The payment system has become a very confusing space that involves many different players working for and against each other. With the pandemic dramatically accelerating the use of digital payments, the industry is heating up and getting even more complicated.
Given its complexity, it might be useful to compare and contrast some of the big traditional players like Visa (V 0.75% ) and MasterCard ( MY 0.51% ) with a major alternative payment provider like PayPal Credits (PYPL 3.93% ). Let’s review their business models, how they compete with each other, and also how they sometimes work together.
The different economic models
Visa and Mastercard are card networks that facilitate payment transactions between all key players in the payment process, including merchant acquirers, card issuers, payment gateways and processors, and independent sales organizations. As the two largest card networks, Visa and Mastercard essentially run a duopoly that operates an open-loop payment network. This means that they work with many intermediaries such as banks and payment processors to help with several parts of the payment process. In general, they use the most widely accepted payment methods in the world.
As you can see in this diagram above, Visa is firmly in the middle of the payment process, collecting transaction data from the merchant and their processing bank, then confirming that transaction with the consumer’s issuing bank to authorize payment. transaction. Mastercard’s process follows the same path. To perform this service, Visa and Mastercard collect fees on each transaction. They both operate in over 200 countries and process around 90% of global card payments outside of China.
PayPal, on the other hand, plays many roles in the traditional payment system on its own, although it is a closed-loop payment system, so consumers and merchants must join the network and not can only interact with other people who have registered. for a PayPal account. PayPal has 426 million accounts on its platform, 392 million consumer accounts and 34 million merchants in over 200 markets.
How they compete
You will hear many people equate Visa and Mastercard with tolls on the highway. Because the two giants have essentially built the infrastructure that almost everyone needs for commerce, they essentially collect a tax each time someone uses their infrastructure, similar to a toll booth on a highway.
PayPal has its own payment system and also collects fees on payment transactions. But payments can also go through PayPal from debit and credit cards, which are likely from Visa and Mastercard. When this happens, these companies are now part of the mix and as such are entitled to certain fees as payments flow through their system. When PayPal manages to keep payments within its own ecosystem, either from existing PayPal balances or from a linked checking account using a traditional Automated Clearinghouse (ACH), the company is able to essentially exclude Visa and Mastercard and therefore does not have to share the costs. For ACH, there are fees that PayPal must pay, but they are lower than going through the credit card network.
Because of this, PayPal has more incentive to build a larger network to keep more money in its ecosystem. The company has implemented a number of solutions to achieve this, including peer-to-peer transfer capabilities through subsidiaries such as Venmo, cross-border shopping and trading, loan products, its own debit and credit cards, the ability for consumers to buy and sell cryptocurrencies, and many exclusive offers from merchants. PayPal primarily generates revenue by charging fees on payment transactions, as well as fees on foreign currency conversion and instant transfers from PayPal or Venmo to consumers’ debit card or bank accounts.
How they work together
In 2016, Visa and Mastercard were unhappy with PayPal because it encouraged customers to fund their PayPal accounts through ACH and therefore away from card networks. Visa’s CEO at the time, Charlie Scharf, who now leads Wells Fargoessentially declared war on PayPal and said that if something didn’t change, Visa would “go full throttle and compete [PayPal] in a way that people have never seen before.”
Eventually, PayPal would crush the beef with Visa and Mastercard, signing an agreement that essentially agreed to stop discouraging users from funding PayPal accounts with Visa and Mastercard cards. In return, Visa agreed to compensate PayPal for generating more transactions through its network. However, PayPal also scored a major victory in the deal. In the agreement, Visa allowed PayPal to leverage its technology to allow its own customers to use PayPal to transact at physical stores. Previously, PayPal was largely an online payment solution, but back then it wanted to make its payment options more widely available and move into transactions in physical stores.
Since then, PayPal has continued to partner with Mastercard and Visa. Each has repeatedly agreed to further promote the other’s various payment capabilities to their potential customers. PayPal also selected Mastercard to manage its PayPal-branded credit card and Visa to manage its Venmo-branded credit card.
Why partnerships are useful
Overall, while PayPal, in a sense, could make more money by keeping money in its ecosystem and funding more accounts through ACH, Visa and Mastercard likely have the financial resources to compete. Ultimately, these three payment companies can help each other, with PayPal allowing customers to fund their accounts with Visa and Mastercard debit cards, and Visa and Mastercard making it easier for PayPal to offer more payment options. in-store payment. The more payment choices consumers and merchants have, the more volume they are likely to generate. Additionally, by competing less with each other, PayPal, Visa, and Mastercard can focus on their other competitors in the payments space.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a high-end advice service Motley Fool. We are heterogeneous! Challenging an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and wealthier.