2006 ATM

Deployer Study

The Stratification of the ATM Industry

Executive Summary

Prepared by

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 Copyright © 2006

CO-OP Financial Services

NYCE Payments Network, LLC

PULSE EFT Association, LP

STAR Networks, Inc.

Dove Consulting, a Division of Hitachi Consulting

September 2006

All rights reserved. Reproduction by any method or unauthorized circulation is

strictly prohibited, and is a violation of federal copyright law.

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CO-OP Financial Services is the nation’s
largest credit union EFT network and
processor. Established in 1981 and located in
Ontario, CA, CO-OP Financial Services
(formerly CO-OP Network) is wholly-owned
by its credit union shareholders and provides
volume discounts on products and services
that include ATM network access, ATM
processing, debit/card services and shared
branching. With nearly 2,000 credit union
members, more than 25,000 surcharge-free
ATMs (including 6,000 deposit-taking), 100
million-plus monthly transactions and 24
million cardholders, CO-OP Financial Services
is the largest CUSO in the U.S. financial
services industry. CO-OP Financial Services
membership has access to over 800,000
ATMs worldwide through links to NYCE, STAR,
Cirrus, PULSE and Plus.

For more information on CO-OP Financial

Services, visit: www.co-opfs.org or call
800-782-9042.

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Dove Consulting, a division of Hitachi
Consulting, is a Boston-based consulting
practice specializing in strategy and
organizational effectiveness. Dove’s value
proposition—deep expertise for immediate
value, sincere collaboration with clients, and
the delivery of clear results—has enabled the
practice to become a highly valued and
trusted advisor to leading companies and
their executive teams all over the world.
Founded in 1981, Dove offers deep expertise
in defined industry areas: financial services,
consumer broadband, consumer packaged
goods, high technology, and government.

The practice’s Financial Services Group is a

leader in developing retail payments,
distribution, and customer strategies. The
group has performed payment strategy work
with banks (including eight of the Top 10),
credit unions, major payment networks and
processors, and government entities.

Our client consulting work is supported by an

ongoing commitment to industry research.
Our primary research has addressed payment
trends related to consumers, retailers, ATM
deployers, card issuers, and remittance
processors.

For more information on Dove Consulting,

visit: www.doveconsulting.com or call
617-482–2100.

Study Authors

Christopher D’Ambrosio
Melissa Fox
Tony Hayes

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Executive Summary

The ATM industry reached an inflection point in 1996, when the widespread
adoption of surcharging redefined the ATM business model that had existed for
almost thirty years. Ten years later, in 2006, we have reached the industry’s
second inflection point.

In 2004, findings from the ATM Deployer Study showed an industry at a

crossroads. Deployment growth was outpacing transaction growth, resulting in
declining per-ATM transaction levels—particularly foreign acquired (i.e., revenue-
producing) transaction levels. Declining revenues, coupled with fixed or
increasing costs driven by regulatory requirements (e.g., Triple DES) and
increased rent and cost of funds, were putting increasing pressure on deployers’
profitability. As a result, the ATM industry was in search of a new model.

Over the last two years, the search for a new model has prompted many
deployers, particularly financial institutions, to re-evaluate the role of the ATM:
Is the ATM purely a cash dispenser, or is it a strategic customer delivery
channel?

How deployers choose to answer that question underpins their ATM strategy, and
determines how they manage their ATMs—from how many they deploy and
where they deploy them, to what functionality they support and what software
they run. As a result, we are now entering a third phase in the evolution of the
ATM industry, one that is characterized by the stratification of deployers’ ATM
strategies: the search for a new model has resulted not in one new model, but
many new models.

Evolution of the ATM Industry

Figure 1.1
Overview of the Evolution of the ATM Industry from 1969 to 2006

Phase I: Phase 2: Phase 3:

Channel Emergence Era of Surcharging Industry Stratification
1969-1996 1996-2005 2006

ATMs emerge as a distinct and
viable channel.
„ Proprietary ATMs
„ Emergence of shared EFT networks
„ Deployment and usage growth
„ Focus on customer service and
convenience
Deployment growth booms; ATMs
become P&Ls.
„ New revenue sources
„ New entrants
„ Surge in deployments
Profitability declines.
„ Declining per-ATM txn levels
„ Declining revenue
FI deployers split along
strategic dimensions:
„ Role of the ATM
- Cash dispenser
- Full service channel
„ Fee-free access
- Shared access
- Owned/branded access

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 „ Rising costs

Industry Stratification
Over the last few years, most of the traditional metrics for measuring ATM
performance—transactions per ATM, revenue per ATM, profit per ATM—have
been declining. As a result, many deployers have been redefining how they
assess the value of their ATM network and refocusing on customer needs and
preferences. Many are now coming full circle and returning to the historical roots
of the ATM as a customer service channel, looking at the ATM not as a stand-
alone profit center but as a critical customer touch point. At the same time,
rising costs, compliance requirements, and technology advancements have
compelled deployers to begin making decisions—either explicitly or implicitly—
regarding their ATM placements, technology investments and operations
infrastructure.

Changing dynamics have prompted deployers to re-evaluate their investment

priorities and make a number of strategic decisions that will set the course for
the future direction of their ATM networks.

„ As surcharge levels have continued to rise, FIs have aggressively pursued a

variety of ways to increase their cardholders’ fee-free access to ATMs through
branding deals, surcharge-free alliances, and surcharge reimbursement.
— For ISOs, the trend towards fee-free access has provided opportunities to
partner with FIs and EFT networks, helping to diversify revenue streams
and maintain transaction levels.
„ Triple DES requirements, combined with the obsolescence of OS/2, have
driven wholesale ATM replacements—effectively ‘refreshing’ many deployers’
networks.
„ With a new, more flexible technology platform, some deployers are beginning
to be able to offer a more dynamic and engaging user experience (e.g.,
preferences, targeted marketing).
„ Although some deployers are still evaluating the business case for deposit
imaging at the ATM, many have made investments in imaging technology and
back office processes, and image-enabled ATMs are now moving from pilot to
roll-out—with reports of positive customer experiences to date.

As a result of these and other strategic decisions, the ATM industry is stratifying,
with deployers bifurcating along two dimensions: ATM access and user
experience.

