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PayPal Taps MasterCard (and Orbiscom) to extend Its Reach

by Daniel Wolfe
American Banker
June 29th 2006

The online payment provider PayPal Inc. is testing a system that will enable its customers to shop online with the funds in their PayPal accounts at any merchant that accepts MasterCard International cards.

The San Jose company has had moderate success in convincing merchants to accept payments from PayPal accounts, but its Virtual Debit Card product functions like a MasterCard debit card.

Enabling people to easily spend the money stored in their PayPal accounts at so many merchants will likely drive up its payment volume.

It will also increase PayPal's revenue because the company will earn interchange on each transaction.

"We do have a merchant services business that is focused on expanding the acceptance of PayPal throughout the Internet, and we continue to make that a primary focus," Chris George, the eBay Inc. subsidiary's senior vice president of financial products, said in an interview Tuesday.

"But there's obviously places that you can't use PayPal," Mr. George said.

The Virtual Debit Card uses software developed by Orbiscom Inc. of New York. Other payment companies are using similar Orbiscom products for security. For example, customers of Morgan Stanley's Discover Financial Services have been using Orbiscom software since 2000 to generate a single-use number for making online purchases without revealing a card's actual account number.

PayPal has modified that concept by creating single-use numbers linked to its accounts instead of standard credit card ones.

Mr. George said its customers are very interested in online security. "What they really wanted was to ... use PayPal in more places as they shop online."

PayPal has been working to become a more accepted payment method outside eBay auctions. Over the past two years it has become an option for large e-commerce sites run by Apple Computer Inc. and Dell Inc.

However, it lags far behind the major credit card companies in acceptance among online merchants. According to the electronic payment software company CyberSource Corp., about 97% of online merchants accepted cards last year, but only 23% would take PayPal.

Dan Schatt, a senior analyst for the Boston market research company Celent LLC, said the Virtual Debit Card offers "a pretty large opportunity for PayPal to get its users spending where they were not before."

The product also could win PayPal some new users, he said. Security is still a very big concern to a lot of wealthy consumers, who "are sitting on the fence because they want to pay online" but are not comfortable providing an account number.

PayPal is testing the software now with its employees and plans to roll it out for free to its U.S. customers over the next six months. The transactions can be funded by the balances in customers' PayPal accounts, by checking accounts linked to those accounts, or by PayPal's Buyer Credit and Plus credit card; they cannot be funded with other credit cards.

To merchants, virtual debit transactions will seem like MasterCard signature debit transactions.

A spokeswoman for PayPal said it will share the interchange fee for each payment with First Data Corp., which will process the transactions. She did not say how the money will be divided.

PayPal reported first-quarter transaction volume of nearly $8.8 billion; Gwenn Bezard, a research director at Aite Group LLC of Boston, estimated that two-thirds of that total was transferred to users' bank accounts, and could potentially be used for virtual debit payments. Assuming interchange fees of 1.5%, he calculated the potential annual revenue that PayPal and First Data will share could be $360 million. "That's definitely significant," he said.

PayPal already offers a MasterCard debit card linked to its accounts, but only to customers who use its business or premier accounts, which carry fees.

It has also long provided debit card numbers to customers through its Virtual Debit Bar service. The numbers, which are entered at a merchant's Web site, are reusable for two years.

The Virtual Debit Card is designed to be easier to use. Downloading the software installs a button on users' browsers. Clicking the button at a checkout page generates an account number and expiration date, which are automatically entered on the page.

This software appears to be a reversed version of a system PayPal introduced a year ago. That system lets merchants with PayPal accounts accept credit card payments from customers that do not use PayPal. The system is designed for merchants that do not have relationships with a merchant acquirer but still want to accept cards.

The virtual card "really wasn't built as a sales tool for merchants," but the company does expect to use it to persuade merchants to accept PayPal, Mr. George said.

By documenting how many people use the virtual card at specific merchants, "we can point to the fact that X% of their customers ... are actually paying with PayPal."

PayPal can then make the argument that the merchants could increase sales by accepting its standard transactions, he said.

http://www.americanbanker.com/article.html?id=
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