AGILEVC My idle thoughts on tech startups

June 12, 2012

Mobile payments are the trillion dollar industry that everybody’s been waiting for but has never materialized.  At first glance, mobile payments seem like a no brainer… consumers [seemingly] want the convenience of paying with a phone rather than cash or credit card, merchants dislike the cost associated with accepting credit cards, and mobile ecosystem players (e.g. carriers, Google, et al) covet an economic stream they believe they can take a slice of.

I’ve been an interested observer of electronic payments for 12+ years.  In fact my first job as an early employee of PayPal was as Product Manager responsible for our mobile products (WAP-enabled cell phones and our legacy Palm Pilot IR port product) and the first international version of PayPal.  That sounds like a lot of responsibility for someone fresh out of undergrad as I was then, but in reality both of these were peripheral elements of PayPal’s core web-based payment product which was still heavily concentrated on eBay auctions at the time.  Back then we were already talking about using our monochrome display, 12-key interface Motorola Startacs to pay for everything.  But in 2012 it turns out I still pay for all my offline and online purchases with a credit card or cash, and not my infinitely smarter mobile phone.

The gap between enthusiasm for and the reality of mobile payments is primarily the result of a fundamental misunderstanding of the nature of payments.  It’s not for a lack of technological effort from both startups and huge companies in all of mobile payments’ incarnations – SMS, mobile web, native apps, NFC, etc.  But nearly everyone has wrongly placed emphasis on the mobile technology part and not on the payments aspect.

Payment via mobile device will only see widespread adoption if it’s fundamentally coupled to a store of value that is widely dispersed among consumers and accepted by merchants.  There’s nothing intrinsically interesting about a piece of plastic with a numerical token and a magnetic stripe encoded with that token, aka a credit card.  What’s interesting about that card (see note #1) is that it’s attached to bucket of real money in the form of a revolving credit line, a checking account, or a prepaid electronic account.  When a consumer pays with a credit card they understand they’re using up a portion of that bucket of money, and the merchant knows they’ll get paid from that bucket assuming they hold up their end of the bargain (see note #2).  And there’s a layer of financial intermediaries on both the consumer and the merchant side promising to stand behind the transaction.

Thus far mobile payments have failed to create or be coupled to a new store of value.  Virtually every mobile payments system in the developed world (see note #3) just piggybacks off the credit card system.  The mobile phone becomes a different token instead of the plastic card, but fundamentally it’s still just adding another technical and financial layer on top of the existing system.  Also on the merchant side there’s a vast installed base of infrastructure supporting traditional credit cards.  So even though mobile phones are ubiquitous on the buyer side, mobile payments won’t be adopted unless the acceptance mechanism on the merchant side is similarly ubiquitous (classic chicken & egg problem).  These mobile payment approaches rely on changing user behavior too… a consumer fumbling with their phone while a merchant fumbles with whatever acceptance device they have, while everybody else waits on line to check out.

So be skeptical when you hear statements like “mobile payments will take off when ______ happens” where the blank is stuff like:

  • A different form of data interface (e.g. NFC, SMS)
  • A new form of user authentication (e.g. Facebook Connect)
  • Cross platform support across various devices (e.g. Android, iOS, etc)

So what if anything could make mobile payments take off?  FWIW, I’m not totally a skeptic on mobile payments and like any other consumer I see how they could be a lot more convenient than cash and credit cards.  But IMO it’ll take a “big bang” multi-party effort rather than an incremental innovation, so it’ll favor large organizations (big companies and/or governments) rather than startups.  A couple conceivable scenarios that could bring us to the mobile payments promised land.

