The not-so-boring Duopoly of Visa & Mastercard
Visa (V) and Mastercard (MA) have consistently delivered massive market-beating returns over the past two decades, yet both companies remain largely ignored by many individual growth investors dismissing them as mundane, archaic, or even ‘boring’.
I used to share this perspective; I mean, in China no one even knows what a credit card is, right? Instead, mobile payment apps like WeChat Pay or Alipay reign supreme. The Blockchain offers decentralized and ultra-secure money transfers, and let us not forget about the myriad of new FinTech operations pouring billions into building next-generation payment processing products every day. Much more exciting, right?
Investing in Visa at its IPO in 2008 would have netted you more than a x15 return holding until today - 6 times that of the market during this same period.
But crafting a payment experience that is not only seamless and secure but also trusted and reliable, is no small feat. Only two players have managed to offer this on a global scale and stay dominant. So let us dive into these two financial juggernauts and explore the history and technology behind it all - and the subtle dance they engage in with each other, keeping them ahead of everyone else.
A Dynamic Duo: A Dance for Dominance
While there exist a vast array of credit cards to choose from, depending on where you are from, I think it is fair to say that for most people, Visa and Mastercard stand out from the crowd. They are the two biggest companies, their brands are extremely strong, their cards are widely accepted and have each shaped the industry for decades on end.
How it Began
Just over a century ago, in the early 1900s, local stores began handing out their own cards, to let customers buy on credit, in the hopes of getting them to spend more money. However, these cards were limited - they had no reach - One store, one card. That was it. Then in 1950, Diner’s Club came along, becoming the first card of any kind to be accepted across multiple businesses on a larger scale. This too was limited though - It was a charge card (offering no credit) and originally its only purpose was to make it easier to pay when dining out. But the real game changer? The “BankAmericard” in 1951, courtesy of Bank of America (BAC) - the first modern credit card.
The card worked across most of California, where the Bank of America is headquartered. To some, its distinct color scheme may seem familiar…
After its quiet success (more on that later), in 1965 and onwards throughout the 1970s Bank of America started licensing its brand to other banks across the US. The card was both recognizable and trusted, so other players were willing to pay for the right to issue it. Each bank laid in the groundwork to establish the payment processing network in their geographical area, working on deals with local merchants on behalf of BankAmericard.
Competition Arrives
But in 1966, after its public success, banks still unassociated with BankAmericard for one reason or the other teamed up to take on the challenge. With a new approach, they formed a bank alliance and created the card “Master Charge”. The product was extremely similar, however, the organization behind it was very different - rather than controlled by a single entity licensing to lesser partners, this was a collective effort with equal opportunity for all - and this worked really well right away. With BankAmericard’s early headstart, both cards became extremely successful and the remaining had to eventually team up with one player or the other. In 1970, BankAmericard adopted the decentralized approach of Master Charge and let licensing banks acquire a stake in a joint organization controlling the card. In 1976 they rebranded to Visa - inspired by the new company’s ambitions of going international. The other card followed up with a rebranding of its own, reflecting having evolved into more than just a charge card, in response to Visa’s aggressive expansion - Obviously becoming Mastercard and beginning an international quest of their own.
The Dance
From then on, it was a back-and-forth dance of one company introducing a new feature and the other one adopting it soon after. This is how the product has stayed so similar, yet continued to improve and evolve over time. Mastercard took the leading market share position up until 1980, when Visa through the success of its decentralized strategy and big international expansion won back the crown, which it has held ever since. Visa now dominates with around 60% market share, whereas Mastercard sits at around 25%, with the rest divided up among other card companies. That means if you currently own a card issued by the bank, there is an 85% chance it says either Visa or Mastercard on it.
Fast forward to 2006, Mastercard went public to great success, raising $2.39 billion (which was more than what the Google (GOOGL) IPO bagged in 2004 at $1.7 billion). Naturally, following their little dance, Visa followed and did the same thing in 2008, raising $17.8 billion in what is still today one of the largest IPOs ever. Now, Visa actively operates over 3.5 billion cards and Mastercard about a billion less across 200 territories. The two companies rarely ever see a decline in revenue and profit margins sit comfortably somewhere around 30-40%. By any regular metric, these two stocks should be considered growth companies. They are not boring banks, they are technology companies situated in the financial sector.
The Challenge: Why None can Compete
Trust & Fraud
It is easy to assume that new technologies will come and eventually render Visa and Mastercard obsolete. That may very well happen, but as it turns out, not so fast…
Trust is a big factor here and Visa and Mastercard have had decades to establish their reliability, security and ease of use. Blockchain and crypto-based services, for example, are at an immediate disadvantage when it comes to establishing trust. Recent cryptocurrency exchange bankruptcies and an endless barrage of internet scams have left little to the imagination of the general public. Meanwhile, FinTech ventures have to establish themselves in an intensively competitive market, struggling to stay afloat until they see mass adoption. That means new brands come and go all the time, once again, eroding trust.
