InformationWeek

erson-to-person payment systems are coming of age, with a new name, new markets, and big-name competitors using new business models. As they do, providers say, they're becoming a new payment vehicle for online purchases--one that Web sites need to take seriously.

E-mail payment systems now zap money not just to friends and family but also to online merchants and global buyers and sellers. By summer, companies hope to add everyone from the baby sitter to the electric company to the recipient list, and to list the cash that customers E-mail as if it were a check in their electronic checkbooks. It all means new competition for PayPal Inc., the dot-com upstart that jumped into the space and quickly assumed a dominant position.

PayPal is the unquestioned success story in person-to-person payments. It launched 18 months ago a "stored-value system," whereby customers transfer money into a PayPal account from a bank account or credit card, then E-mail payments to anyone they choose. It quickly found a niche as the payment system of choice on eBay and other auction sites. During the past few months, a handful of dot-com competitors, including PayPlace.com, PayMe.com, and PayPro.com, have either consolidated or folded; the brick-and-mortar financial establishment was slow to market; and what began as a niche suddenly turned into a consumer base of 8.5 million users--with 8 million of them loyal to PayPal.

As it fended off rumors that it was for sale, PayPal in March locked in $90 million in new financing from investors that included Providian Financial Corp. and ING Groep N.V. It will use the funding to increase the number of customers outside the United States, currently 5%, CEO Peter Thiel says. It had better get cracking, though, because big-name competition is lining up: Citibank is getting serious, Western Union is banking on brick-and-mortar, and CheckFree is checking in with a new model.

PayPal adds 50,000 users--the equivalent of the entire customer base of Citibank's c2it online payment system--every two days, analysts say. Like eBay, the auction site that helped secure PayPal's success, it had the first-mover advantage of quickly identifying, capturing, and holding on to a new, loyal online market; it has been impervious to attack ever since. EBay launched a competing payment service, Billpoint, in March 2000, but two-thirds of the site's customers still use PayPal.

Citibank, one of the five largest banks in the world, in August launched the first viable competition, its c2it product, and inked a distribution deal with America Online. In May, it signed on as the preferred payment system on the Microsoft Network, offering c2it to MSN's audience of 230 million monthly users, the company says. It also unveiled a deal with AuctionWatch, an auction consolidator, to offer c2it as the preferred payment for its business-to-business billing.

On May 1, c2it hit PayPal where it hurts by cutting its prices--making the service free to the recipient and reducing the price to the sender to a flat 50 cents or 2.2% of the sale. PayPal's service is free to senders; recipients pay 30 cents plus 2.2% to receive payments.

Citibank also is working to develop products through its alliances with MSN and AOL. Customers soon may see an instant-messaging service that will make it simple for a college kid to E-mail home when he's broke and get a quick advance deposited into a bank account a second later, for example.

Like PayPal, Citibank is looking to go global. In May, it said it would buy Grupo Financiero Banamex-Accival, owner of Mexico's second-largest bank, which it will use to help increase c2it's appeal to the Mexican workers in the United States who send home $8 billion a year. Last week, it expanded its c2it program to include 30 countries; U.S. residents with relatives abroad can E-mail them money instead of using expensive wire services. PayPal is in 39 countries.

Western Union is looking at both the global and business-to-business markets, where it believes it has an advantage over PayPal because of its brick-and-mortar network and its existing relationships with consumers. It also signed a deal last month with Banamex. "We created the concept of electronic money transfers 125 years ago, and we're extending that onto the Web," says Antonette DeLauro, marketing VP for Western Union's MoneyZap service.

After launching the service at no cost to customers nine months ago, Western Union in May began charging receivers using a tiered model: 1.75% for funds in an existing account or 2.8% using a credit card. There's no charge to the sender.

Clearly, the turf over which the E-mail payment systems are fighting has expanded way beyond sending $50 as a birthday present to a nephew. PayPal gets 85% of its transactions from people buying items online, according to a report published last month by Celent Communications, a financial consulting firm.