ATM Access

Due to declines in average transactions per ATM, most FI ATMs lose money, as
measured on a direct basis. Deployers have responded by attempting to cut
costs (through operational efficiencies or by removing unprofitable ATMs) and/or
increasing their revenues (by raising their fee levels). Although fee increases
have propped up revenues for individual deployers, rising fee levels overall are
perpetuating a ‘death spiral’ of deteriorating ATM economics—and at the same
time heightening the importance of providing fee-free ATM access.

As deployers raise their surcharge rates, the value cardholders place on

convenient, fee-free access to ATMs increases. In this environment, offering a

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 large, local, free ATM network becomes an increasingly important part of an FI’s
value proposition and an important tool for attracting and retaining customers.
ATM users typically rank ATM convenience as one of the most important factors
(if not the most important factor) in selecting an FI—and the advantages of
providing fee-free access will only become more pronounced over time.
In the current ATM environment, there is an ongoing tension between access and
cost, as deployers evaluate the trade-offs between reducing expenses and
maximizing cardholder access—and that tension is unlikely to dissipate over the
next few years. All FI deployers will strive to achieve low-cost, fee-free ATM
access for their cardholders: how they achieve that objective, however will vary
depending on their strategic priorities.

„ Some FIs (primarily smaller institutions) will likely choose to reduce the size
of their individually owned ATM fleets and move to more of a ‘shared-access’
model. They will join surcharge-free alliances/networks to extend their reach,
and may reimburse surcharge fees at other deployers’ ATMs. For the ATMs
they continue to deploy, they will outsource more and more components of
their network operations to third parties in order to reduce costs and
complexity.
„ Other FIs, particularly large banks, will continue to expand their proprietary
ATM networks, often in conjunction with de novo branch expansion, and will
enter into branding partnerships with ISOs for ‘opportunistic expansion’ in the
off-premise space. They may turn to independent providers (rather than ATM
manufacturers) as a means of lowering ATM servicing costs.
Early indicators of this division are appearing in the marketplace, as large banks
aggressively pursue exclusive branding agreements, and selective surcharge
alliances/networks negotiate shared access to ISO ATMs on behalf of their
members.

User Experience
To date, the role of the ATM has been derivative of the technology in place: as
defined by legacy technology and systems, most ATMs today deliver a functional,
generic customer experience. As deployers upgrade to Windows operating
systems, open software, and multi-server connectivity, however, they have an
opportunity to redefine the role of the ATM and to differentiate the user
experience (should they choose to do so).

There are two schools of thought as to what the role of the ATM is and will be:

„ The ATM is a cash dispenser. Consumers want ATMs to dispense cash;

that is how they have always used them, and they have little interest in an
expanded transaction set. The use of cash is declining, and will continue to
decline, as consumers migrate to card-based payments.
„ ATMs are a critical, full-function customer delivery channel. More
customers are using ATMs than ever before; service transactions are
increasingly being conducted outside bank branches (at ATMs, online, etc.);
cash and deposits will continue to be a mainstay of the customer relationship.

How deployers view the role of the ATM will be a primary determinant of their
future channel investment and the user experience they create.

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 „ Deployers that view ATMs purely as cash dispensers will minimize their
investment in a ‘declining’ ATM channel. The user experience at these ATMs
will continue to be functional, but generic.
„ Deployers that view ATMs as a critical, full-function customer delivery channel
will invest in creating a compelling user experience at the ATM. For this
group, the future of ATMs will be marked by a shift from a homogenous to a
heterogeneous customer experience, and ultimately the ATM will become a
1:1 customer relationship and marketing vehicle. ATMs will become more
than just cash dispensers; they will become ‘points of banking.’

As deployers envision the future user experience at their ATMs, their goals are
dictating their investments in ATM hardware, terminal software, and all aspects
of their network operations (servicing, terminal driving, back office operations,
etc.), as they lay the foundation for their channel strategy.

Diverging Paths

Historically, the operating model for the ATM industry has been based on
proprietary ATM networks and a generic user experience. Over the next five
years, deployers’ ATM strategies will become stratified: some deployers will
focus on minimizing the cost of owning and operating a large network of basic
cash dispensers; others will focus on providing access to a large network of basic
cash dispensers—but not necessarily on owning and operating them. Still others
will focus on leveraging their investments in technology and advanced
functionality to improve and differentiate the ATM user experience.

Stratification of Deployer Strategies

Figure 1.2
Illustration of Deployers’ Strategic Options

Today Tomorrow
Experience Experience

Highly differentiated Highly differentiated

Access Access

Shared Owned Shared Owned

Basic appliance Basic appliance

As deployers pursue the strategies that will best meet their needs, and the needs
of their customers, the evolution of the ATM industry will no longer be a single
path, but rather an array of diverging paths.

As the ATM industry’s business model evolves and deployers’ strategies diverge,
it is increasingly important to understand deployers’ perspectives and outlooks—
since it is their needs and priorities that will shape the future direction(s) of the
ATM industry. To this end, the 2006 ATM Deployer Study provides an in-depth

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 look at current ATM performance metrics and recent trends and developments,
and presents an outlook for the next few years.

Study Objectives & Methodology

ATMs are bought, installed, managed, and operated by deployers. In order to
understand the most critical performance metrics and trends in the industry—
terminals, transaction volumes, functionality, surcharges, costs—one must go
directly to the ATM deployers themselves. Accordingly, the 2006 ATM Deployer
Study findings are based on data collected from a representative sample of U.S.
ATM deployers.

The 2006 ATM Deployer Study is the fourth in a series of bi-annual studies
sponsored by the leading EFT networks that tracks the ongoing evolution of the
ATM industry. To the best of our knowledge, the 2006 ATM Deployer Study is
the definitive primary research study tracking the ongoing evolution of the U.S.
ATM industry and benchmarking ATM deployer performance. This study is
intended to provide an assessment of the ATM industry and to serve as a tool for
measuring deployers’ performance relative to the industry and their peers.

