Networks: Transaction Transporters Anonymous

Peter Lucas

They’re not household names, but network backbone providers TNS and Phoenix Managed Networks have executed a major shift beyond their long-time base in dial-up connections.

Ask a merchant who his or her transaction processor or acquiring bank is and they can provide the name in a snap. Ask a merchant what company connects the point-of-sale terminal or ATM in their store to their processor or acquirer and they’ll either draw a blank or mistakenly name a telecommunications carrier.

It’s not surprising that merchants are unfamiliar with the companies that provide this vital connectivity in the world of electronic payments. Although processors include this feature as part of their standard packages, they outsource it to a third-party because the cost of building their own network connections to phone carriers is too costly in a price-driven business.

Phone carriers, which started moving away from selling data-network connectivity on a standalone basis in the 1990s because the margins were too low, now only bundle the service with Internet connectivity and other business services.

Stepping in to fill the void are Reston, Va.-based Transaction Network Services Inc. and Glendale, Ariz.-based Phoenix Managed Networks LLC, which provide acquirers and processors with secure data communications from merchant POS terminals and off-premise ATMs.

Ironically, both were conceived decades apart by the same founding father, Jack McDonnell, who after leaving TNS saw a potentially lucrative business opportunity to compete with his old company (box, page 22).

Prior to Phoenix’s official founding in 2010, TNS faced little, if any, serious competition. “These are the big two companies in this space. Hypercom did some things in this space, but TNS and Phoenix [were and] are the major players,” says Rick Oglesby, a senior analyst for Boston-based Aite Group LLC.

Now, both companies have overhauled their networks to stay ahead of payments’ shift toward data transport based on Internet and mobile links.

Processing’s ‘Bridge’

For both companies, the core of their payments business remains routing transactions generated by POS terminals and ATMs that use dial-up connections, placing the transaction data into the appropriate format and designating the processor or merchant acquirer to which the data are to be sent.

“TNS and Phoenix provide a bridge for payment-processing connectivity,” says Oglesby. “This bridge must be very secure from a data-security standpoint, very stable from a reliability standpoint, and provide scalable throughput speed.”

Although TNS and Phoenix sell nearly identical services, they have built their respective businesses using different strategies. TNS, founded by McDonnell in 1990, sells its TNS Secure Payments Network directly to processors, which then bundle it with other services and resell it to merchants.

“Processors want to get out of connecting terminals to back-end hosts through dial-up networks because it represents a huge infrastructure cost for them, which creates an opportunity for us to provide it for them,” explains Lisa Shipley, head of global strategy for TNS’s payments division.

Shipley, who is overseeing strategic direction for the division, joined TNS in October from First Data Corp., where she served as senior vice president of enterprise accounts. In that role, she managed First Data’s Money Network business and its alternative-payment provider customers.

In contrast, Phoenix has partnered with leading phone carriers around the world, including such big U.S. carriers as AT&T, Comcast, and Sprint, to sell its PhoeniXAccess network to merchants along with their business services.

The network, which is certified as compliant with the Payment Card Industry data-security standard (PCI), handles POS, ATM, electronic benefits transfer (EBT), and credit/debit card transactions and routes transaction data in the specified format to processors and merchant acquirers.

“Dial-up data access is a low-margin business for carriers and a call might last 10 seconds, so instead of us buying minutes from phone carriers for network access and reselling them to processors, it makes more sense for us to partner directly with phone carriers, which sell access to our network as part of their services,” says McDonnell, chairman of Phoenix Managed Networks.

The payoff from partnering with phone carriers is a sales force of global size and reach. “One of our carrier partners took us into the Asia/Pacific region,” notes McDonnell.

Outside the U.S., Phoenix also has established a presence in Canada, Mexico, the United Kingdom, and the Caribbean. “We are traveling down the same path of globalization as we did at TNS,” says McDonnell.

‘Stiff’ Competition

While both companies still see plenty of opportunity in routing dial-up network traffic, they recognize that the explosive growth of wireless and IP (Internet Protocol-based) POS terminals, ATMs, and kiosks is steadily eroding dial-up volume. Eventually, wireless and IP volume will surpass that from dial-up sources.

