The Future of Payments

By Byron La Fleur

The last massive cash-only industry in the U.S. is transitioning into accepting cashless payments. The Pennsylvania, Georgia, Ohio and Virginia lotteries, among others, are leading the charge to accept new forms of payments, including debit and credit cards. They are purchasing new terminals, retrofitting old self-service machines, and spending time educating their staff, stakeholders and retailers to modernize their operations. They’re also paying the transaction fees inherent in cashless payments. These lotteries believe this transition is a necessary one. Customers expect to pay for items with any method they prefer.

Not accepting cashless payments is unique, even in the global lottery industry. For instance, retailers in Canada accept cashless payments for lottery products and pay for the transaction fees. The reason the U.S. lotteries lag behind their global contemporaries is due in part to legacy issues.

Previously, most credit card companies had a policy to decline all gambling purchases because most gambling was illegal in the U.S. They did this via Merchant Category Codes (MCC), which every business is given by a card network, like Visa, MasterCard, Discover or American Express. Until a few years ago, all gambling activities fell under MCC 7995, which was restricted and resulted in the transaction being declined, despite some of the purchases, like lottery tickets, being legal.

“In the past the banks were assuming that all gambling transaction were illegal and declining them. We were fighting a two-front war trying to get lawful and legal gambling approved in state legislatures and then also helping the credit card companies make a distinction between the different types of gambling,” Andrew Crowe, VP, Emerging Markets, Worldpay, said.

Crowe was one of the biggest proponents for change in the industry. Due to the lobbying work of Crowe, the team at Worldpay, and the major vendors in the industry, the card networks created a new MCC specifically for U.S. lotteries. This allowed lottery tickets to be purchased with credit or debit cards. “They even treat horse racing and advanced deposit wagering separately, so there are now three codes that separate lottery play from the casinos and sports betting,” Crowe said.

But while now permissible, most lottery retailers still do not allow cashless purchase of tickets. The biggest reason for this is that they do not want to pay the transaction fees that come with cashless transactions. For small purchases, their commission would be significantly reduced. Yet this refusal to allow modern payments creates major problems for the lottery. “The primary one is that lotteries are not able to tap into that segment of the potential player base that rarely uses cash today. In addition, if only a subset of retailers accepts cashless, then this creates an inconsistent experience across retailers for lottery players,” said Lisa Schiffer, Director, Cashless Payment Operations at IGT.

To make cashless payments a ubiquitous option across all retailers, lotteries are now considering paying the transaction fees. But this is not the only issue. New technology must be adopted, and responsible gaming concerns must be addressed.

“The feedback you often hear from government lotteries when talking about modernizing with cashless is the concern over credit. There are concerns with large spend from a small number of players. But what we’re seeing with our cashless program is a broadening base of players, which is exactly what you want to see. It’s responsible growth from the lottery,” Pat McHugh, Senior Vice President, Lottery Systems Global, Scientific Games said.

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With 10 U.S. lotteries selling online and an even greater number live or in delivery to enable card acceptance for retail lottery sales, it is an exciting time for our industry.

As lotteries build out their strategy to reach the next generation of players via mobile and digital content, it is also important to address and simplify how these new players will pay for their entertainment experiences and how lotteries can pay them back when they win. Seamless, low-friction payments across all channels can get greatly enhance the player journey.

Like every “cash-only” industry before them, lotteries will find that expanding payment options and supporting consumer choice will improve player engagement and drive responsible growth and incremental profits for the good causes they support. It’s vital to connect the dots with a single, highly-secure platform for all points-of-sale, optimize your payments environment to deliver valuable analytics and, ultimately, enrich the overall playing experience.

Enabling cashless for the U.S. gaming market has involved engaging with a broad set of partners, including the payment networks, card issuers, regulators, legislatures, and technology providers. The gaming industry has been cash-reliant for a very long time, however we finally have the answer to simplifying the consumer experience by offering their preferred payment methods.

It certainly hasn’t happened overnight. For years, Vantiv, now Worldpay, has worked on the cutting edge of legislative and regulatory change. Those efforts were instrumental in bringing card brands together and creating new Merchant Category Codes that improved acceptance rates and leaned the industry forward, while protecting the integrity of the transaction. Today, Worldpay represents the largest payments company in the world and the global leader in payments processing technology. The newly combined company moves more than $1.5 trillion on an annual basis, processing 40 billion electronic transactions, operating in 146 countries, all while supporting over 126 currencies and over 300 different payment methods.

