With competition increasing and financial incentives perhaps nearing a breaking point, issuers will need to look for new ways to differentiate their offerings to win over merchant business in the co-brand space.
Similarly, merchants that can offer additional cardholder perks may be able to differentiate their card programs rather than trying to compete solely on rewards value. Whether issuers choose to invest in digital and big data capabilities, or create greater transparency and partner collaboration, appealing to merchant partners will soon require more creativity and personalization than ever.
Many banks have attempted to deepen their footprint in one of the most profitable financial products (credit cards) leading to increased competition and an overcrowded co-brand market. Established U.S. issuers have returned to the space or ramped up business development, while newer players such as Banco Popular and Commerce Bank have joined the pursuit for co-brand business. Banks have also refreshed their proprietary credit cards, delivering rich value propositions to fuel customer loyalty.
With a positive economic climate and heavy competition, merchants bringing their businesses to the co-brand market have been able to obtain favorable partnership structures and lucrative financial incentives, reaching levels that may be at an all-time high for the industry. Consumers are also benefiting as banks try to one-up each other’s rewards programs in the fight to acquire more customers.
Last year, several large issuers began seeing an uptick in chargeoffs and anticipated credit losses. Now, according to a June Moody’s report, credit card chargeoffs are at their highest rate since 2009. For quite some time, issuers have had historically low chargeoff rates. Low chargeoffs have made credit card programs very appealing to issuers and resulted in profitable deals for merchants. If charge-offs continue to rise, incorrectly constructed co-brand programs operating on tight margins, with inflexible financial structures, may become strained. Issuers will want to keep a close eye on the credit environment to underwrite consumers and construct co-brand partnerships accordingly.
Many of the top issuers are going toe-to-toe on rewards. The Chase Sapphire Reserve Card, with its rich 100,000-point sign-on bonus, brought the card a lot of attention, but caused Chase to take a $200 million to $300 million hit to its P&L in Q4 of 2016. American Express quickly responded with new travel features on its Platinum Card, and its own 100,000-point sign-on bonus, followed by U.S. Bank, which launched its travel-centric Altitude Reserve card exclusively for customers. Last year also welcomed one of the richest co-brand value propositions in the market when Costco launched its new card with Citi and Visa. And the beat goes on, with Amazon’s recent introduction of its Amazon Prime Rewards Visa Signature Card for Prime members.
It is hard to imagine value propositions getting much richer than these, but what are the ramifications for the marketplace? A competitive race for richest rewards could push program margins to the edge of profitability, and some may be already. Can these offers be maintained over the long term, or will they be rolled back, as Chase has done on the Sapphire Reserve card? Will companies with co-brand programs try to create value propositions that win on rewards alone, or will they rely on customer loyalty and appealing cardholder experiences to maintain and grow volume? To further increase their credit card program’s appeal, more merchants may consider contributing to their card’s value proposition either financially to bolster a cardholder’s earnings potential or by adding unique benefits to the card.
Airline co-brand programs are considered among the most attractive partnerships for issuers due to their affluent customer base and high card spend. Several of the largest airlines in the U.S. market either renewed or signed new issuer agreements in recent years (e.g., United, Southwest, JetBlue, Delta, American). The absence of airline co-brand deals hitting the market will likely bode well for companies in other segments, as banks may have more resources and greater bandwidth to focus on smaller programs. Issuers should keep an eye out for de novo co-brand opportunities at growing companies with large, loyal customer bases.
Some merchants with mature co-brand programs are reaping the benefits of profit-sharing components within their deal structures. When an agreement has profit sharing, the merchant will typically receive a predefined percentage of the program profits once the issuer reaches a certain return-on-assets threshold. As structures for dividing revenue can be shaped in many ways, deals heavily weighted toward profit sharing have proven to be very lucrative for merchants in recent years. As cardholder accounts mature, portfolio profitability grows and there is a larger pool of revenue that can be shared with the merchant partner.
Incorporating profit sharing into the agreement also creates the need for issuers to be transparent with merchants, as they must be relatively open about the portfolio profitability. Of course, the benefits of heavy profit sharing in good times can be offset by the potential risks it brings in challenging economic conditions. Issuers must carefully evaluate their portfolio profitability, merchant relationship, and risk appetite when structuring a deal of this nature. A profitable portfolio that contains a merchant-friendly profit share component can also make it difficult for another issuer to swoop in and acquire the co-brand relationship, as it can be hard for a new issuer to compete with an existing lucrative profit share deal.
Consumers are becoming increasingly sophisticated in their use of digital financial services products. They expect frictionless interactions and personalized experiences. As such, banks, especially large banks, are investing heavily in mobile and digital technologies to appeal to consumers’ online- and mobile-first tendencies.
And it’s paying off: Last year, J.D. Power & Associates reported that for the first time ever, the largest banks — JPMorgan Chase, Bank of America, Wells Fargo, Citigroup, U.S. Bank, and PNC Financial Services Group — ranked higher overall in customer satisfaction than their smaller competitors, despite consumers’ belief that midsize and regional banks charge lower fees and deliver better personalized service. To keep up with changing consumer preferences, merchants and their card issuers must collaborate to create more personalized experiences and unique benefits for cardholders, and bank partners must continue to invest in mobile solutions and other innovations.
The rapid evolution of technology is enabling issuers to harness the power of big data and digitization to deliver increasingly sophisticated capabilities to their partners. Real-time personalized marketing, enhanced customer experiences, and advanced underwriting and fraud strategies are capabilities that will help power credit card programs of the future — and the future is arriving now.
Some co-brand issuers are using big data to push tailored offers based on customers’ geographic location and spending habits, detect fraudulent activity, and help underwrite customers. As more issuers adopt big-data capabilities and such initiatives are proven successful, co-brand merchants will come to expect these assets from their issuing partners. Issuers should keep an eye on emerging trends and successes to ensure they invest accordingly and stay competitive.
In recent years, several co-brand agreements have been constructed in a way that creates an unusually high level of collaboration between the issuer and merchant. In most of these situations, such as Target, Nordstrom, and Cabela’s (a deal that has not yet closed), the partnership was a product of a self-issuer’s transition to a co-brand model. Partnerships with a shared management structure enable merchants to assume more responsibility and maintain more control over certain aspects of the card program than they would in a typical co-brand relationship. Merchants that have an expertise in a specific area, such as marketing, tend to favor these unique relationships. When creating co-brand partnerships, issuers should focus on a collaborative approach. The best partnerships are ones in which both parties are engaged and sharing in the success of the program.
This article originally appeared in PaymentsSource.
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