How the Rest of the World Does Web Payments

  Credit cards dominate Web payments in the U.S., but variations on account-to-account transfers are popular elsewhere in the world. Will American financial institutions import any of these systems?
  In the 1970s and early '80s, when MasterCard International and Visa International set about exporting their lucrative credit card networks beyond the United States, they had visions of plastic becoming as ubiquitous a currency as it had at home. While successful-MasterCard and Visa international charge volume in 2001 was almost 50% higher than that of the U.S., $1.87 trillion to $1.28 trillion respectively-their credit card-based acceptance model has not played as well outside the U.S. in cyberspace.
  Whereas American consumers mostly use credit cards, and also offline debit cards, to pay for about 95% of Internet transactions, cards' share varies greatly in other countries, according to figures from Woodinville, Wash.-based Retail Payments Global Consulting Group. Cards capture around 90% of online volume in the United Kingdom and more than 80% in France. But the share drops to 25% to 30% in Germany.
  Card-based online volume share in Austria, Holland, Italy and Spain ranges within about 10 percentage points, plus or minus, of Germany's. Scandinavians put 50% to 60% of Internet purchases on cards. In Japan, cards are used for only one-third of Internet purchases, compared to more than 90% in Australia, Retail Payments Global data say.
  The primary challenger to credit and debit cards for online purchases beyond U.S. borders are account-to-account (A2A) payments. These payments allow consumers to move money between their own accounts, send cash to a friend and even pay a merchant or utility. No plastic, paper checks or handling of cash, just a transfer of funds via a direct electronic link between the consumer's bank and the recipient's bank.
  Besides ease of use, A2A transfers enable merchants to receive payment faster than waiting for a check in the mail. They also reduce the potential for fraud and chargebacks associated with card payments. Most of all, A2A payment networks mean that online merchants outside the U.S. do not have to turn their backs on the non-credit payment culture with which their customers are accustomed.
  Credit cards are mostly a U.S. phenomenon. What the card companies have learned from international expansion, and have worked mightily to change with mixed results, is that the payments orientation outside the U.S. is towards cash and direct debits of bank accounts. In Europe and elsewhere, credit cards tend to be embraced more by the affluent, or used by average consumers only when cash flow is tight.
  Europeans are usually introduced to the equivalent of a revolving credit line through overdraft protection on their bank accounts. Japanese consumers prefer to use their Visa and MasterCard cards for cash advances. But when making a purchase from a mail-order house, Japanese consumers often will have merchandise sent to an intermediary that represents the merchant, such as a convenience store where they can inspect the product and pay for it in cash if satisfied. In case the item is not picked up, the convenience store will act as a collections agent on behalf of the merchant.
  "There are cultural differences between the U.S. and other countries that extend to the way consumers pay for a purchase," explains Rene Pelegero, president and managing director of Retail Payments Global Consulting Group and former director of global payments for Amazon.com. "Not only are there still a lot of cash-oriented societies, but a lot of countries don't have the same approach to card acquiring and processing as the U.S."
  That can pose cash-flow problems for merchants. In Japan, for example, credit card merchant acquirers settle transactions in batches at the end of every month. As a result, merchants can be left waiting more than 30 days to receive payment on some purchases. Merchant fees for card acceptance also tend to be higher outside the U.S., as much as two to three times the rates charged by U.S. acquirers, adds Pelegero. That rate differential is largely due to lack of competition among acquiring banks, as many foreign countries have a national banking structure controlled by a handful of financial institutions.
  Higher merchant fees have naturally created some disgruntlement among merchants in other parts of the world. Eager to lower their operating costs as the global economy sputters, online merchants in Canada, Western Europe, Japan and Scandinavia are embracing A2A payments.
  This trend has not gone unnoticed by their counterparts in the U.S. and has lead to speculation that perhaps they may begin to lobby U.S. banks to offer similar payments options.
  "Merchants have always had concerns about being held over a barrel when it comes to card acceptance," says Robert A. Leathern, a senior analyst for New York-based Jupiter Research. "But outside the U.S., merchants have had to consider accepting other payments methods because people do not use credit cards as actively or always have them. There are opportunities for account-to account payments in the U.S., but it is not as high a priority as in other countries."
