Assessing check-writing customers for their risk of writing a bad one will always require a blend of art and science. As long as fraudsters devise means of outsmarting retailers and as long as consumers struggle with the management of their checking accounts, retailers will have to handle check acceptance or refusal on a per-case, diplomatic basis. The problem won’t go away as check usage declines, either. Check fraud is on the rise, even as check usage in the U.S. retail industry declined 10% in 2005. The trick for retailers like Goody’s Family Clothing, which sells moderately-priced apparel, is determining which checks to decline – thereby thwarting loss and fraud – and which risky checks to accept, thereby preserving customer relationships.
Like many large retailers, Goody’s has employed a risk-assessment tool at the POS for many years, designed to assign a risk percentage to each check transaction and decide on the acceptance or denial of the tender accordingly. Many factors can play into the analytical tool used to determine risk, from the obvious bad-check history of the consumer to less apparent factors like time of day, day of week, check number, dollar amount of check, and relationship to pay days. But the fact of the matter is that even honest customers can write bad checks, and based on customer feedback, Goody’s decided early in 2005 that it was time to research a better solution. “We were increasingly dealing with customers who were wrongly declined or who had an indication from our previous vendor that they had written a bad check but really didn’t,” says Rick Gatian, senior VP and treasurer at Goody’s. “That usually ended up in a dispute between the customer and us, which had obvious customer relationship implications.” Unfortunately for retailers, when it comes to check acceptance or denial, it’s the customer’s perception that the decision falls into the hands of the retailer, not a third party. Having tender denied is embarrassing for the consumer, especially if the consumer has no alternate form of payment. Then, of course, there’s the true criminal element to contend with, the ever-growing legions of malicious fraudsters and organized retail crime rings. “There’s a fine balance between accepting as many checks as you can from good customers and turning down the bad ones to fight fraud,” sums up Gatian.
Establish Risk Parameters, Reduce Check Fraud
In September 2005, Goody’s contracted with Certegy Check Services Division, which recently merged with Fidelity National Information Services, to handle its front end (POS) check authorization. The implementation required integration with the retailer’s Alliance Data Systems central payment switch, which routes different types of tender (checks, Visa, MasterCard, American Express, Discover, and gift cards) for approval to the appropriate processor (check tender is routed to Certegy Check Services). Integration with its payment switch allowed the retailer to update all of its stores on the new authorization solution centrally, eliminating the need to send technicians or software updates to all 383 stores. “Alliance Data Systems and Certegy Check Services became certified partners to make this happen,” says Gatian. “And our POS software provider [SAP/Triversity] was already certified with Alliance Data Systems. It was simply a matter of handling some expected table translations, which allowed Certegy Check Services to send certain messages in certain codes that enabled the acceptance, decline, or referral response at the POS,” he says. The new check authorization processor didn’t change the POS interface at all.
Gatian says the specific draw to Certegy Check Services’ flagship check authorization product, called Pathways, was the vendor’s willingness to assign a risk analyst to customize the system for Goody’s. “We sat down with our risk analyst and analyzed every store in our chain to assess the risk factors by location. Then we segmented the chain and established custom risk parameters [check number, dollar amount of check, time of day, day of week, etc.] for each segment,” he says.