  1. Visa/MC/Amex shift merchants and consumers to mobile devices.  This is far and away the most likely path to ubiquitous mobile payments.  The fundamental financial infrastructure remains largely unchanged, i.e. consumers get cards tied to a financial account from banks and bank-like entities and merchants are supported by acquiring banks (or Amex itself in their system).  Visa, MasterCard, and Amex still run the core “rails” of the payments system but the mobile phone becomes the consumer token and perhaps merchants have newfangled acceptance devices (e.g. POS systems, payment terminals, etc).  There may be some losers of the incumbent ecosystem (e.g. ISOs which are a middleman layer between small merchants and acquiring banks) and perhaps some new winners but the system changes far less than some expect.
  2. Google or Apple go big or go home.  If you had a massive installed base of mobile users and were willing to spend billions (not millions) to couple these consumers to a new store of value and spend billions (not millions) to embed this payments system in the merchant ecosystem, it might be possible to create a truly ubiquitous mobile payments modality.  The universe of companies capable of all of the above is exactly two.  Google is the one more likely to do it… they certainly have the resources, ambition, and intent.  They thrashed about with Google Checkout for online payments and NFC for offline over the last couple years.  But while it was a little less understood outside the payments world, their acquisition of TxVia theoretically gives them some of the plumbing they’d need to create a store of value or couple a Google mobile payments product to existing financial accounts.  If Google buys a small bank or gets a banking license of some form, that would indeed be a game changer.  I wouldn’t put it past Google, but if I had to bet I still see this as being significantly less likely than #1.  Or Google may be one of the new winners in scenario #1 (e.g. next gen POS platform) albeit not the one that runs the core rails of mobile payments.
  3. Government fiat.  A store of value has value because it contains or represents hard currency.  If you can create a parallel currency or supplant an existing one in a form conducive to mobile transactions, obviously you can catalyze a mobile payments system.  Systems like M-Pesa (see note #3 below) took off because in developing nations prepaid wireless minutes were a parallel currency, fungible for real money.  It’s highly unlikely but conceivable a newly-sovereign nation or a government unexpectedly bereft of it’s existing currency (e.g. Greece) might attempt a half-crazy experiment like this.  Another more likely scenario is if a government started issuing transfer payments via mobile device, e.g. sending welfare, food stamps, pensions, or other payments via mobile.  These payments are themselves a store of value, which is why merchants readily accepted them either when in paper form (e.g. original food stamps) or now more typically in electronic form (e.g. electronic benefit transfer cards – EBT – now issued here in the US).

For the record at NextView we’re investors in two payments related companies, Swipely and Plastiq, though neither is a pure mobile play.  Swipely is focused on payment marketing, namely unifying loyalty programs and payments for main street merchants.  Plastiq is focused on extending the use of credit cards into high-value transactions like school tuition, buying a car, or rent/condo payments with a unique economic and transaction model.  Both are building on top of the existing credit card infrastructure because as Swipely Founder/CEO Angus Davis points out, millions of people are walking around with a mobile payment device in their pocket… it’s called a credit card.


Notes & FAQs:

(1) I use the term “credit card” here instead of “payment card” for simplicity sake.  The latter includes credit, debit, and prepaid stored value cards all using the common transaction infrastructure originally devised for credit cards.  Today the total transaction volume (in $ terms) of debit/prepaid cards is roughly comparable to that of credit cards in the US [see Nilson Report - PDF link].

(2) Yes the merchant must follow settlement rules and is exposed to varying levels of risk depending on the nature of the transaction (card present / not, etc).  

(3) You do see some truly innovative mobile payment systems in developing nations, which typically lack meaningful payment card infrastructure and have much larger unbanked populations.  M-Pesa created by mobile carrier Safaricom in Kenya is the best known example of this.  Some people suggest that this is just another example of developing nations “skipping a generation” in terms of technology, e.g. skipping copper POTS telephony to wireless is analogous to skipping payment cards to mobile.  But the reason M-Pesa initially took off (and similar systems in the Philippines and elsewhere) is in developing economies prepaid mobile minutes are inherently a store of value parallel to the local currency.  They are fully fungible for hard currency through Safaricom’s network of retail partners for either the sender or recipient of an M-Pesa mobile payment.  It’s conceptually no different from the early days of Western Union’s original payments business when people “wired” money to one another at each end of a physical distribution network.  But again the store of value in prepaid minutes was the key.

FAQ A: What about Square? –> Square is a remarkable company, and a number of my former PayPal colleagues are involved there.  But they’re not fundamentally a mobile payments company.  In fact outside of the SF tech scene extraordinarily few consumers actually use the app.  What Square has achieved is broadening acceptance of credit cards for in-person (aka card present) transactions to new classes of “merchants” (e.g. food trucks, farmers market vendors, small retailers, event organizers, etc), most of whom previously didn’t accept credit cards.  In that sense it’s akin to what PayPal did with acceptance of credit cards for online transactions among eBay sellers and other small online merchants that previously transacted via check & money order.  In addition to expanding card acceptance among small offline merchants, Square also has a great opportunity to displace traditional credit card terminals and POS systems among newly formed businesses.  But even though merchants plug Square dongles into mobile devices like smartphones and tablets, virtually all of their transactions are still a card swipe payment.

