The upside and downside of VisaNet.

Will VISA expire from financial services marketers' passports? it could happen, unless the services are turned from impractical to pragmatic.

JUST about a year ago at the Direct Marketing's 72nd Annual Conference, Steven Schapp, senior vice president of VISA U.S.A., introduced the VisaNet

VisaNet is an address verification system focused on the mail order direct marketing distribution channel. Mail order and telemarketing merchants include a customer's ZIP code and street address during an order, then transmit the data electronically with their merchant's request for transaction approval.

The address information is compared to the cardholder's billing address, and along with the authorization response, the merchant receives a verification code indicating if the information matches the cardholder file. As well, the system extends the validity period of the authorization from one day to a full week, and allegedly facilitates installment purchases charged to the VISA card.

That's the "upside" of VisaNet.

But, as some financial services marketers have discovered, there's a "downside" too.

You see, while facilitating mail order marketers through VisaNet, some merchants are also penalized because the system imposes strict penalties for "charge-backs."

A "chargeback" is the reversal of a charge against a sales draft previously presented by the merchant for payment. There are two primary sources of chargebacks. First, they are bank initiated. Or, second, they are customer initiated.

Now, one face of the chargeback story is covered in an article published in the March 1990 issue of Direct Marketing, written by Michael E. Pramis of Litle & Co., Inc. The premise of the piece is that VISA and MasterCard merchants can reverse a significant amount of chargebacks through the presentation and arbitration process.

But, and a whopping big but it is, Pramis makes two significant points:

(1) The "authorization" code received by a merchant at the point of sale is not an approval of the charge. All it means is that the merchant (substitute you for merchant) has a reasonable expectation of receiving the money.

(2) As far as chargebacks are concerned, it doesn't matter if you have a videotape of the purchaser signing the sales slip, and it doesn't matter if you can absolutely prove the customer made the purchase ... if you are not "right" within the rules of the credit card system - you are out of luck.

Next, consider this - it can take from 45 to 180 days for a chargeback to hit your account.

And, finally - according to Pramis, you can reduce bank generated chargebacks by as much as 60 percent to 75 percent, by simply reversing bank errors generating incorrect chargebacks.

Against this background, enter VISA U.S.A. VISA has authorized its approximately 18,000 issuing organizations to penalize certain types of merchants: Those whose chargebacks exceed a certain threshold in a certain period of time.

The VISA U.S.A. Operating Regulations stipulate that a monthly "hit" list of merchants is published when they have been identified as exceeding permissible chargeback thresholds for the given month. If your name appears on this "hit" list two out of three months, issuers are authorized to collect a $25 handling fee (that's a penalty) for each first chargeback processed against your account in the next 30-day period.

If your name appears on the "hit" list continues to exceed the chargeback threshold - for three out of four months, issuers are authorized to collect a $100 handling fee per chargeback, and a $5,000 fine is assessed against the clearinghouse member.

To make the list you (1) have at least 50 interchange transactions, (2) 15 chargebacks and (3) a 10 percent ratio of current chargebacks to current interchange volume.

OK. The point to the program is to reduce fraud and control the escalating administrative costs associated with the chargeback problem. This is well and good, but for some direct marketers ... this system just doesn't work at all. it is affecting, and will continue to do so, insurance direct marketers (pertaining to all distribution channels), associations and continuity marketers.

Merchants who accept VISA in payment for insurance premiums, association memberships and other services, book clubs, videotape clubs and record clubs ... are coming out on the short end of this stick.

One Real Life Example Makes The Point

Insurance direct marketers accept the VISA card in payment for insurance premiums. A signed or verified insurance application is received by the insurance company. The company then issues the policy or certificate of insurance to the applicant, and charges the premium to the applicant's VISA card, which the applicant has authorized. For the most part, the insurance premiums charged are between $ 1 0 and $50 a month, and in some cases run as little as $15 a quarter. As you probably know, insurance is an intangible product ... it has no substance like catalog items. Universally, in the insurance mail order channel, more than 10 percent of the policyholders who apply and authorize payment through VISA will cancel their policy for one reason or another.

Electing To Terminate VISA

in one case a midsize insurance company elected to terminate $1.8 million of new annualized premium charged to credit cards because of these new VISA rules. Remember, this is insurance. Since insurance premiums are paid over a long period of time, the average actuarial life of this business was 4.5 years.

Therefore, the company did not lose just $1.8 million in new annualized premium; it lost $8. 1 million of total income over the life of the business. Since the company expected to continue the business for the foreseeable future - certainly the next three years - the total estimated sales loss amounts to more than $24 million ! This year alone penalties and assessments against the company's VISA account could have amounted to a hefty 100,000 during the first four months the new rules were in effect. (All the banks in the interchange system did not charge the penalties.)

There was no fraud involved. The company canceled the business to accommodate VISA's administrative problems with chargebacks. However, they did so after testing. Using VisaNet, they sought pre-approval from the system for VISA charges. When they used VisaNet, 55 percent of the submitted charges were pre-approved. (And, some of those charges would have resulted in chargebacks.) Yet, when they submitted charges outside of the VisaNet system, 80 percent of the charges were paid! That's a 31 percent difference ! For continuity programs in general (insurance mail order sales fall into the continuity program area), those that accept automatic charges to deliver goods and services, here's a chilling fact: 10 percent of cardholders switch banks each year.

