PoS Terminal Penetration in India — A Closer Look
The payments landscape in India is changing fast — so fast that the general consensus seams to be that just like the mobile phone story, India is set to leapfrog from cash payments to mobile payments. We, at WalletBuddy, believe that over the next decade or so, various forms of payments and various payment form factors will co-exist — mobile-based transactions will see the highest growth through adoption of UPI-enabled apps, payment banks’ and other banks’ wallet apps, and 3rd party apps like Apple Pay, Android Pay, Samsung Pay. This will be supported by the 1 billion mobile connections and the financial inclusion drive.
However, for digital payments — whether through mobile, or through physical credit and debit cards — to really scale in a country of such massive proportions, acceptance of such payments at merchant outlets — big and small — both in rural and urban India, needs to increase dramatically. Post demonetisation on November 8, 2016, there was a huge uptick in digital and plastic transactions, with State Bank of India seeing a 5x jump in the number of Point of Sale (PoS) machines being installed at merchant outlets on a daily basis. A very large number of customers started using debit cards at PoS transactions for the first time. For the top banks, the fastest growing merchant categories were: restaurants, lodging, department stores, super markets and health care.
India needs 20 million point of sale terminals
The period between November 2016 to March 2017 was clearly a watershed moment as the number of installed PoS terminal base saw a M-O-M increase of nearly 100%. Almost all metrics listed above grew at a scorching pace, but we are still at roughly 12% of what we need to truly make India less-cash.
A 2015 Ernst and Young report said there were only 693 machines per million of India’s population, compared to similar emerging countries such as Brazil, which has 32,995 terminals per million people and China and Russia, each of which has around 4000 terminals per million people.
Key impediments to the growth of digital payments
1. High cost of acceptance infrastructure
The cost of a point-of-sale (POS) terminal in India ranges from INR 8,000 (USD 118.9) to INR 12,000 (USD 178.3); countervailing duties and taxes account for about 20 percent of the price. In addition, the annual operating cost is INR 3,000 (USD 44.6) to INR 4,000 (USD 59.4) per terminal. That covers paper and servicing costs, amounting to about INR 3.9 billion (USD 0.06 billion) annually for all installed 1.3 million terminals. Additional costs include those to build merchant and acquirer capabilities. A high rate of staff attrition at merchants of 30 percent to 40 percent a year makes the process of capacity building onerous for all parties involved. Finally, low transaction values and volumes at smaller merchants, especially outside of Tier 1 cities, make it unviable for banks to expand their footprint into such segments.
2. MDR Issues: No incentive to develop the system
The Government of India, in Oct 2016, set up an acceptance development fund (ADF) to boost the card payment infrastructure in the country. The proposed ADF which will be funded by card issuers to build a corpus by diverting a percentage of their transaction revenue into the fund. Money from the fund is then invested in structured initiatives to expand acceptance infrastructure such as POS terminals.
However, there is a heavy skew towards the top banks — State Bank of India, ICICI Bank, HDFC Bank, Axis Bank and Corporation Bank (mostly banks who have a well-developed credit card portfolio, which is large enough to contribute to their balance sheet in a meaningful way) — have the highest number of POS terminals accounting for 80%+ of all terminals in the country.
An explanation for the skew of POS terminals within these banks could be that they get to charge merchants a higher merchant discount rate (MDR), an inter-bank interchange fee, for credit card transactions.
The MDR is fee collected by banks from merchants for a card transaction. When a customer uses a HDFC Bank credit card on a POS terminal, the merchant is charged a fee to settle the payment in another bank.
Typically banks charge around 2–2.5% per transaction on credit cards. However, the RBI has capped the MDR for debit cards at 0.75% for transactions below Rs 2,000 and 1% for transactions above Rs 2,000.
The devil, however, lies in how the MDR is split between the bank issuing the card and bank accepting the payment. For credit cards, the issuing bank gets around 1.8% of the 2–2.5% MDR. Meanwhile for debit card transactions, issuing banks make around 0.5% out of the 0.75% interchange fee.
The RBI counts 56 scheduled commercial banks in the country. Not to mention that there are 56 functioning regional rural banks and 93 cooperative banks.
No level playing field
Currently, other banks (public, regional and cooperative banks) have no incentive to develop card acceptance networks. They are not interested or do not have the expertise to develop a credit card business to command a higher MDR. They would rather have their customers use debit cards as a dumb instrument to withdraw cash at ATMs instead.
Banks look at POS as a means to retain customers through current accounts and offer them other products. There seems to be no level playing field between third party companies who develop POS solutions and banks. RBI guidelines say that third party companies need to take permission from banks to process POS payments. Sources also say that banks charge around 5–10 basis points (bps) for getting a bill of sponsorship to handle POS payments (unverified anecdotal point).