In particular, this study covers several key topics, including:

„ Terminal deployment trends

„ Historical, current, and future transaction levels
„ Adoption of (and interest in) advanced ATM functionality
„ Experience with and perceptions of check imaging at the ATM
„ Network operations and performance metrics
„ Technology trends (migration to Windows, next generation software)
„ Trends in surcharging and surcharge-free access
„ Deployer economics and revenue/cost structures
The findings presented in the 2006 ATM Deployer Study are based on survey
responses from 161 deployers from across the country representing 134,110
ATMs. The survey sample represents 34% of the estimated 396,000 ATMs
installed in the U.S. 1, and includes deployers of all types and sizes. Many of the
industry’s most influential players participated in the study, including 26 of the
top 50 retail banks (and 8 of the top 10), 12 of the top 25 credit unions, and 3 of
the top 10 ISO ATM owners.

1
SourceMedia, ATM & Debit News, 2006 EFT Data Book

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 Deployer Sample

Figure 1.3
Segment Definitions and Number of Respondents and ATMs by Segment

# of # of
Definition Deployers % ATMs %
Large Bank Assets $10Bn or higher 28 17% 65,077 49%
Other Bank Assets less than $10Bn 57 35% 3,068 2%
Assets $500MM or
Large CU 38 24% 2,526 2%
higher
Assets less than 14 9% 237 0%
Other CU
$500MM
Large ISO 2,500 ATMs or more 7 4% 54,559 41%
Other ISO Fewer than 2,500 ATMs 17 11% 8,643 6%
Total 161 100% 134,110 100%

The data collected for the 2006 ATM Deployer Study is a nationally
representative sample that provides a comprehensive view of the ATM industry
from which meaningful inferences and conclusions can be drawn.

ATM Deployment
Over the last ten years, the base of terminals installed in the U.S. has increased
from 139,000 to 396,000—an average annual growth rate of 12%2. More
recently, however, growth in terminal deployments has slowed significantly:
between 1996 and 2001, ATM deployments grew at an average annual rate of
18%; between 2001 and 2004, deployments grew at an average annual rate of
6%; since 2004, deployments have increased only 3% per year.

Deployment Growth

Although industry deployments are increasing at a rate of 3% per year, individual

deployers have experienced higher average annual growth rates due to both
organic growth and mergers/acquisitions, with most deployer segments’ average
growth rates ranging from 2% to 10% (large ISOs being the one exception).

2 SourceMedia, ATM & Debit News, 2006 EFT Data Book

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 Average Annual Growth, 2004-2006

Figure 1.4
Average Annual Growth of On- and Off-Premise ATMs by Deployer Segment from 2004 to
2006

On-Premise Off-Premise
Large Bank 9% 7%
Other Bank 7% 9%
Large CU 8% 2%
Other CU 5% 3%
Large ISO N/A 43%
Other ISO N/A 8%

New ATM Purchases

The majority of ATM purchases over the last two years have been replacements
for existing terminals, as deployers upgrade their ATM networks to meet
compliance requirements and migrate to new technology platforms. 92% of FIs’
on-premise ATMs and 90% of their off-premise ATMs are now Triple DES
compliant, and 74% and 90% of their on-premise and off-premise ATMs,
respectively, have encrypted PIN pads. For ISOs, 65% of their ATMs are Triple
DES compliant, and 59% have encrypted PIN pads.

Hardware Features

Figure 1.5
Percentage of ATMs that Have Different Hardware Features by Type/Location

95%
Deposits 22%

92%
Triple DES 90%
65%
Encrypted PIN 74%
90%
Pads
59%
69%
Color Screen 81%
54%
53%
Audio-Enabled 53%
32%
13%
Touch Screen 13%
0%

0% 20% 40% 60% 80% 100%

ISO FI Off-Premise FI On-Premise

Looking forward, almost all deployers plan to continue expanding their ATM
networks, although most of the new terminals purchased between now and 2008
are intended to replace exiting terminals; 100% of them are expected to be
Triple DES compliant, and the vast majority will have encrypted PIN pads and

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 color screens. Most of deployers’ intended ATM purchases will be from NCR,
Triton, and Diebold, which together are on track to supply 70% of the demand
for new terminals over the next two years.

ATM Transactions
For individual deployers, the single most important performance metric is the
number of monthly transactions performed at their ATMs on a per-terminal basis,
which ultimately determines the viability of an ATM placement. The number of
on-us transactions per ATM is a primary indicator of the degree to which an ATM
is meeting the needs of an FI’s customers, while the number of foreign
transactions has a direct impact on ATM revenue and the financial profitability of
an ATM.

Per-ATM Transaction Volumes

The average number of monthly transactions per ATM varies significantly

depending on the type of ATM deployer and the location in which an ATM is
placed. FIs’ on-premise ATMs currently average 3,651 transactions per ATM per
month, compared to 1,807 for their off-premise ATMs and 329 for ISO ATMs.

Per-ATM Transaction Profile

Figure 1.6
Average Monthly Transactions per ATM and Foreign Transactions per ATM by ATM
Type/Location

Note: ISO average reflects a blend of ISO-Owned and Merchant-Owned ATMs

FI On-Premise FI Off-Premise ISO

Average Txns/ATM 3,651 1,807 329
% Foreign Acquired 20% 49% 100%
Average Foreign
730 885 329
Txns/ATM

The percentage of transactions that are foreign acquired (i.e., performed by non-
FI cardholders) also varies by deployer type and ATM location. At FIs’ on-
premise ATMs, 20% of transactions, on average, are foreign acquired, compared
to 49% of transactions at their off-premise ATMs. For ISOs, which do not have
cardholders, all transactions are, by definition, foreign acquired.

Among deployers of on-premise ATMs, large credit unions have the highest per-
ATM volumes, averaging 5,601 transactions per month, compared to 5,088 for
smaller credit unions, 4,500 for large banks, and 1,910 for smaller banks. Credit
unions also have the highest per-ATM volumes in the off-premise space,
averaging 2,409 transactions per ATM per month for large credit unions and
2,266 for smaller credit unions. Large banks average 1,996 transactions per ATM
and smaller banks 1,235. ISOs have the lowest average transactions per ATM,
with large ISOs averaging 328 transactions per ATM, and smaller ISOs 330.