FAQ B: What about ACH via mobile device? –> ACH is really a poor system for handling any type of merchant payments, mobile or otherwise.  It lacks real-time authorization, guarantee of good funds, anti-fraud tools like address verification, and has longer settlement periods than credit cards typically.  ACH is an outgrowth of the Federal Reserve’s Fedwire system and was never intended for merchant payments (it was designed to replace paper drafts for certain interbank transfers like direct deposit).  PayPal is really the only example of widespread ACH use in merchant payments and it took a huge amount of effort for us to get it to work properly and overcome all of the limitations above, and it was literally a do or die proposition for the company.

FAQ C: Apple has more payment-linked accounts than PayPal or Amazon, doesn’t that mean they’ll be the leader in mobile payments?  –> No.  Unless they radically change course as described in scenario #2 above.  If Apple takes all these payment-linked accounts, even with a new interface like Passbook might evolve to be, they’ll still simply be replacing the token used by the traditional credit card infrastructure not creating a new mobile payments system.

FAQ D: What about Jumio and –>  Both of these companies have created unique approaches to capturing credit card information via image processing.  But again these are both just examples of systems riding on top of the credit card infrastructure, rather than creating a new store of value.  The promise these companies hold is the potential to lower transaction costs for card not present transactions (e.g. online, over the phone), but that will only happen if Visa/MC accept these systems as having comparable security and choose to create lower interchange categories for these card capture mediums.  That’s why a merchant accepting a card  via card swipe with Square pays a lot lower fee than one processing with

FAQ E: What about mobile payments via carrier billing?  –> We don’t really talk about this much anymore, but 5-10 years ago there was some hope that mobile carrier billing systems would create a new store of value for mobile transactions.  Again in developing nations prepaid wireless schemes have typically dominated and where prepaid minutes became fungible with currency it created opportunities like M-Pesa (see note #3 above).  But post-pay schemes are more common in the US and years ago some folks thought we’d be transacting with our phones and then simply having these purchases added to our cell phone bills.  But carriers never really wanted to become banks and deal with the financial risks associated with widespread payments (e.g. extending large amounts of credit to their subscribers).  So carrier billing remained a very expensive (transaction fees were 10-30%, e.g. 5-10x a credit card acceptance fee), and very limited use proposition and never took off beyond phone related services within the carrier ecosystem (e.g. ringtones).

  • Sravish Sridhar


    • leehower

      Thanks Sravish, glad you liked it.  This is a post that’s been on my mind for years but I finally got around to writing it all down.  I figured I’d do the FAQ at the end too in order to preempt the usual questions people have around mobile payments.

  • Chris Chaten

    Any thoughts on Isis?

    • leehower

      I don’t know the company intimately, but again Isis is simply creating a mobile technology layer over existing credit/debit cards infrastructure.  There are similar companies like Google and LevelUp (which Google Ventures is an investor in) trying to build mobile wallets and then getting NFC-based acceptance devices installed at merchant locations.  Isis may have a better than average shot given it’s a consortium of big mobile carriers, but it will still take a lot of money & effort to overcome the chicken & egg problem of getting widespread adoption of NFC by merchants.  And at the end of the day it appears Isis will just be working with the existing credit card networks Visa, MC, Amex, & Discover.  

      So not a new store of value and this is basically scenario #1 described above. If massively succesful, Isis might disintermediate the companies that manufacturer plastic payment cards and perhaps the companies that make mag stripe hardware (e.g. Verifone, Hypercom – now owned by Verifone) but won’t really create a new mobile payments system.

  • Stefano Bernardi

    Finally! Lee, thanks for this post. You really get it.

    People don’t understand that at the moment credit cards are the platform. They try to position themselves as platforms, while they are only building a smaller feature on top of an existing, extremely powerful, extremely distributed platform run by big companies, with big lawyers and big friends in DC.

    I’ve been extremely interested in the payments space, but have been sitting in the sidelines exactly for this reason. There still is no disruption happening, we’re just seeing different payment interfaces on the same old infrastructure.
    There was an original interesting attempt by Facecash, who unfortunately lacked the network and personality to compete in the big league. The product seemingly never evolved to what it could have been.

    Right now, the only company who’s really innovating is Dwolla, which is starting from the payment layer by aggregating funding sources and will eventually try to position itself as a platform (starting by offering real time cash transfers for free to banks).

