Customer Acquisition

[jnusser]

To kick off our forum discussion around customer acquisition, I wanted to share a section of a best practices guide that we’ve been working on. One of the overlooked issues of acquiring new customers is how to manage the fraud and chargeback rates. The excerpt below dives into more detail on this topic. Let us know what you think!

Fraud & Customer Acquisition

Fraud rates have been mentioned as a consideration for acquisition channels and promotions, but online merchants are faced with unique fraud challenges that require careful planning to avoid associated fines and penalties.

Online merchants face the unique challenge of dealing with fraud networks that target any merchant allowing small purchases. These networks use online merchants to test stolen credit cards before making larger purchases either at that merchant, or others. The downside for online merchants is the need to provide refunds and manage chargebacks associated with stolen cards. For digital merchants, providing a refund on goods with a negligible production cost or cost of goods sold (COGS) is easy. However, specifically for credit card acceptance, limits are placed around the amount of chargebacks allowed.

Chargebacks are a dispute process that allows customers to protect themselves from unscrupulous merchants or from stolen credit cards. If a customer’s credit card is stolen, they are generally not responsible for the charges and merchants must “eat” the cost of goods provided. Chargebacks that fall into this category are classified as “true fraud”. Additionally, some customers abuse this chargeback process to avoid paying for goods or services that they have received. These latter chargebacks are called “friendly fraud”.  Card networks, such as Visa, Mastercard and American Express limit the overall number of chargebacks allowed for any merchant. Typically, this limit is around 1% of all transaction volume. Merchants who exceed this limit are severely fined and can even be prevented from accepting credit cards ever again.

These limits mean that it is very important for merchants to monitor and manage their fraud. If true fraud is missed, it leads to lost potential revenue and chargeback fees. Friendly fraud results in actual lost revenue and lower overall community quality. The other side of fraud is that if a merchant leaves a “hole” in their service, fraud networks will find a way to exploit it. Merchants must work diligently to ensure that each new product, feature, promotion or channel partner is helping to stay ahead of potential fraud.

On the other hand, merchants who have a chargeback rate far below the 1% limit are neglecting customer acquisition to limit fraud and are throttling their growth and revenue. Merchants should not aim to eliminate fraud, but rather to balance customer acquisition with the amount of chargebacks received. This is especially true for merchants selling digital goods and services with minimal COGS. A general best practice is to maintain a chargeback rate around 0.8%. This is an optimal rate, but should not be exceeded to allow for unexpected spikes in activity.

Merchants with the right tools to track and manage their chargeback rate have a huge advantage in selling digital products and services online.  For example, if a merchant can accurately track their chargeback rate, they know how much appetite for risk they have at any given time and can increase or decrease their promotional activity accordingly. Alternatively, if a merchant sees a spike in chargebacks, they can offer promotions to existing customers with a good billing history in order to increase the amount of good transactions, thereby lowering the effect of the chargebacks. The key takeaway for merchants looking to control fraud and maximize profits should be to involve the team responsible for fraud and chargebacks into the marketing and acquisition process.