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 Per-ATM Transaction Profile by Segment

Figure 1.7
Average Monthly Transactions per ATM by Deployer Segment

Note: ISO average reflects a blend of ISO-Owned and Merchant-Owned ATMs

On-Premise Off-Premise
Large CU 5,601 2,409
Other CU 5,088 2,266
Large Bank 4,500 1,996
Other Bank 1,910 1,235
Other ISO N/A 330
Large ISO N/A 328

Although volumes vary among deployer segments, across almost all segments,
deployers are experiencing a decline in per-ATM transaction levels. Between
2004 and 2006, deployers’ average number of monthly transactions per on-
premise ATM fell from 4,216 to 3,651, representing an annual decline of 7%.
Similarly, per-ATM transaction volumes for off-premise ATMs decreased at an
annual rate of 8%, from 2,123 in 2004 to 1,807 in 2006. ISOs’ transaction
volumes, for the most part, have remained flat.

As per-ATM transaction levels decline and the percentage of foreign acquired

transactions stagnates, the number of foreign acquired transactions per ATM—
the number of transactions that produce revenue for deployers in the form of
surcharge fees and interchange fees—is decreasing. This trend means that, in
the absence of a surcharge-rate increase, deployers’ direct revenues per ATM are
declining—and by extension, deployers’ profit margins are being increasingly
squeezed.

Industry Transaction Volume

Based on transaction data provided by deployers and the estimated number of

ATMs per deployer segment, we calculate that, currently, 8.0 billion transactions
are performed at U.S. ATMs annually, representing a total of $600 billion in cash
dispensed.

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 Total U.S. ATM Transactions

Figure 1.8
Total Annual Number of ATM Transactions for On-Premise, Off-Premise, and ISO ATMs

Average
Transactions Total Annual
Total ATMs per ATM Transactions
On-Premise 130,000 3,651 5.7 Bn
Off-Premise 71,000 1,807 1.5 Bn
ISO 195,000 329 0.8 Bn
Total 396,000 8.0 Bn

It is interesting to note that while ISOs account for almost half of all ATM
placements, they represent only 10% of the industry’s estimated total ATM
transaction volume.

Redefining ATM Performance

As the number of transactions per ATM (and foreign transactions per ATM in
particular) continues to decline, deployers are redefining the role of the ATM—
and therefore will need to recalibrate how they measure ATM performance.

For those deployers that are refocusing on the ATM as a strategic customer touch
point, old metrics such as transactions per ATM and revenue per ATM will be less
relevant, and over time, these metrics may be replaced by new metrics such as
percentage of customers that use an ATM, the profitability of customers that use
ATMs, new accounts attributed to ATMs, balances and relationships saved due to
ATMs, and the percentage of customers who are cross-sold at an ATM.

ATM Functionality
Thirty years after ATMs were first deployed, their primary function—withdrawing
cash—remains the same. Cash withdrawals continue to account for the vast
majority of ATM transactions (75%), and other standard transactions (deposits,
transfers, inquiries) account for 23% of ATM transactions. Only 2% of
transactions are ‘other’ or advanced functions. However, as deployers re-
evaluate the role of the ATM, some are taking another look at advanced
functionality.

Advanced functionalities fall into three main categories: advanced banking

functionalities such as mini statements and bill payment, value-added
functionalities such as stamps and cell phone ‘top ups’, and marketing/customer
relationship management (CRM) functionalities such as targeted marketing and
cardholder preferences.

Most of the advanced features currently offered by deployers are banking

functions: shared deposits are offered by 37% of deployers, domestic account-
to-account transfers by 26%, and mini statements by 23%. The only value-add
and marketing/CRM functions that have gained significant adoption are stamps

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 (offered by 24% of deployers) and slide-show advertising (offered by 21% of
deployers).

Current ATM Functionality

Figure 1.9
Percentage of Deployers that Offer Different Banking, Value Add, and Marketing/CRM
Functionality

Note: Only functionality supported by at least 5% of deployers is shown.

Shared Deposits 37%

Domestic A2A Transfers 26%
Stamps 24%
Mini Statements 23%
Slide Show Advertising 21%
Multi-Currency 19%
FI Billpay 17%
Envelope-Free Deposits 11%
Targeted Marketing 10%
Coupons 10%
Product Offers 9%
'Internet Look and Feel' 7%
Full Statements 7%
Bulk Cash Acceptance
6%
Check Cashing 6%

0% 10% 20% 30% 40%

Banking Value-Add Marketing/CRM

Although the current penetration of advanced marketing/CRM functions is low,

deployers’ interest in these functions is high. Of the top ten functions deployers
indicate interest in, seven of them are features that will enable deployers to tailor
the user experience to individual cardholders and strengthen their customer
relationships and cross-selling capabilities. Deployers’ top three areas of interest
for future advanced functionality are targeted marketing campaigns, product
offers (e.g., credit card solicitations), and cardholder preferences.

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 Interest in ATM Functionality

Figure 1.10
Average Interest Ratings for Functionality Not Currently Offered

Note: Interest ratings are based on a scale of 1-10, where 1 = Not Interested and 10 = Extremely
Interested.

Targeted Marketing 6.6

Product Offerings 5.8

Cardholder Preferences 5.3

Envelope-Free Deposits 5.1

Request Information 4.4

'Internet Look and Feel' 4.3

Full Motion Advertising 4.1

Slide Show Advertising 3.9

Bulk Cash Acceptance 3.9

Prepaid Card Purchases 3.3

1 2 3 4 5 6 7

Banking Value-Add Marketing/CRM

The industry is now at a crossroads with respect to ATM innovation. For

deployers that view and manage the channel using traditional metrics,
investment in new functionality will be minimal. On the other hand, deployers
that view ATMs as a strategic channel and a point of banking will leverage new
functionality to create a differentiated customer experience at their ATMs. For
these deployers, functionality will not be defined in terms of specific functions,
however, but in terms of the level of personalized service and convenience it
offers.

Check Imaging at the ATM

Deposits have been part of the standard ATM transaction set for decades, but
with new legislation and improved technology, ATM deposits are now taking
center stage.

The Check Clearing Act for the 21st Century (Check 21) was signed into law in
October 2003, giving substitute checks the same legal status as the paper
checks, and paving the way for check imaging at the ATM. After three years of
testing and pilots, it appears as though imaging ATMs are ready to hit the
mainstream.

