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A Case for Micropayments

Written by on April 2, 2014

I have published several articles about how we need to find more intelligent solutions to payments online. In the physical world, it is a simple as just handing over some pieces of paper, or just swiping a credit card. But online we are faced with overly complicated checkout pages, with so many steps that one would think companies tried to stop people from buying.

In April, 2012 I wrote "We Need To Drastically Simplify Payments Online". I illustrated a concept for how we could use the same technical concept as our social widget to create a cross-site payment system that would be both secure and super simple to use. And I encouraged MasterCard to make it happen.

And in June, 2013 I wrote "The Future of Digital Payments". Here I dived into many of the problems facing online payment startups today, especially those wanting to do the instant type of microtransactions.

The result of this was that many payment startups started contacting me to voice their opinions and insight, and we have generally had a good discussion around this very topic.

Some have told me that they have already invented the system that we all need, and challenged me to implement it.

I kid you not. We have been able to do exactly what you have described in your article since before you wrote it.

My 'concern' though, is one of scale. The technical issues around creating a usable online payment system is not that hard to do. And as many have pointed out, it has already been done. But I can't base my company on technology alone.

Online payment is a three-part problem:

  1. We need to invent the technology, which we have done.
  2. We need to get people to use it at a large enough scale so that using it doesn't involve adding a whole lot of friction.
  3. We need to solve the minimum fee problem. Paypal, for instance, charge a fee of 30 cents per transaction (+2.9%), thus trying to sell articles for 1 cent per view simply cannot be done. We need to group them together first.

It's basically these problems that I wrote about in "The Future of Digital Payments". If you haven't read it already, please do so now.

As a publisher and business owner, I'm torn between wanting to help these startups fix our broken world of online payments, but on the other hand, I can't risk my business on a startup that doesn't yet have the scale.

In fact, of all the payment startups that have contacted me within the past three years, many of them don't even exist anymore. They just couldn't create the scale needed.

However, I was then contacted by Greg Golebiewski, Founder & Director of Znak-it, and he emailed me this great reply in response to my original article. And instead of writing yet another article, I will simply give it to you in its raw form (with his permission of course).

I very much agree with many of the things he writes.

Micropayment, by Greg Golebiewski

First, there is this huge misunderstanding or confusion about what micropayments are. This must be sorted out before I'll explain my view and my experience with micropayments that work.

On the one hand, there is the original micropayment concept, as the term was coined and defined by Ted Nelson, and there are small payments, often called "micropayments," but they are an entirely different species. Often the critics of micropayments (in general) apply the obvious shortcomings of the latter to the former. If you check the Wiki, for example, you'll find that:

A micropayment is a financial transaction involving a very small sum of money and usually one that occurs online. PayPal defines a micropayment as a transaction of less than 12 USD while Visa prefers transactions under 20 Australian dollars, and while micropayments were originally envisioned to involve much smaller sums of money, practical systems to allow transactions of less than 1 USD have seen little success.

This is ridiculous on many levels. 12 USD is not "micro;" neither is 1 USD. And, it is not purely semantics. Micro, nano, it does not matter. What matters is that micropayments are transactions that can represent an exchange of any value. It can be cents or fractions of a cent, of course, but also credits, virtual tokens, loyalty points, access privileges, ads, bitcoins, etc. It is not "a small sum of money," as we know it, but any transferable value, including one that the traditional payment methods are unable to capture and process.

Theoretically, these exchanges can have a nominal value of millions of dollars each, or be as small as necessary and practical; however, since we are talking about microtransactions, let's focus on the latter.

By practical, I mean computable and sensible, of benefit to the exchanging parties. For example, Spotify, you mentioned in your article, calculates musicians' royalty payments in fractions of a cent, something like $0.0006 per streaming; telephone companies may charge $0.005 per impulse or SMS, etc. - these are all examples of microtransactions that are practical and real, done every day with great success and often huge profits.

Online advertising is another first hand example of the very successful and real microtransactions that take place all around us. Companies charge or are being paid, say, $0.25 per a thousand of impressions, or CPM.

In other words, each impression is worth $0.00025 - it's a micro charge!

You write about adSense but fail to list is as micropayments. Why? Mainly because we tend to think about micropayments as money - one dollar, 1 cent, etc - not as a transaction that involves exchanges of any value. And also because we've been told by gurus of "free internet" not to recognize these transactions as examples of micropayments already in use - it would ruin their long standing, but totally bogus theory that "people hate to be nickeled and dimed" and that "micropayments would never work" because of the mental transaction costs being larger than the value of such transaction.

