Merchant payments are now a hot battleground for digital financial services (DFS) providers. Across the markets CGAP works in, launching a retail payments play fairly consistently ranks among the top three priorities for major DFS providers — and for many it’s right at the top.
Yet even providers with seasoned deployments, large customer bases and skilled marketing teams have struggled to get uptake and volume on merchant payments. While large numbers of merchants have been signed up, the vast majority are typically not transacting, even at modest levels. And beyond a few trials to satisfy curiosity, even customers who actively use DFS have mostly been loath to use their digital wallets for retail purchases.
Why is this proving so hard? Our conclusion from studying several first-generation merchant payments offerings is that it’s pretty simple: These services tend not to offer very compelling value propositions for either merchants or their customers. Typically, providers have pitched the digital wallet as a “better way to pay,” which assumes that there’s something wrong with the old way — but there isn’t. As CGAP CEO Greta Bull outlines in her recent blog, to achieve real adoption at scale digital merchant payments need to be clearly better than cash in some way.
So what should providers do? In short, stop focusing on the payments aspect itself and build ancillary services that offer genuine value to merchants and their customers.
For the merchant side, this is actually not all that difficult. Small and semiformal merchants the world over testify to having strikingly similar pain points around issues like customer relationships, staff performance, inventory management, supplier payments and working capital. As CGAP has shown before, offering value-added services that address those pain points can get merchants to actively drive payments onto digital channels. Based on human-centered design processes with merchants in multiple markets, CGAP has developed a number of concepts for value-added services that providers could build into a simple business tool for small retailers. We are making these available today in a playbook that providers can use as a starting point for thinking about what might work in their markets.
One of the biggest opportunities — for merchants, for providers and for financial inclusion advocates alike — is around working capital, which tends to be one of the chief constraints for small and informal merchants in emerging markets. Out of around 400 million micro, small and medium enterprises worldwide, the World Bank estimates that 70 percent have no access to formal credit — in large part due to lack of formal financial information. But it turns out that digitizing even a modest share of their payments provides sufficient data for a financial services provider to be comfortable extending a loan. There is even an emerging industry standard for such lending, with similar products on offer by Kopo Kopo in Kenya and by Square and PayPal in the United States (which, in turn, resemble merchant cash advance products that have existed around credit cards in developed countries for some time).
Digital working capital products for semiformal merchants in emerging markets is an idea whose time has come. As the superheated market for digital consumer lending has shown, such models have a tremendous capacity to scale and to do it fast. In principle, their reach is limited only by the capital and risk appetite of the lender. They can help to meet a deep and persistent need for small and informal businesses, and there is every indication that these products are profitable for providers.
As always, innovative credit products should be subject to healthy scrutiny and debate around price, terms, transparency, over-indebtedness and other consumer protection concerns, as the market for digital consumer lending has also shown. This is all the more important when lending to customers whose financial literacy can be low. But given such a debate, along with the emergence of regulatory frameworks that enable innovation while protecting customers, we may be on the cusp of a development that fundamentally redraws the map on access to formal finance for millions of micro and small businesses across the developing world.