Practical Entrepreneur

For the past few years online advertising has been the de-facto monetization mechanism for online businesses that do not sell physical goods. As a result very few companies have actually focused on receiving payments directly from consumers. This lack of attention really shows when you try to figure out a holistic approach to online payments for your business. The short news: global online payment systems are a mess especially if you are not a 10 year old S&P 500 company!

As this economic downturn puts pressure on more and more web startups to skip the dwindling online advertising revenue stream and go directly to the consumers more entrepreneurs will get exposed to this mess. Since I have been dealing with this problem for almost a year now, I thought I should just summarize what is wrong with this ecosystem. Hopefully this post provides some guidance to fellow web entrepreneurs that are/will go through the same and save them some time.

I am also going to propose some basic requirements for anybody who wants to solve this problem. My hope is that somebody in the payment business will take a look at this list and hopefully provide a product that satisfies these requirements. I really believe that there is a huge opportunity here and whoever cracks this problem properly will benefit immensely. If I was not busy building Zoosk, this would be on the top of my list of opportunities to tackle.

Side Note: I am going to focus on payment methods that make the most sense for consumer web startups in this post. So this is in no way a comprehensive survey of the industry, just a peak at what might make sense for a typical web startup. Let’s start by looking at existing solutions:

Accepting Credit Cards on Your Site

In order to accept a credit card on your site, you need two things. 1) a merchant account 2) a gateway to talk to your merchant account.

A merchant account is basically a relationship between your business and some bank that enables the flow of money from customer’s say VISA card to your checking account. A gateway is an API provider that sits between you and your bank and connects the two worlds (Sometimes these two are bundled together).

There are multiple ways to get a merchant account

• apply at your local bank such as silicon valley bank
• apply at a gateway reseller such as authorize.net
• apply at a global bank such as HSBC

In order to get a merchant account you need to select a bank you want to work with, fill out an application form, pay some application fees and wait to be rejected! Why? Because banks like to only work with very “established” businesses with years of audited financials and history of accepting payments. So, if you are a tech startup who is just getting started with payments you will get rejected.

Merchant Account – The Good:

• direct control over user experience
• low decline rates
• competitive and low transaction fee rates

Merchant Account – The Bad:

• well, being rejected for one really hard to get when are just starting

Does this mean you need to scratch accepting credit cards all together? No! It’s not that bad. There is PayPal after all! PayPal offers a product called Payments Pro which basically is a simply merchant account + gateway without all the requirements of one that you have to deal with when working with real banks. It’s a great service for when you are just getting started. The application process is fairly simple and you can be accepting “major” cards on your site within hours.

PayPal Payments Pro – The Good:

• direct control over user experience
• quick approval + setup

PayPal Payments Pro – The Bad:

• limited number of currencies (USD, CAD, GBP, EURO, and AUD as of this writing)
• high decline rates (i think PayPal runs out of processing quota with some of their internal merchant accounts!)
• higher transaction fee rates
• HORRIBLE and SLOW management interface (think Bank of America Online if you have used it; now make it even worst!)

Another drawback of PayPal is that their business rules are designed for small merchants. You will achieve their highest merchant level if you do more than $100,000 a month in revenue! For example if you have $100,000 in your PayPal account you can’t take money out of your account (say you try to withdraw $10,000)  if you have a chargeback for $10 which is a very normal thing for a business doing more than half a million a month!

Sending Users to a 3rd Party for Payments

The idea here is that you pass on all the complexity of handling payments to a 3rd party partner and just get a notification when the transaction is complete. PayPal’s Express Checkout product is a good example of this solution. You add a button on your site, the consumer clicks on it, goes to PayPal’s site and uses their series of payment options and when the transaction completes they are sent back to your site with some way of notifying you of the transaction status.

Other examples of this method include Google Checkout and PayByCash.

3rd Party Payments Sites – The Good:

• no hassle
• many payment options

3rd Party Payments Sites – The Bad:

• no control over user experience
• especially not suitable for recurring charges because you don’t have a monetary relationship with your customer
• lower conversion rates because of 3rd party’s policies (consumer has to setup an account with some of these before they work for example – another drop rate)

Payments Through Mobile Phones

There is a lot of excitement around enabling consumers to pay through their mobile phone. Startups such as echovox (operates Zong) and Mobillcash provide services to merchants to accept payments through mobile phones. There is even some evidence that conversion rates are usually higher when consumers are asked to pay through their mobile phone as opposed to credit cards.

Mobile Payments – The Good:

• higher conversion rates (maybe?)

Mobile Payments – The Bad:

• no control over user experience
• you get paid very late (sometimes it takes 6 months)
• carrier usually takes something around 50% of the transaction as fee!
• limited price point options (pre-set price points by carriers; also above $10 transactions are usually not suitable for mobile payments)
• very complex and always changing carrier policies (major risk to build a business on: a policy change in China mobile caused meetic to drop their whole business there!)
• especially not suitable for recurring charges anymore because of new carrier policies fighting “crush like” scams

So What is a Poor Man to Do?

It might be my super sensitivity to user experience, but I have found that sending users to 3rd party sites (yes, even if it is an iframe within my site) is not worth it. The payment page is one of the most “intimate” parts of your relationship with your user and if you want to create a lasting relationship with her, you better have it perfected. A generic 3rd party provider will never provide that experience. So, if you can, have full control over your payment page. At the very least the most commonly used method should be in your control.

Setting up a merchant account (or two or three – more on this below) is the long-term correct answer in my opinion. The problem is that you won’t be able to do so at the beginning. So, I would recommend starting with something like PayPal Payments Pro but planning for migrating to a grownup payment provider as you close in on the $100,000 revenue milestone.

The World is Flat Except When You Bank

Another complication in this whole story is the global coverage of any of these methods. It turns out that with today’s Internet penetration across globe you can get users everywhere but not so much their money! Even within continental Europe, the payment methods and their availability varies significantly. As an example even to this day Google Checkout only supports two currencies: USD and CAD! At least PayPal covers Western Europe!

In our experience, we have found that quoting customers a price in their local currency is a MUST if you want to have good conversation rates and compete with local merchants. Just as translating your site to French helps you grow in France, asking your French customers to pay in Euros also will help with them paying you.

Also remember that VISA and MasterCard are not the only payment methods (can somebody tell PayPal product managers about this one?). If you want to sell well in France, make sure you can accept Carte Bleue (a local debit card). If you are operating in Ireland, don’t forget Laser Card. And the list goes on and on. The bad news is that very few merchant accounts accept all types of local payments. That’s why you might end up having a merchant account at each of your major markets to really optimize the experience in that country.

My Ideal Solution

So, if I was going to start a payment company, what would my requirements look like. Here is the short list of my “wants”

• SaaS: Don’t expect your merchants to embed your iframe in their website, open a popup, or send folks to your site. Simply provide a few API calls and get out of their way. You don’t need to have consumers create accounts as long as get paid on every transaction. (for the record zuora.com is not truly SaaS!)
• Comprehensive: Accept all major payment methods (credit cards, debit cards, bank transfers, etc) in each market you enter
• Local Currency: Allow your merchants to quote in local currency
• Accountant Friendly: Provide APIs that would help your merchant’s CFO stay GAAP compliant! (read revenue recognition, VAT taxes, etc)

and in return charge higher transaction fees. I promise you that if you do this right, you can ask for twice as much as a normal merchant account charges and your merchants would still love you. And please let me know when you have it ready