Banks are cutting back consumers’ credit card limits, a trend likely to accelerate in the coming months. How will online retailers close sales if customers can’t pay with plastic?
By Don Davis
Many consumers voluntarily cut back spending during the recent holiday season as the economic crisis deepened. But others may have been forced to cut back as they found their credit card limits reduced by card issuers.
Many banks cut credit card limits in the fall, and deeper cuts are coming, some experts believe. While 55% of web purchases are made with credit cards today, according to research and consulting firm Javelin Strategy & Research, that could change as banks cut credit lines at the same time as many consumers turn thrifty.
“Consumers are definitely moving more toward a pay with what I have model, both because of fear and because they don’t have the credit limits they used to have or the ability to pay down credit card debt,” says Javelin analyst Bruce Cundiff.
For online retailers that poses the question: How can they close sales if consumers can’t, or prefer not to, use their credit cards? Some online retailers say the answer is to offer private label credit cards and other payment methods beyond credit cards.
Banks slash credit
Banks responded to last fall’s financial crisis by quickly slashing credit card lending. In an October survey by the Federal Reserve Board, nearly 60% of loan officers said they had already tightened lending standards on credit card loans. One bank in five had cut credit card limits on their most creditworthy customers and 60% on subprime customers.
That could be just the beginning. Investment bank Oppenheimer & Co. predicts issuers will reduce credit card lines by $2.1 trillion in the next 18 months, wiping out nearly 45% of the spending power U.S. consumers now have on credit cards. Oppenheimer analysts say the banks are moving to reduce exposure to risk and because of new rules adopted by the Fed in December that limit some interest charges on card balances.
Such cuts would represent a big shift, as the ratio of unused to used credit card limits has remained stable at about 5:1 in recent years, says Peter Burns, vice president and director of the Payment Cards Center at the Federal Reserve Bank of Philadelphia. He says issuers have hesitated to reduce credit limits because consumers are more likely to stop paying on maxed-out cards than on those with credit available.
Besides cutting buying power, reducing credit lines could also lower consumers’ credit scores. That’s because credit scores are based in part on the percentage of available credit a consumer has used. If a consumer’s credit card limit is reduced, the percentage of available credit he’s used goes up. Lower credit scores could make it harder for consumers to get new credit, including new credit cards.
Further evidence of the credit squeeze came from a December survey by Synergistics Research Corp. showing one in six consumers had been denied credit in the previous three months, including one-quarter of those with household income below $50,000. Even more affluent consumers are being affected, with one in 10 of those with incomes over $75,000 saying they had been turned down by lenders.
Add in consumers’ determination to curb credit card spending—30.5% said last month they would pay with cash more often, up from 23.0% a year earlier, says market research firm BIGresearch—and retailers have still more reason to offer new payment options.
Holiday blues
While consumers repeatedly told pollsters during the fall they planned to spend less on holiday gifts—suggesting the 3% decline in online holiday sales reported by comScore Inc. was largely voluntary—it’s not clear what role reduced credit availability played in the dip in sales.
A surge in credit card declines would be a sign of a credit crunch, but the evidence on that is mixed. Litle & Co., which specializes in processing payments for online and catalog merchants, says credit card declines increased 4% in October and November, but stabilized in December. Online jewelry retailer Goldspeed.com says card issuers turned down 14% more transactions in November and December over a year earlier, and discounter Overstock.com says declines were up slightly in December to 3%. But several other retailers report no significant increase in consumer cards being turned down, including computer retailer TigerDirect, web and TV merchant Jewelry Television, discounter Buy.com and Wine Enthusiast, which sells wine accessories.
However, some of those retailers noted anecdotal evidence of consumers lacking credit on their cards or being reluctant to use them. Jeff Wisot, vice president of marketing at Buy.com, says it was more common this year for customers to buy several items and charge them to different cards. At Wine Enthusiast, call center agents reported more consumers calling several times to discuss a major purchase, such as a wine cooler, but hesitating to buy.
“Agents would say to these customers, ‘This is your third call, what’s preventing you from buying it?’” says Francis Juliano, chief marketing and information officer at Wine Enthusiast. “The customer would say, ‘I have money saved for it but I don’t want to spend it because my best friend just lost his job. I’d like to finance this.’”