„ Wells Fargo recently announced plans to add imaging capability to 400

terminals by the end of 2006.3
„ Bank of America has announced plans to rollout 1,500 imaging ATMs by the
end of the 2006.4

3 Wells Fargo Press Release, May 25, 2006.

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 There are many potential benefits associated with imaging check deposits—
including cost savings, extended ATM cut-off times, reduced check fraud, and
increased ATM deposit volumes—which have driven the recent investment in
imaging ATMs. There are also, however, a number of challenges and issues that
still need to be addressed as FIs roll-out image-enabled ATMs: introducing
imaging technology and processes requires significant investment, and those
costs may outweigh the benefits for some deployers; similarly, some deployers
are still deciding whether envelope-free ATMs are really better than envelope-
deposit ATMs in terms of transaction speed, reliability, and consistency of
experience.

Currently, the deployment of image-enabled ATMs is limited to large banks and

large credit unions—although deployers across all segments indicate plans to
begin piloting image-enabled ATMs within the next 12 months.

Deployers with Imaging ATMs

Figure 1.11
Percentage of Deployers that Currently Deploy or Plan to Deploy Imaging ATMs, by
Segment

100% 7%
21% 19%
21% 31%
80%
57%
60% 37%
41%
93%
40% 81%
69%

20% 43% 43%

35%

0%
Large Other Large CU Other CU Large Other
Bank Bank ISO ISO

Yes, have imaging ATMs

No, but plan to offer within 12 months
No, and no plans to offer within 12 months

Although a sizable number of larger FIs have begun to deploy imaging ATMs,
these terminals represent only a very small portion of their overall ATM fleets.
This dynamic is set to change, however, as FIs that currently have imaging ATMs
move from pilot to a broader roll-out within the next two years. Large banks that
already have image-enabled ATMs project that, by 2008, imaging ATMs will make
up 31% of their ATM networks; for large credit unions, imaging ATMs are
projected to constitute 45% of their ATM mix by 2008.

4 ATM & Debit News, "ATM Check Imaging May Finally Make Debut In The Mainstream", June 15, 2006.

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 Imaging ATMs, 2006 vs. 2008

Figure 1.12
Imaging ATMs’ Share of Deployers’ ATM Mix in 2006 and 2008

Note: Percentages are for deployers that currently have at least one imaging ATM.

2006 2008
100% 2% 100%
10%

31%
80% 80% 45%

60% 60%

98%
90%
40% 40%
69%
55%
20% 20%

0% 0%
Large Bank Large CU Large Bank Large CU

Non-Imaging ATMs Imaging ATMs Non-Imaging ATMs Imaging ATMs

Both deployers and vendors are optimistic about the future of deposit
automation. For the last two and half years, vendors have been developing and
improving imaging capabilities, deployers have been piloting and testing imaging
ATMs, and FIs have been upgrading their back offices to be able to accept and
process images. The results of these investments are about to bear fruit, and
the next five years will be a break-out period for ATM deposit automation.

Although there are still issues to be addressed, one thing is clear: with both
deployers and vendors committed to making imaging work, the focus on ATM
deposits and deposit automation will increase—and as deposit volume at ATMs
increases, the shift in transaction mix may help change the perception of the ATM
from that of a cash dispenser to that of a full self-service terminal.

ATM Operations
Operating a network of ATMs is a complex proposition involving numerous
disparate functions: ATMs must be purchased and installed; transactions must
be processed and balances settled; paper jams must be cleared and broken parts
repaired; cash must be restocked; deposits must be picked up and processed;
software must be maintained and upgraded. How a deployer manages these
functions has significant implications for its cost structure and operational
efficiency—which have become increasingly important as ATM profit margins
deteriorate.

ATM Servicing

Some deployers have been able to reduce their expenses and/or the complexity
of servicing their ATMs by outsourcing some or all of these functions to third
party providers with greater scale and focus; others have chosen to keep these
functions in-house to ensure quality and retain greater control over their
network. How and by whom an ATM network is serviced varies from deployer to
deployer depending on their network size, terminal density, and available
resources, and may vary within a deployer’s network depending on ATM location
or ownership.

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 FI deployers may service all of their ATMs in-house or rely exclusively on third
party providers, or they may use them to supplement their own in-house
capabilities. Figures 1.13 and 1.14 show FIs’ servicing infrastructures for cash
replenishment, deposit pick up, first line maintenance (FLM), and second line
maintenance (SLM) for their on-premise and off-premise ATMs.

Infrastructure – FI On-Premise Infrastructure – FI Off-Premise

Figure 1.13 Figure 1.14

FIs’ Servicing Arrangements for their On- FIs’ Servicing Arrangements for their Off-
Premise ATMs Premise ATMs

100% 100%
14% 13%
90% 23% 90%

80% 80%
29%
70% 35% 70%
% of Deployers

% of Deployers
72% 68% 73%
33% 76%
60% 60% 84%
50% 50%
40% 40%
13%
30% 58% 30%
50% 17%
20% 18% 20% 12% 15%
31%
10% 10% 12%
12% 14%
8% 9%
0% 0%
Cash Dep. FLM SLM Cash Dep. FLM SLM
Rep. Pick Up Rep. Pick Up
All Handled In-House
In-House Business Hours/3rd Party After Hours
Some In-House/Some 3rd Party
All Handled by 3rd Party

For ISOs, servicing arrangements often vary depending on which entity owns the
ATM and what kind of contract they have negotiated with the site owner. An ISO
may provide its own ATM servicing, contract with a third party, or leave servicing
to the site owner. ISOs’ servicing infrastructures for cash replenishment, first
line maintenance, and second line maintenance for their owned and merchant-
owned ATMs are depicted in Figures 1.15 and 1.16.

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 Infrastructure – ISO-Owned Infrastructure – Merchant-Owned

Figure 1.15 Figure 1.16

ISOs’ Servicing Arrangements for their ISO- ISOs’ Servicing Arrangements for their
Owned ATMs Merchant-Owned ATMs

100% 100%
14% 14%
90% 90%
27%
80% 38% 36% 80% 38%
% of Deployers

% of Deployers
70% 9% 70%
43%
60% 60%
14% 62%
50% 50%

40% 40%

30% 64% 64% 30% 62%

48%
20% 20% 43%

10% 10% 24%

0% 0%
Cash Rep. FLM SLM Cash Rep. FLM SLM

Handled In-House
Handled by Merchant/ Site Owner
Handled by Third Party

Terminal Driving

Terminal driving—transaction authorization/settlement and EFT network routing—

is a competitive, scale-driven business: the greater the transaction volume, the
lower the cost per transaction.