Heck, even Visa (then BankAmericard) struggled at first, in a market with no competition. In order to get stores to accept the card in the first place, banks would physically mail unsolicited cards to tens of thousands of people at once, leveraging this new customer base as an incentive for the stores. This resulted in widespread credit card fraud, almost bringing the project to its knees. Over 100 million cards were distributed this way until the practice was made illegal in 1970. Distribution might have become easier in the digital age, but dealing with fraud has not - another essential component of establishing trust.
Trust has likewise been a show-stopper for mobile payments. WeChat Pay and Alipay, the only two players potentially big enough to compete with Visa and Mastercard on fees, have never seen critical adoption outside of China. Alipay saw short-lived success in India, up until the point where in an effort to cozy up to Western countries, India passed strict anti-China policies. I suspect there is very little chance that Chinese payment services will ever succeed outside of their core market.
Security & Fees
Outside of fraud, a digital payments provider likewise holds an obligation to keep transactions secure and reliable at all times. Visa’s operations centers are high-tech data servers processing the information of billions of customers. Outside of a literal moat, what protects their businesses are motion detectors, biometric authenticators, vast arrays of cameras, and airlock chambers, preventing unauthorized access. These buildings are described as veritable fortresses, with earthquake and hurricane-proof, half-a-meter-thick walls. They have built-in power redundancy on a scale enough to power tens of thousands of homes and tanks of 5 million liters of water to keep the servers cool.
““Doing payments at scale is complex. It’s one thing to do a payment, it’s another thing to do it at thousands and thousands of transactions per second and make sure that happens reliably, safely and secure all the time,””
Naturally, this does not come cheap. Visa and Mastercard utilize fixed fees, which by definition only works at a massive scale. A good way to think about it is for every $100 spent, they get 25 cents. This makes it impossible to compete on price and operate a sustainable business at the same time. One should not forget that fixed fees also work in favor of incrementally increasing profit margins with every new customer, putting the two in constantly improving conditions. Additionally, these fees work wonderfully in an inflationary environment, as when prices go up, so does the transaction amount.
Granted, there are other payment services that have reached critical scale outside of China. PayPal’s Venmo is exceedingly popular in the US as is MobilePay here in the Nordics. Trouble is, that they are almost exclusively used for person-to-person money transfers, which are still much lower volume and infrequent than in-store payments. As for anywhere else in the world, few services like these even exist - PayPal itself or Revolut probably being closest to a global competitor.
Usability & Speed
A major reason why these services have failed to gain any real traction in stores is usability - and as a UX/Interaction Designer I just HAVE to point this out. When I visited China some years ago, I was excited to try out mobile payments for the first time (this was before Google/Apple Pay was a thing in Europe). I quickly realized that while it was convenient to simply use an app and avoid carrying a card, it was not any faster. In fact, it was slower.
The services of which I am familiar all rely on QR codes for paying in stores. That usually involves a 5 step process:
Unlock the phone.
Find the camera or QR code scanner app.
Scan the QR code.
Wait for it to load.
Swipe to confirm.
With a card, regardless of whether it is a digital or a physical one, the process is much simpler:
Unlock the phone or take the card from your wallet.
Hold the card or phone to the machine.
Who wants to scan a QR code and swipe their finger to confirm, each time they want to pay for something in a store? With MobilePay, you even have to unlock the app itself first using biometrics or a passcode, then enter the amount of the transfer before you scan or type in the receiving number.
With Apple Pay, there may be an extra step (having to open the app), but for Google Pay, all you have to do is unlock your phone and tap. And do not even get me started on Blockchain-based solutions. They may have security in check - but the user experience is not anywhere near ready for the general consumer, nor is the speed at which the network can process transactions (Yes, even for something like the Lightning network). Visa alone processed roughly 242 billion purchase transactions in 2022, equivalent to approximately 670 million daily transactions. Their scale is vast.
Much harder than it looks
Visa & Mastercard’s offerings are so easy to use that people take it for granted. In some cases, when technology becomes so good, it feels like magic. Other times, it fades completely into the background and becomes forgettable. Simply tap to pay. Maybe this is why so many people consider these companies boring? Trust is essential for building a successful payment processing product and a significant reason for why some customers still opt to use cold, hard cash. Between security, dealing with fraud, and providing a good user experience, processing payments digitally at scale is much harder than it looks.
Threats: Criticism & regulation
The fees are too damn high!
Both companies are frequently a target for critique with the most common criticism revolving around the fees imposed on vendors in order to utilize the network. Store owners, in particular, have been vocal about this, contending that annual payment processing fees, in some cases, surpass even their rental expenses, ranking as their second-highest expense after wages.
