Over the past decade, core payments processing has become commoditized, squeezing the margins of merchant acquirers. Their future growth is likely to come from providing merchants with value-added services and solutions for enabling e-commerce. Merchants are increasingly willing to pay for commerce-enablement services, such as loyalty programs, gift cards, and affiliate marketing, as well as for payments performance improvements such as enhanced authorization rates and chargeback mitigation. What’s more, enterprises that have scaled globally or digitally are prepared to pay a premium for sophisticated multi-country processors, local support, enhanced reconciliation, payments-adjacent services, and better payments performance in general.1 This shift is even more pronounced in merchant categories where digitization has recently accelerated, such as food and beverages, grocery, and homeware.
After a decade of consolidation among scale players, integration of payments and software, rapid digitization of small and medium-size businesses (SMBs), and emergence of powerful disruptors—independent software vendors (ISVs), fintechs, and innovative merchant acquirers—this arena is strongly contested and set to become even more so in the coming years. In this chapter, we draw on McKinsey research and interviews with payments practitioners to assess the scale of the opportunity in serving smaller merchants, and we outline four strategies for acquirers pursuing growth.
The continuing rise of value-added services
As acquirers and other merchant-services providers begin to offer software and services focused on commerce enablement, they are also tapping into merchants’ marketing budgets, where price sensitivity is lower and the perceived value of services is higher. Brands that negotiate hard over each basis point of merchant discounts are prepared to pay several percentage points to affiliate marketing platforms and buy now, pay later (BNPL) providers that position themselves as partners to help close a sale or drive more traffic through the door.
Meanwhile, as the payments business becomes more integrated into software, merchant-services providers can address larger value pools. According to data from a McKinsey analysis of card transactions at US merchant acquirers, payments performance and commerce enablement could account for approximately 80 percent of revenue growth in payments-related merchant services over the next five years (Exhibit 1).
Most of this expected revenue growth is likely to come from SMBs and the platforms that serve them. Categories such as real estate, education, and professional services include significant numbers of small businesses that can be expected to drive substantial growth in integrated payments solutions. This growth will be further fueled by the continuing expansion of marketplaces and social commerce, as small and even micro businesses (such as content creators) start to use payments software and services. In total, SMBs are expected to spend more than $100 billion on payments services by 20252—an opportunity that merchant acquirers must address quickly, given the intensifying competitive pressures in the market.
Four strategies for success
Serving SMBs effectively will be critical for merchant acquirers pursuing growth across a range of markets. To accomplish this, acquirers should investigate a mix of four strategies.
Optimize the performance of ISV partners
In large, developed markets such as the United States, ISVs derive a sizable portion of their revenues from payments. The rise of ISVs is putting pressure on acquirers’ margins and shrinking their share of the merchant wallet. As a result, most leading acquirers are targeting ISVs as distribution or product partners, as seen in First Data’s (now Fiserv) purchase of Clover in 2012 and U.S. Bank’s 2019 purchase of talech.3 Further, as acquirers increasingly serve merchants through ISVs, they need to invest heavily in enhancing their partners’ performance across key channels.
From our observations and conversations with industry participants, we have identified recurring issues with ISV sales and production journeys that acquirers should avoid. For each set of issues, acquirers can apply a set of best practices that help prevent problems (see sidebar, “Common missteps in ISV sales and production journeys, and how to avoid them”).
Target a broader share of merchants’ expense wallets
Disruptive players in merchant services, recognizing that payments represents only a small share of the SMB wallet, are targeting much bigger opportunities in software and services. A typical SMB merchant spends less than 10 percent of its budget for software and services on payments acceptance. The remainder goes to a range of services from point-of-sale (POS) and business-management software to loyalty advertising, logistics, and insurance (Exhibit 2). Delivering these broader sets of services is becoming easier with the increasing integration of acquiring and software. ISVs are now able to integrate payments, financing, and a range of other products into their platforms to increase their revenues per merchant served.
