PAYMENT

BANKS
This document briefly discusses about the current
market scenario, what are payment banks?, scope
of activities performed by Payment Banks, its
business model, revenue model and the licenses
rolled out by RBI. Further we have taken Vodafone
M-PESA case study to find out the challenges and
growth trajectory it followed in Kenya.
Introduction
The payments business in India is on the cusp of revolution. With rapid
growth and modernization of economy, there is little doubt that majority
of Indias 1.32 Billion citizens will demand and get modern financial
services that are far superior from what their parents generation enjoyed.

This report discusses about the trends in payments industry, roadmap to

financial inclusion, the introduction of payment banks, the revenue model
of PBs and how cash management of existing banks can benefit from this.

India is a cash intensive economy, even for developing economy.

As per the GDP, the value of notes and coins in circulation in the economy
is 12.2% which is higher than countries like Russia (11.9%), Brazil (4.1%)
and Mexico (5.7%). The ratio of money held in bills and coins (M0) to the
amount held in Demand Deposit and Saving Account (M2) is 51% which is
higher than Egypt (29.3%), South Africa (8.9%) and Mexico (8.7%).

Most Indians currently lack the means to use non-cash payments

even if they want to.
Currently, almost 50% of the Indians dont have a bank account and only
about 30,000 of Indias 5.94 lakh villages have a commercial bank branch.
And less than 10% of the Indians have ever used a non-cash payment
instrument.

Market Size of the Payment Industry

The market size of the payment industry can be viewed from 3 angles:

1. Revenue from existing merchants who are online: India currently has
over a 1 million POS devices (i.e. the devices which allow the
consumers to pay with debit card, credit card, prepaid instruments
(PPI) etc.) The combined value of transactions performed in 2015
was INR 3.75 lakh crore (as per RBI sources), out of which Debit card
and PPI constituted INR 1.89 lakh crore (i.e. 45 per cent of all
transactions). Assuming a growth of 10 per cent on a YOY basis,
Payment bank's transaction base from this segment is expected to
 be INR 2.08 lakh crore.
2. Revenue from merchants who are offline: It's estimated that there
are 10 million Small and Medium Enterprises (SMEs) which consist of
kirana shops, vendors etc. Only a fraction of these accept digital
payments. To put this in perspective, a whopping INR 15.93 lakh
crore (as per RBI annual report) of cash, was in circulation in FY
2014-15. If the new Payments Banks are able to digitalize even 10
per cent of this, it will create a market of around INR 1.59 lakh crore.

3. Remittance: As per CRISIL, the domestic remittance market (e.g.

migrant workers in Mumbai and Delhi sending funds to families in
rural areas of Bihar and UP) was pegged around INR 1.1 lakh cr. If
Payments banks are able to target 40 percent of this space
(currently dominated by PPIs), it will result in a market size of INR
0.44 lakh crore from remittance.

Penetration Levels of Financial Services

Penetration levels of new age India China US

Payment Mediums
Number of people with bank accounts 58 70 92
(per 00)
Number of bank branches (per 1 lakh) 11 8 36
Number of ATM (per 1 lakh) 11.4 30.7 137.6
PoS Terminals ( per million) 684 5,245 17,020
Total Cards (per 000) 283.6 2,604 3,699
Credit by FIs to GDP ratio 75% 155% 229%

The growth of value of ATM transactions has far outpaced growth

in the value of card payment transactions. The total value of ATM
transactions has increased more than 5 times in period 2007 to 2012,
from about INR 3 trillion to about INR 18 trillion, while the value of card
transaction has barely doubled in the same period from INR 1 to 2 trillion.

Despite its prowess in IT and Telecommunications, India has been

left behind by its peers in mobile payments. Though India has a
fiercely competitive telecommunications market, possesses relatively well-
developed financial markets and is a leading exporter of technology
services, fewer than 2% of the Indians have used mobile phones to
receive payments compared to 60% of Kenyans and 11% of Nigerians.

The key reasons for financial exclusion is lack of financially viable business
model to serve the Bottom of the Pyramid customer segment and cost
effective manner.