The real market is on the horizon, though. Within 12 months, the Celent study predicts, large online retailers will begin to accept digital cash--and person-to-person E-mail payment systems will become "pay-anyone" solutions offering a real alternative to credit cards. "We see P-to-P systems as a new means of payment that is becoming competitive with the credit card," Celent analyst Gwenn Bezard says.

Despite Citibank's clout, Bezard is putting his money on PayPal. "When it comes to payments, it's not convenient to have several systems," he says. "Today, a PayPal user can't send money to a c2it user; there's no standard among the systems. That makes it difficult for any bank to succeed individually. They'll have to set up a consortium like Visa to establish standards as well as a new company to handle payments, and that will be difficult. If they don't, I'm betting on PayPal."

Still, closed-loop systems such as these have been the only profitable model, Bezard says. If a customer uses a credit card to put money into a PayPal account, PayPal pays a 2.5% merchant fee to the credit-card company--but it gets just 2.2% from the customer. When the customer spends that money, PayPal gets another 2.2% fee from the recipient of the payment. PayPal also earns profits when business customers pass the money internally more than once.

Also shaking up the establishment this summer will be CheckFree, which will roll out an integrated model for E-mail payments. It's an open platform for Web sites that includes E-mail payments, as well as standard online banking and bill payment.

CheckFree already has a huge presence in electronic bill payment as the infrastructure that facilitates online banking and billing services for 300 financial institutions and Web sites, including AOL, Bank of America, the U.S. Postal Service, and Yahoo. The new version of its platform, WebPay 3.2, adds E-mail payments to its existing applications, so financial sites can offer consumers an integrated service that includes monthly statements of their E-mail money transfers along with regular banking and checking statements.

CheckFree will offer an application service provider model for WebPay; Web sites would then determine their own pricing, likely the same as for online checks. Most banking sites offer customers a set number of transactions for a flat fee of about $8 a month, though some give away the service for free. Bank of America, the largest bank in the United States and a CheckFree customer, plans to offer an E-mail payment system based on WebPay, and it has committed millions of marketing dollars to supporting it, says Bill Zielke, CheckFree's VP of product development.

WebPay 3.2 offers two other new features: scrape and pay, which translates billing information into HTML so it can be presented to customers online; and an E-mail billing and payment service that lets consumers receive monthly bills via E-mail, then E-mail a payment with a single click.

Zielke declined to cite the exact cost of WebPay 3.2 to financial institutions. But he argues that CheckFree, which will process 200 million financial transactions this year with 99.9% uptime, is hardly a newcomer, and its 20-year history of relationships with banking institutions will serve it well as it takes on PayPal and Citibank. "It's a different approach from companies going it alone with technology that leverages stored value," Zielke acknowledges. "But it goes with what consumers already are comfortable with."

C2it also will combine its E-mail service with electronic billing by year's end, chief operating officer Antony Jenkins says. The point is "much more than sending money by E-mail, but rather facilitating the movement of money to a variety of destinations: to shops, to international locations, and to pay bills." Jenkins figures that even 18 months after PayPal's launch, Citibank's entry is still early in the development of the market. "We believe the person-to-anywhere space is very nascent and that consumer adoption will mirror that of automated teller machines, with niche applications coming first, and then gradually finding a mass-market inflection point," he says.

But PayPal's Thiel isn't concerned about the big guns taking aim at his space. "Big players tend to not be innovators," he says. "While Western Union and c2it have been adept at trying to copy what we do, thus far, they haven't gotten a lot of traction. I'm much less scared than I was a year ago, when they were first announced."

PayPal will answer the need for a real-world presence later this year by adding a Visa card that customers can use to make purchases offline. It will be underwritten by Providian, a PayPal investor whose CEO sits on PayPal's board. "It's been a big bloodbath the last year for the dot-coms, so we're pretty much the only standalone payments company left," Thiel says. "And the big theme is that the market is just starting."

The challenge for E-mail payment systems now is signing up merchants, says James Van Dyke, a Jupiter Research senior analyst. "Consumers are ready--what we need now is a Visa-like network from a name they trust." Whose name comes out on top remains to be seen.