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Emerging markets, led by Latin America, powered 6% growth in global payments revenue last year, according to a brand new report from McKinsey.
Additional M&A is expected as companies buy their way to more product offerings, capabilities and scale, with deals like PayPal's 2018 acquisition of iZettle.
Payments-as-a-service can open up new ways to rake in revenue, like Square adding payroll services and lending.
Banks need to embrace the changes that their customers want, the report said.
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The payments industry has seen revenue steadily growing and new entrants muscling into more areas of the space. That has banks and other long-time players rethinking their approach and scrambling to keep up. And more change is expected as cash and paper checks increasingly become replaced by digital payments around the world.
Consulting firm McKinsey & Company published its 2019 Global Payments Map report on Monday at the Sibos conference in London. In this year's report, McKinsey explored those disruptive trends and forecast shifts to come in the payments ecosystem. It flagged strong growth in areas of global payments revenue, and drilled down into changes that legacy financial institutions may need to make to capture some of the broader space.
Companies will need to position themselves to capture pockets of growth, and to cater to the various types of money exchanges that need to happen between people, companies selling products and services, and financial institutions, particularly as more and more transaction happen online.
It's an area that Business Insider has been busy covering in recent weeks, given new fundraisings and product launches. For one, earlier this month we attended a tech showcase put on by Mastercard, where it highlighted applications of biometrics for digital payments as well as blockchain uses for tracking where things people buy come from. Mastercard early this year ditched the word "card" from its logo as part of a rebranding push to reflect more forms of payments.
Here are the key takeaways we got from reading the new report.
Read more: We went to Mastercard's tech showcase, which featured biometric sensors and shrimp-tracking blockchain. It's part of a push to embrace a future without cards.
1. Emerging markets driving revenue growth
McKinsey expects payments revenues to top $2.7 trillion by 2023. One key factor of growth here is the increase in electronic payments, especially in emerging markets, the report said. Global revenues of the payments industry reached $1.9 trillion in 2018, led by an uptick in Latin America. That total figure was up 6% from the year before, but growth retreated somewhat from an 11% surge in 2017, per the report.
Globally, revenues were split almost equally between retail and commercial segments. However, the report shows that Latin America skews toward retail, while EMEA grew more in commercial payments.
Electronic payments transactions have surged at a rate of 22% in emerging markets over the last five years. And while the report sees that slowing to a still-robust compound annual growth rate of 14% over the next five years, there still appears to be plenty of opportunity as those areas keep switching over from cash to digital payments.
Cross-border payments revenue grew in 2018, largely driven by volume, per the report. Players like TransferWise and Worldlink by Citigroup are competing with traditional banks to offer cheaper and faster cross-border payments for businesses and consumers. Still, margins for payments sent across borders are compressing somewhat thanks to heavy competition in the space, the report said.
TransferWise, one of the UK's hottest fintechs, just reported a third straight year of profit. The company, valued at $3.5 billion, facilitate cheap and fast cross-border payments, and offer borderless accounts and a multi-currency debit card. In 2018, TransferWise debuted a borderless account and multi-currency debit card by teaming up with Mastercard. That was originally tested out in the UK, and then the account and debit card was made available to US customers in June.
MoneyGram, which has long known for its global cash-to-cash transfers and saw revenues fall in 2017 and 2018, has also been making a digital push. We spoke with MoneyGram execs recently about how the company is continuing those efforts after a website rebrand and launching its own app — for one, it's now partnering with Visa to offer peer-to-peer direct deposits via debit card in the US.
Read more: TransferWise, a fast-growing money transfer startup valued at $3.5 billion, just turned in a third straight year of profit
2. More M&A to come as companies buy their way to growth
With more than $100 billion in payments M&A activity since January 2018, the payments industry continues to disintermediate. $35 billion of that total came from just one acquisition this July, when financial technology company FIS bought Worldpay. Deals have brought different parts of the payments system together across borders, and also added scale.