    I’m an investor in a small startup that understands these problems very well and is taking a completely different approach, a huge gamble.. but we’ll see.Glad to see that someone is interested in a more macro view and not on the single product, and deeply understands the underlying mechanics that prevent innovation at this point.

    • leehower

      Thanks Stefano, appreciate the feedback.

      Yes Dwolla is very ambitious in trying to piggyback on ACH to build a merchant and P2P payments system.  I’m personally skeptical just given the chicken & egg challenge of building out a funding network (consumers’ banks & credit unions) and acceptance network (merchant side), but I wish them well.  It’s one of those things that’s ambitious and improbable, but clearly valuable if it works.

  • Davide Rossi

    This is a sweet summary, Lee. Let me offer a few thoughts to complement your post.

    There won’t be a mobile payments industry “per se”. Using a mobile phone to make a payment is not a compelling enough proposition for most players in the value chain (read $10bn to upgrade the offline POS terminals in the US to begin with). It’s not about payments – it’s about loyalty. There will be a “mobile commerce” industry where payments will represent an increasingly small piece, with interchange eventually going to zero and everyone playing on loyalty (read marketing budget).

    Let’s start from the folks who are trying to build an alternative payments rail. I agree with Stefano that Dwolla is one of the few disruptors, gaining even more traction post their Finovate demo of real time debiting and crediting of transactions. It is acceptable for the banks to sign up for Dwolla’s APIs because they haven’t been planning on monetizing money transfer anyways, and it looks cool from a credit union’s perspective to say that they can do mobile payments. Dwolla could be ClearExchange done right, eventually. Dwolla is also considering to take its network overseas, still riding ACH. Good luck to Ben. We might see more FIs among their investors if things go well (remember how Visa started?).

    Who else is trying to build a parallel rail? Walmart, Target and a number of other retailers (and somewhat with the blessing of the Fed, who is not too card associations friendly for the most part). Apparently, interchange is too high a cost for them and they are looking to reduce that. Is that it? Not really. Like anyone else, they are looking to own the customer data and offer smart loyalty programs. The retailers just hate it when cash kickbacks and air miles go into the customer’s payment card, along with a missed opportunity for customer loyalty (they also hate Shopkick et al. btw). Watch out for the big box retailers to announce something ISIS-like soon (we all want our piece of the pie, don’t we?).

    Also some of the mobile banking players are considering to build a parallel network that would disintermediate the card associations. They already own millions of end users across hundreds of FIs, so that could make it a bit easier to start solving the chicken and egg problem while offering  mobile payments and loyalty to physical retailers. The problem with anything offline is that it requires massive, massive, massive amounts of capital.

    This is the same problem that LevelUp is facing. With all the press attention it has generated, it still serves only 2-3k merchants and ~200k customers. But at least the loyalty programs it offers are really cool and easy to implement for the merchants. The rason d’etre for LevelUp (like most other firms) is to tap into the retailer’s marketing budget (10-20% of sales potentially) rather than reduce interchange. On a side note, it turns out that when LevelUp’s customers sign up and store their credit card on Braintree’s secure vault (who provides PCI compliance), a flat fee of 2% is technically possible (this is considered CNP under the Visa rules). That’s based on an average, estimated mix of credit/debit transactions but that’s enough to indicate that LevelUp is not planning to make money on interchange.

    What about Apple? They are still not playing in mobile payments. With a 5% phone penetration worldwide, ubiquity is a chimera. Why would they even mess up with NFC when there’s not even a common standard for that? Enough said.

    What about Jumio? One year ago they were deciding where to start, whether online or offline. They picked online, because signing up online B2B partnerships is quick, easy and capital light. I would now expect a big offline push in direct competition with Square, iZettle, GoPayment, Verifone, Sage, Payfirma, PayAnywhere, Erply, Focuspay, 99Bill etc. further to the recent capital injections, including that from Citi.

    Finally, carrier billing is thriving for games and digital content (maybe around 80% for most players like Boju, Payfone, mopay). There have been outstanding success stories for physical goods in the far east (read Danal), but ticket size is always a limitation. Canadian operator Rogers filed to become a bank last year. Not sure where they stand in the process, but maybe that’s a smart move. We’ll see how things change when and if they can extend credit. Or maybe when PayPal puts together Zong and BillMeLater.

    • leehower

      Thanks Davide.  Agree that loyalty and payments may become more intrinsically linked, though personally I’m a little doubtful we’ll see interchange truly go to zero.  