  For Internet merchants outside the U.S., A2A payments are a welcome, low- cost alternative to card acceptance. Typically banks charge a flat fee for an A2A payment, as opposed to a percentage of the transaction total, that can range from a few cents to about $1.50. In most countries, the sender is charged the transaction fee. Other times, transaction costs are split between the sender of the payment and the recipient. In either case, merchants get a higher margin on these transactions than they do for purchases paid for with plastic.
  Card fraud also is a major concern for online merchants outside the U.S., as acquirers in many foreign countries do not have the address verification systems that are so common in the U.S.
  Like the ACH
  Many A2A payment networks leverage existing online banking and bill-payment mechanisms, which are quite popular in foreign countries. Finland's Nordea Bank charges merchants 4 to 5 euros ($4.32 to $5.40) to process a check. In comparison, an e-payment through the bank's Solo online network costs merchants about 0.24 euros (25 cents). Solo, which was launched about a decade ago as an online banking service, is available to merchants in Finland, Denmark, Norway and Sweden. E-payments were added to Solo in 1996.
  "It's a pretty expensive transaction for online merchants to process invoices or cash-on-delivery," says Ritta Pennanen, first vice president, direct banking for Nordea Electronic Banking. "There is also the risk payment won't be received and that if a check is received it may not clear. An e-payment costs a lot less and has less risk because the transaction takes place between accounts."
  Solo counts 3.3 million users that generated more than 121 million online payments in 2002, up from 97 million payments in 2001. Nordea expects transaction volume to reach 150 million this year. More than 2,000 merchants participate in the network.
  To help its merchants drive Internet volume, Solo runs an online marketplace in each country throughout its operating region. Although less than 700 merchants are collectively housed in the four marketplaces, more than 1,100 new ones have signed to come online in 2003.
  E-payments are conducted much like an automated clearinghouse transaction in the U.S., with the buyer providing a bank-account number, amount of transaction and name of the merchant to receive payment. The bank then transfers the sum from the consumer's account to the merchant's account. Consumers can make online purchases from Solo merchants in any country and can even make purchases at some brick-and-mortar merchants, such as supermarkets. In this instance, the consumer presses a Solo button on the point-of-sale terminal and enters her account data and the amount.
  "What we offer merchants is a bank transfer with no risk of fraud," says Pennanen. "This is cheaper than a manual transaction for them, and we have a brand well known with consumers."
  Near-term growth for Solo will come from within Scandinavia. "Our core markets offer the biggest potential for immediate growth, and that's the primary focus," says Pennanen. She adds, however, that opportunities exist to expand into Poland and the Baltic region. Both are markets where Nordea is establishing a banking presence.
  Canada's CertaPay
  Canada's major banks also are focused on first building A2A payments volume in their own backyards before pursuing cross-border expansion. In 2002, Canadian Imperial Bank of Commerce, Bank of Montreal, RBC Royal Bank, ScotiaBank and TD Canada Trust bought out CertaPay Inc., an independent company formed in 2000 to facilitate person-to-person payments via e-mail. The banks viewed the move as a logical extension of their role in A2A payments. They had provided the infrastructure and served as the primary distribution channel for CertaPay, which some analysts claim was experiencing financial difficulties before the buyout.
  Analysts expect the new owners to infuse much-needed marketing capital into CertaPay to expand its user base, the size of which company officials decline to reveal. Royal Bank will roll out the service this year, after which two non-owner banks will be added to complete the distribution channel.
  "New ownership is going to help CertaPay gain traction," predicts Gwenn Bezard, a senior analyst with Boston-based Celent Communications. "It is going to show consumers that Canadian banks believe in the solution and will support it long term."
  Currently, CertaPay is being marketed through each participating bank's Web site as a component of their online banking services. To transfer funds, a customer logs onto his bank account and clicks on the CertaPay icon. Next, he fills out a form that designates the amount and the number of the account from which funds are to be withdrawn. The consumer then designates an e-mail address where funds are to be sent, answers some security questions to verify his identity, types an optional message for the recipient and hits the send button.