Worldpay is already pioneering innovation in the U.S. lottery market through partnerships with leading technology companies, including IGT, Intralot, Linq3, NeoPollard Interactive, and Scientific Games, along with world-class point of sale providers, Ingenico and Verifone.

The time is now for state lotteries to harness impactful, cashless innovations to allow players to pay and get paid with their card of choice.—By Andrew Crowe, Vice President, Lottery Market Development, Worldpay Gaming

How does it work?

Before delving into U.S. lotteries’ and vendors’ solutions to the problems above, it is important to understand exactly how a debit or credit transaction works. After all, when a person purchases a new pair of pants at Walmart, why are they allowed to leave without any money going directly into the cash register?

The basic system is called the transaction cycle. When a customer swipes their card into the merchant point of sale (POS) technology, that information gets sent to a merchant processor (also called an acquirer), like Worldpay. The processor asks for the transaction to be authorized by a card network, like Visa or Mastercard. The card network then sends the authorization to the issuer (the customer’s bank that issued the card used in the transaction). The issuer will approve or deny the transaction based on funds available in the customer’s account. The approval then goes back through this chain to the merchant’s POS machine to inform the customer if the transaction has been accepted. This all happens within seconds.

After approval, the customer’s money must be deposited into the merchant’s bank account. Lotteries can liken this to how they perform weekly net settlement with their retailers. There is a daily net settlement between the merchant and all the issuers that the merchant processor handles. The merchant will get their funds within two days, after all the fees have been subtracted out.

The reason the cycle works is because both the processor and the issuer are banks. Each have underwritten the link before it. If a transaction needs to be refunded or a person doesn’t pay their bill, the bank is responsible for paying. “The reason Visa (the network) holds Worldpay (the processor) accountable is to ensure that we only work with legitimate businesses and that we assign the correct MCC. The card issuing bank is trusting Visa and Worldpay to only bring on board legitimate lottery clients and do a complete due diligence on their operation, including controls for age verification and player location. It is a very important chain of trust,” Crowe said.

The issuer, the card networks, and the processor charge fees to the respective merchants for the use of their services. Due to the high number of variables included in every transaction, there are hundreds of different fee rates.

The issuer fees are called Interchange, and the amount the merchant is charged varies depending on two main criteria. The first is how the card is used, either in person, over the phone or internet; the second is what type of card is used, for instance, if it was a business card or rewards card. The different combinations of these two factors results in hundreds of different rates.

The network fee pays the card networks, like Visa and Mastercard. These rates are the same for everyone. They cannot be changed for a special situation. A Fortune 500 company and a three-person family company both pay the exact same rate.

The last portion of the fee goes to the processor. For lotteries, this is the only portion of the fee that is subject to negotiation. Most of the fee the lotteries pay go to the card networks and the issuing banks, not the processor.

Most processors offer one of two ways merchants can pay their fees. The first is called Interchange Plus or Pass Through. For each transaction, the merchant is charged the exact rate warranted. This is the most accurate way to pay. It breaks down which portion of the fee goes to the issuer, network and processor. However, it is subject to some risk as the total fee amount can change from period to period depending on the variables above. On the other hand, merchants can choose a blended rate. The processor charges them a single percentage rate that is an estimate of what the merchant will probably owe. If necessary, it can change every few months. While not as accurate, it doesn’t unexpectedly fluctuate.

Pennsylvania Lottery

Four years ago, the Pennsylvania Lottery wanted to implement cashless. To do so, they would have to pay the transaction fee. There wasn’t any direct evidence from the U.S. lottery industry that either did or did not support this move. “We were just terrified that we would convert all or even a large portion of our sales to cashless, which would reduce our profitability,” Daniel Coyne, Deputy Executive Director, Administration & Finance, Pennsylvania Lottery said.

