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What Apple’s Payments Play Means for Credit Cards

The new Apple Pay is unlikely to disrupt payment networks or credit card issuers--and should even expand network volume, writes Morningstar’s Jim Sinegal.

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 Apple (AAPL) has announced that its new iPhones will incorporate a mobile payment system called Apple Pay, which will initially allow users to pay with their phones using cards issued by major U.S. banks. We don't think the technology--which essentially functions as a secure storage mechanism for payment data--is disruptive to the moats of networks or issuers, since it will allow customers to use a variety of payment options. We expect network volumes to expand even as the form of electronic transactions transitions from cash to card to digital, and are maintaining our fair value estimates. 

It is, however, an interesting technological change. Rather than storing a single card number, Apple Pay stores its own account number and generates unique data for individual transactions after validating the card with the issuer. Instead of a magnetic stripe and reader, Apple Pay will use a secure element to store the data and near-field communication to transfer it to merchants at the point of sale. Its fingerprint sensor adds a layer of security. We see better security as a major selling point for consumers and retailers. Furthermore, Apple has reportedly negotiated lower interchange fees in exchange for the security improvements, which could offset the impact of lower fees on issuers.

Apple is also dipping its toes into the merchant acquirer space, working with a variety of large merchants to enable immediate acceptance of Apple Pay and overcoming another significant hurdle. We have long believed that marketing and rewards will be the focus of competition in the payment sector, and these partnerships--as well as Apple Pay's likely dominance of the digital wallet--position the company well for a variety of opportunities in this much massive market. Aggregator firms like OpenTable and Groupon were specifically mentioned in the announcement, and Apple has already developed the iBeacon, which could enable numerous retail applications.

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Jim Sinegal does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.