Payments 3.0: Risk And Opportunity for Cap One And Discover

The planned acquisition of Discover Financial Services by Capital One Financial Corp. will reshape the competitive landscape for consumer deposit accounts in the United States.

Digital Transactions reported earlier that Capital One has already announced its intention to move its entire debit portfolio to the Discover Network once the deal closes. This will make Capital One’s deposit portfolio much more profitable and allow the bank to offer a more competitive product at the same time.

The Durbin Amendment to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 sets a limit on the interchange that banks can charge for debit and prepaid transactions. But three-party networks, where the network and the bank were both owned by one entity, are exempt from the cap. The two networks that qualify are American Express in New York and Discover Financial Services in Sen. Durbin’s home state of Illinois.

Discover offers a checking account with a debit card that pays 1% cash back on purchases up to $3,000. No other major bank offers that. The lure of debit card rewards, which have been gone for a long time, may help Capital One win customers.

There are two other possible areas of disruption from this deal. The first area lies in fintech. In a LinkedIn post, fintech attorney Brian Axell notes that Capital One might be able to offer the same three-party network to fintechs, thus shaking up the third-party-issuer and banking-as-a-service markets.

The second market that could be disrupted is prepaid cards.

Back in 2010, I was surprised that Discover did not make a bigger play for the prepaid card market. It had done work in campus cards and other prepaid cards, but usually with other banks as issuers. That made those card programs subject to Durbin’s interchange restrictions because adding an outside bank put them in a four-party network.

At the time, Discover’s leadership was not keen on issuing prepaid cards directly from Discover Bank, and successive leadership teams did not alter that position.

While Discover may have missed an opportunity to take the lead, particularly in the general-purpose reloadable prepaid card market, Capital One might not. It could offer prepaid cards as turn-down products for some potential customers. And it might also offer prepaid cards as companions to its credit card and bank-account products for budgeting or teaching kids about money.

The deal has drawn bipartisan opposition from lawmakers, but even if it is completed, risks remain for the combined company.

Discover has made a name for itself with U.S.-based, live-agent customer service and virtual, direct-to-consumer banking.

Capital One has been promoting chatbots and upscale cafes to customers.

Discover has consistently ranked near the top of customer-satisfaction surveys by J.D. Power and WalletHub. While Capital One has fared well, it slots below Discover. Customers concerned about how they will be treated by Capital One may leave, or just change the card at the top of their wallets. Capital One may need to invest in more marketing in the short term, and customer service in the long term, to maintain that customer base.

Also, while Discover cardholders like their cards, Capital One will still need to overcome the perception that its new debit cards will have a lower acceptance rate than Visa- and MasterCard-branded cards. Could that prompt customers to leave? It is hard to tell, but it opens a marketing approach for competitors.

If approved, this deal will reshape the consumer-financial services landscape—but only if the new company can use the tools it bought to keep current customers while winning new ones.

—Ben Jackson bjackson@ipa.org