The fear was well founded. But there was evidence outside the industry that suggested it would be economically profitable for the lottery to pay the fees. In 2004, McDonalds decided 8,000 of its 13,500 stores would accept credit and debt payments. They made this transition due to the results of a study conducted by Dun and Bradstreet, which found that people spend 12%-18% more when able to use their card.

In 2017, the lottery did a cashless pilot with just roughly 200 locations. It included new self-service terminals with cashless payment options from Scientific Games. The lottery purchased a series of card readers that plugged externally into their terminals. This was important because it made the transaction go through the lottery’s terminals to get to the processor.

“The pilot showed us that our basket sizes were going to increase, but we didn’t have a group of people that were spending an enormous amount of money…. You look at the actual data and we just haven’t seen any abuse,” Coyne said.

The pilot results confirmed that the Pennsylvania Lottery did not need to require a daily or weekly purchase limit. In an abundance of caution, however, the lottery chose to limit the program to debit cards.

They expanded the pilot to their current number of 2,000 locations. Currently sales are about a million dollars a week. Players weren’t making very large purchases that they weren’t before. “We found that that the adoption rate was actually a lot lower than we expected. It allowed us some breathing room. Our players are not the early adopters; they’re not really that interested in getting credit,” Coyne said. (It should be noted that the lottery is not actively marketing they accept debit transactions, which could play a role in the low adoption rate.)

The necessity to accept cashless payments is clear. The fear of reducing profitability is a huge concern, but the fear of losing current and future players is just as palpable. “We want to be where our players in general are. Where they are is on that mobile device. They’re using cashless payments. We were fearful of losing those people,” Coyne said.

In terms of paying the transaction fees, the Pennsylvania Lottery choose a blended rate. With the help of their vendor Scientific Games, the lottery gets one single rate from Worldpay, which is currently 2.46%. That rate is subject to change every six months depending on their basket size and what cards players are using. As mentioned before, this single fee includes interchange, network fees, the processor’s fee, and their vendor fee.

“As we expanded the cashless pilot for the Pennsylvania Lottery, we can see the economics of their decision. They are making more money by absorbing those transaction fees. Consistently, those retailers that are now accepting cashless payments are seeing sales and profit increases,” McHugh said.

Ohio Lottery

At the end of 2017, the Ohio Lottery delved into cashless exclusively through their self-service terminals. Unlike the Pennsylvania Lottery, the lottery did not have new self-service terminals with card readers embedded into them. Instead, they retrofitted cashless payment devices to their ~7,500 existing INTRALOT self-service terminals. Originally, the lottery planned to retrofit all the self-service machines at once but settled for a rolling approach, upgrading ~550 machines weekly.

The Ohio Lottery approach differs in other ways from Pennsylvania. They have a minimum basket size of $10. The terminals accept credit and e-wallet purchases, as well as debit payments. The Ohio Lottery also limits the amount of money a player can spend. Originally, they had velocity controls of $100 per day and $700 per week, but they recently removed the daily limit.

In December 2017, the lottery on average had to decline 2,500 transactions due to these velocity controls. Fascinatingly, that number has held steady despite thousands of machines being added. “We’re not even seeing an increase in the velocity control declines as our sales increase at all. It seems to be a very steady number, which is good as you would assume it would go up with an increase in sales,” Maureen Hall, Interim Deputy Director, IT, Ohio Lottery said.

These velocity controls showcase the new level of control lotteries have when implementing cashless solutions. Together with their payment processor and vendor, a lottery can add limits and allow only certain card types, like debit. “It really does add to responsible gaming measures. With cash, you have no control,” Gregory Bowers, Deputy Director, Finance, Ohio Lottery said.

For Ohio, 8% of all transactions through the self-service terminals are cashless. “Our average daily sales for self-service terminals, when we compare the last six months to the same time period last year with no cashless pin-pads, we saw an average daily sales increase of about 14% and for ITVMs we saw an increase of about 6.5%. But there are so many other things going on; it is certainly difficult to quantify if it is just cashless causing this lift,” Hall said.

After a year, the Ohio Lottery has identified the biggest area of concern for them. “The most important thing is training. You really have to be able to understand the flow of the money and transaction to be able to help a customer or a retailer,” Hall said.

“It is not just your back office staff or your finance staff; it’s also your field staff. Everybody needs training,” Bowers said.

