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October 17, 2016

Recurring Merchants: Are you Missing Out on Millions of Dollars?

By Special Guest
Matthew Katz, CEO of Verifi, Inc.

For recurring merchants who don’t have a strategic chargeback management strategy in place, not preparing for the rising costs of chargebacks will likely cost them big - and the costs are only going to get worse.

But there are ways to get ahead of the game and prevent future chargeback losses from occurring.

Chargebacks occur when a cardholder disputes a merchant charge, resulting in a debit to the retailer’s account. Regardless of whether the chargeback is successful or not, the merchant is charged a fee by the issuing bank. Merchants with a high ratio of chargebacks to transactions may also receive additional fines and run the risk of losing their payment processing privileges altogether.

Chargebacks are a problem for any merchant, but they can be particularly troublesome for recurring merchants. A recurring merchant is one that offers goods or services through a subscription model. Examples include Dollar Shave Club, Stitch Fix, SaaS (News - Alert) companies, fitness club memberships, lawn care services, etc. A cardholder authorizes the merchant to charge his or her account on a recurring basis. While recurring transactions add speed and convenience, this way of doing business can be susceptible to chargebacks if, for instance, a cardholder doesn’t realize they will be charged on a regular basis unless they opt out, or if they thought they cancelled their subscription and are charged again. 

The bottom line is that chargebacks are costing your recurring business many thousands or millions of dollars each month. How much of your revenue is at risk and are you doing everything you can to claim your rightful share?

How Chargebacks Originate

While the chargeback mechanism was created to protect consumers against fraudulent behavior, some consumers have found that it is easy to dispute legitimate charges. This form of friendly fraud creates a significant financial burden for merchants.

Chargebacks come in many forms and impact merchants of all sizes. Whether it be actual fraud (unauthorized transaction takes place) or friendly fraud (customer makes a purchase and then requests a chargeback, even though they have received the goods/services they purchased), chargebacks bring about plenty of pain and more friction for the consumer relationship. Chargebacks can also originate when a customer returns an item but the refund was never posted to their account, when a customer pays for an item they never received, because of technical issues, or when a transaction requested to be canceled was not.

This all comes back to one major pain point in the current chargeback process: the lack of communication and data made available during the transaction lifecycle.

Where it Begins

Traditionally, purchasing data is left in merchants’ systems, leaving the issuer little choice other than to issue as fraud or a chargeback. Because there often isn’t enough data sharing between the merchant, issuer and the cardholder, the process becomes more confusing, costly and convoluted. That creates extra, and often unnecessary, friction for those involved in the process.

Beyond that, as many as 86 percent of cardholders will call the issuer and bypass the merchant entirely to dispute a charge. This leaves the resolution left in the issuer’s hands and leaves little for the merchant to do. What this then leads to, by default, is lost revenue and lost customers, which can hurt brand reputation.

Merchants don’t have the opportunity to address cardholder issues directly and issuers don’t have the information they need to resolve confusion, so the merchant is stuck in a race to the refund. When merchants receive a chargeback notice, it is often too late to salvage the customer or resolve the issue. Less-than-efficient dispute resolution procedures can hurt cardholder satisfaction, damaging the merchant’s brand and contributing to lost customers and profit leakage. This has a trickle-down effect on merchants, who typically do not come out on top of disputes.

This could be avoided by providing specific order details to those parties to help resolve disputes before they become costly chargebacks (device used to make the purchase, a complete description of the product/service, location of the purchase, prior dispute history, etc.). Those order details would generate compelling evidence to support the legitimacy of the sale and reduce profit leakage and “double dipping,” or acquiring a second refund from the merchant who might not have otherwise known any better. With real-time visibility on the customer outcome, this can help resolve disputes faster. This also enables real-time collaboration between merchants and issuers to manage the chargeback process. With the proper data available, those pain points and friction between parties can be avoided, leaving less chance that a purchase is flagged as fraud when in fact it was a legitimate purchase.

Bottom line: When more data is available to more parties, understanding how and why a chargeback originated and if it is legitimate is far easier to determine.

The Collaborative Advantage

By facilitating collaboration amongst the customer, merchant and issuer, the major pain points on each side of the transaction lifecycle can be better addressed in a way that benefits each party involved - faster, cheaper and more effectively. By providing the cardholder and issuer with more detailed purchasing information from the merchant it decreases the chance a customer would file an accidental chargeback - which is one of the major reasons fraudulent chargebacks (friendly fraud) are filed. With better ability to identify and reduce fraud, friendly fraud and chargebacks, cardholder, merchant and issuer collaboration is enhanced and enables purchase details to be shared with the cardholder upon inquiry.

And the benefits trickle down from there, which include: avoiding unnecessary chargeback fees, reduced fines and operational drain researching/resolving disputes that could have been addressed without escalation; faster access to compelling evidence requirements with the issuer to prevent disputes from becoming a chargeback; and finally, removing cardholder confusion by reminding them of purchase details on the first call.

