Lately I had the chance to talk with a really smart entrepreneur who’s into payments. I was baffled, frankly, about why someone would go into online card acceptance, a fragmented and crowded market. He offered a great piece of insight: payments are an obviously broken part of the shopping experience, an interesting and big market that’s not advertising or gaming which is usually where young entrepreneurs go. I respect that, and I also respect the fact that he is knowingly marching towards the unknown; hoping for his and his team’s success, I know they’re going to rightfully earn some gray hairs in the coming few years.
However that raises a question that I’ve dealt with in this blog in the past: what does it mean to succeed, to “win” in payments, and what it takes to get there. Offering a solution such as card acceptance for small merchants or starting with a niche like college payments or digital content can provide good initial traction for a budding payment service. The question is, however, whether you can expand on that early start and scale; at this point you have to deal with money movement being a commodity.
Small and medium merchants are growing more sophisticated with their webdev capabilities, and they will integrate you for a better price. It’s that simple: a better price or a slightly better integration or a slightly conversion-growing experience will get you a small crowd, enough for initial traction; some of them will just add you to the pile of services they are already using.
That’s exactly what most of the new startups in payments do, and that allows them to stick around while they fund their merchants’ business using VC money or burrow deeper into a high-margin market segment like digital. Unless you have very deep pockets or can raise money effectively (and there are few players that can), you’re in trouble: price hikes, alternative revenue streams or an obligatory move to ACH payments will ensue, probably resulting in an exodus to the next low-price service, and you will never reach scale (there are other, better options – I will discuss them in a following post). At some point, it’s convert users to low cost funding sources or get out of the game.
If you think I’m exaggerating, read this post and then these great answers on Quora; price wars are not sustainable, and the market can’t support so many payments companies trying to reach scale at the same time. Something has to give.
How do you differentiate? This is the time to ask yourself whether what you’re building is a feature or a product, and whether you’re really providing any added value, and lastly whether you have an exit plan at $50M, $200M or are really playing for the big league. Each should be planned for differently. Payments are not a pure consumer play; you rarely go viral. The really interesting problems in payments have very high barriers for entry; the type of problems currently being tackled, not so much:
- Have a beautiful dashboard for merchants to view their customers’ behaviors? So do others.
- Looking at easy integration and no need for a merchant account? Stripe and Braintree have that figured out, and they’ll have to start thinking about merchant retention and higher pricing very soon, if not already.
- Thinking of a coupons and loyalty plan? Good luck with adoption.
- Planning to use ACH or other bank payments? Gear up to challenge PayPal adoption in the US, and consider whether Dwolla’s approach to bank payments isn’t the main driver behind its slower growth compared to other services.
- Thinking of a new POS system? Even Square, doing so many things right, is going to be pushed on price and market share by companies replicating its model. It comes down to brand and convoluted termination clauses in long term agreements, like any other commodity business.
This is deep pockets land with some talent acquisitions around the edges, not a place for innovation.
Does this mean that there’s nothing to do in payments? No. There is a lot to do in payments, and I believe that this guy I mentioned and others will find success in their business, even if not displace PayPal and others. There is, though, a more interesting aspect of the market to attack. More about that in my next post.