July 20, 2021
This week’s Future of Fintech is on the future of payment facilitators, discussing how to build a payfac, how to choose between using different payfac, opportunities in this space, and much more.
Guests this week include:
This interview has been lightly edited for length and clarity.
What is payfac?
How do you build your own payfac?
What does the future hold for payfac?
PETER (Very Good Security): Payfac stands for payment facilitator. In the traditional model of accepting card payments, a merchant would sign up with a bank. That bank would provide you merchant or acquiring services to acquire card payments.
Then came a shift. A payment facilitator can aggregate many merchants and be the master merchant who has a relationship with the acquiring bank. This enables different sub-merchants to flourish and accept payments.
PETER (Very Good Security): As with many interesting things in payments, envelopes get pushed, rules get broken, conversations are had, and one of two things happens. You either get shut down, or, if people are forward-thinking, rules get changed. The latter is what happened here.
PayPal was facilitating payments for eBay sellers. Banks and networks got scared. Painful conversations were had. At the end of it, rules were changed and the Internet Payment Service Provider was created. It was invented more to allow PayPal to continue to exist. Eventually, they realized, "this is all card volume coming to the banks and the networks. That's a good thing."
Square then took the PayPal model and said, "what if we did it in the real world?" At the end of it, the suggestion was to drop the ‘I’ off of Internet Payment Service Provider and make it Payment Service Provider.
CALEB (Tilled): Historically, it was difficult to become your own fully-registered payment facilitator. It was a two-year, multi-million-dollar process.
New models have popped up that are considered payfac in-a-box providers. Those are companies like Finix and Amaryllis. They've turned that two-year multimillion-dollar process into a six-month, couple of hundred thousand dollar process.
You still have to go through the process of registering with a bank and building out a payments team, but at least you don’t have to build all of the technology from scratch.
CALEB (Tilled): Let's take a dental software company as an example. If they've got a hundred million dollars in payments flowing through their system, typically with Stripe or Braintree, they're probably not monetizing those payments. By becoming a fully registered payment facilitator, you could add $800,000 or more in top-line revenue to your business. It's an exciting economic argument. Plus, you're taking on the control of that underwriting process: you've got a more direct relationship with your customer.
MATTHEW (Lithic): If you care about your product experience, getting closer to banks can help. If you're working with Square or Stripe, you have to play with their preset rules. Whereas if you’re engaging directly with Elavon, Paymentech, or Wells Fargo, you can work with those teams and bring good ideas to them.
CALEB (Tilled): You can also optimize your routing. If you're a payment facilitator, you'd have a relationship with more than one payment processor. You could negotiate a special rate on certain card types with particular vendors. You can negotiate a direct rate with Chase Paymentech for all Chase cards and route all Chase cards to Chase Paymentech. You can get into payment optimization, where you're intelligently routing payments to processors based on rates.
CALEB (Tilled): If you're a simple e-commerce merchant using the Stripe plugin, then that's a commoditized experience. But if you're a software company that needs to integrate a complex payment flow and is looking at tools like Stripe or Tilled versus options from Chase or Worldpay, it's a markedly different experience looking at a modern set of APIs relative to something developed 20 years ago.
There are parts of the payment space that have been commoditized, but there are also places where if you're looking for complex payment needs and flows, you have a lot fewer options and it's much less of a commodity offering.
PETER (Very Good Security): One, payfacs are a scale game; it doesn't make sense to become a payfac unless you're doing significant volumes.
Two, the more you scale, the more you may need a finer grain of control. All-in-one approaches where the risk model is bundled with the rest of the service can be very effective for certain businesses. But you can lose your shirt if that particular risk model doesn't work for the type of merchants that you're underwriting.
CALEB (Tilled): One interesting trend has been the rise of vertical-specific software solutions. Historically, if you were a gym wanting to get a merchant account, you'd go to Bank of America or Chase. Nowadays, small businesses are turning to vertical software solutions like Mindbody.
Then the question becomes “what's the best payment model to power these vertical software solutions?” In my mind, I really think the payfac model is a superior underwriting model when it's done properly to accelerate this distribution of payments out through these vertical software solutions.
MATTHEW (Lithic): The largest payfacs have a graduation issue. eBay sold PayPal. Now, they're getting payments licenses and building fraud and risk teams. They're working to rebuild a payfac on top of eBay.
There's a market to serve there. If you want to run your own payfac, it takes a lot of effort to build those teams. There are not enough experts in the market to run all the people that want to be their own payfacs. That’s where I think the opportunity is.
CALEB (Tilled): It's not just about control of the underwriting experience; it's also about control of the data. That's a big consideration for software platforms that are jumping off of Stripe or Braintree: making sure that they have ownership and access to their data regardless of the path that they choose tomorrow.
PETER (Very Good Security): You want a frictionless experience for your consumer. This sector is headed towards allowing you to customize around your particular industry, set of merchants, and risk models.
Some considerations to think about as you choose a vendor include: do you have control over your data and can you direct its flow (whether it's payments data or PII data?) Do you have a relationship with your merchant, or does that relationship exist with your vendor who owns all that KYC data? There are layers to this question, but it’s a good one.
Want to hear more? Tune in to the podcast episode where we cover lots more.
The Mercury Team