Other benefits include:

  • Faster dispute resolution
  • Increased interchange revenue
  • Reduced chargeback inventory
  • Fewer resources devoted to dispute management
  • Less exposure to regulatory compliance issues and legal risks
  • Increased cardholder satisfaction

Understanding the Numbers

Card-not-present (CNP) fraud will cost merchants roughly $6.4 billion by 2018. Collectively, friendly fraud costs both CNP and card-present retailers roughly $12 billion every year. And that problem is predicted to get worse. It’s estimated that CNP fraud losses alone will reach $7.2 billion by 2020.

Friendly fraud is the most pervasive form of online fraud and occurs when a consumer makes a legitimate purchase, receives the goods or services and then notifies the issuing bank they did not authorize the charge. There are many reasons consumers engage in friendly fraud—some use chargebacks as a form of shoplifting, others claim they never received goods or services because of buyer’s remorse.

The most common reasons for chargebacks for recurring merchants include:

  • Criminal fraud
  • Friendly fraud
  • Credit not processed
  • Cancelled recurring transaction
  • Not as described or defective merchandise
  • Items not received
  • Fraudulent multiple transactions
  • Counterfeit transactions
  • Technical problems

The Hidden Cost of Chargebacks

Chargebacks and friendly fraud have other costs as well. LexisNexis (News - Alert) reports that merchants pay $3.08 for every $1 lost in fraudulent transactions. These transaction types include fraud committed by consumers who “game” the system due to buyer’s remorse (friendly fraud) or criminals looking to steal from the merchant.

When a chargeback happens, the merchant is accountable, regardless of the verification steps taken during the order process, and regardless of whether or not the customer received the goods
or services.

From manual processing, reconciliation and reporting to interacting with various issuing banks, these loss factors take many forms and are not always evident on the balance sheet. For example...

  • CHARGEBACK FEES. Regardless of whether the chargeback stands or is successfully disputed, merchants are charged fees for the process. Essentially, you pay for the time the credit card companies spend investigating the chargeback.
  • PENALTIES. Businesses that exceed a chargeback rate of 1 - 1.5 percent for several consecutive months may incur penalties. To protect customers’ best interests, credit card companies often charge fees and penalties to merchants who exceed chargeback rates and may even disqualify these merchants from payment processing in the future. Additionally, some credit card companies may charge “review fees” or other fines for merchants who do not have a chargeback reduction plan in place. These can quickly add up to many thousands of dollars.
  • LACK OF RELEVANT INFORMATION. When a cardholder decides to dispute a charge, more often than not they will call their issuing bank. The issuer might have no more information than what appears on the cardholder’s statement, and, in an effort to keep the customer happy, the issuer will initiate the chargeback process. This lack of information is damaging to merchants who might not know about the dispute until far too late in the process—or sometimes not at all—which doesn’t allow them to correct the problems going forward. Lack of relevant information, while not an explicit line item in the balance sheet, has a direct impact on the speed with which disputes are resolved.
  • MERCHANDISE. There is the cost of merchandise and/or services not returned. Many payment processors require the product to be returned for a chargeback to be issued or, at the very minimum, proof that the merchandise was damaged. Regardless, the chances of a merchant receiving the original product back are slim. Recurring merchants selling subscription products must also account for services rendered where chargebacks occur. In these cases, the goods are non-tangible, leaving nothing to return and further complicating matters.
  • EXCESSIVE REFUNDING. In some cases, merchants provide a customer the same refund more than once. The fact that a refund has already been provided does not guarantee that a chargeback won’t be initiated. It also means that a customer that has already filed a chargeback won’t try to seek a refund directly.

Understanding the Dispute Resolution Process

While chargebacks cannot be entirely eliminated, they can be managed effectively. The chargeback process allows recurring merchants to dispute and represent chargebacks they believe are fraudulent or inappropriate by presenting compelling evidence to the issuing bank that proves the chargeback should be reversed.

One of two things may happen upon representing the dispute. In the case of Visa, if no resolution is forthcoming, the issuer can request Pre-Arbitration or Arbitration, where a case is filed with the association by the Issuer. In the case of MasterCard (News - Alert), the issuer may initiate a second chargeback. If there is no resolution, the acquirer may initiate Pre-Arbitration or Arbitration where a case is filed with the association by the Acquirer.

All Chargebacks are Not Equal

While all chargebacks can, in theory, be contested, not all of them should be. On average, merchants represent about 56 percent of their fraud-coded chargebacks, and almost 30 percent represent all their chargebacks. When considering whether or not to represent, it is important to analyze each business case. Looking at the representment fee versus the return on fighting and winning a chargeback can aid merchants in determining whether it is worth it in the long run. Other things to take into consideration include business and order processes and whether or not the merchant is part of a high-risk market.

Removing Unwarranted Chargebacks

The key to identifying where chargeback problems occur and how to better prevent them is to understand what solutions are needed in order to better resolve disputes. Aggressively preventing chargebacks from occurring and recovering funds lost to chargebacks should be a priority for every merchant. And if you aren’t actively preventing them, they will cost you. That means having the ability to address unwarranted chargebacks up front.