  The sent e-mail contains a hotlink to connect the recipient to his or her bank to deposit the funds. Funds are available for immediate withdrawal upon deposit as the sender's account is debited as soon as the sender completes his end of the transaction. All account data are encrypted.
  "Customers like the service because they don't have their banking information flying around on the Internet, and it is a way to send guaranteed funds in a secure environment," says Rod D. Whitwham, president of Toronto-based CertaPay. "It is a replacement for checks and wire transfers and a way to stimulate e-commerce."
  Indeed, CertaPay is a payment option on the eBay Canada online auction site and marketplace. Only Canadian buyers and sellers can use the service. Long-term, Whitwham sees the service being expanded to small businesses and even serving as a mechanism to facilitate cross-border money transfers with U.S. consumers and businesses.
  Reciprocal Agreements
  The latter is unlikely to happen anytime soon, however, as CertaPay banks must strike reciprocal agreements with U.S. banks. Although A2A payments have yet to take root in the U.S., CertaPay has begun laying the groundwork in this area.
  Last June, the company agreed to license its technology to NYCE Corp., the second-largest electronic funds transfer network in the U.S. Montvale, N.J.-based NYCE is offering the service to its financial-institution members, who can apply their own brands to it. Neither NYCE nor CertaPay would comment about the prospects for cross-border payments between the two networks. NYCE did say in a prepared statement that the technology will allow members to offer real-time A2A payments.
  A more immediate focus for CertaPay is to grow its customer base within Canada and build volume. One plan is to pitch the service as a way for delinquent borrowers to pay immediately when contacted by creditors.
  "There is not a lot of e-check volume in Canada," says Whitwham. "This is a good opportunity to tap into e-commerce (as a substitute for e-checks), especially for small businesses. After we do that, then we can start to look at cross-border transfers."
  Banks interested in migrating proprietary cross-border A2A payments to the U.S. may not want to wait too long. Last November, Visa International's London-based Visa EU region unveiled Visa Direct, its version of a cross-border A2A payments service that the card association is promoting to members with its usual vigor. Targeted for A2A payments in the European Union, Sweden's ForeningsSparbanken and Spain's BBVA and La Caixa banks have committed to launching the service later this year.
  Unlike other A2A services which transfer money directly between bank accounts, Visa Direct charges the amount to the sender's Visa account. Cardholders pay a fee determined by their card issuer and are limited to transferring funds to other Visa account holders. Visa developed the service with Clear2Pay, a Brussels, Belgium-based software vendor.
  Transactions are run over the VisaNet network. Playing to Europeans' debit-centric nature, cardholder accounts are immediately debited. Eventually, Visa intends to expand the system to include transfers from cardholders to checking and savings accounts at non-Visa banks in other regions.
  "It can be a way for micro merchants that do not accept cards to transact with Visa cardholders," says Jonathan Valentine, a Visa EU senior vice president.
  Despite such prognostications, Visa is not expected to offer the service as an option to Internet merchants anytime soon, as Valentine notes that the traditional card acceptance model works well.
  Cardholders can access Visa Direct via the Internet, phone or at their banks. To initiate a transaction, cardholders provide the recipient's account number and e-mail address, but can commence the process with just the e-mail address.
  In either case, Visa notifies the recipient by e-mail that she has a money transfer waiting and guides her to the Visa Direct Web site to complete the transaction. The process involves recipients providing their account information, if necessary, and a verification code passed to them by the sender.
  Recipients have one week in which to respond to an e-mail notification before the transaction is voided. Senders, however, have the option of setting an expiration date of up to 21 days and are notified when the transaction is complete. Neither party needs to register to use the service, and transfers can be sent in any currency supported by the Visa network.
  Visa is limiting the service to cardholder accounts for the time being in part to comply with banking regulations aimed at curtailing the use of A2A transfers for money laundering and terrorist funding. "There are parameters in place that limit the amount of funds or transactions that can made before money-laundering controls go into effect," explains Valentine without being more specific.