Fresh lines of credit
Juliano has concluded that, while some consumers want to buy less on credit, others would purchase if they could do so without drawing on depleted savings. With that in mind, Wine Enthusiast planned to introduce last month a retailer-branded credit card in a deal with Bill Me Later, an eBay Inc. subsidiary that manages similar private label card programs for about two dozen retailers. Cardholders will also receive points they can use for future purchases at Wine Enthusiast as well as incentives on their first two purchases.
Juliano followed in the footsteps of Jewelry Television, which launched a private label card in October with Bill Me Later. More than 25,000 customers signed up for the JTV Preferred Account card in the first two months, says Tim Engle, senior vice president of strategic initiatives at Jewelry Television.
The retailer offered a 20% discount on the first purchase with the card, then sent cardholders a 10% coupon for a second purchase. The average discount applied to card purchases as of early January was under 10%. “That tells you we’re getting a lot of second, third and fourth uses,” Engle says.
Engle also took advantage of Bill Me Later’s deferred-payment expertise to offer customers using the private label card 90-day, no-interest payment terms on orders of $99 or more. “Since our average price point is around $65, that becomes an enticement for the consumer to buy up,” Engle says. He says the average order value on the cards is as much as 30% higher than on other customers’ purchases, and that cardholders buy 20% more frequently.
Bill Me Later can approve some consumers for the private label card that might get turned down by Visa or MasterCard issuers because the JTV card carries a higher interest rate, giving Bill Me Later the flexibility to lend to riskier consumers, Engle says. He says the interest rate on the JTV card is 21%, versus 14%-15% for most cards carrying the major card brands.
To avoid embarrassment, when a customer calls in to Jewelry TV the agent uses the caller’s phone number, or ZIP code if she has it, to check on the likelihood that a resident of that area would qualify for the private label card. If the person is a good candidate, the agent offers the card and the approval rate is around 95%, Engle says. But Bill Me Later, which targets consumers with strong credit, turns down at least half of consumers who ask for the card on their own, Engle says.
Engle says he generally pays Bill Me Later lower fees on the private label card than he would on Visa- or MasterCard-branded cards. The fee on a private label purchase with no promotional financing is about 1.5%, he says, versus about 2% for bank-issued cards. With 60-day free financing, the private label fee would be about 2% and 2.5% for a 90-day-same-as-cash offer.
The best part, Engle says, is that consumers who take his Jewelry TV card now have credit lines, typically $1,500 to $4,000, that they can use only to buy from him. While eventually cardholders may exhaust their credit limits, Engle says, “because it’s a fresh program with all new cards, we’re good for another 12 months. And I think that will weather us through this economic storm.”
It has mainly been large multi-channel retailers that have issued private label cards in the past, according to a recent report by Javelin Strategy & Research. But Bill Me Later is getting more calls these days about private label programs from web merchants, especially those that sell higher-priced merchandise, says Mark Lavelle, vice president of corporate development.
No credit needed
But many consumers are avoiding debt, so Engle and other e-retailers are also adding other payment options as they try to save as many sales as possible. Jewelry TV added PayPal last spring and within a few months PayPal represented 10% of web purchases, with 85% of those customers new to Jewelry TV, he says. Wine Enthusiast added PayPal in October and it quickly shot up to 10%-12% of sales, says Juliano.
PayPal is not a pure alternative to credit, as half of PayPal accounts are funded through credit cards, PayPal says. Other PayPal users fund their accounts through bank accounts or in other ways, often by selling on eBay, PayPal’s parent company, and accepting payment via PayPal.
Buy.com also reported more consumers turning to alternatives to credit cards in the recent holiday season. Wisot says most of the 40% sales growth it reported as of Dec. 17 was from such payment methods as PayPal, Bill Me Later and eBillMe, which enables consumers to pay for purchases through bank bill-pay systems.
Buying on time made a comeback at online jewelry retailer Goldspeed.com. CEO Neil Kugelman says a layaway program it has had for years showed new life this year, growing 10% over a year earlier. Juliano of Wine Enthusiast says he is now exploring layaway programs that let consumers pay in installments, receiving the item once it’s paid in full.
No one option is for every shopper, but more alternatives seem to help. Consumers complete purchases 14% more often when a retailer offers three or more payment choices, compared with merchants that offer one or two, according to a January 2008 survey of online retailers by CyberSource Corp., a specialist in electronic payments and risk management.
With many consumers carrying less-potent credit cards in the months ahead, or none at all, retailers have more reason than ever to mix in new payment options beyond Visa and MasterCard.
don@verticalwebmedia.com
