Acceptance costs for small purchases on the Web have slowed the growth of micropayments, but now innovations and new companies are invigorating the market.
The micropayments industry, which processes Internet transactions under $10, is showing signs of life after being read its last rites as recently as two years ago, all because new Web retailers have embraced existing payment infrastructures their predecessors spurned.
The developments have enabled new players to take advantage of current opportunities and position themselves to serve nascent but potentially highly lucrative markets.
Micropayment companies are now accepting for payment automated clearinghouse transactions and credit, debit and stored-value cards. They also are charging small purchases to telephone bills, both for regular and mobile service, says James Van Dyke, founder and principal of Javelin Strategy and Research, a Pleasanton, Calif.-based payments researcher. Van Dyke says micropayment companies developed new business models to avoid the fate of predecessor companies CyberCash Inc., DigiCash, Beenz.com and Flooz.com.
Those firms were among 50 micropayment companies that were acquired or failed because their founders refused to accept the fact that consumers would not use two payment systems to make purchases, according to Van Dyke. One involved credit cards, cash and checks to buy products at physical stores. The other involved alternative money-CyberCash's Cybercoin, DigiCash's DigiCash, Flooz and Beenz-for Internet purchases.
Credit cards, of course, were never entirely out of the alternative-currency picture. Customers had to use their credit cards or another payment method to purchase online currency that was stored in digital wallets, usually on a person's personal computer.
"There was a belief at the time, 1995 through 1998, that Internet purchases were so different from purchases made at brick-and-mortar stores that it (the Internet) needed a new currency," Van Dyke says.
Aaron McPherson, research manager for Framingham, Mass.-based Financial Insights, an IDC Company, and author of the paper, "From the Fringe: A New Model for Micropayments," says the forerunners also may have been arrogant.
"They considered purchases at brick-and-mortar stores old and slow," McPherson says. "The problem with a new payment system was that you had to get a lot of people on board-consumers, merchants and banks-and they didn't go for it."
As a result, the new crop of micropayment companies is using what consumers, merchants and banks know and accept.
"We have embraced the traditional credit card world as far as payments are concerned," says Steve Elefant, president and chief operating officer of Yaga Inc., a San Francisco-based payment firm that sells digital content. "The alternative models were not well received or utilized, and the companies eventually failed. We didn't need to reinvent the wheel."
Yaga sells archived and current newspaper and magazine articles. Although Yaga accepts cards, it and most micropayment companies seek ways around cards, or adopt methods that minimize relatively high card-acceptance costs.
The card industry's business model is designed for much higher-priced transactions than micropayments, which by emerging industry consensus are considered $10 and under. Card fees range from 2.39% to 2.59% of the transaction amount, plus 25 cents to 35 cents in fixed costs, says McPherson of Financial Insights.
"It's the fixed costs that kill micropayment companies," he says. "A 30-cent fee on a $1 purchase is prohibitive; it cuts into any profit."
Furthermore, the bank card industry has yet to make what micropayments backers say is a major concession on interchange for small Web-based transactions. Neither Visa U.S.A. nor MasterCard International would make executives available for this story.
"We are exploring micropayments," a Visa spokesperson says, "but we don't have anything to discuss." MasterCard said it is focusing on providing alternative, cash-equivalent payment methods.
Phone Bills
Behind the scenes, however, banks are pressuring the card associations to act because they believe micropayments are a huge market, Van Dyke says.
In the realm of things, micropayments under $5 are small potatoes-only $9.6 million in 2002-though they were 700 times larger than in 2001, says a spokesperson for comScore Networks Inc., a Reston, Va.-based service that tracks online payments and Internet-related trends. PaymentOne Corp., a San Jose, Calif.-based micropayments company that sells digital content, claims there is a $127 billion untapped global market that is seeking to pay for Internet purchases using something other than a credit card ("Web Payments Worldwide," April).
One convenient away around card transaction fees is attaching charges to telephone bills.
EOne Global's Encorus operating unit sells Paymentworks software to the British and German mobile-phone companies, Vodafone and T-Mobile. That allows them to charge micropayments, such as telephone ring tones and Internet games, to customers' phone bills, says John Duncan, eOne Global's managing director and Encorus' vice chairman of mobile e-commerce. EOne Global is a subsidiary of Greenwood Village, Colo.-based transaction processor First Data Corp.
PaymentOne Corp. also charges purchases to consumers' telephone bills through its PhoneBill product, says Joseph Lynam, PaymentOne's co-founder, president and chief executive.
"Telephone bills enhance collectibility," Lynam says. "The telephone grid covers 98% of the country. Telephone bills also comfort the bill payer because telephone bills are something people are familiar with. Companies mail them to homes every month."
Yaga gets around the card industry's high transaction fees by aggregating payments, which spreads the cost over a larger number of purchases, Elefant says. Yaga bundles card payments until they reach a $5 minimum before presenting them for payment.
"Aggregation is much more cost effective," says Gwenn B?zard, senior analyst at Celent Communications and author of the research paper, "Innovation in Internet Payments: The Plot Against Credit Cards."
"If you process one $5 payment at a time, the card associations will charge you 1.9% for the value of the transaction plus a fixed fee of 30 cents," he says.
Yaga employs two methods to accept micropayment transactions-fixed and variable. The variable rate ranges from 2% to 10% of transactions. On a $5 transaction, for example, a 2% charge will be 10 cents. "We're talking about pennies here," Elefant says. The fixed rate currently is being adjusted.
