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Merchant-funded rewards programs: Worth your participation?

By Brian O'Connell

The idea of merchants leveraging credit card-fueled rewards programs to keep old customers and attract new ones isn't exactly revolutionary -- but it can be profitable.

rewards-cards-reaching

After all, rewards programs are wildly popular with consumers. According to a study from the Nilson Report, credit cards with rewards programs significantly increase the average monthly spending of a cardholder. For example, the average monthly spending with a traditional Visa card is $465. A Visa rewards card increases that figure by 91%, to $890.

And now that new rules will soon go into effect that cap debit card interchange fees at 25 cents, merchant-funded rewards programs -- in which merchants work with credit card issuers on providing customer incentives -- are poised to become increasingly common.

As credit card issuers look for ways to make up for lost revenue, experts are advising these card issuers to reach out to merchants to partner on merchant-funded rewards programs.

"Merchant-funded incentives programs are a good deal for card issuers and offer a new revenue stream," wrote Madeline K. Aufseeser, Senior Analyst with Aite group, in a report on merchant-funded incentives. "Because the cost to operate merchant-funded incentives is less than that of traditional reward programs and will generate profit per account, card issuers should consider swapping some existing traditional reward programs for merchant-funded incentives programs, especially on debit portfolios."   

But what about the merchants? What's on the table for them when it comes to merchant-funded rewards programs? Experts say it comes down to one key factor that matters to merchants most: increased market share. According to the business consulting firm TSYS, cardholders with rewards average 1.6 additional transactions per month.

How merchant rewards programs work
Merchants participating in merchant-funded rewards programs work with banks to offer discounts and deals to consumers who use a specific credit or debit card. The deals are varied. They might include "daily discount" deals for card users or discounts for shopping online. And the merchants pay for the discounts, not the banks or card issuers.

Increasingly, merchants are turning to third-party vendors to run these types of programs. These companies, called "rewards services providers," handle the day-to-day accounting of all that spending data between merchants and customers. Companies like Access Development, Affinity Solutions and Rewards Now are reaching out to merchants offering help to run their card rewards programs. In addition, big card manufacturers like MasterCard and Visa offer plug-in programs for merchants.

Big benefits
The benefits for merchants who latch on to rewards programs are myriad. Chief among them may be access to transactional data (often shared by card reward providers).

Critical consumer information culled from such data can help merchants frame better advertising and marketing campaigns that target specific consumer verticals through multiple channels (like mobile apps and email campaigns, all with rewards offers). 

"Look at the exploding popularity of Groupon and LivingSocial daily deal sites," said Aleia Van Dyke, who co-wrote a report on merchant rewards program for Javelin Strategy & Research, in a statement. "With access to consumer transactional data such as demographics, location, purchasing behaviors, and retail history, merchants will be able to customize their offers to appeal to specific consumer groups, rather than flood the market with generic offers."

Cost is a big benefit to retailers, too. Merchant-funded rewards points are only paid out if a consumer actually makes a purchase that's linked to their rewards program. That means merchants are only paying for rewards programs that actually produce specific results.

Experts say that merchant reward accounts may be a shortcut to customers and more effective than media advertising campaigns. If merchants can find the right programs and the right partners, merchant reward programs could be a home run. But merchants will have to step up to the plate and swing away first.

See related: After the Durbin Amendment: A new era in debit card transactions; Fighting high card processing fees with store debit cards

Published: August 8, 2011

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