The field staff has a lot of responsibilities when it comes to the implementation of cashless. As the face of the lottery to their retailers, they must help with training. “It is a lot of retailer training. Even though they all use credit and debit cards, it’s just different enough from what they’re conditioned to do that we had to retrain them,” Hall said.

Traditionally, players ask for a ticket, receive it and then pay. Ohio Lottery’s cashless solution expects lottery players to deposit money into the machine first with their card, then choose which tickets they want to purchase. This can also create communication errors with the transaction cycle. If there is a power outage after a player deposits money into the self-service terminal, the retailer has to go into the terminal and to get a “clear credit voucher.” That voucher can be redeemed at any lottery terminal in Ohio.

Field staff also have to be on lookout for “skimmers.” These are devices criminals will adhere onto a self-service device in order to steal credit card information. A skimmer, for instance, can be attached overtop a card reader. The machine will look identical to the original terminal. When a card is swiped, the information is not only sent to the processor, but also sent to a third party host.

Training was required for the executive staff too. “We really had to work out details on the back end so that Greg [Bowers] and his staff could make sure the general ledger was ok and everything balanced correctly. It was a big lift,” Hall said.

“I want to continue learning and get trained on the technology and terminology as well as how things operate. That may take some time because my long-time staff has operated in a cash business and it is all new to them,” Bowers acknowledged.

The Ohio Lottery will be rolling out 11,000 new cashless POS terminals in November.

Virginia Lottery

When the Virginia Lottery began planning for cashless implementation, they did a lot of research on why potential players didn’t play. “Two reasons that we’ve heard have been: you’re not where I shop and I don’t carry cash,” Deborah Courtney, Director of Finance, Virginia Lottery said.

The lottery addressed the first issue by installing self-service vending machines at grocery chains, which have high household penetration. The lottery is now in the process of addressing the second issue. They rolled out new IGT touch screen terminals that have cashless readers integrated into them. Players are legally allowed to use debit cards in Virginia, but not credit cards.

Since this strategy is, in part, dedicated to new player acquisition, the Virginia Lottery has no minimum purchase amount, unlike the Ohio Lottery. “We know that scratch tickets are a great entry point for people who don’t play, and the lower price points are also a good entry for people who don’t play, so we felt like it was really important not to put up any additional barriers,” Courtney said.

Despite having no minimum, the average basket size started at $18 but is now gradually creeping towards $22 per swipe. “We do have some swipes that are for a dollar and that’s fine because we also have some that are for much more than that so that the average makes it a really viable way for us to not have to put a minimum on,” Courtney said.

In terms of growth, the results have been good. Vending retailers grew four times faster than non-vending retailers. Not every vending retailer had a cashless solution. Retailers with cashless solutions grew three times faster than retailers without.

One of the key insights that Courtney pointed out is that cashless sales can lead to cash sales. A player purchasing a winning ticket with a debit card could reinvest those winnings into more tickets. This shows that cashless sales have a greater ROI than the general ledger might indicate.

There are some challenges still being addressed. Like Ohio Lottery mentioned, some of the trickiest parts of a cashless solution often have to do with retailers. In a traditional transaction, the retailer purchases instant tickets from the lottery and the customer buys the tickets from the retailer directly. In a cashless transaction, the retailers still purchase the instant tickets from the lottery, but when the customer uses their card, that money goes directly to the lottery because the lottery is paying the fees (through the transaction cycle). The lottery then must credit back to the retailer this amount of money.

It also means that a transaction that started cashless cannot have cash added to it. Cash and cashless transactions must be completely separate to avoid complicating the accounting. “A player can put $20 on the machine with debit and play it down to $2. If they try to buy a $5 ticket by adding in three one dollar bills, the machine will not let them do that,” Courtney said. “It seems really clunky. Not everything with cashless is a great player experience, but I am convinced we’re going to continue to get better.”

Conclusion

From the case studies above, each lottery made similar points. Particularly with self-service machines, there is a strong argument for lotteries to pay the transaction fees. While there are transactions that are suboptimal, the average basket size is large enough to easily cover the transaction fees, like in Virginia where it is approaching $22. The continued efforts by the Ohio and Pennsylvania lotteries to expand their cashless solutions beyond their SSTs to their retailer terminals suggest there is a strong business case to do so.