Peppercoin Inc., a Waltham, Mass., start-up payment company that has not officially opened for business, says it plans to improve on aggregation with so-called random settlement. Each time a consumer buys digital content, there is a chance that the transaction will be chosen for settlement. When that occurs, the consumer will be charged for all of the purchases he has made since the last settlement, says Perry Solomon, Peppercoin's president and chief executive.
PayPal, which some analysts consider to be the most successful of the micropayment companies, also accepts cards, but mostly to fund an account the PayPal customer will need to make purchases. And even then, PayPal, which was bought last October by online auctioneer and marketplace eBay Inc., discourages the use of cards for this purpose, says Richard Crone, vice president of the financial institutions consulting group at Dove Consulting in Boston ("eBay Puts Its Mark on PayPal," April).
"PayPal doesn't want customers to use their credit cards; the company prefers ACH," Crone says. "More than half the accounts are funded through ACH."
'No Problem'
Celent's B?zard really doesn't consider PayPal a micropayments company. "You can do micropayments with PayPal, but its average transaction is $50," he says.
In the non-Internet payments world, Exxon Mobil Corp.'s Speedpass service uses Radio Frequency Identification (RFI) key fobs to put convenience-store and gas purchases on linked credit card accounts. Speedpass also is accepted in a few other venues, including some McDonald's Corp. restaurants in Chicago. Speedpass has six million users.
In February, Speedpass allowed customers participating in a pilot at three Boston-area Stop & Shop supermarkets to designate as a payment facility their checking account, says Joseph Giordano, Speedpass' founder and vice president of business and product development. When Exxon Mobil announced the move, the news release's headline read in part: "No Card? No Problem!"
According to Celent, the use of other payment methods than credit cards for Internet purchases is increasing though credit cards clearly dominate sales with an estimated 81.6% share. (Other researchers have put credit cards' share at over 90%.) In comparison, non-card payment methods are expected to reach 5.5% this year, up from 2002's 4.6%.
By 2005, Celent projects that non-traditional payment methods will slightly surpass 7%. Credit cards will control 82%, while checks and money orders will have nearly 11% of payment market share. Celent predicts that cards' market share will stagnate as ACH and closed-end systems, like PayPal and CertaPay, continue to grow.
Although the companies may promote a particular payment method in which they specialize, they also accept competing payment methods to make a sale. For example, PaymentOne, which promotes its PhoneBill, also accepts credit cards, ACH, prepaid cards, and DirectPay, a payment service primarily used by utility companies that withdraws monthly payments from consumers' bank accounts.
Opportune Time
The slump in online advertising has opened a door for micropayment companies. Because of the drop in online advertising, companies are now selling products they once gave away, such as old newspaper articles or syndicated editorial features.
America Online (AOL) is projecting ad revenue will drop 48% in 2003, according to Yaga's Elefant. "They have to make up for the loss of revenue somewhere," he says.
Yaga sells archived digital content for AOL/Time Warner, The Washington Post and Hearst Newspapers.
Financial Insights' McPherson says publishers often charge $2.95 for an individual article, but the Chicago Tribune has advertised that consumers can pay as little as 30 cents per article if the person buys several at once.
PaymentOne's Lynam says firms selling products they once gave away represents a permanent transformation for the Internet. "The decline in online advertising burst the bubble," he says. "Five years from now, we won't remember that the Internet was ever free."
In his research paper, McPherson writes, "advertising support is no longer seen as a viable option for any but the largest sites. Consumers are gradually being forced to accept the idea of payment for certain online services ... Although micropayments were tried without much success in the 1990s, part of that failure was the hostility of the Internet environment to any sort of paid content."
The largest opportunity for paid content is coming from the music industry, according to analysts and vendors. The five major music labels-BMG, EMI, Sony Music, Universal Music and Warner Music-are looking for new distribution channels after experiencing two years of declining sales.
"The record companies are looking to sell their music online; they are not trying to kill (online sales) anymore," says McPherson, noting that consumers often want to listen to only two of a compact disk's dozen or so songs.
Copyright Crackdowns
Financial Insights estimates the paid online digital music market at $12.1 million in 2001. But thanks to copyright crackdowns on free music-download Web sites and new technology making items like songs more accessible digitally, the market could grow to $1.2 billion by 2006, the company says.
Elefant strongly believes those projected growth figures fall very short. "That's a very conservative number," he says. "There are one billion songs and five million people who download music."
But a spokesperson for MusicNet, one of the major online music services, says Elefant's estimate about the amount of online music available is too high. "I don't know where he's getting his figures. We have the largest subscriber base and a catalog of 250,000, soon to be 300,000, songs," the spokesperson says.
While players disagree about the size of the music micropayments market, there's no question that it's big-and perfectly suited for small tickets.
According to McPherson, micropayment companies can sell song downloads for 99 cents, which the music industry calls a la carte.
Yaga, which has launched an online music service, currently is negotiating contracts with two record labels. One company plans to charge 49 cents to download music; the other, 99 cents, Elefant says.
Lynam sees online music sales as only the tip of the iceberg. "We can sell streaming video," he says. "Companies can charge consumers for the 20-second replay of the (Mike) Tyson fight or sell matchmaker services online."
Elefant believes the micropayments industry's time has finally arrived. "We find we are in the right place at the right time," he says. "Companies are looking for economic ways to monetize their digital content."