For incumbent acquirers, the larger the share of residuals they hand over to their ISV and bank partners, the more critical it is to target a bigger portion of merchants’ expense wallets by broadening their range of offerings. How readily they can do so depends on whether they have direct-to-merchant access and a merchant-facing portal or interface, instead of relying on other platforms and ISVs to reach SMBs. Those with direct-to-merchant access need to expand their product suite through proprietary or third-party products and adjust their economic and sales models to boost product penetration. Those that serve merchants via ISVs could build solutions that their ISVs can white-label and cross-sell. One example of how an acquirer with indirect access can increase its share of merchants’ expense wallets is Stripe, with its suite of services across Stripe Treasury, Stripe Issuing, and Stripe Capital.
The opportunity to target a larger share of wallets is greatest in mature SMB acquiring markets such as the United States and the United Kingdom. However, it is growing slowly in other markets where merchants’ expectations are rising and local solutions are evolving.
Focus on specific industries
Over the past two years, payments providers serving SMBs have started to organize their products, services, and go-to-market approach by industry. The convergence of payments and software, coupled with merchants’ desire to procure solutions from a single provider, has paved the way for merchant acquirers and ISVs to deliver integrated industry-specific solutions.
Whether acquirers reach merchants via proprietary channels, independent sales organizations, or banks, they need to focus on industries where they can build tailored solutions that go beyond payments. The recently launched Square for Restaurants offers services such as integration with delivery platforms, order modification, the merging of bar and table orders, and bill splitting, for example. Other providers are following similar industry-focused strategies. Mindbody, Daxko, and ABC Fitness Solutions focus on health clubs and gyms, Transact on education, AffiniPay on professional services, and Pushpay and Vanco on charities and religious organizations.
Providers pursuing industry-focused strategies also need to tailor their offerings by region. For instance, large and developed economies have highly competitive markets for merchant services in general retail, consumer services, and food and beverages, while Asia–Pacific and Latin America have yet to develop such markets at scale. Moreover, industries differ in their economics, scale, and attractiveness, which will partly depend on the stage of digitization they have reached. Exhibit 3 provides estimates of the size of some key verticals in the United States.
It’s worth noting that a sector focus can limit scalability, given the steady investments that in-house platforms and software solutions must make to remain competitive. An alternative strategy—pursued by Adyen, among others—is to build horizontal cross-industry platform capabilities that ISVs can use in areas such as lending, issuing, and POS financing. As acquirers gear themselves up for the next decade of competition, most have only a year or two to decide whether to adopt a vertical or horizontal focus.
Develop solutions for platforms
Marketplaces such as Amazon Marketplace, eBay, Etsy, Walmart Marketplace, and Wayfair continue to capture a significant share of the SMBs and microbusinesses that are shifting to e-commerce. Overall, we expect 50 to 70 percent of digital commerce will be conducted on these platforms by 2025, albeit with differences between markets. We can expect this shift to apply across multiple industries, including media (such as TikTok), retail (such as Amazon and MercadoLibre), and travel and hospitality (such as Airbnb).
To succeed in this segment, acquirers need to offer specific marketplaces tailored solutions, such as cross-border disbursements and submerchant onboarding.⁴ Seller-enablement solutions such as instant payouts and seller financing represent a large and underserved value pool that acquirers can access via an increasingly consolidated set of marketplaces such as Amazon and eBay. Merchant acquirers with access to sellers will also be well positioned to offer them increased platform reliability by providing enablement solutions such as continuity insurance and liability protection.
As social commerce grows, social platforms and creator platforms will develop distinctive needs that acquirers can target. Underserved opportunities exist in areas such as enabling micropayments (as Twitter has done with Tip Jar, and YouTube with Super Thanks), enabling creator disbursements, and monetizing payments more effectively, whether within platforms or for providers that serve creators, such as Later and Ko-fi.
To keep growing, merchant acquirers will need to expand beyond core payments acceptance to offer merchants solutions for enabling e-commerce. With disruptive players already investing heavily in this arena, failure to move fast could come at a high cost in lost growth.