The COVID-19 pandemic is disrupting markets all around the world on an unprecedented scale and the payments sector is no exception. The fallout from the pandemic is having a significant impact on merchant acquirers in particular, who, as intermediaries, are finding that they are exposed to higher levels of risk than usual.
Acquirers typically process payments for merchants within 1-3 days. Where a merchant operates in a high-risk sector, or has a poor credit rating, payments can be withheld for much longer periods in order to mitigate the acquirer’s own financial exposure to chargebacks. However, given the current trading conditions in some industries, these practices are becoming the norm rather than the exception.
Chargebacks leave acquirers out of pocket until they can recover the funds from the merchant – either directly, or from cash reserves that it has withheld from previous transactions. Even in benign markets, chargebacks can represent a significant risk to acquirers, particularly where payments are made by the purchaser well in advance of the receipt of the goods or services, such as flights, hotel bookings or concert tickets. In the current crisis, these risks are far greater.
As you would expect, acquirers have sophisticated risk management systems that allow them to reduce their financial exposure and which inform their credit control procedures; for example, what levels of funds they should be withholding from each merchant, and what credit facilities they may need to have in place to provide the acquirer with protection against exceptional events (such as the failure of a large business). Whilst acquirers have historically held a lot of power over struggling businesses, they too may now find themselves at significant financial risk due to the current economic climate precipitated by the COVID-19 pandemic.
Thousands of businesses have been forced to shut as a result of the government-imposed lockdowns world-wide and sales in some sectors have fallen to zero as a result. Consequently, acquirers will have experienced a dramatic decline in fees from the merchants for their payment processing services. Moreover, as the unfortunate inevitability of countless insolvencies emerges, a greater concern for acquirers will be the sharp increase in chargebacks that is likely to occur.
Acquirers servicing the travel sector will be particularly hard hit. Given the catastrophic impact that COVID-19 restrictions have had on air travel and hotel bookings alone, it is difficult to imagine that many acquirers will have sufficient protections in place to cover the likely numbers of chargebacks that will result from the thousands of bookings that can no longer be fulfilled (and the likely business failures that will follow). Similarly, acquirers contracted to process payments for merchants in the hospitality and food and drink sectors will also be heavily impacted. Those processing payments for e-commerce and grocery retailers will be less affected.
In light of the current extraordinary market conditions, acquirers will be seeking to reduce risk wherever possible, which means that merchants are likely to see longer withholding periods and greater requirements for collateral to be provided upfront (for example in the form of bank guarantees, letters of credit and/or charges over assets).
Some merchants will not be in a position to provide security, nor will they have sufficient cash flow to trade whilst enduring long withholding periods. Acquirers will need to consider how much (if any) business they are prepared to do with such merchants. As mentioned above, some markets have been affected more than others and so it is likely that acquirers will seek to diversify their business in order to spread their risk. This will almost certainly lead to further consolidation in the merchant acquirer market, and will possibly cause some acquirers to exit the market altogether.
These are uncertain times and some parties will be better positioned than others to weather the storm. Parties that are encountering difficulties should seek legal advice and assistance.
Written by Simon de Broise, Senior Associate, & Isobel McNaught, Trainee, in the Banking and Finance Disputes Team at Collyer Bristow LLP