August 19, 2016
The Devilish Details of the Interchange Settlement Proposal: What’s a Merchant to Do?
By D.J. Murphy, Editor-in-Chief
The settlement proposal in July between Visa, MasterCard and several top credit-card issuers and the class of merchant plaintiffs that sued them over credit-card interchange fees initially was hailed as a compromise that would end a long-running battle over fees most merchants feel are excessive and set in violation of antitrust law. Merchant opposition, however, has mounted in subsequent weeks and an Oct. 19 deadline now looms for merchants in the class (or, rather, classes—more on this later) to decide if they want to officially notify the court they object to the proposal.
Should retailers take the money and run or should they reject the proposal? And if they oppose the settlement, how should they proceed? The answer will be different for different merchants, but details of the settlement proposal that have not received much visibility are important for merchants to know if they are to stake out an informed position.
Initial media reports focused mainly on the size of the total payout and merchants’ ability under the proposal to surcharge customers who pay with a MasterCard or Visa credit card. Opposition to the proposal has coalesced mainly around the release of the defendants from any future legal action, but there are other concerns—and opportunities—for merchants contained in the settlement.
What Merchants Get
The total payout of $7.25 billion actually comprises two payouts: the cash settlement of $6.05 billion and $1.2 billion accounting for the estimated value of the temporary 8-month interchange reduction (so, instead of seeing the 10-basis-point reduction called for in the settlement on a transaction-by-transaction basis, merchants will get a separate lump sum added to their payout).
The settlement grants merchants the right to surcharge their customers on purchases made with credit cards, which the networks previously had prohibited. In addition, it provides for merchants to negotiate interchange rates directly and collectively (subject to Department of Justice rules on competitor collaboration) with the networks.
In the coming weeks and months there are three things merchants can do, depending on how they view the proposal. If they support the proposal, do nothing. Merchants that take no action and have accepted MasterCard or Visa payments between Jan. 1, 2004 and the settlement preliminary approval date (estimated to be early to mid 2013, according to court documents) are entitled to a share of the payout.
Merchants that oppose the settlement to varying degrees can do two things. They can register an official objection to the settlement proposal with the court and/or they can opt out of a portion of the settlement.
How Much? And When?
Before deciding to accept, object and/or opt out, there are several pieces of information about the settlement they need to know. Unfortunately, the most important is the least clear: how much would each merchant get?
“I don’t think anybody has the faintest idea of what they’re entitled to,” says John Sullivan, partner with Fishkill, N.Y.-based payments consultancy Paul Larsen Consulting. “$7 billion sounds like a lot, but when you divide it by hundreds of thousands of merchants from the largest to the smallest, your individual share—if you’re not Walmart or Amazon.com—is probably going to be fairly small.”
When they can expect to be paid under the settlement also should be considered, according to Sullivan.
“The smaller merchants that might get a check for $5,000 if this goes through are saying ‘send it today, I need it,’” he says.
But the timeline for the two payments (the cash settlement and the interchange reduction) may stretch out longer than many merchants would like. Based on a hearing schedule noted in court documents and procedure that must be followed to gain approval, the earliest funds would be available to merchants would be approximately two years from now and it could be much longer.
“The $6.05 billion payment will be paid by Visa, MasterCard and the banks into an escrow account 10 days after the preliminary approval date [in early-to-mid 2013],” according to Rene Pelegero, president and managing director of Seattle-area consultant Retail Payments Global Consulting Group. “However, those funds won’t be paid out until the final settlement date, which could be in 2015.”
Class in Session
For the large merchants and merchant groups that have opposed the settlement publicly, the main issue has been that merchants give up the right to take any future legal action related to interchange rules, fees or rates.
This release from future legal liability has resulted in the creation of two distinct but overlapping classes: a settlement class and a so-called injunctive class. The settlement class includes any merchant that accepted Visa or MasterCard payments from Jan. 1, 2004 until the settlement preliminary approval date, which should be some time in the first half of next year. The injunctive class includes any merchant that accepted Visa or MasterCard payments as of Jan. 1, 2004 or at any time in the future.
That means that any merchant in the settlement class is also in the injunctive class. It also means every single U.S. merchant is included in the injunctive class. Members of the settlement class can choose to opt out of the settlement during a six-month period starting on the preliminary approval date in mid-2013 and retain their right to sue Visa and MasterCard over interchange issues. They give up, however, any claim on the cash settlement. Also, they only can initiate legal action before the final settlement date and they must pay defendants’ court costs if they lose.
Members of the injunctive class do not receive any cash payments from the settlement and cannot sue, but can surcharge (in states where it is legal) and retain the power to collectively negotiate. Merchants that opt out of the settlement class remain in the injunctive class. Assuming the settlement receives final approval, injunctive-class merchants—even new ones—cannot opt out.
“If tomorrow you decide to set up your own mom-and-pop store and you accept credit cards you are a member of the injunctive class,” Pelegro notes. “But, you only can opt out of the settlement class. You cannot opt out of the injunctive class. That is what makes the settlement so onerous [to merchants].”
Opting out of the settlement class is an action merchants will not have to consider until the middle of next year. The choice merchants must make now is whether to lodge a formal objection to the settlement with the court by the Oct. 19 deadline. If enough merchants object, the judge could rule against it.
“An objection will give a sense to the judge whether the merchants are really behind or against the agreement,” Pelegero says.
Objecting to the settlement is not the same as opting out. A merchant that files an objection remains part of the settlement class and will receive the portion of the cash settlement it is entitled to if the proposal is approved.
In addition to considering an objection based on the size and timing of the payout, merchants should also understand that their ability to surcharge and to negotiate collectively are limited by the agreement and other factors.
First, surcharging is illegal by statute in California, Colorado, Connecticut, Florida, Kansas, Maine, Massachusetts, New York, Oklahoma and Texas, which account for approximately 40 percent of all U.S. credit-card transactions. The amount a merchant can surcharge will be capped according to a formula established by Visa and MasterCard. And, if a merchant surcharges for one card, according to the agreement, it must do so for all cards it accepts. Currently, American Express prohibits surcharging, so the ability of merchants that accept American Express to surcharge on Visa and MasterCard purchases is unclear under the proposal.
The collective negotiation provision specifies only that Visa and MasterCard negotiate “in good faith.” Nothing in the settlement suggests that interchange rates will decrease.
Not Addressing the Problem
Walmart , Target , the National Retail Federation, the Association for Convenience and Fuel Retailing (NACS) and others have publicly opposed the settlement. They all have pointed to the prohibition on future legal action as a major factor in their dissent and they all called the overall interchange system “broken” in their public statements.
Sullivan says those mega-retailers, who stand to gain the most financially from the settlement, are aligning against it because there would be no reduction in rates, no assurance that rates won’t rise even more and no way to combat it if they did.
“They believe the whole point of this battle was to have some real effect on interchange rates and have some kind of limits or oversight on it,” he says. “In this settlement, if they accept the payout they lose the ability to regulate in the future.”
The Electronic Payments Coalition, an association representing the networks and issuing banks, has said that while Walmart and Target may not think the agreement suits them, “millions of other merchants represented in the class agree that the settlement is in the best interests of all merchants—large and small.”
Merchants get their first chance to determine which side is right by either voicing an objection with the court or remaining silent.
Editor’s Note: Look for a comprehensive follow-up shortly detailing the process by which merchants can file an official objection with the Eastern District Court of New York.