Apple's Opportunity: Disrupt the Credit Card Business

Apple has never been shy about bringing change to complacent industries. Its products have reinvented music distribution, mobile phones and, with its new mapping app, GPS navigation devices in cars. It may be time for a new sector to sound the alarm: Apple appears to be maneuvering itself into position to challenge Visa and Mastercard like no company has before.

The prospect has intrigued analysts for a while. In May, JP Morgan analyst Mark Moskowitz floated the idea of “iPay,” a hypothetical mobile-payment platform that Apple was in position to develop. Although Moskowitz saw no evidence of an iPay platform in the works, he was optimistic that Apple would move in that direction, given that the Apple Store app - which lets shoppers check themselves out of an Apple Store with their iPhones – was a small step in that direction.

This week, Apple took another step toward mobile payments when it introduced its Passbook app for iOS devices at the annual World Wide Developers Conference (the announcement starts about 93 minutes into the keynote address.) Passbook aggregates a variety of consumer-retail items such as digital coupons, stored-value cards, loyalty points, movie tickets and boarding passes into an easy-to-navigate app. It doesn't handle credit card transactions. However, it should be a relatively trivial matter to link Passbook to the iTunes account that every iPhone or iPad owner must set up before downloading music or apps to their Apple devices. (For more on the current state of Passbook, see Don't Call Apple's New Passbook Feature an E-Wallet - Yet.) 

In the keynote, Apple revealed a statistic that hints at its potential to shake up the consumer-credit industry: The company has 400 million active accounts in iTunes, each with a valid credit card number. Four-hundred million is a substantial number, an installed base that any online-payment system would love to have (hello, Google Wallet!). Using near-field communications, in time the iPhone could replace the plastic credit-card as the way iPhone users pay for lattes, groceries or impulse buys. In short, iTunes may be about to graduate from a way of buying apps and music to a way of buying all kinds of things.

That could only be good for Visa and MasterCard, right? After all, the credit card processors would benefit from an increased volume of transactions. But they may not be entirely pleased with an increased volume of transactions from Apple, given the way iTunes handles payments for 99-cent apps and $9.99 albums. Apple aggregates purchases made over several days into batches, reducing the per-transaction fees that it pays to Visa and Mastercard. It gets away with this because, well, it's Apple.

If Apple really wanted to disrupt the credit card companies, it could bypass them entirely, building its own online-payment infrastructure and offering discounts or other incentives to those who choose it for iTunes and other payments. Apple has the cash stockpile - $97.7 billion by some estimates - to do this. It also has the network infrastructure, and it could work directly with banks to strengthen it.

Would Apple take such a radical step? There are good reasons for Apple to create its own iPay-style platform. It would let the company keep for itself the money it pays to Visa and Mastercard in transaction fees. And it could expand its core hardware business with a new product line: point-of-sale terminals for millions of cafes, restaurants and retail shops.

On the other hand, creating an iPay platform that bypasses credit card companies is fraught with complexities and obstacles. Few companies have even bothered trying, PayPal being a notable exception. Most services, such as Google Wallet, are content to offer a front-end interface that lets users plug into the incumbent credit giants.

To pull off such an ambitious plan, Apple would need to persuade many of its 400 million iTunes customers to trust it to handle payments for everyday purchases. Passbook may be an experiment to test consumer behavior around making non-iTunes transactions on iPhones. Apple would also need to win the trust of retailers, even as iPads are starting to appear in retail storefronts. But most importantly, Apple would need to navigate the complex world of financial regulations, not just in the U.S., but in every country where it offered iPay.

The announcement of Passbook got Wall Street analysts wondering again about the likelihood of iPay. JP Morgan's Moskowitz called Passbook a clear precursor to iPay. And Credit Suisse mused on Apple's potential as a "game changer" in online payments, noting that "Apple has the most potential to disrupt the payment system" and "could become even more disruptive..., both directly and indirectly." 

Apple doesn't seem impatient to turn Passbook or iTunes into something big like iPay. But the company's technology has sprawled into so many other industries that it already has many pieces in place to become an overnight player in online payments. If it ever made such a move, the consumer credit card could go the way of the GPS navigation device.