The Smart Money Is On Smart Cards

For U S West Inc., the Telecard is fast becoming the most popular Seattle export since the coffee bar. It looks like a credit card, but embedded in it is a microchip that can be "loaded" with digital cash for use in pay phones throughout Seattle. By next summer, 16,000 specially equipped pay phones in five cities will accept the cards. Now the company is talking with retailers. It's a win-win situation: Consumers get added convenience; U S West gets the promise of higher revenues.

In fact, this snazzy innovation is an idea that's two decades old--the "smart card," so called because of the microchip that puts information in the card. Patented in the 1970s, by the 1980s they were heralded as the next breakthrough in electronic payment technology--not just as high-tech cash cards but to enhance credit cards to prevent fraud and store information, such as medical records. Despite studies showing that consumers would leap at the chance to carry cash on plastic, and despite successful launches such as U S West's, they have yet to spread nationwide.

But that's changing--and fast. Thanks to a handful of innovators, the smart-card movement is beginning to pick up steam (table). Sure, there are obstacles, but they are likely to be overcome. Part of the reason for the cards' bright future is global competition. Smart cards have taken off all over Europe and Asia: Most of the nearly 33 million of them in circulation by yearend 1994 were issued there, according to consultant Spencer Nilson. The French have shopped and telephoned with smart cards for nearly a decade, and they're popular even in Russia. "I just got back from Moscow, where there are more chip cards issued than magnetic-stripe cards," says Thomas H. Sak, an executive at credit-card equipment maker Verifone Inc. MasterCard and Visa are both launching smart cards internationally.

BIG SPENDERS. Another factor encouraging the spread of these cards: They're a handy way of processing penny-ante transactions. Last year, some $1.8 trillion was spent worldwide on purchases of under $10, some $560 billion of that in the U.S. Such transactions represent a huge potential market for cash cards. Both merchants and consumers stand to benefit, but no one has been willing to ante up for the expensive equipment needed to process the cards until they become more widely used. Smart cards, while profitable, would not generate as much income as credit cards.

But there's a powerful antidote to the bankers' chariness--the merchant. For them, the allure is clear: Typically, merchants lose 5% to 7% of total cash receipts to the costs of handling money. They could also speed customers through checkout lines. A cash-card transaction takes only a second or two, far faster than making change. "Speed of service is critical to our business," says Neil M. Naroff, director of brand marketing at hamburger chain Carl's Jr. Naroff expects the fast-food industry to embrace cash cards. Studies have shown that people paying with plastic tend to spend more per purchase than cash customers.

For issuers--whether banks or merchants--there are incentives as well. Smart-card issuers can keep the "float" that allows a card issuer to invest customer money while it sits idle on the chip cards. They would also hang on to the "slippage"--money left on cards that never gets used; in the traveler's check industry, that amounts to a huge 7%.

Leading the way in breaking the banking logjam are a diverse bunch of companies. AT&T, for one, is working with Delta Air Lines Inc. and selected customers of the East Coast shuttle loading tickets and frequent-flyer miles onto chip cards. Several sources told BUSINESS WEEK that McDonald's Corp. and Blockbuster Videos Inc. are discussing a joint smart card that would be accepted by both retailers while bypassing banks and credit-card associations. These would be capable of carrying electronic coupons and frequent-shopper bonus points in addition to cash. Neither company would comment, but industry analysts say that retailer groups are bound to start issuing cards before long.

OLYMPIC GOLD. Financial services companies are interested, too. Electronic Payment Systems, owner of the East Coast's MAC automatic-teller network, is teaming up with several Delaware banks for a 1996 pilot that would put smart-card chips in ATM cards. Mondex, a London startup owned by National Westminster Bank PLC and Midland Bank PLC, is testing a system in England that would allow people to pass digital cash from one card to another.

Visa U.S.A. Inc. has developed a card it plans to launch at the 1996 Olympics in Atlanta along with First Union, NationsBank, and Wachovia. Visitors to the Olympics will be able to stick the cash card into a slot at one of 5,000 terminals located throughout Atlanta--from fast-food joints to gas stations and souvenir stands--and cash will be vacuumed instantly off the chip into the merchant's register. "We'll use this as a springboard to cities like Jacksonville and Miami," says Fred Winkler, First Union Corp.'s smart-card boss.

Once the cards begin to catch on, the high cost of processing equipment can be borne by merchants: Smart-card readers can cost from $50 for simple models to $800 for gizmos tied into inventory systems--and the cards themselves cost up to $10 apiece. Until smart cards become popular, the cost of equipment will be a sticking point between the issuers and merchants.

Southeastern banks are pretty much alone in embracing smart-card innovation. "Banks run the risk of missing a great opportunity here," says Stephen White, a consultant with Dove Associates Inc., a credit-card consulting firm. Opportunity is knocking--but the vast majority of banks are not answering.



Southeastern Visa issuers--Nationsbank, First Union, and Wachovia. Big splash at Olympic Games; 5,000 terminals scattered at merchants throughout Atlanta will accept Visa Cash.


Cash cards for 16,000 pay phones in five Western cities; seeking retailers, other partners.


Wilmington Trust Corp. and 27 other banks will issue ATM cards equipped with chips to carry cash; 200 merchants in suburban Wilmington.


Mondex, Royal Bank of Canada, and Canadian Imperial Bank of Commerce are taking the lead. Smart cards will allow individuals to transfer digital cash among themselves. Cities not yet selected.


Before it's here, it's on the Bloomberg Terminal.