Looking at the current statistics, the central bank RBI in order to ensure
universal access to banking services throughout the country has launched
Payment Banks to usher a new paradigm for retail banking. Payment
Banks are expected to revolutionize financial services the way e-
commerce has transformed the retail industry, through service and price
differentiation, refreshing approach, choice to the customer, focus on
volumes over margins, and more importantly, deconstruction of
established paradigms. There are huge expectations that Payment Banks
will contribute to Jan Dhan, Aadhar and Mobile Connectivity.

Payment Banks
Payment Banks are banks which payments/remittance services to
will reach their customers mainly migrant labor workforce, low
through mobile phones rather income households, small
than traditional bank branches. businesses and unorganized
They can be thought of as mobile sector entities.
wallets. However, they can also
have physical branches. Not
anyone can ask for license for
these banks. One has to fulfill
some conditions; one of them
being is that the minimum capital
requirement is INR 100 crore to
open up a Payment Bank.

The major objectives for setting

up of payment banks will be to
further financial inclusion by
providing (i) small savings
accounts and (ii)
Scope of Activities of Payment Banks

They cant offer loans but can raise deposits of up to INR 1 lakh, and
pay interest on these balances just like a savings bank account
does.
They can enable transfers and remittances through a mobile phone.
They can offer services such as automatic payments of bills, and
purchases in cashless, cheque-less transactions through a phone.
They can issue debit cards and ATM cards usable on ATM networks
of all banks.
They can transfer money directly to bank accounts at nearly no cost
being a part of the gateway that connects banks.
They can provide forex cards to travelers, usable again as a debit or
ATM card all over India.
They can offer forex services at charges lower than banks.
They can also offer card acceptance mechanisms to third parties
such as the Apple Pay.
The minimum paid-up equity capital for payments banks is INR 100
crore. This means owners of payments banks have to put in a
minimum of INR 100 crore in return for equity in the company.
Customers who do not have the means to maintain minimum
balance will be welcomed into payments banks as revenue will be
earned through transaction charges and not on the spread of
interest between deposits and loans.
Money collected from depositors can be invested either in
government bonds or can be deposited with other commercial
banks.
Payments banks can sell financial products like mutual fund units
and insurance policies
Business Model of Payment Banks

The business of payment banks hinges on providing last mile connectivity

and payment facility through either physical points or through other
digital interfaces, including mobile or internet-enabled platforms. The last
mile connectivity approach can be analogous to a Business Correspondent
Model with similar economics, and mobile based delivery is akin to mobile
banking services offered by Banks.

Banked/unbanked/under banked segment with

limited access to internet facilities
Customer Less educated with limited knowledge of
Demographics using technology for availing services
Middle and Lower Income Segment
Mostly reside in rural or semi-urban areas
Challenges faced in Low penetration of Internet, ATMs, PoS and
using New payment other enabling infrastructure.
modes Technology inexperience and literacy
constraints.
Lack of awareness about electronic and
mobile payments.
Cash continues to be the sole medium for
effecting financial transactions.
Payment banks Access to basic banking services.
potential Simple and intuitive payment platform with
propositions an option of multi-lingual interfaces.
Often used in P2G and G2P segments.
A simple and dedicated domestic
remittance platform for DTH, Electricity,
Landline, Data Card Recharge.
Customer education and handholding to
drive adoption and facilitate usage.
Onboarding of small retail merchants on
the mobile payment ecosystem to effect
non-cash transactions.
New Offerings Route the direct benefit transfer through
mobile ecosystem to improve familiarity
and adoption.
Payment to/from the government on the
mobile payment ecosystem (NREGA
payments, small savings scheme)
Merchant acquisition services for small
retail merchants in rural areas on the
mobile payment system.
Payment for major e-commerce sites like
Flipkart, Snapdeal, Amazon etc.
The landscape of migrant-driven domestic remittance business,
dominated by informal channels, may undergo a sea change with
payment banks ramping up its money transfer network.
Licenses rolled out by RBI

RBI has granted in-principle Payment Bank license to 11 applicants out

of 41 Considering the new business model, RBI chose players from
different business streams like

a) Telecom (Airtel, Vodafone),

b) large conglomerates (Reliance, ABNL, Cholamandalam Distribution

Services, Mahindra (Tech Mahindra))

c) individuals (Dillip Shanghvi and Vijay Sharma (Paytm))

d) focused Business Correspondent (BC) and payment players like FINO
and

e) Department of Post and NSDL.