If your program is charging to one of their cards ... ultimately you will end up in a "chargeback" situation because your customer does not tell you he/she switched banks ! Now, add the fact that from time to time issuing banks change their numbering system when issuing replacement cards. A new number replaces an old number. For awhile there's a translation table active - and your charges go right through. When the translation table is deactivated ... you're in a chargeback situation. Again your customer didn't call you to tell you his/her card number was changed ! Or sometimes the bank simply makes a mistake. Chargebacks are products of systems malfunctions, stolen or lost credit cards, over credit limit rejections - even account moves when one issuing bank buys another's credit card portfolio. Or, perhaps you make an error in recording account numbers during data entry. The way things stand now ... none of these things make any difference. You're going to be banged with a chargeback penalty. You're going to make VISA's hit list.

For the $10 billion insurance mail order industry working with the direct marketing concept, these new VISA rules pose an extraordinary problem.

Among other weaknesses in the VISA system is the fact that all mail order" companies occupy a single "code." No distinction is made between catalogs, record clubs or direct mail insurance sales. Unlike American Express and Diners Club - both of which have separate codes for the insurance mail order distribution channel - VISA treats financial services the same as product sales. There's a whopping big difference between a $50 item a customer purchases and can hold in his hand, and a $600 a year Medicare Supplement policy charged to a VISA card in 12 $50 monthly installments. To an insurance company, that sale represents as much as an average of 2,400 in collected premium during the life of the policyholder.

Insurance rates (prices) are established based on this predictable type of persistency behavior. Adding chargeback penalties--for which no provision can be made because of regulatory considerations - throws a considerable monkey wrench into the business.

In all fairness, the VISA procedures allow a merchant to get off the hit list - so long as their chargebacks fall below the 10 percent threshold. But in discussing the problem with more than a dozen insurance organizations employing the direct marketing concept, every one expressed concern about the VISA penalties. In fact, the majority are currently evaluating the utilization of the VISA charge card as a payment vehicle.

According to Robert Miller, senior vice president, VISA U.S.A. Product Operations, chargebacks are costing the VISA system millions of dollars every year. He claims the vast majority of VISA merchants - including the hundreds of insurance companies that accept VISA for payment - operate within the rules without difficulty. The average chargeback rate for the 2.6 million VISA merchant outlets in the United States is one-quarter of 1 percent.

The 10 percent threshold is 40 times the VISA system average. What Miller seems to fail to recognize is that chargebacks generated at the retail distribution level are very different from chargebacks generated through mail order merchants.

The key here is the offer. Every mail order merchant - including insurance and other financial services - guarantees a return privilege from 10 to 30 days in most cases. Such an offer helps build credibility for a merchant the customer does not see. It is one of the primary reasons mail order has grown so much during the last decade.

The VISA policy strikes right at the heart of the money back guarantee. One-quarter of I percent chargeback rate? Not for the majority of mail order marketers. In fact the companies we polled indicated chargeback rates from an acceptable (according to VISA) 3 percent of sales to 21 percent of sales. The higher end consistently was reported by insurance mail order organizations.

One industry spokesperson pointed out two other problems with the VISA policy. First, there is no provision for seasonality. it may well be impossible for some merchants to get off the threshold. (Remember, chargebacks can take from 45 to 180 days to show up on your bank statement!) Second, there is a charge for every chargeback over the threshold ... even if the chargeback is incorrect.

VISA U.S.A. claims it recognizes the unique needs of the direct marketing industry, and is committed to building volume in the market by continuing to provide enhanced services. At the same time, they feel it is necessary to protect member banks from excessive risk and expenses associated with chargebacks.

In this age of database marketing there must be a better way, especially for the mail order insurance industry. Consider this: Under the new law recently passed in Delaware, banks are allowed to underwrite insurance coverages. Citicorp and Chase Manhattan Bank will be providing their VISA cardholders with voluntary insurance benefits in the not too distant future.

How will they treat the chargeback situation? It's simple really. They will not be affected. These two giants are not only issuing banks, they are processors as well. The charges from their cardholder base will not enter the interchange system! Ergo, no chargebacks ! How will all the banks participating in third-party endorsed insurance programs with premiums charged to their VISA cardholder accounts handle this problem? The same way if they issue and process their own cards outside the interchange system. But, if they don't ... a problem.

And, of course, there is a final rub in all of this. You cannot get a copy of the VISA "rules," by which all these shenanigans happen. (You can't get MasterCard rules either.)

As a mail order merchant you are at the mercy of an organization that demands that you play by rules about which you know nothing. This is sort of like only one football team knowing the rules of the game. The facts appear to suggest that the playing field is not level.

- It's not level for small banks that neither process nor issue their own VISA cards.

- It's not level for insurance, continuity programs and associations.

- It's not level.

Can You Do Anything?

Probably not. At least not until some folks in insurance and other continuity programs get on the Advisory Group of the VISA International Board.

It seems clear that VISA U.S.A. wants to accommodate the mail order industry, consistent with practical, realistic practices that benefit both sides. Or else why create a program like VisaNet in the first place?

The fact that there are some holes in the program means that we've got to work with these folks so they understand our various businesses. Once they do, once they understand, change becomes inevitable.

In the meantime, things are not going to get any better. According to a leading industry spokesperson (and confirmed by three additional sources), on January 1, 1991 the VISA threshold is being reduced from 10 percent to 6 percent.

Donald R. Jackson is a direct marketing consultant practicing from his farm in southern Delaware. He is the author of 151 Secrets Of Insurance Direct Marketing Practices--Revealed (Nopoli Press) and co-editor of the newsletter Inside Financial Services Marketing. He can be reached at P.O. Box 246, Middletown, DE 19709 - 3021378-0218.