A Wide Open Future for Closed-Loop
Cards
Lauri Giesen
Relative to network-branded prepaid cards, growth is slowing for gift cards and other
such specialty plastic. But that doesn’t mean merchants, banks, and processors aren’t
working on a slew of ideas, from loyalty programs to hybrid cards, to keep the product
healthy and profitable.
iven the speed with which some new payment products are taking off, a new payment option can be declared “mature” when
it is still has a lot of life left in it. That may be the case with closed-loop, proprietary prepaid cards.
While the closed-loop cards, which can only be redeemed in a limited number of locations, are not expected to have the
huge growth potential of open-loop prepaid cards, which are issued by financial companies and accepted anywhere that accepts
the national payment logos, it’s mainly because the closed-loop cards have already posted some pretty big numbers and the
open-loop cards are just taking off.
As a result of the slower growth projected for them, these gift cards, campus cards, and other specialty-use cards often get
overlooked in the rush to embrace network-branded cards. But these proprietary cards still have a lot of natural growth left in them as
large retail chains explore new marketing options and smaller merchants get onboard.
At the same time, new applications are expected to broaden the closed-loop cards’ traditional appeal. Among these new applications
are efforts to “expand” the loop a little bit by creating hybrid cards that may not be as widely accepted as open-loop cards, but still have
a much larger acceptance range than what was previously possible.
For example, gift cards that were previously just accepted at one retail chain can be issued jointly by several retailers that don’t
compete with each other. Also, mall cards, which can be used only at retail outlets located within a given mall, are growing in
popularity. And campus cards, which once were only used to pay for food and services within the campus itself, are frequently being
expanded for use at a limited group of retailers located nearby.
Finally, gift cards are more commonly being presented as convenience cards. Instead of purchasing the cards as gifts for family
and friends, buyers are buying the cards for themselves and then replenishing the value when it is depleted. These cards are frequently
being promoted by retailers that have low-value, frequent purchases, such as coffee shops, fast-food outlets, and family restaurants.
Along with the development of these convenience cards is a growing trend for retailers to attach loyalty programs to the gift cards.
Since the cards aren’t being thrown away when the value is depleted, retailers are increasingly finding ways to tie them to point
accumulation that can be exchanged for discounts or free goods.
G
Double-Digit Growth
Indeed, the opportunities and expected growth for closed-loop cards are anything but closed.
Overall, the value of both branded and private-label prepaid cards is expected to grow from $113 billion this year to $178 billion by
2010, according to a recent study from Boston-based Aite Group LLC. At the same time, the number of combined transactions will
increase from 4.3 billion in 2007 to 7 billion by 2010.
While network-branded—or open-loop—cards are projected by Aite Group to grow more rapidly in the next few years, there is still
substantial growth for the private-label, or closed-loop, cards. Aite Group projects that the value of private-label prepaid transactions
will growth from $81 billion in 2007 to $99 billion by 2010, while the volume of transactions grows from 3 billion in 2007 to 3.7 billion
in 2010.
And some payment executives out in the trenches believe these projections for closed-loop cards are low. “We’re expecting good,
solid, double-digit annual growth of our closed-loop prepaid cards,” says Bob Skiba, executive vice president of Brentwood, Tenn.based Comdata Corp., which manages proprietary gift card programs for large retailers, including JCPenney, Costco, and Home
Depot. “Despite the rapid growth of gift cards in recent years, they are still used less than 2% of the time to pay for goods. That means
there is plenty of growth left.”
Similarly, Kevin Grieve, president of First Data Prepaid Services, a division of First Data Corp., projects that closed-loop cards
will grow between 15% and 20% annually for the next few years while open-loop cards grow between 40% and 50%. First Data has
offered prepaid cards since 1994.
And even if growth does slow down markedly, it will be on top of a higher base. Tim Sloane, an analyst with Boston-based
Mercator Advisory Group, estimates the value of in-store gift cards alone was $49.9 billion in 2005 and grew at about 8% annually
since then. He expects the growth to continue at between 6% and 8% annually over the next few years.
Skiba cites five factors to explain his optimism for proprietary prepaid products: new marketing efforts; the emergence of the
business-to-business card market; the growing popularity of mall and other hybrid cards; the expansion of the outside locations in which
the cards can be purchased and redeemed; and the attachment of loyalty programs.
Gift Card Malls
For all the new applications, good old marketing and branding can’t be overlooked in the growth of closed-loop cards. While the cards
were once pretty generic, retailers are now finding ways to issue dozens of different cards, each containing unique graphics and
messages, to appeal to a different season or customer base.
“Five to six years ago, retailers looked at gift cards as a way to reduce expenses and fraud associated with paper gift certificates,”
Skiba says, who started a gift-card program six years ago when he worked for the Gap. “But retailers have found there is a lot more
potential with these cards for creating customer interest and loyalty.”
And with cards being designed specifically for such occasions as Mother’s Day, graduations, and the like, cards are being purchased
all year round. “Five years ago, 85% of the card business was done in the fourth quarter as people mostly bought them as Christmas
presents. Today, because of the retailers’ efforts to market them for more occasions, that number has dropped to 65%,” says Skiba.
