Mobile Payments

Much of the speculation leading into next week’s Apple keynote event has been around a rumored payments product that will launch alongside the company’s shiny new gadgets and gizmos. Well placed sources tell Bloomberg and Re/Code that the company has entered partnerships with Visa, MasterCard, and American Express, while others indicate that Nordstrom, Macy’s and additional retailers may have payments partnerships of their own in the works.

But there’s another element to this payments play that has gone largely unreported but could give Apple a major leg up against competitors like PayPal (and subsidiaries Braintree and Venmo), Stripe, Authorize.net and others. BankInnovation issued a report yesterday indicating that Apple has reached additional deals with JP Morgan Chase, Citigroup, Capital One, and Bank of America.

The reason these bank deals are interesting is that Apple will reportedly be getting “card present” processing rates on its mobile transactions, meaning it will be getting the lowest possible rates on mobile device-driven payments typically reserved for transactions when the consumer hands the physical card to a merchant for authentication. The reason for the difference in rate between these and remote transactions is the increased potential for fraud in “card not present” situations.

Not only will Apple get the “card present” rates, but according to BankInnovation, the company will get an additional 15 to 25 basis point discount on these already low rates, something that is incredibly rare within the industry. This means that while even the largest merchants in the world pay 1.5 percent to process payments when their cashiers can physically verify the card, payments processed through Apple’s new platform could cost just 1.25 to 1.35 percent. By comparison, PayPal, Braintree, and Stripe charge on the order of 2.7 percent for their card not present transactions.

Under such a deal, for every $1 billion in payments Apple processes, it will save up to an additional $2.5 million in payment fees. For a point of reference, PayPal processed $180 billion in payments volume in 2013 (and $55 billion in Q2 2014 alone). Just 15 percent of that 2013 payment volume came via mobile, a number that is increasing steadily across the industry but could get a major boost if Apple and others are able to drive merchants to install NFC hardware alongside their registers. Apple’s iTunes revenue alone is $4.5 billion, all of which is paid via credit card. In other words, it’s not unlikely that Apple will process tens, if not hundreds of billions in payments volume annually, and thus will save tens of millions in fees each year as a result of this deal. This could be profit that drops to Apple’s bottom line, or, more likely, the company will use this lower rate to its advantage by offering merchants better than market rates – at least initially – as a way of quickly acquiring new customers in the marketplace.

Why is Apple getting this special treatment? Two reasons: volume and data. Apple has sold over 1 billion iOS devices, and while it’s unlikely that the oldest devices will support the company’s new payments platform, this installed base will continue to upgrade and cycle through new Apple hardware. The company also has a reported 800 million iTunes accounts with credit cards on file. Collectively, this represents an enormous (and still growing) addressable market. By comparison, PayPal is currently the mobile payments leader with “just” 150 million users worldwide, and a reported 50 million users in the US. Apple eats that kind of audience for breakfast. According to BankInnovation, the only other merchant to ever get a discount like this on “card present” fees is WalMart, the largest retailer in the world, meaning this is likely a deal that PayPal and others will struggle to match.

But beyond its massive footprint, Apple has another major advantage in negotiating these unprecedented payments rates: its ability to authenticate transactions via access to biometric security data, via TouchID, as well as GPS-based and potentially NFC- and iBeacon-based location data. It is because of this data that the above financial institutions have reportedly been willing to offer Apple discounts on the already low “card present” processing rates. In turn, Apple has reportedly accepted a portion of the fraud liability typically borne by the financial institutions.

It’s not yet clear what type of access Apple will grant to developers with regard to this TouchID and NFC data, but it’s a good bet that the company will keep it on lockdown, at least initially, as its fledgling payments network establishes a foothold. Apple won’t position this decision as if it’s one driven by its competitive desires around payments, but make no mistake, that will be the reason. And until PayPal, et al can access the same device and user identification data, Apple will have a major advantage in terms of fraud prevention, which has long been one of the most costly and burdensome aspects of the payments game.

Apple’s payments intentions have been the subject of rumors for close to a decade, with many citing the company as a potential PayPal killer. These arguments further ratcheted up when the company introduced Passbook with iOS 7, TouchID with the launch of the iPhone 5S last year and when it began banning bitcoin apps in its app store in the Fall (a ban that it partially reversed) this Spring. Now that the picture around Apple’s payments ambitions is growing clearer, the question remains, will this be the category killer that so many have assumed it to be?

Apple is certainly not the only company with a large installed base and the ability to negotiate sweetheart deals with large financial institutions. Amazon could be described in a similar fashion. But until (unless) its mobile hardware takes off, the giant etailer will be relegated to a similar second-class citizen position as apps like PayPal on the bulk of the world’s mobile devices. Google too would seem to have an opportunity to compete in this space should it decide to roll out a similar payments platform for Android. But with device fragmentation and the alleged lower average demographic of Android’s worldwide userbase, it’s unclear how realistic or lucrative such a platform might be. Google also has the fewest credit cards on file of the three companies, and seemingly the lowest levels of trust among consumers.

The big unknown in this situation seems to be how PayPal will respond to Apple’s mounting threat. After nearly a decade languishing complacently under weak management, PayPal has made major strides over the last 24 months and could now be said to have the best (and not just biggest) mobile payments platform in the world. The company still doesn’t have a fleet of devices or OS-level control the way Apple and potentially Google and Amazon do, but it does have the advantage of focus and a track record of success in this area, and should not be underestimated. A big part of PayPal’s success in standing its ground against Apple will surely come down to who’s appointed as the company’s next CEO and whether (or how soon) it’s eventually spun out from eBay as an independent company. With the lingering uncertainty around these two major decisions, it’s hard to handicap PayPal’s chances in this new Payments 3.0 battle royale.

Apple is often late to markets, be they hardware or software. But in nearly all cases, this is because the company waits until it feels it has something truly differentiated and special to introduce. We have yet to see what Apple has cooked up around payments, but there’s a good chance that whatever it unveils next Tuesday will alter the payments landscape considerably. There could be more wrinkles to this product, including a loyalty platform, rewards, and so on, but it could well be the competitive rates that Apple secures that sets this platform apart from others in the market.  To quote Apple fanboy John Gruber, if the rumors of Apple’s deals with these financial institutions says anything, its that, as usual, “[Apple] seems to be playing on a different level sometimes.