Naturally, no one is being paid or asked to charge a credit card $0.00025 for each such micro transaction, even though it can be done.

For more feasibility and due to existing banking and payment infrastructure, all these microtransactions are usually aggregated and processed once a week or month. But again, the key is it can be done. Aggregation is one of the solutions, not an argument against micropayment practicality or the "hassle factor." I'll return to this issue later.

Before then, however, let me use the Wiki definition again and emphasize that all micropayments (as I understand it) take place online. As Ted Nelson explains, the concept of micropayment was conceived in the 1960s to "make hypertext possible." Micropayments are, by definition, digital. Then the WWW came, of course, and it changed and simplified (or corrupted?) Nelson's original idea.

Still, it is important to understand and distinguish between micropayment as it was envisioned - a clean, simple and fluid payment system for digital content and goods - and the small online transaction processing, as the many companies you mentioned in your article try to facilitate and profit from.

Now, let's call the "true" or real deal micropayment system RDM, and the other, or everything else that is called micropayments, just MP.

Therefore, a RDM is a real-time online transaction that allows internet users access and/or download digital content and goods or services in exchange for some (predetermined or negotiated) value, usually worth cents or a fraction of a cent, but practical and acceptable to both the user and the owner of that content, goods or services.

When one accepts this definition, the possibilities become endless. But let's look at a few examples:

1 -- A magazine article - user sees its title or title with a brief free summary or key words, picture, etc. it is up to the owner how to display, advertise and sell it online. The user sees also its value or cost to access it in dollars, virtual currencies, frequent reader points, etc. Let's say the price is 5 cents or its equivalent. He decides to read it, so he clicks the Read button, and the payment is automatically debited from the user account and credited to the owner account. And that is it.

I realize that, at this point, you will jump in and say: "Right! But where is the 5 cents supposed to come from? Is it prepaid? How is the user account funded? How do you pay the owner? Is there registration needed?" And many other valid questions about the practical and technical solutions. I will answer these questions a bit later.

2 -- Instead of asking people to pay 5c, a message is displayed with a choice of buying the entire article or paying for it with user attention or data. In other words, a third party, such as an advertiser, shows an ad matching the content's keywords or user characteristics, or there is a field to enter the user phone number or zip code, or he/she may be asked to answer a brief yes-no marketing question, etc.

Again, there are many options and possibilities to monetize user attention or data in exchange for "free" access. Free to the users, but paid by a third party, one micro transaction at a time. The micro transaction here is between the advertiser and the content owner, and it can be set as per click/action, it can be auctioned to the best buyer, and so on.

These examples are only to show the difference between the RDM and MP.

With the MP system, none of these transactions would be possible or practical. As you correctly pointed out in your article, it is possible, but would not be feasible for the content owner from the first example to set up a PayPal button and charge 5c per article. PayPal transaction fees are too high for that. A Square-type or any main credit card processing is also out of the question. Flattr would work with the 5c price, but only as a suggested donation. Most of those systems also require multi-step registration, user verification and sign-up with a PIN or special code, and thus the transactions can hardly be real-time, etc. But these are MPs not RDMs, as defined above.

The RDM eliminates these basic problems or limitations. How? First of all, it allows splitting each transaction in two or process it using two separate tracks - one that is purely digital and frictionless: processing of content-user info; the other: aggregating and processing the actual transfer of exchangeable value.

The former can be done instantly and automatically without any input from the user or the content owner, as both are already identified as unique bits of encrypted information. The latter can be done later and at will, as an ordinary credit/debit transaction, using the traditional banking and financial system or any new value exchange protocol, such as Bitcoin or Ripple, for example.

This separation is crucial, and it is unique to the RDM. All MP systems I know, except the original Dwolla, try to process their transactions as a chain of user identification processing, which requires user registration with the system, transaction coding and authentication, order authorization and clearance, etc. - all of this generates massive amounts of sensitive data and complex routing of the data on behalf of the user and content provider through the network of banks, credit cards and clearing houses.

And, ironically, to satisfy the now mandatory PCI Security Standards, any MP startup has to comply with the credit card policies, for PCI stands for Payment Card Industry that was established by American Express, Discover Financial Services, JCB International, MasterCard, and Visa Inc. Or, they have to outsource their user data processing to a PCI-certified third party biller. So much for trying to build a new MP that would not be on top of the legacy businesses or would not add another middleman.

