New case highlights the confused state of gift card regulation

The collapse of Dick Smith has reinvigorated the legal and moral debate over the rights of gift card holders when a company enters administration. Most of the time, public perception is the most important factor

 
Feature image
Gift cards are a popular gift, seen as more thoughtful than cash. In reality, however, companies gain and individuals lose out, especially when insolvency proceedings begin

Author: Callum Glennen

29 Jan 2016

Dick Smith, an electronics company that at its peak operated almost 400 stores across Australia and New Zealand, is now in the hands of administrators following months of disappointing sales. Though the shops remain open, anyone who received a gift card for Christmas will be unable to use it. Indeed, the rights of gift card holders have become a somewhat murky affair during retailer meltdowns.

Gift cards not being honoured when a company goes into administration is quite common. Card holders are considered unsecured creditors on company books; they are owed money by the company but do not hold a security interest over assets. If a company is liquidated, secured creditors such as banks ensure they are paid back first, although this is little consolation to anyone affected, since the perception is that gift cards are as good as cash.

It’s an issue that has come up more recently thanks to an increasing number of high profile retail collapses. US bookseller Borders filed for bankruptcy in February 2011 and the legal rights of consumers who had an unspent gift card were a matter of debate for several years after. An estimated 17.7 million gift cards worth a total $210.5m were unspent when trading ceased. It was only last year that the case was finally dismissed by the US Supreme Court.

Gift cards not being honoured when a company goes into administration is quite common. Card holders are considered unsecured creditors on company books

More fortunate were cardholders at US electronics retailer RadioShack last year. It accepted gift cards after filing for bankruptcy, but only for 30 days. However, following a decision by a Delaware bankruptcy judge, card holders will now be partially or fully refunded through an online claim system. If they are able to find a RadioShack store that is still open they can even use their cards, but only for half the value of their purchase, for RadioShack’s home brand products.

Similar cancelations and reinstatements of gift cards occurred in the UK when JJB Sports, HMV and Comet all went through their respective administrations.

In the case of Dick Smith, people are particularly frustrated. In the lead up to Christmas, customers were offered an extra 10 percent value on cards. Some spent big, hoping to cash in on Boxing Day discounts. If they didn’t sneak into the store before January 5, they were out of luck.

Showing faith
Outside of legal requirements, the incentive for businesses to accept gift cards while in the hands of administrators is largely one of good faith. The negative attention that comes with refusing to honour them might be enough to sour the brand and discourage potential buyers. Retailers usually go under at the beginning of a year thanks to poor holiday sales: this is also when the largest number of gift cards are in circulation, so public scrutiny is at a high.

The UK Department for Business, Innovation and Skills asked the Law Commission in September 2014 to examine the strength of the protections available to consumers, with a report in development. This relates particularly to the hierarchy in which people owed by a company would be paid out, and the recommendations could have a significant effect on retailer finances. An analysis published on Law360 suggested that, if the pool of people who would be paid out when a company goes under increases, the costs of lending to retailers could go up to match the new risk. The final report from the Law Commission is expected mid-2016.

The benefits of gift cards for retailers are many. Money from gift cards is sitting in the bank earning interest. It will also usually be worth a tiny bit less when the customer spends it, thanks to inflation

The gift card sector is massive, and continues to grow. CEB TowerGroup has been publishing an annual analysis of the US gift card industry since 2009. In 2015, yearly sales reached $130bn, a six-percent increase over the previous year. In 2009, that figure was a little over $80bn. The UK shows a similar rate of growth according to research conducted by the UK Gift Card and Voucher Association, with annual sales recorded at £3.3bn in 2007 and increasing to £5.4bn in 2014, the most recent data available. Their research also showed cards sold to consumers only made up 55 percent of the industry, the rest being corporate sales.

Spilling over
The benefits of gift cards for retailers are many. Money from gift cards is sitting in the bank earning interest. It will also usually be worth a tiny bit less when the customer spends it, thanks to inflation. If a customer spends a little less than the gift card’s value, the money goes directly to the store. Same if the gift card is lost or forgotten.

However, instances where gift cards go unspent make up the vast minority of cases. According to the 2015 CEB TowerGroup report, industry spillage, the unused value of gift cards, accounted for less than one percent of total volume. This is down from 10 percent in 2007. This low value was attributed to the 2009 Credit CARD Act passed in the US, which required gift cards remain valid for a minimum of five years. In the UK, which lacks a similar regulation, spillage is somewhat higher. According to the UKGCVA in 2014, approximately six percent of UK vouchers go unused.

However it’s in the best interests of retailers that people actually use their gift cards. This is primarily because the value of gift cards is difficult to use exactly;, people generally tend to spend more rather than less. According to the CEB’s research, 65 percent of gift card users spend 38 percent over the face value of their cards when they use them.

Gift cards are an easy, convenient and well received gift, a fact that is unlikely to change anytime soon. But while consumers remain unsure about what protections they are afforded, it’s not impossible to imagine a time where that might change. If people feel they were duped by dud gift cards, deciding to give cash instead is an all-too-easy alternative.