Bloomberg Línea — The financial sector and investors in major stocks began this week focusing on a new resolution by Brazil’s central bank that limits the interchange fees on transactions for prepaid and debit cards, in addition to amending the settlement period of operations in both modalities.
According to the regulation published on Monday, banks and fintechs may charge a maximum of 0.70% of the value of each transaction with a prepaid card. This issue had been in public consultation since October last year, and the new rules come into force from April 1, 2023.
The measure impacted the shares of Brazilian fintechs listed abroad on Monday: PagSeguro (PAGS) saw its shares fall 2.6%, Nubank (NU) by 5.22%, and Stone (STNE) by 3.14%, on another day of decline for the S&P 500 and Nasdaq indices. As of Tuesday, however, the shares rebounded, with PagSeguro jumping 3.25%, Nubank 0.89% and Stone 4.87%.
In practice, a higher interchange fee especially impacts retailers, who end up accepting a more expensive arrangement to avoid losing consumers who use a card from a particular bank, a market source told Bloomberg Línea, but who preferred not to be identified.
Merchants may also pass the extra cost on to the consumer.
“Customers who used Brazil’s instant payment system Pix and cash are paying a higher price on the product because those who pay with prepaid cards are making the product more expensive,” and which is called cross-subsidization, said this person familiar with the business.
With the new rules, while the debit and prepaid rates won’t be the same, the time frame for the money to drop into the merchant’s account will have to be the same. Before the resolution, the transaction paid using a prepaid card could work in the same tracks of payment used by credit cards: that is, when it left the consumer’s account, it was retained for up to 26 days by the bank before the transfer to the retailer.
Reviewing the impact of the new resolution, PagSeguro told Bloomberg Línea in a statement that the estimated impact on the company’s net income in 2023 will be close to zero (+1% / -1%), given that potential reductions in transaction costs in the acquiring operation and the reduction of the settlement period will offset any effects of reduced revenues in the card issuing operation.
Nubank said in a statement to the market that if the resolution had been in force since July 2021, the company’s revenue would have been negatively affected by 2.9%.
According to Nubank, prepaid card interchange fees accounted for 7% of the company’s revenue in the 12 months between July 2021 and June 2022.
The fintech also said in the statement that it will continue to monitor the new rules of the central bank and other adjustments proposed by Mastercard, under whose brand its prepaid card operates.
In a statement, Mastercard said it will continue to follow the rules of the countries in which it operates and that it believes free competition is the best way to promote more competition and innovation. “Our focus is on ensuring payment security, balancing interests, and in dialogue with all participants in the payments arrangement,” the company said.
What is the interchange fee?
The interchange fee is the remuneration paid to the card issuer for each payment made by the merchant acquirer, i.e. the one that rents the machines to the shopkeeper.
The machine companies - known as acquirers, such as PagSeguro and Stone - charge this fee to the merchant, who passes it on to the consumer. In practice, depending on the transaction (debit, credit or prepaid), the purchase is more or less costly for the card-issuing or acquiring companies.
In 2018, Brazil’s central bank determined that the exchange rate ceiling for debit operations should be 0.5% for those who offer deposit accounts, such as banks. But in the case of fintechs, such as Nubank, where the user uses the prepaid card as if it were debit, the interchange fee exceeded the 0.5% cap stipulated for debit, according to acquirers.
The person familiar with the discussion told Bloomberg Línea on condition of anonymity that the volume of prepaid card transactions in Brazil is significant.
In a situation where prepaid transactions were made by the retailer and acquirers using a debit fee, the issuer earned 0.7%. “This caused the acquirers to have a de facto loss, and that is why Getnet filed a lawsuit against Nubank,” the source said.
Getnet’s lawsuit against Nubank
Getnet, a Santander acquirer, filed a lawsuit last year against Nubank and Mastercard for 62 million reais ($11.5 million). The claim alleges that it would have suffered losses because Nubank advertised its card to users as if it were a debit card, while using the prepaid rate, extracting revenue from the Getnet machine.
According to a source familiar with the acquiring business, who asked not to be identified, Nubank was charging up to 1.2% per transaction. Nubank said it won’t comment.