RBI clearly specified that licenses will remain on tap. Some of the
successful applicants have large incumbents like SBIN, MMFS and KMB as
partner.

With the limited success (partially due to high-cost model) of incumbents

in expanding reach and promoting financial inclusion, RBI floated the idea
of Payment Banks; this category of banks is unlikely to cause major
disruption for existing banksin fact, it can be an enabler to promote
financial inclusion (generate PSL) for incumbents.

Our interaction with some of the major applicants suggests that

profitability of the business model will largely depend upon

a) use of technology and cost of operations (cost/customer is likely to be

high as maximum permissible deposit size per customer is INR 0.1m)

b) cost of deposits and

c) generation of fees via remittances/acting as BCs for large banks.

Spreads are likely to be low as

a) these banks are only allowed to invest in G Sec (75% of NDTL) and rest
in bank deposits with maturity of less than one year and

b) cost of deposits are likely to be more than 4% (minimum savings rate in

the country).

The business model will largely hinder on high-volume and low-value

transactions. RBI has capped leverage to 33x in this business. Thus,
despite low ROA, ROEs can be at reasonable levels in this business.

Payment Bank Partner 1 Partner 2

Aditya Birla Nuvo Aditya Birla Idea(49%)

Nuvo(51%)
Airtel M Commerce Airtel(80.1%) Kotak(19.9%)

Cholamandalam
Distribution Services

Department of Posts

Mr. Dilip Shanghavi

Fino PayTech

NSDL

Reliance Industries RIL(70%) SBI(30%)

Tech Mahindra Tech Mahindra

Mahindra(50%) Finance(50%)

Mr Vijay Sharma

Vodafone M Pesa

Other companies like Novopay Solutions, Money on Mobile, Mobikwik,

Oxigen, Suvidhaa Infoserve, Vakrangee Limited, Eko India Financial
Service Private Limited, Smart Payment Solutions Pvt Ltd, Itz Cash Card,
Citrus Payment Solutions Pvt Ltd, Videocon d2H Limited havent received
principal approval from RBI, may be next in line.
Revenue Model of Payment Banks

According to payment bank applicants, maximum reliance is on high

volumes to generate profitability. Since, all the money collected will be
invested in G-Sec there will be negligible credit risk.
ROEs will depend on ability to generate transactions, cost of operations
and leverage.
Interest spread on wallet balance not a key driver of profitability

Payment Banks would like to incentivize their customers to keep higher

balances in the payment wallets (deposit accounts); thus, interest on
deposits offered is expected to be more than 4% (current savings account
rate in the system). Depending on the banks aggressiveness, spreads are
likely to be 0.5- 2% (difference between G-sec and interest paid to
depositors)

Transactions based income is likely to be the key ROE enabler

Rather than rely on a conventional credit spread-based business model,

Payments Banks will focus on transaction-based business model
something that BCs, mobile companies and retailers understand well; in
simple terms, business model will emerge from the volume of payments
they make. For every payment made, the bank will levy a convenience
charge on the consumer/bank (for acting as BCs).

While there are no official estimates for market size, one of the entities
suggested that INR3t-4t worth of transactions take place annually
through different mediums such as bank, post and physical. Payment
Banks would initially aim to attract these customers; as these banks can
charge 1-1.5% (can be lower initially in a bid to acquire customers) fees
per transaction, we believe the industry size would be to the tune of
~INR50b (INR3-4t *1.5%).

Other operating activities to boost revenues

Sale of other financial products e.g. insurance and micro-finance

Cash-out points for payments, international remittances (Western

Union, MoneyGram and such)

Cash collection and disbursement for corporate (e.g. utilities)

Vodafone M-Pesa Case Study
In early 2007, the leading mobile operator in Kenya, Safaricom launched
one of the most successful implementations of a mobile money transfer
service, M-PESA. Within the first month Safaricom had registered over
20,000 M-PESA customers, well ahead of the targeted business plan.

M-PESA is a SMS-based system that enables users to deposit, send and

withdraw funds using their mobile phone securely across great distances,
directly to another mobile phone user. Customer do not need to have a
bank account and can transact at any of the countrys over 11,000 agent
outlets.

