FDC May Emerge As Bigger Winner in Merchant Deal with Citi

Citigroup Inc.'s decision to bail out of the merchant-acquiring business, which was announced yesterday, could benefit both the banking kingpin and the buyer of the 15,000-location portfolio, processing giant First Data Corp. But Denver-based FDC may emerge as the bigger winner, some observers say, now that Citi has decided to exit acquiring for the second time in 13 years. In exchange for giving up ownership, Citi will gain ongoing revenues in addition to access to First Data's vast scale, well-honed processing platforms?one of which Citi created in its first life as an acquirer?and sales and management expertise, according to acquiring consultant Kurt Strawhecker, a former First Data executive who is now a partner with Strategic Management Partners in Omaha, Neb. Meanwhile, First Data gets access to the name of the nation's largest bank. “This is a real win for First Data,” he says. Citi decided it was better to join rather than try to beat First Data. “We were not one of the leaders in the payment business,” a Citi spokesperson says. “It (the portfolio) never got to scale.” The spokesperson would not comment about the portfolio's profitability. Indeed, observers wondered why Citi, if it was in the business at all, didn't rejoin the top ranks of acquirers. “Everyone was waiting for something big from Citi, the other shoe to drop,” says Strawhecker. Among acquirers, Citi ranks down in the high teens and is minuscule in comparison to First Data. Through its so-called merchant alliances and other processing contracts, First Data's First Data Merchant Services unit processed $1.02 trillion in charge volume last year on 19.8 billion transactions from more than 4 million locations. Chase Merchant Services, a joint venture with Citi archrival JP Morgan Chase & Co., is the biggest of the FDMS alliances. Citi's Merchant Services unit, which FDC is buying for an undisclosed price, handled nearly $10 billion in credit and debit card volume last year. Under the pending deal, First Data and Citi will form a revenue-sharing alliance in which First Data will provide the processing, account management, and most sales and management personnel. Citi will provide sales and marketing support through various channels, including its branches. A First Data spokesperson refuses to provide details of how revenue from the portfolio would be shared or exactly how the alliance is to be structured, but says, “We effectively own the business.” The portfolio, which consists mostly of small and mid-sized merchants throughout the country, will continue to be known as Citi Merchant Services. The sale has many elements of déjà vu. In 1992, at the time the No. 2 acquirer, Citi sold its 80,000-location merchant portfolio, including its state-of-the-art processing facility in Hagerstown, Md., to an investor group headed by private-equity firm Welsh, Carson, Anderson & Stowe. That move by the No. 1 bank prompted many other banks to exit the low-margin, technology-intensive acquiring business. In 1995, Welsh, Carson sold the Citi portfolio, renamed Card Establishment Services, to First Data. The next year, First Data formed FDMS in part by merging CES with another top acquirer that it had purchased, National Bancard Corp. (NaBanco). Those acquisitions gave First Data more than 200,000 merchants and two of the nation's leading processing platforms, but angered many bankers, who perceived their friendly back-office processor had become a direct competitor. To allay those concerns, First Data launched its alliance strategy in which banks and First Data jointly owned merchant portfolios. CES, before Welsh, Carson sold it, pioneered the concept of merchant alliances through a pact with Wells Fargo & Co. The pending agreement is subject to regulatory approval and would further the ties between Citi and First Data. Citi, which bought the Sears, Roebuck and Co. private-label and cobranded MasterCard portfolios in 2003, will switch the processing of those files from Total System Services Inc. (TSYS) to First Data by the second quarter of 2006. The Sears portfolios had more than 20 million active accounts and about $29 billion in total receivables when Citi bought them. First Data already is processing other Citi retail portfolios.