“The issuer Nubank aligned itself in exclusive partnership with Mastercard, the largest institutor of payment arrangements in the country, to extract without just cause income from the Getnet POS (point-of-sale),” the company alleges in the lawsuit.
“This extraction became feasible, with high losses to Getnet, given a confluence of factors. Firstly, Getnet’s economic dependence on Mastercard, which is responsible for more than half of its revenues. Secondly, the fact that Getnet, by contractual force, is not free to deny the participation of Nubank in payment arrangements integrated by it”.
According to Getnet, this could make the acquirer’s operation unfeasible in the Brazilian market if there is no action from the Judiciary. A judge denied the injunction request, aimed at stopping the practice of Nubank and Mastercard. Getnet appealed, but the appeal was dismissed in January.
Getnet told Bloomberg Línea that by establishing a maximum limit for the value of the interchange fee, the central bank’s resolution demonstrates the abusiveness of the value of the fee instituted by Mastercard in its payment arrangement in transactions made with cards issued by Nubank.
“The losses are borne solely and exclusively by Getnet, for the benefit of the card issuer and the brand,” Getnet said.
Asked by Bloomberg Línea to comment on Getnet’s legal action, Nubank sent a statement to the market about the changes imposed by the central bank and said it won’t comment further.
In a petition sent to the Court on February 25 this year, the defense of Nubank said it is not a party to appear in the passive pole of this action, since it does not define the interchange fee applicable in Mastercard’s payment arrangement, does not maintain any contractual relationship with Getnet and did not practice any unlawful acts that could justify any right to compensation.
Nubank argues in the lawsuit that so far the Central Bank’s regulation is not applicable to prepaid card transactions, as it only regulates the fee cap for debit card transactions and further says that payment institutions are prohibited from offering deposit accounts, and, consequently, issuing debit cards.
“Prepaid cards and debit cards are different payment cards; Getnet’s claim, of limiting the tariff applicable to prepaid cards, does not comport intervention by the Judiciary, as it has the potential to unbalance the payments market and is already subject to analysis by the Central Bank, which is responsible for regulating the issue,” said Nubank, in the process to which Bloomberg Línea had access.
According to Fábio Braga, a partner at Demarest Advogados, the central bank’s resolution adds a new chapter to this process.
“As you move forward, the need for adjustments to the regulation for regulatory balance is created. At the first moment, the central bank gave a lot of room for the development of this industry. Following Getnet’s action, a discussion began within the central bank and was put to public hearing to monitor the market,” Braga said.
Which changes does the central bank’s resolution bring?
With the edition of resolution 246 by the central bank, which caps the interchange fee and establishes the settlement period for prepaid card and debit card transactions, there is a maximum limit of 0.5% applied to the interchange fee in any debit card transaction, and a maximum limit of 0.7% in prepaid card transactions.
The new regulation also sets the same deadline for making funds available to merchants, the time for the payment to hit the merchant’s account, regardless of whether the card is debit or prepaid.
Now, the deadline is the same for debit and prepaid transactions, which, according to the central bank, allows for better conditions for merchants’ cash flow management, in addition to reducing the eventual costs of anticipating receivables.
“The reduction in the fee, allied to the great competition in the payments market, has the potential to reduce costs for merchants in accepting cards, giving them conditions to pass on these savings to the final price of their products,” the central bank said in a press release.
The interchange fee is generally an important part of the revenue of fintechs that operate with cards, with variations from case to case.
Zetta, an association representing Nubank, MercadoPago, Z1, Cora, Acesso, Mercado Bitcoin, Fit Bank, Recarga Pay, Conpay, Dock, Transfero, Modalmais, Donus, Bexs Banco, Zoop, Movile Group, Banco Inter, Creditas, Hash, CSU, Neon, SumUp, and Iugu, said it believes the new rule on the interchange fee cap for prepaid cards took into account the important role of prepaid cards for financial inclusion.
“Interchange revenues have been instrumental in enabling fintechs to offer over 90 million free digital accounts over the past year,” the association said.
“Zetta continues to be active in advocating for financial inclusion, the use of technology, and increased competitiveness as a way to bring more efficiency, transparency, and lower costs to consumers.”