There is also a need for more education, both internally and with retail partners. Larger corporate retailers can certainly create complications. All three lotteries interviewed for this story mentioned that it was vital to get larger chains on board months in advance of a cashless rollout because they need to prepare their backend accounting systems. For Ohio and Virginia, not every chain could immediately incorporate cashless sales.

“I feel like we did the best that we could because we were trying to work through it first. We didn’t want to bring them in until we knew how it was going to work, but I would say don’t overlook the time that it will take from that side,” Courtney said.

But the unifying theme behind all three cases was the need to modernize. The Pennsylvania, Ohio and Virginia lotteries spent significant resources in new equipment and training (as well as opting to pay fees) to bring their operations into the 21st century. It is important to note that implementing cashless payments is not the only step in this process. The Pennsylvania Lottery’s modernization efforts did not solely center around cashless payments; implementing gift cards, iLottery and keno also have been integral. It also required incorporating third party vendors, like Worldpay, to offer the best services.

“The legacy business has been a monolithic system—a closed network with a single point of sale, at least in the U.S. market. That’s how lotteries have been able to operate in a monopoly market. But with the PASPA ruling, the world is evolving rapidly. We see competition with lotteries rapidly accelerating for players’ entertainment gaming dollars,” Scientific Games’ McHugh said. “We will continue to see good growth in retail, but the headwinds of competition are going to dramatically increase. So I think the lottery policy makers that previously weren’t as progressive or looking down the road to implement new technologies are now starting to take action.”

Cashless payments do seem to be the gateway though to so many other initiatives the lotteries want to take on. “That being said, while cashless may be only a piece of the puzzle of modernizing the lotteries, it is a key piece. iLottery is, of course, very dependent upon acceptance of cashless payment to fund eWallets, and as in-lane offerings proliferate, it will become increasingly important to support cashless payment to provide the smoothest possible consumer and retailer experience,” said Paul Riley, VP, Innovation & Lottery Transformation, IGT.

In a vacuum, they also provide lotteries with valuable insight through big data. A processor like Worldpay can help lotteries “tokenize” credit card information. While purchasers remain anonymous, in terms of their name, address, etc, to a processor like Worldpay, the use of their card provides a code that is unique to them when swiped. If a purchaser buys a lottery ticket with their credit card, then a processor can see relevant information regarding that code.

“Additionally, that card is a proxy for the player. By analyzing transactions by card, you can actually understand player behavior. You can have better basket analysis, you can see what they buy, how they respond to promotions and advertising, are they loyal to specific retailers, and what share of their entertainment spend you have,” Crowe said.

Tokenization can create new marketing opportunities for instance. “It is also possible to append third-party data about a particular card—while the user remains anonymous—which can then be used to build a more holistic view about purchase habits. It opens up a lot of opportunities for lottery marketing initiatives. For instance, maybe there is a group of card users who are also regularly shopping at 7-Eleven. Lotteries could talk with that retailer about a co-brand or co-offer. So cashless can also provide some additional opportunities for increased and more focused marketing,” Riley said.

It can also safeguard both the players, through velocity controls, and the lottery, through fraudulent activity. “We can learn a lot from banks and their experiences from other industries. As soon as a card is swiped, they know everything about that card. We didn’t have that level of detail before. And because of that, on the back end, they can help us to identify a problem, like responsible gaming concerns or fraudulent activities, very quickly. They could teach us a lot even without personal information from the card holder,” Scott Hoss, Senior Marketing Manager, INTRALOT, said.

Cashless payments have tremendous potential. But it is important to not lose sight of the obvious benefit cashless payments provide. Virginia Lottery’s research revealed an important truth. Players don’t want to be forced to pay in cash. Customers expect to be able to pay however they want, either with cash, credit, debit, e-wallet or perhaps even cryptocurrencies one day.

To expand the player base and prepare for the players of tomorrow, cashless payments are a necessity. “Philosophically, this really is just about letting consumers pay the way they prefer to pay, reducing friction within the lottery transactions, and improving their overall entertainment experience,” Crowe concluded. “This all contributes to responsible growth in lottery contributions to the good causes they support.”

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