Facebook Payments System Facing Uncertain Demand

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Could Facebook credits become the currency of the Internet?

Facebook Inc.'s popular social networking site already has a small toehold in payments through its virtual gift shop, and is reportedly trying to expand the system.

The company claims more than 200 million active users worldwide who trade gossip and keep in touch with friends through its Web site, and analysts said this vast audience might welcome a way to interact commercially as well.

However, they warn that Facebook's efforts to promote an alternative currency may be unnecessary and that demand for a Facebook payments system will likely be minimal unless there is a corresponding market for products or services available through the site.

Offering more payments services through Facebook could be popular with users, "but the recipient would have to see value in Facebook credits," said Bruce Cundiff, a director of payments research and consulting for Javelin Strategy and Research of Pleasanton, Calif. "That's the big issue: are they valuable when they're no longer dollars?"

People can use credit cards now to purchase 10 credits for a dollar through the site's virtual gift shop, and can spend the credits on inexpensive digital novelties such as playful icons sent to one another's Facebook pages, including images of birthday cakes, balloons and sock monkeys — the electronic equivalent of a greeting card.

In recent months the Palo Alto, Calif., company has also opened up its payments system to eight software developers that offer games, calendar tools and other simple applications; (fluff)Friends, for example, lets people buy gifts for digital pets.

Facebook did not respond to numerous attempts to contact the company, and it has said little to date about its payments strategy.

However, Gareth Davis, a Facebook platform manager in charge of games, told the Los Angeles Times at a conference in March that the company was developing a system that would promote microtransactions by allowing people to buy its virtual currency in large chunks and then spend it in smaller amounts within games and other applications.

Inside Facebook, a news Web site for software developers, has written about tests of such a system as far back as 2007, and reported that the system went live with a handful of companies in May.

Other companies have tried, and failed, to introduce alternative online currencies in past years, including Beenz and Flooz; despite expensive marketing campaigns and celebrity endorsements, both failed to find an audience.

Cundiff said the most successful virtual currency systems, such as the one used within Linden Research Inc.'s Second Life virtual world, are effective because they provide a mechanism for people to convert their electronic funds back into real dollars. After selling digital goods in Second Life's virtual world, "you could turn that into actual value in your first life," he said.

Facebook's Davis has said that exchanging dollars for credits is an important part of his company's planned micropayments system; as of now, there is no mechanism for converting them back to real money.

Gwenn Bezard, a research director at Aite Group LLC of Boston, said this concept "is a warning signal to me" because it is an unnecessary step.

"That type of thinking is prevalent, especially among people who don't know anything about payments," he said. "You could do the same with a prepaid account. The payment processing issue can be alleviated by using a prepaid loader … look at iTunes. A lot of the songs are sold using an iTunes gift card." Apple Inc.'s popular iTunes service sells songs, movies, TV shows and digital media.

By asking users to convert cash to credits, "you add complexity when you really don't have to," Bezard said. "You can address micropayments in a more mainstream way" without requiring a manufactured currency.

Another major issue is that there are few reasons now for Facebook users to make payments through the site. There are two main payments models that could work through Facebook, the analysts said: person-to-person payments, with users sending money to one another, or a Facebook-operated store, much like the App Store operated by Apple, where developers offer software to iPhone users. The existing Facebook gift shop suggests that the social networking site is leaning in the latter direction, they said.

Cundiff said that Facebook's payments system is "limited by what's out there right now," but that it could expand if there were more things for people to buy.

However, for Facebook payments to really take off, growth would need "to come from things beyond digital goods" he said, and that would likely require moving beyond the company's social networking platform. And that may not be part of the company's long-term plan, he said. "I don't envision Facebook becoming an e-commerce merchant."

Bezard noted that eBay Inc.'s widely used PayPal Inc. offers online person-to-person payments, but its main growth has come from handling payments for eBay purchases, "a market that was already big" within the e-commerce space. Facebook, by contrast, "is growing, but it is not yet a massive market" for purchases.

A big name and an established audience are no guarantee that a payments system will take off, a lesson that Google Inc. learned the hard way, Bezard said.

Google introduced its Checkout service in 2006, offering inexpensive (and sometimes free) credit card processing to online merchants that used its advertising service. But the poor economy has cut down on advertising, and Google announced a significant price hike in March. The move has prompted some merchants to defect to other services, and some observers have speculated that this is exactly what Google wanted. Google did not return calls seeking comment.

Inside Facebook reported last week that Facebook recently hired a former Google Checkout director to join its own payments team. "If you're a project manager for Google Checkout, you're probably looking for another job," Cundiff said.

Checkout "is at this moment fading away," Bezard said.

Operating a payments system "always seems a lot easier to do from the outside," he said, "and I think the difficulties for Google should be a warning for Facebook."

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