Other M&A activity has included PayPal's $2.2 billion acquisition of Swedish payments company iZettle in May 2018, which was PayPal's largest-ever buy and handed it a way into physical points of sale. And in June 2018, PayPal announced a $400 million deal to snap up HyperWallet, which handles payouts for online sellers.
Read more: A tech exec explains how it feels to spend 1.5 years preparing for a $226 million IPO, only to sell to PayPal for $2.2 billion
This August, Mastercard's agreed to pay nearly $3.2 billion to buy a huge chunk of the corporate services arm of payment platform Net, which added so called account-to-account (A2A) capabilities.
And the newest wave of consolidation will likely result in a relatively small number of players with large reach and a wide variety of services, the report predicted.
"Traditional B2B payments with high scale and high level of fragmentation might be next," the report said, though it also noted that any economic downturn would likely limit M&A activity.
Legacy banks and challenger fintechs are continuing to look for ways to reach customers in several ways.
3. Payments as a service (PaaS) opens new revenue streams
Payments as a service (PaaS) companies are growing in prominence. They offer their customers cloud-native payment platforms that can be integrated into an existing bank's website or app.
"In the past, 85 percent of payments revenues have been earned by players at the endpoints of the value chain," the report said. For example, credit card issuers, who accept the transaction and the associated credit risk, earn 91% of the revenues generated in the payment value chain.
PaaS is challenging this concentration of revenue with the emergence of "platform integrators," meaning players who sell and integrate payments software into a business platform.
McKinsey suggested that to take advantage of the PaaS opportunity, firms need to get comfortable with outsourcing, attract engineers that can integrate PaaS solutions, and ensure strong governance over PaaS providers.
The report highlighted Square as an example of a company doing just that. Though Square started as a payments processing fintech, the firm has expanded its offerings to include payroll services, PoS, and lending. And Square is also now testing a free stock-trading service for its P2p Square Cash platform, Bloomberg reported earlier this month.
Read more: Square is making a slew of updates across its product offering
4. Banks need to embrace changes customers want
It's not news that technology is disrupting global banking. McKinsey's report focused on disruption in the customer experience.
Banks are now running the risk of being relegated to "balance sheet providers," the report said, unless they embrace the changing customer needs.
New and existing companies need to offer customers a seamless means of connecting to the global financial system. This means a shift to digital, and McKinsey expects digital transactions to increase as much as five times current volumes.
Meanwhile, payments processors are making moves into lending. San Francisco-based Stripe earlier this month launched small business lending and now also offers a corporate card. And the payments startup also recently nabbed a fresh $250 million in funding that valued it at $35 billion.
Wells Fargo last week announced data-share agreement with Plaid, a software fintech that powers other fintechs like Venmo and Betterment. Wells Fargo's agreement with Plaid is similar to the one JPMorgan signed last year. Wells also announced plans to launch a cash settlement service run with its own distributed-ledger tech, which will allow it to internally transfer cash between locations in near-real time for corporate clients. That comes after JPMorgan earlier this year announced plans to launch its own cryptocurrency.
Read more: We talked to Wells Fargo execs about its blockchain and Plaid data-sharing push. The bank has been balancing new tech investments against spending on cleaning up risk controls.
5. Consumer credit can be reimagined
Retail payments have been a steady source of revenue for financial firms since the financial crisis, the report explains. That means there is an opportunity for banks to reimagine the credit they would typically issue via cards.
Non-bank companies like Affirm, launched by Paypal cofounder Max Levchink, have partnered with merchants to offer real-time credit decisions and loans at the points-of-sale.
McKinsey highlighted that banks already have the consumer relationships and data they need to explore this space.
"This holistic approach to relationship management provides additional customer value, deepens the relationship, and leverages a strategic angle that an early-stage disruptor would find difficult to match," it said.
Read more: Affirm lets you pay off a large online purchase over time — here are 35 stores across home, fashion, and travel that accept itJoin the conversation about this story »