Recognizing the limitations of their core business, TNS and Phoenix have diversified their services to include wireless payment gateways, IP network connectivity, and data security such as encryption and tokenization.

“With the innovation taking place in mobile payments we can no longer just move [dial-up] transactions from point to point,” says David Cronin, senior vice president and general manager for TNS.

The move into wireless gateways puts both companies in direct competition with such established players as Scottsdale, Ariz.-based Apriva Inc., as well as traditional gateway providers that offer mobile solutions. Apriva declined comment for this story.

“Competition in the mobile [market] is getting increasingly stiff, but it’s a growth market so there is room for new players with innovative solutions to carve out a name for themselves,” says Olgesby.

While Phoenix is a newcomer in the mobile arena, TNS is a seasoned veteran, having offered its TNSPay Mobile gateway (previously known as Synapse) for more than 10 years.

White-Label Offerings

One opportunity TNS and Phoenix see in mobile commerce is providing secure gateways that processors and independent sales organizations can brand as their own and that allow merchants to authorize transactions for online purchases via wireless or IP-based terminals. These so-called white-label offerings are considered key elements of TNS’s and Phoenix’s business plans, according to Oglesby.

“Virtually all mobile transactions will involve a payment gateway in some form,” he says. “TNS and Phoenix are also focusing more on providing services that support multiple payment channels, i.e. e-commerce, terminal, mobile, etc., as well as multiple connectivity types, such as dial-up, dedicated circuit, and wired or wireless Internet.”

In conjunction with their gateway offerings, TNS and Phoenix offer tokenization services that convert sensitive account data sent from a merchant to a processor into an encrypted single-use algorithm that references account data stored in a separate, secure host computer. If the algorithm is intercepted and the encryption code broken, the data that make up the algorithm are useless.

Phoenix’s PhoeniXGate mobile gateway supports credit, debit, EBT, gift, loyalty, and check transaction processing, as well as recurring payments. Last July, the company partnered with Fort Walton Beach, Fla.-based Global eTelecom Inc., a provider of electronic-check processing and gift and loyalty card services, to make the gateway available to its more than 55,000 U.S. merchants.

About seven months earlier, American Express Co. expanded its use of TNS’s TNSPay Gateway to France, after launching it earlier in 2012 in the U.K., Australia, and Mexico. AmEx sells the gateway under its own brand. The gateway supports e-commerce and mail-order/telephone-order transactions, and in the U.K., in-store chip-and-PIN POS transactions, as well as real-time or batch transaction authorization and settlement.

To make its mobile gateway fly internationally, TNS is establishing relationships with wireless carriers around the globe, according to Cronin. “Mobile is the next phase of payments and we are positioning ourselves to be part of it,” he says.

‘Technology Neutral’

Ultimately, TNS and Phoenix executives say their decisions to allow acquirers and ISOs to market their gateways and other services under their own brands will make them more attractive to processors and phone carriers.

“Whether a merchant has needs with a purpose-built payment terminal for moderate to high volume or a smart phone for low volume, there are many options in the market,” says Travis Lee, director of strategic relationships and product marketing for TNS. “Key to the decision process is for an ISO to select a partner that will allow them to provide a solution that is reliable and will help them to grow their merchant-acquiring capacity.”

Phoenix is looking to go one better by building its gateways with open architecture to enable easier connectivity. PhoeniXGate, for example, uses open application programming interfaces (APIs) to enable access to any leading processing platform.

“Our strategy is to provide unified payment services that securely tie together the point of sale through any network technology to a mobile, dial-up or IP gateway platform for delivery to any acquirer so that our service is ubiquitous and easy to support,” says Phoenix president Matthew Mudd.

“In order to provide full network access, we need to be technology-neutral,” adds McDonnell.

‘Relentless Pressure’

One event that could be a game changer in the competition between TNS and Phoenix is TNS’s decision to buy back its publicly traded shares. The approximately $864 million deal, announced in December 2012 and completed the following February, was spearheaded by New York-based Siris Capital Group, which purchased all outstanding common shares of TNS for $21 a share.

