The events of this year have made it clear that things can change very quickly. This is particularly true for businesses that sell products and services that will be fulfilled in the future.
The risk of customers cancelling those advanced purchases or a business being unable to deliver the presold goods or services is much greater than normal these days. This poses significant risk to merchants and their merchant services providers as it may prompt a surge of refund requests and chargebacks.
Effectively managing this higher level of risk takes a disciplined approach, one that the major card brands, such as Mastercard, are bringing to the forefront. In one of its latest bulletins, Mastercard addressed the situation by releasing revised standards for deferred delivery merchants. The new standards took effect on November 1st and are designed to ensure that deferred delivery businesses are well positioned to handle refund requests and customer chargebacks.
Mastercard’s Revised Standard Means Ongoing Due Diligence
Essentially, Mastercard is increasing its oversight of deferred delivery transactions (advanced sales) and has indicated that merchant services providers should enhance their due diligence. This oversight includes collecting detailed daily information on current and projected volumes of advanced sales as well as the dates the associated goods or services will be delivered.
In addition, Mastercard’s new standard means that merchant services providers should be working with their merchants, educating them on the standards, and reviewing the tools they are using to reduce risk.
If you’re a business that presells goods and services such as events, memberships, future hotel nights, travel bookings and excursions, expect to be contacted by your payment processor. They will need to create a recurring dialog regarding your advanced sales and how to manage risk. It is likely these discussions will also include available collateral to mitigate the rise in risk.
It’s a huge ask, I know. A financial conversation about managing liquidity and cash flow isn’t necessarily fun. And it’s likely not one that merchants are eager to have with their banker, let alone their payment processor. Even so, I don’t recommend ignoring the requests for information either. In the absence of information, your processor may require greater reserves being withheld from your account. And I’m pretty sure no merchant wants that.
Mitigating Risk
Wind River is a relationship and service-centered company. Our desire is to be a resource for our customers and a guide that can minimize everyone’s financial risk. Below are a few best practices I have seen in the industry.
1. Keep deferred revenue in an escrow account
Ideally, deferred revenue is placed in an escrow account and left untouched until the product or service is delivered and the revenue can be recognized. That is the ultimate protection against financial risk for everyone involved.
But we’re operating in a whole new world right now, and that may not be completely feasible. Many businesses find themselves in a situation where they must make a choice – pay employees or leave the escrow account untouched. It’s a tough call.
On one hand, delaying payroll will produce a negative result 100% of the time. On the other hand, tapping into deferred revenue may or may not have a negative impact at all. So, many owners are choosing to tap into that revenue and roll the dice that an influx of cancellations and chargebacks will not occur.
It’s a risky move, but I understand it. I don’t think these decisions need to be quite as binary, though. There’s middle ground where you can tap into a portion of those prepaid funds. Read on.
2. Create a sliding scale of how much to keep in escrow.
Essentially, this practice allows you to use some of the deferred revenue, but only under certain circumstances. For example, there is less risk associated with advanced sales when the expected delivery date of goods or services is within 30 days. As a result, you can feel more comfortable using a greater percentage of those funds up front.
Conversely, a trip booked for six months from now, for example, poses a greater refund or chargeback risk. There’s a lot that can happen in six months. In that instance, you would keep a much larger portion, if not all, of the revenue in escrow until it can be recognized.
A good rule of thumb is – the longer the time between purchase date and delivery of goods or services, the smaller the amount you can use up front.
3. Have a strong and clearly communicated refund policy.
Customers need to have a thorough understanding of your refund policy. That means you shouldn’t bury the details in the fine print.
I recently read an article that 48 percent of Americans cancelled their summer travel plans because of the pandemic. Nearly half of those consumers lost money on the cancellation because of various refund policies – an average of over $800 per person in losses. While the travel companies were in the financial clear in terms of refund dollars, it still left a bad taste in the mouths of their customers. That’s not a good outcome either.
Clearly stating your refund policy gives customers the information they need to make their decision and reduces the financial risk of that advanced purchase.
Implementing the three best practices above can go a long way to reducing risk for everyone. The events of 2020 are forcing businesses to evolve. New standards are in now play, and we all need to adjust. The best way to accomplish this is by working together. We’ll get through it and emerge even stronger on the other side.