In fact, the legal and regulatory landscape is now the most important obstacle for any MP. The technology is there; new business models as well, even the problems with customer acquisition and scale can be solved easily, but the legal framework that favors large existing payment and banking organizations makes the implementation and growth of MP, especially small ones, nearly impossible. Even those who try to just improve upon the current model can face tremendous opposition and penalties from federal and state regulators or from foreign governments.

The RDMs, too, face the legal uncertainty, but this is mainly because of the credit card lobbying efforts against any initiative that would potentially challenge their power and business model, and because the regulators fear them as independent from government oversight or taxation.

But let's return to the 4 biggest limitations or problems you listed in your article.

Digital

Micropayment solutions must be digital, and they are, at least the RDMs are. That is why it is so important to distinguish between the real deal micropayments and everything else. As I mentioned before, the RDM was designed as digital only to monetize digital content. Some RDM systems allow users to earn and store value and to transfer this value to other users, in what one would call cashless transaction. They are not cashless in the sense that the transferable value can be access privileges, for example, as virtual goods, such as additional armor or "lives" in virtual games with built in microtransactions.

In one of our applications for a music site, users were able to build short playlists of up to eight MP3 tracks, publish those playlist online, and when another user downloaded or streamed such playlist, its creator would receive and accumulate virtual credits. He or she could then use these credits to "buy" more music or transfer them to someone else as a gift or in exchange for other content and virtual goods. Both the transactions and the value were entirely digital; they did not exist in the non-digital world; however, we have seen users exchanging their earned credits for services or favors by other users outside the Internet -- for example, one user reported "buying" a game cheat-sheet for his credits good to download a music playlist worth $12.

In another application (that has not succeeded, because Twitter changed its ToS), users could send so called pass-along tweets (tweets with a link to third party content) along with some virtual credits that would allow the recipients access to paid content for free, or in other words, the access would be sponsored by the owner of those credits, the sending party, an advertiser, etc.

Making the hard part harder

This limitation exists mainly with the MPs that act as an extension or "digital plugin," if you will, to the existing non-digital infrastructure. And, it is a bit overstated. Why?

For example, you describe credit cards as "the optimal tool for paying for goods in the physical world. Just swipe, type in your pin, and you have paid." It is true but not the whole truth.

You forget about the very selective and time consuming process of applying for a credit-card and the fact that you have to have a bank account and in most cases a job or verified income source to apply. Then you have to have the card sent to you, then the pin, in a separate snail mail. Then, you have to call to activate that card, etc. To use your terminology, the credit card is a platform first, and a very discriminating one at that, one that rejects and/or blacklists millions of applicants every year. Then, and only then, can it become a service.

User registration or at least unique identification is necessary to make an online transaction. The content or virtual goods and services are already identified, usually through their unique URLs. This information can be further encrypted and/or hidden to ensure it cannot be accessed (or easily and legally accessed) without payment. The same with users -- they have to have an ID, if we want to convert their initial engagement into a long-term relationship with more engagement and more transactions. The thing is how to make it frictionless.

Signing-up for a RDM service does not have to be complex. In fact, when you compare what is necessary to become a RDM user with what is required to have a cc or bank account or even PayPal account, RDM registration is very simple. Often an e-mail or an existing soc net handle would be enough. It can be combined with the site or content registration. It can also be a computer generated cryptographic key, like in the BTC protocol, a digital fingerprint or face recognition. Registrations, understood as user unique IDs are not a problem at all.

More, as I showed in the example 2, the first engagement might not require any registration or identification at all. A third party can sponsor user's access in exchange for his attention or data. I would say therefore that the RDMs lower the entry barrier to the point that it can be described as truly frictionless, comparing to other online services and payment processing methods.

Scale

Yes, it is a real challenge, but again, it is given. Micropayments require certain critical mass to be launched successfully, but this is just like with many other businesses. For example, one cannot start a new credit card with a few merchants on board and plan to grow it organically. It also true that some existing players, such as Amazon or Apple would have it easier to launch a new and successful RDM. They already have millions of trusting users and their payment info.

But it does not mean that a new startup cannot reach a global scale. To the contrary, it seems that given the current penetration of the internet, it is easier to go from 0 to 300 or 400 million active users in a relatively short period of time. Whatsapp is only one example of such rapid and mostly organic growth.