  • Phil J

    Lee great post.  I too originally thought that this industry would eventually come to life, but sadly it has not.  Though it has happened elsewhere and usually in places where there was a need (Rural Africa).  Ostensibly though mobile payments require bank (like the Japan Octopus mobile payment) support to manage the wallets and enable support the infrastructure.  As you aptly said it will take hundreds of millions if not billions to throw together a scenario like that.  Apple has the cash, but unless they can make a business case that it’ll sell more hardware, I don’t see them doing this anytime soon.  Ps it might actually make more sense to buy a bank that is the major player in the credit card associations like BofA.

    You hit the nail on the head in saying that we all have a “mobile payment device and it’s a credit card”.  The added utility of nil of the mobile payment providers out there is next to nil and basically add flash to the checkout process.

    I researched this field and even launched a company geared to offer mobile payments, but we quickly found that we would have needed to raise a few orders of magnitude more money in order to make a dent.

    There is a topic that is rarely discussed as well and maybe you’d like to tackle it.  It being “Rewards Cards” and how it actually increases the exchange rate on the merchant at the time of purchase.  I think if more consumers understood the implications upon the fees that merchants pay it would actually make a dent in the views towards credit payments and enable alternative payments to make a dent.

    Any thoughts?  I’d be happy to co-author with you.

    • leehower

      Thanks for your note.  If by “rewards” cards you mean prepaid / stored value cards, like what Starbucks offers yes they’re interesting.  But I don’t really see them supplanting credit cards in a meaningful way for two reasons.

      1) Most of these branded cards are loaded with funds using a credit card.  Yes you can theoretically pay cash at a Starbucks location to load a card with value.  But most often they’re either purchased as gifts (typically with a credit card), or very frequent customers will load them with recurring txn from credit card.  If Starbucks or other similar merchants could shift a large percentage of consumers to loading with cash or an ACH draft obviously it could shift payment flows but I don’t think that’s highly likely.  For Starbucks to pay <2% of their purchase value for credit cards isn't a big deal when they're selling an incredibly high gross margin cup of coffee.  

      2) Obviously the whole point of these retailer branded cards is to lock-in a consumer to their establishment.  They're not general purpose payment mechanisms in the way that a credit card is, so while a consumer might carry one or two for places they shop very frequently they'd still need cash or credit card to make all their other purchases. 

      So at the end of the day, these programs are all about loyalty and repeat buying not lowering transaction costs.

  • Stevew

    Great post! Now if only the industry understood these points before a whole lot of money is wasted and consumers and retailers pick up the tab through increased fees and product price hikes.

    There is no value for either. Just the interchange players – more electronic payments means more interchange fees so these guys are pushing hard and maybe some consumers would like the convenience but retailers have absolutely nothing to gain in mobile payments.

    Thanks for laying this out!

  • Ketharaman Swaminathan

    Brilliant post. Apart from my own sporadic comments to various blog posts, this is the first full length article I’ve come across that contains a clear distinction between the two facets of a credit card, namely, its plastic form factor versus source of funds. As you’ve pointed out, apart from GenY / MNO Billing Mobile Payments like Boku and Zong, all other mobile payments simply replace the plastic form factor of the credit card. As a result, they deliver very little value-add to payors or merchants in their core function of payments. As for SQUARE, you’ve mentioned, “What Square has achieved is broadening acceptance of credit cards for in-person (aka card present) transactions to new classes of “merchants” (e.g. food trucks, farmers market vendors, small retailers, event organizers, etc), most of whom previously didn’t accept credit cards.”. I think the crux of SQUARE’s business model is obviating the need for merchants to have an acquirer account with a bank. Before SQUARE, when these merchants went to banks, they’d be turned down for acquirer accounts. To that extent, most of them “previously couldn’t accept credit cards” rather than “didn’t accept credit cards”. 

    • leehower

      Thanks.  W/r/t Square, I think you’re right for many cases… eg very small, occasional merchants may have had a hard time obtaining a merchant account previously.  Square also serves some merchants that are larger / permanent (e.g. physical retail store) which are newly formed and could obtain a traditional merchant account, but it’s easier & cheaper to use Square.

  • Thomas Goldsmith

    I’d offer one other path to mobile payments: One or more applications that offer a compelling mobile experience  of their own and, by the way, use prestored payments data (card/ACH) to complete the transaction. Pay at the table in restaurants is one possibility as in Tabbed Out, where additional functionailty can add value and payment is an afterthought, almost.

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