  Visa expects its A2A model to play well with banks because they don't always have the infrastructure to facilitate cross-border transactions. "Members develop A2A payments systems that work well in-country, but turn to Visa for cross-border capabilities," says Valentine. "We have demonstrated the ability to move high volumes of low-dollar transactions efficiently over our network worldwide."
  Not surprisingly, the development of A2A payments around the globe is starting to catch the attention of U.S.-based Internet merchants eager to boost their margins by lowering the percentage of transactions paid for with credit cards. The infrastructure to support A2A payments in the U.S. already exists in the form of the ACH and EFT networks. Payments experts believe it will require little, if any, modification by banks to get A2A payments up and running over these networks.
  The key questions, however, are whether there is consumer demand and if banks can generate acceptable returns on their investments in such services.
  "It all comes down to whether there is sufficient consumer interest in this payment option and how much banks think they can profit from it," says Celent's Bezard. "Cards are a popular way to pay online with U.S. consumers and they make a lot of money for banks."
  His point is borne out by NACHA-The Electronic Payments Association's decision in late 2002 to delay indefinitely Project Action ("No Action for Project Action," January). Herndon, Va.-based NACHA conceived Project Action as a way for consumers to make online purchases using their demand-deposit accounts. The plan called for merchants to be paid with ACH credits, which are guaranteed funds and therefore not subject to reversal for non-sufficient funds in the consumer's account. Banks were to have the option of choosing their own authentication technology and, in return for bringing buyer and seller together, would receive a new revenue stream for their services.
  NACHA said it postponed the program because banks wouldn't provide the $1 million to $1.5 million in seed money it needed. But others said banks had misgivings about the time it would take for the service to gain mass acceptance, and feared that ACH-based Web payments could undercut their lucrative interchange revenue from online credit card payments. And merchants worried that banks would set acceptance costs too close to card-based online interchange rates, which they claim are too high.
  New Competition
  "Right now e-commerce is dominated by the card systems," says consultant Pelegero. "As long as banks see account-to-account payments as competition to cards, they won't fly."
  New competition for Internet payment market share may be arising from PayPal Inc., the online payments aggregator that was purchased last year by San Jose, Calif.-based eBay Inc. Some observers speculate that since eBay paid $1.5 billion to acquire PayPal and then ate millions more to kill its own, competing Billpoint payments network, eBay may not let in competing A2A payment options ("eBay Puts Its Mark on PayPal," page 34).
  Furthermore, banks may face tough A2A competition from PayPal apart from eBay's famous Web auction venue. About 40% of PayPal's volume takes place outside eBay. An eBay spokesperson says the company is looking to grow that side of PayPal's business.
  Rather than slug it out with PayPal in a costly marketing battle, banks might be content to let PayPal rule the A2A payments business in the U.S. since about 50% of all PayPal transactions are card-based. PayPal's remaining transactions are equally split between direct debits initiated through the ACH, which cost PayPal about 3 cents per transaction, and credit transfers between PayPal accounts, which cost it practically nothing.
  The only real worry for banks is if PayPal seeks to increase the percentage of ACH-based transactions at the expense of cards, on which PayPal pays 2% to 3% of the transaction total. Some argue that is what eBay and PayPal have in mind.
  "There is a long-term drive by PayPal to push as much money as possible through its own system, rather than outside systems such as the card networks, because it is a lot cheaper to do so," says Shawn Milne, an analyst for Soundview Technology Group, a San Francisco-based market-research firm.
  But until American credit card issuers see a significant drop in card volume and an adjoining decrease in revenue, indications are they will not adopt A2A transfers. About all that will change their minds in the interim is if they can figure out how to profit handsomely from A2A payments.
  "There is a missed opportunity for banks in this space," contends Celent's Bezard, who predicts banks could garner more than $300 million in A2A revenues in 2005.
  Perhaps, but many banks don't see it that way, at least yet. What is certain is that online buying will continue to grow, and so will the pressure on the financial community to adapt existing systems or introduce new ones that will accommodate as many buyers as possible.