Sunday, April 13, 2008

Mayday! Mayday! Mayday!

Yesterday I mentioned that card processor First Data told Frontier they would withhold 100% of their credit card processing fees... starting, May 1st, which ironically is also known as May Day! (Venez m'aider for my Canadian friends!)
The airline industry should see this movement as not only the distress signal that it is, but also a sign of things to come if they don't prepare a plan that protects them from being held, dare I use the word?, "hostage" by credit card processors.

One such plan would include further instituting and utilizing HomeATM's PIN Debit Platform which would eliminate reserves in their entirety and lower their card processing costs significantly.

Today I bring you an article from the Denver Post. Should you desire to do so, click this link which will bring you to thei DP's site where you can read related articles, including comments from readers about this very interesting and "still developing" fiasco.

Here's the story...

Frontier Airlines pointed the finger of blame directly at First Data Corp. for its bankruptcy filing Friday. Greenwood Village-based First Data responded with regrets that "economic conditions" forced the Denver-based airline into reorganization, but otherwise kept quiet.

So how did the two hometown corporations get into a stand-off that will have to be settled in bankruptcy court? Credit-card processors like First Data will ask merchants for more collateral to protect themselves when financial conditions deteriorate. Those same financial stresses, however, make a merchant less able to meet those demands — what some observers call a formula for ankruptcy.

'It happens regularly, particularly with the small and low cost carriers who have so much of their revenues tied up in credit-card transactions to begin with," said Jack Williams, a resident scholar at the American Bankruptcy Institute

Demands from credit-card processors are often the untold story behind many bankruptcies, Williams said, which makes Frontier's public outing of a company it needs to survive so unusual.

When consumers make a credit-card purchase, they have a guarantee from Visa and MasterCard to cover things like defective goods or undelivered services. Merchants get paid quickly even if the actual delivery takes place months later — say an airline or cruise ticket purchased in April for a trip in August. Although Visa and MasterCard offer the guarantees, credit-card processors are on the hook if merchants can't make good. Potential losses can be several times beyond any profits generated.

To protect themselves, credit-card processors require merchants to maintain a reserve, usually funded by holding back a certain percentage of the credit-card receipts they collect. "They are underwriting the risk. They are the ones who will be stuck if the merchant goes down," said Adil Moussa, an analyst with Aite Group, a Boston research firm.

Frontier maintained a $54.5 million credit-card deposit with First Data and one of $18.5 million with American Express, according to the company's bankruptcy filing. Frontier got news in letter Frontier reported that First Data sent it a letter Tuesday lifting the reserve requirement to $130 million. Until Frontier met that higher cap, First Data said it would hold back half of the company's credit-card revenues.

That First Data requires reserves is standard industry practice, and it's also standard to raise them when risks increase, said Jim Daly, a senior editor with Digital Transactions, an industry trade publication.

But lifting reserve requirements sends a loud distress signal to the market. "A 50 percent holdback signals all creditors that it is a serious financial situation and you have an impending bankruptcy," Williams said.

Unable to survive on half rations of cash flow for any length of time, Frontier sought bankruptcy protection. While holdbacks can trigger a bankruptcy filing, they aren't the "cause."
But Moussa questions whether First Data could have handled things differently. "One can't help but wonder if First Data is overreacting and really pushing one of its customers toward bankruptcy," Moussa said. And what happens if all credit-card processors respond to a rash of four airline failures by raising reserve requirements on all carriers, he asks. "It might just be the nail on the coffin for the already ailing industry," he said.

First Data faces pressures of its own. Kohlberg Kravis Roberts & Co. acquired the once public company in a leveraged buyout last fall, lifting the debt on its balance sheet from $2.5 billion to more than $22 billion. For 2007, First Data recently reported revenues of $8.1 billion and a loss of $907 million. That compares with revenues of $7.1 billion and a net income of $1.5 billion in 2006.

How First Data deals with merchants is somewhat mechanical, not unlike bank debt covenants, and entirely contractual. But Williams wonders if the entire credit crunch hasn't made all financial players much more fearful, a little quicker to pull the trigger when things turn south.

Despite any public posturing, Frontier and First Data are expected to reach a compromise as quickly as possible and their lawyers are reportedly already talking. The bankruptcy filing also blocks First Data's plans to hold back credit-card revenues. "It is to everyone's benefit to work this out quickly. I'm talking days. It won't go weeks or months," Williams said.

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