Overall, 67% of deployers outsource terminal driving to a third party provider;

31%, primarily large banks and credit unions, drive their terminals in-house.

„ Of those that outsource their terminal driving, 54% use one of the leading
EFT networks or their parent processing company.
„ For those deployers that maintain their terminal driving platforms in-house,
28% have an ACI BASE24 platform, 19% have a Mosaic platform, and 8%
have an S2 platform. In terms of their share of ATMs, however, ACI BASE24
has the strongest presence: 64% of ATMs with in-house terminal driving
systems connect to a BASE24 platform.

ATM Fraud

An increasingly important component of deployers’ ATM operations is detecting

and preventing ATM fraud. Defining ATM fraud can be challenging, however, as
the term can mean a variety of things: 1) that the ATM was the point of fraud,
meaning that a compromised card was used at an ATM, or 2) that the ATM was
the point of compromise, meaning that a card was compromised at an ATM.

As a point of fraud, ATMs are the primary channel for FIs’ debit card losses. In
2004, FIs had estimated net losses of $546 million due to debit card fraud, of
which $345 million (64%) was withdrawn from ATMs. As a point of compromise,
however, ATMs are not the primary source of breaches or card/PIN compromises.
According to data from Fair Isaac’s CardAlert Fraud Manager, only 3% of

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 identified cases in which perpetrators were able to obtain card track data and
PINs between January 2006 and July 2006 took place at ATMs.5

Most deployers have taken proactive steps to prevent fraud at their ATMs. In
addition to upgrading ATMs to comply with Triple DES regulations, many
deployers monitor their ATMs for false fronts and compromised parts, verify the
legitimacy of their third party servicing companies, and ensure that their
hardware and parts are certified.

ATM fraud is an issue for individual card issuers and terminal deployers—but it is
also an issue that must be addressed by the broader ATM industry. Topping
deployers’ list of industry-level initiatives to combat fraud are improving
authentication methods (moving to chip cards, biometrics, etc.), improving
transaction monitoring (through checking card verification values (CVV) and the
use of neural networks), and increased education/awareness for consumers,
merchants, and FIs.

ATM Technology
For much of their thirty-year life, ATMs have been vertically integrated devices,
combining hardware and software from one provider. The ATM technology
landscape is poised to change significantly, however, as deployers migrate from
OS/2 to Windows and from proprietary software to open standards. As hardware
and software become decoupled, deployers are no longer locked into the
proprietary software that accompanies a terminal. As a result, selecting ATM
software is becoming a strategic decision in its own right—and one that has
significant implications for deployers’ future ATM capabilities.

ATM Operating Systems

Although no longer sold, OS/2 continues to be the predominant ATM platform,

with the majority of ATMs—58%—currently running on OS/2. The prevalence of
OS/2 will not last much longer, however, as most deployers have already begun
migrating to Windows: 74% of deployers have at least one Windows ATM in their
fleet, and 23% of deployers have already migrated 100% of their ATMs to
Windows. Many deployers plan to complete their migration to Windows over the
next two years, and by 2008, 56% of deployers will be running Windows on
100% of their ATMs. In terms of the installed ATM base, 63% of ATMs in the
U.S. will be running on Windows by 2008.

5
Fair Isaac, CardAlert Fraud Manager, 2006.

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 ATM Operating System Mix, 2006 vs. 2008

Figure 1.17
Percentage of ATMs Running Different Operating Systems in 2006 and 2008

2006 2008
DOS DOS
1% 1%

Other Other
15% 14%
OS/2
22%

Windows
26% OS/2
58%
Windows
63%

Although migrating to Windows provides increased flexibility and some

operational efficiencies, deployers are facing new challenges that did not exist in
an OS/2 environment (virus protection, patch management, firewalls, etc.),
which increase the complexity of managing ATMs in the new technology
environment.

Next Generation Software

Currently, 14% of ATMs are running advanced, Windows-based software. By

2008, approximately one third of all ATMs will be running next generation
software. The percentage of ATMs running NCR’s APTRA software will increase
from 7% to 19%, and the percentage of ATMs running Diebold’s Agilis software
will increase from 5% to 9%; 3% of ATMs will be running Wincor software, and
1% will be running Phoenix’s VISTAatm. For 13% of ATMs, the software they will
be running in 2008 is still undetermined.

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 ATM Software Mix, 2006 vs. 2008

Figure 1.18
Percentage of ATMs Running Different Software Products for 2006 and 2008

Note: Percentages are based on number of ATMs.

2006 2008
Proprietary Other TBD Diebold
2% Diebold
4% 13% TCS/TCS+
TCS/TCS+ Proprietary Diebold
7%
Tranax 15% 1% Agilis
Phoenix 9%
Standard Diebold VISTA Diebold
10% Agilis 1% Diebold Other
5% Tranax 18% 2%
Diebold
25% Standard NCR
Diebold 6% NDC
Other 4%
5%
NCR
Triton
23%
Standard NCR
24% NCR NDC NCR
25% 11% APTRA
Triton 19%
Standard
NCR 27%
Tidel APTRA Wincor
Standard Fujitsu NCR 7% Tidel 3%
7% 1% Wincor Other Standard
2% 7% 8%

As deployers migrate to open, next generation software, multi-vendor software

has begun to gain traction, although examples of mass roll outs are limited.
Over time, however, it will become a more viable option—and a number of FI
deployers are interested in moving to multi-vendor platforms.

The New User Experience

Until recently, the role of an ATM, in terms of the customer experience, was well-
defined—an ATM was an ATM. That view, however, has been largely derivative
of the technology in place. In the new environment, deployers will be able to
differentiate the customer experience by terminal and/or by cardholder: the ATM
experience will not have to be generic.

For many deployers, ATMs will continue to deliver a purely functional user
experience. For others, however, the investments they have made (and are
making) in advanced Windows software are positioning them to provide a more
flexible and engaging ATM user experience. In the short term, this differentiated
experience is taking the form of more visually appealing ATM screens and
cardholder preferences. In the longer term, it will take the form of segment-level
and 1:1 marketing that enhances and differentiates customers’ ATM experiences
in a meaningful way.