3. Lack of financial literacy — mostly among smaller merchants and women outside Tier 1 cities
- An informal labour market and large shadow economy: The Indian economy is evolving but formalisation remains limited to a few large entities across sectors. SMEs, an important sliver of the country’s economic engine, are largely unorganised. Some sectors are cash-intensive despite relatively large transaction values, primarily because of the attitude of Indian households toward savings and tax compliance.
- A high propensity to save in cash: Cultural, traditional, and historical factors help explain the often-contradictory patterns of household spending in India.
- A gender imbalance in the use of digital payments: Use of electronic payments by women is much lower than by men.
Accelerating adoption of digital /plastic payments
The following would increase payment acceptance adoption. Some of them are already in motion, thanks to recent policy changes, NPCI-led innovations, and innovative solutions by several startups.
1. Rationalisation of Merchant Discount Rate
The RBI has proposed a number of options for the rationalization of the MDR some of them are:
- Uniform MDR across all merchant categories & locations proportionate to transactions size: Already a cap on MDR has been put. However, the growth in deployment of POS terminals has come down as lower MDR was cited as on of the reasons making the business unviable. To an extent, the ADF aims to solve this by taking a portion of the fees got by the issuing bank and put it into a corpus to get more POS terminals in the country.
- Differentiated MDR at select merchant categories at all locations: For example, some merchant categories with lower MDR could include utility bill payments (electricity, water, gas, telephone), municipal taxes, primary hospitals and health centres, primary educational institutions, etc.
- Differentiated MDR at select merchant categories in Tier III to VI locations: Another alternative is to rationalise MDR in select categories in Tier III to VI locations with the objective of ensuring wider deployment of POS terminals.
2. Mandate installations of POS terminals in proportion to cards issued
The RBI said that banks issuing cards should install proportionate number of POS terminals to the number of cards issued. However, it noted that not every bank is equipped to run merchant acquisition business. The lack of expertise may lead to some banks entering this business through outsourcing model which later might prove costly.
3. Encourage third party POS players and aggregators
The top five acquirers account for nearly 81 percent of the POS infrastructure; the top 10 acquirers’ share of POS is above 90 percent. One way to increase the number of acquirers would be to allow large non–banks to enter the business. For example, Oxigen has a product called Super POS which also doubles as a mini ATM and has biometric and Aadhaar authentication. The RBI recently issued a notification which instructed banks to upgrade ATMs and POS machines to accept Aadhaar. Other players like mSwipe, Pine Labs, Innoviti, Ezetap, Paynear, Poynt, etc. are already blazing trails in installations.
4. NFC / QR Code based systems
In India there has been limited use of NFC technology for making payments, though payment networks like Visa and MasterCard, and Issuers like ICICI Bank and Axis Bank have started distributing NFC (Near Field Communications) enabled debit and credit cards and NFC POS machines.
Paytm has an interesting approach to offline merchants. Recently the company announced that it sees more offline payments than online payments. Paytm’s offline merchants have a QR code which a customer has to scan on the app to make a payment. Effectively, it has turned the POS system on its head by cutting the costs of installing and maintaining a POS terminal. Once a customer decides to move his/her money to a bank account, they need to pay a fee of 1% to Paytm which is considerably lesser than the MDR charged by banks. Small merchants / retailers too find this much cheaper.
NPCI has also recently launched the BharatQR code, the world’s first interoperable payment acceptance solution. Now merchants can have only one QR code for all payment networks (Visa, MasterCard, RuPay, et al) instead of multiple ones where customers can just “scan and pay”. These are still evolving, has quite a few performance inefficiencies and the story waits to be played out.
5. Fiscal Incentives and New Regulation
The Government of India, starting with the demonetisation announcement on November 8, has introduced a slew of measures, which are already seeing good adoption and a steady move towards a less-cash society. Just for reference, South Korea since the 1990s introduced new regulation to increase plastic usage for payments, like:
- Tax rebates to consumers
- Incentives to merchants like credit card sales tax relief
- Tax deduction based on an increase in reported income
- Administrative sanctions, like a 5% tax penalty on merchants who refuse to issue credit card slips
- Easing of citizen-to-government payments
Similarly, India can potentially introduce tax benefits to SMEs, mandate electronic wage / salary administration, etc.
In summary, India has made a swashbuckling start since November 2016 on its journey to become a digitised payment economy. Innovations in form factors, technology, and measures like UPI, BHIM, etc. coupled with making a level playing field in MDR charges and encouraging aggregators will go a long way to build out a less-cash society, and accelerate the pace and scale of digitisation.
Data Sources: Various data from RBI Data Releases, World Bank Reports, Visa’s whitepaper on Digital Payments landscape in India
