Extreme Merchant Vexation

Chargebacks stemming from the EMV liability shift are bedeviling merchants, and some of them are turning to the courts for relief. That could change the way EMV plays out in the United States.

Max Milam thought his stores were ready for EMV chip cards.

His four Milam’s Market grocery stores in Miami-Dade County and single-unit Grove Liquors store in Coconut Grove, Fla., installed a total of 33 shiny new EMV terminals from NCR Corp. in January and February of last year.

The tab for the new machines came to $20,000, but Milam knew the technology was crucial. “We wanted to be ahead of the curve and be ready to accept EMV,” he says in an email message sent to Digital Transactions through his attorney.

And ahead they were. The installation was done more than seven months before the Oct. 1, 2015, deadline the card networks had set for a so-called liability shift that moved responsibility for certain types of chargebacks—counterfeit card and, in some cases, lost-and-stolen card—from issuers to merchants that can’t process an EMV transaction.

There was just one hitch. Milam’s Market and Grove Liquors couldn’t turn on the EMV function. That requires a raft of technical certifications from networks and processors, and certification queues were soon clogged with merchants looking to upgrade.

Oct. 1 came and went, and before long the chargebacks began showing up. Some 88 of them, totaling more than $9,600 including fees, flowed in by Feb. 15, according to a lawsuit Milam filed in March. In the same four-and-a-half-month period the year before, the five stores together saw just four chargebacks.

“We were never advised that such a significant cost would shift to us, the merchants,” Milam says, since issuing banks handled the chargebacks in the past. Patrick Coughlin, of counsel at Robbins Geller Rudman & Dowd, the San Diego-based law firm Milam hired, describes his client’s distress somewhat more colorfully. “[Max] is just knocking his head against the wall,” he says.

‘Literally in Tears’

Milam isn’t alone. While numbers are hard to find on just how many chargebacks are now flowing to merchants that can’t handle EMV, anecdotal evidence indicates the problem is acute for those that are facing it. “I’ve got merchants calling me who are literally in tears,” says Steve Mott, principal at BetterBuyDesign, a Stamford, Conn.-based payments consultancy. “A rash of lawsuits would not be at all unexpected.”

If that’s true, Milam’s suit may well set the pattern. Once the chargeback issue became apparent, the Florida grocer sought out Robbins Geller because of the firm’s prominent role as lead attorney in a massive class-action suit on behalf of merchants that objected to credit card interchange costs. That 7-year-old case culminated in a $7 billion settlement in 2012 that included temporary interchange concessions.

Working with his lawyers, Milam sued 18 entities, including all the major card networks and eight of the 10 biggest bank issuers. The case, which is pending in federal court for the Northern District of California, seeks class-action status, which would widen its reach to all similarly situated merchants. Coughlin is pretty confident about that. “We have gotten class certification against these groups before,” he says, referring to the interchange case.

If the suit succeeds, it could rewrite the book on how EMV plays out in the United States. Seen as a major bulwark against fraud, EMV chip cards are very hard to fake and protect cardholder credentials with chips, tokenization, and one-time cryptograms. In introducing them now, the U.S. is simply catching up with the rest of the developed world, much of which implemented EMV years ago.

But no other payments market is as complicated as the U.S. card business. Instead of just the handful of issuers found in other countries, thousands of banks, plus major corporations like American Express Co. and Discover Financial Services, put out debit and credit cards. There are hundreds of millions of plastic cards, and millions of merchants of all sizes accept them.

Making things more complex, a federal requirement called the Durbin Amendment hobbled EMV implementation for debit cards as the industry wrestled with how to reconcile the chip standard with the amendment’s requirement of a minimum of two competing networks for each card. When it was developed 20 years ago, EMV did not contemplate multinetwork applications.

That held up debit implementation for more than a year as the industry hammered out a solution. That, in turn, held up certifications on the debit side. Few issues anger merchant advocates more than this.

“Probably the most damning aspect of all is the fact that the networks acted without even being in a position to provide merchants with specifications for accepting EMV debit in accordance with U.S. law,” notes Mark Horwedel, chief executive of the Merchant Advisory Group, in an email message. The Minneapolis-based MAG represents 175 big-box retailers and airlines on payments matters.

‘Preposterous Claim’

At the same time, by the time the Oct. 1 deadline rolled around, issuers and networks were agreed on the liability shift but had made no provision for any sort of positive economic benefit, such as a break on interchange, to encourage merchant buy-in. “We’d like them to move the [liability-shift] date back another year or year-and-a-half or give a break on interchange, at least 10 basis points,” says Coughlin.

The suit itself alleges an antitrust violation, asserting the defendants engaged in a conspiracy to transfer chargeback losses to merchants without their consent, and seeks triple recovery of the chargebacks and fees, plus interest.