Surcharging & Surcharge-Free Access

April 1, 2006 marked the 10th anniversary of the day that the cross-border ATM
networks, Plus and Cirrus, lifted their bans on ATM surcharging in the U.S. —and
fundamentally altered the dynamics of the ATM industry.

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 Surcharge Fees

In the ten years since surcharging was introduced at the national level, nearly all
deployers have incorporated surcharging into their ATM strategy and business
model. Across all segments, 97% of deployers impose a surcharge fee on at
least a portion of their foreign acquired transactions.

Deployers continue to increase the surcharge fee they charge to non-customers:

the average surcharge rate at an on-premise ATM has increased 20% over the
last five years, from $1.45 in 2001 to $1.57 in 2003 and $1.74 in 2006; similarly,
off-premise surcharge rates have increased 21% from $1.48 in 2001 to $1.65 in
2003 to $1.79 in 2006.

Average Surcharge Rates, 2001 vs. 2003 vs. 2006

Figure 1.19
Average Surcharge Rates for On- and Off-Premise ATMs for 2001, 2003, and 2006

Note: Averages are based on number of survey respondents, not ATMs (i.e., unweighted).

$2.00

$1.79
$1.74
$1.75
$1.65
$1.57
$1.48
$1.50 $1.45

$1.25

$1.00
On-Premise ATMs Off-Premise ATMs

2001 2003 2006

Combined with an average foreign fee of $1.27, consumers currently pay more
than $3.00 every time they use an ATM that is not deployed by their own FI—and
potentially much more. As the cost of using a foreign ATM increases, a
deployer’s ability to provide convenient fee-free access to ATMs is becoming
increasingly important.

One way to provide convenient fee-free ATM access is simply to deploy more
ATMs—and many FIs have historically pursued this path. In today’s environment
of declining per-ATM transaction volumes and rising costs, however, the business
case for deploying additional ATMs can be challenging. To solve this dilemma,
many deployers are pursuing one or more of the following strategies to increase
their cardholders’ ATM access:

„ Selective surcharge alliances

„ Surcharge reimbursement programs
„ ATM branding agreements

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 Selective Surcharge Alliances

Across deployer segments, credit unions are most likely to participate in selective
surcharge alliances, many of which are credit union-specific. 86% of smaller
credit unions and 79% of large credit unions participate in a selective surcharge
alliance, compared to 39% of smaller banks and 25% of large banks.

Selective surcharge alliances come in an increasing variety of ‘flavors’, and

different selective surcharge alliances have different participation requirements:
some require that all of a deployer’s ATMs participate, others only a portion of
them, while others are card-only agreements.

„ Credit unions and smaller banks are most likely to participate in reciprocal
sharing agreements, and by choice or by requirement, to share all of their
ATMs.
„ Large banks and ISOs typically share only a portion of their ATMs—and large
banks are most likely to participate in card-only agreements that expand their
cardholders’ ATM access but maintain the unique benefit provided by their
proprietary ATM network.

Surcharge Reimbursement

Reimbursing surcharge fees can be an effective tool for attracting and retaining
customers, and, for smaller FIs, can help ‘level the playing field’ in terms of ATM
access. It can also, however, be very expensive.

Currently, 48% of large banks, as well as 26% of smaller banks and 21% of large
credit unions, reimburse surcharge fees for at least some of their cardholders.

Most FIs that reimburse surcharge fees do so selectively, in highly competitive

geographic markets or for high value customers (which a bank may define by
account balance, account tier, or banking behavior). Others control their costs
by imposing limits on monthly reimbursements (either by capping the amount
they will reimburse or reimbursing cardholders for a certain number of foreign
transactions).

ATM Branding Agreements

ATM branding is one of the hottest topics in the ATM industry—and may go a long
way toward redefining industry economics.

ATM branding agreements typically exist between FIs and ISO deployers. Under
these arrangements, the ISO owns and operates an ATM, but the ATM is branded
with the FI’s logo, name, and, in some cases, ATM screens. The FI usually pays
a monthly fee to the deployer in return for surcharge-free access to that ATM for
its cardholders.

Currently, 38% of ISOs—primarily large ISOs—have one or more ATM branding

agreements with FIs in place. Another 24% are actively pursuing branding
agreements, and 33% may be interested in the future. Only 5% of ISOs are not
interested.

To date, most branding partnerships have been limited to large banks: 41% of
large banks currently have at least one branding agreement in places, and

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 another 7% are actively pursuing one. Although some smaller FIs are pursuing
branding agreements or are interested in exploring them, interest is primarily
concentrated among large banks and large credit unions.

Branding Practices – FIs

Figure 1.20
Current Participation/Interest in Branding Partnerships among FI Deployers

Large Bank 41% 7% 19% 30%

Other Bank 9% 69%

Large CU 8% 24% 66%

Other CU 14% 7% 79%

0% 20% 40% 60% 80% 100%

% of Deployers
Currently have Branding Agreements in Place
Actively Pursuing Branding Agreements
May be Interested in ATM Branding Long Term
Not Interested in ATM Branding

FIs currently pay between $90 and $300 per month to brand an ATM, with a
median fee of $250. The cost per ATM varies depending on the owner of the
ATM, the location of the ATM, and the number of transactions the FI’s
cardholders currently perform (which determines how much surcharge income
the ATM owner will be foregoing).

FIs report that their cardholders currently perform an average of 117

transactions per month at their branded ATMs, which means that, on a per-
transaction basis, FIs are paying $2.13 per cardholder transaction (plus
interchange)—a 19% premium over what they would pay to reimburse those
cardholders for surcharge fees incurred at an unbranded foreign ATM, but without
the benefit of branded recognition.

Looking forward, FIs have every reason to be optimistic about ATM branding and
the opportunities it can afford in terms of expanding their off-premise footprint
and increasing cardholders’ surcharge-free ATM access at a lower cost than
deploying ATMs. Of those FIs that have branded ATMs, three-quarters plan to
brand additional ATMs—and many of them are in the process of negotiating
additional agreements.

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ATM Economics
When the 2004 ATM Deployer Study was published, ATM deployers faced the
challenge of shrinking margins—the result of declining revenues and rapidly
increasing costs. Over the last three years, that margin pressure has not abated.

The fundamental economics of owning and operating ATMs are still misaligned.
Revenue is generated almost exclusively on a per-transaction basis (more
specifically, per foreign acquired transaction), while expenses are largely fixed
and incurred on a per-ATM basis.

