Playing Four Hands - the interview of the CEO of NovaCard JSC, Vladimir Krupnov for "Cards' World" journal - #10, 2013

What are the key developments in the Russian market over the past year? What trends do you consider to be the most important?

I think that the visible changes we see at present usually have a direct relationship to processes that were initiated long ago. I would like to mention some of the trends that have become evident recently. The first trend, which is very important, is the convergence of the payment market. Apart from banks with branch offices, self-service infrastructure, and remote banking services, new players have entered the market, i.e., telecom operators, retailers, e-cash operators, and various aggregators with convenient payment schemes by means of traditional instruments like debit and credit cards.

The second trend is the expansion of areas that use contactless payments and the rapid growth of the number of points accepting contactless cards: the PayPass projects in the Moscow AeroExpress and McDonald's network, a number of transport payment systems (including projects conducted by our company), and, finally, a large trial to create a universal contactless infrastructure, which was implemented in anticipation of the XXVII World Summer Universiade in Kazan. Contactless payments (previously known only among specialists) are becoming a familiar and popular tool for the end user.

The third factor that should be mentioned is the remarkably high role of regulation in the payment market. The endless debates around a number of articles of the Federal Law "On the National Payment System" changed in 2013 from lawmakers bandying words into a real battle for the quality of the business environment. In addition, the Regulator has announced several initiatives that theoretically are able to change the rules of the game in the payment market, for example, setting up a unified Russian processing and clearing center and implementing a ban on issuing cards without chips.

What do you think about the role of the Regulator (The Central Bank of Russia means) in today’s market processes?

My opinion is that it is definitely positive. Subjectively, as a card manufacturer, we can benefit if cards with magnetic strips are legally banned. Let me explain my point of view. Legislators and the Bank of Russia have done a very important thing; they have outlined the rules of the game for many players who de facto have been present in the market with an unclear legal status, such as the operators of electronic money. In addition, they have legalized several payment instruments, such as prepaid cards. Finally, they have tried to provide consumers with a clear guarantee of the security of retail payments. The existing regulations may not be perfect, but what is important is that they exist. They allow innovation and open doors for new market players and ideas. It is unlikely that retailers would have started to issue their own cards had the new law not described an instrument like the prepaid card. Without the law “On the National Payment System," a reputable global player like PayPal would not have entered our market. There are many other examples of the importance and benefits of market regulation.

The examples you have just given seem to show that regulation does not help banks, but rather creates more competition for them.

Much is said today about the competition between banks and nonfinancial institutions, about banks losing payment markets, etc. In fact, if you examine the legislation and business practice closely, it becomes quite clear that all roads still lead to the bank. No one is trying to deprive credit institutions of their income from commissions. New players set up new entities and launch new channels and tools, nothing more. They act in the interests of the consumer. Imagine that you are a bank: your client has linked his card issued by your bank to the mobile wallet he downloaded somewhere in the App Store or Google Play. He possesses a handy tool that allows him to pay for many noncash items and stimulates him to spend more money from his credit card. Does this bring you a loss? Somebody has already solved for you the problems of interfaces, channels, and security. You could do it yourself. Do so, if you like!

It seems to me that consultants and journalists are more concerned with discussion of the competition between banks and nonfinancial organizations today than the banks themselves. It is evident that under the avalanche-like growth of new synthetic payment instruments on the market (in Russia and in many other countries). Banks are in a very good position: banks may seek to be among the innovators, or may choose not to. A bank can wait and see how these new payment instruments will work out and based on this assessment join a successful project and receive commission income. Completely ignoring new opportunities in the payment market is out of the question, but in my opinion it is not necessary to create them on your own. This is the classic division of labor; some are good at winning the hearts of customers, others, at money management. Both benefit from the commission income. Four hands can play more complex melodies!

Do "new entities" such as mobile wallets and NFC-enabled phones with a payment function stimulate new demands from customers?

Things like the automobile, the Internet, or the mobile phone are fairly rare innovations. What we are talking about is, rather, the response to the daily needs of customers and an attempt to provide them with a tool that works where traditional bank cards or cash do not work properly. Perhaps they are too slow or lack the necessary level of security or comfort. At present, there are many attempts to create a new convenient payment environment for end users and to capitalize on this. It is important that this environment encourages cashless money flow; here, the bank is the main beneficiary. Thus, banks fit into this environment naturally and legally.

A bank as an integral part of the new payment ecosystem depersonalizes itself as a service provider. Is this depersonalization dangerous for banks?

The modern payment market is a niche in which the brand, alas, does not play a significant role. This niche did not just suddenly appear. Usability features are the most tangible to the user. He is not interested in comparing offers of different banks, for example, for the terms of wire transfers. He enters the door with a Western Union sticker on it and transfers money according to familiar rules and tariffs. He does not care which bank provides this service; the bank's brand does not matter! Today this scheme applies to a growing number of payment services, and if banks want to make money on them, they should not be too concerned with branding. These are the rules of the game.