I can give you another example from my own experience. In July 2013, we signed up a LoI with one of the new sponsored top-level domain (sTLD) registries. The registry had some 250,000 domains already registered and additional 150,000 reserved. Some of the websites using these domains have tens of millions of active users. The idea was to offer each webmaster in the registry an option to integrate our micropayment system and use our software to process online transactions. It would be a closed-loop system with virtual credits as the system currency, accepted by all content providers.

In other words, there would be one simple sign-up and the registered user would have the ability to purchase content from thousands of websites, using one account. Unfortunately, the deal has not closed as planned. The day before we were to sign a formal contract, Florida regulators penalized Square for operating as an unlicensed payment provider in the state. We backed off until the legal issues have been explained.

It shows, however, that a RDM can be implemented on different levels, including large networks and ISPs and become a standard nearly overnight, should there be appropriate legal framework or at least understanding that such closed-loop payments are not banks or money transmitters like Western Union is.

Micropayments must be a service

This leads us to the fourth problem you mentioned in your article - micropayments must be a service. In part I already explained that any true online payment system must be a platform first; however, it can be one with a very simple or even automatic registration or it can skip the registration to engage one-time casual users.

As our research and experience shows, when users are given a pay-as-you-go option to pay for a single piece of content (rather than a long-term subscription), nearly 9% of the casual visitors do so, compared to 1% to 2% of the same pool of users who buy subscriptions. Our "Earn Free Access" option, as described in example 2 above, increases this statistic to nearly 20%. These numbers are based on a pilot study we did with five online content providers and about 43 thousand users in 2012.

Just imagine the NYT or FT converting 20% of their traffic instead of 2%.

As far as "Earn Free Access" program and advertising ROI, one has to consider the many goals why companies advertise. In our practice, we tried to work with companies that wanted to build awareness, branding, introduce a new product or research their market/users.

For example, one of our partners, a telephone company, was willing to pay $2.5 for each true phone number a website user would provide in exchange for "free" access to a series of magazine articles. Even though only about 15% of the collected info was then verified as true, the deal was beneficial to all three partners, with the publisher receiving about $0.30, the rest was our commission.

The telephone company was also very happy. Had they used another source, they would have paid a lot more for each new telephone number. In addition, they could claim they "sponsored" user access and they had some "free" advertising (free impressions) with those who saw their offer but did not necessarily act upon it.

Another example of a successful us of our service: a movie marketing company advertised a new release where a user would watch a trailer of the movie and then answer the yes-no question: "Are you going to see the movie?"

This offer was linked to an article about pop-culture and movie stars.

If used wisely and for well-defined goals, such as brand recognition and loyalty, product promotion or market research, the earn free access option can be extremely valuable. I would simply not use it to redirect users from the publisher site to a site selling shoes or insurance, for example. That could earn us some money, might work for the advertisers, but not the publisher. And, there are many other examples of ad/marketing campaigns not suitable here.

Still, the concept works. It eliminates registration, earns all parties expected value. It can be set up so that users can collect earned credits and spend them later, but most of all it increases the conversion rate to 20% making it one of the most effective content monetization tools.

We presented our study during several industry shows and shared it with many publishers and bloggers. You are correct, no one asked us to implement it. Online publishers do not want micropayments. But it is not some unsolved-yet limitations that prevent RDMs from being adopted by the mainstream media and online content providers. As someone once said, a lot of people never brush their teeth, but it does not mean that a toothbrush is impractical.

The RDM has long solved the biggest problems. The technology is there; so is the new business model based on an open and agnostic environment with users as the buyers -- because the internet is a buyer's market not seller's. The users, too, seem to prefer one-time small payment over long-term subs.

More importantly, the RDM is a service that can create and/or capture value no traditional payment method ever will. As mentioned before, the RDM can turn user actions and engagement into privileges and transferable credits that can then be monetized or converted into more engagement and/or more users.

The future of RDM-based content monetization is exciting, indeed, but we have to understand the concept as it has been proposed, not as others portrayed and stigmatized to push their agenda of "free" as something more democratic and fairer than paid. The limitations you describe are mostly of the MPs, not the real deal micropayments.

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Thomas Baekdal

Thomas Baekdal

Founder of Baekdal, author, writer, strategic consultant, and new media advocate.

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