Per-ATM Revenues

A number of factors are combining to further erode the number of foreign

transactions per ATM. Despite declining foreign transaction volumes, however,
deployers have successfully maintained historical revenue levels, largely by
increasing their surcharge rates. Since 2003, average per-ATM revenues for both
on- and off-premise ATMs have increased by approximately 5%.

Deployers currently earn an average of $1,104 per month at their on-premise

ATMs (64% from surcharge income and 36% from interchange income), and
$1,013 per month at their off-premise ATMs (70% from surcharge income and
30% from interchange income).

Per-ATM Revenue by Location

Figure 1.21
Average Monthly Revenue for On- and Off-Premise ATMs

Note: Average off-premise revenues include both FI and ISO deployers.

Revenue Line Item On-Premise ATMs Off-Premise ATMs

Surcharge Income $706 $709
Interchange Income $398 $304
Total $1,104 $1,013

Per-ATM Expenses

On average, deployers incur monthly operating expenses of $1,444 per on-

premise ATM, and $1,450 per off-premise ATM.

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 Per-ATM Expense by Location

Figure 1.22
Average Monthly Expenses for On-Premise and Off-Premise ATMs

Note: Average off-premise revenues include both FI and ISO deployers.

On-Premise ATMs Off-Premise ATMs

Depreciation $417 $260
Cash Replenishment $185 $221
First Line Maintenance $125 $109
Second Line Maintenance $200 $150
Telecommunications $58 $100
Terminal Driving $100 $69
Back Office Operations $179 $100
Cost of Funds $100 $100
Corporate Overhead $80 $70
Rent N/A $271
Other Expense $0 $0
Total $1,444 $1,450

In spite of deployers’ ongoing efforts to reduce expenses, the cost of managing

an ATM network, on a per-ATM basis, continues to rise. For on-premise ATMs,
the increase in expenses has been driven largely by increases in cash
replenishment costs, back office operations, and corporate overhead. The
increase in off-premise ATM expenses is due to the same factors, as well as
increases in costs of funds and rent payments.

Between 2003 and 2006, per-ATM expenses have increased for both on-premise
and off-premise ATMs. Deployers of on-premise ATMs have experienced an
average increase of 10% in expenses between 2003 and 2006; deployers of off-
premise ATMs have experienced a more significant increase of 21%.

Deployers’ per-ATM expenses vary significantly depending on the size and type of
the deployer.

For on-premise ATMs, large banks have the lowest monthly expenses per ATM,
averaging $1,131 per ATM. In comparison, large credit unions incur the highest
costs, averaging $1,976 per ATM per month. For off-premise ATMs, ISOs have
by far the lowest operating costs, with large ISOs spending $680 per month to
operate an ATM, and smaller ISOs spending $522. Smaller banks, which have
the lowest operating expenses across FI deployer segments, pay around twice
that.

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 Per-ATM Expense by Deployer Segment

Figure 1.23
Average Monthly Expense for On- and Off-Premise ATMs by Segment

On-Premise ATMs Off-Premise ATMs

Large Bank $1,131 $1,736
Other Bank $1,313 $1,256
Large Credit Union $1,976 $2,549
Other Credit Union $1,912 $2,578
Large ISO N/A $680
Other ISO N/A $522

With a much greater transaction base over which to spread their costs, however,
FIs incur much lower per-transaction costs than ISOs. Per transaction, ISOs’
costs are almost three times higher than those of banks and credit unions—and
credit unions, which have the highest monthly expenses, have the lowest costs
per transaction.

Per-Transaction Cost by Deployer Type

Figure 1.24
Average Cost per Transaction for Banks, Credit Unions, and ISOs

$1.50
$1.40

$1.00

$0.53
$0.50 $0.47

$0.00
Bank Credit Union ISO

Per-ATM Profitability

Although per-ATM profitability varies from deployer to deployer—with some

deployers operating profitable networks—on average, deployers lose $340 per
on-premise ATM per month, and $437 per off-premise ATM per month. Only ISO
deployers post a nominal positive average profit margin.

As profit margins deteriorate, many FIs are recalibrating their ATM strategies,
shifting away from revenue generation and refocusing on meeting the needs of
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 their customers. The value of FIs’ ATMs, from a customer service and delivery
standpoint, however, is not accurately reflected in measures of direct financial
profitability. As FI deployers’ focus shifts, the concept of ATM ‘profitability’—and
what that means for their distribution strategies—must be redefined.

Although an FI’s priorities will vary depending upon the role the ATM channel
plays in their broader retail banking strategy, most FIs would benefit from
looking at their ATM network as a portfolio of locations. Rather than focusing
solely on generating revenue, FIs need to assess the value of their ATMs along
two dimensions, in terms of the value derived from non-customers and the
service provided to their own customers.

ATM Value Portfolio

Figure 1.25
Matrix of Value Provided to Customers and Derived from Non-Customers

Positive

Positive Profit/ Positive Profit/

Low Customer Value High Customer Value

Maintain Invest
Direct Profit

Negative Profit/ Negative Profit/

Low Customer Value High Customer Value

Phase Out Invest Selectively

Negative
Low High
Customer Usage

Although it may not be reflected in reported averages, most FIs have a mix of
profitable and unprofitable ATMs in their networks. Those that generate high
revenues and are frequently used by customers provide the maximum value to
an FI. ATMs that are unprofitable, but that are frequently used by customers are
still critically important as part of an FI’s overall distribution delivery strategy.
ATMs that are profitable, but are not frequently used by customers, are also
important—they ‘pay for themselves’ and provide a cushion that can be used to
subsidize ATMs that are unprofitable but customer-critical. ATMs that are not
performing along either dimension should be phased out, and the cost of
operating those ATMs redeployed to better meet customers’ needs, either in the
form of new ATM placements or alternative ATM access options.

As we move into the next phase of the evolution of the ATM industry and
deployers focus on leveraging ATMs to acquire and strengthen customer
relationships, redefining the ‘profitability’ of ATM portfolios in terms of both
financial value and customer value will be critically important for ATM managers.
By balancing the costs, revenues, and customer value of their ATM networks, FIs
will put themselves in the best position to prioritize ATM channel investments.

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