What does all this mean for NovaCard?

Our primary business is manufacturing bank cards of all types. This is not surprising, because the Russian market is far from saturated. In Russia, each adult resident has, on average, two cards, while in Europe this ratio is four cards, and in the U.S., eight cards. So the period of stable growth of issuing bank cards is far from over.

In GSM cards the situation is different; the market is saturated and the demand is driven by the replacement of existing cards with new ones. There is no growth in SIM-card delivery: from year to year we ship stable volumes of GSM-cards to mobile operators, although the total number of GSM cards issued surpasses the number of bank cards.

NovaCard provides services for banks and other payment institutions and has to be at the cutting edge of development of new payment ecosystems. Why? Because from the card manufacturer’s point of view, such trends lead to greater complexity of the manufactured products and, as a result, an increase in our income. The concept of microprocessor cards dates back to the mid-1990s. Initially it assumed a one-anchor application (e.g., banking) and a number of additional applications (ID, loyalty, etc.). I know of several successful projects on the basis of this concept, but explosive growth did not follow. By definition these are niche products; they are not intended for a broad market.

We have recently developed a series of entirely new multi featured products (NFC SIM-cards). There are two-anchor apps that can be supplemented with other applications, e.g., a transport card or a loyalty app. This is the essence of today's converged projects. Given the fact that all these applications can be managed and customized independently, we can talk about a fundamentally new product aimed at the mass market. It is a complex product: each of the anchor applications (especially transport) must be adapted for an ambiguous environment with many participants. Addressing these challenges is the core idea of our business, and this is an example of how we are working to create a new payment ecosystem.

In May 2012 we shipped the first NFC SIM-card with a MasterCard PayPass application for a pilot project of MTS and MTS-Bank. This summer we launched a new product, a converged card for the “Big Four” (all mobile operators) MTS, MegaFon, VimpelCom (Beeline™), and Rostelecom with a banking application by AK BARS Bank in anticipation of Summer Universiade 2013 in Kazan. While this is a niche, nonprofit product for us, we undertook great endeavors to design it. The volume and quality of programming do not depend on the ultimate issuing of the cards.

As for transport applications, in February 2012 together with Rostelecom we launched a project of contactless payment for travelling by the cable car connecting Nizhny Novgorod with the municipal district Bor. The main purpose of this project is to provide alternative passenger transportation services to river taxis, buses, and suburban electric trains. This project was recognized as successful, so we plan to introduce contactless payments for other forms of transport.

The converged card is not yet a mass business and the number of cards issued is not sufficient to start a chain reaction, but this project has allowed us, first of all, to gain unique experience and, second, to prove its convenience for the end user.

How soon will quality turn into quantity ? When will NFC become a commercial product?

It is rather difficult to discuss the commercialization of NFC because the market must undergo several intermediate stages like market saturation with NFC-enabled mobile devices and the development of the acquiring infrastructure. But for the cards with a dual interface, I can forecast (judging by the interest from banks) explosive growth next year. If today they constitute barely 1% of our total production, in 2014 the number of dual cards we issue will be in the millions.

Is this trend characteristic namely for Russia?

The Russian market is part of the current global trends. In my opinion, this is directly related to the wellbeing of the population. Fifteen years ago, when the country was much poorer, the Russian card and payment market was very unique, but today it is very similar to the European market. It still lags behind in terms of quantity, but it is growing.

What are the factors worldwide and specifically in Russia driving or hindering dissemination of NFC-based convergent solutions? Have the events of 2013 helped to reach any new conclusions?

The first factor that confirms the bright future of contactless payments is the accelerating growth of the infrastructure. A growing number of mobile phones are being equipped with the NFC-interface and a growing number of manufacturers have declared support for the technology. In this sense, Apple’s statement about including NFC support in the next generation of the iPhone can be regarded as the event of 2013. Apple is a very big player, and its target audience is active people open to anything new, including in the payment area.

Besides the fact that NFC is becoming increasingly ubiquitous in the world of phones, this technology has become an essential attribute for the vast majority of payment terminals. First, Ingenico and, then, VeriFone announced NFC-compatibility in all product lines.

As for constraints on us, the key factor here is the monopolistic ambitions of some major players. In terms of NFC applications, it is very important who controls the Secure Element (SE). An SE is a dynamic environment in which application code and application data can be stored and administered securely and in which secure execution of applications occurs. The SE could be implemented in a separate secure smart card chip, in the SIM-card, or in an external memory card that can be inserted into the mobile phone. No standard exists at present in the payment industry. Has it been possible to develop it? Certainly. Why has it not yet been developed? Because the major manufacturers, Google, Samsung, Apple, and others, have ambitions as payment operators and, in my understanding, do not wish to err in choosing their strategy. There can be two fundamental strategies, i.e., to adopt a certain standardized technology or to declare one’s own as the standard. In the meantime the issue is still open both for the market in general and for the giants of the industry.