Each check transaction also prompts the comparison of check MICR (magnetic ink character recognition) and driver’s license data to a vast database containing fraudulent check writers. If there is returned check activity associated with either a specific MICR line or driver’s license involved in an attempted check transaction, the system will recognize it and most likely decline the tender. “Unfortunately, the criminal population is smart enough to not use the same driver’s license once it’s been linked up with multiple bad MICRs,” laments Gatian. “And they’re out there printing driver’s licenses as fast as they do checks. But the database is actively combating that activity.” Gatian says the majority of Goody’s bad-check expense is attributed to accounts that are closed, which typically indicates fraud. In extreme cases, the retailer deals with organized criminals who will simultaneously buy several hundred pair of Levis jeans, for example, in a string of stores, with the intent to sell them through other channels such as flea markets or online auctions. Those checks are most likely fraudulent ones written on closed or nonexistent accounts. In this situation, Gatian anticipates a 0% collection rate. “However, if a check comes in and the nature of the return is NSF [nonsufficient funds], you’re probably looking at a 50% to 60% collection rate,” he says. “If you control your parameters effectively, you’ll limit the number of returns that you get on account-closed checks,” he says. In fact, at press time Goody’s year-to-date bad-check expense – the amount it takes as a hit to its profit and loss statement due to uncollected checks and the fees incurred during the collection process – is about 40% lower than it was at this point last year. Gatian says this equates to $1.6 million, and the retailer’s check decline rate is less than 2%. Of course, check authorization is next to impossible to perfect, making bad-check collection efforts an equally important element of the check acceptance process.
Don’t Forgive Debtors
Goody’s has been using Certegy Check Services for bad-check collection for nearly 10 years. The trick to collecting bad checks, Gatian says, is creative and multiple means of collecting what’s owed you. “We employ predictive analytics to determine when to make outbound collection calls, and our check services vendor has shared best practices with us in this regard, resulting in a more strategic approach,” he says. Goody’s was also one of the first retailers to electronically re-present checks for fulfillment when the Federal Reserve Bank approved that practice. This allows retailers to schedule electronic ACH (automated clearinghouse) transactions for payment at different times of day or week to try timing the withdrawal to immediately follow a paycheck deposit (the first and fifteenth of the month and Fridays are popular re-presentment days). “We also considered that electronic transactions take bank priority over paper check transactions when funds become available, which increases the likelihood that we will successfully collect based on electronic re-presentment,” Gatian says. “The majority of our returned NSF checks are collected that way.”
Remain Sensitive To CRM
Gatian is careful to point out that it’s important not only to deny bad checks, but to accept good ones, too. “We have more than a sneaking suspicion we’re accepting more good checks that perhaps we would have turned down in the past because now we have a more precise way of validating the good ones,” he says. “Our decline rate has not gone up, because we’re both declining more checks and accepting more, as well. With a decline rate that’s the same and a bad-check expense that’s lower, we can ascertain that the systems are working at the front end.” Indeed, the best way to control badcheck expense is to make the right decision at the POS.
Making the right decision at the POS, and protecting a positive customer relationship, also goes a long way toward supporting CRM (customer relationship management) initiatives. “Since contracting with Certegy Check Services, the number of customer complaints and phone calls we’ve dealt with at corporate regarding check issues has declined dramatically,” says Gatian.
Accommodate Other, Less-Expensive Tenders
Evidence suggests that checks are slowly going away. Industry-wide, their use as tender declined by 10% in 2005. Goody’s saw a 12% decline in check usage that year, compared with a 5% decline in 2004 and a 1% decline in 2003. As consumers migrate to other tenders, retailers are finding that traditionally legitimate check writers are moving to PIN-based debit because it’s a more convenient and quicker way to complete a transaction and get out of the store. “People have given up on what check float means. It doesn’t mean much anymore, unless you’re a consumer in a position to try to ‘play’ the float or beat other payments to the bank,” says Gatian. Goody’s adopted PIN-based debit in 2005, fueled by the move away from checks and, perhaps more compelling, the substantial decrease in per-transaction processing expense. In the meantime, Gatian contemplates contactless and biometric payment options, but with no plans to adopt right away. “Until there are some standards established in the industry around how things should work, you’re taking a gamble with a proprietary piece of hardware or software. You don’t want hardware that will paint you into a corner and deter the use of anything else,” he says. “Some of these applications are cool ideas, but you can only use them in one place. There will have to be some type of value proposition to get that customer to give up wallet or key chain real estate for a proprietary form of payment.” In the meantime, until checks are dead, long live the good fight against check fraud.