Digital unicorn bank Neon told Bloomberg Línea that the resolution doesn’t change the fintech’s market strategy. “Neon had been preparing for this change, incorporating it in its projections, since the public consultation made by the central bank in October 2021″.
According to the central bank, “the measures aim to increase the efficiency of the payments ecosystem, stimulate the use of cheaper payment instruments, enabling the reduction of the costs of accepting these cards for commercial establishments, as well as enabling reductions in the cost of products to end consumers, to provide benefits to society as a whole.”
The Brazilian Association of Credit Card Companies and Services (Abecs) said in a statement that it is in favor of free competition among economic agents that operate in the sector of electronic means of payment and against any kind of price fixing by the regulator.
“The imposition of a price ceiling generally restricts innovation and can generate costs to the consumer, since the impacted companies seek alternatives to rebalance their revenues, even more so when dealing with the same tariff for transactions in environments with very different risks,” it said.
The association also argued that the market and private initiative, under guidance from the regulator, can self-adjust to mitigate any imbalances, without limiting free competition.
“Recently, the payment arrangement providers published and submitted to the central bank for approval proposals for adjustments in the interchange and settlement period for the prepaid product in an attempt to meet the market. These proposals were overcome by the edition of Resolution 246 of the central bank”.
According to Abecs, the prepaid card modality moved 99.4 billion reais ($18.5 billion) in the first half of 2022, an amount 138% higher than the same period last year. Debit cards, on the other hand, moved 488 billion ($90.8 billion) in the first half of 2022, an amount 17% higher than the same period last year.
Movimento Inovação Digital, which represents startups, said it believes that with the new regulation on the interchange fee limit, the central bank recognizes prepaid cards as an important instrument for the financial inclusion being promoted by fintechs.
“The movement celebrates another step in this trajectory and maintains its commitment to contribute to an inclusive environment that provides Brazilian citizens with more access to quality financial services at an affordable cost. Now the challenge is to maintain the remuneration of these new fintechs through fees that contribute to more competition for the sector.”
What the experts say
Vinicius Carrasco, director of the Brazilian Association of Payment Institutions (Abipag), believes that the new regulation mitigates, but does not eliminate, the effects of an asymmetric treatment given to debit and prepaid cards (which are similar from the perspective of both cardholders and retailers).
“It is therefore an important step and in the right direction. We believe, however, that the implementation timeframe may be shorter than proposed and, not least, we hope that there will be further steps in the direction of reducing the applicable interchange gap,” he said.
For João Bragança, senior director of German consulting firm Roland Berger, with the change in the settlement period for prepaid cards, which previously took as long as a credit-card transactions and yielded an interest rate of 14% per year, the revenue of fintechs will be affected.
In his assessment, the resolution is another step that could lead to further consolidation of this industry through M&As, affecting smaller fintechs in particular.
“The management structure of these payment accounts is usually standardized. The fintech business is highly scalable because the more businesses there are, the more they can dilute their fixed costs. If the revenue gets smaller, the fintech is less able to dilute fixed costs and investments. But if two smaller fintechs get together, a bigger one is created,” he explained.
In addition, at a time when fintech funding through venture capital is more restricted, there are even more incentives for this type of merger agreement between small fintechs. On the other hand, it could be a consolidation opportunity for the big players.
Nubank disclosed on Monday that it has reached the milestone of 70 million customers in Latin America, of which 66.4 million are clients of the Brazilian operation, with more than 3.2 million in Mexico, and more than 400,000 in Colombia.
The results for fintechs
According to Bragança, when Nubank tells the market that it would have revenue reduced by around 3% in the 12 months to June 2022 if the regulations were already in place, one has to look at the results.
“Three-percent sounds okay, but what is the impact of that on the bottom line? Maybe that is more interesting, not the impact on revenue, but on the result. Of course, there is a tax issue, since revenue generates less tax. But it seems to me that one thing is the impact on revenue, and another, on the result,“ Bragança said.
He explained that, for fintechs, the revenue that comes from the interchange fee is certain, while that coming from the interest rate involves risks of default and loss.
“If we think that most fintechs in Brazil have a problem with risk, any revenue line that has the nature of certainty is important to compose the result.”
-- Updated with Nubank’s petition in the lawsuit against Getnet