MasterCard’s IPO Could Let Retailers Boost Their Bank Card Clout

Special Report

MasterCard Inc.'s proposed initial public stock offering would put 49% of the payment company's shares and more than 80% of the voting power in the hands of the public, potentially increasing the influence of aggrieved retailers who believe they currently get a raw deal in card pricing. MasterCard International yesterday said it would pursue the IPO to make itself more competitive, reduce conflicts of interest, and raise capital?much of which may be used for legal expenses as it defends itself from interchange-related lawsuits. Under the admittedly sparse details disclosed so far by MasterCard, there seems to be nothing to prevent merchants from buying into the No. 2 payment network should they choose. A spokesperson for the National Retail Federation, a merchant trade group that has spearheaded an effort by a new coalition of retailers to lobby for regulation of interchange, would not comment. And MasterCard, citing the “quiet period” governing stock sales, isn't commenting beyond its initial press release and filings with the Securities and Exchange Commission. MasterCard plans to file detailed plans soon, have a special shareholder meeting near the end of the year, and install a new governance system in the first quarter of 2006. Consultant Les Riedl, president of Atlanta-based Speer & Associates Inc., doesn't expect the IPO to change the balance of power between issuers and merchant acquirers. Merchants believe the current system at MasterCard and No. 1 bank card network Visa U.S.A. favors issuers, which gain more revenue every time the payment networks raise interchange. Under the interchange pricing system, acquirers pay issuers with each credit or debit card transaction. Acquirers pass the cost on to their merchant clients. U.S. retailers, as evidenced by recent interchange lawsuits filed against Visa and MasterCard by a group of large grocers and drug stores and a class action on behalf of small merchants, are addressing this perceived imbalance by taking their complaints to court, according to Riedl. “It's already been shown the merchant community will litigate if they feel they've been shortchanged,” he says. Whether or not the IPO hands merchants an opportunity to buy influence at MasterCard, it may push the card association into new processing businesses. Because of growing economies of scale, the overall cost of transactions is coming down, Riedl adds. But the IPO will give MasterCard more money to compete worldwide with non-bank processors such as First Data Corp., Total System Services Inc. (TSYS), and others that have come to dominate the back offices of the issuing and acquiring sides of the card business. “Especially on a global basis, if you're expanding and want to get into more domestic processing, you've got to have the currency,” Riedl says. “That currency is liquid stock.” Analyst Gwenn Bézard of Boston-based Aite Group LLC, noting how First Data in 2004 bought Concord EFS Inc., owner of the big Star debit network, says the IPO will further blur the lines between payment networks and back-office processors by spurring MasterCard to offer more products and services. “With the IPO, MasterCard becomes a company that will have to push into new territory and compete with third-party processors,” he says. MasterCard believes the IPO could smooth its relations not only with merchants, but also regulatory authorities around the world, some of which have challenged interchange. “We believe a majority independent board, and broader diversity in our share ownership, will address perceived conflicts of interest,” MasterCard chairman Baldomero Falcones and chief executive Robert W. Selander said in a letter to members. “We believe regulators, and others, will recognize these changes and the increased openness they bring to our governance and ownership. In addition, a European regional board will be established with specified authorities relating to MasterCard's European operations.” Under the plan, MasterCard's current 1,400 financial-institution owners would retain a 41% share in the company through their ownership of non-voting Class B shares. Existing owners also would get Class M common stock that would have no economic rights but let them elect one-quarter of MasterCard's reconstituted board of directors and vote on major proposals. MasterCard also plans to create a charitable foundation that would hold 10% of the company through Class A shares. The publicly held Class A shares would have 83% of the voting rights. The remaining voting rights would be held by the foundation, which would be run independently of MasterCard. After the IPO, MasterCard would have a 12-member board with eight independent members from different parts of the world and no affiliations with member financial institutions. Class M shareholders would elect three directors from financial institutions, and the CEO would be a director. The new board also would have a transitional, non-voting member from the current board. MasterCard plans to retain $650 million from the IPO to fund a capital increase, much of which could be used, according to the letter, “to defend our interests in the legal and regulatory arena.” U.S. members will bear the costs of that increase. After the IPO, MasterCard no longer would have the right to assess its principal members whenever it needs extra money. The IPO was not unexpected. Purchase, N.Y.-based MasterCard in 2002 switched from a member-association structure to a private-share corporation owned by banks and other financial institutions and has been filing financial reports with the SEC since then. MasterCard's largest member is New York City-based JPMorgan Chase & Co., which owns 11.7% of MasterCard's common stock and provided $315 million in net fees to MasterCard last year. MasterCard gets most of its revenues from network fees and member dues.