Consumers spending habits are changing. Payments once largely cash and cheques are increasingly transacted using credit cards and debit cards. In many countries, such payment technologies dominate spending on transactions over $40. But not for smaller, or 'micro', payments where costs outweigh benefits. Here the infrastructure banking network costs of processing the transaction (and therefore minimum merchant charges) are simply too high relative to the consumer benefit of convenience. But new, potentially disruptive technologies are emerging ...
Mondex was launched twenty years ago as a top-up cash card. Owned then by Natwest Bank (now by Mastercard), initially piloted in the UK town Swindon and selectively rolled-out it alas did not take off. Indeed there's even a website to protect the history of Mondex. Perhaps the technology was ahead of its time, certainly externalities such as consumer behaviour (credit/debit card usage) and technology advancement (web, mobile phones for top-ups) are more favourable today than in the 1980s/1990s.
Micropayments is a very large industry, with $2 trillion of sub-$10 transactions made globally each year. The emergence of recurring small value transaction patterns (e.g. subscriptions to Software as a Service or popular online games) is fueling demand for cost-effective micropayment processing capabilities.
Incumbent firms have been taken aback by rapid growth, huge size and captive positioning (eBay) of Paypal - a payment processor founded in 1998 and bought by eBay in 2002. In the first quarter of 2007, Paypal processed 177 million payments worth $11.4 billion (so average $64 per transaction) and claims 100 million members in 190 countries. Authorize.net, another payment processor, was purchased in June 2007 by Cybersource for $565 million - at a remarkable valuation/revenue multiple of 10x (2006 revenues were $57.5 million), this transaction highlights the substantial growth expected by industry participants.
The opportunity is attracting entrepreneurial firms and variant business models. Two broad categories are evident - offline vs online payments. Entry into offline (i.e credit/debit cards) payments is costly and complicated, requiring cooperation and/or with existing bank card issuers therefore few entrants are evident. In contrast, entry into the online payments industry has attracted several large predators - the biggest being Google.
Below are an illustrative selection of firms, early-stage entrants to successful growth firms, that are actively targeting micro-payment related trends.
Cardis - Offline micropayment buffering (using chip & pin cards)
Leverages existing credit/debit cards. Transactions aggregated in processing.
Cardis licenses technology to card issuers (banks).
Oyster - Smartcard for prepayment of train fares
Widely deployed (10m cards, 22% share) in London underground trains.
Technology licensed to transport agencies.
Paystone - Micropayments and Money transfer solutions
Targeting US and Canadian online transaction sizes of $0.25 to $5.00.
Paystone charges online merchants 2.8% + $0.10.
Google Checkout - Online sales receipts for SME businesses
Targeting online sales, integrates with Adwords & shopping cart applications.
Free processing, based on AdWords spend, then charges 1.5% + 15 pence.
Paypal - Online payments without using credit/debit cards (owned by eBay)
Dominant method for settling eBay transactions. Bundles fraud protection.
Paypal charges seller/merchant 1.9% to 2.9% (dependent on volumes) + $0.30.
Authorize.net - Gateway to accept online payments
Major online payment processor (175,000 merchants), emerging offline.
Fees vary depending on nature and volume of transaction.
How can firms hope to avoid the high minimum transaction charges? Economies of scale are not enough, as traditional credit/card payment processors handle huge volumes of transactions. Possible routes for successful lower-cost solutions are:
(a) aggregate consumer transactions. Cardis and Oyster allow a consumer to 'charge' their credit/card with a lump sum and then gradually spend this in small transactions, on which there is no processing fee.
(b) avoid traditional payment channels. Paypal and Google Checkout do not pass funds from each transaction to a bank account. This avoids merchant account fees and offers interest income.
(c) loss-leader discount to cross-sell services. Google Checkout service is relatively cheap, perhaps given its very recent launch but possibly also as the service may attract more customers to its hugely profitable Google Adwords business.
Which value proposition will triumph? Experience provides insight, suggesting multiple 'winners' and M&A activity:
(a) Segmentation will occur. As the industry emerges discrete customer groups will emerge, each with distinct preferences (which in turn are evolving and at markedly disparate stages in different countries). Segments may be defined by various attributes other than pricing such as integration (e.g. with CRM or accounting applications); international capabilities (e.g. developing market currencies); multiple channels (e.g. online, retail, mobile); specific functionality (e.g. repeat payments); or niche markets (such as Oyster card for train travel).
(b) Consolidation is inevitable and healthy. Economies of will drive lower transaction costs and efficient capital investment. Successful, innovative, entrepreneurial firms will be purchased by established professional giants with capabilities and expertise in scaling business opportunities.
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