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Chargebacks Are Just One Aspect of Fraud Costs

posted on: Tue Mar 21 2017

Chargebacks are a big deal. They’re a constant source of product loss and costly fees that damage profitability. It’s no wonder eCommerce operations work relentlessly to stop them.

But it’s important to remember that chargebacks are only part of the deal.

Yes, they’re an important component of one of the three ugly heads of fraud. But focusing single-mindedly on fighting chargebacks – or using tools and software that do – may actually cost you money. How? First, a reminder about the three ugly heads of fraud.

  • Direct Loss: Chargebacks and products fall into this category. So do other costs, like lost shipping expenses and time wasted by workers fulfilling fraudulent orders.
  • Direct Cost: This is the time and money you spend on the people, software, tools, third party providers, IT, etc. to fight fraud. For the vast majority of online retailers, manual reviews represent the biggest portion of this Direct Cost.
  • Revenue Loss (Opportunity Cost): This is one of the most overlooked areas of fraud costs. Case in point: in their understandable zeal to avoid fraud, it’s estimated that eCommerce operations mistakenly turn down $118 billion a year in valid orders.    

Therefore, the secret to maximizing the return on fraud prevention investment is not just stopping chargebacks. Instead, you must balance all three areas. Otherwise, you risk spending $100,000 to avoid $75,000 in fraud losses...while turning down $50,000 in perfectly good sales.

But enough theory. What are the practical implications?

Below are two scenarios based on case study results from actual Kount customers. Scenario 1 looks at the return generated by reducing chargebacks and product losses only. Scenario 2 expands the view to encompass all three costs of fraud.

  • Scenario 1: A $30 million per year online retailer experiences a not uncommon chargeback rate of 0.8%. With an average order size of $33, they lose approximately $500,000 to chargeback fees, product losses, lost shipping expense, wasted labor, etc. By reducing their chargeback rate by 35%, they can reduce Direct Loss by about $176,000 annually. All else remaining equal, that’s $176,000 added directly to profits. Of course, this assumes that the reduction in chargeback rate doesn’t come at the expense of higher Direct Costs (higher percentage of manual reviews, higher costs for additional fraud screening tools, etc.) or incur a higher rate of false positives (Revenue Loss). In reality, those two assumptions may not be valid. Depending on the online retailer, the solutions used, and the new processes implemented, there may be higher Direct Cost and greater Revenue Loss. But for this “back-of-the-envelope” example, it provides a reasonable baseline for evaluation.  

chargebacks 1

  • Scenario 2: Now, let’s assume that same $30 million per year online retailer implements an enterprise-class fraud prevention solution like Kount Complete, that makes it easy to balance all three areas. Not only is Direct Loss reduced by $176,000, but false positives are reduced by 0.8% (i.e. higher revenue). In addition, Direct Cost is cut thanks to a 50% reduction in the number of manual reviews – from 20% of orders reviewed to 10% -- at an average cost of $5 per review. The total ROI now jumps to around $674,000 (assumes a 17.5% margin on sales). Again, this scenario is based upon actual results that numerous Kount customers have experienced.

chargebacks 2

As you can see, when you expand your view of fraud beyond just chargebacks, the financial story becomes remarkably compelling. Want to explore more? Attend the How to Win at Every Stage of the Chargeback Cycle webinar at 10:00 am PST/ 1:00 pm EST on Wednesday, March 22.

chargebacks webinar