What Milam’s and other like-minded merchants are forgetting, say critics, is that, for all the fuss over liability transfers and certification delays, no authority ever required merchants to adopt EMV in the first place.

“There was never a requirement for any party—issuer or merchant—to move to EMV,” MasterCard Inc. said in a statement when the Milam’s suit was filed. “We have and continue to work with parties across the industry—merchants, issuers, processors, manufacturers—to assist in this migration.” No other defendant in the case was willing to comment on the matter.

Indeed, the notion that EMV was imposed on merchants without their consent strikes some observers as nonsense. “The suit makes the preposterous claim Milam’s never had an opportunity to ‘opt out,’” notes Eric Grover, principal at Minden, Nev.-based consultancy Intrepid Ventures. “Last time I checked, nobody forced any merchant to accept payment cards or to implement EMV.”

That may be so, but a successful outcome for Milam—especially in the event his case wins class certification—could switch the engine behind EMV from a stick, the liability shift, to a carrot, some sort of benefit like interchange breaks.

Interchange has long rankled merchants, and it’s especially galling for many of them that, with EMV, they are taking a safer payment method but paying the same rate to acquirers. It’s no coincidence that Milam’s lawyer, Coughlin, argues for an interchange break of 10 basis points or more.

Some point to the EMV experience in other countries. “Merchants in markets outside the U.S. were often provided with some financial assistance by the networks in the form of reduced interchange or hardware subsidies,” says the MAG’s Horwedel.

To be sure, the payments networks in the past have shown a willingness to offer interchange incentives to encourage merchant adoption of new methods. The online counterpart of EMV, an authentication tool called 3-D Secure, offers interchange breaks to merchants that use it. The break varies, but typically ranges from 20 to 22 basis points, according to CardinalCommerce Corp., a Mentor, Ohio-based vendor of e-commerce authentication solutions.

Long-Running Feud

If Milam’s suit ultimately forces the networks and issuers to bend on interchange, the result would not only juice EMV adoption but also represent another transfer of income from the pockets of banks to those of merchants.

The Durbin Amendment, which became law in 2010 as part of the Dodd-Frank Act, capped debit card interchange for banks with $10 billion or more in assets and has saved merchants $36 billion since October 2011, when the caps took effect, estimates the Electronic Payments Coalition, a Washington, D.C. lobbying group for banks.

Milam himself puts the issue in stark terms. “We want to recover all of the liability that has shifted to us,” he says. “We would want the same for all of the class members we represent.”

At this point, even determined skeptics are resigned to what is turning into the latest chapter in a long-running feud between merchants and banks over payments.

“The war between the retailer lobby and the payment industry over economics is not going to end,” says Grover. “I just would prefer that it was fought in the market rather than in the courts and Washington.”

Meanwhile, in the Petroleum Patch …

Most U.S. merchants faced an October 2015 liability shift if they weren’t prepared for EMV, but gas stations got an extra two years in recognition of the complexities they face in making the conversion from mag-stripe cards. Recent research indicates even that extra time may not be enough to bring chip cards to the pump.

“The industry has issues,” said Terry Mahoney, a partner at Chicago-based W. Capra Consulting Group and a former petroleum-company executive, while speaking at a trade show last month. “Outdoor card readers are the bumpy road ahead.”

Nearly all gas pumps more than a handful of years old will likely need to be completely replaced to be capable of running EMV transactions, Mahoney said. For a station with eight pumps, that comes to an investment of about $80,000. That, he explained, will cut deeply into the station’s typical earnings. The result: “It’s going to be an extreme struggle for the industry to meet its October 2017 EMV date,” Mahoney said.

W. Capra’s projection is that, among convenience-store operations with gas pumps, 14% of locations will be EMV-capable at the pump by the end of this year, rising to just 23% by October 2017. Even past 2018, only a little more than one-third of locations will have EMV at the pump.

Mahoney underscored the importance of this shortfall with a few numbers. Among the 150,000 U.S. retail fueling sites, 125,000 belong to convenience stores. Of all fuel sales, 75% are completed with payment cards, including fleet and private-label cards, accounting for fully 12% of all U.S. card-based dollar volume.

 

The Defendants

Entities named in the Milam’s Market antitrust case filed March 9, 2016, in U.S. District Court for the Northern District of California

– American Express

– Bank of America

– Barclays Bank

– Capital One

– Chase Bank USA

– Citibank (South Dakota) NA

– Citibank NA

– Discover Financial Services

– EMVCo

– JCB

– MasterCard

– PNC Bank

– UnionPay

– USAA Savings Bank

– US Bancorp

– Visa Inc.

– Visa USA Inc.

– Wells Fargo