With the support of full chargeback management solutions to stop both fraud and non-fraud chargebacks from occurring, merchants are better equipped to reclaim unwarranted chargeback losses. This is why having a chargeback management strategy in place really matters during the entire process (resolving, presenting and recovering chargebacks).

Making the Case for Representment

Once the concept of unwarranted chargebacks is addressed, the process becomes easier to make the case for representment, particularly when preventing future occurrences. The odds of winning disputes increase when a merchant has solid evidence to help its case. This type of evidence may—and should—include the following:

  • Signed delivery receipts
  • Proof the customer provided the correct CVV2
  • Proof that billing and/or shipping address matches what was on file with an AVS (News - Alert) check
  • Other supporting evidence specific to the type of chargeback

It should be noted that there is often a short time frame to dispute chargebacks. If and when sufficient evidence is submitted, the issuer may reverse a chargeback and the merchant will be refunded, though it will still incur the chargeback fee for processing by VISA/MC. If the merchant cannot successfully represent the chargeback, they can elect arbitration, which will result in additional fees.

During the process, it is important to know and understand representment rights. Below is a list of steps a merchant must take for cases in which chargebacks are associated with the use of the Address Verification Service (AVS) and the Card Security Codes (CVV2, CVC 2, CID) in order to be represented by a processing bank.

  • Merchant must submit a proof of the shipping address and the delivery if an AVS positive match was received in the authorization message and the billing and shipping addresses are the same. Hint: Sales and order processing procedures should allow for easy retrieval and storage of billing/shipping information.
  • Merchants must submit proof that they received a “U” response from a U.S. card issuer after submitting an AVS query. This signifies that the card issuer either does not support AVS or is unavailable but still protects the merchant because AVS verification was attempted.
  • Merchants must submit proof that they received a “U” response from a U.S. card issuer upon submitting a Card Security Code verification request during authorization. Similar to the point above, the merchant still receives protection, though the card issuer does not support the respective CSC (News - Alert) code because verification was attempted.

The rules are complex and ever changing, so staying on top of this and using the appropriate resources is important, but it can be time consuming.

Process Improvement is Mandatory

There are a number of steps merchants can take to decrease chargebacks volume. Regardless of whether or not you choose to implement some or all of the following overlapping strategies, it is important to seek new ways to minimize credit card chargebacks. The most advantageous approach for everyone involved would be a data-sharing system that facilitates collaboration between the merchant, issuer and cardholder. Sharing information with one another is essential to preventing chargebacks. These platforms can provide merchants and issuers with the specific order details they need to help resolve disputes before they become costly chargebacks (device used to make the purchase, a complete description of the product/service, location of the purchase, prior dispute history, etc.), generate compelling evidence to support the legitimacy of the sale and reduce profit leakage. Other steps include:

  • IMPROVE THE PROCESS. Streamlining workflow and eliminating human error reduces the time and resources needed to process a chargeback. Automation allows for merchants to remain current on credit card processing rules and make the dispute process much simpler.
  • PRIORITIZE. Businesses should have a fight-or-flight policy built into the chargeback process. It makes no sense to spend more time disputing a chargeback than one would incur in chargeback fees.
  • DATA CONTROL. Collecting information from chargebacks allows the merchant to adjust business practices if necessary and identify internal issues.
  • CLEAR BILLING. By including a URL or contact number in the descriptor field on bills, it makes it easier for customers to recognize purchases made with their credit cards and reduces the chance of a mistaken chargeback by a customer that thinks he or she has been incorrectly charged.
  • FIX OPERATIONS. Excessive chargebacks might be an indication of problems in operations. Whether it is a quality control issue with merchandise, ineffective or misleading product marketing or another root cause, identifying and addressing these issues can significantly reduce the occurrence of chargebacks and recover funds lost to chargebacks. Recurring merchants must make it clear that a cardholder will be charged at regular intervals and meticulously detail the process. For SaaS or subscription-based businesses, it is important to including billing frequency (monthly, quarterly, etc.), billing date (i.e. the 15th of every month), the fixed payment amount, length of trial or promotional periods if applicable and refund and cancellation policy in many areas of the website, not only on the checkout page.
  • OUTSOURCE. Managing chargebacks can be a complicated task during the entire transaction lifecycle. From preventing chargebacks, resolving disputes, fighting chargebacks to recovering chargeback losses, without a third-party partner, tackling all of the chargeback process can take up significant time, resources and money. Bringing on a strategic outside company to help manage the process, however, can easily free up those valuable resources in order to spend more time on running their business.

When to Use a Vendor for Chargeback Representment

While many merchants choose to represent chargebacks in-house, it may be beneficial to let an experienced third-party vendor support these activities. Chargebacks can be costly, so it is important to weigh the benefits of utilizing vendor expertise vs. the cost of staffing and consuming in-house resources on the process. E-commerce is only going to increase, but many merchants are slow to adopt additional security. This could spell real trouble for merchants whose core competency is not chargeback management.




Edited by Alicia Young
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