The stock buy-back was promoted as a way for TNS to focus on its transition from providing dial-up network connectivity to providing mobile gateway access and data encryption and tokenization, which management views as value-added services that can position the company for long-term growth.

The immediate advantage of becoming a private company again is that TNS is freeing up financial resources that it can apply to grow its business. “Public companies face relentless pressure to make short-term earnings targets while private ones can work closely with their investors to identify the right balance between short-term and long-term objectives,” says Aite’s Oglesby. “Public companies also face a lot more regulatory and reporting requirements, which can burn lots of resources.”

Indeed, TNS’s Cronin says that reverting to private ownership helped free up the financial resources to hire Shipley. “This is a hire that allowed us to put money back into our business that might have gone into other projects, such as filing 10-K reports,” he says.

In its final quarterly report for the three months ended Sept. 30, 2012, TNS said total revenues decreased 3.9%, or $5.5 million, to $137.2 million. Revenues from the payment-services division decreased 2% to $50.3 million. Privately held Phoenix does not disclose financials.

In addition to its payments division, TNS operates two other networks for data transportation. Its financial-services division provides secure data communications for banks, securities and commodities exchanges, pension and mutual funds and alternative trading systems, and electronic communications networks.

TNS’s telecommunications-services division operates an independent SS7 (Signaling System No.7) network to which local phone carriers and wireless and IP-based phone networks worldwide can connect to send voice, data or video communications.

With merchants and processors in need of secure gateways to route mobile transactions, and with dial-up transactions steadily decreasing, TNS and Phoenix—which have the backbone technology processors and merchants need to enable mobile payments—find themselves positioned at a potentially profitable crossroads.

Whether these two companies can successfully make the transition from old-line terminal connectors to cutting-edge mobile-gateway providers, and subsequently continue to slug it out for supremacy in this niche, depends on whether they have the right corporate DNA.

Sibling Rivalry

Like the Super Bowl winning coach who retires only to come back a few years later to try and repeat his success with another team, John J. “Jack” McDonnell is determined that his latest offspring, Phoenix Managed Networks, will duplicate the success of his eldest corporate child, Transaction Network Services Inc.

For McDonnell, the formation of each company grew out of business relationships with leading point-of-sale terminal makers.

In the case of TNS, McDonnell found a supporter in VeriFone Systems Inc. chief executive and founder Bill Melton, who provided the seed money to found TNS in 1990. McDonnell sold the company in 1999 to telecommunications provider PSINet, only to reacquire it in 2001.

In 2009, three years after McDonnell left TNS for a second time over a disagreement with the board of directors about taking TNS private, VeriFone rival Hypercom Corp. approached McDonnell about propping up the sagging fortunes of its HBNet transaction network, a fledgling TNS competitor.

McDonnell, who at the time was chairman and chief executive of rival terminal maker ExaDigm Inc., agreed to a joint venture that would use HBNet technology. The McDonnell Group would have a 60% ownership stake and Hypercom a 40% stake, which McDonnell and his investors had an option to purchase if Hypercom was acquired. The new company was to be called Phoenix Managed Networks.

“Hypercom wanted to give HBNet credibility with processors, which saw Hypercom as a terminal manufacturer, not a network provider, but HBNet technology worked,” recalls McDonnell. “I saw an opportunity to create a competitor to TNS with the same kind of global footprint TNS has.”

Starting with HBNet as the backbone for Phoenix’s new network and mobile-payments gateway, McDonnell then recruited two former TNS executives: Matthew Mudd as president and chief operating officer and Trevor Fall as executive vice president of North American sales.

In late 2010, VeriFone’s bid to acquire Hypercom opened the door for Phoenix’s investors to buy the remaining 40% of the company.

With Phoenix going head-to-head with TNS, one question facing McDonnell is how his legacy will influence competition between the two companies.

“McDonnell will be looking to disrupt the blueprint of success TNS has used for decades and that he created,” says Rick Oglesby, a senior analyst with Aite Group LLC. “This will force TNS to have to get better.”