The M-Pesa service platform, developed in-house by Vodafone and the

consulting company Sagentia, integrates a mobile wallet with Safaricoms
rating, billing and provisioning systems.
Subscribers of Safaricom can register for the M-Pesa service by filling up a
simple form and providing any identification proof. Once registered,
Safaricom replaces their SIM with the M-Pesa enabled SIM (if required, all
new mobile subscribers now get the M-Pesa enabled SIM). To load the
money on the the wallet, the user needs to visit the nearest agent and
deposit cash there in exchange for e-Float. This e-Float is like currency
that can be used to make payments or transfer to any other person. The
e-Float is can be transferred to any person or merchant via encrypted
SMS. The receiver of the virtual currency can either use it for further
transactions or can cash-out from M-Pesa designated outlets.
Key Challenges faced by M-PESA

Suitability of the Platform: The consumer interface would have to be a

basic model mobile phone. Smart Phones were not abundant in Kenya.
Thus, communications were limited to modes such as voice and SMS. It
was concluded that SMS is likely to offer the best solution in terms of
usability, security and cost.
Trust in the Service: Although Safaricom was a trusted brand in Kenya but
initially customers did not trust that their money will be deposited by
agents servicing the product. When SMS receipts were delayed or lost,
customers would often accuse the agents of fraudulent activity and
quickly lodge a complaint with Safaricom. Over time this has improved
and customers are now getting used to transacting with agents.

The e-money must always exactly match the real money or we could find
ourselves in the unfortunate situation of creating currency. We partnered
with CBA (Commercial Bank of Africa) in Kenya to provide whatever
conventional banking services were required. The platform issues e-
money to mirror real money in that bank account.

It was critical to understand the systems and capabilities of Safaricom, the

local mobile network operator that provides connectivity. Safaricom would
also administer the pilot on the ground, so gaining its commitment was a
critical first step. An understanding of Safaricoms systems and
capabilities had to underpin whatever we developed, so that we could
give it appropriate tools to run the commercial service.

We needed retail outlets to act as M-PESA agents, where consumers could

go to deposit cash into or withdraw cash from their e-money accounts.
Safaricom has a large, established network of several hundred airtime
dealer outlets across the country where consumers buy prepaid airtime
credit.

M-PESA Service Design

Getting People onto system:

While MPESAs explosive growth was fueled by certain countryspecific

enabling conditions, the success of such an innovative service hinged on
the design of the service. Conducting financial transactions through a
mobile phone is not an intuitive idea for many people, and walking to a
corner shop to conduct deposits and withdrawals may not at first seem
natural to many. To overcome this adoption barrier, Safaricom had to
design MPESA in a way that (i) helped people grasp immediately how
they might benefit from the service, (ii) removed all barriers that might
prevent people from experimenting with the service; and (iii) fostered
trust in the retail outlets who would be tasked with promoting the service,
registering customers, and facilitating cashin/cashout services.

Simple Message targeting all audiences:

MPESA was originally conceived as a way for customers to repay

microloans. However, as Safaricom markettested the mobile money
proposition, they shifted the core proposition from loan repayment to
helping people make P2P transfers to their friends and family. From its
commercial launch, MPESA has been marketed to the public with just
three powerful words: send money home.

Simple User Interface:

The simplicity of MPESAs message has been matched by the simplicity of

its user interface. The MPESA user interface is driven by an application
that runs from the users mobile phone. The service can be launched right
from the phones main menu, making it easy for users to find. The menu
loads quickly because it resides on the phone and does not need to be
downloaded from the network each time it is called. The menu prompts
the user to provide the necessary information, one prompt at a time. For
instance, for a P2P transfer, the user will be asked to enter the destination
phone number, the amount of the transfer, and the personal identification
number (PIN) of the sender. Once all the information is gathered, it is fed
back to the customer for final confirmation. Once the customer hits OK, it
is sent to the MPESA server in a single text message. Consolidating all
information into a single message reduces messaging costs, as well as the
risk of the transaction request being interrupted halfway through. A final
advantage is that the application can use the security keys in the users
SIM card to encrypt messages endtoend, from the users handset to
Safaricoms MPESA server.
Removing adoption barriers: Free to Register, Free to Deposit, No
Minimum Balances

Safaricom designed the scheme to make it as easy as possible for

customers to try the new service. They designed a quick and simple
process for customer registration, which can be done at any MPESA retail
outlet. Customers pay nothing to register and the clerk at the outlet does
most of the work during the process. First, the clerk provides a paper
registration form, where the customer enters his or her name, ID number
(from Kenyan National ID, Passport, Military ID, Diplomatic ID or Alien ID),
date of birth, occupation, and mobile phone number. The clerk then
checks the ID and inputs the customers registration information into a
special application in his mobile phone. If the customers SIM card is an
old one that is not preloaded with the MPESA application, the clerk
replaces it. The customers phone number is not changed even if the SIM
card is.

