Merchant acquirers have always caught the attention of investors looking to put capital to work. Recurring, predictable revenue will capture the eye of any sharp investor, and for well over a decade now, investor interest has in no uncertain terms taken root in the merchant processing space. Consequentially, this has presented a rather steady flow of opportunities for ISO owners, third party processors, agent offices, and merchant level salespersons (“MLSs”). In fact, any level of acquirer who has built a quality merchant portfolio, and owns a piece, if not all, of the residual stream of the same, has the ability to (generally) avail themselves of outside investor capital. This readily available supply and access to capital provides acquirers very real opportunities to grow their businesses, “grease the skids” for long-term value creation, and leverage themselves nicely for further investment or outright exit.

Working off the premise, then, that merchant acquiring businesses possess inherent qualities which makes them the beneficiaries of readily available capital to grow their platforms, the key question for ISOs, agent offices, and MLSs naturally becomes “what’s the best way to put this money to work to optimize return, procure meaningful growth, and create long term value?” In this article I’ll attempt to flesh-out a high-level framework within which acquirers can best answer this question.

Step One: To properly put capital to work, merchant acquirers must first undergo a process of self-examination and assessment.

Optimizing investment capital to create long term value and produce meaningful growth isn’t easy. For all companies, there exist many pathways to do so – many routes to get from point A to point B – but which pathway (or pathways) a merchant acquirer chooses is largely a function of how that acquirer is presently constituted as it relates to its operational efficiency and competency, sales and distribution channels, and
product and service offerings. Understanding where one’s business is strong, where it is weak, and where it can thrive with additional resources, is the first step in answering the question of how best to optimize investment capital. This process of self-assessment by owner/operators is obligatory, and it must be brutally honest. This isn’t an exercise in which owner/operators ought to be thinking about how to put “lipstick on a pig” to better present to investors. That would be the mistaken mentality of an owner/operator trying to dress up their business for sale in a short time period. For investment purposes,
it’s about the long haul: it’s understanding and accepting what your business is today – the good, the bad, and the ugly – and using that assessment as a basis for creating value via quality growth over (at least) a three-year time horizon.

Step Two: Merchant acquirers must put forth a plan for the best “bang for their (new found) bucks”. This involves creating a framework for the “usage of funds”.

It must be accepted that the first order objective for any business is quality growth. In the merchant acquiring industry, generic, run-of-the-mill growth means (all year-over-year) more merchants, more volume, and (obviously) more revenue. To the extent that the year-over-year growth is quality, I would further qualify the aforementioned metrics to read: increased processing volume, higher margin (more profitable) merchant accounts, and most importantly, more merchant accounts which exhibit high retention. rates.

So then, how do owner/operators best allocate invested monies to achieve quality growth? Conceptually, there are two general pathways for investment capital allocation (usage of funds): internal and external.

External: capital allocation to acquisitions

For most small to midsize ISOs and agent offices, growth through acquisition involves the purchase of a merchant portfolio or the residual stream thereof. From a 30,000-foot perspective, this seems to be a logical way to bulk up revenue provided they a) understand what they’re buying and b) acquire the asset at the right valuation so that they are assured to get a decent return. Now, this may sound strange coming from an M&A professional, but these days, I’m less inclined to advise clients to employ this strategy. I continually find that clients are incapable of properly conducting diligence on these types of properties and wind up throwing good money after bad, which translates to less than desirable or even negative returns. Today, I’m more likely to recommend to clients to acquire technology, whether that’s in the form of software (business management solutions) or hardware (POS).

Remember, the goal is quality growth, not just revenue growth – which is the primary driver for making portfolio or residual acquisitions. As such, technology acquisitions, if integrated properly into an acquirer’s company, are extremely effective drivers of quality growth via the merchant account “stickiness” it creates. This leads to high retention, and this in turn leads to real value creation.

I cannot say the same about portfolio and residual acquisitions. In fact, unless done properly, I don’t like the strategy at all for small to midsize acquirers. Portfolio and residual acquisitions are more suitable, and have greater value to, larger players in the payments space, where synergistic elements often come into play. Larger players also have greater bandwidth and expertise to properly diligence these types of properties and accurately model their financial return.

Internal: capital allocation to existing business

Personally, I love exploring the options available to merchant acquirers relating to growth pathways that involve appropriating investment monies to building out their existing platforms from the inside out. For starters, once again there’s the option of investing in technology. In lieu of acquiring it though, payments companies can develop, build, and launch their own. In this case the investment capital is often allocated to hiring software developers and a Chief Technology Officer (“CTO”) to head up the desired project. Assembling and maintaining a true technology team, and ultimately bringing to market a finished technology product, adds a tremendous amount of value to an acquirer’s platform in the long term, both in terms of the technology itself, and the human capital and their attendant capabilities.

Next on my list of targeted business segments for investment would be an acquirers sales channel. It could be as simple as increasing the number of sales personnel, or, transitioning from a 1099 channel to an in-house, direct W-2 channel with much greater quality control, and the ability to train and educate the same on a wide range of additional product and service offerings to sell to both existing and new merchants. Full time, supervised, and highly trained sales personnel capable of selling value added products and services that compliment payment processing is a big plus for acquirers and the companies that seek to buy them. And greater quality control historically produces higher retention rates which feeds real, high quality growth.

However, if I had my druthers, I’d go one step further (beyond investing in just the sales personnel) and appropriate investment monies towards a top business development team. Whereas sales personnel excel at selling products and services, business development personnel excel at selling the company behind the products and services, establishing high quality relationships and partnerships with other companies who can resell the same on the company’s behalf. This subtle but important difference can turn an ISO of any size into a real platform (a real enterprise even!) with a targeted approach to identifying and formalizing business relationships with quality channel partners: independent software vendors (“ISVs”), associations, POS vendors, and the like. Channel partners like these are “gold” to ISOs and agents, and the return on investment on allocated funds to these pursuits can be enormous.

Remember, all things being equal, it’s good to be you!

At the end of the day, the unique attributes of the merchant acquiring business lend themselves to attracting interest from outside investors, and this is a very good thing. Having financial investment firms seeking out your company to invest in is a much better lot in life then those who own businesses in verticals where they’re more likely to get tomatoes thrown at them for even asking an outsider to invest in them. Therefore, it’s always a good idea (in my opinion) to explore these opportunities for “fit” and financial return to see if, within the context of quality growth, they can add value. Just the same, it’s also necessary to acknowledge that it may not always be advisable to take in investment from outside parties. If you do, it’s incumbent upon you to lock-down the right strategy – the one that works best you.

I’d be remiss if I didn’t also point out that many of the active investors in the payments and payments technology verticals bring much more to the table than just capital. However, the attendant value that outside investors can bring is an added bonus that typically piggy-backs on the money.