STRATEGIES May 2012 digitaltransactions Why Payments Startups Fail Eric Grover Low acceptance costs, convenience, and security aren’t enough. As compelling, economics to anybody in this global review of would-be PayPals and Visas shows, startups the value chain. Much-ballyhooed Revolution Mon- need a clear path to a mass of users. ey launched in 2007 and wooed retail- ers with a 0.5% merchant discount and ith the advent of mobile it comes to payments, consumers and superior fraud prophylactics. It boasted payments, we read almost merchants are creatures of habit. To as its chief executive Jason Hogg, son W daily about new payments win them over, challengers must be of a former MasterCard chief exec- startups. And this avalanche of start- compellingly better in some respect. utive, and blue-chip investors Gold- ups follows a period in the history of man Sachs, Citigroup, Morgan Stanley, electronic payments that had already A Long Way to Go Deutsche Bank, and America Online seen vigorous entrepreneurial activity. Many startups peg their ultimate suc- co-founder Steve Case. The hard truth is, very few of those cess on lower acceptance costs. U.S. However, it never had a credible startups succeeded—and only a scant Sen. Richard Durbin’s famous amend- business model, much less a business. number of those emerging now will. ment, along with merchant litigation In 2009, Hogg abandoned the dream, Retail payment networks must and lobbying, have put a spotlight on selling Revolution Money (basically deliver value, be reasonably priced this issue as never before. software and management) to Ameri- relative to value, sufficiently secure, Lower costs for everyone in the can Express Co. for $300 million. and easy to use. But while all of that payments value chain is a great idea. To provide cheaper payments for is necessary, it’s not sufficient for These days, though, regulators and retailers as well as consumer conve- success. Startups must also achieve retailer Goliaths obsess about nar- nience, National Payment Card employs critical mass with those making and rowly defined point-of-sale trans- drivers’ licenses as an account key and receiving payments. action costs. Viewed holistically, the automated clearing house network to To see why this is the case, we’ll offering the lowest cost does not nec- debit demand-deposit accounts. While take a look at a number of current essarily equate with greatest payment- the network is still breathing, established payments initiatives, along with some network value. Many new payments networks haven’t lost a wink of sleep. from the recent past. While our exam- systems have offered lower accep- Would-be PayPal slayer Dwolla ples are taken from markets around tance costs. It’s been a losing strategy. caps transaction fees at 25 cents, also the world, the lessons we can draw In 2005, the American Banker betting lower cost is the ticket to suc- from them are generally applicable. trumpeted Wal-Mart accepting Debit- cess. With 7,000 merchants, it has a First, though, it’s important to recall man, a venture-backed card network long way to go. what would-be payments systems are charging merchants 15 cents per pay- up against. Successful retail payment ment. It was predicated on retailers Fool’s Gold networks such as MasterCard Inc. and promoting issuance for 6 to 9 cents of Across the pond, European Union reg- Visa Inc. are terrific businesses. Entre- interchange and providing cardholder ulators are experiencing cognitive dis- preneurs must ask themselves what rewards. Debitman, later renamed sonance. They want lower merchant- their ideas offer that networks like Tempo Payments, flopped because it acceptance costs, and toward that these incumbents don’t. After all, when didn’t provide sufficient, much less end they imposed price controls on Copyright 2012 Boland Hill Media LLC. All rights reserved. 48 • digitaltransactions • May 2012 Reprinted with permission of the publisher. interchange and jawboned Europe’s Midland Bank, Wells Fargo, British fail because they don’t achieve criti- leading commercial network, Master- Telecom, MasterCard, and AT&T. cal mass in a relevant market. Card, into reducing its fees. But the problem Mondex tried to Whatever the putative better Simultaneously, however, they solve wasn’t a big enough headache mousetrap, new payment systems have urged 24 banks to launch a sys- for either consumers or merchants. In need a path to critical mass. Where tem called Monnet to compete with 2001, MasterCard acquired the shares it existing systems work, this is diffi- MasterCard as well as Visa Europe. didn’t already own and buried Mondex. cult, albeit possible. Why would banks invest billions of CyberCash, Digicash, and First In his book, Crossing the Chasm, euros in establishing a new card net- Virtual were all putatively safer than Geoffrey Moore counsels technology work that would be regulated like a credit cards on the Internet. All failed. firms