Some retailers are allowing customers to put their own photographs on their cards. Skiba notes that Circuit City even ran a special
promotion where DVD graphic content was loaded onto a card. When customers put the gift card into their computers, they could view
movie snippets and play games.
And retailers have also gotten innovative about where they sell their cards. Rather than just offer them in their own stores and Web
sites, many are selling their cards in “gift card malls,” which are sections of supermarkets, drug stores, or convenience stores that sell
gift cards from a variety of retail chains. Skiba estimates that seven years ago there were 1,500 locations nationally that sold a variety of
gift cards. Today, he estimates that number at 150,000.
While Mercator’s Sloane is expecting in-store gift cards to grow by only about 8% annually, he is projecting that the value of gift
cards sold in retail locations other than the card issuer, such as these gift card malls, will grow at about 50% annually. That is from a
base of about $1.9 billion in 2005.
Another new way to sell proprietary cards is through the b-to-b market. A number of retailers, such as Starbucks, have hired
internal sales representatives to promote their cards to businesses. The companies purchasing the cards would then give them away to
their loyal clients and employees. Law offices could send cards as gifts to top clients, for example. And the cards could also be used as
part of employee incentive programs.
And while it seems that all the big chains already have gift card programs today—and most of them do—there is still a lot of
potential with the smaller merchants. Many of the independent sales organizations that have been selling credit and debit card
acceptance to small and mid-size retailers are now selling them gift card programs.
“There is a lot of growth expected in gift card issuance by smaller merchants,” says Lori Breitzke, president of Atlanta-based E&S
Consulting LLC. “I’ve talked to a number of merchant acquirers and ISOs that are targeting this market with gift card programs. Only
about 5% to 10% of the smaller retailers have programs today, so there is a lot of room for growth.”
Indeed, Grieve says First Data already supports gift card programs for 50,000 individual small retailer locations. The company did
not have a small-business product three years ago.
One ISO that has been promoting gift cards as part of its payment products is Princeton, N.J.-based Heartland Payment Systems,
which in 2006 purchased Debitek, a prepaid debit card service provider to college and corporate campuses. Bob Carr, president and
chief executive, says Heartland supports gift card programs at about 10,000 merchant locations today.
A Loyalty Tie
But expanded marketing of traditional gift cards can only go so far. Much of the excitement with closed-loop systems has to do with
new applications.
One way to add value to the cards is to expand where the cards can be accepted. This can be done if multiple retailers band together
to jointly offer a card that is accepted at all their locations.
“The next big jump in the market will come with several merchants that jointly issue one card,” says First Data’s Grieve. “The cards
will be issued by non-competing retailers whose products or customer lifestyles are complementary. For example, you might have a
dinner-and-a-movie card issued by a local restaurant and movie-theatre chain.”
First Data expects to launch such a product with its retail customers in early 2008. The card would contain separate purses so that
customers could specify how much they want to spend at each retailer.
A similar potential application for a hybrid card is a “strip-mall card.” Similar to mall cards offered by many of the big shopping
centers today, the strip-mall cards would be mostly issued by small retailers that are anchored around a large supermarket. A gift card
would be jointly issued by all or most of the retailers in the strip mall to promote customer loyalty, says Breitzke.
Additionally, Breitzke believes many community banks would like to issue a card to promote the products of merchants located in
their community. Many of these banks already issue the open-loop cards that are accepted at Visa and MasterCard locations. The hybrid
card would be different, however, in that it would only be accepted at a limited number of participating retailers—mostly likely retailers
with which the bank has a strong business relationship.
Once retailers start promoting their gift cards as convenience cards—where customers don’t give the cards away but rather use them
themselves and then reload value when the initial balance is depleted—the next step is to tie loyalty programs to the card.
“Retailers realize that customers who buy their cards will spend more money, and this provides additional information about
customers to data mine in order to do direct marketing,” says Comdata’s Skiba.
“If your cards are reloadable, the natural springboard then is to tie a loyalty program to the card,” adds Grieve.
In order to turn gift cards into convenience cards, however, retailers have got to get around the reloading issue. Reloading value
was once considered difficult in that customers had to present their cards for clerks to add more value through the point-of-sale
systems or use reload stations, which were costly for merchants to install.
But most retailers are finding alternative ways to reload value. Many have Web sites where customers can go and type in a credit
card number to have value transferred to their prepaid account. Additionally, many retailers allow customers to give their credit card
number when they first get a gift card. Funds can then be automatically paid into the prepaid account and charged to the credit card if
the prepaid balance falls below a value specified by the customer.
Mercator’s Sloane recommends that retailers issuing gift cards encourage cardholders to go the retailer’s Web site. There, the
retailer can prompt the customer to register his card—possibly by offering an automatic incentive. With the registration, customer can
sign up for the loyalty program and set up means to automatically reload value.
Heartland’s Carr says his company has “done away with reload stations” and instead encourages student users or their parents to
reload value via the Internet.
But reloadable payment cards are just one way the face of closed-loop cards is changing. And as plain old gift cards become hybrid
cards, convenience cards, or part of vibrant retailer marketing plans, it is clear there is a lot of life left in this payment product.