvert competition. 

Against this backdrop, it is not surprising that the Antitrust Division of the Department of Justice has initiated an investigation into Visa's conduct. Considering the threat this strategy represents to debit network competition, we respectfully suggest that the DOJ ask Visa the following questions:

• How can Visa justify a fixed network access fee that is a straight price increase to merchants when the costs of its network have been amortized over decades?
• What is the economic rationale for demanding a fixed, per-location network fee when pricing in this industry has historically been set on a per-transaction basis?
• Has the FANF been structured to substantially eliminate any incentive for the most debit-intensive merchants to route transactions to Visa's competitors?
• Would Visa be able to impose the FANF if it did not wield market power over merchants?
• Does the FANF effectively eliminate most merchants' ability to drop Visa debit?
• What impact will the FANF have on competition in debit?
• If the FANF is not purely a tool to create leverage over merchants, why do large merchants, those that are the least expensive accounts to service on a per-transaction basis, pay the largest fee?

In our view, the FANF looks a lot like the fee that the DOJ required Microsoft to rescind in the early 1990s. The software giant at that time charged computer manufacturers a fixed, per-processor licensing fee based on the number of units shipped, irrespective of whether the unit carried the Windows operating system or some other operating system. The DOJ concluded that the per-processor fee effectively foreclosed competition by substantially reducing the manufacturers' incentives to load competing operating systems. 
In simple terms, if you are paying for a product already, why load a different one and increase your costs? The FANF has the same problematic effect on competition. 

The fluidity of the payment industry, along with the recently enacted Dodd-Frank regulations, has finally rendered Visa vulnerable to competition. But like it has done in the past, Visa is resorting to its well-worn anticompetitive playbook to maintain dominance at the expense of merchants, consumers and competitors. 

The only difference this time is that it is using exclusionary pricing to drive the strategy. Hopefully, this time, with the DOJ, Congress and the courts all active in the payments industry, someone will step forward to block these strategies. 

The future of competition, particularly in debit, might depend on it. 

Jeff Shinder is managing partner and Matthew Cantor is a partner in the New York office of Constantine Cannon LLP.  Both specialize in antitrust counseling and litigation involving the financial services industry.