challenging dominant incum- public utility? Notwithstanding fraud losses running bents to conquer a niche before Founded in 2007 by Dominique 10 to 20 times higher online than attempting to “cross the chasm” into Buysschaert, Brussels-based PayFair in face-to-face situations, traditional the mass market. His advice applies attempts to win merchants’ hearts with card networks’ ubiquity, familiarity, to payment networks as well. lower cost and become what the EU and good-enough security prevailed. Neteller, Moneybookers, Deutsche regulatory mandarins have pined for, a At the height of the dot-com bub- Telekom’s Click&Buy, and Wirecard’s third pan-European network. But Pay- ble, venture-capital-backed Beenz Click2Pay achieved limited success Fair’s hurdles are comparable to those of Debitman and Revolution Money. In a similar vein, India’s central The M&A Solution Networks can use acquisitions and consolidation to build mass quickly. Here are bank is pushing banks to support a some prominent examples, with results both good and bad: national network called Rupay, with In the late ‘80s, the U.S. was a patchwork of 135 regional bank-owned debit/ATM debit interchange 40% lower than that networks. Most were rolled up into national networks such as First Data’s Star. How- of MasterCard and Visa. RuPay’s head, ever, while PIN-debit networks achieved national footprints, their neglected brands withered and they now ride in the slipstream of MasterCard’s and Visa’s brands. A. P. Hota, says it aims for a 50% debit Rather than consolidate, some European national networks are attempting to share and to introduce credit in 2015. establish pan-European interoperability through the EAPS coalition. Consolidation Beyond nationalistic vanity, what’s might be viable. appealing about a domestic network MasterCard acquired the ATM network Cirrus in 1988, and in 2002 it bought the that’s less profitable by design? Brazilian debit scheme Redeshop and Europay, which had just picked up the U.K. debit scheme Switch. Visa acquired the Plus ATM network in 1987 and debit net- In the not-so-distant past, Cyber- work Interlink in 1991. cent, Millicent, Netbill, and Peppercoin all attempted to solve the micropay- and Flooz basked in the limelight, serving niches such as online gam- ment cost problem. But absent a dis- raising $80 million and $35 million bling, but never crossed the chasm. pute, the marginal cost of an electronic in capital, respectively, before crash- Early general-purpose card net- 50-cent payment and of a digital good ing and burning in 2001. Beenz users works such as Diners Club, Hilton’s is zero. Trying to compete in-between earned and spent Beenz for perform- Carte Blanche, Air Canada’s En Route, proved fool’s gold. Moreover, Master- ing various online activities. Flooz, and AmEx all focused on the travel-and- Card, PayPal, and Visa could slash preposterously, attempted to create a entertainment market. Hilton pulled the micropayment fees tomorrow. new online currency. plug on Carte Blanche in the 1980s. Then there’s Pay By Touch. At its Air Canada sold En Route to Diners in So What? peak, 3.6 million customers could initi- 1992. Diners languished as a T&E and How about security? Isn’t this the ate payments with an intrinsically con- corporate card network before being golden ticket? As the data breaches at venient and secure fingerprint at 3,000 acquired in 2008 by Discover Financial Global Payments and Heartland Pay- merchant locations. Novelty aside, Services, which was seeking to boost its ment Systems remind us, card-payment consumers’ reaction was, So what? overseas presence. networks are not perfectly secure. Pay By Touch burned through $300 Meanwhile, AmEx dominated Let’s look at the record. Chip-card- million before going belly up in 2008. T&E and expanded into and achieved based Mondex, invented in 1990, pro- critical mass in the general-purpose posed a more secure card system ‘Crossing the Chasm’ payments market. enabling value to be loaded, stored, While payment networks must Similarly, PayPal emerged trium- and used on a distributed basis. In be cheap and secure enough, cost phant from the competitive maelstrom of 1995 it debuted in Swindon, England. and security are not why payment person-to-person payments. It followed Marquee backers included NatWest, networks fail or succeed. Networks Moore’s crossing-the-chasm model, Copyright 2012 Boland Hill Media LLC. All rights reserved. May 2012 • digitaltransactions • 49 Reprinted with permission of the publisher. dominating proprietary e-auctions underwhelmed and has been folded Whether mobile-phone payment before expanding into general-purpose into Google Wallet. networks can establish multinational e-commerce payments. Now PayPal is In 1999, what was then the leading and full-spectrum (e-commerce, taking the logical next step: establishing search network, Yahoo, with Check- m-commerce and physical POS) foot- physical POS beachheads.