Equity Research

Payment Fraud: The Problem of Minimizing Fraud Costs and Boosting Sales

Payment fraud has long been a part of commerce, but the growth of connected devices and e-commerce, increasing mix of cross-border e-commerce, and expanding number of APMs have increased the complexity of fraud in the payments ecosystem. Merchants, financial institutions, and payment service providers face the increasing challenge of minimizing fraud costs, maximizing payment approvals, and ensuring a frictionless customer experience. MarketsandMarkets estimates revenues for companies providing payment fraud solutions will grow 22% annually through 2026, from an estimated $4.3 billion in 2021 to $11.9 billion in 2026.

We believe technology has accelerated the shift to electronic forms of payments—consider that there are well over 500 types of alternative payment methods, the number of merchants that accept Mastercard has increased at a 15% compound annual clip to over 83 million, and the number of devices connected to the internet is estimated to exceed 75 billion (versus the global population of nearly 8 billion). Based on Federal Reserve studies, more than 50% of fraud losses are now driven by card-not-present fraud, though card-not-present constitutes just over 20% of transactions.

While well-banked consumers typically receive protections from fraud losses, payment fraud has grown increasingly costly for merchants, financial institutions, and payment service providers. Merchant expenses to fight fraud are estimated to be more than 3 times the cost of fraud losses alone and have expanded roughly 50% since 2016, according to LexisNexis. In addition to incremental expenses, fraud also causes lost revenue due to false payment declines. We believe the cost of false declines is multiples of the size of direct fraud expenses. False declines drove more than $300 billion in lost revenue in 2019 in the United States alone per the Nilson Report.

We see a large opportunity for modern technology providers to help companies in the payments ecosystem mitigate the cost of fraud. The industry has long relied on legacy authentication and risk-scoring mechanisms as well as manual transaction review to combat fraud. An estimated roughly 66% of merchants’ fraud management spend is devoted to internal systems, including manual review. We believe there is a large opportunity for the modernization of these processes, and adoption of modern solutions should drive a high growth rate for the fraud management industry.

We believe the fraud management space will garner increasing corporate and investor focus in coming years and see the potential for multiple emerging players as longer-term winners in the space. In our report titled “Payment Fraud: The Problem of Minimizing Fraud Costs and Boosting Sales,” we propose a market segmentation of what we believe are some leading public and private companies in the space. Providers in the space range from point-solutions to broad platforms. We believe long-term winners will be those with modern technology platforms capable of delivering real-time fraud insights for customers across multiple use-cases, from pre-payment, payment, and post-payment, across a range of customer applications. We also introduce an overview of potential risks to the growth of the industry.

For a copy of the “Payment Fraud: The Problem of Minimizing Fraud Costs and Boosting Sales” report mentioned in this article or information on any of the companies in Bob Napoli’s and Cris Kennedy’s research coverage lists, please contact your William Blair salesperson.

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