Visa and Mastercard have a well-documented history of engaging in predatory practices, leading the payments industry to hold the record for the highest number of anti-trust litigation suits. This pattern started from the get-go. They have always played ‘dirty’. As mentioned previously, the original BankAmericard was a quiet success. Initially, they struggled to push adoption, inventing the practice of credit card drops, which gave way to massive amounts of fraud and was later outlawed. In public perception, credit cards were a failure from a business perspective. However, once these issues were ironed out under new management and the operation turned profitable, Bank of America kept this a secret to hold off competition. It was not until 1966 that its success became too big to hide and Master Charge was born.
While it is undeniable that credit card fees can be expensive, the same can be said for cash - with processing fees often proving much higher on an absolute basis. Accepting cash exposes employees to direct risks, making stores a target for robbery or workers vulnerable to muggings while depositing excess register cash balances. The convenience credit cards offer customers is often underappreciated by those paying the fees, as it invariably drives additional sales. Security plays a role in this too, with research suggesting that customers are 3.5 times more likely to perceive a website as trustworthy when integrating Visa’s 3-D Secure protocol.
Regulation & Potential Competition
Despite enduring criticism from store owners, and well-deserved regulatory scrutiny in this aspect, operations fees actually skew more toward licensing banks than vendors. Visa and Mastercard do not make money off credit card interest fees - the banks do. Approximately 40% of Visa’s revenue is attributed to data processing fees of any kind - the network that distributes money between parties. 35% comes directly from service fees, which is what they charge banks for licensing their trusted brand. International transfers contribute 20%, while 5% originates from new ventures, including acquisitions and fintech innovations. But while Visa and Mastercard can avoid regulatory issues associated with lending money due to not keeping a direct relationship with end-consumers, overarching regulatory concerns still pose a risk.
Anti-trust issues have been a problem in the past and continue to be. From outlawed credit card drops to controversial card bundling practices and substantial settlements over monopolistic behavior, the list goes on. With market power comes obstacles, highlighted most recently by Visa’s failed attempt to acquire Plaid for $5.3 billion, denied by regulators, citing concerns over the elimination of competition. This raises questions about the feasibility of a future acquisition, should any new player ever start taking market share, reminiscent of how Adobe (ADBE) is struggling to deal with its Figma problem right now. Each time rumors stir of Visa and Mastercard considering raising fees, politicians and regulators tend to react by waving a big flag and campaigning for change. Nevertheless, the prospect of passing further fee-capping bills in the US or EU remains uncertain.
However, this is a concern for another time. I do not think anyone truly stands a chance of viably competing any time soon. I once viewed mobile payments as a formidable threat, when WeChat Pay and Alipay made their stride in China. And in contrast, Apple and Google Pay have experienced instant worldwide adoption. However, these particular mobile payment solutions are ultimately tied up to Visa and Mastercard anyway. Behind every transaction made with your iPhone or Android phone, a virtual card is intricately linked to your own card. I do not think Apple or Google will attempt to make their own card. Apple (AAPL) alone might have the brand power to pull it off, but I just do not think it would be worth the effort. Apple still holds less than 30% mobile device market share globally, whereas Visa and Mastercard can reach new customers regardless of what device they own. Google has a much higher global market share and dominates in emerging markets like India, but lacks the ability to control which services device manufacturers push.
Which one should you pick?
In reality, these two companies are so alike and offer such similar products that it really is not worth trying to make a distinction. Some investors argue that Mastercard markets itself in a more relatable way, while others might argue it tends to also play looser with the rules from its backseat position. Either way, it is not enough for it to matter.
Key to Mastercard’s success was the advertising campaign “Priceless” which lists the value of common commodities and ends by showcasing the experience they create.
Both companies have delivered market-beating returns for decades and maintain uniquely high margins. Truly in a league of their own. They are tollbooth companies at a vast scale, taking a fixed fee for each transaction made around the world. They are both sensitive to regulatory action and slowdowns in the economy, but only because they have placed themselves in such favorable conditions, deterring competition from any real chance of catching on. They each pay a small dividend, growing at a 15%+ annual rate. The dance that these two companies have engaged in for now close to a century has made them into an unstoppable duopoly. Not everyone may like how they operate, but from an investor’s perspective, there is little to complain about. I do think you should consider owning one of these stocks, but which one you choose is entirely up to you. I chose Visa because I happen to be more familiar with its product. I use it myself and I know it works. I also prefer their more conservative approach and the slightly higher dividend. For you it may be different - Mastercard is still the smaller player which means it has more to gain and has been growing slightly faster.
As in the world today, Visa and Mastercard’s main competitor is really just cash… And that is not a fight they are ever going to lose.
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Disclaimer: I am not a financial advisor, the opinions expressed in this article are entirely my own – always invest at your own risk.
