Software-enabled opportunities for the payments industry
Within this shift, we are particularly intrigued by the potential of software-enabled payments. The growth of software-enabled payments has been especially relevant in the COVID-19 era. For many merchants, this crisis has been a significant catalyst to take part in an ongoing industry evolution.
For the entire history of the payments industry, the first step in a merchant’s life was a trip to the bank to seek financing to start their venture. A payment-processing product was a natural cross-sell for those banks. But that distribution arrangement is rapidly changing.
Today, a merchant’s first step is often figuring out what software to use to help manage their new business. That change is driving a shift in payment distribution, away from banks and toward software-enabled payment providers. More and more, new software technology is offering highly integrated systems that have payments as a central hub. Combining point-of-sale payments systems with software provides merchants with an opportunity to better manage inventory, customer loyalty, rewards, and other modules critical to their businesses.
This integrated capability was often not available in legacy systems and is gaining importance in the post-COVID environment. As customers were unable to go to physical retailers, it has been critical for merchants to have an online presence. Companies with more modern technology were able to respond better to an increasingly digital customer base.
To capitalize on the growth of software-enabled payments, payments companies are acquiring software vendors that serve various industries. For example, we’ve been following a US company that has been buying vertical-specific software assets that are then connected to a common payment platform and back-end infrastructure. Their software-integrated payment systems cater to a range of industries such as food service, event management, veterinary offices, and nonprofits. In each vertical, their software creates stickiness with their customers, while the company generates revenue from selling both software and payments-acceptance capabilities. We expect payments companies like this to continue to acquire software to expand their addressable market and capture incremental payments opportunities within new verticals.
In our view, volume in the US payments industry will see strong growth over the next decade. But within that, we think software-enabled payments will drive substantial growth and take share from bank-led models. We estimate software-enabled payments have about a 10% share of industry volume today and can grow at a double-digit CAGR (compound annual growth rate) over the next decade. Importantly, even with such strong growth, software-enabled payments would still only represent about 19% of industry volume (Figure 2). We believe fintech innovation will continue to fuel these trends.