Safaricom then sends both the customer and outlet an SMS confirming the
transaction. The SMS gives customers a fourdigit start key (onetime
password), which they use to activate their account. Customers enter the
start key and ID number, and they are then asked to input a secret PIN of
their choice, which completes the registration process. In addition to
leading customers through this process, retail outlets explain how to use
the application and the tariffs associated with each service. Such agent
support early in the process is particularly important in rural areas, where
a significant percentage of the potential user base is illiterate or
unfamiliar with the functioning of their mobile phone.

While the minimum deposit amount is around US $1.25, there is no

minimum balance requirement. Customers can deposit money for free, so
there is no immediate barrier to taking up the service. M PESA charges
customers only for doing something with their money, such as making a
transfer, withdrawal, or prepaid airtime purchase.

Being able to send money to anyone:

MPESA customers can send money to non MPESA customers, including

any person with a GSM mobile phone in Kenya, whether they are
subscribers of Safaricom or of any of the other three competing networks
(Zain, Orange and Yu). Under this service, money is debited from the
senders account, and the recipient gets a code by SMS which it can use
to claim the monetary value at any MPESA store.
Pricing Structure

Safaricom is using a tiered fee model where users are charged according
to the amount of money they transfer or withdraw. MPESA pricing is made
transparent and predictable for users. There are no customer charges for
the SMSs that deliver the service, and instead fees are applied to the
actual customerinitiated transactions. All customer fees are subtracted
from the customers account, and outlets cannot charge any direct fees.
Thus, outlets collect their commissions from Safaricom (through their
master agents) rather than from customers. This reduces the potential for
agent abuses.

Deposits are free to customers. Withdrawals under US $33 cost around

0.33. Withdrawal charges are banded (i.e., larger transactions incur a
larger cost) so as not to discourage smaller transactions. ATM
withdrawals using MPESA are slightly more expensive than at a retail
outlet (40 versus 33.3).

P2P transfers cost a flat rate of around US 40. This is where Safaricom
makes the bulk of its revenue. Thus, for a purely electronic transfer,
customers pay more than double than what they pay for the average
cash transaction (17) despite the cost to provide being lower for
purely electronic transactions than those involving cash. This reflects a
notion of optimal pricing that is
less based on cost and more on customer willingness to pay: enabling
remote payments is the biggest customer pain point which MPESA aims
to address. MPESA is cheaper than the other available mechanisms for
making remote payments, such as money transfer by the bus companies,
Kenya Posts Postapay or Western Union.
 Performance of M-PESA

M-Pesas financials are very impressive by any standard:

1. As on Mar, 2012, M-Pesa had 14.7 million users which is ~35% of

Kenyas population and by some estimates, total mobile money
users in Kenya by end 2012 were 21.1 million.
2. Close to 28K agents. Kenya has 3000 ATMs and 840 bank branches
which pale in comparison.
3. Monthly person to person transactions worth over $1.4 billion with
average of $66 per user per month.

The service is not only scoring high on financials but also on the consumer
confidence. Kenyas independent Financial Sector Deepening Trust (FSD),
which aims to support the development of inclusive financial markets in
Kenya, carried out a survey of M-PESA use in 2008.

The survey of 3,000 randomly selected households across Kenya, 300

randomly selected M-PESA agents and 50 M-PESA head offices found
almost 40% of households use M-PESA, with 63% sending regular financial
support.

Of those surveyed:
90% believe their money is safe with M-PESA
81% find M-PESA very easy to use and a further 15% say it is quite easy to
 use
84% say losing M-PESA would have a large negative effect.

The success of the service can be gauged from the fact that it has
expanded beyond the borders of Kenya to markets like India, Tanzania,
South Africa and Afghanistan.